Cost Accounting

BSPATIL

Syllabus Paper 3.3 Cost Accounting

Cost Accounting Elements of Cost + Cost Concepts Accounting and Control of Material Cost. Labour Wage payment and incentive Labour Cost Control Labour Turnover. Overhead Classification Allocation, Appointment and Absorption of overhead Process Costing Process losses inter-process profits. Standard costing Variance analysis Cost Ledgers- Reconciliation of cost and financial profits Integral Accounting

BSPATIL

Contents Lesson: 1 Introduction of Cost Accounting Definition Cost Concepts Element of Cost Installation of Costing System Lesson: 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 Contract Lesson: 7 Process Costing Simple Process Costing Process with Normal and abnormal causes Inter process profit Lesson: 8 Standard Costing and Variance Analysis Definition Uses and Limitations Material Cost Variance Labour Cost Variance Overhead Cost Variance and Sales Variance Lesson: 9 Cost Ledger Accounting Nature Control Accounts and its Uses Preparation of Cost Ledger Account Lesson: 10 Integral Accounting Nature Uses Preparation of Integral Accounts Lesson: 11 Reconciliation of Cost and Financial Accounts Need for Reconciliation Steps in reconciliation Preparation of Reconciliation Statement.

BSPATIL

Lesson: 1 INTRODUCTION OF COST ACCOUNTING Cost Accountancy It is the application of costing and cost accounting principle, method and techniques to the science, art and practice of cost control and the ascertainment of profitability. It includes the presentation 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 or committed to the establishment of its ultimate relationship with cost centres and cost units. In its widest usage it embraces the preparation of statistical data, the application of cost control methods and the ascertainment of the profitability of activities carried out or planned Cost accounting means such as analysis of accounting and other information as to enable management to know the cost involved in each activity together with its significant constituent elements in order to arrive at proper decisions.Cost accounting provides management with cost data relating to products, processes, jobs and different operations in order to control the costs and maximize the earnings. It play a vital role in all the business activities. Definition of Cost Accounting The application of costing and cost accounting principles, methods and techniques to the science, art and practice of cost control and the ascertainment of profitability. It includes the presentation 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.

BSPATIL

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.

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 are ascertained.

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 difference between the standard and the actual is known as the variance. The variances are analyzed to find out their causes and 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 the quantum of production. The variables costs are those which do change proportionately with the change in quantum of production. The marginal costing takes into account only the variable costs to find out marginal costs. The difference between Sales and Marginal costs is known as Contribution and contribution is an aggregate of Fixed 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 the effect 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.

BSPATIL

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 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 can be 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,

BSPATIL

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) ii) iii) iv) Production Cost or Manufacturing Cost, Administration Cost, Selling Cost, and Distribution Cost,

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.

BSPATIL

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 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.

BSPATIL

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 ones own capital. COST-CENTRE AND COST-UNIT Cost are ascertained according to Cost Centres or Cost Units.

Cost-centre
A Cost-Centre is a very wide term and includes the Productions. Department Processes, Work orders, Service Department, Operations, Machine Centers, Area or regions of sales, Warehouses, Persons, etc., of which the cost 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 Departments engaged in producing, or the Service cost-centres, i.e., the Service Departments which help the production work 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 brought together under one cost-centre for determination and control of costs. where the work is carried on through processes, each process is a cost centre. A machine or a group of machines can also be cost-centre. The Cost Centres are very useful for analysis, ascertainment and control of costs.

Cost Unit
A Cost Unit is a unit of quality of product, service, or time (or a combination of these) in relation to which costs may 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 or more 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. Cost Units are of two types: 1) Single. 2) Composite. The examples of

BSPATIL

Single Cost unit are-per tone, per meter, per kilogram etc., and the examples of composite units are-per passenger-kilometer, per tone-kilometer etc. INSTALLATION OF COSTING SYSTEM The need and importance of the installation and the organisation of a good system of cost accounting are being increasingly realized presently all over the business versatility. The common experience of enthusiastic youths climbing the business tree and falling mid-way without even collecting the leaves owes to the ignorance of he use installation and organisatoin of accosting system, and to the infatuation that the profits could be earned without it. A good system is the key-point governing, the mechanism of an enterprise in the field of cost control, 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 the expenses incurred. The cost system is for the business and not the business for a system of cost. Therefore, the system has to be so designed as to meet the specific needs of the enterprise.

A) General Consideration for installing Costing System

The 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 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.

BSPATIL

10

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 system The specific considerations as distinct from general considerations to be kept in view while installing a cost system 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 departments in necessary to suggest improvements.

BSPATIL

11

C) Principles for Smooth Working

The 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 Action
The 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 .

BSPATIL

12

Merit of Cost Accounting

Helpful in Planning and Decision Making: Cost information brings to light the profitable activities of the organisation. It provided the sound and rational basis for planning, the changes in products, plants, processes and techniques of production. The information provided by cost accounting is also useful in evaluating the various 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 by the 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 but also what they should have cost. The pre-planned standard costs are used for comparison of the cost of the products. Assistance in Manufacturing: Cost accounting pinpoints lapses in purchases of raw materials and other articles, their utilization. It indicates where wastages are occurring long before the production is finished. It helps 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 appropriate price policy. The technique of break even analysis serves as constant remember to increase the sales to the break even 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 all wastes and uneconomical processes. This cost accounts help in increasing points and minimizing loses. COST SHEET Cost Sheets are statements setting out the costs of a product giving details of all the costs. Presentation of costing 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 be shown in a separate column. The cost sheet should give cost per unit in the previous period for the purposes of comparison.

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.

BSPATIL

13

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 1 The following particulars have been extracted from the costing records of a manufacturing co., for the year ended 30th June, 1991. Rs. Raw material purchase Wages Direct Indirect Office Salaries Finished Goods stock Advertising Agents Commission Rent, rates & taxes etc (9/10 for works , 1/10 for office) Works Building-repairs Salaries-plant Depreciation Plant Machinery Building Carriage inward Carriage Outward 60,000 10,000 22,000 10,000 6,000 10,000 2,000 4,000 2,000 4,000 Rs. 4,000 2,000 2,000 6,000 1,00,000

Sales

4,00,000

Opening StockRaw material 40,000

BSPATIL

14

Travelling expenses Power Plant Maintenance

2,000 2,000 8,000

Miscellaneous expenses Plant Office Closing Stock Raw Materials Finished goods 40,000 6,000 2,000 2,000

Building 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 earned Solution Cost statement of the year ended 30th June, 1991. Particular Opening Stock of raw material Add Purchases Add Carriage inward Less Closing stock or raw materials i) Materials consumed Direct labour ii) Prime Cost 40,000 1,00,000 2,000 1,42,000 40,000 1,02,000 60,000 1,62,000 5.10 3,00 8.10 Total Cost Cost per unit

Add: Factory overheads

BSPATIL

15

Indirect Wages Power Plant Maintenance Rent, rates and taxes (9/10) Misc. Expenses Repairs Building (9/10)0.20 Salaries Plant Depreciation Plant -Building (9/10) iii) Works cost

10,000 2,000 8,000 1,800 2,000 1,800 4000 4,000 1,800

0.50 0.10 0.40 0.09 0.10 0.20 0.20 0.09 34,000 1,97,400 1.77 9.87

Add: Office Overheads

Office Salaries Rents, Rates and Taxes (1/10) Misc. expenses Repairs Building (1/10) Depreciation- Building (1/10) iv) Cost of Production Add: Opening Stock of finished product 22,000 200 4,000 200 200 1.10 0.01 0.20 0.01 26,600 0.01 2,24,000 10,000 2,34,000 6,000 2,28,000

1.33 11.20

Less: Closing stock of finished goods

Cost of goods sold

Add: Selling and distribution overheads Carriage outwards Travelling expenses Advertising Agents Commission
Cost of Sales Add Profit margin v) Sales value Problem 2

6,000 2,000 6,000 10,000

24,000 2,52,000 1,48,000 4,00,000

The cost of Sale of Product A is made up as follows: Materials used in 55000 Direct Expenses 5000

BSPATIL

16

Manufacturing Materials used in Primary packing Materials used in selling product Materials used in Factory Materials used in office Labour required in Producting Labour required for factory supervision

10000 Indirect Expenses (factory) 1500 Administration expenses 750 Depreciation of office building & equipments 1250 Dep. On factory buildings 10000 Selling expenses 2000 Freight on material purchased Advertising

1000 1250 750 1750 3500 5000 1250

Assuming that all products are manufactured are sold, what should be the selling price to be obtained as a profit of 20% on selling price? Solution COST SHEET STATEMENT OF COST AND PROFIT 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 125000 Problem 3 From the following data prepare a cost & profit statement of Vijay stoves manufacturing company for the year 1990. Stock of materials as on 1.1.1990 35000 Establishment expense 10000

BSPATIL

17

Stock of materials as on 31.12.1990 Purchase of materials Direct wages Factory expenses

49000 Completed stock in hand 1.1.90 52500 Completed stock in hand 31.12.90 95000 17500 Sales

35000

189000

The number of stoves manufacturing during the year 1990 was 1000. The company wants to quote for the contract for the stoves to be quoted are of uniform quality and make similar to those manufacturing in the previous year. But cost of materials has increased 15% and cost of factory labour by 10%. Prepare a statement of net profit to be quoted to give the same 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

18

Solution
COST AND PROFIT STATEMENT OF STOVES 1990 Amount Amount Rs. Rs. Opening Stock of Materials35000 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 6305 cost) SELLING PRICE 63058

BSPATIL

19

Lesson 2 Material Cost The term materials refers to such commodities which are supplied to the manufacturing industry in their crude or original forms. They are raw in nature of have to be processed further. Broadly, these may be classified in the following 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 an effective control is exercised over them. The storage space and storage costs re reduce thereby. Control over materials is also necessary to prevent extra-expenses on their unnecessary purchase and improper use. A regular supply of materials greatly helps the production schedule. It is necessary, therefore, that statements are prepared to accurately record the value 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 and valued 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.

