COSTING IN ROAD TRANSPORT AND DISTRIBUTION

DR JOASH MAGETO

BCOM HONOURS 2020

Textbook

Management and Cost Accounting

10th Edition
Colin Drury

2
CHAPTER 1
 INTRODUCTION

Road freight costing and distribution involves all the activities associated with
moving goods from the origin to destination. This is generally part of
logistics. On a lager scale it might involve supply chain.

Logistics = materials management + distribution

Supply chain = suppliers + logistics + customers
Supply and materials management represents the storage and flows into
and through the production process
Distribution represents the storage and flows from the final production point
through to the customer or end user.

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 The key components of distribution and logistics, showing some of the
associated detailed elements

Source: Rushton, A, Croucher, P. & Baker, P. (2017) The Handbook of Logistics

and Distribution Management, 6th Edition, Kogan Page, London, p6

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A typical physical flow of material from suppliers through to customers, showing stationary
functions and movement functions, linked to a diagram that reflects the ‘value added’ nature
of logistics

Source: Rushton, A, Croucher, P. & Baker, P. (2017) The Handbook of Logistics and Distribution
Management, 6th Edition, Kogan Page, London, p15

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 INTRODUCTION

Logistics concerns the efficient transfer of goods from the supply through the
place of manufacture to the point of consumption in a cost-effective way
while providing an acceptable service to the customer.

NOTE:
Cost effectiveness and customer service remain the emphasis of logistics.

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 INTRODUCTION

Logistics concerns the efficient transfer of goods from the supply through the
place of manufacture to the point of consumption in a cost-effective way
while providing an acceptable service to the customer.

NOTE:
Cost effectiveness and customer service remain the emphasis of logistics.

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 A flow representation of logistics for a fast-moving consumer goods (FMCG)
manufacturer. This shows the key components, the major flows and some of the
different logistics terminology

Source: Rushton, A, Croucher, P. & Baker, P. (2017) The Handbook of Logistics and
Distribution Management, 6th Edition, Kogan Page, London, p5

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 INTRODUCTION TO MANAGEMENT ACCOUNTING

The process of identifying, measuring and communicating economic

information to permit informed judgments and decisions by users of the
information.
In other words, accounting is concerned with providing both financial and
non-financial information that will help decision-makers to make good
decisions. An understanding of accounting therefore requires an
understanding of the decision-making process and an awareness of the
users of accounting information.

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 THE USERS OF ACCOUNTING INFORMATION

Accounting is a language that communicates economic information to

people who have an interest in an organization(Stakeholders).
• Managers
• Shareholders and potential investors
• Employees
• Creditors
• Government
An examination of the various users of accounting information indicates
that they can be divided into two categories:

1. Internal parties within the organization;

2. External parties such as shareholders, creditors and regulatory
agencies, outside the organization.

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 DIFFERENCES BETWEEN MANAGEMENT ACCOUNTING
AND FINANCIAL ACCOUNTING

• Legal requirements
• Focus on individual parts or segments of the business
• Generally accepted accounting principles
• Time dimension
• Report frequency

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 THE DECISION-MAKING PROCESS

Because information produced by management accountants must be

judged in the light of its ultimate effect on the outcome of decisions, a
necessary precedent to an understanding of management accounting is
an understanding of the decision-making process.

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The major functions of the different planning time horizons

Source: Rushton, A, Croucher, P. & Baker, P. (2017) The Handbook of Logistics and
Distribution Management, 6th Edition, Kogan Page, London, p21

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 Figure 2.4 Some of the main logistics elements for the different
planning time horizons

Source: Rushton, A, Croucher, P. & Baker, P. (2017) The Handbook of Logistics

and Distribution Management, 6th Edition, Kogan Page, London, p22

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 THE DECISION-MAKING, PLANNING AND CONTROL PROCESS
1. Identify objectives

2. Search for alternative courses of action

3. Select alternative courses of action

Planning
process

4.. Implement the decisions

Control 5. Compare actual and planned

process outcomes

6. Respond to divergences from plan

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 IDENTIFYING OBJECTIVES

Before good decisions can be made there

must be some guiding aim or direction that
will enable the decision-makers to assess
the desirability of favoring one course of
action over another. Hence, the first stage
in the decision-making process should be
to specify the goals or objectives of the
organization.

