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Cost accounting book of 3 rd sem mba @ bec doms

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Cost accounting book of 3 rd sem mba @ bec doms

Cost accounting book of 3 rd sem mba @ bec doms

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  • 1. Cost Accounting BSPATIL 1
  • 2. Syllabus Paper 3.3 Cost AccountingCost Accounting – Elements of Cost + Cost ConceptsAccounting and Control of Material Cost.Labour – Wage payment and incentive – Labour Cost Control – Labour Turnover.Overhead – Classification – Allocation, Appointment and Absorption of overheadProcess Costing – Process losses – inter-process profits.Standard costing – Variance analysisCost Ledgers- Reconciliation of cost and financial profits – Integral Accounting BSPATIL 2
  • 3. ContentsLesson: 1 Introduction of Cost Accounting Definition – Cost Concepts – Element of Cost – Installation of Costing SystemLesson: 2 Material Cost Nature – Purchasing Functions – Stores Control – Stock Levels – EOQ – Pricing or Material Issues – ABC-Analysis – Material houses.Lesson: 3 Labour Cost Nature – Wage Policy – Wage Payment methods – Incentive schemes, Leson turnmen.Lesson: 4 Overhead Cost Nature - Classification – Allocation – Apportionment of overhead cost – Absorption of overhead:methods, Machine Hom Rate method.Lesson: 5 Job Costing and Batch Costing Nature – features – Cost Sheet preparation – Utilities – Limitations.Lesson: 6 Contract Costing Features – Types or ContractLesson: 7 Process Costing Simple Process Costing – Process with Normal and abnormal causes – Inter process profitLesson: 8 Standard Costing and Variance Analysis Definition – Uses and Limitations – Material Cost Variance – Labour Cost Variance – Overhead CostVariance and Sales VarianceLesson: 9 Cost Ledger Accounting Nature – Control Accounts and its Uses – Preparation of Cost Ledger AccountLesson: 10 Integral Accounting Nature – Uses – Preparation of Integral AccountsLesson: 11 Reconciliation of Cost and Financial Accounts – Need for Reconciliation – Steps in reconciliation –Preparation of Reconciliation Statement. BSPATIL 3
  • 4. Lesson: 1 INTRODUCTION OF COST ACCOUNTINGCost Accountancy “It is the application of costing and cost accounting principle, method and techniques to thescience, art and practice of cost control and the ascertainment of profitability. It includes thepresentation of information derived there from for the purpose of managerial decision – making”. The term ‘Cost Accountancy’ includes Costing and Cost accounting. Its purposes are Cost-control and Profitability – ascertainment. It serves as an essential tool of the management for decision –making.Cost Accounting “The process of accounting for cost from the point at which expenditure is incurred orcommitted to the establishment of its ultimate relationship with cost centres and cost units. In its widestusage it embraces the preparation of statistical data, the application of cost control methods and theascertainment of the profitability of activities carried out or planned” Cost accounting means suchas analysis of accounting and other information as to enable management to know the cost involved ineach activity together with its significant constituent elements in order to arrive at proper decisions.Costaccounting provides management with cost data relating to products, processes, jobs and differentoperations in order to control the costs and maximize the earnings. It play a vital role in all the businessactivities.Definition of Cost Accounting The application of costing and cost accounting principles, methods and techniques to thescience, art and practice of cost control and the ascertainment of profitability. It includes thepresentation of information derived these from for the purpose of managerial decision making.Objects of Cost Accounting 1. To serve as a guide to price fixing of products. 2. To disclose sources to wastage in various operations of manufacture. 3. To reveal sources of economy in production process. 4. To provide for an effective system of stores and material. 5. To measure the degree of efficiency of the various departments or units of production. 6. To provide suitable means and information to the top management to control and guide the operations of the business organisation. 7. To exercise effective control on the costs, time and efforts of labour, machines and other factors of production. 8. To compare actual costs with the standard costs and analyse the causes of variation. 9. To provide necessary information to develop cost standards and to introduce the system of budgetary control. 10. It enables the management to know where to economize on costs, how to fix prices, how to maximize profit and so on. BSPATIL 4
  • 5. TECHNIQUES AND METHOD OF COSTING The types and techniques of costing are as follows: 1. Historial Costing: ‘The ascertainment of costs after they have been incurred’ Historical costs are, therefore, ‘postmortem’costs as under this method all the expenses incurred on the production are first incurred and them the costs areascertained. 2. Standard Costing: ‘The preparation and use of standard costs, their comparison with actual costs and the analysis of variance to their causes and points of incidence’. Here the standards are first set and then they are compared with actual performances. The differencebetween the standard and the actual is known as the variance. The variances are analyzed to find out their causesand also the points or locations at which they occur. 3. Marginal Costing: ‘The ascertainment of marginal costs and of the effects on profit of changes in volumes or type of output by differentiating between fixed costs and variable costs’. The fixed costs are those which do not change but remain the same, with the increase or decrease in thequantum of production. The variables costs are those which do change proportionately with the change inquantum of production. The marginal costing takes into account only the variable costs to find out ‘marginal costs’. Thedifference between Sales and Marginal costs is known as ‘Contribution’ and contribution is an aggregate ofFixed costs and Profit/Loss. So the fixed costs are deducted from the contribution to find out the profits.Marginal costing is a technique to ascertain the effect on profits. Marginal costing is a technique to ascertain theeffect on profit by the change in the volume of output or by the change in the type of output. 4. Direct Costing: The practice of charging all direct cost to operations, process or products, leaving all the indirect costs to be written off against profits in the period in which they arise 5. Absorption Costing ‘The practice of charging all costs, both variables and fixed, to operations, processes or products. This is the traditional technique as opposed to Marginal or Direct costing techniques. Here both the fixed and variables cost are charged in the same manner.Methods of Costing The methods of costing can be divided into three main groups: 1. Job Costing; 2. Process Costing; and 3. Farm Costing. 1. Job Costing: The job costing methods are applicable where the unit of manufacture is one and BSPATIL 5
  • 6. complete in itself. They include printers, job foundries, tool manufactures, contractors, etc. the following methods are included in Job Costing: (i) Contract Costing: This method if applied in undertakings erecting buildings or carrying out constructional works, e.g., House buildings, ship building, Civil Engineering contracts. Here the cost unit is one and completed in itself. The cost unit is a contract which may continue for over more than a year. It is also known as the Terminal Costing, since the works are to be completed within a specified period as per terms of contract or agreement executed by the contractor and contractee. Contracts can be differentiated from fobs in as much as the contracts jobs are carried out outside the factory and generally are of a long-term while jobs are carried out inside the factory and are of a short duration. If an order complete in itself and meant only for the person who has placed the order, this job-order is executed inside the press and the completion of the order takes a short time as against the contract which may take years. (ii) Batch Costing: In this method, a batch of similar or identical products is treated as a job. Here the unit of cost is a batch of group of products, costs are collected and analyzed according to batch numbers and the costs are ascertained batch wise. This method is applied in pharmaceutical industries where medicines or injections are manufactures batch wise or in general engineering factories producing components in convenient batches. 1. Process Costing: Process costing method is applicable to those industries manufacturing an number of units of output requiring processing. Here an article has to undergo two or more processes for reaching the stage of finished goods and succeeding process till completion.Classification of Cost The cost-classification is the process of grouping costs according to their characteristics. The cost canbe classified into the following: 1. According to elements; 2. According to Functions or Operations; 3. According to Nature or Behaviour, 4. Accounting to Controllability, 5. According to Normality, 6. According to Relevance to decision-making and Control. • According to Elements: The cost is classified into i) Direct Cost, and ii) Indirect Cost according to elements, viz., Materials, Labour and Expenses, the description of which occurs in the earlier pages of this chapter. • According to Functions: the cost is classified into the following: i) Production Cost or Manufacturing Cost, ii) Administration Cost, iii) Selling Cost, and iv) Distribution Cost, BSPATIL 6
  • 7. A brief description of each these items are given below: i) Production Cost is ‘The cost of sequence of operation which begins with supplying materials, labour and services and ends with primary packing of the product’. It is also known as Manufacturing of Factory Cost. ii) Administration Cost is “The Cost of formulating the policy, directing the organisation and controlling the operations of an undertaking, which is not related directly to a production, selling, distribution, research or development activity or function.” Administration Cost comprise office and Administration expenses. iii) Selling Cost is “The cost of seeking to create and stimulate demand (sometimes termed ‘marketing’) and of securing order.” It is also known as Selling expenses or Selling overheads which include all the expenses of Selling Department. iv) Distribution Cost is “The cost of sequence of operations which begins with making the packed product available for dispatch and ends with making the re-conditioned returned empty package, if any, available for re-use”. It is known as Distribution expenses or overheads which include expenses like packing, warehouse expenses, cost of freight, shipping charges and also the expenses of re-conditioning the returning empty packages for using them again. • According to Nature or Behaviour: Cost can be classified into i) Fixed Cost ii) Variable Cost, and iii) Semi-Fixed for Semi-variable Cost. i) Fixed Cost is “A cost which tends to be unaffected by variations in volume of output. Fixed costs depend mainly on the effluxion of time and do not vary directly with volume of rate of output. Fixed Costs are sometimes referred to as period costs in systems of direct costing.” Fixed costs or Fixed expenses are those expenses which do not change with the increase or decrease in the quantum of production but remain stable. They are period costs, e.g., Rent of Building, Salaries etc. ii) Variable Cost is “A cost which tends to vary directly with volume of output, Variable costs are sometimes referred to as direct costs in systems of direct costing.” Variable costs or expenses are those which increase in direct proportion with the increase in production or which decrease in direct proportion with the decrease in production, e.g., Direct Materials, Direct Labour, Power, Fuel etc. iii) Semi-fixed or Semi-variable cost is “A cost which is partly variable.” This is a cost with changes but not in direct proportion to the increase or decrease in the production-output, e.g., Repairs and Maintenance, Salary of supervisors etc. • According to controllability: The cost can be divided into: i) Controllable Cost, ii) Uncontrollable Cost. i) Controllable Cost: This is a cost which can be influenced by the action of a specified member of an undertaking. The organisation is divided into departments or responsibility centres each managed by a Head. The costs of a particular department or centre re guided by the person-in-charge of the department. The costs which can be controlled by a ‘specified member’ who is generally an important link in the management are the controllable costs. they Head of a cost-centre or a department ahs control over variable costs only which include Prime cost and other variable overheads. So the controllable costs are the variable costs. v) Uncontrollable Costs: it is a cost which cannot be influenced by the action of a specified BSPATIL 7
  • 8. member of an undertaking. Uncontrollable costs are generally the Fixed costs, the control of which does nto lie within the province of a member of the undertaking. The change in Fixed costs is a mater to be decided at the top level of the management depending upon the policy of the undertaking. Another example of he uncomtrollable cost is where the cost of one department is shared by the other department for reason that the other department is taking the benefit of services of the department. Suppose, the cost of Power departments is shared by the Machine Department, the cost of this share is uncontrollable as it has no control over the cost of the other department, viz., the Power Department. • According to Normality: The cost is classified into i) Normal cost, and ii) Abnormal cost i) Normal Cost: It is the cost at a given level of output in the condition at which that level of output is normally attained. ii) Abnormal cost: it is a cost which is beyond normal cost. • According to relevance to decision-making and Control:The costs classified on this basis are the following i) Shut-down Cost: A cost which will still be required to be incurred even though a plant is closed or shut-down for a temporary period, e.g., the cost of rent, rates, depreciation, maintenance etc., is known as shut-down cost. ii) Shun Cost: A cost which has been incurred in the past or sunk in the past and is not relevant to the particular decision-making is a sunk cost. If it is decided to replace the existing plant; the written down book value of the plant less the sale value of the existing plant, is a Sunk a Irrevocable cost. iii) Opportunity Cost: “The net selling price, rental value or transfer value which could be obtained at a point in time if a particular asset or group of assets were to be sold, hired, or put to some alternative use available to the owner at that time” is the opportunity cost. The cost which are related to the sacrifice made or the benefits foregone are opportunity costs. to take an example, if a part of the factory building has been let out on rent and now we want to use that portion for installing a plant, we would naturally lose the rent that we used to get. So the loss of rent is the opportunity which would arise due to putting the part of that factory building to an alternative use available to the owner, and this cost should be kept in view while installing the plant. iv) Imputed cost: it is hypothetical cost required to be considered to make costs comparable. If the owner of the factory charges rent of the factory to the cost of production to make cost comparable with that of those undertakings which run production in rented factories, it is an Imputed cost as the rent has actually not been paid. Some is the case with charging Interest on one’s own capital.COST-CENTRE AND COST-UNITCost are ascertained according to Cost Centres or Cost Units.Cost-centreA Cost-Centre is a very wide term and includes the Productions. Department Processes, Work orders, ServiceDepartment, Operations, Machine Centers, Area or regions of sales, Warehouses, Persons, etc., of which thecost is to be ascertained.A Cost-Centre can be classified into the following four types: 1. Impersonal, 2. Personal, 3. Operation, 4. Process.For manufacturing operations, the cost centres may be Production cost centers, i.e., the Production Departmentsengaged in producing, or the Service cost-centres, i.e., the Service Departments which help the production work BSPATIL 8
  • 9. e.g., Store, Power Dept. Internal Transport Dept., Repairs and Maintenance Dept., etc.,For sales operations, the cost-centres, all the machine or the persons operating those machines are broughttogether under one cost-centre for determination and control of costs. where the work is carried on throughprocesses, each process is a cost centre. A machine or a group of machines can also be cost-centre. The CostCentres are very useful for analysis, ascertainment and control of costs.Cost UnitA Cost Unit is a unit of quality of product, service, or time (or a combination of these) in relation to which costsmay be ascertained or expressed.Job is a cost unit which consists of a single order (or contract).Batch is a cost unit which consists of a group of identical items which maintains its identity throughout one ormore stages of production.Product Group is a cost unit which consists of a group of similar products.Thus, cost unit is a sub-division into proper nomenclatures attributable to a unit of measurements of cost. CostUnits are of two types: 1) Single. 2) Composite. The examples of Single Cost unit are-per tone, per meter, perkilogram etc., and the examples of composite units are-per passenger-kilometer, per tone-kilometer etc.INSTALLATION OF COSTING SYSTEMThe need and importance of the installation and the organisation of a good system of cost accounting are beingincreasingly realized presently all over the business versatility. The common experience of enthusiastic youthsclimbing the business – tree and falling mid-way without even collecting the leaves owes to the ignorance of heuse installation and organisatoin of accosting system, and to the infatuation that the profits could be earnedwithout it. A good system is the key-point governing, the mechanism of an enterprise in the field of costcontrol, ascertainment of profitability, and managerial decision-making.Installation of a cost system is not an expense but an investment as the rewards are much greater than theexpenses incurred. The cost system is for the business and not the business for a system of cost. Therefore, thesystem has to be so designed as to meet the specific needs of the enterprise. A) General Consideration for installing Costing SystemThe general considerations to be observed in installing a costing system are as follows: • The Objective: Whether the objective of installing the costing system is limited to a specific area, e.g. material management, or fixing selling price. Or to arrive at a certain managerial decision; or the object is to install the system for covering all the aspects of cost affecting the business. The approach to install the system will be dependent on its objectives. • The Area of Operation: Having decided the objective, the areas of operation of the system are to be studied, by which the management can be best benefited. If production is slack, attention will have to be paid to increase it; if production is good but the sales are receding, study will be made to increase the sales and action taken according to the results of study and analysis. Such areas which require immediate attention are to be carved out on priority basis to be handled by the cost system, • The Organisation of the Business: No system of cost installation would succeed until the organisation structure of the business is taken into account. The organizational part would help to determine the scope of working and improvement. If the interests of management call for certain minor changes in the organizational structure, to its advantage, the same may have to be done. • The Conception & Reception of the Idea: The idea of the installation of the cost system is to be placed before the staff and the workers in a manner that it is well received and not objected to on flimsy BSPATIL 9
  • 10. grounds. The success of the system would depend on the cooperation of he persons engaged in the enterprise, and the cooperation will be forth coming only if the idea and plans are well conceived and received. The benefits of introducing the system to all the sections should be well explained. • Collection of Data & Prompt Information: The cost data works as a base for decision-making. There should be evolved a proper system for the collection of the required cost data and information promptly. Secondly, there should be a system to verify the correctness of the data supplied, otherwise the conclusions drawn would be wrong and time spent in its working would go waste. • Cost Records & Cost Books: The maintenance of cost records and cost books depends on the size and nature of the business, but the basic requirements. The manner in which the financial accounts could be interlocked into an integral accounting system has to be studied and worked out. Decision has to be taken if two separate set of books-one for financial accounts and other for cost accounts-have to be maintained and thereafter the results are to be reconcile. Proper books and records are to be kept and maintained to meet the requirements of either of the two situations mentioned above. • Control system for the Elements of Cost: System would have to be devised for recording and controlling costs of materials, labour and overheads, in accordance with costing principles and procedures. • Type and Method of Costing: The choice of method of costing would depend on the nature of production, e.g., Job Cost method or the Process Cost method. For cost control, standard costing along with Budgetary control may have to be selected and applied. Similarly, for decision making, Marginal and Differential costing techniques may be found useful. Preparations for the application of the particular method and technique/type should be made initially. • Responsibility Accounting: Responsibility accounting is a technique of cost control by delegating, etc., known as responsibility centres. Its has to be judged whether a particular official who had been assigned a particular function, has implemented the same or not within the time’ allotted to him, or not, and thus the responsibility has got to be fixed for failure-action on individual persons, for the sake of control of cost. For this purpose, a system of responsibility accounting should be evolved. B) Specific considerations for installing costing systemThe specific considerations as distinct from general considerations to be kept in view while installing a costsystem are as follows: • Size and Nature of Business: In a business of big size, a detailed cost system is necessary while in a small business, the system should be within the requirements so that the expenses on the installation and its working may not out-weigh the utility. • The cost system is good for business engaged in manufacturing or in service-rendering concerns but for others. Even in production enterprise like colliery where the production costs are all direct costs, the financial where the production costs are all direct costs, the financial accounts may be so designed as to obviate the need of any cost system, unless otherwise called for. • Products: the nature of product determines the method of costing to be applied. If the material content of the product is more valuable, the material cost records need be kept in comparatively more elaborate manner so as to make material cost control effective. Same is the position with regard to labour and overhead. • Organisatoin: The organizational set up for a costing system should be modeled that the control part is exercised by the Cost Accountant, as such, the present organizational set up of the costing department need close study to suggest necessary changes. • Functional study: The functional divisions of an undertaking based on cost are a) Manufacturing, b) Administration, and c) Selling & Distribution. A study of the present working of the different BSPATIL 10
  • 11. departments in necessary to suggest improvements. C) Principles for Smooth WorkingThe following principles should be kept in mind while introducing the cost system: • The system should be simple and easy to operate. • The system should be flexible, so that it may be expanded or contracted per needs of the business. • The existing pattern should be disturbed only as little as may be considered desirable. • The desired changes be introduced gradually and not in haste. • Confidence be created by the Cost accountant in the minds of management and • Executives regarding the utility of the system, so as to avoid unnecessary criticism • And to obviate obstacles. D) Line of ActionThe following line of action is recommended for the installation of cost system. • Determination of the type of costing and the method of costing, as may be suitable for the undertaking. • To prepare forms, card, report-performs, books etc., for keeping records of all the elements of cost, viz., material, labour and overheads. • To decide issues regarding material cost control, i.e., purchase, storing, issue and valuation. • To decide matters regarding labor cost control, i.e., job evaluation, merit rating, appointment, time recording, division of work, remuneration of labour and other allied problems like idle time, overtime, labour turnover, casual workings, etc. • Where the work is carried on more by machines, proper records be kept for the machines. • To suggest a suitable system for the collection, classification and analysis of all. • Types of everheads, i.e., manufacturing, administrative, and selling & distributive. • To decide the methods of allocation and apportionment of overheads among the production departments and Service departments which should be earlier clearly demarcated, and to decide the method of absorption of overheads. • To decide normal capacity of production and prepare budgets and standards. • To maintain books of cost control based on double-entry principle. • To devise information system by which the costing department may communicate to other departments and receive reports and other necessary informations promptly .Merit of Cost AccountingHelpful in Planning and Decision Making: Cost information brings to light the profitable activities of the BSPATIL 11
  • 12. organisation. It provided the sound and rational basis for planning, the changes in products, plants, processesand techniques of production. The information provided by cost accounting is also useful in evaluating thevarious alternatives involved in a situation before taking any final decision.Inventory Control: As an efficient stores accounting system is essential to an adequate system of cost accounts,in effective check is provided on all materials and stores.Ascertainment of Costs: Cost accounting is very helpful in calculating the cost of an article being produced bythe enterprise. It helps in fixing the selling price of the product.Standard Costs: It helps the production manger not only to find what various jobs and processes have cost butalso what they should have cost. The pre-planned standard costs are used for comparison of the cost of theproducts.Assistance in Manufacturing: Cost accounting pinpoints lapses in purchases of raw materials and otherarticles, their utilization. It indicates where wastages are occurring long before the production is finished. Ithelps to take immediate steps to avoid such losses and wastes.Promotion of Sales: Cost accounting is also very helpful in the promotion of sales by adopting an appropriateprice policy. The technique of break even analysis serves as constant remember to increase the sales to the breakeven point. It also seeks to control the selling and distribution coasts.Evaluation of Profitability: It helps in elimination unprofitable activities and operations.Profit can be Maximised: Cost accounting helps the management in maximizing profits by eliminating allwastes and uneconomical processes. This cost accounts help in increasing points and minimizing loses.COST SHEETCost Sheets are statements setting out the costs of a product giving details of all the costs. Presentation ofcosting information depends upon the method of costing. A cost sheet can be prepared weekly, monthly,quarterly or annually.In a cost sheet besides total expenditure incurred, cost per unit of output in case of each element of cost can beshown in a separate column. The cost sheet should give cost per unit in the previous period for the purposes ofcomparison.Advantages of Cost Sheet 1. It is a simple and useful medium of communication which gives information about costs to all levels of management in a simple and lucid form. 2. It helps in comparative study of the various elements of costs with the past results and standard cost. Thus it helps the management in control process. 3. It helps the management in fixing up the selling price more accurately. 4. If acts as a guide to the manufacturer and helps him in formulating a definite and profitable production policy. 5. It enables a producer keep a close watch and control over the cost of production. 6. It shows the total cost and the per unit of the units produced during the given period.Problem 1The following particulars have been extracted from the costing records of a manufacturing co., for the year BSPATIL 12
  • 13. ended 30th June, 1991. Rs. Raw material purchase 1,00,000 Wages Direct 60,000 Indirect 10,000 Office Salaries 22,000 Finished Goods stock 10,000 Advertising 6,000 Agent’s Commission 10,000 Rent, rates & taxes etc (9/10 for works , 1/10 for 2,000 office) Works 4,000 Building-repairs 2,000 Salaries-plant 4,000 Depreciation Rs. Plant Machinery 4,000 Building 2,000 Carriage inward 2,000 Carriage Outward 6,000 Sales 4,00,000 Opening Stock- Raw material 40,000 Travelling expenses 2,000 Power 2,000 Plant Maintenance 8,000 Miscellaneous expenses Plant 2,000 BSPATIL 13
  • 14. Office 2,000 Closing Stock Raw Materials 40,000 Finished goods 6,000Building is occupied 9/10 by factory and 1/10 by office. Production 20,000 (Units)You are required to prepare a detailed cost statement showing i) Materials consumed ii) Prime cost iii) Works on cost. iv) Cost of production v) Cost of sales and vi) Profit earnedSolutionCost statement of the year ended 30th June, 1991. Particular Total Cost Cost per unit Opening Stock of raw 40,000 material Add Purchases 1,00,000 Add Carriage inward 2,000 1,42,000 Less Closing stock or raw 40,000 materials i) Materials consumed 1,02,000 5.10 Direct labour 60,000 3,00 ii) Prime Cost 1,62,000 8.10 Add: Factory overheads Indirect Wages 10,000 0.50 Power 2,000 0.10 Plant Maintenance 8,000 0.40 Rent, rates and taxes (9/10) 1,800 0.09 Misc. Expenses 2,000 0.10 Repairs – Building (9/10)0.20 1,800 0.20 Salaries – Plant 4000 0.20 Depreciation – Plant 4,000 0.09 -Building (9/10) 1,800 34,000 1.77 iii) Works cost 1,97,400 9.87 Add: Office Overheads BSPATIL 14