BSPATIL

20

After receiving the Purchase Requisitions, the next step is to select the suppliers to whom the orders may be sent for the 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 the purchase of requisitioned materials. The purchaser order should be prepared on the printed form and should contain all the necessary details, so as to 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 that production work may not suffer. The Receiving Department checks the supply from the copy of the Purchaser order and prepares his report of the goods 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 21 BSPATIL

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 inventory Purchasing 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. Maintenance of Stock Levels The next important point after determination of EOQ is to decide as to when the order for purchase should be placed. The answer is simple. The order for purchase should be placed when the stock is reduced by usage to the Order Point. The Order Point is one where the order should be placed for the economic order quantity. For deciding Order Point, two things, viz., (1) Lead time and (2) Usage during Lead time, are the determining factors. Lead time is the supply time, or to be more specific, Lead Time is the time interval between placing an order and having materials on the 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 season only, 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. Minimum Level 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. 1. 2. 3. 4. The following levels are generally fixed. Maximum level Minimum level Order level Danger level

1. Maximum level

BSPATIL

22

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 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 Analysis

Economic 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 must be 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 single purchase or number of units should be manufactured in a single run so that the total costs-ordering or set up costs and inventory carrying costs are at the minimum level. In other

BSPATIL

23

words, it is the quantity that should be ordered at one time so as 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 A S I

= = = =

Economic order quantity or number of units in one lot. Annual usage in units Ordering costs for one order (or set-up costs for one set-up) 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 per unit, cost of placing and order is Rs. 18. Calculate the E.O.Q.

Solution:

Where S I

A = =

= Annual usage Ordering cost for one order Inventory carrying costs per unit per year.

Problem 2 Two components A and B are used as follows: Normal usage 50 units per week each Minimum usage 25 units per week each Maximum usage 75 units per week each Re-order quantity A:300 units B:500 units Re-order period A:4 to 6 weeks B:2 to 4 weeks

Calculate for each component:

a) Re-order level b) Minimum level

BSPATIL

24

c) Maximum level

d) Average stock level

Solution
Re-order level = Maximum consumption * maximum re-order period Component A = Component B Minimum level = Component A Component B 75*6 = 450 units = 75*4 = 300 units Re-order level (Normal consumption * Normal re-order period) = = 450-(50*5) = 300-(50*3) = 200 units 150 units

Maximum level = Re-order level + Reorder Quantity (Minimum consumption * Minimum re-order period) Component A = Component B = 450 + 300 (25*4) = 650 units 300 + 500 (26*2) = 750 units (Minimum level + Maximum level)

Average Stock level = Component A = Component B =

(200+650) = 425 units (150+750) = 450 units

Need for Inventory Control The term Inventory is used to denote (i) goods awaiting sale (the stock items of a trading concern and the finished stocks of a manufacturer); (ii) the goods in course of manufacture, known as work-in-progress, and (iii) goods to 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 and the cost of inventory (i.e., raw materials W.I.P., and finished good) represents about one-third of the total assets. As the costs of materials and inventory are quite formidable but at the same time controllable, there is a great need felt for proper planning, purchasing, handling and accounting for the same, and also to organize the system of inventory control in 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.

BSPATIL

25

Techniques of Inventory Control The 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 of quantities and values involved. The sales stipulated as per sales Budget of the corresponding period generally works out to be the key factor to decide the production quantum during the budget period, which ultimately decides the purchases to 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 values so that the most valuable items may be paid greater and due a attention regarding their safety and care, as compared to others. 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 or wastage of any items of this list may prove to be very costly; proper care need be exercised on B list items and comparatively less control is needed for C list items. The rules relating to receipt maintenance issue and writing off stores 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 exercising selecting control on materials. An analysis of the material cost will show that a smaller percentage of items may represent a smaller percentage of the value of items the percentage number of which is more or less equal to their value of consumption. Items falling in the first category are treated as A items, of the second category and B items and items of the third category are taken as C items. Such an analysis of materials is known as ABC analysis. This technique of stock control is also known as stock control according to value method or always Better Control method or Proportional 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 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 be divided into three categories vital, essential or desirable keeping in view the critically to production.

BSPATIL

26

Perpectual Inventory System Perpectual Inventory is a system of records maintained by the controlling department, which reflects the physical movement of stocks and their current balance. It aims at devising the system of records by which the receipts and issues of stores may be recorded immediately at the time of each transaction and the balance may be brought out so as 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 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.

BSPATIL

27

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 price Average price Methods: 1. Simple Average 2. Weighted Simple Average 3. Periodic Weighted Average 4. Moving Simple Average 5. Moving Simple Average 6. Moving Weighted Average
First 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 follows for the subsequent lots. The closing stock in this method is valued at the latest purchase price and thus it represents the current 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 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.

BSPATIL

28

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 done in the reverse order of purchases. In times of rising prices, this method is considered best for application, as the current cost 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 good when 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. This minimum stock is known as base stock or the safety stock and is not used unless an emergency arises. This stock is valued at long-run normal price, while the stock in excess of this stock is priced on some other basis, usually are FIFO or 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 simple average is calculated by dividing the total of the rates of the materials in the stock from which the materials to be priced could 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 Method Merits 1. This method irons out the wide fluctuations in the prices. 2. With every new issue, a new rate is not calculated.

BSPATIL

29

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.
Periodic Simple Average Method This method is similar to Simple Average Method except that the average rate is calculated periodically, say monthly or quarterly or once in the accounting period. If calculated monthly, the average of the unit prices of all the receipts 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 an interval 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 given number 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 this system, 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 method April 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 units Solution 1) Stores Ledger Account as per FIFO METHOD Date Details Qty 300 200 Receipt Rate Amt 2/- 600 2.20 440 Issued Rate Amt Balance Rate Amt 2/600 2.00 2.20 600 440

April Balance 1 2 Purchase

Qty -

Qty 300 300 200

BSPATIL

30

4 Issue 6 Purchase 200 2.30 460

150

2.00

300

11 Issue 19 Issue 22 Purchase 27 Issue

150 200 200 2.40 480 200 50

2.00 2.20

300 440

2.30 2.40

460 120

150 200 150 200 200 200 200 200 200 200 150

2.00 2.20 2.00 2.20 2.30 2.20 2.30 2.30 2.30 2.40 2.40

300 440 300 440 460 440 460 460 460 480 360

Value of Closing Stock : 150 units at the rate of Rs. 2.40 value Rs. 360/2) LIFO METHOD Date Details April Balance 1 2 Purchase 4 Issue 6 Purchase 200 2.30 460 Unit 300 200 Receipt Rate Amt 2.00 600 2.20 440 Issued Rate Amt 2.20 330 Balance Rate Amt 2.00 600 2.00 2.20 2.00 2.20 2.00 2.20 2.30 2.00 2.20 2.30 2.00 600 440 600 110 600 110 460 600 600 115 400

Unit 150

Unit 300 300 200 300 50 300 50 200 300 50 50 200

11 Issue

150

2.30

345

19 Issue

22 Purchase 27 Issue

200

2.40

480

50 50 100 -

2.30 2.20 2.00 -

115 110 200 -

200 2.40 480 50 2.00 100 Value of Closing Stock : 150 units @ Rs. 2.00 value is Rs. 300/3) WEIGHTED AVERAGE METHOD Date Details Receipt Unit Rate Amt April Balance 300 2.00 600 1 2 Purchase 200 2.20 440 Issued Unit Rate Amt -

200 200 150

2.00 2.40 2.00

400 480 300

Balance Unit Rate Amt 300 2.00 600 500 2.08 1040

BSPATIL

31

4 Issue 150 2.08 312 350 2.08 6 Purchase 200 2.30 460 550 2.16 11 Issue 150 2.16 324 400 2.16 19 Issue 200 2.16 432 200 2.16 22 Purchase 200 2.40 480 400 2.28 27 Issue 250 2.28 570 150 2.28 Value of Closing Stock : 150 units at the rate of Rs. 2.28 value Rs. 342.00/ 4) SIMPLE AVERAGE METHOD Date April 1 2 4 6 11 19 22 27 Details Balance Purchase Issue Purchase Issue Issue Purchase Issue Receipt Unit Rate Amt 300 2.00 600 200 200 200 2.20 2.30 2.40 440 460 480 Issued Rate Amt 2.10 2.17 2.17 2.23 315 325.50 434 557.50

728 1118 864 432 912 342

Unit 150 150 200 250

Unit 300 500 350 550 400 200 400 150

Balance Rate Amt 2.00 600 2.10 2.10 2.17 2.17 2.17 2.23 2.23 1050 35 1193..50 868 434 892 334.50

Value of Closing Stock : 150 units at the rate of Rs. 2.23 value Rs. 334.50
Problem 4 The 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. Solution Stores 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

BSPATIL

32

5 6 7

22 -

10 3

10.30 226.6 22 4 12

34 10 9.15 31.50 20 10.20 306.0 4 20 4 10.30 226.6 10.20 40.80 8 10.00 120.0

10.20 9.15 10 10.20 10 10.20

346.80 91.50 200 40.80 200 40.80

10.00 80.00

BSPATIL

33

Closing Stock 8 tonnes @ Rs. 10 = Rs. 80/Stores Ledger Under FIFO Date 1 1 2 3 Receipts Qty Rate Issues Qty Rate 30 30 10 20 5 1(los s) 40 Balance Qty Rate 50 10 20 10 20 10 60 10.20 55 54 54 10 14 10 14 10 22

Amt

Amt 300 -

60 -

10.20 612 -

Amt 500 200 200 612

10 200 10.20 51 10.20 10.20

10.20 561 10.20 550.80 10.20 9.15 10.20 9.15 10.20 9.15 10.30 10.3 550.80 91.50 142.80 91.50 142.80 31.50 226.60 82.40

4 5 6

10 22

9.15 -

91.5 -

10.20 408

10.30 226.6 -

14 10.20 142.80 10 9.15 91.50 8 22 10.30 226.60 Closing stock 8 tonnes @ Rs. 10.30 = 82.40