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THE SEARCH FOR ALTERNATIVE COURSES OF ACTION

The second stage in the decision-making model is a search

for a range of possible courses of action (or strategies) that
might enable the objectives to be achieved. If the
management of a company concentrates entirely on its
present product range and markets, and market shares and
cash flows are allowed to decline, there is a danger that the
company will be unable to generate sufficient cash flows to
survive in the future.

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SELECT APPROPRIATE ALTERNATIVE COURSES OF ACTION

• Data collection about different alternatives

• Evaluate alternatives

• Select most advantageous alternative

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 IMPLEMENTATION OF THE DECISIONS

Once alternative courses of action have been selected, they

should be implemented as part of the budgeting process.
The budget is a financial plan for implementing the various
decisions that management has made. The budgets for all
of the various decisions are expressed in terms of cash
inflows and outflows, and sales revenues and expenses.

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COMPARING ACTUAL AND PLANNED OUTCOMES AND
RESPONDING TO DIVERGENCIES FROM PLAN

The final stages in the process of comparing actual and

planned outcomes and responses to divergences from plan
represent the firm’s control process. The managerial
function of control consists of the measurement, reporting
and subsequent correction of performance in an attempt to
ensure that the firm’s objectives and plans are achieved.

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CONTEMPORARY FACTORS TO CONSIDER IN BUSINESS
DECISION MAKING
1. Global competition

2. Changing product life cycles

3. Advances in manufacturing technologies

4. Impact of information technology

5. Environmental and sustainability issues

6. Pressures to adopt higher standards of

ethical behaviour

7. Focus on value creation

8. Deregulation and privatisation

9. Customer orientation

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 CHANGING BUSINESS ENVIRONMENT

Changing business environment require companies

to be more customer driven due to competitive
environment.

Think of the disruptions to transport and distribution

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 GLOBAL COMPETITION

• Reduction in tariff and duty on imports and exports

• Improvement in transportation

• Betterment of communication systems

• Competitors able to access various domestic markets.

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 CHANGING PRODUCT LIFE CYCLES

A product’s life cycle is the period of time from initial

expenditure on research and development to the time at
which support to customers is withdrawn. Intensive global
competition and technological innovation combined with
increasingly discriminating and sophisticated customer
demands have resulted in a dramatic decline in product life
cycles.

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ADVANCES IN MANUFACTURING TECHNOLOGIES

• World Class Manufacturing companies

• Lean Manufacturing systems

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 IMPACT OF INFORMATION TECHNOLOGY

• E-Business, E-Commerce, Internet Commerce

• Trading from diverse locations

• Access to information on computer systems

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 ENVIRONMENTAL AND SUSTAINABILITY ISSUES

• Pro-active social responsibility

• Environmental Management

• Environmental Cost

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 PRESSURES TO ADOPT HIGHER STANDARDS OF
ETHICAL BEHAVIOUR

• Standards of Ethical behaviour

• Not profit at all cost

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 DEREGULATION AND PRIVATISATION

• Privatisation of Government Entities

• Elimination of pricing and competitive restriction

• Management Accounting information systems

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 FOCUS ON VALUE CREATION

• Emphasis on creating value

• Less emphasis on managing and recording costs.

• Intellectual capital

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 CUSTOMER ORIENTATION

• Customer driven

• Customer needed for future success

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 FOCUS ON CUSTOMER SATISFACTION AND NEW
MANAGEMENT APPROACHES

In order to compete in today’s competitive environment

companies have had to become more customer-driven and
make customer satisfaction an overriding priority.
Customers are demanding ever-improving levels of service
in cost, quality, reliability, delivery, and the choice of
innovative new products.

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CUSTOMER SATISFACTION AND MANAGEMENT APPROACHES

• Cost efficiency (Keeping costs low)

• Quality (e.g. TQM)
• Time as competitive weapon (e.g. cycle time)
• Innovation and continuous improvement
• Continuous improvement
• Benchmarking
• Employee empowerment 34
 FUNCTIONS OF MANAGEMENT ACCOUNTING

a) Allocate costs between cost of goods sold and

inventories for internal and external profit reporting;
b) Provide relevant information to help managers make
better decisions;
c) Provide information for planning, control and
performance measurement.