  • 15. Office Salaries 22,000 1.10 Rents, Rates and Taxes (1/10) 200 0.01 Misc. expenses 4,000 0.20 Repairs – Building (1/10) 200 0.01 Depreciation- Building (1/10) 200 26,600 0.01 1.33 iv) Cost of Production 2,24,000 11.20 Add: Opening Stock of 10,000 finished product 2,34,000 Less: Closing stock of 6,000 finished goods Cost of goods sold 2,28,000 Add: Selling and distribution overheads Carriage outwards 6,000 Travelling expenses 2,000 Advertising 6,000 Agent’s Commission 10,000 24,000 Cost of Sales 2,52,000 Add Profit margin 1,48,000 v) Sales value 4,00,000Problem 2The cost of Sale of Product A is made up as follows: Materials used in 55000 Direct Expenses 5000 Manufacturing Materials used in Primary 10000 Indirect Expenses (factory) 1000 packing Materials used in selling 1500 Administration expenses 1250 product Materials used in Factory 750 Depreciation of office building 750 & equipments Materials used in office 1250 Dep. On factory buildings 1750 Labour required in Producting 10000 Selling expenses 3500 Labour required for factory 2000 Freight on material purchased 5000 supervision Advertising 1250Assuming that all products are manufactured are sold, what should be the selling price to be obtained as a profitof 20% on selling price?Solution COST SHEET STATEMENT OF COST AND PROFIT BSPATIL 15
  • 16. Direct material Rs. Rs. Materials used in manufacturing 55000 100000 Materials used in primary packing 10000 Freight on material purchased 5000 70000 Direct labour 10000 Direct expenses-factory 5000 Direct expenses-factory 85000 PRIME COST Factory overheads 750 Labour required for factory supervision 2000 Indirect expenses – factory 1000 Dept. on factory building 1750 5500 WORKS COST 90500 Administration O-H Materials used in OH10 1250 Administration expenses 1250 Dept. on office building equipment 750 3250 COST OF PRODUCTION 93750 Sellings Distribution O-H Materials used in selling the product 1500 Selling expenses 3500 Advertising 1250 6250 COST OF SALES 100000 Profit (20% on selling price or 25% on cost) 25000 SELLING PRICE 125000Problem 3From the following data prepare a cost & profit statement of Vijay stoves manufacturing company for the year 1990. Stock of materials as on 35000 Establishment expense 10000 1.1.1990 Stock of materials as on 49000 Completed stock in hand - 31.12.1990 1.1.90 Purchase of materials 52500 Completed stock in hand 35000 31.12.90 Direct wages 95000 Factory expenses 17500 Sales 189000The number of stoves manufacturing during the year 1990 was 1000. The company wants to quote for the contract forthe stoves to be quoted are of uniform quality and make similar to those manufacturing in the previous year. But cost ofmaterials has increased 15% and cost of factory labour by 10%. Prepare a statement of net profit to be quoted to give thesame percentage of net profit of turnover as was realized during the year 1990 assuming that the cost per unit of O.H.charges will be the same as the previous year. BSPATIL 16
  • 17. Solution COST AND PROFIT STATEMENT OF STOVES 1990 Amount Rs. Amount Rs. Opening Stock of Materials 35000 Purchase of Materials 52500 87500 Closing stock of Materials 4900 VOLUME OF MATERIAL CONSUMED 82600 20.65 Direct wages 95000 23.75 PRIME COST 177600 44.40 Factory expenses 17500 4.37 WORK COST 195100 48.77 Establishment expenses 10000 2.50 COST OF PRODUCTION 205100 51.27 Opening completed stock - Cost of production during the prd 205100 Closing completed stock 35000 COST OF SALES 170100 PROFIT 18900 SELLING PRICE 189000 STATEMENT SHOWING QUOTATION PRICE FOR 1000 STOVES Materials consumed 20650 15% increase 3098 23748 Factory wages 23750 10%a increase 2375 PRIME COST 26125 Factory expenses 49873 4370 WORK COST 54243 Establishment expenses 2500 TOTAL COST 56743 (profit 10% of selling price of 1/9 of cost) 6305 SELLING PRICE 63058 BSPATIL 17
  • 18. Lesson 2 Material Cost The term ‘materials’ refers to such commodities which are supplied to the manufacturing industry in their crudeor original forms. They are raw in nature of have to be processed further. Broadly, these may be classified in thefollowing groups: Raw materials, components, consumable stores, Maintenance Materials, Tools etc. Since the underlying purpose of cost accounting is to minimize the cost of production, it is important that aneffective control is exercised over them. The storage space and storage costs re reduce thereby. Control over materials isalso necessary to prevent extra-expenses on their unnecessary purchase and improper use. A regular supply of materialsgreatly helps the production schedule. It is necessary, therefore, that statements are prepared to accurately record thevalue of materials consumed by each department of job. Material Cost Control envisages a proper organisatoin for the efficient purchasing and storing of the materials,and for making them issued to the departments or the cost-centres in appropriate quantities. At the proper times andvalued at the right prices. The materials cost control aims at keeping the material cost within reasonable limits, budgets or standards. This control is exercised beginnings from the point the orders are prepared for being placed with the suppliers,and ending at the point the materials are effectively utilized in production or are disposed off otherwise. The following factors contribute to purchase control: i) Determination of Quantity to be purchased Quantities purchased in excessive number or weight block the working capital and the quantities purchased below the reasonable limit endanger the continuous working of the factory. ii) Determination of the Ordering Point The ordering point of the ordering level is one at which the order for purchase of materials is to be placed with the suppliers when the stock of that material is reduced to that point by consumption or otherwise. iii) Determination of Price at which to be purchased The selection of right suppliers and the best terms available out of the quotations received helps this factor.The Purchase cycle constitutes the following: 1. Initiating the purchase; 2. Receiving of the Purchase Requisitions; 3. Deciding important factors relating to purchase; 4. Selecting the suppliers; 5. Placing purchase-orders and follow-up 6. Receiving the supply and returning unwarranted suppliers; 7. Inspecting the material received; and 8. Passing invoices for payment.The important factors to be decided are: a) What to purchase; b) When to purchase; and c) How much to purchase. After receiving the Purchase Requisitions, the next step is to select the suppliers to whom the orders may be sent forthe supply. This is done by inviting tenders or quotations from different suppliers. While inviting the tenders, the supplying firms should be requested to state their terms and conditions of supply,delivery time, mode of payment, etc., clearly and to send the tenders in sealed covers. Having accepted the tenders, the orders are place by the Purchase Department with the firms selected fro thepurchase of requisitioned materials. The purchaser order should be prepared on the printed form and should contain all the necessary details, so as to BSPATIL 18
  • 19. leave no room for any ambiguity or doubt and so as to avoid legal complications. Follow-up of the Purchase order if essential to keep the schedule of supply by the specified date so thatproduction work may not suffer. The Receiving Department checks the supply from the copy of the Purchaser order and prepares his report of thegoods received. The Inspection Department makes an inspection of the goods received regarding the quality and specifications.Stores Records 1. Bin Card A Bin card, also known as Bin Tag or Stock card, is a card showing quantitative record of the receipts, issues and closing balances of the material kept in the corresponding bin. The Bin card is placed in the bin or shelf or is hung over the almirah or the rack otherwise known as ‘Bin’. Separate Bin cards are prepared for each item of stores and if two different materials are kept in one almirah, two Bin cards, one for each, are prepared, treating the almirah as two bins. 2. Stores Ledger Stores Ledger is a record of stores, both in quantity and value and is maintained by the stores Accountant. It is similar to Bin card but with the main difference that value of material is shown in the Stores ledger. Stores Ledger is an important book and the account of each item of stores is maintained separately. While Bin cards are maintained by store-keeper in the store, Store Ledger is maintained in the accounting department by the Stores Accountant. Material Control and its Requirements “ ‘Material Control’ may be defined as the regulation of the procedures for requisitioning, buying, receiving, storing, handling and usage of materials”. The main requirements of a system of material control are: • Planning and fixation of definite responsibility for each function of material. • Co-ordination between departments responsible for requisitioning, purchasing, receiving, inspecting, storing and utilizing the materials, • Centralization on purchases. • Use of material purchase budget and material requirement budget. • Use of standard and uniform forms, and • Proper system of stock control.For proper application of the material control the following steps are necessary. 1. Purchasing of materials 2. Receiving and inspecting of materials 3. Storing of materials 4. Pricing material Issues 5. Accounting materials losses. 6. Keeping physical and perpetual inventoryPurchasing of Materials In a large manufacturing concern, a separate purchase department is set up with the object of effecting all purchases. The top management lays down the purchase department. It is the function of the purchaser department to decide: i) What to purchaser; ii) When to purchase; iii) form where to purchase; iv) how much to purchase, and v) finally at what price the material should be purchased. BSPATIL 19
  • 20. Maintenance of Stock Levels The next important point after determination of EOQ is to decide as to when the order for purchase should beplaced. The answer is simple. The order for purchase should be placed when the stock is reduced by usage to the OrderPoint. The Order Point is one where the order should be placed for the economic order quantity. For deciding OrderPoint, two things, viz., (1) Lead time and (2) Usage during Lead time, are the determining factors. Lead time is thesupply time, or to be more specific, Lead Time is “the time interval between placing an order and having materials onthe factory floor ready for production…” Usage means the sue of materials by consumptions for productions, or the stock of finished goods sold. Sometimes purchase are made in large bulk in a season if the goods are seasonal, i.e., available in one seasononly, or at a time when it is feared that the goods may not be found available in the near future due to some reason. Special items for which no limit or order-points are fixed may be purchased as and when needed. To avoid over-stocking and under stocking each items of the inventory has the Maximum Level. MinimumLevel and an Order point.Order Point It is also known; ‘Ordering Level’; or ‘ Recorder Point’, or ‘Reordering Level or ‘Ordering Limit’, it has been stated earlier that Order Point is at which order for supply of materials or goods is placed. To decide the Order Point, three factors are considered, viz., (1) Lead time (2) Usage during Lead time, and (3) Minimum Limit, or the Safety stock. In order to ensure that the optimum quantity of material is purchased and stocked, neither less nor more, the storekeeper applies scientific techniques of materials management. Fixing of certain levels for each items of materials is one of such techniques. The following levels are generally fixed. 1. Maximum level 2. Minimum level 3. Order level 4. Danger level 1. Maximum level The maximum stock level indicates the maximum quantity of an item of material which can be held in stock at any time. The maximum stock can be calculated by applying the following formula. Maximum level – Re-order level + re-order quantity – (minimum consumption X minimum re-order period) 2. Minimum level Minimum level represents the quantity below which the inventory of any items should not allowed to fall; in other words, an enterprise must maintain minimum quantity of stock so that the production is not hampered due to non- availability of materials. If some buffer inventory is acting as a cushion against reasonable expected maximum usage. Formula: Minimum level = Re-order level – (Normal consumption x normal re-order period) 3. Re-ordering Level Point Re-ordering stock level in relation to an items of stock is the point at which it becomes essential to initiate purchase orders for its fresh supplies. Normally, re-ordering level is a point between the maximum and the minimum levels. Fresh orders must be placed before the actual stocks touch the minimum level. Reorder level = maximum re-order period x maximum usage. 4. Danger level The danger level is below the minimum level and represents a stage where immediate steps are taken for getting BSPATIL 20
  • 21. stock replenished. When the stock reaches danger level it is indicative that if no emergency steps are taken to restock the material, the stores will be completely exhausted and normal production stopped. Generally the danger level of stock is fixed above the minimum level but below the re-ordering level.Economic Order Quantity AnalysisEconomic Order Quantity This represents the normal quantity to be placed on order when the stock has reached its re-order level. Re-ordering quantity is to be fixed taking into account the maximum and minimum stock levels. The quantity ordered mustbe that which, when added to the minimum stock, will not exceed the maximum stock to be carried at any point of time.The following factors govern the re-ordering quantity. 1. Average consumption 2. Cost of pacing order 3. Cost of storage 4. Interest on capital etc.,Carrying cost of inventory consists of i) The costs of physical storage, such as cost of space, handling and upkeep expenses, insurance, cost of obsolescence etc. ii) Interest on capital invested (the opportunity cost of the capital blocked up) and iii) Cost of placing the order each time.Economic order quantity or economic lot size (if it relates to production) refers to the number ordered in a singlepurchase or number of units should be manufactured in a single run so that the total costs-ordering or set up costs andinventory carrying costs are at the minimum level. In other words, it is the quantity that should be ordered at one time soas to minimize the total of i) Cost of placing orders and receiving the goods, and ii) Cost of storing the goods as well as interest on the capital invested. The economic order quantity can be determined by the following simple formula.EOQ = Economic order quantity or number of units in one lot.A = Annual usage in unitsS = Ordering costs for one order (or set-up costs for one set-up)I = Inventory carrying costs per unit per year.This formula is based in three assumptions: i) Price will remain constant throughout the year and quantity discount is not involved. ii) Pattern of consumption, variable ordering costs per order and variable inventory carrying charge per unit per annum will remain the same throughout, and iii) EOQ will be delivered each time the stock balance, excluding safety stock, is just reduced to nil.Problem 1 Suppose the annual consumption is 675 units, 10% is the interest and cost of storing an article costing Rs. 30 perunit, cost of placing and order is Rs. 18. Calculate the E.O.Q.Solution: BSPATIL 21
  • 22. Where A = Annual usage S = Ordering cost for one order I = Inventory carrying costs per unit per year.Problem 2 Two components A and B are used as follows:Normal usage 50 units per week eachMinimum usage25 units per week eachMaximum usage 75 units per week eachRe-order quantity A:300 units B:500 unitsRe-order period A:4 to 6 weeks B:2 to 4 weeksCalculate for each component: a) Re-order level b) Minimum level c) Maximum level d) Average stock levelSolutionRe-order level = Maximum consumption * maximum re-order periodComponent A = 75*6 = 450 unitsComponent B = 75*4 = 300 unitsMinimum level = Re-order level – (Normal consumption * Normal re-order period)Component A = 450-(50*5) = 200 unitsComponent B = 300-(50*3) = 150 unitsMaximum level = Re-order level + Reorder Quantity – (Minimum consumption * Minimum re-order period)Component A = 450 + 300 – (25*4) = 650 unitsComponent B = 300 + 500 – (26*2) = 750 unitsAverage Stock level = ½ (Minimum level + Maximum level)Component A =½(200+650) = 425 unitsComponent B = ½(150+750) = 450 unitsNeed for Inventory Control BSPATIL 22
  • 23. The term ‘Inventory’ is used to denote (i) goods awaiting sale (the stock items of a trading concern and thefinished stocks of a manufacturer); (ii) the goods in course of manufacture, known as work-in-progress, and (iii) goodsto be used directly or indirectly in production, i.e., raw materials and supplies. In a manufacturing company, normally the cost of materials constitutes fifty percent of the production cost andthe cost of inventory (i.e., raw materials W.I.P., and finished good) represents about one-third of the total assets. As thecosts of materials and inventory are quite formidable but at the same time controllable, there is a great need felt forproper planning, purchasing, handling and accounting for the same, and also to organize the system of inventory controlin a manner that it may provide the maximum profitably to the management.Objectives of Inventory Control The objectives of inventory control as listed below: 1. To exercise proper control on the purchases and issues of inventories; proper storing; elimination of wastage; and regulating the proper supplies to works and to customers; 2. Pricing of the inventories on suitable basis; 3. Proper recording, and scientific inventory management 4. To have proper assessment of income through the process of matching appropriate costs against revenues. 5. To maintain inventory of sufficient size for the operations to go on uninterruptedly but the size should match with the optimum financial involvement.Techniques of Inventory ControlThe techniques or the tools generally used to effect control over the inventory are the following: 1. Budgetary techniques for inventory planning; 2. A-B-C. System of inventory control; 3. Economic Order Quantity (E.O.Q.) i.e., how much to purchase at one time economically; 4. Maintenance of Stock levels to decide when to purchase; 5. Perpetual inventory system and the system of store verification; 6. Reduction of surplus stocks and review of slow-moving or stagnant items. 7. Control Ratios.Budgetary Techniques For the purchase of raw materials and stocks, what we required is a purchase Budged to be prepared in terms ofquantities and values involved. The sales stipulated as per sales Budget of the corresponding period generally works outto be the key factor to decide the production quantum during the budget period, which ultimately decides the purchasesto be made and the inventories to be planned.A-B-C Analysis To exercise proper control on stores, it is essential that the store items should be classified according to valuesso that the most valuable items may be paid greater and due a attention regarding their safety and care, as compared toothers. The stores are divided into three categories generally, viz., A, B, and C. In the ABC system, greatest care and control is to be exercised on the items of ‘A’ list as any loss or breakage orwastage of any items of this list may prove to be very costly; proper care need be exercised on ‘B’ list items andcomparatively less control is needed for ‘C’ list items. The rules relating to receipt maintenance issue and writing offstores items should be formed in accordance with the utility and value of the items based on the above categorization. Manufacturing organizations find it useful to divide materials into three categories for the purpose of exercisingselecting control on materials. An analysis of the material cost will show that a smaller percentage of items mayrepresent a smaller percentage of the value of items the percentage number of which is more or less equal to their valueof consumption. Items falling in the first category are treated as ‘A’ items, of the second category and ‘B’ items anditems of the third category are taken as ‘C’ items. Such an analysis of materials is known as ABC analysis. Thistechnique of stock control is also known as stock control according to value method or always Better Control method orProportional parts value. Analysis method. Thus, under this technique of material control, materials are listed in ‘A’, ‘B’and ‘C’ categories in descending order based on money value of consumption.ABC analysis measures the cost significance of each item of materials. It concentrated on important items, so it is also BSPATIL 23
  • 24. known as ‘Control by importance and Exception’.Advantages: 1) A Strict Control is exercised on the items which represent a high percentage of the material costs. 2) Investment in inventory is reduced to the minimum possible level. 3) Storage cost is reduced as a reasonable quantity of materials, which account for high percentage of value of consumption will be maintained in the stores.VED Analysis: VED – Vital, Essential, Desirable – analysis is used primarily for control of spare parts. The spare, parts can bedivided into three categories – vital, essential or desirable – keeping in view the critically to production.Perpectual Inventory System Perpectual Inventory is a system of records maintained by the controlling department, which reflects thephysical movement of stocks and their current balance. It aims at devising the system of records by which the receiptsand issues of stores may be recorded immediately at the time of each transaction and the balance may be brought out soas to show the up-to-date position.The records used for perpectual inventory are: (1) Bin Cards; (2) Store Ledger Accounts or Stores Record cards; (3) The forms and documents used for receipt, issue and transfer of materials.Advantages of Perpectual Inventory system 1. It keeps the record of stocks upto date. 2. The materials are kept within the Minimum and Maximum Limits. Non-observance of the limits fixed is detected. 3. The materials going out of stock are easily detected and purchased at the appropriate time to avoid the risk of closing down. 4. It acts as a moral check on the staff of the stores Department and so the possibilities of loss or theft of materials are minimized. 5. The recording of stocks in Bin cards as well as Store Record cards minimizes the error in entering the receipts and issues of stocks. 6. The discrepancies noted after physical counting are detected and corrective action is taken promptly to avoid future occurrence. 7. The materials getting state or being wasted are detected and placed in right atmosphere. 8. The prompt balancing of closing stocks enables quick preparation of final accounts. 9. The slow moving inventories, obsolete or dormant stocks are brought to the notice of the Purchase Department so that such stocks may purchased future in lesser quantities as required. 10. The availability of correct figures of stocks helps in the insurance of the stocks.Control Ratios The control ratios are mainly two – (1) Inventory Turnover Ratio which we have studied and (2) Input-output Ratio. (1) Inventory Turnover Inventory Turnover is a ratio of the value of the materials consumed during a period to the average value of inventory held during that period. Certain materials are slow moving. It means their consumption rate quite show and so capital remains locked up and storing costs continue to be incurred in such materials if these materials are stored in excess of the requirement the rate of consumptions in terms of value or in terms of days is indicated by Inventory Turnover ratio. The number of days in which the average inventory is consumed can be ascertained by dividing the period by the Inventory turnover ratio. If the inventory turnover rate in terms of value of materials is high, or if the length of the inventory turnover BSPATIL 24
  • 25. period is short, the material is said to be fast moving. So if the rate of consumption is fast, or if the inventory turnover rate is good, it is a healthy measure of efficiency of materials control, as the capital employed is properly utilized.2. Input-output Ratio The Input-output Ratio is the ratio of the raw material put into manufacture and the standard raw materials content of the actual output. This ratio enables one to find out whether the usage of the materials is favourable or not. A standard ratio of input of materials and output of material should be determined and the actual ratio should be compared with the standard ratio.Pricing of Material Issues The pricing of issue of materials is not as simple as the pricing of receipts. As the issue are made out of the various lots purchased at different prices, the questions arises as how to price the issues, there are several methods used for pricing the issues and the selection of a proper method depends upon the following factors: 1. The type of work-job or process; 2. Range of price fluctuations and market trends; 3. The Inventory turnover period and the carrying or the non-carrying cost i.e., the frequency of purchases and E.O.Q. 4. The need for maintenance of uniformity is costs of the products within the industry. 5. The nature and durability of the material – whether it evaporates or shrinks, or absorbs moisture, etc.Method of Pricing The various methods used for pricing of the materials are:Cost Price Methods: 1. First in First out (FIFO) 2. Last in First out (LIFO) 3. Highest in First out (HIFO) 4. Base stock priceAverage price Methods: 1. Simple Average 2. Weighted Simple Average 3. Periodic Weighted Average 4. Moving Simple Average 5. Moving Simple Average 6. Moving Weighted AverageFirst in First out Method (FIFO): Under this method materials received first are issued first. After the first lot of the material purchased is over,the next lot is taken up for issue. As such, the materials are issued in the order in which they are received in the stores.The pricing of the issue of the first lot is done at the rate of purchase of the first lot. Similarly, the pricing pattern followsfor the subsequent lots. The closing stock in this method is valued at the latest purchase price and thus it represents thecurrent conditions as far as possible.Merits 1. It is simple to operate 2. The materials are charged at costs only. So the purchase price is recovered in full without showing any profit or loss on issue. 3. This method is good where a. The prices are falling; b. The consumption rates of the materials is slow 4. The Closing stock is shown at current rates.Demerits BSPATIL 25
  • 26. 1. It is not suitable in the situation when the prices show a rising trend, as it will charge the material at the lower rate than the replacement rate. 2. The same type of materials issued to two jobs at two different prices will show different costs. 3. If the prices fluctuate to much, the clerical errors may be many.Last in First Out (LIFO): Under this method, the material received last is issued first LIFO method and as such, pricing of issues is donein the reverse order of purchases. In times of rising prices, this method is considered best for application, as the currentcost of materials contributes to the cost of production.Merits 1. The material cost represents current prices except when the purchases were made long ago, 2. It is simple to operate and the pricing is done on cost basis 3. It relates current cost to current sale price, and enables the management to make correct decisions. 4. It is more useful when purchases are not too many and the prices are either steady or are rising. It is more suitable for bulky materials with high unit prices.Demerits 1. With high fluctuations in rates, the calculations become more complicated, and give way to more clerical errors. 2. The work of pricing is held up if the latest receipt rate is not readily available. 3. As in FIFO, costs of different batches of production are distorted and more than one price is adopted, in some cases, for pricing a single requisition. 4. Closing stock is valued at a cost which does not represent current conditions.Highest in First Out (HIFO): Under this method the material received at the highest price in the stock is issued first. This method is goodwhen it is desired to keep the inventory value of the materials at the lowest possible price.Base Stock Price Method In this method a minimum quantity of stock is always held at a fixed price as reserve in the stock. Thisminimum stock is known as base stock or the safety stock and is not used unless an emergency arises. This stock isvalued at long-run ‘normal’ price, while the stock in excess of this stock is priced on some other basis, usually are FIFOor the LIFO basis. It is not an independent method in itself a it is conjoined with either FIFO or the LIFO method.Simple Average Method The issue is prices at an average price and not at the exact cost price as in the earlier methods. The simpleaverage is calculated by dividing the total of the rates of the materials in the stock from which the materials to be pricedcould have been drawn, by the number of the rates of prices. This method can be used with advantage if (a) The purchase prices to not fluctuate considerably, and (b) It is difficult to identify the different issues of the materials.Weighted Average MethodMerits 1. This method irons out the wide fluctuations in the prices. 2. With every new issue, a new rate is not calculated. 3. The total value of the material issued does not behave up and down to the total value of the material received, as is the case with Simple Average Method.Demerits 1. Calculations are tedious. Prices are worked out in decimals to get correct results. 2. A lot of materials purchased at a very high price at one time continues to reflect its effect in the average, for a considerable time after it is exhausted. BSPATIL 26
  • 27. Periodic Simple Average Method This method is similar to Simple Average Method except that the average rate is calculated periodically, saymonthly or quarterly or once in the accounting period. If calculated monthly, the average of the unit prices of all thereceipts during the month is adopted as the rate for pricing issues during the subsequent month.Periodic Weighted Average Method This method is similar to Weighted Average Method except that the calculation is made periodically, say at aninterval or one month. The rate so arrived is used for the issues made in the next month.Moving Simple Average Method This represents a price which is obtained by dividing the total of the periodic simple average prices or a givennumber of periods, the last of the periods being that for which the materials are to be issued, by the number of periods.Moving Weighted Average Method This is just similar to the Moving Simple Average Method except that the periodic average price, in thissystem, is based on the weighted average.Problem 3 1) Show the Store Ledger entries as they would appear when using i) FIFO ii) LIFO iii) Weighted average method iv) Simple average methodApril 1. Balance 300 units Rs. 600/- 2. Purchase 200 units Rs. 440/- 4. Issued 150 units 6. Purchase 200 units Rs. 460/- 11. Issued 150 units 19. Issued 200 units 22. Purchase 200 units Rs. 480/- 27. Issued 250 unitsSolution 1) Stores Ledger Account as per FIFO METHOD Date Details Receipt Issued Balance Qty Rate Amt Qty Rate Amt Qty Rate Amt April Balance 300 2/- 600 - - - 300 2/- 600 1 2 Purchase 200 2.20 440 - - - 300 2.00 600 200 2.20 440 4 Issue 150 2.00 300 150 2.00 300 200 2.20 440 6 Purchase 200 2.30 460 150 2.00 300 200 2.20 440 200 2.30 460 11 Issue 150 2.00 300 200 2.20 440 200 2.30 460 19 Issue 200 2.20 440 200 2.30 460 22 Purchase 200 2.40 480 200 2.30 460 200 2.40 480 BSPATIL 27