BSPATIL

34

Chapter 3 Labour Cost Labour Cost, representing the human contribution to production, is an important cost factor which requires constant control, measurement and analysis. A rational approach to the problems of labour, fair maintenance of wage records for wage ascertainment, fair wage policy, and the incentives for earning more wages go a long way in providing a sense of security and stability to the 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 the wage rates of the workmen. Efficiency of labour (a concept meaningless to material) has an important impact on the successful working of a business. Labour cost is second major element of cost. Proper control and accounting for labour cost is one of the most important problems of a business enterprise. But control of labour cost presents certain practical difficulties unlike the control of material cost. Labour costs represent the various items of expenditure Such as:

Monetary Benefits: i) Basic Wages; ii) Dearness Allowance; iii) Employers Contribution to Provident Fund; iv) Employers Contribution to Employees 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 products manufactured or service rendered. Control of labour costs is an important objective of management and the realization of this objectives depends upon the cooperation 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 departments1) Personnel Department, 2) Engineering Department, 3) Rate or time and Motion Study department 4) Time-Keeper Department 5) Cost Accounting Department

BSPATIL

35

6) Pay-roll Department

Factors Governing a Satisfactory system of Wage Payment The following factors should be considered while evolving a suitable and a successful system of wage payment.
a) b) c) d) e) f) g) h) i) j) k) The system should depend upon the nature of the worked and the efforts involved. It should guarantee a minimum living wage to ensure a satisfactory standard of living. It should be based upon a scientific time and motion study. It should be capable of being understood by al the employees. It should be flexible and capable of being adapted to changed circumstances. 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. It should reduce the labour turnover. The cost of working the system should be the least. It should boost employee morale. It should be acceptable to trade unions. 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.

BSPATIL

36

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 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 in the workers towards the scheme. A change in the system should be effected only after taking the workers into confidence. Labour Turnover Labour turnover is an index denoting change in the labour force for an organisatoin during a specified period. In every industry, works leave their job a new workers have to be appointed to replace them. The ratio of the replaced workers to the number of works is the Labour Turnover Ratio. If more workers leave the factory, the turnover would be high, 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 ones control. Cause for resignation The 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,

BSPATIL

37

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

Multiplication of the formula by 100 indicated Ratio of the turnover in percentage.

2. Replacement Method

In this method, only the actual replacement are counted irrespective of the number of workers left. If new workers are appointed 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 low turnover. It is always better to keep the turnover low, but it should nto be construed that the factories with low turnover are always more productive. There may be low turnover in a factory for the reason that the workers engaged therein are below standard and so they cannot find better place in other factories. Secondly, low turnover in the senior scales may not provide promotion factories. Secondly, low turnover in the senior scales may not provide

BSPATIL

38

promotion opportunities to the 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 Turnover There are two types of costs i) Preventive cost and ii) Replacement costs And amenities to the workers that they may be tempted to continue at their job in the factory and not to leave it for example: 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. 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 to replacement, 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 accidents The treatment of Prevention and Replacement costs is to charge them as overhead and apportion to the different departments 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 the wages 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 at the right time, or the machines are not kept fir for working, the time goes waste. Sometimes, delay in the proceeding process delays the operations of the succeeding progress. Here also the workers have to wait due to faulty planning or bad management. 2. Careless in Supervision:

BSPATIL

39

If the foreman of a department does not take his duty seriously, the labour working under him also becomes careless and spoils 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 the time 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. As such, idle time need be reduced as far as possible. Idle-time cost can be divided into two types: (i) Normal, and (ii) Abnormal Normal 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 charged as an overhead expense to the production. If the responsibility for this type of idle-time can be fixed upon a particular department, the cost should be charged to the overheads of that department and absorbed in the production cost of that department. OVER-TIME The time worked over and above the normal hours is overtime. The remuneration usually paid for the overtime work is at 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. Workers health is adversely affected; 2. The quality of the output is at a discount; and

BSPATIL

40

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 the factory, and wages based on the quantum of work turned out. These are thus known respectively as the time wage and the piece wage methods of remuneration. Since each of these has its own advantages and disadvantages, attempts are made to combine the two, mainly with a view to overcoming their disadvantages. We have therefore, the premium bonus or the incentive schemes which may either be considered to be merely variations of the two, or as another of wage payment. These three methods may also be re-classified into only two groups, viz., the time wage system and the payment by results. Methods of Remuneration The methods of remuneration can be classified into: 1. Time Rate System 2. Pieced Rate System 3. Incentive Schemes

Time 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 of the day worker may be fixed on hourly, daily, weekly, fortnightly, or monthly basis depending on the practice followed in the concern. The basic feature of this system is that the worker is paid so much per unit of time regardless of the output he produces. The unit of time may be an hour, a day, a week or a month. Under this method, wages depend entirely upon the time clocked, but not on the efficiency of the worker. There are three variants of this system, each differing only in so 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.

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 certain percentage of efficiency and the rate increases in steps for efficiency slabs beyond the standard. As the efficiency is measured in terms of output, this method does not fall strictly under the area of time rate system. Payment by Results-Piece-work Rate

BSPATIL

41

The payment of wages under this system is based upon the out turn of the worker. The rate is fixed per piece of work and the worker is paid according to the pieces of work completed or the volume of work done by him, irrespective of the time taken by him in completing that work. A workman is free to earn as much as his ability, energy, or skill would 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 that wages are linked to the volume of work done regardless of the time taken by workers. Efficiency is recognized in all these schemes and workers get wages according to their avility, efficiency, and speed. The following schemes fall under the 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., 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 unit

BSPATIL

42

The 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 for each job and for efficiency below or above the standard different piece rates are paid according to different levels of efficiency. The following two methods of wage payment are studied under this system: a. Taylor Differential Piece-rate Method, and b. Merrick Differential Piece rate Method

Taylor Differential Piece-Rate

F.W. Taylor thought to improve the efficiency of workers by suggesting two rates of payment of wages: (I) (II) A higher rate to the workers who product equal to or more than the standard fixed for production during the day, and 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 defect Merrick suggested three piece rates for a job as follows: Percentage of Standard Output Upto 83% Above 83% and upto 100% Above 100% Payment under Merrick Method Normal piece rate 110% of normal piece rate 120% of normal piece rate

Incentive Schemes

Factors for Selecting Incentive Scheme

The 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 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.

BSPATIL

43

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 workers 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) (II) (III) Halsey Premium Scheme; Halsey Weir Scheme; 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) (ii) (iii) (iv) Day wage or the time rate is guaranteed. Even if output is less than the standard, one gets the time wage; Workers get premium for the output above the standard. It provides incentive to the workers to produce more; As the premium is not 100% but only 50% or so, the employers feel happy about it is a they share the remaining 50%; The scheme is very simple and understood easily by the workers.

Demerits
(i) (ii) (iii) A significant share of the bonus goes to the employers. So the workers object to it; Incentive is not so attractive as it is with the piece work; 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 premium in 1:2 ratio. Rowan Premium Scheme (variable sharing plan)

BSPATIL

44

Mr. James Rowan introduced this scheme in Glasgow in 1898. It is similar to Halsey scheme but the premium concept here is different. Here the premium is in the ratio of Time saved to Standard time, calculated on the ordinary wages. Premium = Wages of time worked x Time saved / Standard Time Or; (AT x R) TS / ST This scheme also guarantees day wage as is done by Halsey Plan. Problem 1 Calculate 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 a dearness allowance 50 paise per hour worked.

Solution Time Rate Method:Time Put in by workers x Rate per hour = 30 x 1 = Rs. 30
Problem 2 On the basis of the following information calculate the earnings of A and B on the straight price Rate basis and Taylors differential piece rate system. Standard Production Normal time rate 8 units per hour Rs. 0.40 per hour

Differential 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. 0.05 Earnings under the straight piece rate system:A: 54 units @ Rs. 0.05 = Rs. 2.70 B: 75 units @ Rs. 0.05 = Rs. 3.75

Differential 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

45

Standard output per hour is 8 units, So Standard Output for a 9 hour day is 72 units. A produces only 54 units which is less 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 other hand, Bs output of 75 units is more than the standard output of 72 units. So SA is to get higher piece rate of Re. 0.06 per unit. As earning: 54 Bs earning: 75 Problem 3 Calculate the earning of workers A,B and C under Merricks multiple piece system from the following particulars. Normal rate per Hour Rs. 1.80 Standard time per unit 1 minute units @ Re. 0.04 = Rs. 2.16 units @ Re. 0.06 = Rs. 4.50

Output per day as follows:Worker A: 384 units Worker B: 450 units Worker C: 552 units Working rows per day are 8 Solution 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 paise Calculation of level of Performance:Standard output per day = 480 units Worker As Output per day = 384 units Worker As level of performance = (384/480) x 100 = 80% Worker Bs Output per day = 450 units Worker Bs level of performance = (450/480) x 100 = 43% Worker Cs Output per day = 550 units Worker As level of performance = (550/480) x 100 = 1150%

Earnings of workers A:Merricks 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 As level of performance is 807. Which is below 83%.

Earning of Worker B:-

BSPATIL

46

For 450 units @ 3.3 Paise per unit = 450 x 3.3/100 = Rs. 14.85 Worker Bs level of Performance is 93.75% which is between 83% and 100%. So he is entitled to get 110% of normal piece rate.