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CHAPTER 2: COST TERMS AND CONCEPTS
 COST OBJECTS

A cost object is any activity for which a separate measurement of costs

is desired. In other words, if the users of accounting information
want to know the cost of something, this something is called a cost
object. Examples of cost objects include the cost of a product, the
cost of rendering a service to a bank customer or hospital patient,
the cost of operating a particular department or sales territory, or
indeed anything for which one wants to measure the cost of
resources used. Broadly costs can be assigned in two stages:
1. It accumulates costs by classifying them into certain categories
such as labour, materials and overhead costs (or by cost
behaviour such as fixed and variable.)
2. It then assigns these costs to cost objects.

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 DIRECT AND INDIRECT COSTS

Costs that are assigned to cost objects

can be divided into two categories: direct
costs and indirect costs. Direct costs are
those costs that can be specifically and
exclusively identified with a particular cost
object. In contrast, indirect costs cannot
be identified specifically and exclusively
with a given cost object.

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 DIRECT AND INDIRECT COST

• DIRECT MATERIALS
This represent material costs that can be specifically and exclusively identified with a
particular cost object.

• DIRECT LABOUR
Physical observation can be used to measure a quantity of labour used to produce a service.

• INDIRECT COSTS
This cannot be identified specifically and exclusively with a given cost object. Overheads
is widely used instead of indirect costs.

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 PERIOD AND PRODUCT COSTS

Product costs are those costs that are identified with goods
purchased or produced for resale. In a manufacturing
organization they are costs that the accountant attaches to the
product and that are included in the inventory valuation for
finished goods, or for partly completed goods (work in progress),
until they are sold; they are then recorded as expenses and
matched against sales for calculating profit. Period costs are
those costs that are not included in the inventory valuation and
as a result are treated as expenses in the period which they are
incurred. Hence no attempt is made to attach period costs to
products for inventory valuation purposes.

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 COST BEHAVIOUR

• How will costs and revenues change if activity is

increased or decreased
• What will be the impact on profits if selling price is
reduced on an estimate of increased sales
• How do cost and revenues change if production is
increased
• Think of variable and fixed costs as determinants of cost
behaviour
• What is breakeven between cost and revenue

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RELEVANT AND IRRELEVANT COSTS
AND REVENUES

Relevant costs and revenues are

those future costs and revenues
that will be changed by a
decision, whereas irrelevant costs
and revenues are those that will
not be affected by the decision.
For example, the decision to use
your car or public transport on a
particular journey. Fuel cost and
toll are relevant costs, while car
tax and insurance are irrelevant.
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 AVOIDABLE AND UNAVOIDABLE COSTS

Sometimes the terms avoidable and unavoidable costs are used

instead of relevant and irrelevant costs. Avoidable costs are
those costs that may be saved by not adopting a given
alternative, whereas unavoidable costs cannot be saved.
Therefore, only avoidable costs are relevant for decision-making
purposes.

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 SUNK COSTS

These costs are the cost of resources already acquired where the total
will be unaffected by the choice between various alternatives. They are
costs that have been created by a decision made in the past and that
cannot be changed by any decision that will be made in the future.
Sunk costs are irrelevant for decision making but not all irrelevants
costs are sunk costs

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 OPPORTUNITY COSTS

An opportunity cost is a cost that measures the

opportunity that is lost or sacrificed when the
choice of one course of action requires that an
alternative course of action be given up.

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 INCREMENTAL AND MARGINAL COSTS

Incremental (also called differential) costs and revenues

are the difference between costs and revenues for the
corresponding items under each alternative being
considered.
Incremental costs and revenues are similar in principle to
the economist’s concept of marginal cost and marginal
revenue. The main difference is that marginal cost/revenue
represent the additional cost/revenue of one extra unit of
output whereas incremental cost/revenue represent the
additional cost/revenue resulting from a group of additional
units of output.