  • 28. 27 Issue 200 2.30 460 150 2.40 360 50 2.40 120Value of Closing Stock : 150 units at the rate of Rs. 2.40 value Rs. 360/- 2) LIFO METHOD Date Details Receipt Issued Balance Unit Rate Amt Unit Rate Amt Unit Rate Amt April Balance 300 2.00 600 - - - 300 2.00 600 1 2 Purchase 200 2.20 440 - - - 300 2.00 600 200 2.20 440 4 Issue 150 2.20 330 300 2.00 600 50 2.20 110 6 Purchase 200 2.30 460 300 2.00 600 50 2.20 110 200 2.30 460 11 Issue 150 2.30 345 300 2.00 600 50 2.20 600 50 2.30 115 19 Issue 50 2.30 115 200 2.00 400 50 2.20 110 100 2.00 200 22 Purchase 200 2.40 480 - - - 200 2.00 400 200 2.40 480 27 Issue 200 2.40 480 150 2.00 300 50 2.00 100Value of Closing Stock : 150 units @ Rs. 2.00 value is Rs. 300/- 3) WEIGHTED AVERAGE METHOD Date Details Receipt Issued Balance Unit Rate Amt Unit Rate Amt Unit Rate Amt April Balance 300 2.00 600 - - - 300 2.00 600 1 2 Purchase 200 2.20 440 - - - 500 2.08 1040 4 Issue - - - 150 2.08 312 350 2.08 728 6 Purchase 200 2.30 460 - - 550 2.16 1118 11 Issue - - - 150 2.16 324 400 2.16 864 19 Issue - - - 200 2.16 432 200 2.16 432 22 Purchase 200 2.40 480 - - - 400 2.28 912 27 Issue - - - 250 2.28 570 150 2.28 342Value of Closing Stock : 150 units at the rate of Rs. 2.28 value Rs. 342.00/ 4) SIMPLE AVERAGE METHOD Date Details Receipt Issued Balance Unit Rate Amt Unit Rate Amt Unit Rate Amt BSPATIL 28
  • 29. April Balance 300 2.00 600 - - - 300 2.00 600 1 2 Purchase 200 2.20 440 - - - 500 2.10 1050 4 Issue - - - 150 2.10 315 350 2.10 35 6 Purchase 200 2.30 460 - - 550 2.17 1193..50 11 Issue - - - 150 2.17 325.50 400 2.17 868 19 Issue - - - 200 2.17 434 200 2.17 434 22 Purchase 200 2.40 480 - - - 400 2.23 892 27 Issue - - - 250 2.23 557.50 150 2.23 334.50Value of Closing Stock : 150 units at the rate of Rs. 2.23 value Rs. 334.50Problem 4The following is the record of receipts and issues a certain material in the factory during a week.April 1997 1. Opening Balance 50 tonnes @ Rs. 10 per tone. Issued 30 tonnes @ Rs. 10 per tones 2. Received 60 tonnes @ Rs. 10.20 per tone. 3. Issued 25 tonnes @ Rs. 10.20 per tone (stock verification reveals loss of tone) 4. Received back from orders 10 tonnes @ Rs. 10.20 per tone (previously issued at Rs. 9.15 per tone) 5. Issued 40 tonnes @ Rs. 10.20 per tone. 6. Received 22 tonnes @ Rs. 10.30 per tone. 7. Issued 38 tonnes @ Rs. 10.30 per tone.SolutionStores Ledger Account Under LIFO Date Receipts Issues Balance Qty Rate Amt Qty Rate Amt Qty Rate Amt 1 30 50 10 500 1 30 10 300 20 10 200 2 60 10.20 612 - - - 20 10 200 60 10.20 612 3 - - - 25 10.20 255 20 10 200 1 10.20 10.20 35 10.20 357 20 10 200 4 10 9.15 91.5 34 10.20 346.80 - - - 20 10 200 34 10.20 346.80 10 9.15 91.50 5 - - - 10 9.15 31.50 20 10 200 3 10.20 306.0 4 10.20 40.80 6 22 10.30 226.6 20 10 200 4 10.20 40.80 7 - - - 22 10.30 226.6 4 10.20 40.80 8 10.00 80.00 12 10.00 120.0 BSPATIL 29
  • 30. Closing Stock 8 tonnes @ Rs. 10 = Rs. 80/- Stores Ledger Under FIFODate Receipts Issues Balance Qty Rate Amt Qty Rate Amt Qty Rate Amt1 30 50 10 5001 30 10 300 20 10 2002 60 10.20 612 - - - 20 10 200 60 10.20 6123 - - - 20 10 200 5 10.20 51 55 10.20 561 1(loss 10.20 10.20 54 10.20 550.80 )4 10 9.15 91.5 - 54 10.20 550.80 - - 10 9.15 91.505 - - - 40 10.20 408 14 10.20 142.80 10 9.15 91.506 22 10.30 226.6 - 14 10.20 142.80 10 9.15 31.50 22 10.30 226.607 - - - 14 10.20 142.80 10 9.15 91.50 8 10.3 82.40 22 10.30 226.60Closing stock 8 tonnes @ Rs. 10.30 = 82.40 BSPATIL 30
  • 31. Chapter – 3 Labour Cost“Labour Cost, representing the human contribution to production, is an important cost factor which requires constantcontrol, measurement and analysis.” A rational approach to the problems of labour, fair maintenance of wage records for wage ascertainment, fairwage policy, and the incentives for earning more wages go a long way in providing a sense of security and stability tothe workmen, in minimizing the labour turnover, and in exercising effective labour cost control. Labour cost control aims at the control of the labour cost per unit of production and not at the reduction of thewage rates of the workmen.Efficiency of labour (a concept meaningless to material) has an important impact on the successful working of abusiness.Labour cost is second major element of cost. Proper control and accounting for labour cost is one of the most importantproblems of a business enterprise. But control of labour cost presents certain practical difficulties unlike the control ofmaterial cost.Labour costs represent the various items of expenditure Such as:Monetary Benefits: i) Basic Wages; ii) Dearness Allowance; iii) Employer’s Contribution to Provident Fund; iv) Employer’s Contribution to Employee’s State Insurance (ESI) Scheme; v) Production Bonus; vi) Profit Bonus; vii) Old age Pension; viii) Retirement Gratuity;Fringe Benefits: i) Subsidised Food; ii) Subsidised Housing; iii) Subsidised Education to the children of the workers; iv) Medical facilities; v) Holidays pay; vi) Recreational facilities.Economic utilization of labour is a need of the present day industry to reduce the cost of production of the productsmanufactured or service rendered.Control of labour costs is an important objective of management and the realization of this objectives depends upon thecooperation of every member of the supervisory force from the top executive to foreman. From functional point of view,control of labour cost is effected in large industrial concern by the coordinated efforts of the following six departments- 1) Personnel Department, 2) Engineering Department, 3) Rate or time and Motion Study department 4) Time-Keeper Department 5) Cost Accounting Department 6) Pay-roll DepartmentFactors Governing a Satisfactory system of Wage Payment BSPATIL 31
  • 32. The following factors should be considered while evolving a suitable and a successful system of wage payment. a) The system should depend upon the nature of the worked and the efforts involved. b) It should guarantee a minimum living wage to ensure a satisfactory standard of living. c) It should be based upon a scientific time and motion study. d) It should be capable of being understood by al the employees. e) It should be flexible and capable of being adapted to changed circumstances. f) Its incidence on the cost per unit should be such that it does not form a considerable proportion of the total cost per unit to deprive the employer of a fair margin of profit, given the market price of the commodity produced by concern. g) It should reduce the labour turnover. h) The cost of working the system should be the least. i) It should boost employee morale. j) It should be acceptable to trade unions. k) It should be correlated to the capacity of the concern to pay.For labour-cost-control, the following factors should also be kept in view while devising the system: 1. Production Planning: Production should be so planned as to have the maximum and rational utilization of labour. The product and process engineering, programming, routing, and direction constitute the production-planning. 2. Setting up of standards With the help of work study, time study and motion study are set up for production operations. The standard cost of labour so set is compared to the actual labour cost and the reasons for variations, if any, are looked into. 3. Use of labour budgets: Labour budget is prepared on the basis of production budget. The number and type of workers needed for the production are provided for along with the cost of labour in the Labour budget. This budget is a plan for labour cost and is based on the past data considered in future perspective. 4. Study of the effectiveness of Wage-policy: How far the remuneration paid on the basis of incentive plan fro the departments help the managerial control on labour and exercise labour cost control.Characteristics of Good Wage System 1. Fair to both the Parties: The system should be such as may be acceptable gladly to the employer and the employees. for this purpose, the employer should decide the system in consultation with the workers. 2. Easy to Calculate The workers should be in a position to calculate their wages correctly and feel sure that they have been correctly paid. Easy calculation will help the employer also in maintaining simple records. 3. Related to Efficiency ‘Fair remunerations for fair output’, should be the idea and remuneration should be related to the individual efficiency of the workers. 4. Minimum wage guaranteed There should be a guarantee of minimum wages to the workers to enable them to maintain their basic BSPATIL 32
  • 33. standards of life, and to do away with uncertainty-concept. 5. Incentive-oriented The wage system should be such that the workers may feel encouraged to product more and earn more wages. 6. Quality Improvement-oriented In the race to earn more wages with an increase in production, the chances are that the quality of the output may deteriorate. The system should, therefore, ensure ‘better wages for better quality’.Definite wage-base The basis or the method of wage payment should be clearly defined and announced in advanced to the workers,and it should not be changed frequently to suit the interest of the employer, otherwise a sense of distrust may develop inthe workers towards the scheme. A change in the system should be effected only after taking the workers intoconfidence.Labour Turnover Labour turnover is an index denoting change in the labour force for an organisatoin during a specified period. Inevery industry, works leave their job a new workers have to be appointed to replace them. The ratio of the replacedworkers to the number of works is the Labour Turnover Ratio. If more workers leave the factory, the turnover would behigh, and vice versa. A high turnover is a costly affair and must be avoided.Causes of Labour Turnover The workers leave the factory either by i) Resignation, or by ii) Discharge by the employer, or iii) Due to a cause not within one’s control.Cause for resignationThe causes may be: 1. Low wages paid as compared to the wages paid in other factory which he is induced to join. 2. Ill health and bad working conditions; 3. Lack of safety measures; 4. Dissatisfactions due to various causes such as a. Hours of work b. Improper placement c. Unfair method of promotion, d. Bad relationship with Supervisor, or with fellow-workers in some cases.Causes for Discharge 1. Incompetence; 2. Insubordination, disobedience, and disregard of the rules asn regulations; 3. Unpunctuality or lack of attention to duty; 4. Accidents or suffering from infectious disease; 5. Immoral character.Causes not within control 1. Seasonal character of the industry where work is carried on during some part of the year only; 2. Death of the worker;Measurement of Labour Turnover Labour Turnover is measured by applying any one of the following three Methods: 1. Separation Method BSPATIL 33
  • 34. Multiplication of the formula by 100 indicated Ratio of the turnover in percentage. 2. Replacement MethodIn this method, only the actual replacement are counted irrespective of the number of workers left. If new workers areappointed for expansion programme, they are excluded from the number or replacements. 3. Flux Method This method is the combination of Method 1 and Method 2.Effect of Labour Turnover on Cost The Labour Turnover in excess of normal rate is high turnover, and the turnover below the normal rate is lowturnover. It is always better to keep the turnover low, but it should nto be construed that the factories with low turnoverare always more productive. There may be low turnover in a factory for the reason that the workers engaged therein arebelow standard and so they cannot find better place in other factories. Secondly, low turnover in the senior scales maynot provide promotion factories. Secondly, low turnover in the senior scales may not provide promotion opportunities tothe young and promising employees and so they may like to shift to other factories for better prospects. A high turnover has an adverse effect on the cost of production due to the following reasons: 1. Change in workers interrupts production and the production goes down. 2. New comers take time in learning the factory procedure and the work procedure. 3. The tools and machines cannot be handled as efficiently by the new workers as hither to done by the old staff. There are chances of more break-downs and of greater cost of repairs of machines. 4. What is true of machines is also true of material handling and usage by the new workers. 5. The rate of accidents may increase, the rate of defectives in the finished output may increase, and there may be increased wastage of time. 6. The cost of making selections and cost of imparting training to the new entrants would further increase the cost and reduce the profits.Cost of Labour TurnoverThere are two types of costs i) Preventive cost and ii) Replacement costsAnd amenities to the workers that they may be tempted to continue at their job in the factory and not to leave it forexample: i) Personnel Administration: Only that portion of the cost of this department which is related to the maintenance of good relationship between labour and management. ii) Medical Services-Preventive as well as curative. BSPATIL 34
  • 35. iii) Welfare activities and services. iv) Miscellaneous schemes and benefits, e.g., Provident fund scheme, Pension scheme, Bonus incentives schemes, etc.The replacement costs are those incurred to recruit new workers and also the costs consequent or incidental toreplacement, for example: (i) Cost in selection and appointment (ii) Training cost (iii) Loss of output due to delay in recruitment workers (iv) Cost of inefficiency of new workers (v) Cost of breakage of tools and machinery (vi) Cost of increased spoilage and defectives (vii)Cost of frequent accidentsThe treatment of Prevention and Replacement costs is to charge them as overhead and apportion to the differentdepartments in the ratio of other workers.IDLE TIME The time when the worker does no work and remains idle, is the idle time. So the idle time cost represents thewages paid for the time lost. The following are its causes: 1. Lack of proper planning:That the production work should go on smoothly, depends upon proper planning. If the workers do not have material atthe right time, or the machines are not kept fir for working, the time goes waste. Sometimes, delay in the proceedingprocess delays the operations of the succeeding progress. Here also the workers have to wait due to faulty planning orbad management. 2. Careless in Supervision:If the foreman of a department does not take his duty seriously, the labour working under him also becomes careless andspoils time in the idle way. 3. Confrontation between labour management:The confrontation between labour and management arising form any cause, does waste time in discussions, dialogues,strikes etc., and the wages paid, if any, for this period form the idle time cost. 4. Economic Factors:Trade depression, or serve competition lowers the production, and so labour remains effectively unutilized. 5. Others reasons:The electricity may fail or the machine may break down for some or more time. They make labour to remain idle for thetime being.Idle time does not limit itself in its effect to the wages paid for the time but his wider implications. The plant, machines,equipments, and other accessories also become idle during that period, and the fixed cost continues to be incurred. Assuch, idle time need be reduced as far as possible.Idle-time cost can be divided into two types: (i) Normal, and (ii) AbnormalNormal idle-time can be further divided into a) Controllable, and b) Uncontrollable.Normal idle-time is one which is incidental to production. The cost of normal and controllable idle time should be BSPATIL 35
  • 36. charged as an overhead expense to the production. If the responsibility for this type of idle-time can be fixed upon aparticular department, the cost should be charged to the overheads of that department and absorbed in the productioncost of that department.OVER-TIMEThe time worked over and above the normal hours is overtime. The remuneration usually paid for the overtime work isat double the normal rate. The need for over time work arises due to: 1. Increase in demand for the products where the production during the normal hours falls short to meet it; 2. Shortage of workers due to absence or non-availability and so it is decided to give overtime work to the existing staff; 3. Utilization of perishable raw materials by working overtime; 4. Execution of urgent orders, or to complete the work o9n the same day; 5. Shortage of equipments, machines, or space for the completion of jobs; 6. Lack of administrative control on workers, on account of which the production during normal hours remains less the standard output and overtime work has to be done by the workers.Disadvantages of overtime working The following are the disadvantages: 1. Worker’s health is adversely affected; 2. The quality of the output is at a discount; and 3. The cost of production rises due to increased labour cost.System of Wage Payment Strictly speaking, there are only two basic methods of wage payment, viz., wages based on the time spent in thefactory, and wages based on the quantum of work turned out. These are thus known respectively as the ‘time wage’ andthe ‘piece wage’ methods of remuneration. Since each of these has its own advantages and disadvantages, attempts aremade to combine the two, mainly with a view to overcoming their disadvantages. We have therefore, the premium bonusor the incentive schemes which may either be considered to be merely variations of the two, or as another of wagepayment. These three methods may also be re-classified into only two groups, viz., the time wage system and thepayment by results.Methods of RemunerationThe methods of remuneration can be classified into: 1. Time Rate System 2. Pieced Rate System 3. Incentive SchemesTime Rate System In this system, a worker is paid on the basis of attendance for the day or according to the hours of the day,regardless of the output. This system is also known as time work, day work, day age rate or day rate. The wage rate ofthe day worker may be fixed on hourly, daily, weekly, fortnightly, or monthly basis depending on the practice followedin the concern. The basic feature of this system is that the worker is paid so much per unit of time regardless of the output heproduces. The unit of time may be an hour, a day, a week or a month. Under this method, wages depend entirely uponthe time clocked, but not on the efficiency of the worker. There are three variants of this system, each differing only inso far as the fixation of the time rate is concerned. They are: a) Flat Time or Time Rate at Ordinary level; b) High Day Rate or Time Rate at high level; c) Measured Day work or Graduated Time Rate. BSPATIL 36
  • 37. Graduated Time Rate Under this method wages are paid at time rates which vary according to a. Merit-rating of the workers, or b. Changes in the cost of living index.It the cost of living goes up, the wages also go up proportionately, and vice versa. Thus the works get the real wages.Similarly, the workers having higher merit rating get higher wages, and the workers with lower rating get lower wages.Differential Time Rate Workers are paid rate accounting to their individual efficiency. They are paid normal rate upto a certainpercentage of efficiency and the rate increases in steps for efficiency slabs beyond the standard. As the efficiency ismeasured in terms of output, this method does not fall strictly under the area of time rate system.Payment by Results-Piece-work Rate The payment of wages under this system is based upon the out turn of the worker. The rate is fixed per piece ofwork and the worker is paid according to the pieces of work completed or the volume of work done by him, irrespectiveof the time taken by him in completing that work. A workman is free to earn as much as his ability, energy, or skillwould allow to him to produce. The various schemes falling under ‘Payment by results’ make speed as the basis of payment, instead of time.Accordingly, these schemes are just the opposite of the time wage system. They are so called because of the fact thatwages are linked to the volume of work done regardless of the time taken by workers. Efficiency is recognized in allthese schemes and workers get wages according to their avility, efficiency, and speed. The following schemes fall underthe payment by results method of wage payment. a. Straight Piece Rate. b. Differential Piece Rate.Stability of the System This system is suitable in the following cases: 1. Where the production can be measured in standard units. 2. Where strict supervision is not possible. 3. Where quality and precision are not of primary importance.Advantages 1. It provide initiative and incentive to the workers to product more. 2. The productivity increases and cost of production per unit goes down. 3. As there is little wastage of time on the part of the workers, the fixed overheads and resources like plant, machinery and space are well utilized. 4. Workers feel free to work, complete with fellow workers, exhibit their efficiency, and earn more of wages. 5. Less supervision is required over the workers, and happy relations are maintained with them. 6. It is easy to calculate the labor of products.Disadvantages 1. In the race to earn more wages by producing more, the quality of products is likely to deteriorate. So it requires strict inspection and quality control. 2. Continuous and increased working for some days may cause fatigue and ill health to the workers. 3. To speed up production, the machines, tools, and equipments are sometimes not handled with the care that they require, and so the workers expose themselves to accidents, besides causing loss of breakdown to the machines, equipments etc., BSPATIL 37
  • 38. 4. The inefficient workers earning less of wages start feeling jealous of other workers who earn more. This creates unhealthy atmosphere. 5. The workers feel insecure of earning during the days of ill health, holidays, etc. 6. This system is not useful for quality products.The piece rate System can be classified into:Straight Piece Rates It is a simple method of making payment at a fixed rate per unit for the units manufactured.Earnings = Number of units X Rate per unitThe rate is fixed taking into consideration a. Time rate for the same class of workers, and b. Standard output during a given time.Differential Piece Rates Under this system, efficient workers are paid wages at a lower rate. A definite standard of efficiency is set foreach job and for efficiency below or above the standard different piece rates are paid according to different levels ofefficiency. The following two methods of wage payment are studied under this system: a. Taylor Differential Piece-rate Method, and b. Merrick Differential Piece rate MethodTaylor Differential Piece-Rate F.W. Taylor thought to improve the efficiency of workers by suggesting two rates of payment of wages: (I) A higher rate to the workers who product equal to or more than the standard fixed for production during the day, and (II) A lower rate to the workers who do not achieve the standard.Merrick Differential Piece-rate In the Taylor Method, the effect on the wages is quite sharp in the marginal cases. To remove this defectMerrick suggested three piece rates for a job as follows:Percentage of Standard Output Payment under Merrick MethodUpto 83% Normal piece rateAbove 83% and upto 100% 110% of normal piece rateAbove 100% 120% of normal piece rateIncentive SchemesFactors for Selecting Incentive SchemeThe following factors should be considered for selecting an incentive scheme: 1. Productivity The object of the incentive scheme is to increase productivity. Therefore, this factor is very important. The increased BSPATIL 38
  • 39. productivity lowers the cost to the benefit of the employers. 2. Simplicity The scheme should be simple in operations and well understood by the workers. The scheme should be amenable to the setting up of standards and the comparison of the results with the actual. 3. Cost Reduction The scheme, when introduced, is bound to increase the pay-bill of the workers, and thus increase the cost. But the simultaneous increase in production would reduce the cost per unit or production. The fixed overheads remain constant up to a certain limit of plant capacity. As such, the increased productivity reduces the cost of fixed overheads per unit. 4. Better Labour Psychology The scheme should not affect worker’s health adversely, should reduce labour turnover and help to improve the standard of living of the workers. Under this heading, we study the following methods: (I) Halsey Premium Scheme; (II) Halsey Weir Scheme; (III) Rowan Premium Scheme;Halsey Premium Scheme Under this plan, (i) Time rate is guaranteed; (ii) Standard time is fixed for the job or operation; (iii) The workers producing more than the standard, or the workers completing the work in less than the standard time fixed, get bonus in addition to the ordinary time wage; (iv) The bonus of the premium, by whatever name called, is 30 to 70 percent of the wages of time saved, the usual percentage being 50%, (v) The remaining of the bonus percentage is shared by the employer.Merits of Halsey Plan (i) Day wage or the time rate is guaranteed. Even if output is less than the standard, one gets the time wage; (ii) Workers get premium for the output above the standard. It provides incentive to the workers to produce more; (iii) As the premium is not 100% but only 50% or so, the employers feel happy about it is a they share the remaining 50%; (iv) The scheme is very simple and understood easily by the workers.Demerits (i) A significant share of the bonus goes to the employers. So the workers object to it; (ii) Incentive is not so attractive as it is with the piece work; (iii) Where the workers start saving more than 50% of the time, they earn premium in huge amounts, which the employers do not relish.Halsey – Weir Scheme This schedule is similar to Halsey scheme except that in this scheme the workers and employers share the BSPATIL 39
  • 40. premium in 1:2 ratio.Rowan Premium Scheme (variable sharing plan) Mr. James Rowan introduced this scheme in Glasgow in 1898. It is similar to Halsey scheme but the premiumconcept here is different. Here the premium is in the ratio of Time saved to Standard time, calculated on the ordinarywages.Premium = Wages of time worked x Time saved / Standard Time Or; (AT x R) TS / STThis scheme also guarantees day wage as is done by Halsey Plan.Problem 1Calculate the earnings of a worker from the following information as under.a) Time Rate Method: Standard time 30 hours Time taken 20 hours. Hourly rate of wages of Re. 1 per hour plus adearness allowance 50 paise per hour worked.SolutionTime Rate Method:-Time Put in by workers x Rate per hour = 30 x 1 = Rs. 30Problem 2On the basis of the following information calculate the earnings of A and B on the straight price Rate basis and Taylor’sdifferential piece rate system.Standard Production 8 units per hourNormal time rate Rs. 0.40 per hourDifferential to be applied:- 80% of piece rate below standard 120% of piece rate at or above standard. In a 9 hour day, A produces 54 units and B products 75 units.Solution Standard production per hour 8 units Normal time rate per hour Rs. 0.40 Piece Rate Rs. 0.40/8 = Rs. 0.05Earnings under the straight piece rate system:- A: 54 units @ Rs. 0.05 = Rs. 2.70 B: 75 units @ Rs. 0.05 = Rs. 3.75Differential Piece Rate:- Low Piece rate: 80% of piece rate (0.05 x 80 / 100) = Rs. 0.04 High Piece rate: 120% of piece rate = (0.05 x 120 / 100) = Rs. 0.06 BSPATIL 40
  • 41. Standard output per hour is 8 units, So Standard Output for a 9 hour day is 72 units. A produces only 54 units which isless than the standard output of 72 units. So he is entitled to get a lower price rate of Rs. 0.04 per unit. On the otherhand, B’s output of 75 units is more than the standard output of 72 units. So SA is to get higher piece rate of Re. 0.06per unit.A’s earning: 54 units @ Re. 0.04 = Rs. 2.16B’s earning: 75 units @ Re. 0.06 = Rs. 4.50Problem 3Calculate the earning of workers A,B and C under Merrick’s multiple piece system from the following particulars. Normal rate per Hour Rs. 1.80 Standard time per unit 1 minuteOutput per day as follows:- Worker A: 384 units Worker B: 450 units Worker C: 552 units Working rows per day are 8Solution Standard output per minute = 1 units Standard Production per hour = 60 units Standard Production per day of 8 hour = 480 units i.e. (60 x 8) Normal rate per hour = Rs. 1.80 Normal output per hour = 60 units Therefore Normal piece rate = (1080/60) x 5 paiseCalculation of level of Performance:- Standard output per day = 480 units Worker A’s Output per day = 384 units Worker A’s level of performance = (384/480) x 100 = 80% Worker B’s Output per day = 450 units Worker B’s level of performance = (450/480) x 100 = 43% Worker C’s Output per day = 550 units Worker A’s level of performance = (550/480) x 100 = 1150%Earnings of workers A:- Merrick’s multiple piece rate system:- For 384 units @ 3 paise per unit = (384 x 3) /100 = 11.50 Normal piece rate has been applied because worker A’s level of performance is 807. Which is below 83%.Earning of Worker B:- For 450 units @ 3.3 Paise per unit = 450 x 3.3/100 = Rs. 14.85 Worker B’s level of Performance is 93.75% which is between 83% and 100%. So he is entitled to get 110% of BSPATIL 41
  • 42. normal piece rate.Earning of Worker C:- For 552 units @ 3.6 paise per unit = (552 x 3.6)/100 Rs. 19.87Worker C’s level of performance is 115% which is more than 100% of standard output. So it is entitled to get 120% ofnormal Piece rate.Problem 4Calculate the earnings of workers A and B under straight piece rate system and Taylor’s differential piece rate systemfrom the following particulars. Normal Rate per hour Rs. 2.40 Standard time per unit 30 secondsDifferentials to be applied:- 80% of piece rate below standard 120% of piece rate at above standard Worker A produces 800 units per day and Worker B produces 1000 units per day.Solution 3600Hourly Production = = 120 units 1000 120Piece rate = = 0.005 2.210Low piece rate:- LPR = 80% of normal piece rate = 80% x 0.005 = 0.004High piece rate: HPR = 120 of 0.005 = 0.006Standard Production per day = 120 units x 8 = 960 unitsComputation of earnings of A and B:- A BNormal Piece Rate 0.005 0.005Production per day 800 1000Standard Production Per day 960 units 960 unitsa. Straight piece Rate System 800 x 0.005 1000 x 0.005 Earning Rs. 4.80 Rs. 5 BSPATIL 42
  • 43. b. Taylor’s Differential piece Rate 0.004 x 800 0.006 x 1000 Rs. 3.2 Rs. 6.00Problem 5From the following data, total monthly remuneration of three workers A, B and C under theGant’s Task and Bonus Scheme:-i) Standard Production per month per worker is 1000 units.ii) Actual Production during the month A = 850 units, B = 1000 units C = 1100 unitsiii) Piece works rate 50 paise per unitSolution Standard Production per month is 1000 units and piece rate is 50 paise per unit so guaranteed monthly paymentis Rs. 500 (i.e. 1000 units @ 50 paise)Level of Performance:- Standard output per month 1000 units Worker A’s Output 850 units 850 Worker A’s level of Performance = x 100 = 85% 1000Workers B’s Output:- Worker B’s level of Performance x 100 = 100% 1000Workers C’s Output:- 1000 Worker C’s level of Performance x 100 = 110%Earning of Worker A:- 1100 1000 Worker A’s level of Performance is 85% which is below the standard performance so it will get Rs. 500 theguaranteed monthly payment.Earning of Worker B:- Worker B’s level of performance is 100% so he will get piece wages for 1000 units plus 20% bonusPiece Wages for 1000 units @ 50 paise per unit Rs. 500Add: 20% bonus i.e. (500 x 20 )/100 Rs. 100 Total earning Rs. 600Earning or Worker C:- Worker C’s level of Performance is 110% which is more than the standard Performance so he will get piecewage prices 20% bonus. BSPATIL 43