Earning of Worker C:For 552 units @ 3.6 paise per unit = (552 x 3.6)/100 Rs. 19.87 Worker Cs level of performance is 115% which is more than 100% of standard output. So it is entitled to get 120% of normal Piece rate. Problem 4 Calculate the earnings of workers A and B under straight piece rate system and Taylors differential piece rate system from the following particulars. Normal Rate per hour Rs. 2.40 Standard time per unit 30 seconds

Differentials 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
Hourly Production Piece rate = = = = = = =

360 = 120 units 0 120 = 0.005 2.21 0

Low piece rate:LPR

80% of normal piece rate 80% x 0.005 0.004 120 of 0.005 0.006 = = 120 units x 8 960 units

High piece rate: HPR

Standard Production per day

Computation of earnings of A and B:Normal Piece Rate Production per day A 0.005 800 B 0.005 1000

BSPATIL

47

Standard Production Per day

960 units

960 units 1000 x 0.005 Rs. 5 0.006 x 1000 Rs. 6.00

a. Straight piece Rate System 800 x 0.005 Earning Rs. 4.80 b. Taylors Differential piece Rate 0.004 x 800 Rs. 3.2 Problem 5

From the following data, total monthly remuneration of three workers A, B and C under the

Gants 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 units iii) Piece works rate 50 paise per unit

Solution
Standard Production per month is 1000 units and piece rate is 50 paise per unit so guaranteed monthly payment is Rs. 500 (i.e. 1000 units @ 50 paise)

Level of Performance:Standard output per month Worker As Output Worker As level of Performance = 850 1000 units 850 units x 100 = 85%

Workers Bs Output:Worker Bs level of Performance

100 0
x 100 = 100%

Workers Cs Output:-

100 0
x 100 = 110%

Worker Cs level of Performance

Earning of Worker A:-

Worker As level of Performance is 85% which is below the standard performance so it will get Rs. 500 the guaranteed monthly payment.

110 0

Earning of Worker B:Worker Bs level of performance is 100% so he will get piece wages for 1000 units plus 20% bonus

BSPATIL

48

Piece Wages for 1000 units @ 50 paise per unit Add: 20% bonus i.e. (500 x 20 )/100 Total earning

Rs. 500 Rs. 100 Rs. 600

Earning or Worker C:Worker Cs level of Performance is 110% which is more than the standard Performance so he will get piece wage prices 20% bonus.

Thus dis earnings are as follows:Price wages for 1,100 units @ 50 paise per unit Add: 20% bonus (550 x 20)/100 Total earning Problem 6 The 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 Rs. 550 Rs. 110 Rs. 660

Additional bonus payable Rs. 2.50 per day shift Rs. 1.50 per Late shift Average output per operative for 54 hour week 120 articles i.e. including 3 Late shifts In order to increase output and eliminated overtime it was decided to with on to a system of payment by results the following information is obtained. Time rate Re. 1 per hour Basic time allowed for 15 articles 5 hours Piece work rate Add 20% to piece Premium Add 50% to time You are required to show i) ii) iii) iv) a) b) c) d) Hours worked Weekly earnings Number of articles produce and Labor cost per article for one operative under the following sysem Existing time rte Straight piece work Rowan system Halsay weir system

Assume that 135 articles produces in a 45 hours work under (b) (c) and (d) and that the worker earns half time saved under the Halsay system. The additional bonus under the existing system will be discontinued on the proposed incentive scheme.

BSPATIL

49

Solution a) Existing time Rate:Weekly wages 45 hrs. @ Re. 1 per hour 9 hrs @ Re. 1.50 per hour Day shift bonus 5 x 2.50 Late shift bonus 3 x 1.50
Total Earning

Rs. 4500 13.50 12.50 4.50 75.50

b) Piece rate system:Basic time : 5 hours for 15 articles Therefore cost of 15 articles Add: 20% Total Earning 5.00 1.00 6.00

Therefore Rare per article Rs. 6.00 / 15 = Rs. 0.40 Articles products in a week = 45 x 15/5 = 135 Hence Earning = 135 x 0.40 = Rs. 54.00

c) Rowan Premium System:Basic time = 5 hrs for 15 articles Adding 50% = 7 has for 15 articles Therefore time for producing one articles = 7 hrs / 15 = 30 minutes Therefore time allowed for 135 articles = 67 hrs Actual time taken for 135 articles 45 hrs Therefore time saved = 22 hrs Earning = Time wages x (% of time saved / Standard Time) x Time wage = 45 x 1 + (22 / 67) x 45 = 45 + 15 = 60

d) Halsay-Weir Premium System:Earning = Time wage + 50% (Time saved x Time rate) = 45 x 1 + 50% (67 - 45) x 1 = 45 + 11.25 = Rs. 56.25
The 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 0.629 0.400 0.444 0.417 article

Problem 7

BSPATIL

50

The 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 Less: time saved Time taken 10 hours 4 hours 6 hours

A worker completes a job in a certain number of hours. The standard time allowed for the job is 10 hrs, and the hourly rate 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 The worker earns Rs. 2 as bonus at 50% so total bonus at 100% should be Rs. 4. The hourly rate of wages being Re. 1 the time saved should be 4 hrs.
Standard time allowed Less: Time saved Time taken 10 hours 4 hours 6 hours

Earning under the roman Premium Plan:Earning Where T S R Therefore Earning = = = = = = = T x R + (S T / S) x T x R Time taken i.e., 6 hours Standard time i.e. 10 hours Rate per hour i.e. Re. 1 6 x 1 + (10-6/10) x 6 x 1 Rs. 6 + Rs. 2.40 Rs. 8.40

Problem 8 For a certain work order the Standard time is 20 hours, wages Rs. 5 per hour the actual time taken is 13 hours and factory overhead charges are 80% of standard time. So out a comparative statement showing the effect on paying wages Halsay plan.

Solution
Earning = = = = A.T x T.R + 50% (T.S. x T.R) 13 x 5 + 50% (7 x 5) 65 + 17.5 Rs. 82.50

Problem 9 A Workman whose basic rate of pay is Re. 1 per hour of working under the Rowan system of premium bonus. In addition he gets dearness allowance of Rs. 20 per week of 48 hours. During one week he does the following jobs.

BSPATIL

51

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 workers earning and the amounts to be charged to each job and to overhead.

Solution
Workers earning form Job 101 :Standard time 25 hours Time taken 20 hours Rate per hour Re. 1 Wages for actual time = 20 hrs @ 1 Re.

Premium according to Roman System = 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. 24.00

Proportion of dearness allowances:= 20 x (25/55) Earning from job 101 Total Rs. 9.09 Rs. 33.09

The workers earning from job 102:Standard time Time taken Rate per hour Earning = = = = = = 30 hours 24 hours = 1 Re. T x R + (T.S /Std) x A.T x R 24 x 1 + (6/30) x 24 24 + 4.8 Rs. 28.80

Proportion of Dearness allowance:= 20 x (30 / 55) = Rs. 10.91

Earning from job 102 Rs. 39.71

Total earning of the worker:Job 101 Job 102 Read Total = = = = Rs. Rs. Rs. Rs. 33.09 39.71 4.00 76.80

BSPATIL

52

Problem 10 The 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,B and C under Gantt task plan.

Solution
Standard Output at 10 units per hour is 80 units. As output is below the Standard Bs output is at the standard and Cs 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 B C = = = 8 hours x Re. 1 8 hours x Re. 1.20 90 hours x Re. 0.20 = Rs. 8 = Rs. 9.60 = Rs. 18

Problem 11 Standard 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. B 75 units and C produces 90 units. Calculate the wages of A,B and C under Merricks differential piece rate.

Solution
Standard output Basic wage Rate Piece rate = = = 10 units per hour Rs. 1.50 per hour 1.50 / 10 = Rs. 0.15

Percentage efficiency:= For A For B For C = = = (Actual output / Standard output) x 100 (40 x 100/80) (75 x (100/80) (90 x 100/90) = = = 50% 93.75% 112.5%

As efficiency being less than 83% he is paid the ordinary piece rate. Bs efficiency being 83% to 100%. He is paid at 110% of ordinary piece rate. Cs efficiency being more than 100% he is paid at 120%. Thus: A gets 40 x Re. 0.15 B gets 75 x 0.165 C gets 90 x Re. 0.18 = = Rs. 6.00 Rs. 12.37 = Rs. 16.20

BSPATIL

53

Lesson 4 OVERHEAD COST Overhead is the aggregate of indirect material cost, indirect wagers (indirect labor cost) and indirect expenses.

Classification of Overheads
The 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, cost centres 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, or absorbed by, cost centres or cost units. Salary of foremen, supervisors, works manager, storekeepers, etc. Wages of maintenance dept. employers 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, all administrations, selling, and distribution expenses fall under this group. Overhead is divided according to functions into: i) ii) iii) iv) Production or Manufacturing Overhead; Administration Overhead; Selling Overhead; Distribution Overhead

Production Overhead
It includes all overheads incurred from the stage of procurements of materials till the completion of the manufacture 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.;

BSPATIL

54

11.Repairs and maintenance of Power house; 12.Other expenses, e.g., Workers training and welfare, Inspection, Research and Development, Factory telephone and Stationary etc. Classification According to Behaviour

Fixed Overheads
Fixed overheads is one which tends to be unaffected by variation in volume of output. This overhead remains constant, i.e., does not change with the increase or decrease in production, within a certain range. The fixed overheads are related to the periods, and so the fixed costs are also known as Period Costs, e.g., the rent of the building or the salaries of the office staff.

Variable Overheads The variable overhead is one which tends to vary directly with volume of output. The variable cost increases in direct proportion with the increase in production, and decrease in production. It is known as Direct cost.
Salesmans Commission; Discounts to customers; Bad debts; Branch expenses; Postage; Stationery; Travelling; Salesmans 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 with volume 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 under this category. The un-controllable cost is one which cannot be influenced by the action of a specified member of the undertaking.

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 the product etc. The nature of the expense is such that it can easily be identified and allocated to the cost centre or to the cost unit of production.

Apportionment of cost
Where the expense is a common one and it is to be allotted to different cost centres proportionately on an appropriate basis, it is known as apportionment. For example, rent of the factory is an expense which cannot be allocated to any one department, but is to be shared by all the production departments and service department, on suitable 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 the total production overheads. After that, the process of absorption starts. The overheads of a particular department are to be allotted to the production units of the department.

BSPATIL

55

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, or other convenient units. The overheads falling to the share of a department through the process of allocation or apportionment, is to be absorbed by the cost units of that department. This is known as Absorption of overheads.