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 COST AND MANAGEMENT INFORMATION SYSTEM

1. Allocate costs for goods sold and inventories.

2. Provide relevant information to help managers to make decisions.
3. Provide information for planning, control and performance
measurement. This allows tracing costs and revenues to individuals who
are responsible for incurring them. This is called responsibility accounting.

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CHAPTER 3: COST ASSIGNMENT
 ASSIGNMENT OF DIRECT AND INDIRECT COSTS

Costs that are assigned to cost objects can be divided into two
categories – direct costs and indirect costs. Sometimes the
term overheads is used instead of indirect costs. Direct costs
can be accurately traced to cost objects because they can be
specifically and exclusively traced to a particular cost object
whereas indirect costs cannot. Indirect costs are common to
several cost objects.
Cost allocation, allocation base or cost driver, cause and effect,
arbitrary allocation.

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COST-BENEFIT ISSUES AND COST SYSTEMS DESIGN

Cost systems can be classified into:

1) traditional and
2) 2) ABC systems
What determines the chosen level of sophistication of a costing system?

The answer is that the choice should be made on costs versus benefits
criteria. Simplistic systems (traditional) are inexpensive to operate, but
they are likely to result in inaccurate cost assignments and reporting of
inaccurate costs. Managers using cost information extracted from
simplistic systems are more likely to make dangerous mistakes arising
from using inaccurate cost information. ABC systems are sophisticated

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 ASSIGNING DIRECT COSTS TO COST OBJECTS

Both simplistic and sophisticated systems accurately assign

direct costs to cost objects. Cost assignment merely involves
the implementation of suitable clerical procedure to identify and
record the resources consumed by cost objects. Consider direct
labour. The time spent on providing a service to a specific
customer, or manufacturing a specific product, is recorded on
source documents, such as time sheets or job cards.

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 TWO STAGE ALLOCATION PROCESS

a) Traditional costing systems

Overhead cost accounts (for each individual category of expenses e.g.
First stage allocations property taxes, depreciation etc.)

Cost centre 1 Cost centre 2 Cost centre N

(Normally (Normally (Normally
departments) departments) departments)

Second stage allocations

(Direct labour or machine
hours)

Direct Cost objects (Products, services and customers)

costs

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 TWO STAGE ALLOCATION PROCESS

b) Activity-based costing systems

First stage First stage Overhead cost accounts (for each individual category of expenses e.g.
allocations (Resource property taxes, depreciation etc.)

cost drivers

Activity Activity Activity

Cost Cost Cost
centre 1 centre 2 centre N

Second stage allocations

(Activity cost drivers)

Direct
costs Cost objects (Products, services and customers)

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 TWO STAGE PROCESS FOR TRADITIONAL
COSTING SYSTEM

Applying the two-stage allocation process requires the following four steps:
1. Assigning overheads to production and service cost centre.
2. Re-allocating costs assigned to service cost centres to production cost
centres.
3. Computing overhead rates for each production cost centre.
4. Assigning cost centre overheads to products or chosen cost objects.

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 TWO-STAGE PROCESS FOR ABC SYSTEM

• Overheads assigned to each major activity (not department)

• Activities consist of many different tasks e.g. schedule production, set-up
machines, move machines, purchase materials, inspect items…
• Costs accumulated by activities known as cost centres
• Cost centres decomposed into many different activity centres
• How is ABC systems different:
• Greater number of cost centres
• Greater number and variety of cost drivers (e.g. machine hours, direct labour hours,
• No reallocation of costs

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UNDER- AND OVER-RECOVERY OF OVERHEADS

The effect of calculating overhead rates based on

budgeted annual overhead expenditure and activity is that
it will be most unlikely that the overhead allocated to
products manufactured during the period will be the same
as the actual overhead incurred. This occurs when there
are activity/volume variations from the budgeted.

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 THE INDIRECT COST ASSIGNMENT PROCESS

1. Identify production departments responsible for creating products.

2. Identify support departments.
3. Assign all indirect costs.
4. Re-allocate the support department costs to production departments.
5. Calculate predetermined overhead rates.
6. Allocate departmental costs to units.

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