  • 44. Thus dis earnings are as follows:-Price wages for 1,100 units @ 50 paise per unit Rs. 550Add: 20% bonus (550 x 20)/100 Rs. 110 Total earning Rs. 660Problem 6The existing incentives system of a certain factory is Normal working week – 5 days of 9 hours plus 3 rate shifts of 3 hrs each. Rate Payment - Daywork = Re. 1 per hour - Late shift = Rs. 1.50 per hour Additional bonus payable – Rs. 2.50 per day shift Rs. 1.50 per Late shiftAverage output per operative for 54 hour week – 120 articles i.e. including 3 Late shiftsIn order to increase output and eliminated overtime it was decided to with on to a system of payment by results thefollowing information is obtained.Time rate Re. 1 per hourBasic time allowed for 15 articles 5 hoursPiece work rate – Add 20% to piecePremium – Add 50% to timeYou are required to show i) Hours worked ii) Weekly earnings iii) Number of articles produce and iv) Labor cost per article for one operative under the following sysem a) Existing time rte b) Straight piece work c) Rowan system d) Halsay weir systemAssume that 135 articles produces in a 45 hours work under (b) (c) and (d) and that the worker earns half time savedunder the Halsay system. The additional bonus under the existing system will be discontinued on the proposed incentivescheme.Solution a) Existing time Rate:- Rs.Weekly wages 45 hrs. @ Re. 1 per hour 4500 9 hrs @ Re. 1.50 per hour 13.50 Day shift bonus 5 x 2.50 12.50 Late shift bonus 3 x 1.50 4.50 Total Earning 75.50 b) Piece rate system:- BSPATIL 44
  • 45. Basic time : 5 hours for 15 articlesTherefore cost of 15 articles 5.00Add: 20% 1.00Total Earning 6.00Therefore Rare per article Rs. 6.00 / 15 = Rs. 0.40Articles products in a week = 45 x 15/5 = 135Hence Earning = 135 x 0.40 = Rs. 54.00 c) Rowan Premium System:-Basic time = 5 hrs for 15 articlesAdding 50% = 7½ has for 15 articlesTherefore time for producing one articles = 7½ hrs / 15 = 30 minutesTherefore time allowed for 135 articles = 67 ½ hrsActual time taken for 135 articles 45 hrsTherefore time saved = 22½ hrsEarning = Time wages x (% of time saved / Standard Time) x Time wage = 45 x 1 + (22½ / 67½) x 45 = 45 + 15 = 60 d) Halsay-Weir Premium System:-Earning = Time wage + 50% (Time saved x Time rate) = 45 x 1 + 50% (67½ - 45) x 1 = 45 + 11.25 = Rs. 56.25The other requirements of the problems have been shown in the following table:- Methods:- a b c d i) Hours worked 45 54 45 45 ii) Weekly earning Rs. 75.50 54.00 60.00 56.25 iii) Articles produces 120 135 135 135 iv) Labour cost per article 0.629 0.400 0.444 0.417Problem 7The Worker earns Rs. 2 as bonus @ 50%. So total bonus at 100% should be Rs. 4. The hourly rate of wages being Re.1. The time saves should be 4 hours.Standard time allowed - 10 hoursLess: time saved - 4 hours Time taken - 6 hoursA worker completes a job in a certain number of hours. The standard time allowed for the job is 10 hrs, and the hourlyrate of wages (i.e. Re. 1 the worker earns at the 50% rate of bonus Rs. Under Halsay plan.Ascertain dis total wages under the Rowan premium plan:-Solution BSPATIL 45
  • 46. The worker earns Rs. 2 as bonus at 50% so total bonus at 100% should be Rs. 4. The hourly rate of wages beingRe. 1 the time saved should be 4 hrs.Standard time allowed 10 hoursLess: Time saved 4 hours Time taken 6 hoursEarning under the roman Premium Plan:-Earning = T x R + (S – T / S) x T x RWhere T = Time taken i.e., 6 hours S = Standard time i.e. 10 hours R = Rate per hour i.e. Re. 1Therefore Earning = 6 x 1 + (10-6/10) x 6 x 1 = Rs. 6 + Rs. 2.40 = Rs. 8.40Problem 8For a certain work order the Standard time is 20 hours, wages Rs. 5 per hour the actual time taken is 13 hours andfactory overhead charges are 80% of standard time.So out a comparative statement showing the effect on paying wages Halsay plan.SolutionEarning = A.T x T.R + 50% (T.S. x T.R) = 13 x 5 + 50% (7 x 5) = 65 + 17.5 = Rs. 82.50Problem 9A Workman whose basic rate of pay is Re. 1 per hour of working under the ‘Rowan’ system of premium bonus. Inaddition he gets dearness allowance of Rs. 20 per week of 48 hours. During one week he does the following jobs. i) Job 101 for which 25 hours are allowed. He takes 20 hours. ii) Job 102 for which 30 hours are allowed he takes 24 hours.During the week, his waiting time amounts to 4 hours. Find the worker’s earning and the amounts to be charged to eachjob and to overhead.SolutionWorkers earning form Job 101 :-Standard time 25 hoursTime taken 20 hoursRate per hour Re. 1Wages for actual time = 20 hrs @ 1 Re.Premium according to Roman System BSPATIL 46
  • 47. = Time taken x Rate per hr. + (Time saved / Standard time) x Actual time x Rate per hr= 20 x 1 + (5/25) x 20= Rs. 24 Rs. 24.00Proportion of dearness allowances:- = 20 x (25/55)Earning from job 101 Rs. 9.09Total Rs. 33.09The workers earning from job 102:-Standard time = 30 hoursTime taken = 24 hoursRate per hour = 1 Re.Earning = T x R + (T.S /Std) x A.T x R = 24 x 1 + (6/30) x 24 = 24 + 4.8 = Rs. 28.80Proportion of Dearness allowance:- = 20 x (30 / 55) = Rs. 10.91Earning from job 102 Rs. 39.71Total earning of the worker:- Job 101 = Rs. 33.09 Job 102 = Rs. 39.71 Read = Rs. 4.00 Total = Rs. 76.80Problem 10The guaranteed time table is Re. 1 per how high piece rate is Re. 0.20 per unit and standard output is 10 units per hour.In a day of 8 hours, A produces 70 units and B produces 80 units and C produces 90 units. Calculate the earning of A,Band C under Gantt task plan.Solution Standard Output at 10 units per hour is 80 units. A’s output is below the Standard B’s output is at the standard and C’s output is above the standard.Accordingly A gets time wages, B gets a bonus of 20% of the time rate and C gets high piece rate.Earnings: A = 8 hours x Re. 1 = Rs. 8 B = 8 hours x Re. 1.20 = Rs. 9.60 C = 90 hours x Re. 0.20 = Rs. 18 BSPATIL 47
  • 48. Problem 11Standard output is 10 units per hour and basic wage rate is Re. 1.50 per hour. In a day of 8 hours. A produces 40 units. B75 units and C produces 90 units. Calculate the wages of A,B and C under Merrick’s differential piece rate.Solution Standard output = 10 units per hour Basic wage Rate = Rs. 1.50 per hour Piece rate = 1.50 / 10 = Rs. 0.15Percentage efficiency:- = (Actual output / Standard output) x 100For A = (40 x 100/80) = 50%For B = (75 x (100/80) = 93.75%For C = (90 x 100/90) = 112.5%A’s efficiency being less than 83% he is paid the ordinary piece rate. B’s efficiency being 83% to 100%. He is paid at110% of ordinary piece rate. C’s efficiency being more than 100% he is paid at 120%.Thus: A gets 40 x Re. 0.15 = Rs. 6.00 B gets 75 x 0.165 = Rs. 12.37 C gets 90 x Re. 0.18 = Rs. 16.20 BSPATIL 48
  • 49. Lesson – 4 OVERHEAD COSTOverhead is “the aggregate of indirect material cost, indirect wagers (indirect labor cost) and indirect expenses”.Classification of OverheadsThe Overheads can be classified according to: i) Elements; ii) Functions; iii) Behaviour; iv) Controllability;Element-wise classification Overhead Materials Cos is the which cannot be allocated but which can be apportioned to, or absorbed by, costcentres or cost units. Consumable stores, lubricating oil, loose tools, cotton waste, etc. are the examples. Indirect Labour Cost is the cost of wages which cannot be allocated but which can be apportioned to, orabsorbed by, cost centres or cost units. Salary of foremen, supervisors, works manager, storekeepers, etc. Wages ofmaintenance dept. employer’s contribution to provident Fund, overtime wages, etc., are the examples. Indirect Expenses are the expenses which cannot be allocated but which can be apportioned to, or absorbed by,cost centres or cost units. Factory rent, lighting, heating, depreciation, insurance, other factory expenses, alladministrations, selling, and distribution expenses fall under this group.Overhead is divided according to functions into: i) Production or Manufacturing Overhead; ii) Administration Overhead; iii) Selling Overhead; iv) Distribution OverheadProduction Overhead It includes all overheads incurred from the stage of procurements of materials till the completion of themanufacture and the primary packing of the product. 1. Rent, municipal taxes, depreciation, insurance, etc., of the factory land and building. 2. Depreciation insurance etc. of the factory plant, machines and equipments. 3. Factory lighting, heating and air conditioning; 4. Fuel and power; 5. Consumable stores, small tools, etc,; 6. Indirect materials, such as cotton waste, lubricating oil, brushes etc.; 7. Repairs of factory building, plant, machines and equipments. 8. Store-keeping expenses; 9. Cost of idle time, overtime, holiday pay etc. 10. Salary of foremen, timekeepers, works manager etc.; 11. Repairs and maintenance of Power house; 12. Other expenses, e.g., Worker’s training and welfare, Inspection, Research and Development, Factory telephone and Stationary etc.Classification According to Behaviour BSPATIL 49
  • 50. Fixed Overheads Fixed overheads is one which tends to be unaffected by variation in volume of output. This overhead remainsconstant, i.e., does not change with the increase or decrease in production, within a certain range. The fixed overheadsare related to the periods, and so the fixed costs are also known as Period Costs, e.g., the rent of the building or thesalaries of the office staff.Variable Overheads The variable overhead is one which tends to vary directly with volume of output. The variable cost increases indirect proportion with the increase in production, and decrease in production. It is known as Direct cost. Salesman’s Commission; Discounts to customers; Bad debts; Branch expenses; Postage; Stationery; Travelling;Salesman’s expenses; Packing charges; Carriage outward; Variable expenses on delivery vans; etc. It means that a part of the expenses does not change while the other part of the same expense charges withvolume of output. Generally, on costs are truly fixed or truly variable.Classification According to Controllability The overheads can be classified on the basis of controllability into a) Controllable, and b) Un-controllable. The controllable cost is one which can be controlled, i.e., maintained or reduced. The variable costs fall underthis category. The un-controllable cost is one which cannot be influenced by the action of a specified member of theundertaking.Allocation of cost Allocation of cost means charging the full amount a cost to a cost centre, i.e. to the job, process, or to theproduct etc. The nature of the expense is such that it can easily be identified and allocated to the cost centre or to the costunit of production.Apportionment of cost Where the expense is a common one and it is to be allotted to different cost centres proportionately on anappropriate basis, it is known as ‘apportionment’. For example, rent of the factory is an expense which cannot beallocated to any one department, but is to be shared by all the production departments and service department, onsuitable basis, e.g., floor area basis.Absorption of Overhead With the help of allocation and apportionment, the different production departments get their due share of thetotal production overheads. After that, the process of absorption starts. The overheads of a particular department are tobe allotted to the production units of the department. This allotment to the unity is absorption.Ability to Pay Principle, Efficiency or Incentive principle: Overheads is to recover or absorb the overheads in the cost of products, individual jobs, processes, batches, orother convenient units. The overheads falling to the share of a department through the process of allocation orapportionment, is to be absorbed by the cost units of that department. This is known as ‘Absorption of overheads’.Problem 1 BSPATIL 50
  • 51. The New Enterprises Ltd., has three Production Departments A,B,C and two Service Departments D and E. Thefollowing figures are extracted from the records of the company: Rs. Rent and rates 5,000 General lighting 600 Indirect Wages 1,500 Power 1,500 Depreciation of Machinery 10,000 Sundries 10,000The following further details are available: Total A B C D E Floor Space 10,000 2,000 2,500 3,000 2,000 500 (Sq. ft) Light points 60 10 15 20 10 5 Direct 10,000 3,000 2,000 3,000 1,500 500 Wages (Rs.) H.P. of 150 60 30 50 10 - Machines Value of 2,50,000 60,000 80,000 1,00,000 5,000 5,000 Machinery (Rs.) Working - 6,226 4,028 4,066 - - HoursThe expenses of D and E are allocated as follows: A B C D E D 20% 30% 40% - 10% E 40% 20% 30% 10% -What is the total cost of an article if its raw material cost is Rs. 50, labour cost Rs. 30 and its passes throughDepartments A,B and C for 4,5 and 3 hours respectively?SolutionStatement of Allocation and Apportionment of Overhead: Total Production Service Rate of Appointment Rs. A B C D E Direct Wages 2000 - - - 1500 500 Actual Rent & Rates 5000 1000 1250 1500 1000 250 Re. 0.5 per sq.ft. General 600 100 150 200 100 50 Rs. 10 per Lighting Point Indirect Wages 1500 450 300 450 225 75 Rs. 0.15 per Re. of Direct wages Power 1500 600 300 500 100 - Rs. Per H.P. Depreciation 10000 2400 3200 4000 200 200 4% of value of machinery BSPATIL 51
  • 52. Sundries 10000 3000 2000 3000 1500 500 100% of Direct Wages 30600 7550 7200 9650 4625 1575 Service Dept. - 966 1449 1933 -4831 483 D 30600 8516 8649 11583 -206 2058 Service Dept. - 823 412 617 206 -2058 D 30600 9339 9061 1220 - - Working hours - 6226 4028 4066 - - Rate per hours - 150 225 300 - - Ascertainment of cost of an article Rs. Material 50.00 Labour Cost 30.00 80.00 Overhead cost Dept. A, 4 hrs @ 1.50 = 6.00 Dept. B, 5 hrs @ 2.25 = 11.25 Dept. C, 3 hrs @ 3.00 = 9.00 26.50 Rs. 106.25Note: Sundry expenses are apportioned on the basis of direct wages.Problem 2You are supplied with the following information and required to work out the production hour rate of recovery ofoverhead in Department A,B, and C. Production Departments Service Departments Total A B C P Q Particulars: Rs. Rs. Rs. Rs. Rs. Rs. Rent 12000 2400 4800 2000 2000 800 Electricity 4000 800 2000 500 400 300 Indirect 6000 1200 2000 1000 800 1000 Labour Depreciation 5000 2500 1600 200 500 200 of Machinery Sundries 4500 910 2143 847 300 300 Estimated 1000 2500 1400 working hrs. Expenses of Service Departments P and Q are apportioned as under: A B C P Q P 30% 40% 20% - 10% Q 10% 20% 50% 20% - BSPATIL 52
  • 53. Solution a) Repeat Distribution MethodOverhead Distribution Summary for the period…………… Total A B C P Q Particulars: Rs. Rs. Rs. Rs. Rs. Rs. Rent 12000 2400 4800 2000 2000 800 Electricity 4000 800 2000 500 400 300 Indirect Labour 6000 1200 2000 1000 800 1000 Depreciation of 5000 2500 1600 200 500 200 Machinery Sundries 4500 910 2143 847 300 300 Total Rs. 31500 7810 12543 4547 4000 2600 Department P 1200 1600 800 -4000 400 9010 14143 5347 - 3000 Department Q 300 600 1500 600 -3000 9310 14743 6847 600 - Department P 180 240 120 -600 60 9490 14983 6967 - 60 Department Q 6 12 30 12 -60 9496 14995 6997 12 - Department P 4 5 3 -12 - Total Rs. 31500 9500 15000 7000 - - Working Hours 1000 2500 1400 Rate per Hour 9.50 6.00 5.00 b) Equation Method (alternative method)Let x be the expenses of Service Department P; and y be the expenses of Service Department Q.Then x = 4000 + 1/5y (since 20% of y well be apportioned to Department P) ; and y = 2600 + 1/10x = 2600 + 1/10 (4000 + 1/5y), substituting the value of x: = 2600 + 400 + 1/50y = 3000 + 1/50y 50y = 150000 + y 49y = 150000 y = 3061 x = 4000 + 1/5 x 3061 = 4,612Overheads Distribution Summary Production Departments Service Departments A B C P Q Rs. Rs. Rs. Rs. Rs. Total as given above 7,810 12,543 4,547 4,000 2,600 Expenses of Dept. P 1,384 1,845 922 -4,612 461 (Rs. 4,612) Expenses of Dept Q 306 612 1,531 612 -3.061 BSPATIL 53
  • 54. (Rs. 3,061) Rs. 9,500 15,000 7,000 - - No. of working hours 1,000 2,500 1,400 Rate per hour 9.50 6.00 5.00Problem 3The following information are available for Production departments A,B, & C the Service the Dept D & E. Particular Production Dept Service Dept Total A B C D E Rent 1000 200 400 150 150 100 E.B 200 50 80 30 20 20 Fire Ins 400 80 160 60 60 40 Plant Dept 4000 1000 1500 1000 300 200 Transport 400 50 50 50 100 150The expenses of services dept D & E are apportioned as under A B C D E D 30% 40% 20% - 10% E 10% 20% 50% 20% - Apportion the expenses of service dept to production dept by 1) Repeated Distribution Method 2) Simultaneous Equation MethodSolution REPEATED DISTRIBUTION METHODOver Head Analysis Sheet Production Departments Service Departments A B C P Q Rs. Rs. Rs. Rs. Rs. Rent 200 400 150 150 100 E.B. 50 80 30 20 20 Fire, Insur 80 160 60 60 40 Plant Dept. 1000 1500 1000 300 200 Transport 50 50 50 150 100 Total Exp. 1380 2190 1290 630 510 Service Dept. D% 189 252 126 630 63 1569 2442 1416 - 573 Service Dept E% 57 115 286 115 573 Service Dept E% 35 46 23 115 11 Service Dept D% 1 2 6 2 11 Service Dept D% 1 1 - 2 - Total 1663 2606 1731 - BSPATIL 54
  • 55. BY SIMULTANEOUS EQUATION METHOD Total A B C D E Total 1380 2190 1290 630 510 D% 30% 40% 20% - 10% E% 10% 20% 50% 20% -Let x be the total exp of D to be apportionedLet y be the total exp of E to be apportioned x = 0.2y + 630 (1) y = 0.1x + 510 (2)Substituting the value of x in (2) y = 0.1 (0.2y 630) + 51 = 0.02y 63 + 510 0.98 y = 573 Therefore y = 585 Therefore x = 747 A B C 1380 2130 1290 Service Dept D 30% : 224 299 149 40% : 20%(of 747) Service Dept E (1:2:5 of 58 117 293 585) Total 1662 2606 1732Problem 4 Superfine Ltd. has furnished the following particulars for the half year ended March 31, 1982. Compute thedeprs O/H rates. For the each of the productions department assuming that the O/H charges are recovered as a % ofdirect wages. Particular Production Dept. Service Dept. A B C D E Direct Wages 4000 6000 8000 2000 4000 Direct Material 2000 4000 4000 3000 3000 No. of Employee 100 150 150 50 50 EB KWH 8000 6000 4000 2000 2000 Light point 10 16 4 6 4 Assert value 120000 80000 60000 20000 20000 Area occupied (sq. 150 250 100 50 50 meters)Over Head expenses for the above period BSPATIL 55
  • 56. Motive Power 3300 Lighting 400 Stores exp 800 Staff welfare 4800 Deprecation 30000 Repair 15000 Rent & Rates 1200 General exp 12000 Apportion the expenses of service dept D in proportion to the direct wages & that of E in the ratio 5:3:2 toproduction dept A,B,CSolutionOVER HEAD DISTRIBUTION SUMMARY Particular A B C D E Direct Material - - - 3000 3000 Wages 2000 4000 Power 4:3:2:1:1 1200 900 600 300 300 Lighting 5:8:2:3:2 100 160 40 60 40 Stores exp. 100 200 200 150 150 2:4:4:3:3 (Material) Staff 2:3:3:1:1 360 1440 1440 480 480 Deprec. 6:4:3:1:1 12000 8000 6000 2000 2000 Rent & rates 300 500 200 100 100 3:5:2:1:1 Repairs (assert 6000 4000 3000 1000 1000 ratio) General exp. (staff 2400 3600 3600 1200 1200 ratio) Total 23060 18800 15080 10290 2270 Abortionment of 2287 3430 4573 - - Ser. dept D in the ratio of wages Abortion of E in the 6335 3681 2454 - - ratio 5:3:2 Total 31702 25811 21907 - - Over Head Recovery (as per the rate wages) Dept A = (3170.2/4000) x 100 = 792.55% Dept B = (2581.1/6000) x 100 = 430.2% Dept C = (2190.7/8000) x 100 = 272.8% BSPATIL 56
  • 57. Absorption of overhead cost Absorption means allotment of overhead cost of jobs i.e., with a view to charging the same amount of overheadsin respect of the departments of cost centre where it is spent.Methods of Absorptions There are various methods of absorptions, some of which generally used are given below: a) Direct Labour Cost Method. b) Direct Labour Hours Method c) Machine Hour Rate d) Prime Cost Method e) Conversion Cost MethodMachine Hour Rate MethodThis Method is applicable where work is carried on mostly by the machines because the overheads in such a case aremore related to the machines. The factory overheads of the factory are ppportioned to the different machines or group ofmachines. An individual machine is treated to be a cost centre, and sometimes a group of machines which work togetherin Co-operation is treated to be a cost centre fro the purpose of apportionment. The working hours of a machine arecalculated for the period for which the machine is to run. Machine hour rate is scientific, practical and accurate. It helpsin finding out idle machines cost and also in decision making.Problem 5Workout the machine hour rate for the following machine, whose scrap value is nil: 1. Cost of Machine Rs. 90,000 2. Other charges e.g. freight and installation Rs. 10,000 3. Working life 10 years 4. Working hours 2,000 per year 5. Repair charges 50% of Depreciation 6. Power – 10 units per hour, @ 10 paise per unit 7. Lubricating oil @ Rs. 2 per day of 8 hours. 8. Consumable stores @ Rs. 10 per day of 8 hours 9. Wages of operator @ Rs. 4 per day. BSPATIL 57
  • 58. SolutionComputation of Machine Hour RateMachine No…….. Standing Charges Per day Per hour Rs. Rs. Lubricating Oil 2 Wages 4 Consumable Stores 10 16 Hourly rate (16+8) 2.00Machine Expenses Depreciation – cost Rs. 1,00,000 Yearly depreciation 10,000 Hourly depreciation 10000 + 2000 5.00 Repairs 50% of depreciation 2.50 Power 10 units @ 10 paise per unit 1.00 Machine hour rate (Comprehensive) 10.50Problem 6Compute from the following information relating to machine No. 18, machine hour rate Rs. Cost of machine 11,000 Scrap value 680 Repairs for the effective working life 1,500 Standing charges for 4 weekly period 1,600 Effective working life 10,000 hours Power used 6 units @ 5 paise per unit Hours worked in 4 weekly period 120 hours. No. of machines in the workshop is 40, of which each bears equal charges.Solution Computation of Machine Hour RateMachine No. 18 Per hour Rs. Standing charges 1600 /(40x120) 33 Machine Expenses Depreciation – cost 11,000 Less-scrap value - 680 Value to be written off Rs. 10,320 Hourly rate = 10,320 + 10,000 1.03 Repairs Rs. 1,500 for entire life Hourly rate 1500 + 10,000 15 Power consumed 6 units @ 5 paise per unit 30 Machine Hour Rate 1.81 BSPATIL 58
  • 59. Problem 7Calculate the machine hour rate from the following: Rs. Cost of Machine 8,000 Cost of Installation 2,000 Scrap value after 10 years 2,000 Rates and rent for a quarter for the shop 300 General lighting 20 p.m. Shop supervisor’s salary 600 p.a. quarter Insurance premium for a machine 60 p.a. Estimate repair 100 p.a. Power 2 units per hour @ Rs. 5 per 100 units Estimated working hour p.a. 2,000 The machine occupier 1/4th of the total area of the shop. The supervisor is expected to devote 1.6 th of his time forsupervising the machine, General lighting expenses are to be apportioned on the basis of floor area.SolutionComputation of Machine Hour RateMachine No: Per year Per hour Standing Charges: Rs. Re. Rent and Rates 1/4th 300 General lighting as per floor area 60 Supervisor’s Salary 1/6th 400 Insurance premium 60 Total yearly Standing charges 820 Hourly rate 820 + 2,000 0.40 Machine expenses Depreciation Cost 8,000 Installation 2,000 Total 10,000 Less Scrap value 2,000 Amount to be written off Rs. 8,000 0.40 Repairs etc. 0.05 Power 2 units @ 5 paise per unit 0.10 Machine Hour Rate 0.96 BSPATIL 59
  • 60. Problem 8Calculate the machine hour rate, for the machine No. 45 from the following particulars: Rs. Cost of Machine 10,000 Estimated scrap value 250 Estimated working life 15,000 hours Hours required for maintenance 200 hours Productive working hours p.a. 2,000 hours Setting up time 5% Power 20 units @ 7 paise per unit Cost of repairs p.a. 1,500 No. of operators looking after 4 machines 2 Wages of operator p.m. 150 Chemical required p.m. 100 Overheads chargeable to this machine 200 p.m. Insurance premium 1% p.a.Solution Calculation of Machine Hour Rate Machine No. 45 Per hour Rs. Rs. Yearly Standing Charges Overheads Rs. 200 x 12 = 2,400 Insurance 1% of 10,000 = 100 Wages (2 x 150 x 12) / 4 = 900 Total 3,400 Effective working hours in a year 1,900 Therefore 3,400 1.79 1,900 Machine Expenses Depreciation Rs. (10,000 – 250) / 15,000 0.65 Repairs Rs. 1,500 + 1,9000.79 Chemicals Rs. (100 x 12) / 1900 0.63 Power 7 paise x 20 units 1.40 1.40 Machine hour rate 5.26Note: It has been presumed that the hours required for maintenance have already been adjusted in the total yearly hours.Secondly 5% time needed in setting up, has been considered as productive, and hence has been adjusted accordingly i.e.as normal loss in terms of hours for it has already caused in increase in machine hour rate. Also it is presumed that nopower is used in setting up operations.Problem 9Compute comprehensive machine hour rate from the following data: (a) Total of machine to be depreciated – Rs. 2,30,000 Life – 10 years; Depreciation on straight line. (b) Departmental overheads (annual): Rent – 50,000; Heat and light – 20,000 ; supervision 1,30,000. (c) Departmental Area 70,000 sq. metres. Machine Area 2,500 sq. metres. (d) 26 machines in the department. (e) Annual cost of reserve equipment for the machine Rs. 1,500. BSPATIL 60
  • 61. (f) Hours run on production 1800 (g) Hours for setting and adjusting 200 (h) Power cost Rs. 0.50 per hour of running time. (i) Labour (1) when setting and adjusting, full time attention (2) when machine is producing, one man can look after 3 machine (j) Labour rate Rs. 6 per hour.Using the machine hour rate as calculated value work out the amount of factory overhead to be absorbed on thefollowing: Total hours Production time Setting up time hrs Job No. 605 100 80 20 Job. No. 595 100 80 30SolutionComputation of comprehensive machine hour rate Standing charges Rent, heat and light (70,000 x 2,500) / 70,000 2500 Supervision (1,30,000 ) / 26 5,000 Depreciation 10% of Rs. 2,30,000 23,000 Reserve equipment cost (1500/26) 58 Labour cost during setting and adjustment 200 hrs @ Rs. 6 = (1,200 / 31,758) Hourly Rate for standing charges 31,758 / 1800 17.64 Machine charges Power 0.50 Labour (1/3 of Rs. 6) 2.00 Comprehensive machine hour rate 20.14 If the machine hour rate over the various jobs will be: Job No. 605 = 20.14 x 80 = 1,611.20 Job No. 595 = 20.14 x 70 = 1,409.80User and over absorption of overhead The amount of overhead absorbed in costs is sum total of overhead cost allotted to individual cost units byapplication of overhead rates under the actual rate method, overhead cost are fully charged to production so thatoverhead absorbed in equal to overhead incurred.Pre-determined overhead rate is calculated on the basis of budgeted overheads and this is applied to actual base. Theamount absorbed may not be identical with the amount of overheads incurred it is called under absorption and in reversecondition it is called over absorption. This may happen due to error in esteeming expenses, error in estimating the base,major changes in methods of production and seasonal fluctuation of overhead. BSPATIL 61
  • 62. Lesson – 5 JOB COSTING & BATCH COSTING Job Costing is the method of costing used to determine the cost of non-standard jobs carried out according tocustomers’ specifications. In this method is also known are separately indentified and are coasted individually. Jobcosting is applicable to job printers, engineers, furniture makers, builders, contractors, hardware and machinemanufacturing industries, repairing shops, etc. The Costing Department prepares job cost sheet (Fig. 2) for each job, containing the production order No., andother details relating to the job. Where a job requires several major operations or components, sub-cost sheet. The jobcost sheet is the document detailing the cost of the job under Direct material. Direct labour, Works overheads etc., It isnot prepared for a specific period but for a specific job. The cost of all the job in process are debited to the Work-in-Progress Control Account. On the completion of ajob, this account is credited and Finished Goods Control Account is debited with its cost. The difference between thecost and the price charged is the profit or the loss on the job. On the completion of a job Completion Report is submitted by the production shop to the planning Departmentwith a copy to Costing Department. This report is an indication that further expenses on the job should cease and the jobcost sheet be closed.Problem 1 Find out in the suitable cost sheets form the selling rater per tone of special paper manufacturing by a paper millfor a private firm a January 1997 under the following divisions of cost: a. Prime Cost b. Works cost, c. Total cost, d. Selling priceThe cost sheet is to be prepared with reference to the data given below:Direct Materials Paper plup – 1,000 tonnes @ Rs. 50 per tone. Other Miscellaneous Materials, 200 tonnes at Rs. 30 per tone.Direct Labour 100 skilled men @ Rs. 5 per day for 20 days. 50 unskilled men @ Rs. 3 per day for 20 days.Direct Expenses Special equipment Rs. 5,000 Special dies Rs. 2,000Works Overhead Variable 10% on direct wages. Fixed 60% on direct wagesAdministrative overhead at 10% of works cost.Selling and distributive overhead at 15% of works cost.Profit 10% in total cost BSPATIL 62
  • 63. Finished paper manufactured 800 tonnesSale of waste paper Rs. 1,000There was not work in progress in the beginning or at the end of the month. The scarp value of special equipment is nilafter use. Work was done only for 20 days in the month. Selling price is to be worked to the nearest rupee.Solution:Cost-Sheet for Special Paper Rs. Rs. Direct material Paper pulp 1,000 tonnes @ Rs. 50 per tone 50,000 Other materials 200 tonnes @ Rs. 30 per tone 6,000 56,000 Direct Labour 100 skilled men at Rs. 5 for 20 days 10,000 50 unskilled man at Rs. 3 for 20 days 3,000 13,000 Direct Expenses Special Equipment 5,000 Special dies 2,000 7,000 Prime Cost 76,000 Works overhead Variable 100% of direct labour 13,000 Fixed 60% of direct labour 7,800 20,800 96,800 Less : sale of waste 1,000 Works cost 95,800 Office Overhead Administrative 10% of works cost 9,580 Selling and distributive 15% of works cost 14,370 23,950 Total Cost 1,19,750 Profit 10% 11,975 Selling Price @ Rs. 164.65 or Rs. 165 for 800 1,31,725 TonnesProblem 2 The information give below has been taken from the costing record of an Engineering Works in respect of JobNo. 303.Materials Rs. 4,010Wages:Dept. A – 60 hours @ Rs. 3 per hour B – 40 hours @ Rs. 2 per hour C – 20 hours @ Rs. 5 per hourOverhead expenses for these three departments were estimated as follows: Variable overheads: Dept. A – Rs. 5,000 for 5,000 labour hours B – Rs. 3,000 for 1,500 labour hours C - Rs. 2,000 for 500 labour hours BSPATIL 63
  • 64. Fixed overheads: Estimated at Rs. 20,000 for 10,000 normal working hours. You are required to calculate the cost of job 303 andcalculate the price to give profit of 25% on selling price.Solution Amount Amount Rs. Rs. Direct Materials 4,010 Wages – Dept. A 60 hrs. x Rs. 3 180 B 40 hrs. x Rs. 2 80 C 20 hrs. x Rs. 5 100 360 Overheads – variable Dept. A 60 x (Rs. 5000 / 5000 hrs.) 60 B 40 x (Rs. 3000 / 1500 hrs.) 80 C 20 x (Rs. 2,000 / 500 hrs.) 80 220 Fixed overheads: 120 hours @ (Rs. 20,000 / 10000 hrs) 240 Total cost 4,830 Profit 25% on selling price or 1/3 on Cost 1610 Price Selling Price 6440Advantages of job CostingJob Costing offers the following specific advantages:-  The cost material, labour, and overhead for every job or product in a department is available daily, weekly or as often as required while the job is still in progress. This enable the management to know the trend of the costs and this by the efficiency of operations.  On completion of a job, the cost under each element is immediately ascertained. Cost may be compared with the selling prices of he products in order to determine their profitability and to decide which product lines should be pushed or discontinued or whether prices or price quotation could be revised. The application of marginal costing techniques may be useful in such situations.  Historical costs for past periods for each product, compiled by orders, departments, or machines, provide useful statistics for future production planning and for estimating the costs of similar jobs to be taken up in future. This assists in the prompt furnishing of price quotations for specific jobs.  The adoption of predetermined overhead rates in job costing necessitates the application of a system of budgetary control of overhead with all its advantages.  The actual overhead costs are compared with the overhead applied at predetermined rates; thus at the end of an accounting period, overhead variances can be analyzed.  Spoilage and defective work can be easily identified with specific jobs or products so that responsibility may be fixed on determents or individuals.  Job costing is particularly suitable for cost-plus and such other contracts where selling price is determined directly on the basis of costs. BSPATIL 64