Problem 1 The New Enterprises Ltd., has three Production Departments A,B,C and two Service Departments D and E. The following figures are extracted from the records of the company: Rs. 5,000 600 1,500 1,500 10,000 10,000

Rent and rates General lighting Indirect Wages Power Depreciation of Machinery Sundries The following further details are available: Total 10,000 60 10,000 150 A 2,000 10 3,000 60

Floor Space (Sq. ft) Light points Direct Wages (Rs.) H.P. of Machines Value of Machinery (Rs.) Working Hours

B 2,500 15 2,000 30 80,000 4,028

C 3,000 20 3,000 50

D 2,000 10 1,500 10

E 500 5 500 5,000 -

2,50,000 60,000 6,226

1,00,000 5,000 4,066 -

The expenses of D and E are allocated as follows: A B C D 20% 30% 40% E 40% 20% 30%

D 10%

E 10% -

What is the total cost of an article if its raw material cost is Rs. 50, labour cost Rs. 30 and its passes through Departments A,B and C for 4,5 and 3 hours respectively?

BSPATIL

56

Solution Statement of Allocation and Apportionment of Overhead: Total Production Service Rate of Appointment Rs. A B C D E Direct 2000 1500 500 Wages Rent & Rates 5000 1000 1250 1500 1000 250
General Lighting Indirect Wages Power 600 1500 100 450 150 300 200 450 100 225 50 75

Actual Re. 0.5 per sq.ft. Rs. 10 per Point Rs. 0.15 per Re. of Direct wages Rs. Per H.P. 4% of value of machinery 100% of Direct Wages

1500

600

300 3200 2000 7200 1449 8649 412 9061 4028 225

500 4000 3000 9650 1933

100 200

200

Depreciation 10000 2400 Sundries 10000 3000 30600 7550 966 30600 8516 823 30600 9339 6226 150

1500 500 1575 483 2058 -205 8 -

Service Dept. D Service Dept. D

4625 -483 1 11583 -206 617 206 1220 4066 300 -

Working hours Rate per hours

Ascertainment of cost of an article Material Labour Cost 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 Note: Sundry expenses are apportioned on the basis of direct wages.

Rs. 50.00 30.00 80.00

26.50 Rs. 106.25

Problem 2 You are supplied with the following information and required to work out the production hour rate of recovery of overhead in Department A,B, and C. Production Departments Service Departments Total A B C P Q Particulars: Rs. Rs. Rs. Rs. Rs. Rs. 57 BSPATIL

Rent Electricity Indirect Labour Depreciation of Machinery Sundries Estimated working hrs. Expenses of under: P Q

12000 4000 6000 5000 4500

2400 800 1200 2500 910 1000

4800 2000 2000 1600 2143 2500

2000 500 1000 200 847 1400

2000 400 800 500 300

800 300 1000 200 300

Service Departments P and Q are apportioned as A 30% 10% B 40% 20% C 20% 50% P 20% Q 10% -

BSPATIL

58

Solution a) Repeat Distribution Method Overhead Distribution Summary for the period
Particulars: Rent Electricity Indirect Labour Depreciation of Machinery Sundries Total Rs. Department P Department Q Department P Department Q Department P Total Rs. 31500 Working Hours Rate per Hour Total Rs. 12000 4000 6000 5000 4500 31500 A Rs. 2400 800 1200 2500 910 7810 1200 9010 300 9310 180 9490 6 9496 4 9500 1000 9.50 B Rs. 4800 2000 2000 1600 2143 12543 1600 14143 600 14743 240 14983 12 14995 5 15000 2500 6.00 C Rs. 2000 500 1000 200 847 4547 800 5347 1500 6847 120 6967 30 6997 3 7000 1400 5.00 P Rs. 2000 400 800 500 300 4000 -4000 600 600 -600 12 12 -12 Q Rs. 800 300 1000 200 300 2600 400 3000 -3000 60 60 -60 -

b) Equation Method (alternative method) Let x be the expenses of Service Department P; and y be the expenses of Service Department Q. = 4000 + 1/5y (since 20% of y well be apportioned to Department P) ; and y = = = = = = = = 2600 + 1/10x 2600 + 1/10 (4000 + substituting the value of x: 2600 + 400 + 1/50y 3000 + 1/50y 150000 + y 150000 3061 4000 + 1/5 x 3061 = 4,612 1/5y),

Then x

50y 49y y x

BSPATIL

59

Overheads Distribution Summary Production Departments A B C Rs. Rs. Rs. given 7,810 12,543 4,547 1,384 306 9,500 1,000 9.50 1,845 612 15,000 2,500 6.00 922 1,531 7,000 1,400 5.00 Service Departments P Q Rs. Rs. 4,000 2,600 -4,612 612 461 -3.061 -

Total as above Expenses of Dept. P (Rs. 4,612) Expenses of Dept Q (Rs. 3,061) Rs. No. of working hours Rate per hour Problem 3

The following information are available for Production departments A,B, & C the Service the Dept D & E. Particular Rent E.B Fire Ins Plant Dept Transport Production Dept Total A 1000 200 200 50 400 80 4000 1000 400 50 Service Dept C D 150 150 30 20 60 60 1000 300 50 100

B 400 80 160 1500 50

E 100 20 40 200 150

The expenses of services dept D & E are apportioned as under A 30% 10% B 40% 20% C 20% 50% D 20% E 10% -

D E

Apportion the expenses of service dept to production dept by 1) Repeated Distribution Method 2) Simultaneous Equation Method

Solution
REPEATED DISTRIBUTION METHOD Over Head Analysis Sheet Production Departments A B C Rs. Rs. Rs. 200 400 150 50 80 30 80 160 60 Service Departments P Q Rs. Rs. 150 100 20 20 60 40

Rent E.B. Fire, Insur

BSPATIL

60

Plant Dept. Transport Total Exp. Service Dept. D% Service Dept Service Dept Service Dept Service Dept Total E% E% D% D%

1000 50 1380 189 1569 57 35 1 1 1663

1500 50 2190 252 2442 115 46 2 1 2606

1000 50 1290 126 1416 286 23 6 1731

300 150 630 630 115 115 2 2

200 100 510 63 573 573 11 11 -

BSPATIL

61

BY SIMULTANEOUS EQUATION METHOD Total Total D% E% A 1380 30% 10% B 2190 40% 20% C 1290 20% 50% D 630 20% E 510 10% -

Let x be the total exp of D to be apportioned Let y be the total exp of E to be apportioned x = 0.2y + 630 y = 0.1x + 510 (1) (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 1380 Service Dept D 30% : 40% : 20%(of 747) Service Dept E (1:2:5 of 585) Total Problem 4 Superfine Ltd. has furnished the following particulars for the half year ended March 31, 1982. Compute the deprs O/H rates. For the each of the productions department assuming that the O/H charges are recovered as a % of direct wages. Particular Production Dept. A B Direct Wages 4000 6000 Direct Material 2000 4000 No. of Employee 100 150 EB KWH 8000 6000 Light point 10 16 Assert value 120000 80000 Area occupied 150 250 (sq. meters) Over Head expenses for the above period Service Dept. D E 2000 4000 3000 3000 50 50 2000 2000 6 4 20000 20000 50 50 224 58 1662 B 2130 299 117 2606 C 1290 149 293 1732

C 8000 4000 150 4000 4 60000 100

BSPATIL

62

Motive Power Lighting Stores exp Staff welfare Deprecation Repair Rent & Rates General exp

3300 400 800 4800 30000 15000 1200 12000

Apportion the expenses of service dept D in proportion to the direct wages & that of E in the ratio 5:3:2 to production dept A,B,C

Solution
OVER HEAD DISTRIBUTION SUMMARY Particular A Direct Material Wages Power 4:3:2:1:1 Lighting 5:8:2:3:2 Stores exp. 2:4:4:3:3 (Material) Staff 2:3:3:1:1 Deprec. 6:4:3:1:1 Rent & rates 3:5:2:1:1 Repairs (assert ratio) General exp. (staff ratio) Total 1200 100 100 360 12000 300 6000 2400 B 900 160 200 1440 8000 500 4000 3600 C 600 40 200 1440 6000 200 3000 3600 D 3000 2000 300 60 150 480 2000 100 1000 1200 E 3000 4000 300 40 150 480 2000 100 1000 1200

23060

18800 3430

15080 4573

10290 -

2270 -

Abortionment of 2287 Ser. dept D in the ratio of wages Abortion of E in 6335 the ratio 5:3:2 Total 31702

3681

2454

25811

21907

Over Head Recovery (as per the rate wages)

BSPATIL

63

Dept A Dept B Dept C

= = =

(3170.2/4000) 100 (2581.1/6000) 100 (2190.7/8000) 100

x = x = x =

792.55% 430.2% 272.8%

Absorption of overhead cost Absorption means allotment of overhead cost of jobs i.e., with a view to charging the same amount of overheads in 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) b) c) d) e) Direct Labour Cost Method. Direct Labour Hours Method Machine Hour Rate Prime Cost Method Conversion Cost Method

Machine Hour Rate Method

This Method is applicable where work is carried on mostly by the machines because the overheads in such a case are more related to the machines. The factory overheads of the factory are ppportioned to the different machines or group of machines. An individual machine is treated to be a cost centre, and sometimes a group of machines which work together in Co-operation is treated to be a cost centre fro the purpose of apportionment. The working hours of a machine are calculated for the period for which the machine is to run. Machine hour rate is scientific, practical and accurate. It helps in finding out idle machines cost and also in decision making. Problem 5 Workout the machine hour rate for the following machine, whose scrap value is nil:

BSPATIL

64

1. Cost of Machine Rs. 90,000 2. Other charges e.g. freight and Rs. 10,000 installation 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

65

Solution Computation of Machine Hour Rate

Machine No.. Standing Charges Lubricating Oil Wages Consumable Stores Hourly rate (16+8) Machine Expenses Depreciation cost Rs. 1,00,000 Yearly depreciation 10,000 Hourly depreciation 10000 + 2000 Repairs 50% of depreciation Power 10 units @ 10 paise per unit Machine hour rate (Comprehensive) Problem 6 Compute 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.

Per day Rs. 2 4 10 16

Per hour Rs.

2.00

5.00 2.50 1.00 10.50

Solution Computation of Machine Hour Rate

Machine No. 18 Per hour Rs. 33

Standing charges 1600 /(40x120) Machine Expenses Depreciation cost 11,000 Less-scrap value - 680 Value to be written off Rs. 10,320 Hourly rate = 10,320 + 10,000 Repairs Rs. 1,500 for entire life Hourly rate 1500 + 10,000 Power consumed 6 units @ 5 paise per unit

1.03 15 30

BSPATIL

66

Machine Hour Rate Problem 7 Calculate the machine hour rate from the following: Cost of Machine Cost of Installation Scrap value after 10 years Rates and rent for a quarter for the shop General lighting Shop supervisors salary Insurance premium for a machine Estimate repair Power 2 units per hour @ Rs. 5 per 100 units Estimated working hour p.a. 2,000

1.81

Rs. 8,000 2,000 2,000 300 20 p.m. 600 quarter 60 p.a. 100 p.a.

p.a.

The machine occupier 1/4th of the total area of the shop. The supervisor is expected to devote 1.6th of his time for supervising the machine, General lighting expenses are to be apportioned on the basis of floor area.

Solution Computation of Machine Hour Rate Machine No: Standing Charges: Rent and Rates 1/4th General lighting as per floor area Supervisors Salary 1/6th Insurance premium Total yearly Standing charges Hourly rate 820 + 2,000 Machine expenses
Depreciation Cost Installation Total Less Scrap value Amount to be written off Rs. Repairs etc. Power 2 units @ 5 paise per unit Machine Hour Rate 8,000 2,000 10,000 2,000 8,000 Per year Per hour Rs. Re. 300 60 400 60 820 0.40

0.40 0.05 0.10 0.96

BSPATIL

67

Problem 8 Calculate 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 2 machines Wages of operator p.m. 150 Chemical required p.m. 100 Overheads chargeable to this 200 p.m. machine Insurance premium 1% p.a.

Solution
Calculation of Machine Hour Rate Machine No. 45 Rs. Yearly Standing Charges Overheads Rs. 200 x 12 = Insurance 1% of 10,000 = Wages (2 x 150 x 12) / 4 = Total Effective working hours in a year Therefore 2,400 100 900 3,400 1,900 3,400 1,900 Per hour Rs.

1.79

Machine Expenses Depreciation Rs. (10,000 250) / 0.65 15,000 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 5.26 Note: 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 no power is used in setting up operations. Problem 9 Compute comprehensive machine hour rate from the following data: (a) Total of machine to be depreciated Rs. 2,30,000

BSPATIL

68

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. (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 the following: Total hours Job No. 605 Job. No. 595 100 100 Production time 80 80 Setting up time hrs 20 30

Solution Computation of comprehensive machine hour rate Standing charges Rent, heat and light (70,000 x 2,500) / 2500 70,000 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 Machine charges Power Labour (1/3 of Rs. 6) Comprehensive machine hour rate 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 = 1,409.80 User and over absorption of overhead

17.64 0.50 2.00 20.14

The amount of overhead absorbed in costs is sum total of overhead cost allotted to individual cost units by application of overhead rates under the actual rate method, overhead cost are fully charged to production so that overhead 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. The amount absorbed may not be identical with the amount of overheads incurred it is called under absorption and in reverse condition it is called over absorption. This may happen due to error in esteeming expenses, error in estimating the base, major changes in methods of

BSPATIL

69

production and seasonal fluctuation of overhead.

BSPATIL

70

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 to customers specifications. In this method is also known are separately indentified and are coasted individually. Job costing is applicable to job printers, engineers, furniture makers, builders, contractors, hardware and machine manufacturing industries, repairing shops, etc. The Costing Department prepares job cost sheet (Fig. 2) for each job, containing the production order No., and other details relating to the job. Where a job requires several major operations or components, sub-cost sheet. The job cost sheet is the document detailing the cost of the job under Direct material. Direct labour, Works overheads etc., It is not 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 a job, this account is credited and Finished Goods Control Account is debited with its cost. The difference between the cost 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 Department with a copy to Costing Department. This report is an indication that further expenses on the job should cease and the job cost 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 mill for a private firm a January 1997 under the following divisions of cost: a. Prime Cost b. Works cost, c. Total cost, d. Selling price The 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. 2,000 Works Overhead

BSPATIL

71

Variable 10% on direct wages. Fixed 60% on direct wages Administrative overhead at 10% of works cost. Selling and distributive overhead at 15% of works cost. Profit 10% in total cost Finished paper manufactured 800 tonnes Sale of waste paper Rs. 1,000 There was not work in progress in the beginning or at the end of the month. The scarp value of special equipment is nil after 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. Direct material Paper pulp 1,000 tonnes @ Rs. 50 per tone Other materials 200 tonnes @ Rs. 30 per tone Direct Labour 100 skilled men at Rs. 5 for 20 days 50 unskilled man at Rs. 3 for 20 days Direct Expenses Special Equipment Special dies Prime Cost Works overhead Variable 100% of direct labour Fixed 60% of direct labour 50,000 6,000 Rs.

56,000

10,000 3,000 5,000 2,000

13,000

7,000 76,000

13,000 7,800

Less : sale of waste Works cost Office Overhead Administrative 10% of works cost 9,580 Selling and distributive 15% of works cost 14,370 Total Cost Profit 10% Selling Price @ Rs. 164.65 or Rs. 165 for 800 Tonnes Problem 2

20,800 96,800 1,000 95,800

23,950 1,19,750 11,975 1,31,725

The information give below has been taken from the costing record of an Engineering Works in respect of Job No. 303. Materials Rs. 4,010

Wages: Dept. A 60 hours @ Rs. 3 per hour

BSPATIL

72

B 40 hours @ Rs. 2 per hour C 20 hours @ Rs. 5 per hour Overhead 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 Fixed overheads: Estimated at Rs. 20,000 for 10,000 normal working hours. You are required to calculate the cost of job 303 and calculate the price to give profit of 25% on selling price.

Solution
Amount Rs. Direct Materials Wages Dept. A 60 hrs. x Rs. 3 B 40 hrs. x Rs. 2 C 20 hrs. x Rs. 5 Overheads variable Dept. A 60 x (Rs. 5000 / 5000 hrs.) B 40 x (Rs. 3000 / 1500 hrs.) C 20 x (Rs. 2,000 / 500 hrs.) Fixed overheads: 120 hours @ (Rs. 20,000 / 10000 hrs) Total cost Profit 25% on selling price or 1/3 on Cost Price Selling Price 180 80 100 60 80 80 Amount Rs. 4,010

360

220

240 4,830 1610 6440

Advantages of job Costing Job 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.

BSPATIL

73

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

74

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 according to customers requirements and specifications, batch costing is used where the articles are manufactured in a good number in definite batches. Component parts of watches, radio sets, television sets etc., are extensively produced under batch costing, for being assembled in the product. If one component of a special design is ordered by a customer for manufacture, 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 particular period. Thus the cost of production can be compared batch wise, and efficiency ascertained. Like job order system, one number is allotted to each batch. The material requisitions are prepared batch wise, labour is engaged batch wise, and the 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. The Economic Batch Quantity can be decided on the same principle and same formula as applied to Economic Order Quantity is case of materials. Cost comparison between the two batches is possible if both batches are allowed the same facilities, time to produce, and the same number of articles. The comparison can be fruitfully done with the help of cost sheets of the two batches. 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 levied at a rate per labour hour. The selling price contracted for is Rs. 8 per piece. Form the following data present the cost and profit per piece of each batch order and overall position of the order for 1200 pieces. Months Batch output Material cost Rs. 650 640 680 Direct wages Rs. 120 140 150 Direct labour hours 240 280 280

January February March

210 200 220

BSPATIL

75

April May June

180 200 220

630 700 720

140 150 160

270 300 320

BSPATIL

76

The other Details are: Months Chargeable expenses Rs. 12,000 10,560 12,000 10,580 13,000 12,000 Direct labour hours Rs. 4,800 4,400 5,000 4,600 5,000 4,800

January February March April May June

Solution:
COST SHEET Batch output Sales Value Rs. Material Cost Rs. Direct Wages Rs. Chargeable expenses Rs. Total Cost Rs. Profit per Batch Rs. Total Cost per unit Rs. Profit per unit Rs. Jan 210 1680 650 120 600 1370 310 6.52 1.48 Feb. 200 1600 64 140 672 1452 148 7.26 0.74 Mar. 220 1760 680 150 672 1502 258 6.83 1.17 April 180 1440 630 140 621 1391 49 7.73 0.27 May 200 1600 700 150 780 1230 -30 8.15 -0.15 June 220 1760 720 160 800 1680 80 7.64 0.36 Total 1230 9840 4020 860 4145 9025 815 7.34 0.66

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

77

Lesson 6
CONTRACT COSTING Contract is an agreement enforceable by law. It is an agreement between two parties Contractor and the Contractee. The contractor agrees to undertake and complete the work, as per terms of contract, within a specific period and for a particular monetary consideration. The terms of contract regarding work to be undertaken, period in which to be completed, value of the contract advances to be made by the Contractee to the contractor on the certificate of architect, compensation payable by the contractor for the breach of contract, etc., are decided upon between the two parties before the work is started. These contracts related to the works of construction of roads, buildings, bridges, dams and banks, ports, etc, Contract costing is the technique of ascertaining cost of a contract. Here the unit of cost is one only, e.g., a building, or a bridge etc. it is similar to job in principle, and so the method of recording cost is the same. A Contract Ledger book is kept in which a separate account for each contract is opened. 1. 2. 3. 4. 5. 6. 7. The following items appear on the debit side of the Contract A/c: Direct Materials Direct Labour Direct Expenses Overheads Plant and Machinery Sub-Contract Cost Extra Work done

The 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 Price

Work Certified As per terms of the contract, the contractee advances some 80 or 90 percent of he work done to the contractor on the basis of the work certified by the contractees architect or engineer periodically. The balance of 20 or 10 percent amount is retained by the contractee, so that the contractor may continue to work and not leave the contract if the contract 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 is known 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 the satisfactory completion of the contract. So on the completion of the Contract the Contract A/c is credited with the contract price and Contractees A/c is debited. Cost plus contract

BSPATIL

78

Where a contractor feels hesitant to quote for a work of contract which is absolutely new to him, and new to other contractors as well, and he is unable to estimate the cost of the works offered to him for execution. It is decided with the contract or that he would be paid the total cost of work whatever it be, plus his profit as a rate percent on the total cost. Such s contract is known as Cost plus Contract.