  • 65. Limitations of job costing: • Job costing is comparatively more expensive as more clerical work is involved in identifying each element of cost with specific departments and jobs. • With the increase in the clerical processes, chances of errors are enhanced. • The cost as ascertained, even where they are complied very promptly, are historical as they are compiled after incidence. • The cost compiled under job costing system represents the cost incurred under actual conditions of operation. The system does not have any scientific basis to indicate what the cost should be or should have been, unless standards of performance efficiency are established. Estimated cost, prepared by some concerns in respect of job orders, also do not serve the purpose. • If major economic changes take place, comparison of cost of a job for one period with that of another becomes meaningless. Distortion of cost also occurs when the batch quantities are different.BATCH COSTING Batch costing a modified from of job costing. While job costing is concerned with producing articles accordingto customer’s requirements and specifications, batch costing is used where the articles are manufactured in a goodnumber in definite batches. Component parts of watches, radio sets, television sets etc., are extensively produced underbatch costing, for being assembled in the product. If one component of a special design is ordered by a customer formanufacture, it is Batch costing, Batch costing, therefore, is also known a “Lot Costing”. A batch of workers is assigned to perform the task of producing a certain number of articles in a particularperiod. Thus the cost of production can be compared batch wise, and efficiency ascertained. Like job order system, onenumber is allotted to each batch. The material requisitions are prepared batch wise, labour is engaged batch wise, andthe overheads are also charged batch wise. This it is a modified form of job costing. The cost control in batch costing depends upon ascertainment of the optimum number of batch production. TheEconomic Batch Quantity can be decided on the same principle and same formula as applied to Economic OrderQuantity is case of materials. Cost comparison between the two batches is possible if both batches are allowed the same facilities, time toproduce, and the same number of articles. The comparison can be fruitfully done with the help of cost sheets of the twobatches.Problem 1 A joining factory has undertaken to supply 200 pieces of a component per month for the ensuing six months.Every month a batch order is opened against with material and labour hours are booked at actual. Overheads are leviedat a rate per labour hour. The selling price contracted for is Rs. 8 per piece. Form the following data present the cost andprofit per piece of each batch order and overall position of the order for 1200 pieces. Months Batch output Material cost Direct wages Direct labour hours Rs. Rs. January 210 650 120 240 February 200 640 140 280 March 220 680 150 280 April 180 630 140 270 May 200 700 150 300 June 220 720 160 320 BSPATIL 65
  • 66. The other Details are: Months Chargeable expenses Direct labour hours Rs. Rs. January 12,000 4,800 February 10,560 4,400 March 12,000 5,000 April 10,580 4,600 May 13,000 5,000 June 12,000 4,800Solution:COST SHEET Jan Feb. Mar. April May June Total Batch output 210 200 220 180 200 220 1230 Sales Value 1680 1600 1760 1440 1600 1760 9840 Rs. Material Cost 650 64 680 630 700 720 4020 Rs. Direct Wages 120 140 150 140 150 160 860 Rs. Chargeable 600 672 672 621 780 800 4145 expenses Rs. Total Cost 1370 1452 1502 1391 1230 1680 9025 Rs. Profit per 310 148 258 49 -30 80 815 Batch Rs. Total Cost 6.52 7.26 6.83 7.73 8.15 7.64 7.34 per unit Rs. Profit per 1.48 0.74 1.17 0.27 -0.15 0.36 0.66 unit Rs.Over all position of the order for 1,200 units. Sales value of 1,200 units @ 8/- per units. Rs. 9,600 Total cost of 1,200 units @ 7.34 per unit Rs. 8,808 _______________ Profit Rs. 792 BSPATIL 66
  • 67. Lesson – 6 CONTRACT COSTING Contract is an agreement enforceable by law. It is an agreement between two parties – Contractor and theContractee. The contractor agrees to undertake and complete the work, as per terms of contract, within a specific periodand for a particular monetary consideration. The terms of contract regarding work to be undertaken, period in which tobe completed, value of the contract advances to be made by the Contractee to the contractor on the certificate ofarchitect, compensation payable by the contractor for the breach of contract, etc., are decided upon between the twoparties before the work is started. These contracts related to the works of construction of roads, buildings, bridges, damsand banks, ports, etc, Contract costing is the technique of ascertaining cost of a contract. Here the unit of cost is one only, e.g., abuilding, or a bridge etc. it is similar to job in principle, and so the method of recording cost is the same. A ContractLedger book is kept in which a separate account for each contract is opened. The following items appear on the debit side of the Contract A/c: 1. Direct Materials 2. Direct Labour 3. Direct Expenses 4. Overheads 5. Plant and Machinery 6. Sub-Contract Cost 7. Extra Work doneThe following items appear on the credit side of the Contract A/c: 1. Materials Returned 2. Materials Transferred 3. Materials at the end 4. Plant and Tools at the end 5. Work Certified 6. Work done but Uncertified 7. Contract PriceWork Certified As per terms of the contract, the contractee advances some 80 or 90 percent of he work done to the contractor onthe basis of the work certified by the contractee’s architect or engineer periodically. The balance of 20 or 10 percentamount is retained by the contractee, so that the contractor may continue to work and not leave the contract if thecontract is not proving to be profitable one to him. The amount retained is known as ‘Retention of Money’.Work done but not yet Certified A work done by the contractor but which remains to be certified by the architect on the date of accounting isknown as work done but not yet certified.Contract Price The contract price is the value of contract agreed to be paid to the contractor by the contractee on thesatisfactory completion of the contract. So on the completion of the Contract the Contract A/c is credited with thecontract price and ‘Contractee’s A/c’ is debited.Cost – plus – contract Where a contractor feels hesitant to quote for a work of contract which is absolutely new to him, and new toother contractors as well, and he is unable to estimate the cost of the works offered to him for execution. It is decidedwith the contract or that he would be paid the total cost of work whatever it be, plus his profit as a rate percent on thetotal cost. Such s contract is known as ‘Cost – plus – Contract’. BSPATIL 67
  • 68. Ascertainment of Profit/Loss on Contract The Profit/Loss on contract is ascertained as follows: a) On completion of Contract: The excesses of credit over the debit items of the contract a/c is the profit, and the whole of it can be taken into account. The excess of debit over the credit items is loss. b) On incomplete Contract: Where a contract takes more one financial year for in to complete, it is usual to take into account a part of the profit only to the Profit and Loss Account. If there is a loss, the whole of the loss is transferred to the P & L A/c.What part of the notional profit should be credited to the profit and loss account each year, depends on the practice andcircumstances of the case. The general rules are: a) If the value of certified work is less than 1/4th of the contract price, no profit is taken into account, and the balance of the contract a/c is transferred to the Work-in-Progress A/c. b) If the certified work is 1/4th or more than 1/4th, but less then ½ of the contract price, only 1/3 of the computed profit as reduced to the cash basis (cash received on work certified), should be credited to the Profit and Loss Account. The formula is:Profit = Computed profit, i.e. Cr. Balance of contract a/c x 1/3 x (cash received / work certified)The balance of the computed profit is a reserve and is transferred to Work-in-Progress A/c. c) If the value of certified work is ½ or more than ½ of the contract value, 2/3 of the computed profit as reduced to the cash basis is credited to P & L A/c.Problem 1(Where more than ½ contract is complete)Building Contractors Ltd., undertake contracts. On 31st October, 1993 when the actual accounts were prepared, thepositions of Contract No. 101 which was commenced on 1st January, 1993, was as under: Rs. Material purchased 37,500 Material in hand 1,500 Wage Paid 43,750 Wage outstanding 625 Proportionate share of indirect expenses 1,875 Cost of plant 6,250The value of work certified was Rs. 90,000 of which Rs. 67,500 had been received, work completed but uncertified wasvalued at Rs. 2,500.The Contract price was Rs. 1,50,000.The plant on the site was valued at Rs. 5,000 on 31st October, 1993.Prepare Contract No. 101 account after taking credit for Profit which you think reasonable. BSPATIL 68
  • 69. Solution:Contract 101 Account Rs. Rs. To Materials Purchased 37,500 By work-in-Progress Account: To Wages 43,750 Work certified 90,000 To Plant 6,750 Work done but Uncertified 92,500 2,500 To Proportionate share of 1,875 indirect expenses To Outstanding Wages 625 By Material at site 1,500 To Balance c/d 9,000 By Plant at site (dep. Value) 5,000 Total 99,000 Total 99,000 To Profit and Loss A/c 4,500 By Balance c/d 9,000 To Work-in-Progress 4,500 Account Total 9,000 Total 9,000* Profit has been ascertained as follows: Rs. 9,000 x 2/3 x 67,500 / 90,000 – Rs. 4,500.vi) if the contract work has sufficiently advanced, or the contract is almost complete, the profit is ascertained as follows: The expenses of the part of the contract remaining to be executed are estimated, and added to the expensesalready incurred, to give an idea of the total cost of the full contract. On deducting the estimated total cost from thecontract price, we get the notional or the computed profit. Of this computed profit only that part is credited to P & L A/cas is reduced by the proportion of. (i) ‘Work credited’ to ‘Contract Price’ or more conservatively. (ii) ‘Cash received’ to ‘Contract Price’ so: i. Profit = Estimated Profit on completed contract x Work certified / Contract Price ii. Profit = Estimated Profit on completed contract x Cash Received / Contract Price.An Estimated Contract A/c or Estimated Contract Statement is required to be prepared to find out the estimated cost ofthe full contract and to find out the national profit for the purpose of calculating the Profit to be credited to the Profit andLoss Account in the main Contract A/c.Work-in-progress and Balance Sheet The Work-in-progress A/c is debited with the sums (i) Work certified (valued at contract price), and (ii) Work done but not yet certified (valued at cost).This account is credited with the balance of the notional profit not taken to the Profit and Loss Account.This account shows debit balance which is taken to the Balance Sheet on the Asset side. The Contractee’s A/c whichshows credit balance on account of cash received in advance, is not shown on the Liability side of the Balance Sheet butis shown as a deduction from the Work-in-Progress A/c on the Asset side of the Balance Sheet. BSPATIL 69
  • 70. Problem 2 The following information relate to Contract No. 123. You are required to prepare the Contract Account and theContractee’s Account assuming that the amount due from the contractee was duly received. Rs. Direct Material 20,250 Direct Wages 15,500 Stores Issued 10,500 Loose Tools 2,400 Tractor Expenses: Running Material 2,300 Wages of Drivers 3,000 5,300 Other Direct Charges 2,650The contract price was Rs. 90,000 and the contract took 13 weeks in its completion. The values of Loose Tools andStores returned at the end of the period were Rs. 200 and 3,000 respectively. The plant was also returned at a value ofRs. 16,000 after charging depreciation at 20%. The value of tractor was Rs. 20,000 and depreciation was to be chargedto the contract @ 15% per annum. The Administration and office expenses are to be provided at 10% on works cost.Solution:Contract 123 Account Particulars Amount Particular Amount Rs. Rs. To Direct Materials 20,250 By Stores Returned 3,000 To Direct Wages 15,500 By Loose tolls returned 200 To Stores Issued 10,500 By Plant Returned 16,000 To Plant (original cost) 20,000 By Balance being 58,150 To Loose Tools 2,400 Work Cost A/c To tractor expenses: Running Materials 2,300 Wages of drivers 3,000 5,300 To Depreciation on Tractor 750 @ 15% on Rs. 20,000 for 13 weeks To other Direct Charges 2,650 Total 77,350 Total 77,350 To Balance being work cost 58,150 By Contractee’s A/c 90,000 b/d To Administration and office expenses @ 10% on works cost To profit & Loss A/c 26,035 Total 90,000 Total 90,000Contractee’s Account Rs. Rs. To Contract A/c 90,000 By Bank 90,000 Total 90,000 Total 90,000The plant was depreciated @ 20% (not @ 20% annum). The depreciated value is Rs. 16,000. So the original cost of theplant comes to Rs. 20,000. BSPATIL 70
  • 71. PROFIT ON INCOMPLETE CONTRACTSProblems 3A firm of building contractors began to trade on 1st April, 1990. The following was the expenditure on the contract forRs. 30,00,000: Rs.Materials issued to contract 51,000Plant used for contract 15,000Wages incurred 81,000Other Expenses incurred 5,000Cash received on account to 31st March, 1991 amounted to Rs. 1,28,000 being 80% of the work certified. Of the plantand materials which cost Rs. 2,500 were lost. On 31st March, 1991 plant which cost Rs. 3,000 and materials which costRs. 2,000 was returned to stores, the cost of work done but uncertified was Rs. 1,000 and materials costing Rs. 2,300were in hand on site. Charge 15% depreciation on plant, reserve ½ profit received and prepare a Contract Account fromthe above particulars.Solution: Contract Account Dr. Cr. Particulars Amount Particulars Amount Rs. Rs. To materials 51,000 By Profit & Loss a/c To Wages 81,000 Plant Lost 3,000 To Plant 15,000 Material 2,500 5,500 To Other expenses 5,000 By Plant returned 2,000 to store To Profit to date 27,000 Less: Dep 300 17,00 By plant at site 10,000 Less: Dep 1,500 8,500 By Material at site 2,300 By Work-in-Progress A/c: Work certified 1,60,000 Work done but 1,000 1,61,000 uncertified Total 1,79,000 Total 1,79,000 To Profit & Loss A/c (½ of 10,800 By Profit to date b/d 27,000 profit recd.) To Work in Progress: Reserve (½ of 10,800 profit recd.) Balance (20% of 5,400 16,200 Rs. 27,000) Total 27,000 Total 27,000 BSPATIL 71
  • 72. Notes: 1. Ascertainment of Profit: Profit to date 27,000 Profit received 4/5 (in the ratio of cash received to work certified) 21,600 Reserved ½ of profit received 10,800 Transferred ½ of profit received to Profit & Loss Account 10,800 Balance ( 27,000 – 21,000) i.e. 20% of 27,000 5,400 2. The value of the plant on 31st March, 1991 has been ascertained as follows: Original Value Dep. Net Value Rs. Rs. Rs. Plant Lost 3,000 - - Plant returned to 2,000 300 1,700 store Plant at site 10,000 1,500 8,500 15,000 1,800 10,200 BSPATIL 72
  • 73. Lesson – 7 PROCESS COSTING Process costing is the type of costing applied in industries where there is continuous or mass production. Thenecessity for compilation of the costs of a process or a department for a given period, as distinct from the cost of a wholejob or a specific batch of production units, has given rise to the concept of process cost accounting. There are manyindustries engaged in continuous processing in which the end products are the results of a number of operationsperformed in sequence. In such industries, it is necessary to apply process costing. Process costing is suitable for a large number of mining, manufacturing and public utility industries like minesand quarries, cotton, wool and jute textiles, chemicals, soap making, paper, plastics, distillation processes, e.g. alcohol,tanning, oil refining, screws, bolts and rivets, canning, food products, dairy, and electricity and gas undertakings.Features of Process Costing:- 1. The production is continuous and the end product is the result of a sequence of processes. 2. The product is homogeneous and the units product are identical and standardized. 3. The sequence of operations for processing the product is specific and predetermined. 4. The finished products of one process works as raw material for the next or process until completion.Process Costing and Job Costing:- A comparison of the basic principles of process costing with those of job costing, given below, will assist inappreciating process costing procedures. Job Costing Process Costing 1. Production is by specify orders 1. Production is in continuous flow, the products being homogeneous. 2. Costs are determined by jobs or 2. Cost are compiled on time basis, i.e. batches of products for production for a given accounting period, for each process or departments. 3. The various jobs are separate and 3. Being manufactured in a continuous independent of each other. flow, products lose their individual entity. 4. Unit cost of a job is calculated by 4. The unit cost of a process, which is dividing the total cost incurred into the computed by dividing the total cost for units produced in the lot or batch. the period (after adjustment of the opening and closing work-in-process), is an average cost for the period. 5. Costs are calculated when a job is 5. Costs are calculated at the end of the completed. cost period. 6. There may or may not be any work- 6. Production being continuous there is in-progress at the beginning or end of usually some work-in-process at the an accounting period. beginning as well as at the end of the accounting period. 7. There are usually no transfers from 7. As a product moves from one one job to another unless it is necessary process to another, transfers of cost BSPATIL 73
  • 74. to transfer surplus work or excess from process to process are made. production. 8. As such product unit is different and 8. Process production is standardized production is not continuous, more and is more stable. Hence, control of managerial attention is needed if process activities is comparatively proper control is to be exercised. easy.Advantages and Limitations of Process Costing:-Process costing has the following advantages: (i) Process cost may be determined periodically at short intervals. When predetermined overhead rates are in use, it may be possible to complete unit cost weekly or even daily. This not always so under the job costing system, particularly when jobs run for long periods and there are no significant units of completed production during the various accounting periods, falling between the total period of run of the jobs. (ii) It involves less efforts and less clerical expenses as the accounting method is simpler than that in job costing. (iii) Detailed cost, budgeted as well as actual, are made available for each possible by evaluating the performance of each process etc. (iv) Allocation of overhead to departments and processes can be made fairly accurately on definite bases. (v) Since the material consumption ass the various operations are more or less standardized, more accurate cost estimates are available for price quotations. (vi) It is easier to set effective and fairly stable standards in case of mass production or continuous repetitive production. Process costing situations are, therefore, more adaptable for installing standard costing procedures.The limitations and weaknesses of process costing systems are as follows:- (i) Being only average costs for the accounting period, process cost cannot be considered to be very accurate for the purpose of detailed analysis, evaluation, and control of individual performance efficiency on a day-to-day basis. (ii) Costs obtained at the end of the accounting period are only historical and are not of much use for effective control unless standard process cost are used. This is, no doubt, true in respect of all other historical systems but the nature of process accounting with its departmental divisions makes this disadvantage more prominent. (iii) When different products come out of one and the same process, the common costs are prorated to the various products. Such cost of individual products are not reliable as they may, at best, be taken to be only approximations. (iv) For the purpose of calculation of unit costs of continuous processes, work-in-process is required to be determined at the end of an accounting period. This is done mostly on estimated basis which introduces further inaccuracies in costs.Process Costing Procedures:-The procedure for costing applicable to processes or departments will very in details according to the requirements ofproduction methods. The various situations and problems envisaged and the methods of calculation of costs in respect ofeach of the situations have been discussed under the following heads: 1. Single process production 2. More than one process involved; output of one process transferred in full to the subsequent process. 3. Output of a process partly transferred to the next process and partly retained in stock. 4. Process consisting of opening and closing stock, fully completed. BSPATIL 74
  • 75. 5. Normal and abnormal losses occurring in process but there is no closing stock or the closing stock is fully complete. 6. Process consisting of partially completed closing stock. 7. Normal loss or abnormal loss involved-closing stock partially complete. 8. Process consisting of partially completed opening stock. 9. Normal and/or abnormal losses and both opening and closing work-in-processes.Problem 1: (Process accounts with Cost sheets) Am article has to undergo three different processes before it becomes ready for sale. From the followinginformation find out cost of production per unit of that article, if 200 units of article were manufactured upto 31stDecember, 1991. Manufacturing Refining Process Finishing Process Process Rs. Rs. Rs. Material 2000 1000 700 Labour 1500 2500 1000 Direct Expenses 400 200 300 The indirect expenses for the period amount to Rs. 6,000 in the factory out of which Rs. 2000 is attributable tothis product. There was no stock at the end in any process. The indirect expenses should be allocated to each process onthe basis of labour.Solution: Manufacturing Process A/c with Cost Sheet (Output : 200 units of article) Particulars Cost Amount Particulars Cost Amount per per unit unit Rs. Rs. Rs. Rs. To Material 10.00 2.00 By Transfer to 22.50 4500 Refining Process A/c To Labour 7.50 1500 To Direct Expenses 2.00 400 To Indirect 3.00 600 Expenses Total 22.50 4,500 Total 22.50 4500 BSPATIL 75
  • 76. Refining Process Account (Output : 200 units of articles) Particulars Cost Amount Particulars Cost Amount per per unit unit Rs. Rs. Rs. Rs. To Transfer from 22.50 4500 By Transfer of 46.00 9200 Manufacturing Finishing Process Process A/c A/c The cost per unit is Rs. 46.00 To Material 5.00 1000 To Labour 12.50 2500 To Direct Expenses 1.00 200 To Indirect 5.00 1000 Expenses Total 46.00 9200 Total 46.00 9200 Refining Process Account (Output : 200 units of articles) Particulars Cost Amount Particulars Cost Amount per per unit unit Rs. Rs. Rs. Rs. To Transfer from 46.00 9200 By Finished Stock 58.25 11650 Refining Process A/ A/c c To Material 46.00 9200 To Labour 3.75 750 To Direct Expenses 5.00 1000 To Indirect 1.50 300 Expenses Total 58.25 11,650 Total 58.25 11650 Note: The indirect Expenses of Rs. 2000 have been allocated to the three processes in the proportion of directlabour Rs. 3 : 5: 2 (Rs. 1500 : 2500 : 1000)Problem 2: (Treatment of Bye-product and Scrap)A particular brand of phenyl passed through three important processes. During the week ended 15 th January, 1952, 600gross of bottles are produced. The cost book show the following information: Process 1 Process 2 Process 3 Rs. Rs. Rs. Material 4000 2000 1500 Labour 3000 2500 2300 Direct Expenses 600 200 500 Cost of bottles Nil 2030 Nil Cost of corks Nil Nil Nil BSPATIL 76
  • 77. The indirect expenses for the period were Rs. 1600. The bye-products were sold for Rs. 240 (Process 2). The residuesold for Rs. 125.50 (Process 3).Prepare the account in respect of each process showing its cost and cost of production of the finished product per grossof bottles.Solution: Process 1 (Output 600 gross of bottles) Rs. Rs. To Materials 4000.00 By Transfer to Process No. 8215.38 2 (cost per gross of bottles Rs. 13.69 approximately) To Labour 3000.00 To Direct Expenses 600.00 To Indirect Expenses 615.38 Total 8215.38 Total 8215.38 Process 2 To Transfer from Process 8215.38 By Sale of Bye-Product 240.00 1 To Materials 2000.00 By Transfer to Process of 15218.20 bottles (cost per gross of bottles Rs. 25.36 approximately) To Labour 2500.00 To Direct Expenses 200.00 To Indirect Expenses 512.82 2030.00 Total 15458.20 Total 15458.20 Process 3 To Transfer from Process 15458.20 By Sale of residue 125.50 2 To Materials 1500.00 Bu Finished products 20189.50 account (Cost per gross of bottles Rs. 33.65) To Labour 2300.00 To Direct Expenses 500.00 To Indirect Expenses 471.80 To Cost of rocks 325.00 Total 20315.00 Total 20315.00 Note: Indirect Expenses have been charged to three processes in the labour ratio of 30 : 25 : 23Abnormal Loss and Abnormal Gain:- Abnormal spoilage or defective work may arise in a process due to unforeseen factors. The cost of suchabnormal loss is not included in the cost of the process but the average cost of the lost units is charged to an AbnormalLoss Account which is credited with the scrap and closed to the Profit and Loss Account. Thus, in computing the BSPATIL 77
  • 78. abnormal loss, scrap value of the abnormal lost units will be ignored but in working out the loss for charging to Profitand Loss Account, this will be taken into consideration. Sometimes, when the actual loss in a process is less than the anticipated loss, the difference between the two isconsidered to be abnormal gain. The value of the abnormal gain is calculated in the same way as described above forabnormal loss and is credited to an Abnormal Gain Account which is ultimately closed. Profit and Loss Account. Thescrap value of the normal anticipated loss in the process where abnormal gain occurs is credited to the process accountwith the result that the net debit to the process is the cost of abnormal gain less the value of scrap for the normal loss.Problem 3:(Normal wastage – Loss in weight and sale of scrap) The Bengal Chemical Co. Ltd., produced three chemicals during the months of July 1995 by three consecutiveprocesses. In each process 2 per cent of the total weight put in is lost and 10 percent is scrap which from process (1) and(2) realizes Rs. 100 a ton and form process (3) Rs. 20 a ton. The product of three processes is dealt with as follows: Process I Process II Process III Passed to next 75% 50% - process Stock kept for 25% 50% 100% sale Process I Process II Process III Rs. Tons Rs. Tons Rs. Tons Raw materials 120000 1000 28000 140 107840 1348 Manufacturing Wages 20500 - 18520 - 15000 - General Expenses 10300 - 7240 - 3100 - Prepare Process Cost Account, showing the cost per ton of each product.Solution: Process I Tons Rs. Tons Rs. To Raw Materials 1,000 1,20,000 By Loss of weight 20 - (2% of 1000 tons) To Manufacturing 20,500 By Sales of scrap 100 10,000 Wages (10% of 1000 tons) To General 10,300 By Transfer to 220 35,200 Expenses Warehouse By Transfer to 660 1,05,60 Process II (cost per ton Rs. 160) Total 1,000 1,50,800 1,000 1,50,800 BSPATIL 78
  • 79. Process II Tons Rs. Tons Rs. To Transfer from 660 1,05,600 Process I To Raw Materials 140 28,000 By Loss of weight 16 - (2% of 800 tons) To Manufacturing - 18,520 By Sales of scrap 80 8,000 Wages (10% of 800 tons) To General - 7240 By Transfer to 352 75,680 Expenses Warehouse By Transfer to 352 75,680 Process III (cost per ton Rs. 215) Total 800 1,59,360 800 159360Process III Tons Rs. Tons Rs. To Transfer from 352 75,680 Process II To Raw Materials 1,348 1,07,840 By Loss of weight 34 - (2% of 1700 tons) To Manufacturing - 15,000 By Sales of scrap 170 3,400 Wages (10% of 1700 tons) To General - 3,100 By Transfer to 1,496 198220 Expenses Warehouse By Transfer to 352 75,680 Process III (cost per ton Rs. 215) Total 1700 2,01,620 Total 1700 201620Problem 4:(Showing Process A/cs and Abnormal Wastage A/cs)The Imperial Manufacturing Company’s product passes through two distinct processes A and B and then to FinishedStock. It is known from past experience that wastage occurring in the process is as under: In process A 5% of the units entering the process. In process B 10% of the units entering the process. The Scrap Value of the wastage in Process A is Rs. 8 per 100 units and Process B is Rs. 100 units.The Process figures are: Process A Process B Rs. Rs. Materials consumed 3000 1500 Wages 3500 2000 Manufacturing expenses 1000 10005,000 units were brought into Process A costing Rs. 2500.The outputs were:Process A 4,700 UnitsProcess B 4,150 Units BSPATIL 79
  • 80. Prepare Process Cost Accounts showing the cost of the output. Also show abnormal Wastage Account.Solution:Process A Account Units Rs. Units Rs To Units introduced 5,000 2,500 By Normal wastage 250 20 To Material 3,000 By Abnormal 50 105* wastage To Wages 3,500 By Process B 4,700 9,875 To Mfg. Expense 1,000 5,000 10,000 5,000 10,000* The Value of abnormal wastage in Process A is calculated as follows:Normal output is 5,000 – 250 = 4,750 unitsNormal cost is 10,000 – 20 = Rs. 9,980Therefore, Normal cost of one unit is 9,980 / 4,750 = Rs. 2.10Therefore, Cost of 50 units of Abnormal wastage is 2.10 x 50 = Rs. 105.As the Abnormal wastage is sold for Rs. 4, therefore, the amount of loss to be transferred to Profit and Loss Accountshall be Rs. 105 – 4 = Rs. 101.Abnormal Wastage A/c (Process A) Units Rs. Units Rs To Process A 50 105 By sale of Scrap @ 50 4 Rs. 8 per 100 By P & L A/c Loss 101 transferred 50 105 50 105Process B Account Units Rs. Units Rs To Process A 4700 9875 By Normal Wastage 470 47 A/c To Materials 1500 By Abnormal 80 *271 wastage A/c To Wage 2000 By Finished Stock 4150 14057 A/c 4,700 17,375 4,700 14,375* The value of abnormal wastage in Process B is calculated as follows:The normal cost of 4230 units is Rs. 14328Therefore, Normal Cost of one unit = 14,328/4,230 = Rs. 3.39Therefore, the Cost of 80 units = Rs. 3.39 x 80 = Rs. 271The abnormal wastage will realize Rs. 8, therefore the loss transferable shall be Rs. 271 – 8 = Rs. 263.Abnormal Wastage A/c (Process B) BSPATIL 80
  • 81. Units Rs. Units Rs To Process B 80 271 By sale of Scrap @ 80 8 Rs. 10 per 100 By P & L A/c Loss 263 transferred 80 271 80 271Problem 5:From the following details extracted form the costing records of an oil mill for a year ended 31 st March, you are requiredto prepare the process cost account of (a) Groundnut Crushing Process; (b) Refining Process; and (c) Finishing Process including casking, and determine the cost per tone of each process and the total cost per tone of finished oil.Purchase of 5,000 tonnes of groundnut – Rs. 48,00,000 Crushing Plant Refining Plant Rs. Finishing Plant Rs. Rs. Wages 25,000 10,000 15,000 Power 6,000 3,600 2,400 Sundry Materials 1,400 20,000 - Repairs to Plant & 2,800 3,350 1,400 Machinery Steam 6,000 5,200 4,500 Factory 13,200 6,600 2,100 Overheads Cost o Casks - - 59,600 3000 tonnes of crude oil were produced; 2,500 tonnes of oil were produced by the refining process; and 2,480tonnes of refined oil were finished for delivery. Groundnut shells sold – Rs. 400; 1,750 tonnes of groundnut residue sold – Rs. 11,000; loss in weight in crushing– 250 tonnes; 450 tonnes of by-products obtained from Refining Process – Rs. 16,750.Solution:Groundnut Crushing Process Tonnes Rs. Tonne Rs. Groundnut 5000 4800000 Crude oil (C/o) 3000 4843000 Wages 25000 Groundnut 1750 11000 residue Power 6000 Groundnut 400 shells Sundry materials 1400 Process loss 250 - Repairs to Plant 2800 & Machinery Steam 6000 Factory 13200 overheads 5000 4854400 5000 4854400Cost per tone of crude oil = Rs. 1614.33 BSPATIL 81