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 and circumstances 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 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 or more than 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 contract is complete) Building Contractors Ltd., undertake contracts. On 31st October, 1993 when the actual accounts were prepared, the positions of Contract No. 101 which was commenced on 1st January, 1993, was as under: Rs. 37,500 1,500 43,750 625 1,875 6,250

Material purchased Material in hand Wage Paid Wage outstanding Proportionate share of indirect expenses Cost of plant

The value of work certified was Rs. 90,000 of which Rs. 67,500 had been received, work completed but uncertified was valued 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.

BSPATIL

79

Prepare Contract No. 101 account after taking credit for Profit which you think reasonable.

BSPATIL

80

Solution:
Contract 101 Account Rs. 37,500 By work-in-Progress Account: 43,750 Work certified 90,000 6,750 Work done but Uncertified 2,500 1,875 Rs.

To Materials Purchased To Wages To Plant To Proportionate share of indirect expenses To Outstanding Wages To Balance c/d

92,500

625 By Material at site 1,500 9,000 By Plant at site (dep. 5,000 Value) 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 expenses already incurred, to give an idea of the total cost of the full contract. On deducting the estimated total cost from the contract price, we get the notional or the computed profit. Of this computed profit only that part is credited to P & L A/c as 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 of the full contract and to find out the national profit for the purpose of calculating the Profit to be credited to the Profit and Loss 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.

BSPATIL

81

This account shows debit balance which is taken to the Balance Sheet on the Asset side. The Contractees A/c which shows credit balance on account of cash received in advance, is not shown on the Liability side of the Balance Sheet but is shown as a deduction from the Work-in-Progress A/c on the Asset side of the Balance Sheet.

BSPATIL

82

Problem 2 The following information relate to Contract No. 123. You are required to prepare the Contract Account and the Contractees Account assuming that the amount due from the contractee was duly received. Rs. 20,250 15,500 10,500 2,400 2,300 3,000

Direct Material Direct Wages Stores Issued Loose Tools Tractor Expenses: Running Material Wages of Drivers Other Direct Charges

5,300 2,650

The contract price was Rs. 90,000 and the contract took 13 weeks in its completion. The values of Loose Tools and Stores returned at the end of the period were Rs. 200 and 3,000 respectively. The plant was also returned at a value of Rs. 16,000 after charging depreciation at 20%. The value of tractor was Rs. 20,000 and depreciation was to be charged to the contract @ 15% per annum. The Administration and office expenses are to be provided at 10% on works cost. Solution: Contract 123 Account Particulars To Direct Materials To Direct Wages To Stores Issued To Plant (original cost) To Loose Tools To tractor expenses: Running Materials 2,300 Wages of drivers 3,000 To Depreciation on Tractor @ 15% on Rs. 20,000 for 13 weeks To other Direct Charges Total To Balance being work cost b/d To Administration and office expenses @ 10% on works cost To profit & Loss A/c Total Contractees Account Rs. Rs. Amount Rs. 20,250 15,500 10,500 20,000 2,400 Particular By Stores Returned By Loose tolls returned By Plant Returned By Balance being Work Cost A/c Amount Rs. 3,000 200 16,000 58,150

5,300 750 2,650 77,350 Total 58,150 By Contractees A/c 77,350 90,000

26,035 90,000 Total

90,000

BSPATIL

83

To Contract A/c Total

90,000 By Bank 90,000

Total

90,000 90,000

The plant was depreciated @ 20% (not @ 20% annum). The depreciated value is Rs. 16,000. So the original cost of the plant comes to Rs. 20,000.

BSPATIL

84

PROFIT ON INCOMPLETE CONTRACTS Problems 3 A firm of building contractors began to trade on 1st April, 1990. The following was the expenditure on the contract for Rs. 30,00,000: Rs. 51,000 15,000 81,000 5,000

Materials issued to contract Plant used for contract Wages incurred Other Expenses incurred

Cash received on account to 31st March, 1991 amounted to Rs. 1,28,000 being 80% of the work certified. Of the plant and materials which cost Rs. 2,500 were lost. On 31st March, 1991 plant which cost Rs. 3,000 and materials which cost Rs. 2,000 was returned to stores, the cost of work done but uncertified was Rs. 1,000 and materials costing Rs. 2,300 were in hand on site. Charge 15% depreciation on plant, reserve profit received and prepare a Contract Account from the above particulars.

Solution: Contract Account

Dr. Particulars Amoun t Rs. 51,000 81,000 15,000 5,000 By Plant returned to store 27,000 Less: Dep By plant at site Less: Dep 2,000 300 10,00 0 1,500 17,00 Cr. Particulars Amoun t Rs.

To materials To Wages To Plant To Other expenses

By Profit & Loss a/c Plant Lost 3,000 Material 2,500

5,500

To Profit to date

8,500 2,300

Total To Profit & Loss A/c (

By Material at site By Work-in-Progress A/c: Work certified 1,60,0 00 Work done 1,000 but uncertified 1,79,0 Total 00 10,800 By Profit to date b/d

1,61,0 00 1,79,0 00 27,000

BSPATIL

85

of profit recd.) To Work in Progress: Reserve ( of 10,800 profit recd.) Balance (20% 5,400 of Rs. 27,000) Total Notes:

16,200

27,000 Total

27,000

1. Ascertainment of Profit: Profit to date Profit received 4/5 (in the ratio of cash received to work certified) Reserved of profit received Transferred of profit received to Profit & Loss Account Balance ( 27,000 21,000) i.e. 20% of 27,000

27,000 21,600 10,800 10,800 5,400

2. The value of the plant on 31st March, 1991 has been ascertained as follows: Original Value Dep. Rs. Plant Lost 3,000 Plant returned 2,000 to store Plant at site 10,000 15,000 Net Value Rs. 300 1,500 1,800 Rs. 1,700 8,500 10,200

BSPATIL

86

Lesson 7 PROCESS COSTING Process costing is the type of costing applied in industries where there is continuous or mass production. The necessity for compilation of the costs of a process or a department for a given period, as distinct from the cost of a whole job or a specific batch of production units, has given rise to the concept of process cost accounting. There are many industries engaged in continuous processing in which the end products are the results of a number of operations performed 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 mines and 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. 2. 3. 4. The production is continuous and the end product is the result of a sequence of processes. The product is homogeneous and the units product are identical and standardized. The sequence of operations for processing the product is specific and predetermined. 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 in appreciating process costing procedures. Job Costing 1. Production orders Process Costing specify 1. Production is in continuous flow, the products being homogeneous.

is

by

2. Costs are determined by jobs 2. Cost are compiled on time or batches of products basis, i.e. for production for a given accounting period, for each process or departments. 3. The various jobs are separate 3. Being manufactured in a and independent of each other. continuous flow, products lose their individual entity. 4. Unit cost of a job is calculated by dividing the total cost incurred into the units produced in the lot or batch. 4. The unit cost of a process, which is computed by dividing the total cost for 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 5. Costs are calculated at the job is completed. end of the cost period.

BSPATIL

87

6. There may or may not be any 6. Production being continuous work-in-progress at the there is usually some beginning or end of an work-in-process at the accounting period. beginning as well as at the end of the accounting period. 7. There are usually no transfers from one job to another unless it is necessary to transfer surplus work or excess production. 8. As such product unit is different and production is not continuous, more managerial attention is needed if proper control is to be exercised. 7. As a product moves from one process to another, transfers of cost from process to process are made.

8. Process production is standardized and is more stable. Hence, control of process activities is comparatively 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. It involves less efforts and less clerical expenses as the accounting method is simpler than that in job costing. Detailed cost, budgeted as well as actual, are made available for each possible by evaluating the performance of each process etc. Allocation of overhead to departments and processes can be made fairly accurately on definite bases. Since the material consumption ass the various operations are more or less standardized, more accurate cost estimates are available for price quotations. 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.

(ii) (iii) (iv) (v) (vi)

The limitations and weaknesses of process costing systems are as follows:(i) (ii) 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. 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. 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. 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 88 BSPATIL

(iii) (iv)

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 of production methods. The various situations and problems envisaged and the methods of calculation of costs in respect of each 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. 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 following information find out cost of production per unit of that article, if 200 units of article were manufactured upto 31st December, 1991. Manufacturing Process Rs. 2000 1500 400 Refining Process Rs. 1000 2500 200 Finishing Process Rs. 700 1000 300

Material Labour Direct Expenses

The indirect expenses for the period amount to Rs. 6,000 in the factory out of which Rs. 2000 is attributable to this product. There was no stock at the end in any process. The indirect expenses should be allocated to each process on the basis of labour.