  • 82. Refining Process Tonnes Rs. Tonne Rs. Crude oil (b/f) 3000 4843000 Refined oil (c/o) 2500 4875000 Wages 10000 By-products 450 16750 Power 3600 Process loss 50 - Sundry material 20000 Repairs to Plant 3350 & Machinery Steam 5200 Factory 6600 overheads 3000 4891750 3000 4891750Cost per tone of refined oil = Rs. 1950Finishing Process Tonnes Rs. Tonne Rs. Refined oil (b/f) 2500 4875000 Finished oil 2480 4960000 Wages 15000 Power 2400 Process loss 20 - Repairs to Plant 1400 & Machinery Steam 4500 Factory 2100 overheads Cost of casks 59600 2500 4960000 2500 4960000Problem 6The product of a company passes through three distinct processes to completion. These processes are known as A,B andC. From past experience it is ascertained that wastage is incurred in each process as under: Process A 2% of input Process B 3% of input Process C 10% of input The normal process loss occurring in the three processes is regularly sold at the rates of 50 paise (Process A),Re. 1 (Process B) and Rs. 2 (Process C) per unit respectively the output of each process passes immediately to the nextprocess and the finished units are transferred from Process C to finished stock. The following expenses were incurred. A B C Materials consumed 40000 20000 15000 Direct labour 42000 42600 35000 Manufacturing expenses 14600 8380 13920 Repairs to Plant & Machinery 2,800 3,350 1,40020,000 units have been issued to Process A at cost of Rs. 80,000. The output from each process has been as under: Process A 19,500 Process B 18,800 Process C 16,600There was not stock of work-in-process in any process. BSPATIL 82
  • 83. Prepare the process accounts and abnormal wastage account, assuming that the abnormal wastage collected together forall the three processes was sold in one lump and fetched a price of Rs. 10000.Solution:For Process A: 1. Actual wastage = 20000 – 19500 = 500 units 2. Normal wastage = 2% of 20000 = 400 units 3. Scrap sale value = 400 x Re. 0.50 = Rs. 200 4. Abnormal wastage = Actual wastage less normal wastage = 100 units 5. Prorata cost = Rs. 176000 / (20,000 – 400) = Rs. 19,600 6. Cost of abnormal wastage Rs. 176600/19600 x 100 = Rs. 900 (rounded off)Process A Units Rs. Units Rs. Units 20000 80000 Transfer to 19500 175500 Process B Material 40000 Normal wastage 400 200 Labour 42000 Abnormal 100 900 wastage Overhead 14600 20000 176600 20000 176600Calculations in respect of Process B and C are made in a similar manner. Process B Units Rs. Units Rs. Transfer from 19500 175500 Transfer to 18800 244400 Process A Process C Material 20000 Normal wastage 485 585 Labour 42600 Abnormal 115 1495 wastage Overhead 8380 19500 246480 19500 246480Process C Units Rs. Units Rs. Transfer from 18800 244400 Transfer to 16000 288000 Process B Finished stock Material 15000 Normal wastage 1880 3760 Labour 35000 Abnormal 920 16560 wastage Overhead 13920 18800 308320 18800 38320Abnormal Wastage Account Process A 900 Sale 10000 BSPATIL 83
  • 84. Process B 1495 Loss (Profit and 8955 loss account) Process C 16560 Total 18955 Total 18955Accounting of Inter-Process Profits:- Inclusion of inter-process profit creates complications in the accounts. As the internal profits remain merged inprocess stock, work-in-progress, and finished stock suitable adjustment is required to be made in the Balance Sheet inorder to exclude such unrealized profit. When inter-process profit is included in the accounts, it is advisable to have three columns in the ledger toindicate the cost, profit, and the total. This facilitates the calculation of the profit to be provided for inclusion in closingstock in each process and in the final finished stock.Problem 7: A product passes through three processes before it is completed and transferred to finished stock. The followingdata are available for a month. Process Process Process No. No. No. 1 Rs. 2 Rs. 3 Rs Opening stock (at prime cost) 2000 12000 10000 Direct material 13000 20000 40000 Direct Labour 10000 10500 50000 Factory overhead 10000 25000 25000 Closing stock (at prime cost) 5000 6000 32000Inter-process transfers of output included profits at the following rates:Process 1 to Process 2 - 20% on transfer priceProcess 2 to Process 3 - 25% on transfer priceProcess 3 to Finished Stock - 10% on transfer priceInter-process profit included in the opening stock were:-In Process 2 - Rs. 2,000In Process 3 - Rs. 2,800In Finished Stock - Rs. 10,000Finished Stock:-Opening balance - Rs. 25,000Closing balance - Rs. 33,000Sales during the month - Rs. 3,00,000Complete the process accounts, determine the gross profit for the month and indicate the value at which the closingstock will appear in the Balance Sheet on the last day of the month.Solution: Total Cost Rs. Pft Total Cost Rs. Pft Rs. Rs. Rs. Rs. Stock (b/f) 2000 2000 - Transfer 37500 30000 7500 BSPATIL 84
  • 85. to Process No.2 Direct material 13000 13000 - Direct Labour 10000 10000 - Less stock (c/f) 5000 5000 - Prime cost 20000 20000 - F.Y. Overhead 10000 10000 - Process cost 30000 30000 - Profit @ 20% 7500 7500 on transfer price (25% on cost) 37,500 30,000 7500 37,500 30,000 7500Process No. 2 Account Total Cost Pft. Total Cost Pft. Rs. Rs. Rs. Rs. Rs. Rs. Stock (b/f) 12,000 10,000 2000 Transfer 132000 90212 41788 to Process No.3 Transfer 37,500 30,000 7,500 from process No. 1 Direct 20,000 20,000 - material Direct 10,500 10,500 - labour Total 80,000 70,500 9,500 Less stock 6,000 5,288 *712 (c/f) Prime cost 74,000 65,212 8,788 F.y. 25,000 25,000 - Overhead Process 99,000 90212 8788 cost Profit at 33,000 33,000 25% on transfer price (1/3) of cost Total 132000 90212 41,788 132000 90212 41,788 Stock (c/f) 6,000 5,288 712* The proportionate profits on closing in this and other processes are worked out in the following manner:-Profit = Rs. 6,000 x Rs. 70,500 / Rs. 80,000 x Rs. 6,000 – Rs. 5,288 = Rs. = 712 BSPATIL 85
  • 86. Process No. 3 Account Total Cost Pft. Total Cost Pft. Rs. Rs. Rs. Rs. Rs. Rs. Stock (b/f) 10,000 7,200 2,800 Transfer 250000 186562 63438 to finished stock Transfer 132000 90,212 41,788 from process No. 2 Direct 40,000 40,000 - material Direct 50,000 50,000 - labour Total 232000 187412 44588 Less stock 32,000 25,850 6,150 (c/f) Prime cost 200000 161562 38438 F.y. 25,000 25,000 - Overhead Process 225000 186562 38438 cost Profit at 25000 25000 10% on transfer price of cost Total 250000 186562 63438 250000 186562 63438 Stock (c/f) 32000 25850 6150 BSPATIL 86
  • 87. Finished Stock Account Total Cost Pft. Total Cost Pft. Rs. Rs. Rs. Rs. Rs. Rs. Stock 25,000 15,000 10,000 Sales 300000 177374 122626 (b/f) Transfer 250000 186562 63438 from process No. 3 Total 275000 201562 73,438 Less 33,000 24,188 8,812 stock (c/f) Gross 58000 58000 Profit 300000 177374 122626 300000 177374 122626 Stock 33000 24188 8812 (c/f)Provision for Profit Account Rs. Rs. Rs. Rs. Profit and Balance Loss (b/f) Account Process 2 2000 Process 3 2800 Proportion 1288 Stock 10000 of Provision not required for Process 2 Finished 1188 14800 Stock Balance Profit & (c/f) Loss A/c Process 2 712 Loss A/c Process 3 6150 Additional 3350 provision required for Process 3 Finished 8812 Stock 15674 18150 18150 Balance (b/f) BSPATIL 87
  • 88. Process 2 712 Process 3 6150 Finished 8812 Stock 15,674Analysis of gross profit for the month: Rs. Rs. Rs. Process 1 7500 Process 2 33000 Plus Provision not 1288 34288 made Process 3 25000 Less Provision 3350 21650 Finished Stock 58000 Plus Provision 1188 59188 *122626* This agrees with the profit in the Finished Stock Account Balance Sheet Process Stock 5,000 Process 1 6000 Process 2 Less Profit 712 5,288 32000 Process 3 6150 25850 Finished Stock 33000 Less Profit 8812 24188Problem: 8 A product passes through three processes to completion. These processes are known at A, B, C. The output ofeach process is charged to the next process at a price calculated to give a profit of 20% on the transfer price. The outputof process C is charged to Finished Stock on a similar basis. There was no partly-finished work in any process on December 31, on which date the following informationwas obtained. Process A Process B Process C Materials 4000 6000 2000 consumed Labour 6000 4000 8000 Stock on De. 31 2000 4000 6000Stock in each process were valued at Prime Cost to the processThere was no stock into finished stock, Rs. 4000 remained in hand on December 31, and the balance has been sold for BSPATIL 88
  • 89. Rs. 36,000. Show Process Accounts.Solution:Process ‘A’ Account Total Cost Profit Total Cost Profit Rs. Rs. Rs. Rs. Rs. Rs. To 4000 4000 - By 10000 8000 2000 Material Process B A/c transfer To 6000 6000 - Labour Total 10000 10000 - Less : 2000 2000 - Closing Stock c/d Prime 8000 8000 - cost To Gross 2000 2000 profit 25% on cost 10000 8000 2000 10000 8000 2000 To stock 2000 2000 - b/dProcess ‘B’ Account Total Cost Profit Total Cost Profit Rs. Rs. Rs. Rs. Rs. Rs. To 10000 8000 2000 By 20000 14400 5800 Process process A - A/c transfer To 6000 6000 - 2000 Material To 4000 4000 - Labour Total 20000 18000 2000 Less : Closing Stock c/d Prime 16000 14400 1600 cost To Gross 4000 - 4000 profit 25% on BSPATIL 89
  • 90. cost 20000 14400 5600 To stock b/dProcess ‘C’ Account Total Cost Profit Total Cost Profit Rs. Rs. Rs. Rs. Rs. Rs. To 20000 14400 5600 By Process finished B - transfer To 2000 2000 - Stock A/ 30000 19520 10480 Material c To 8000 8000 - Labour Total 30000 24400 5600 Less : 6000 4880 1120 Closing Stock c/d Prime 24000 19520 4480 cost To Gross 6000 - 6000 profit 25% on cost 30000 19520 10480 30000 19520 10480 To stock 6000 4880 1120 b/d BSPATIL 90
  • 91. Finished Stock A/c Total Cost Profit Total Cost Profit Rs. Rs. Rs. Rs. Rs. Rs. To 30000 19520 1048 By 36000 16917 19083 Process Sales C - transfer Less : 4000 2603 1397 Closing Stock c/d 26000 16917 9083 To Gross 10000 - 10000 profit 36000 16917 19083 36000 16917 19083 To stock 4000 2603 1397 b/d (1) Calculation of Profit on Closing StockFormulae:Note: The amount of cost column and Total Column are those which appear above the Closing stock line. Process ‘A’ : No profit included 4000 – 3600 = 400 6000 – 4880 = 1120 4000 – 2603 = 1397 (2) Actual Profit Realised Process Unrealised Profit Actual Profit BSPATIL 91
  • 92. Profit in Closing Stock Rs. Rs. Rs. Process ‘A’ 2000 - 2000 Process ‘B’ 4000 400 3600 Process ‘C’ 6000 1120 48880 Finished Stock A/c 10000 1397 8603 Total 22000 2917 **19083** Varify this figure with that shown in the credit profit column of Finished Stock Account. It tallies. (3) Valuation of Closing Stock for Balance SheetThe amount of Cost Columns of Finished Stock Account will be taken to the Balance Sheet. It is comprised of: Cost of closing stock Rs. Process ‘A’ 2000 Process ‘B’ 3600 Process ‘C’ 4880 Finished Stock 2603 Total 13083 (4) Test CheckIndividual cost of Process = Rs. 30000 ‘A’ ‘B’ ‘C’ = i.e. (10000 + 10000 + 10000)Less : Cost of Sales (See Finished Stock A/c) = Rs. 16917 -----------------Closing Stock = Rs. 13083 ----------------- BSPATIL 92
  • 93. LESSON – 8 STANDARD COSTING & VARIANCE ANALYSISSTANDARD COST & STANDARD COSTINGStandard cost is a “predetermined cost which is calculated from management standard of efficient operation and therelevant necessary expenditure.” - I.C.M.A ENGLANDStandard costing is “the preparation of standard costs their comparison of actual costs and the analysis of variances totheir causes and points of incidence” - I.C.M.A ENGLANDThus, it is clear from these definitions that standard costs represent the scientifically planned or predetermined costsbased on technical estimate, labour and overhead for selected period of time and for a prescribed set of workingconditions. The word ‘standard’ connotes a thing serving as a basic for comparison. Standards can be established inrespect of quantitative and qualitative like material and labor.OBJECTIVE OF STANDARD COSTINGThe main objectives of standard costing are:-To control the factors which affect production.- to supply reports promptly to the management showing the progress of production and how expenditure to datecompares with estimates so that corrective actions may be taken in time, and- To disclose the effect of temporary increase or decrease in the volume of output and sales or revenues.TECHNIQUES OF STANDARD COSTINGThe technique of standard costing involves:- The ascertainment of standard costs.- The use of standard costs.- Their comparison with the actual cost and the measurements of variances.- the location of responsibility for the variances and the corrective action to be taken.- the analysis of variances for ascertainment the reasons for the same.ESTABLISHMENT OF A STANDARD COSTING SYSTEM The installation of standard costing system in a manufacturing concern involves the following steps: a) Standardization of functions i.e. all activities should be standardized and the technical processes of operations should also be susceptible to planning. b) Establishment of cost centres. c) Classification of Accounts i.e., the different accounts can be codified and different symbols may be used to facilitate speedy collection, analysis reporting. d) Setting up of standards: Standards may be basic (long period) and current (short period), From the point of view of efficiency level they will fall into the three broad categories. BSPATIL 93
  • 94. i) Strict ideal ii) Attainable or expected / actual and iii) LooseThe standard should be realistic and attainable. Unrealistic standards provoke resentment and depress performance.Loose standard leads the management to indulge in self congratulation. Normally a period of one year is more realisticas it coincides with the budget period and the normal accounting period. e) Setting of standard costs:Standard costs should be determined for each element of cost separately and accurately. Like the budget committee orstandards division which will be versed with the work of the standard costs. the standard committee generally consists ofall functional heads like production manager, personal manager, etc. In determining the output regard must be had to thelimiting factors affecting sales, production etc. setting up of standard cost involves the determination of cost standards.A cost standard is a usage, price or other standard upon which a standard cost is based.ADVANTAGES OF THE STANDARD COSTINGThe utility of standard help the management in fixation of prices and in laying down production policies. 1. Standards costs help the management in fixation of prices and in laying down production policies. 2. The help in readily showing up and then elimination of avoidable wastages and losses. 3. They provide constant and uniform bases for management on the operational efficiency of workers and other members of the staff. 4. Management, through the study of variances, needs to concentrate only areas and problems which call for its attention i.e., the system management by exception’ can be practiced. 5. Delegation of authority becomes effective the concerned men know what they have to achieve and by what standard they will be judged. 6. The whole concern in stimulated with a dynamic forward looking mentality. 7. Performance of employees at all levels can be judged objectively, this enables the concern to promote and regard the right person. 8. Standards act as a ‘yardstick’ to measure the actual performance and the efficiency of labour and other factors. 9. Valuation of closing stock is facilitated by the standard cost of production. 10. As standards are set for every element of cost, the costing procedures are simplified.LIMITATIONS OF STANDARDS COSTINGStandard costing technique has the following short comings. 1. Setting of standards is a difficult task as it involves technical skill. 2. The fixation of inaccurate standards especially those that are incapable of achievement adversely affects the morale of the employees and act as hindrances to increased efficiency. 3. The system is not suitable for the jobbing type of industries producing articles according to customers specifications even if it is installed, the fixation of standards for type of job becomes difficult and expensive. 4. It is necessary to distinguish between controllable and uncontrollable variances in order to localize deviations and fixing responsibilities. 5. The system may not be suitable even in the case of industries that are liable to frequent technological changes BSPATIL 94
  • 95. affecting the conditions of production even if it is installed, a constant revision of standards become necessary. 6. Small concern cannot afford this system due to higher cost associated with standard costing. 7. There is no unanimity regarding the circumstances to be taken as the basis for setting standard costs. even if there is unanimity a revision of standard is essential to suit to the changing circumstances. The revision of standards becomes expensive. If they are not revised, they become outmoded.DETERMINATION OF STANDARDSFor any given product or unit the following standards must be determined. 1. Standard material costs. 2. Standard labour costs. 3. Standard direct costs. 4. Standard variable overhead costs 5. Standard Fixed over head costs. 6. Standard selling prices and profit.The standard direct material cost is found by multiplying the quantity of materials to be purchased with the rate of priceat which they are available.Determination of standard labour cost involves fixations of (a) Standard labour grades (b) Standards labour times i.e., standard hours through time, motion and fatigue study with the help of work study engineers and (c) Standard wage rates based on the time rate, piece rate and premium plans.Standard direct cost is any expenditure which is directly to be incurred on a specific cost unit. It is charged directly tothe particular cost standard concerned.Standard overhead costs are classified as manufacturing, administration, selling, and distribution over heads. They arealso classified as fixed, variable and semi variable so that current estimate for each class may be prepared for the budgetperiod. Standard overhead rate is determined on the basis of past records and future trend of prices.VARIANCE ANALYSISThe main aim of the standard costing is the control of the cost. So the management is provided with the informationabout situations where in the actual results are not as they were planned to be. Hence management is informed of onlythe deviations or variances from the original plans, their favourable or unfavorable nature and the causes of suchdeviations. In this context standard costing subscribes to the principles of “management by exception”.Variance is the difference between standard cost and actual cost. It is expressed by a simple formula as follows:variance = actual cost – standard cost.Variance analysis is therefore the process of analysis variance by dividing the total variance in such a way thatmanagement can assign responsibility for off standard performance. If variance is to increase the profit it is said to befavourable shown as (F). It would result when the actual cost are lower than the standard costs. It is also known aspositive or credit variance and viewed only as savings. If variance is not to increase the profit it is adverse orunfavorable shown as (A) it would result when actual costs exceed the standard costs. It is also known as negative ordebit variance and viewed as additional costs or losses. 1. MATERIAL NOT VARIANCE (MCV)This is the difference between the standard cost of materials specified for the output achieved and the standard cost ofthe materials used BSPATIL 95
  • 96. Material Cost Variance = Total std. – Total Actual Cost. MCW = (SQ*SP) – (AQ * AP)Where : SQ = Standard Quantity SP = Standard Price AQ = Actual Quantity AP = Actual Price a) MATERIAL PRICE VARIANCE (MPV)This is the difference between the standard price specified and the standard price paid.MPV = AQ (SP – AP)CAUSES 1. Change in basic purchase price of material. 2. Change in quantity of purchase or uneconomical size of purchase order. 3. Rush order to meet shortage of supply or purchase in less or more favourable market. 4. Failure to take advantage of off – season price, the failure to purchase when price is cheaper. 5. Failure to obtain cash and trade discounts or change in the discount rates. 6. Weak purchase organisation. 7. Payment of excess or less freight 8. Transit losses and discrepancies if purchase price is inflated to include the loss. 9. Change in quality or specification or materials purchased. 10. Use of substitute material having a higher or lower unit price. 11. Change in materials purchase, unkeep and store keeping cost (this is applicable only when such charges are allocated to direct material costs on a predetermined or standard cost basis.) 12. Change in the pattern or amount of taxes and duties. b) MATERIAL USAGE VARIANCE (MUV)This is the difference between the standard quantity specified and actual quantity used.MUV = SP (SQ – AQ)Material usage variance is subdivided into i) Material mix variance ii) Material yield variance or scrap variance i) MATERIAL MIX VARIANCE (MMV)This is the portion of the direct material usage variance which is due to the difference between the standard and theactual composition of a mixture. BSPATIL 96
  • 97. a) When the ratio of mix is different but the total quantities of standard mix and the total quantities of actual mix are the same. MMV = SP (SQ – AQ) b) When the total actual quantity and total standard quantity and the ratio of mix are different, then the standard quantity of the each material will be revised. MMV = (RQ – AQ) * SP Where RQ denotes Revised standard quantity, which is equal to Total weight of actual mix --------------------------------- * Standard Quantity Total weight of standard mix ii) MATERIAL YIELD OR SCARP VARIANCEThis is the portion of the direct material usage variance which is due to the difference between standard yield specifiedand actual yield obtained.MYV = SP * Abnormal Loss / Gain OrMYV = SP (SY – AY)The difference between standard yield and actual yield is called abnormal loss or gain. If the standard yield is less thanthe actual yield, the difference is called abnormal gain, and if the standard yield is higher than the actual yield thedifference is called abnormal loss.CAUSES FOR MATERIAL USAGE VARIANCEThe causes of material usage variance are: 1. Variation is usage of materials due to inefficient or careless use or economic use of materials. 2. Change in specification or design of product. 3. Inefficient and inadequate inspection of raw materials. 4. Purchase of inferior material or change in quality of materials. 5. Rigid technical specification and strict inspection leading to more rejections which require more materials for rectifications. 6. Inefficiency in production resulting in wastages. 7. Use of substitute materials. 8. Theft or pilferage of materials. 9. Inefficient labour force leading to excessive utilization of materials. 10. Defective machines, tools, and equipments, and bad or improper maintenance leading to breakdown and more usage of materials. 11. Yield from materials in excess of or less than that provided as the standard yield. 12. Faulty materials processing. Timber for example, if not properly seasoned may be wasted while being used in subsequent processes. 13. Accounting errors, e.g. when materials returned from shop or transferred form one job to another are not properly accounted for . BSPATIL 97
  • 98. 14. Inaccurate standards 15. Change in composition of a mixture of materials for a specified output.II LABOUR COST VARIANCE (LCV) It is the difference between standard direct specified for the activity achieved and the actual direct wages paid.LCV – SLC – ALC (Standard Labour Cost – Actual Labour Cost)Labour cost variance is sub-divided into 1) Rate of pay variance and 2) Efficiency variance, which is further sub divided into a. Idle time b. Calendar variance c. Mix variance d. Yield variance 1. LABOUR RATE OF PAY VARIANCE (LRV)This is that portion of labour cost variance which is due to the difference between the standard rate of pay specified andthe actual rate paid.LRV = AT (SR - AR) = Actual time (standard rate – actual rate)CAUSES FOR LABOUR COST VARIANCEDirect labour rate variance occur due to the following: 1. Change in basic wage structure or change in piece work rate. This will give rise to the variance till such time the standards are not revised. 2. Employment of workers of grades and rates of pay different from those specified due to shortage of labour of the proper category, or through mistake, or due to the retention of surplus labour. 3. Payment of guaranteed wages to workers who are unable to earn their normal wages if such guaranteed wages form part of direct labour cost. 4. Use of a different method of payment e.g. payment of day – rates while standards are based on piece work method of remuneration. 5. Higher to lower rates paid to casual and temporary workers employed to meet seasonal demands or urgent or special work. 6. New workers not being allowed full normal wage rates. 7. Over time and night shift work in excess of or less than the standard, or where no provision has been made in their standard. This will be applicable only if overtime and shift differential payments form that laid down in the standard.2) LABOUR EFFICIENCY VARIANCE (LEV)This is also that portion of labour cost variance which is due to the difference between the standard labour hoursspecified for the outputs achieved and the actual labour hours expended. This is otherwise known as labor time variance.Labour spending variance, labour usage variance, labour quantity variance. BSPATIL 98
  • 99. LEV = SR (ST – AT)CAUSES FOR LABOUR EFFICIENCY VARIANCEThe causes giving rise to direct labour efficiency variance as follows: 1. Lack of proper supervision or stricter supervision that specified. 2. Poor working conditions 3. Delay due to, waiting for materials tools, instructions etc. if not treated as idle time. 4. Defective machine tools, and other equipments. 5. Machine break down if not booked to idle time. 6. Work on new machines requiring less tike then provided for as long as the standard is not revised. 7. Basic inefficiency of workers due to low morale, insufficient training, faulty instructions, incorrect scheduling of jobs etc. 8. Use of non standard material requiring more or less operation wages. 9. Carrying our operations not provided for and booking them as direct wages. 10. In correct standards 11. Wrong selection of workers, e.g. no employing the right type of man for doing the job. 12. Increase in labour turnover. 13. Incorrect recording of performances, i.e. time and output.LABOUR IDLE TIME VARIANCE (LITV) This is that the portion of labour cost variance which is due to the abnormal idle time of workers on account offailure of power supply, machine break – down, shortage of materials etc.LITV = IH * SR (Idle hours * standard rate per hour)LABOUR CALENDAR VARIANCE (LCV) This arises only when workers are paid for the days for which they have not worked and for which no provisionwas made while determining standards. This will happen only when some special public holidays be declared. LCV = SR * HolidaysLABOUR MIX VARIANCE (LMV) It is due to the difference in the standard output specified and actual output obtained. LYV = Standard labor cost per unit (actual output – standard output)PROBLEM 1The standard cost of the chemical mixture ‘PQ’ is as follows:40% of material P@ Rs. 400 Per k.g.60% of material Q@ Rs. 600 per kg. BSPATIL 99
  • 100. A standard loss of 10% is normally anticipated in production. The following particulars are available for the month ofSeptember 1984.A standard loss of 10% is normally anticipated in production. The following particulars are available for the month ofSeptember 1984.180 kgs. of material P have been used @ Rs. 360 per kg.220 kgs. of material Q have been used @ Rs. 680 per kg.The actual production of ‘PQ’ was Rs. 369 kgs.Calculate the following variance: a. Materials price variance b. Materials usage variance c. Materials mix variance d. Materials yield varianceAlso show the reconciliation of standard cost with actual cost with actual cost with help of the above variance.Solution Standard loss is 10% Hence for productions of 90 kgs require input of 100 kgs. Therefore production of 369 kgs requires input of? 369 / 90 * 410 kgs.MCV = (Standard cost of input of (410 kgs of production) (actual cost of production of 369 kgs)P40% of 410 = 164 kgs at 400 = 65600 P 180*360 = 64,800Q60% of 410 = 246 kgs at 600 = 147600 Q 220*680 = 149,600 ----- -------------- ------- ----------Input 410 kgs 213200 400 214400Loss 41 31 ---- ----- -------------- ------- ----------Production 369 kgs 213200 369 214000 1. Material Cost Variance (MCV) = SC – AC = 213200 – 214400 = Rs. 1200 (A) 2. Materials Price Variance (MPV) = AQ (SP-AP) P = 180 (400 – 360) = 7200 (F) Q = 220 (600 – 680) = 17600 (A) --------------------- 10400 (A) --------------------- BSPATIL 100
  • 101. 3. Material Usage Variance (MUV) = SP (SQ-AQ) P = 400 (164 – 180) = 6400 (A) Q = 600 (246-220) = 15600 (F) ---------------------- 9200 (F) ----------------------Material Usage Variance is to be analysed into Mix Variance and yield variance as follows: (i) Material Mix Variance (MMV) = SP (RSQ – AQ) P = 400 (164 * 400 / 410 – 180) = 400 (160-180) 8000 (A) Q = 600 (246*400/410 – 220) = 600 (246-220) 12000 (F) --------------- 40000 (F) --------------- Material yield variance (MY) = SYR (SY-AY) Standard Cost per unit at output = 213200/369 = Rs. 577.1778 per kg. For an input of 410 Kgs. – Standard yield is 369 kg For an input of 400 Kgs. – Standard yield is ? 400 / 410 * 369 = 360 kgs. Standard yield for actual input MY = Rs. 577.1778 (360-368) =Rs. 5200(F) (ii) Labour Efficiency Variance (LEV) = SR (SH-AHP) = 3.00 (7000-8000) = 3000 (A) (iii) Labour Cost Variance (LCV) = SCAP – AC = 21,000 – 24160 = 3160 (A)Note:- When there is difference between actual hours paid (AHP) and Actual Hours Worked (AHW) there will beLabour Efficiency Sub-variance and Idle time Variance which are calculated as follows:Labour Efficiency Sub Variance = SR (SH-AHW) = 3.00 (7000-8000) = Rs. 2400 (A)Labour Idle Time Variance = SR * No. of Hours lost = 3.00 * 200 = Rs. 600 (A) -------------- Rs. 3000 (A) -------------- BSPATIL 101
  • 102. This is reconciled with Labour Efficiency Variance as calculated above.Reconciliation: MUV = MMV + MYV 9200(F)= 400 (F) + 5200 (F)Final Reconciliation: MCV = MPV + MMV + MYV 1200 (A) = 10400 (A) + 4000(F) + 5200(F)PROBLEM 2 The following details are available form the records of ABC Ltd. engaged in manufacturing Article ‘A’ for theweek ended 28th September.The Standard Labour hours for the week 1000 hrs and rates of payment per article ‘A’ were as follows: Hours Rate per hour Total Rs. Rs. Skilled Labour 10 3.00 30 Semiskilled Labour 8 1.50 12 Unskilled Labour 16 1.00 16 58The actual labour hours and rates of pay per hour were given below: Hours Rate per hour Total Rs. Rs. Skilled Labour 9000 4.00 36000 Semiskilled Labour 8400 1.50 12600 Unskilled Labour 20000 0.90 18000 66,600From the above set of data you are asked to calculate: a. Labour Cost Variance b. Labour Rate Variance c. Labour Efficiency Variance d. Labour Mix VarianceSolution SCSM SCAM SM Hours Rate Amount AM Hours Rate Amount Rs. Rs. Skilled 1000 x 3,00 30000 Skilled 9000 3.00 27,000 10 = 10000 BSPATIL 102
  • 103. Semi-skilled 1000 x 1.50 12000 Semi-skilled 8400 1.50 12,600 8 = 8000 Un-skilled 1000 x 1.00 16000 Un-skilled 20000 1.00 20,000 16 = 16,000 34,000 58000 37400 59,600 (SCSM) a. Labour Cost Variance (LCV) = SC-AC = 58000-66600 = 8600(A) b. Labour rate Variance (LRV) = AHP (SR-AR) Skilled = 9000 (3-4) = 9000(A) Semi-Skilled = 8400 (1.50 – 1.50) = Nil Un-Skilled = 20,000 (1 - .90) = 7000 (A) c. Labour Efficiency Variance (LEV) = SR (SH-AHP) = 3.00 (10000 – 9000) = 3000(F) = 1.50 (8000 – 8400) = 600(A) = 1.00 (16000 – 20000) = 4000(A) ---------------- 1600(A) d. Labour Mix Variance (LMV) = SCSM – SCAM = 58000 – 59600 = 1600(A)Problem 3In the production of Finished product 50 employees were engaged at a Standard rate of Rs. 3 per hour. The standardperformance was set at 200 numbers per hour. A 40 hour per week was in operation. In a particular period of 4 weeks 35employees were paid at the standard period of 4 weeks 35 employees were paid at the standard rate, but 10 employeeswere paid at Rs. 3.20 per hour and 5 employees at Rs. 2.80 per hour. The factory stopped production for 4 hours due toequipment failure. Actual production was 28000 Units. Calculate the labour (i) rate and (ii) efficiency Variances.Solution 50 employees x Rs. 3 per hour = Rs. 150 Output product = 200Standard cost of actual production (SCAP) = 28000 x 0.75 = Rs. 21,000Actual Cost (AC) Employees Weeks Hours Rate Amount Rs. BSPATIL 103
  • 104. 35 x 4 x 40 = 5600 x 3.00 = 16,800 10 x 4 x 40 = 1600 x 3.20 = 5,120 5 x 4 x 40 = 800 x 2.80 = 2,240 50 8000 24,160AHP = 8000AHW = 8000 – Idle time of 4 hours 8000 – 200 = 7200 in respect of all 50 employees (i) Labour Rate Variance (LRV) = AHP (SR – AR) = 5600 (3.00 – 3.00) = Nil. = 1600 (3.00 – 3.20) = 320 (A) = 800 (3.00 – 2.80) = 160 (F) ------------- 160 (A) -------------OVERHEAD VARIANCEOverhead Variance can be classified into (A) Variable Overhead Variance and (B) Fixed Overhead Variance. OVERHEAD COST VARIANCE Fixed Overhead Variance Variable Overhead Variance Expenditure Volume Expenditure Efficiency Variance Variance Variance Variance Efficiency Capacity Calendar Seasonal 1. Variable Overhead Variance: They are caused by difference between the actual variable overhead expenditure incurred and the standard allowed: VOHC = SOHC – AOHC Variable Overhead = Standard Variable Overhead Cost on Cost Variance – Actual Output – Actual Variable Overhead Cost = (Actual output Standard Overhead Rate – Actual OverheadAlternatively, the following variable overhead variance may be computed to make the position more clear: (i) Variable Overhead Expenditure Variance (VCHE x V) CostThis is the difference between standard variable Overhead allowance of actual output, and the standard variableoverhead of actual time.VOHE efficiency Variance = Standard Overhead Rate (Actual Time – Standard time for actual production) BSPATIL 104
  • 105. Total Variable Overhead = Expenditure Variance + Efficiency VarianceFixed Overhead Cost Variance (FOHCV) : It is that portion of overhead variance which is due to the difference betweenfixed overhead recovered and the actual fixed overhead cost incurred.FOHCV = (Actual output * Standard fixed overhead Rate) – Actual OverheadThis variance is divided into (i) fixed Overhead Expenditure Variance and (ii) Fixed Overhead Volume Variance(i) Fixed Overhead Expenditure (FOHEV) : It is the difference between actual overhead expenditure and the budgeted expenditure.FOHEV = Budgeted fixed Overhead – Actual Fixed Overhead = (Standard Recovery Rate * Budgeted Production) – Actual Fixed OverheadsIf the actual output is more than the budgeted output, it leads to over-recovery of overheads costs and a favourablevariance results an vice versa. This variance is also known as Budget Variance or Cost Variance or Spending Variance.(ii) Fixed Overhead Volume Variance (FOHVV) : It is the difference between the standard cost of overhead absorbed in actual output and the standard allowance allowed for the output. This variance is caused due to the difference between the budgeted output and the actual output.FOHVV = Standard Fixed Overhead Rate (Actual Quantity – Budgeted Quantity)Or= Actual output * Standard Rate – Budgeted Fixed OverheadIf the actual output is more than the budgeted output, it leads to over-recovery of overhead costs and a favourablevariables results and vice versa.The Volume Variance can further be analysed as under – (a) FIXED OVERHEAD EFFICIENCY VARIANCE (FOHEff.V)It is that portion of volume variance which is due to the difference between the budgeted efficiency (in standard unit)and the actual efficiency achieved. This variance is like labour efficiency variance. FOHEff.V = Standard Overhead Rate per unit (Actual Quantity – Standard Quantity) When the actual output is more than the standard quantity of output. Overhead Cost Variance: Causes Controllability A. Overhead 1. Rise in prices, wages Uncontrollable Expenditure Variance 2. Lack of control over Dept. Manager Expenditure 3. Change in production Production Manmager 4. Change in nature of --do-- service eg. Use gas in lieu of electricity B. Volume Variance 1. Declining Sales (Lack Sales Manager of orders) or Customer BSPATIL 105
  • 106. demands 2. Lack of proper Foreman supervision 3. Defect in Machinery Maintenance Engineer (Breakdown) 4. Low efficiency of Foreman / Personnel worker Manager 5. Poor quality material Purchase Manager 6. Abnormal idle time (if Foreman / not booked as part of Uncontrollable time spent on jobs) 7. More or less working Uncontrollable days / Calendar 8. Strikes, absenteeism Personnel Manager including latenessPROBLEM 4 The following figures have been extracted from the cost records for the month of March 1997. Standard Actual Number of units 7500 8000 produced Capacity 100% 105% Number of days worked 25 26 Fixed overheads Rs. 22500 Rs. 23500 Variable overheads Rs. 15000 Rs. 15750Analyse the total overhead variance into (i) Fixed overhead variance, (ii) Variable overhead variance, and (iii) Sub-variances under each headSolutionOverhead Cost Variance = Std. cost for Actual production – Actual cost = 40,000 - 38,900 = Rs. 1,100 (F)Overhead Cost Variance = FOHCV + VOHCVRs. 1100 (F) = Rs. 850 (F) + 250 (F) (a) FOHCV = (AP * SOHR) – APOH = 8000 x 3 – 23150 = Rs. 850 (F) (b) Expenditure Variance = Budgeted Fixed Overheads – Actual Fixed Overheads = Rs. 22500 – Rs. 23150 = Rs. 650 (A) (c) FOHVV = BOHR – AP * SOHR BSPATIL 106
  • 107. = 8000 x 3 – Rs. 22500 = Rs. 1500 (F) OrSOHR (Budgeted output – Actual output) = 3 x (7500 – 8000) = Rs. 1500(F) (d) Capacity variance – Fixed Overhead Standard Rate per unit (Standard Quality for actual hours) For actual hours / days = Rs. 3Standard production for actual hours = = 7875 units(e) Calendar Variance = per unit Standard Fixed Cost – (Actual Quantity – Standard Quantity for actual capacity) = Rs. 3 (8000-7875) = Rs. 375 (F) = = 7875FOHCV = FOHEV + FOHVV = Rs. 650(A) + Rs. 1500 (F) = Rs. 850 (F)Proof FOH V.V. = Cal. V. + Cap. V. + Eff. V. Rs. 1500(F) = Rs. 900(F) + Rs, 225 (F) + Rs. 375(F) (i) Variable overhead Variance = SC – AC Where = Rs. 16000 – Rs. 15750 = Rs. 250(F) BSPATIL 107
  • 108. (ii) Variable overhead Expenditure variance = BC – AC = 26 x 600 = 15600 – 15750 = Rs. 150(A) (iii) Variable overhead efficiency variance Where standard overhead rate per hour / day is given Variable overhead Efficiency variance = SR (AT – ST) = 600 (26 – 26.67) = Rs. 400 (F)Where standard overhead rate per unit is given:Variable overheadefficiency variance = SR (AP – SP) = 2 (8,000 – 7,800) = Rs. 400(F)Check : VOHCV = VOH EX. V. + VOH Eff. V. Rs. 250(F) = Rs. 150(A) + Rs. 400(F)Problem 5 The standard cost per unit for product ‘A’ is as under :Standard Cost : - The cost of operations to produce 1000 units during January 1971 is as under: Rs. Rs. Material 1 Unit Rs. 10 10 Material 950 at Rs. 11 10,450 Labour 5 hours at Rs. 2 10 Labour 4,500 hours at Rs. 9,900 2.20 Overheads: Overheads: Variable 5 hours at Rs. 2 Variable 11,000 Fixed 5 hours at Rs. 1 5 Fixed 6500 Total cost per unit 35 Total cost of 1000 units of 37,850 product AThe flexible budget for this department for normally monthly activity was called for 6,600 direct labor hours ofoperations. At this level the fixed indirect cost was budgeted at Rs. 6,000.You are required to compute the various variance from the above solution.Solution i) Material cost variance = Standard cost of actual output – Actual cost of actual material used = Rs. 10,000 – Rs. 10450 = Rs. 450 (A) BSPATIL 108
  • 109. ii) Material price variance = AQ (SP-AP = 950 (10-11) = 350 (A) iii) Material usage variance = Standard unit price (SQ-AQ) = Rs. 10 (1,000 – 950) = Rs. 500 (F)Verification :Material cost variance = Materials price variance + material usage variance Rs. 450(A) = Rs. 950(A) + Rs. 500 (F) iv) Labour cost variance = SLC – ALC = 5,000 * Rs. 2 – 4,500 * Rs. 2.20 = Rs. 10,000 – Rs. 9,900 = Rs. 100 (F) v) Labour rate of pay variance = Actual time (Standard rate – Actual rate) = 4,500 (2 – 2.20) = Rs. 900 (F) vi) Labour Efficiency variance = Standard rate (Standard time – actual time) = Rs. 2(5,000 – 4,500) = Rs. 1000 (F)Check : LCV = LRV + LEV Rs. 100(F) = Rs. 900 (A) + Rs. 1000 (F) vii) Variable over head Variance = (Actual output * standard rated of fixed overheads) – Actual fixed over head incurred = (1,000 x 5) - 6,500 = Rs. 1,500 (A)ProofOverhead Cost Variance = Variable overhead variance + fixed over head variance Rs. 2,500 (A) = Rs. 1,000 (A) + Rs. 1,500 (A)SALES VARIANCE The cost variance so for explained ultimately affects profit favourably or adversely. Budgeted profit may beaffected due to increase or decrease i) in the selling price and ii) the quantum of sales. The are two distinct method of computing and presenting sales variance. i) Sales value or turnover method and ii) Sales margin profit method.The first method shows the effect of variance in terms of turnover. The second shows the effect in terms of profit. BSPATIL 109
  • 110. Sales Value Method (i) Sales Value Variance: It is difference between standard Or Budgeted sales and the actual salesSales Value Variance = Standard sales – Actual salesNote: Standard Sales = Standard sales * Actual quantities of salesIf actual sales are more than the budgeted or standard sales, a favourable variance would result and vice versa.ii) Sales Price Variance: If is that portion of the sales value variance which is due to the difference between standard price specified andthe actual price charged.Sales Price Variance = Actual quantity Sold (Standard Price – Actual Price)iii) Sales Volume Variance This is the difference between the budgeted sales and the standard value of the actual mix of sales.Sales Volume Variance = Standard Price (Actual Quantity – Standard Quantity)Or = Budgeted Sales – Standard SalesIf actual sales at standard price exceed the budgeted sales, there is a favourable variance and vice versa.Thus, Sales Value Variance = Price Variance + Volume VarianceThe volume variance can further be analyzed into (a) Mix Variance and (b) Quantity Variance (a) Mix Variance:It is that portion of the sales value variance which is due to the difference between the standard and the actualinterrelationship of the quantities of each product or product group of which sales are composed, where products are BSPATIL 110
  • 111. homogeneous. - Standard Cost of Actual MixSales Margin Quantity Variance:This is the difference between sales margin volume variance and sales margin mix variance.Margin Quantity Variance = Standard Margin Rate (Standard Quantity – Actual Quantity)Sales Margin Due to Sales Allowance: It is that portion of total margin variance which is due to the difference between the budgeted rebates, discounts,etc., allowance on those sales:Profit (or Loss) Variance: It is the difference between the budgeted profit (or Loss) and the actual profit (or loss). Types Causes Controllability A. Sales Price 1. Unexpected Competition Uncontrollable Variance 2. Rise in general price level - Do – 3. Poor quality of material - Do - B. Sales Volume 1. Unexpected Competition Uncontrollable Variance 2. Ineffective Sales Proportion Publicity Manager 3. Ineffective Supervision and control of salesman Sales ManagerDISPOSAL OF VARIANCES There is difference of opinion among accountants as regards disposal of cost variance. However, the followingmethods are usually used to close the Standard Cost Variances: i) Transfer to profit and loss account. ii) Allocation of finished stock, work in progress, and cost of sales; iii) Transfer to Reserve Account i.e., to carry forward to the next financial year and to be set off in the subsequent year of yearsThe standard cost are also incorporated in the accounting system so as to increase its statistical utility. The following arethe methods for accounting based on standard costing. i) Partial plan method, ii) Single plan method and iii) Dual plan method.PROBLEM 7From the following particulars of Sri Dhanalakshmi mills Ltd., calculate: i) Total sales margin variance BSPATIL 111
  • 112. ii) Sales margin variance due to selling price. iii) Sales margin variance due to volume. Standard Actual in (Rs.) Qty Cost p.u. Price p.u. Units Cost Price Prod X 3,000 10 12 2,200 10.50 13 Prod Y 2,000 15 18 1,600 14.00 17Solution i) Total Sales Margin Variance = Actual quantity of sales x Actual profit per unit - budgeted quantity of sales x Budgeted profit per unit(i.e. Actual profit – Budgeted profit)Prod. X : 3,200 * Rs. 2.50 – 3000 * Rs. 2.00 = Rs. 2,000 (F)Prod. Y : 2,600 * Rs. 3.00 – 2000 * Rs. 3.00 = Rs. 1,200 (A) -------------------Total Sales Margin Variance Rs. 800 (F) ii) Sales Margin Variance due to Selling price = AQ (AP – SP)Prod. X : 3,200 (Rs. 13 – Rs. 12) = Rs. 3,200 (F)Prod. Y : 1,600 (Rs. 17 – Rs. 18) = Rs. 1,600 (A) -------------------------Total sales margin due selling price Rs. 160 (F) iii) Sales margin due to volume = SP (AQ – SQ) Prod X: Rs. 2 (3,200 – 3000) = Rs. 400 (F) Prod Y: Rs. 3 (1,600 – 2000) = Rs. 1,200 (A) -------------------------- Total sales margin variance due to volume = Rs. 800 (A) BSPATIL 112
  • 113. PROBLEM 8For a month, the budgeted and actual figure for sales in a company were as under: Product Qty Price Budget Qty Actual Actual Value Price value Rs. Rs. Rs. Rs. I 20 2 40 15 2 30 II 10 1 10 15 1.50 22.50 III 5 3 15 10 2.50 25 IV 10 3.50 35 10 3 30 45 100 50 107.50The budgeted costs were the different products were:I Rs. 1.50II Rs. 0.80III Rs. 2.00IV Rs. 3.00Calculate the sales variance based on : a) Turnover and b) Profits verify your calculation.Solution a) Sales variance based on turnover: Standard Sales (SS) Revised Standard Sales SS Actual Budget Product Qty Price Balue Standard price per Unit of Standard I 15 2 30.00 Mix = 100 / 45 = 2.2222 II 15 1 15.00 RSS = 50 * 2.2222 = Rs. 111.11 III 10 3 30.00 IV 10 3.50 35.00 50 110.00 Total sales value Variance = BS – AS = 100 – 107.50 = Rs. 7.50 (F)Sales Rate Variance (SRV) = AQ (SR – AR) I = 15 – (2 – 2) = Nil II = 15 – (1 – 1.50) = 7.50 (F) III = 10 (3 – 2.50) = 5.00 (A) IV = 10 (3.50 – 3) = 5.00 (A) 2.50 (A)Sales Volume Variance (SVV): = (SR – (BQ – AQ) BSPATIL 113
  • 114. I = 2 (20 – 15) = 10.00 (A) II = 1 (10 – 15) = 5.00 (F) III = 3 (5-10) = 15.00 (F) IV = 3.50 (10 – 10) = Nil 10.00 (F)Reconciliation I:Total sales value Variance = SRV + SVV 7.50 (F) = 2.50 (A) + 10.00 (F)Sales Quantity Variance (SQV) = BS – RSS = 100 – 111.11 = 11.11 (F)Sales Mix Variance (SMV) = RSS – SS = 111.11 – 110.00 = 1.11 (A)Note : if RSS is more than SS, it is adverse variance and vice versa.Final Reconciliation:Total Sales Value Variance = SRV + SQV + SMV 7.50 (F) = 2.50 (A) + 11.11 (F) + 1.11 (A) b) Sales Various based on Profit: Budget Profit Product Qty. Rate of Profits Total Rs. I 20 2.00 – 1.50 = 0.50 10.00 II 10 1.00 – 0.80 = 0.20 2.00 III 5 3.00 – 2.00 = 1.00 5.00 IV 10 3.50 – 3.00 = 0.50 5.00 45 22.00ACTUAL PROFITS AP Product Qty. Rate of Profits Total Rs. I 15 2.00 – 1.50 = 0.50 7.50 II 15 1.50 – 0.80 = 0.70 10.50 III 10 2.50 – 2.00 = 0.50 5.00 IV 10 3.00 – 3.00 = Nil. Nil 50 23.00 Standard Profit (SS) Revised Standard Profit Actual Budget BSPATIL 114
  • 115. Product Qty Rate Value Standard Margin per Unit of of Standard Mix Profit I 15 0.50 7.50 = 22 / 45 II 15 0.20 3.00 = Rs. 0.4889 III 10 1.00 10.00 RSP = 50 x 0.4889 IV 10 0.50 5.00 = 24.44 50 25.50Total sales Profit Variance = BP – AP = 22.00 - 23.00 = Rs. 1.00 (F)Sales Rate of Profit Variance (SRPV) = AQ (SRP – ARP) I = 15 (0.50 – 0.50) = Nil II = 15 (0.20 – 0.70) = 7.50 (F) III = 10 (1.00 – 0.50) = 5.00 (A) IV = 10 (0.50 – Nil) = 5.00 (A) 2.50 (A)Sales Volume Variance (SVV) : = (SRP – (BQ – AQ) I = 0.50 (20 – 15) = 2.50 (A) II = 0.20 (10 – 15) = 5.00 (F) III = 1.00 (5 – 10) = 5.00 (F) IV = 0.50 (10 – 10) Nil 3.50 (F)Reconciliation 1:Total sales Profit Variance = SRPV + SVV = 2.50 (A) + 3.50 (F) = Rs. 1.00 (F)Sales Quantity Variance (SQV) = BP – RSP = 22.00 – 24.44 = Rs. 4.44 (F)Sales Mix Variance (SMV) = RSP – SP = 24.44 – 25.50 = 1.06 (F)Reconciliation II: SVV = SQV + SMV 3.50 (F)= 2.44 (F) + 1.06 (F) = 1.00 (F)CONTROL RATIOS BSPATIL 115
  • 116. The management wants to know whether performance of its business is going as per estimated schedule or not.This can be identified with the help of control ratios. If the ratio are more than 100% then the performance will befavourable but if these ratios are less than 100% then the performance will be unfavourable or unsatisfactory. Theformula for computing certain control ratios are given below.The ratio indicates how much budgeted hours have been actually utilized. If the ratio if 80% then it means that 80%budgeted hours have been utilized and the remaining 20% capacity remain idle.This ratio shows the level of activity attained during the period.This ratio shows the level of efficiency attained during a particular period. If this ratio is 130% then it shows that theefficiency is more by 30% or it has gone up by 30%.This ratio shows whether actual working days available are more or less than the budgeted working days. If the ratio ismore than 100% then actual working days are more than the budgeted number of working days and vice versa if theratio is less than 100%.Example Product X takes 5 hours to make and Y requires 10 hours. In a month of 25 effective days of 8 hours a day, 1000units of X and 600 units of Y were produced. The company employees 50 workers in the production department. Thebudgeted hours are 1,02,000 for the year. Calculate capacity ratio, activity ratio and efficiency ratio.SolutionStandard Hours for Actual Production:Product X : 1000 x 5 = 5000 HoursProduct Y : 600 x 10 = 6000 Hours --------------- 11000 Hours ---------------Budgeted Hours (Monthly = 1,02,000 / 12 = 8500 HoursActual Hours Worked = 50 x 25 x 8 = 10,000 Hours BSPATIL 116
  • 117. = 117.65% = 129.41% = 110.41%Since al the there control ratios are more than 100% organisation is performing well in producing the products X and Y. BSPATIL 117
  • 118. LESSON 9 COST LEDGER ACCOUNTINGCost accounting system can be introduced in an organization in two ways. They are: 1. Cost Leger Accounting 2. Integral Accounting.Cost Leger Accounting: Under this method separate set of cost accounts have to be maintained so as to derive costdetails. It will differ from general financial accounting system adopted in the organisation. Hence, it requires twoweparate set of accounts. It can be called inter-locking system. Under cost Ledger Accounting the books are kept onlyfor the impersonal accounts. To make this system self-balancing certain set of control accounts have to be prepared. As in the case of general accounting system, transactions relating to factory operations which are ultimatelyreflected in the cost accounts are recorded in the books of original entry. Summaries from these books are journalizedand posted in the general ledger which contain control accounts and subsidiary books. The following ledger accounts inthis system.Stores Ledger:In consists of accounts of individual items of raw materials, components and consumable stores. Receipts are posted intothe stores ledger on the basis of stores received notes and issues are recorded on the basis of requisition slip. The balanceof this account shows the stock in hand.Work in Progress Ledger: It consists of accounts of each job pending on the floor. Each job accounts is debited with all direct costscharged to the job and a share of overheads. It is credited with the values transferred to finished stock ledger and whenjob is completed.Stock ledger: It contains item wise accounts in respect of finished stock intended for sale. A separate account is opened is foreach finished product or job.Cost Ledger: It is the main ledger of the costing department. It contains control accounts in respect of each ledger like storeledger, stock ledger and work in progress ledger. In addition, it contains general ledger control accounts, wages controlaccounts and overhead control accounts.Control accounts: A control account is maintained in the cost ledger so that double entry in the cost ledger may be completed andmake it self – balancing. These control accounts are nothing but total accounts or adjustment accounts, summarizingmass of information contained in the subsidiary ledgers. These control accounts are posted with the totals of items whichhave been debited or credited in detail to the accounts in the ledgers to which they relate. The balance in controlaccounts represents the total of balances in a number of accounts of similar nature maintained in that subsidiary ledger towhich the control relates.Advantages of Control accounts: Control accounts helps- to provide a check for ensuring that all expenditure are recorded.- provides a basis for reconciliation with financial accounts.- provided ready means of preparing monthly or periodical financial statements. BSPATIL 118
  • 119. Types of Control Accounts: A brief description about different control accounts are given below:Stores Ledger Control Accounts: This accounts reveals the value of stores received, issued and balances in hand. Receipts are posted from goodsreceived posted on the basis of material requisition in the credit side of the account. The balance of this accountrepresents the total balance of stock which should agree with aggregate of the balance of individual accounts in thestores ledger.Wage Control Account: This accounts records labour transactions in aggregate. It is debited with gross wages shown in wages analysissheet. It is closed by transfer of direct labour to work in progress and indirect labour to overhead.Work-in-progress Control Account: It represents the total WIP at any time. It is debited with the totals of materials, wages and overheads astransferred from the respective control accounts. The completed job will be credited in this account. Thus, this accountshows the shows the total value of unfinished jobs.Works Overhead Control Account: It deals with factory overhead expenses in aggregate. It is debited with the amount of indirect material, indirectmaterial analysis and wage analysis sheets. It is credited with the amount of overheads, recovered, as obtained from theapplied overhead analysis sheets. The balance represents under or over absorption which is transferred to overheadadjustment account.Administrative Overhead Control Account: It is debited with the administration overhead incurred and credited with the amount of administrative overheadabsorbed by finished goods. The balance represents under or over absorption of administrative overhead which istransferred to overhead adjustment account.Setting and Distribution Overhead Control Account: It is debited with the amount of selling and distribution overhead incurred and credited with overhead aabsorbedby cost of sales. Balance represents under / over absorption.Cost of Sales account: It is debited with the cost of goods sold by transfer from finished goods ledger control and also by the sellingdistribution overhead absorbed. It is closed by transferring its balance to costing profit and loss account.Costing Profit and Loss Account: It is debited with the cost of sales, abnormal losses and under absorbed overhead and credited with sales value,abnormal gain and over-absorbed overhead. Balance represents profit or loss which is transferred to cost ledger controlaccount.Cost ledger control account or General ledger Adjustments A/c: BSPATIL 119
  • 120. It is maintained to make the cost ledger self-balancing. The main object of this account is to complete doubleentry in cost accounting. All the financial transactions on account of material purchases, wages, salaries andmiscellaneous expenses are credited to cost ledger control account by contra debit to various control accounts. Allfinancial receipts are debited to this account. The balance is this represents the total of the balance of all personalaccounts in the financial ledger.Problem 1. From the following data write up the various accounts as you envisage in the cost ledger and prepare a trialbalance as on 31st March 1984. a) Balance as on 1.4.83: Rs. (thousands) Material control 1240 Work – in – progress 625 Finished goods 1240 Production overhead 84 Administration overhead 120 (credit) Selling & Distribution overhead 65 General ledger control 3134 b) Transactions for the year ended 31.3.84 : Rs. (thousands) Materials : Purchases 4,801 Issued to: Jobs 4,774 Maintenance works 412 Administration office 34 Selling departments 72 Direct wages 1,493 Indirect wages 650 Carriage inward 84 Production overhead : Incurred 2,423 Absorbed 3,591 Administration overhead: Incurred 740 Absorbed 529 Allocated to sales 148 Sales overhead: Incurred 642 Absorbed 820 Finished goods produced 9,584 Finished goods sold 9,773 Sales realization 12,430Solution: BSPATIL 120
  • 121. Cost LedgerGeneral Ledger Adjustment Account Dr. Cr Rs. Rs. To costing P/L Account (sales) 12,430 By balance 3,134 By material control a/c 4,801 To balance c/d 3,226 By wages control a/c 2,143 By production overhead 84 control a/c (carriage) By production overhead 2,423 control a/c Admini. Overhead control a/ 740 c By selling & dis. Overhead 642 control a/c. By closing P/L a/c 1,689 15,656 15,656Material Control Account To Balance b/d 1240 By WIP control A/c 4774 To General Ledger 4801 By Production Overhead 412 Adjustment a/c Control A/c By Administration overhead 34 control a/c By selling & dis overhead 72 control a/c By balance c/d 749 6041 6041Wages Control Account To General Ledger 2143 By WIP Control A/c 1493 Adjustment a/c By production overhead 650 Control a/c 2143 2143Production Overhead Control Account To balance b/d 84 By WIP Control a/c 3591 To Material Control a/c 412 By Balance c/d 62 To General Ledger 84 Adjustment account To Wages Control a/c 650 To General Ledger 2423 Adjustment a/c 3653 3653Work – in – Progress Control Account BSPATIL 121
  • 122. To Balance b/d 625 By Finished Goods Control 9584 A/c To Material Control a/c 4774 By Balance c/d 899 To wage Control a/c 1493 To Production Overhead 3591 Control A/c 10483 10483Administration Overhead Control Account To Material Control a/c 34 By Balance b/d 120 To General Ledger 750 By Finished Goods Control 529 Adjustment a/c a/c To Balance c/d 23 By Cost Sales a/c 148 197 197Finished Goods Control Account To Balance b/d 1240 By Cost of sales a/c 9773 To Administration Overhead 529 By Balance c/d 1580 Control a/c To WIP Control a/c 9584 11353 11353Selling and Distributions Overhead Control Account To Balance b/d 65 By cost of sales 820 To Material control a/c 72 To General Ledger 642 Adjustments a/c To Balance c/d 41 820 820Cost of Sales Account To Finished goods Control a/ 9773 By Costing P/L a/c 10741 c To Selling & Dis. Overhead 820 Control a/c To admin. Overhead Control 148 a/c 10741 10741Costing Profit and Loss Account To Cost of Sales a/c 10741 By General ledger 12430 Adjustment a/c (Sales) To General Ledger 1689 Adjustments a/c 12430 12430 BSPATIL 122
  • 123. Trial Balance as on 31.3.1984 Dr. Cr. Rs. Rs. Material Control Account 749 WIP Control Account 899 Finished goods ledger control account 1580 Production overhead control account 62 Administration overhead control account 23 Sales & Distribution overhead control a/c 41 General Ledger Adjustment account 3226Problem : 2 From the following balances and transactions extracted from the Cost. Books of Gupta Engineering Co.,journalise and write up the accounts in the Cost Ledger and prepare a Trial Balance as at 31st Dec. 19… Also show theprofit or loss for the month.Balance as at 1-12-19… Dr. Cr. Rs. Rs. Worn-in-Progress Account 5200 Finished Goods Account 2300 Factory Overhead Suspense Account 50 Office Overhead Suspense Account 30 Store Ledger Control Account 1150 General Ledger Adjustment Account 8730 8730 8730 Transactions for the months were; Rs. Direct Wages 7500 Indirect Wages 500 Works Overhead absorbed in production 2200 Office Overhead absorbed in production 1200 Stores issued to production 4900 Goods finished during the months 18000 Finished Goods Sold 21000 Stores Purchased 5000 Stores issued to factory repair orders 200 Carriage inwards on stores issued for Production 80 Factory Expenses 1450 Office Expenses 1170 BSPATIL 123
  • 124. Solution: Journal Date Dr. Cr. 19… Rs. Rs. Dec.1 Work-in-Progress Ledger Control A/c Dr. 5200 Finished Goods Ledger Control A/c Dr. 2300 Factory Overhead Suspense A/c Dr. 50 Office Overhead Suspense A/c Dr. 30 Stores Overhead Suspense A/c Dr. 1150 To General Ledger Adjustment A/c 8730 19… Dec. 1 Stores Ledger Control a/c Dr. 5000 To General Ledger Adjustment A.c 5000 (Being stores purchased) W.I.P. Ledger Control A/c Dr. 4980 To stores Ledger Control A/c 4980 (Being the stores issued to production Rs. 4900 and carriage inward on stores issued Rs. 80) Factory Overhead Control A/c Dr. 200 To stores Ledger Control A/c 200 (Being stores issued to factory repairs) W.I.P. Ledger Control A/c Dr. 7500 To Wages Control A/c 7500 (Being indirect Wages charged to factory overhead) Factory Overhead Control A/c Dr. 500 To Wages control A/c 500 (Being the total wages brought into Costing Books from financial books) Wages control A/c Dr. 8000 To General Ledger Adjustment A/c 8000 (Being the total wages brought into Costing Books from financial books) Factory Overhead Control A/c Dr. 50 To Factory Overhead suspense A/c 50 (Being the latter transferred to former A/c reversing the entry Factory Overhead Control A/c Dr. 1450 To General Ledger adjustment A/c 1450 (Being the actual factory expenses brought into costing books) W.I.P. Ledger Control A/c Dr. 2200 To Factory Overhead Control A/c 2200 BSPATIL 124
  • 125. (Being the overheads charged to production) Office Overhead Control A/c Dr. 30 To office Overhead Suspense a/c 30 (Being Suspense A/c transferred to former reversing the entry) Office Overhead Control A/c Dr. 1170 To General Ledger Adjustment A/c 1170 (Being the actual office overheads brought into costing books) W.I.P. Ledger Control A/c Dr. 1200 To Office Overhead Control A/c 1200 (Being the office overheads charged to production) Finished Goods Control A/c Dr. 18000 To W.I.P. Ledger Control A/c 18000 (Being the finished goods transferred to former account) Cost of Sales A/c Dr. 20300 To Finished Goods Control A/c 20300 (Being the Finished Stock transferred to former account) General Ledger Adjustment A/c Dr. 21000 To Costing Profit & Loss A/c 21000 (Being the amount of sales brought into costing P&L A/c) Costing Profit & Loss Dr. 700 To General Ledger Adjustment A/c 700 (Being the amount of Profit) COST LEDGER General Ledger Adjustment Account Rs. Rs. To Costing P & L A/c 21000 By Balance b/d 8730 (Sales) To Balance c/d 4050 By Stores Ledger Control A/ 5000 c By Wages Control A/c 8000 By Factory Overhead 1450 Control A/c By Office Overhead Control 1170 A/c By Costing P & L A/c 700 25050 25050Stores Ledger Control Account BSPATIL 125
  • 126. Rs. Rs. To Balance b/d 1150 By W.I.P Ledger Control A/c 4980 To General Ledger 5000 By Factory Overhead 200 Adjustment A/c Control A/c By Balance c/d 970 6150 6150 To Balance b/d 970Wages Control Account To General Ledger 8000 By W.I.P. Ledger Control A/ 7500 Adjustment A/c c By Factory Overhead 500 Control A/c 8000 8000Factory Overhead Control Account Rs. Rs. To Stores Ledger Control A/ 200 By W.I.P. Ledger Control A/ 2200 c c To Wages Control A/c 500 To Factory Overhead 50 Control A/c To General Ledger 1450 Adjustment A/c 2200 2200Office Overhead Control Account Rs. Rs. To Office Overhead 30 By W.I.P. Ledger Control A/ 1200 Suspense A/c c To General Ledger 1170 Adjustment A/c 1200 1200Work-in-Progress Ledger Control Account Rs. Rs. To Balance b/d 5200 By Finished Goods Control 18000 A/c To Stores Ledger Control A/ 4980 By Balance c/d 3080 c To Wages Control A/c 7500 To Factory Overhead 2200 Control A/c To Office Overhead Control 1200 A/c 21080 21080 To Balance b/d 3080 BSPATIL 126
  • 127. Finished Goods Control Account Rs. Rs. To Balance b/d 2300 By Cost of sales A/c 20300 To W.I.P. Ledger Control 18000 20300 20300Cost of Sales Account Rs. Rs. To Finished Goods control 20300 By Costing P & L A/c 20300 A/c 20300 20300Costing Profit and Loss Account Rs. Rs. To Cost of Sale A/c 20300 By General Ledger 21000 Adjustment A/c (sales) To General Ledger 700 Adjustment A/c (profit) 21000 21000Trial Balance (As at 31st December ……….. Rs. Rs. To Stores Ledger Control A/ 970 General Ledger Control A/c 4050 c Work-in-Progress Ledger 3080 Control 4050 4050Problem : 3The following balances are extracted from the costs books of Ajith Traders Ltd., for the year ended 31st Dec. 1995 Dr. Cr. Rs. Rs. Stores in Hand 16000 24500 Stock of Finished Goods 24600 26100 Work-in-Progress 32000 33500 Purchases - 76000 Carriage Inwards - 500 Stores Issued - 68000 Wages – Direct - 67200 Wages - - Indirect - 22000 Work Expenses 69200 Cost of Finished Goods 240000 Cost of Finished Goods sold 238500 Selling Expenses 6100 Office & Administration Expenses 14000 BSPATIL 127
  • 128. The Cost Journal shows that Rs. 92700 and Rs. 13900 were allocated to Work-in-Progress for works overheads andoffice overheads respectively. Prepare Cost Ledger Account and a Trial Balance from the above information as at 31stDec. 1995.Solution: Rs. Rs. To Balance c/d 327600 By Balance b/d 72600 By Stores Ledger Control A/ 76000 c By Stores Ledger control A/c 500 (Carriage) By Wages Control A/c 200 By Production Overhead 69200 Control A/c By Administration Overhead 14000 Control A/c By Selling and Distribution 6100 Overhead Control A/c 327600 327600 By Balance b/d 327600Store Ledger Control Account Rs. Rs. To Balance b/d 16000 By Work-in-Progress Ledger 68000 Control A/c To General Ledger 76000 By Balance c/d 24500 Adjustment A/c (Purchases) To General Ledger 500 Adjustment A/c (Carroage) 92500 92500 To Balance b/d 24500Wages Control Account Rs. Rs. To General Ledger 89200 Work-in-Progress Ledger 67200 Adjustment A/c Control A/c Production Overhead Control 22000 A/c 89200 89200Production Overhead Control Account Rs. Rs. To Wages Control A/c 22000 By W.I.P. Leger Control A/c 92700 To General Ledger 69200 Adjustment A/c To Overhead Adjustment A/ 1500 c 92700 92700 BSPATIL 128
  • 129. Administration Overhead Control Account Rs. Rs. To General Ledger 14000 By W.I.P. Ledger Control A/ 13900 Adjustment A/c c By Overhead Adjustment A/ 100 c 14000 14000Selling and Distribution Overhead Control Account Rs. Rs. To General Ledger 6100 By Cost of Sales A/c 6100 Adjustment A/c 6100 6100Work-in-Progress Ledger Control Account Rs. Rs. To Balance b/d 32000 By Finished Goods Control 240000 A/c To Stores Ledger Control A/ 68000 By Loss in Production A/c 300 c To Wages Control A/c 67200 By Balance c/d 33500 To Production Overhead 92700 To Administration Overhead 13900 Control A/c Control A/c 273800 273800 To Balance b/d 33500Finished Goods Control Account Rs. Rs. To Balance b/d 24600 By Cost of Sales A/c 238500 To W.I.P. Ledger Control A/ 240000 Balance c/d 26100 c 264600 264600Cost of Sales Account Rs. Rs. To Finished Goods Control 238500 By Balance c/d 244600 A/c To Selling & Distribution 6100 Overhead Control A/c 244600 244600 To Balance b/d 244600 BSPATIL 129
  • 130. Overhead Adjustment Account Rs. Rs. To Administrative Overhead 100 By Production Overhead 1500 Control A/c Control A/c To Balance c/d 1400 1500 1500 By Balance b/d 1400Loss in Production Account Rs. Rs. To W.I.P. Ledger Control A/ 300 By Balance c/d 300 c 300 300Trial Balance(As at 31st December 1995) Dr. Cr. Rs. Rs. General Ledger Adjustment A/c 327600 Stores Ledger Control A/c 24500 Work-in-Progress Ledger Control A/c 33500 Finished Goods Control A/c 26100 Cost of Sales A/c 244600 Overhead Adjustment A/c 1400 Loss in Production A/c 300 329000 329000 Rs. Rs. To Cost of Sales A/c 20300 By General Ledger 21000 Adjustment A/c (Sales) To General Ledger 700 Adjustment A/c (profit) 21000 21000Trial Balance(As at 31st December ………….) Dr. Cr. General Ledger Control A/c 4050 Stores Ledger Control A/C 970 Work-in-Progress Ledger Control A/c 3080 4050 4050Problem : 3 The following balances are extracted from the coasts books of Ajith Traders Ltd., for the year ended 31 st Dec.,1995. BSPATIL 130
  • 131. 1-1-1975 31-12-1975 Rs. Rs. Stores in Hand 16000 24500 Stock of Finished Goods Work-in-Progress Purchases Carriage Inward Stores- Direct Wages-Direct Wages-Indirect Works Expenses Cost of Finished Goods Cost of Finished Gods sold Selling Expenses Office & Administration ExpensesThe Cost Journal shows that Rs. 92700 and Rs. 13900 were allocated to Work-in-Progress for works overheads andoffice overheads respectively. Prepare Cost Ledger Account and a Trial Balance from the above information as at 31stDec. 1995.Solution:General Ledger Adjustment Account Rs. Rs. To Balance c/d 327600 By Balance b/d 72600 By Stores Ledger Control A/ 76000 c By Stores Ledger Control A/ 500 c (Carriage) By Wages Control A/c 89200 By Production Overhead 69200 Control A/c By Administration Overhead 14000 Control A/c Overhead Control A/c 6100 327600 327600 By balance b/d 327600Stores Ledger Control Account Rs. Rs. To Balance b/d 16000 By Work-in-Progress Ledger 68000 Control A/c To General Ledger 76000 By Balance c/d 24500 Adjustment A/c (Purchases) To General Ledger 500 Adjustment A/c (Carroage) 92500 92500 To Balance b/d 24500 BSPATIL 131
  • 132. Wages Control Account Rs. Rs. To General Ledger 89200 By Work-in-Progress Ledger 67200 Adjustment A/c Control A/c By Production Overhead 22000 Control A/c 89200 89200Production Overhead Control Account Rs. Rs. To Wages Control A/c 22,000 By W.I.P. Ledger Control a/ 92700 c To General Ledger 69200 Adjustment A/c To Overhead Adjustment A/ 1500 c 92700 92700Administration Overhead Control Account Rs. Rs. To General Ledger 14000 BY W.I.P Ledger Control A/ 13900 Adjustment A/c c By Overhead Adjustment A/ 100 c 14000 14000Selling and Distribution Overhead Control Account Rs. Rs. To General Ledger 6100 By Cost of Sales A/c 6100 Adjustment A/c 6100 6100Work-in-Progress Ledger Control Account Rs. Rs. To Balance b/d 32000 By Finished Goods Control 240000 A/c To Store Ledger Control A/ 68000 By Loss in Production A/c 300 c To Wages Control A/c 67200 By Balance c/d 33500 To Production Overhead 92700 To Administration Overhead 13900 Control A/c Control a/c 273800 273800 To Balance b/d 33500 BSPATIL 132
  • 133. Finished Goods Control Account Rs. Rs. To Balance b/d 24600 By Cost of Sales A/c 238500 To W.I.P. Ledger Control 240000 Balance c/d 26100 A/c 264600 264600Cost of Sales Account Rs. Rs. To Finished Goods Control 238500 By Balance c/d 244600 A/c To Selling & Distribution 6100 Overhead Control A/c 244600 244600 To Balance b/d 244600Overhead Adjustment Account Rs. Rs. To Administrative Control 100 By Production Overhead 1500 A/c Control A/c To Balance c/d 1400 1500 1500Loss in Production Account Rs. Rs. To W.I.P. Ledger Control 300 By Balance c/d 300 A/c 300 300Trial Balance(As at 31st December, 1995) Dr. Cr. Rs. Rs. General Ledger Adjustment A/c 327600 Stores Ledger Control A/c 24500 Work-in-Progress Ledger Control a/c 33500 Finished Good Control a/c 26100 Cost of Sales A/c 244600 Overhead Adjustment A/c 1400 Loss in Production A/c 300 329000 329000 BSPATIL 133
  • 134. Lesson 10 Integral AccountingIntegral accounting system is defined as a single set of accounts which provides both financial and cost accountinginformation. Cost and financial accounts are kept in one self contained ledger which is known as integrated ledger. Thissystem does not recognize the need for separate set of accounts. Hence, there is no need for reconciliation of cost andfinancial accounts.Advantages is Integral systems: An integrated accounting system has the following advantages. 1. There is not problem of reconciliation as there will be only profit amount. 2. This system is economical and easy to understand. 3. Duplication of work and labor is avoided. 4. Cost data can present promptly and regularly. 5. All cost data and accounts are automatically checked and thus cost figures are accurate. 6. In broaden the outlook of accountant and his staff.Problem 1. Journalize following transactions assuming cost and financial accounts are integrated. Raw materials purchases 40000 Direct materials issued to production 30000 Wages and (30% indirect) 24000 Direct wages charged to production 16000 Manufacturing expenses incurred 19000 Manufacturing overhead charged to 18400 production Selling and distribution costs 4000 Finished products at cost 40000 Sales 58000 Closing stock --- Receipts from debtors 13800 Payments to creditors 22000Solution: 1. Stores ledger control a/c 4000 To Bought ledger control a/c 4000 2. Work-in-progress control a/c 30000 To stores ledger control a/c 30000 3. Wage control a/c 24000 To bank a/c 24000 4. Factory overhead a/c Dr. 7200 To wages control a/c 7200 5. Work-in-progress ledger control a/c Dr. 16800 To wages control 16800 6. Factory overhead a/c Dr. 19000 To bank a/c 19000 7. Work-in-progress ledger control a/c Dr. 18400 To Factory overhead a/c 18400 8. Selling & distribution overhead a/c Dr. 4000 To Bank a/c 4000 9. Finished stock ledger control a/c Dr. 40000 To Work-in-progress control a/c 40000 10. Cost of sales a/c Dr 44000 BSPATIL 134
  • 135. To finished stock ledger control a/c 40000 To selling & distribution control a/c 4000 11. Sales ledger control account Dr. 58000 To cost of sales A/c 58000 12. Bank A/c Dr. 13800 To Sales ledger control a/c 13800 13. Bought ledger control a/c Dr. 2200 To Bank a/c 2200Note: It has been assumed that all manufactured units have been sold and selling and distribution overhead have beencharged to cost of sales.Problem 2:The following are the balances of A co. Ltd. in its integrated ledger on 1st January: Dr. Cr. Stores Control Account 36000 Work-in-progress Account 24000 Finished Goods Account 26000 Cash at bank 20000 Creditors Control Account 16000 Fixed Assets Account 110000 Debtors Control Account 24000 Share capital Account 160000 Depreciation Provision Account 10000 Profit & Loss Account 64000 250000 250000Transactions for the twelve months ended 31st December were: Dr. Cr. Wages-direct 174000 Wages-Indirect 10000 Stores purchased on credit 200000 Stores issued to repair order 4000 Stores issued to production 220000 Goods finished during the period at cost 430000 Goods sold at cost 440000 Production overhead recovered 96000 Production overhead 80000 Administration overhead 24000 Selling and Distribution overhead 28000 Depreciation (works) 2600 Payments to suppliers 202000 Payments from customers 580000 Rates prepaid included in production overhead 600 incurred Purchases of fixed assets in cash 4000 Charitable Donations 2000 Fines paid 1000 Interest on bank loan 200 Income-tax 40000You are required to write upto the account in the integral ledger and take out a trial balance. The administration BSPATIL 135
  • 136. overhead is written off to profit and loss account.Solution:In the Integral Ledger of A Co. Ltd.Stores Control Account Dr. Cr. Date Particular Amt. Date Particular Amount Jan 1 To Balance b/d 36000 Dec31 By Work-in-Progress 220000 a/c Dec. To Creditors Control 200000 Dec31 By Production 4000 31 A/c overhead ac Dec.31 By Balance c/d 12000 236000 236000 Jan1 To Balance b/d 12000Work control Account Dec. To Bank 184000 Dec. 31 By Work-in-Progress 174000 31 A/c Dec.31 By Production 10000 overhead a/c 184000 184000Production Overhead Account Rs. Rs. Dec.31 To Wages Control 10000 Dec. By Pre-paid expenses 600 31 A/c (Rent) Dec.31 To Stores Control 4000 Dec. By Work-in-progress 96000 A/c 31 A/c Dec. 31 To Depreciation 2600 Provisions A/c 966000 96600Administration Overhead Account Rs. Rs. Dec.31 To Bank 24000 Dec. By Cost of Sales 24000 31 A/c 24000 24000Selling and Distribution Overhead Account Rs. Rs. Dec. To Bank 28000 Dec.31 By Cost of Sales A/ 28000 31 c 28000 28000 BSPATIL 136
  • 137. Work-in-Progress Account Rs. Rs. Jan1 To Balance b/d 34000 Dec. 31 By Finished Good 430000 A/c Dec. 31 Wages Control a/c 174000 Dec.31 By Balance c/d 94000 Dec. 31 To Stores Control a/c 220000 Dec.31 To Production 96000 Overhead A/c 524000 524000 Jan 1 To Balance b/d 94000Finished Goods Account Rs. Rs. Jan1 To Balance b/d 26000 Dec. 31 By Cost of Sales 440000` Jan.1 To Work-in-progress 430000 Dec.31 By Balance c/d 16000 A/c 456000 456000 Jan 1 To Balance c/d 16000Cost of Sales Account Rs. Rs. De. 31 To Finished Goods 44000 Dec. By Debtors 600000 A/c 31 Control A/c Dec.31 To S & D Overhead 28000 a/c Dec.31 To Costing P & L 132000 A/c Jan 1 To Balance b/d 6,00,000 6,00,000 stCosting P & L Account for the year ending 31 December Rs. Rs. De. 31 Administration 24000 Dec. By Cost of Sales 132000 Overhead A/c 31 Dec. 31 To P & L 108000 132000 132000P & L for the year ending 31st December Rs. Rs. Dec. 31 To Charitable 2000 Jan 1 By Balance b/d 64000 Donations To Fines 1000 Jan1 By Costing P & L 108000 A/c To interest on Bank 2000 Loan To Income-tax 40000 To Net Profit 128000 BSPATIL 137
  • 138. 172000 172000Pre-paid expenses account Rs. Rs. Dec.31 To Production A/c 600 Dec. By Balance c/d 600 31 600 600 Jan 1 To Balance b/d 600Depreciation Provision Account Rs. Rs. Dec. 31 To Balance c/d 12600 Jan.1 By Balance b/d 10000 Dec. By Production 2600 31 Overhead A/c 12600 12600 Jan. 1 By balance b/d 12600Debtors Control Account Rs. Rs. Dec. 31 To Balance b/d 24000 Dec.31 By Bank 580000 Dec.31 To cost of sales a/ 600000 Dec.31 By Balance c/d 44000 c Jan 1 To Balance b/d 624000 624000 Jan1 To Balance b/d 44000Creaditors Control Account Rs. Rs. Dec. 31 To Bank 202000 Jan1 By Balance b/d 16000 Dec.31 To Balance c/d 14000 Dec.31 By Stores 200000 Control A/c 216000 216000 Jan1 By Balance c/d 14000 BSPATIL 138
  • 139. Share Account Rs. Rs. Jan.1 To Balance b/d 20000 Dec. 31 By Wages 184000 Control Dec.31 To Debtors 580000 Dec.31 By Fixed Control A/c Assets A/c Dec.31 By Production 80000 overhead a/c Dec31 By admin. 24000 Overhead Dec.31 S&D overhead 28000 Dec.31 By creditors 202000 control a/c Dec.31 By Fines A/c 1000 Dec.31 By Charitable 2000 Donations Dec.31 By interest on 200 Bank Loan De.31 By Income-tax 40000 Dec.31 By balance c/d 34800 600000 600000 Jan.1 To Balance b/d 34800To Trial Balance as on 31st December Head of Account Dr. Bal Cr. Bal Rs. Rs. Stores Control A/c 12000 Work-in-progress A/c 94000 Finished goods A/c 16000 Prepaid expenses A/c 600 Depreciation Provision A/c 12600 Debtors Control A/c 44000 Creditors Control A/c 14000 Fixed Assets A/c 114000 Bank A/c 34800 Share Capital A/c 160000 Profit & Loss A/c 128800 Total 315400 315400 BSPATIL 139
  • 140. Lesson 11 Reconciliation of Cost and Financial AccountsWhen the Cos Ledger Accounting system is adopted in an organizations the results shown by the accounting records i.e.financial accounting and cost ledger accounting differ from each other. Hence, it becomes necessary to reconcile theprofit or loss shown by the two sets of records.Need for Reconciliation: 1. It is necessary to find out the reasons for the differences in the profitability of both the records. 2. Reconciliation enables to test the reliability of cost accounts. Costing figures in total should agree with the financial records.Reasons for disagreement:The difference in the profitability of cost and financial records may be due to the following reasons. 1. Items included in the financial accounts but not in cost accounts. a. Purely financial income- such as interest received on bank deposits, interest and dividend on investments, rent receivables, transfer fee received, profit on the sale of assets etc. b. Purely financial charges – such as losses due to scraping of machinery, losses on the sale of investments and assets, interest paid on the bank loans, mortgages, debentures etc., expenses of company’s transfer office, damages payable at law etc. c. Appropriation of profit – the appropriation of profit is again a matter which concerns only financial accounts. Items like payment of income tax and dividends, transfer to reserve, heavy donations, writing off of preliminary expenses, goodwill and patents appear only in profit and loss appropriation account and the costing profit and loss a/c is not affected. 2. Items included in cost accounts only: There are certain items which are included in cost accounts but not in financial accounts. They are: Charges inlieu of rent where premises are owned, interest on capital employed in production but upon which no interest is actuallypaid. 3. Under/Over absorption of overhead expenses:In cost accounts, overheads are absorbed at predetermined rates which are based on past data. In the financial accountsthe actual amount incurred is taken into account. There arise a difference between the actual expenses and thepredetermined overheads charged to product or job.If overheads are not fully recovered, which means that the amount of overheads absorbed in cost accounts is less thanthe actual amount, the shortfall is called as under recovery or under absorption. If overhead expenses recovered in costaccounts is more than that of the actually incurred, it is called over absorption. Thus, both the over and under recoverymay cause the difference in the profits of both the records. 4. Different basis of stock valuation:In cost accounts, the stock of finished goods are valued at cost by FIFO, LIFO, average rate, etc. But, in financialaccounts stocks are valued either at cost or market price, whichever is less.The valuation of work-in-progress may also lead to variation. In financial books only prime cost may be taken intoaccount for this purpose whereas in cost accounts, it may be valued at prime cost plus factory overhead. 5. Different basis of depreciation adopted:The rates and methods of charging depreciation may be different in two sets of accounts.Method of reconciliation of profits: BSPATIL 140
  • 141. The are two alternative forms of presentation of reconciliation of profits revealed by cost and financial accounts, namely Statement form Account formIn the statement form it is known as Reconciliation Statement and in the accounts form it is known as MemorandumReconciliation Account.In both forms, the profits as per one set is taken to start with and addition / adjustments are made to arrive at the profit ofanother set of books.Memorandum Reconciliation Accounts:It is an account form of reconciling the profitability of two records. The amount of profit as per cost records is creditedto the Memorandum account. The items to be deducted are debited and those to be added are credited to this amount.The balancing figure is profit/loss of financial accounts.The process of preparing reconciliation statement is worked out here in the form of problems.A proforma Memorandum Reconciliation Account is give below:Memorandum Reconciliation Account(As on ……………….) Rs. Rs. To Loss as per Cost Book By Profit as per Cost Books… To Items of expenses shown in By Items of expenses shown in cost Finance books but not in Cost but not in Fin. Books… books To Items of expenses By items of over charges in Cost undercharged in Cost Books or Books… overcharged in Fin. Books. To items of income over- By Over – valuations of opening charged in Cost Books or not stock in Cost Books… included in Fin. Books… To Over-valuation of opening By Under-valuation of closing stock stock in Fin. Books in Cost Books To Under-valuation of closing stock in Fin. Books..,. To Depreciation under-charged By Depreciation over-charged in in Cost Books or over charged Cost Books… in Fin. Books… To Profit as per Financial Books…Problem : 1The profit as per cost accounts is Rs. 150000. The following details are ascertained on comparison of cost and financialaccounts. Rs. Rs. a. Opening Stock: Materials 10000 15000 Finished goods 18000 16000 b. Closing Stock: Materials 12000 13000 Finished goods 20000 17000 c. Interest charged but not paid Rs. 10000 d. Write of preliminary expenses Rs. 500; Goodwill Rs. 1500 BSPATIL 141
  • 142. e. Dividend on UTI received Rs. 1000 f. Indirect expenses charged in financial accounts Rs. 80000 but Rs. 75500 recovered in Cost Accounts. Find out the profit as per financial accounts by drawing up a Reconciliation statement.Solution: Reconciliation Statement Rs. Rs. Profit as per Cost accounts 150000 Add : Opening stock of finished goods over 2000 valued in cost accounts Closing stock of materials under recovered in 1000 cost accounts Interest charged only on cost accounts 10000 Dividend on UTI not included in cost accounts 1000 14000 164000 Less : Opening stock of material under valued in 5000 cost accounts Closing stock of finished goods over valued in 3000 cost accounts Preliminary expenses written off in financial 500 accounts Goodwill written off in Final accounts 1500 Indirect expenses under recovered in cost 4500 14500 accounts Profit as per financial accounts 149500Alternatively, the above information may also be presented in the form of an account known as MemorandumReconciliation Account.Memorandum Reconciliation Account Rs. Rs. To Opening stock of material 5000 By profit as per Cost Account 150000 under valued in cost A/c To Closing stock of finished 3000 By Opening stock of finished 2000 good over valued in cost goods over valued in cost a/c account To Preliminary expenses 500 By closing stock of material 1000 written off under valued in cost accounts To Goodwill written off 1500 By interest charged only in 10000 cost A/c Overheads under recovered 4500 By dividend received 1000 To Profit as per financial 149500 Accounts (balancing fig) 164000 164000Problem: 2 BSPATIL 142
  • 143. Following are the figures available in financial accounts of the year ended 31.3.76. Direct Material consumption 250000 Direct Wages 100000 Factory overheads 380000 Admini. Overhead 250000 Selling and Dis. Overhead 480000 Bad debts 20000 Preliminery expenses 10000 Legal charges 5000 Dividend received 50000 Sales (120000 units) 700000 Interest on deposit received 10000 Closing Stock: Finished stock 40000 units 1,20,000. Work- 80000 in-progress The cost account reveal direct material consumption 280000 as Factory overhead recovered at 20% on price cost. Administration overhead at Rs. 2 per unit or production. Selling and distribution overheads at Rs. 4 per unit sold, prepare 1. Costing profit and loss account 2. Statement reconciling the profits disclosed by the costing profit and loss account and financial profit and loss account.SolutionClosing Profit and Loss account for the year ending 31.3.96 Rs. Rs. To direct materials 280000 By Sales 700000 To direct wages 100000 Closing stock: Finished goods 120000 To factory overhead 76000 Work-in-progress 80000 To administration overhead 480000 By net loss 516000 To selling & Dis. Overhead 480000 1416000 1416000Profit & Loss Account as per Financial Books Rs. Rs. To direct materials 250000 By sales 700000 To direct wages 100000 By dividend received 50000 To Factory overhead 380000 By Interest received 10000 To Administration overhead 250000 By Closing stock: To Selling & Dis. 480000 Finished goods 120000 To Bad debts 20000 Work-in-progress 80000 To Preliminary expenses 10000 Net loss 535000 To legal charges 5000 1495000 1495000 Reconciliation Statement BSPATIL 143
  • 144. Loss as per cost account 516000 Less: a. Over charging of materials in Cost accounts 30000 b. Over absorption of administration overhead in cost 230000 260000 account 256000 Add: a. Under absorption of factory overhead 304000 b. Bad debts not included in cost accounts 20000 324000 580000 Less : Adjustment of income items not included in cost 50000 accounts Interest on deposit received 10000 60000 520000 Add: Adjustments not shown in cost accounts Preliminary expenses 10000 Legal Charges 5000 15000 Net loss as per financial books 535000Notes: 1. In the costing profit and loss account factory overheads have been calculated as 20% of Rs. (280000 + 100000 – 76000) 2. Administration overhead at Rs. 3 per unit of production. Number of units produced = sales – 120000 + closing stock of 40000 units)Problem : 3From the following particulars, prepare (a) A statement of cost of manufacture for the year. (b) A statement of profit as per cost accounts and (c) Profit and loss account in the financial books and a reconciliation of the difference in the profits as shown by (b) and (c) above: Rs. Opening stock of raw materials 100000 Closing stock of raw materials 150000 Opening stock of finished product 200000 Closing stock of finished product 50000 Purchase of raw materials 600000 Wages 250000Calculate factory overhead at 25 percent on prime cost. Office overhead will be levied at 75 percent on factoryoverhead. Actual works expenditure amounted to Rs. 193750 and actual office expenses amounted to Rs. 152500. Theselling price was fixed at 25% above cost price. BSPATIL 144
  • 145. COST LEDGER ACCOUNTING Cost of manufacture Rs. Rs. a) Raw materials Opening stock 100000 Add purchases 600000 Less closing stock 150000 550000 Wages 250000 Factory overhead (25% on Prime cost) 200000 Office overhead (75% on Fy. Overhead) 150000 Cost of manufacture 115000 Statement of Profit (Cost Accounts) Rs. b) Opening Stock of Finished goods 200000 Cost of manufacture 1150000 Less Closing Stock of Finished goods 50000 Cost of sales 1300000 Profit (25% of cost) 325000 Sales 1625000 Profit and Loss Account Rs. Rs. To opening Stock 200000 By sales 1625000 To Raw materials: By Closing Stock 50000 To Opening Stock 100000 To Purchase 600000 Less Closing Stock 150000 550000 To Wages 250000 To Factory overhead 193750 To office overhead 152500 To Profit 328750 1675000 1675000 Reconciliation Statement Profit as per Cost Accounts 325000 Add Over-absorption of F.Y. overhead 200000 -193750 6250 Less under-absorption of office overhead 152500 -150000 2500 Profit as per Financial Accounts 328750Problem 4: A company’s net profit as per the cost books was RS. 23063 whereas the audited final accounts showed a profitof Rs. 16624. With the help of the following data, you are required to prepare a reconciliation statement, and explain thereason for the difference between the two figures. BSPATIL 145
  • 146. Profit and Loss Account Year ended 31st March, 19…. Rs. Rs. Opening Stock 247179 Sales 346500 Purchase 82154 329333 Closing Stock 75121 254212 Direct Wages 23133 Factory Overhead 20826 Gross profit c/d 48329 Total 346500 346500 Administration 9845 Gross profit b/d 48329 expenses Selling expenses 22176 Miscellaneous 316 income Net Profit 16624 Total 48,645 48645The costing records show: (a) Stock balance of Rs. 78179 (b) Direct wages absorbed during the year – Rs. 24876 (c) Factory overhead absorbed – Rs. 19714 (d) Administration expenses charged @ 3 per cent of selling prices. (e) Selling expenses charged @ 5 per cent of value of sales (f) No mention of miscellaneous incomeSolution Rs. Rs. Profit as per Cost Accounts 23063 Less : Difference in valuation of closing 78197 stock 75121 (-) 3076 Factory overhead under absorbed 20826 19714 (-) 1112 Selling expenses under-absorbed 22176 17325 (-) 4851 Add: Wages over-absorbed 24867 23133 1734 Administration overhead over-absorbed 10395 9845 550 Sundry income not shown in Costing 316 ProfitProfit as per financial accounts 16624. MODEL QUESTION PAPER B.Com., Cost Accounting BSPATIL 146
  • 147. Maximum:100 marks PART – AAnswer any FIVE questions 1. What are the objectives of cost accounting? 2. What do you mean ABC analysis? Explain it with an illustration. 3. What do you mean by labour turnover? What are its causes? 4. What are the different methods of allocation of joint costs to joint products. 5. What are the advantages and limitations of standard costing? 6. From the following particulars, calculate the economic order quantity and find out the number of orders to be placed in a year: Annual requirements : 1600 units Cost of material per unit : Rs. 40 Cost of placing and receiving on order : Rs. 50 Annual carrying cost of inventory values : 10% in inventory 7. A furniture manufacturer uses sunmica tops of tables. From the following information, find out price variance, usage variance and cost Variance: Standard quantity of sunmica per table : 4 sq. metre Standard price per sq. metre of sunmica : Rs. 5 Actual production of tables : 1000 Sunmica actually used : 4300 sq. meter Actual purchase price of sunmica : Rs. 5.50 per sq. meter PART – B ( 4 x 15 ) = 60Answer any FOUR questions 8. What are the objectives and advantages of cost audit? How is it different form management audit? 9. What do you mean by non-integrated accounting? What are the causes for reconciliation of cost and financial profits? 10. An engineering works, the standard time for a job is 16 hours and the basic wage is Rs. 1 per hour. A bonus scheme is instituted so that worker is to receive his normal rate for hours actually worked and 50% for the hours saved. Materials for the job cost Rs. 20 and overheads are charged on a basis of Rs. 2 per labour hour. Calculate the wages and effective rate of earning per hour if the job is completed (i) in 12 hours and (ii) in 14 hours. Also ascertain factory cost of the job on the same basis. 11. The following information relates to the activities of a production departments for a certain periods in a factory: Materials use : Rs. 72000 Direct wages : 60000 Hours of machine operations : 20000 Labour hours worked : 24000 Overheads vhareable to the department : 48000On one order carried out in the departments during the period, the relevant data were: Hours Rs. Materials used 4000 BSPATIL 147
  • 148. Direct wages 3300 Labour hours 1650 Machine hours 1200Prepare a comparative statement of cost of this order by using the following three methods of recovery of overheads: a) Direct labour hour rate method b) Direct labour cost method c) Machine hour rate method 12. A product is obtained after passing it through three processes. The following information is collected for January 1989. Process I II III Direct materials (Rs.) 5200 3879 4329 Direct wages (Rs.) 4000 5989 2987 Units produced 879 456 234 Normal loss 5% 10% 15% Values of scrap per units (Rs.) 4 8 101000 Units at Rs. 6 Each was introduced in process. The indirect expenses for the month Rs. 18000. Prepare processaccounts. 13. From the information given below, prepare (a) a statement showing profit or loss and (b) another statement reconciling the costing profit with those shown by financial accounts Trading and Profit and Loss Account for the year 1989 Rs. Rs. Material 150000 Sales (150000 320000 consumed units) Direct wages 75000 Factory expenses 45000 Office expenses 13000 Selling expenses 9000 Net Profit 27500 320000 320000The normal output of the factory is 125000 units. Factory expenses of a fixed nature re Rs. 25000. These expenses arefor all practical purposes constant. Selling expenses are constant to the extent of Rs. 3000 and the balance varied withsales. 14. Calculate overhead variance form the following data: Standard Actual (Rs) (Rs.) Fixed overheads 8000 8500 Variable overheads 12000 11000 Output in units 4000 3800 BSPATIL 148

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