Solution:
Manufacturing Process A/c with Cost Sheet (Output : 200 units of article) Particulars Cost Amount Particulars Cost per per unit unit Rs. Rs. Rs. To Material 10.00 2.00 By Transfer to 22.50 Refining Process A/c To Labour 7.50 1500 To Direct 2.00 400

Amount
Rs. 4500

BSPATIL

89

Expenses To Indirect 3.00 Expenses Total

600

22.50 4,500

Total

22.50 4500

BSPATIL

90

Refining Process Account (Output : 200 units of articles) Particulars Cost Amount Particulars per unit Rs. Rs. To Transfer from 22.50 4500 By Transfer of Manufacturing Finishing Process A/c Process A/c The cost per unit is Rs. 46.00 To Material 5.00 1000 To Labour 12.50 2500 To Direct 1.00 200 Expenses To Indirect 5.00 1000 Expenses Total 46.00 9200 Total

Cost per unit Rs. 46.00

Amount
Rs. 9200

46.00 9200

Refining Process Account (Output : 200 units of articles) Particulars Cost Amount Particulars per unit Rs. Rs. To Transfer from 46.00 9200 By Finished Refining Process Stock A/c A/c To Material 46.00 9200 To Labour 3.75 750 To Direct 5.00 1000 Expenses To Indirect 1.50 300 Expenses

Cost per unit Rs. 58.25

Amount
Rs. 11650

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 direct labour 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 15th January, 1952, 600 gross of bottles are produced. The cost book show the following information: Process 1 Rs. 4000 Process 2 Rs. 2000 Process 3 Rs. 1500

Material

BSPATIL

91

Labour Direct Expenses Cost of bottles Cost of corks

3000 600 Nil Nil

2500 200 2030 Nil

2300 500 Nil Nil

The indirect expenses for the period were Rs. 1600. The bye-products were sold for Rs. 240 (Process 2). The residue sold 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 gross of bottles. Solution: Process 1 (Output 600 gross of bottles) Rs. Rs. To Materials 4000.00 By Transfer to Process 8215.38 No. 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 Process 2 To Transfer Process 1 To Materials 8215.38 Total 8215.38

from

8215.38 By Sale of Bye-Product

240.00

To Labour To Direct Expenses To Indirect Expenses

2000.00 By Transfer to Process 15218.20 of bottles (cost per gross of bottles Rs. 25.36 approximately) 2500.00 200.00 512.82 2030.00 15458.20 Total 15458.20

Total Process 3 To Transfer Process 2 To Materials

from 15458.20 By Sale of residue

125.50

To To To To

Labour Direct Expenses Indirect Expenses Cost of rocks

1500.00 Bu Finished products 20189.50 account (Cost per gross of bottles Rs. 33.65) 2300.00 500.00 471.80 325.00

BSPATIL

92

Total

20315.00 Total

20315.00

Note: Indirect Expenses have been charged to three processes in the labour ratio of 30 : 25 : 23
Abnormal Loss and Abnormal Gain:Abnormal spoilage or defective work may arise in a process due to unforeseen factors. The cost of such abnormal loss is not included in the cost of the process but the average cost of the lost units is charged to an Abnormal Loss Account which is credited with the scrap and closed to the Profit and Loss Account. Thus, in computing the abnormal loss, scrap value of the abnormal lost units will be ignored but in working out the loss for charging to Profit and 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 is considered to be abnormal gain. The value of the abnormal gain is calculated in the same way as described above for abnormal loss and is credited to an Abnormal Gain Account which is ultimately closed. Profit and Loss Account. The scrap value of the normal anticipated loss in the process where abnormal gain occurs is credited to the process account with 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 consecutive processes. 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 Passed to next 75% process Stock kept for 25% sale Process II 50% 50% Process III 100%

Raw materials Manufacturing Wages General Expenses

Process I Process II Process III Rs. Tons Rs. Tons Rs. Tons 120000 1000 28000 140 107840 1348 20500 18520 15000 10300 7240 3100 -

Prepare Process Cost Account, showing the cost per ton of each product.

Solution: Process I
Tons Rs. Raw 1,000 1,20,000 By Loss weight (2% 1000 tons) To 20,500 By Sales Manufacturing scrap (10% To Materials Tons of 20 of of 100 of Rs. 10,000

BSPATIL

93

Wages To General Expenses

Total

1000 tons) 10,300 By Transfer to 220 35,200 Warehouse By Transfer to 660 1,05,60 Process II (cost per ton Rs. 160) 1,000 1,50,800 1,000 1,50,800

BSPATIL

94

Process II Tons Rs. To Transfer 660 1,05,600 from Process I To Raw 140 28,000 By Loss of Materials weight (2% of 800 tons) To 18,520 By Sales of Manufacturing scrap (10% of Wages 800 tons) To General 7240 By Transfer to Expenses Warehouse By Transfer to Process III (cost per ton Rs. 215) Total 800 1,59,360 Process III Tons Rs. To Transfer 352 75,680 from Process II To Raw 1,348 1,07,840 By Loss of Materials weight (2% of 1700 tons) To 15,000 By Sales of Manufacturing scrap (10% of Wages 1700 tons) To General 3,100 By Transfer to Expenses Warehouse By Transfer to Process III (cost per ton Rs. 215) Total 1700 2,01,620 Total Problem 4: (Showing Process A/cs and Abnormal Wastage A/cs) The Imperial Manufacturing Companys product passes through two distinct processes A and B and then to Finished Stock. 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 Rs. Process B Rs. Tons Rs. Tons Rs.

16 80 352 352

8,000 75,680 75,680

800

159360

34 170

3,400

1,496 198220 352 75,680

1700

201620

BSPATIL

95

Materials consumed Wages Manufacturing expenses

3000 3500 1000

1500 2000 1000

5,000 units were brought into Process A costing Rs. 2500. The outputs were: Process A Process B 4,700 Units 4,150 Units

Prepare Process Cost Accounts showing the cost of the output. Also show abnormal Wastage Account.

Solution: Process A Account

Units Rs. To Units 5,000 2,500 introduced To Material 3,000 To Wages To Mfg. Expense Units By Normal 250 wastage By Abnormal 50 wastage By Process B 4,700 Rs 20 105*

3,500 9,875 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 units Normal cost is 10,000 20 = Rs. 9,980 Therefore, Normal cost of one unit is 9,980 / 4,750 = Rs. 2.10 Therefore, 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 Account shall be Rs. 105 4 = Rs. 101. Abnormal Wastage A/c (Process A) Units Rs. To Process A 50 105 Units By sale of Scrap 50 @ Rs. 8 per 100 By P & L A/c Loss transferred 50 Rs 4 101 105

50 Process B Account Units 4700

105

To Process A To Materials To Wage

Rs. 9875 1500 2000

Units By Normal 470 Wastage A/c By Abnormal 80 wastage A/c By Finished Stock 4150 A/c

Rs 47 *271 14057

BSPATIL

96

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. 14328 Therefore, Normal Cost of one unit = 14,328/4,230 = Rs. 3.39 Therefore, the Cost of 80 units = Rs. 3.39 x 80 = Rs. 271 The abnormal wastage will realize Rs. 8, therefore the loss transferable shall be Rs. 271 8 = Rs. 263.

Abnormal Wastage A/c (Process B) Units Rs. 80 271 Units Rs By sale of Scrap 80 8 @ Rs. 10 per 100 By P & L A/c Loss 263 transferred 80 271

To Process B

80 Problem 5:

271

From the following details extracted form the costing records of an oil mill for a year ended 31st March, you are required to 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 Rs. Rs. 25,000 10,000 6,000 3,600 1,400 20,000 2,800 6,000 13,200 3,350 5,200 6,600 Plant Finishing Plant Rs. 15,000 2,400 1,400 4,500 2,100 59,600

Wages Power Sundry Materials Repairs to Plant & Machinery Steam Factory Overheads Cost o Casks

3000 tonnes of crude oil were produced; 2,500 tonnes of oil were produced by the refining process; and 2,480 tonnes of refined oil were finished for delivery.

BSPATIL

97

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 3000 4843000 (C/o) Wages 25000 Groundnut 1750 11000 residue Power 6000 Groundnut 400 shells Sundry 1400 Process loss 250 materials Repairs to 2800 Plant & Machinery Steam 6000 Factory 13200 overheads 5000 4854400 5000 4854400 Cost per tone of crude oil = Rs. 1614.33 Refining Process Crude oil (b/f) Wages Power Sundry material Repairs Plant Machinery Steam Factory overheads Tonnes Rs. 3000 4843000 Refined oil (c/o) 10000 By-products 3600 Process loss 20000 3350 5200 6600 3000 Cost per tone of refined oil = Rs. 1950 Finishing Process Tonnes Refined oil 2500 (b/f) Wages Power Repairs Plant Machinery Steam to & 4891750 3000 4891750 Tonne Rs. 2500 4875000 450 50 16750 -

to &

Rs. 4875000 Finished oil 15000 2400 1400 4500

Tonne Rs. 2480 4960000

Process loss

20

BSPATIL

98

Factory overheads Cost of casks 2500 Problem 6

2100 59600 4960000

2500

4960000

The product of a company passes through three distinct processes to completion. These processes are known as A,B and C. From past experience it is ascertained that wastage is incurred in each process as under: Process A Process B Process C 2% of input 3% of input 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 next process and the finished units are transferred from Process C to finished stock. The following expenses were incurred. A 40000 42000 14600 2,800 B 20000 42600 8380 3,350 C 15000 35000 13920 1,400

Materials consumed Direct labour Manufacturing expenses Repairs to Plant & Machinery

20,000 units have been issued to Process A at cost of Rs. 80,000. The output from each process has been as under: Process A Process B Process C 19,500 18,800 16,600

There was not stock of work-in-process in any process. Prepare the process accounts and abnormal wastage account, assuming that the abnormal wastage collected together for all the three processes was sold in one lump and fetched a price of Rs. 10000.

Solution: For Process A:

1. 2. 3. 4. Actual wastage Normal wastage Scrap sale value Abnormal wastage = = = = 20000 19500 = 500 units 2% of 20000 = 400 units 400 x Re. 0.50 = Rs. 200 Actual wastage less normal wastage = 100 units = Rs. 176000 / (20,000 400) = Rs. 19,600 Rs. 176600/19600 x 100 = Rs. 900 (rounded off)

5. Prorata cost 6. Cost of abnormal wastage

BSPATIL

99

Process A Units Material Labour Overhead Units Rs. 20000 80000 40000 42000 14600 20000 176600 20000 176600 Transfer Process B Normal wastage Abnormal wastage Units Rs. to 19500 175500 400 100 200 900

Calculations 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 485 585 wastage Labour 42600 Abnormal 115 1495 wastage Overhead 8380 19500 246480 Process C Units Rs. Transfer from 18800 244400 Transfer Process B Finished stock Material 15000 Normal wastage Labour 35000 Abnormal wastage Overhead 13920 18800 308320 Abnormal Wastage Account Process A Process B Process C 900 1495 16560 18955 Sale 10000 Loss (Profit 8955 and loss account) Units Rs. to 16000 288000 1880 920 3760 16560 19500 246480

18800 38320

Total

Total

18955

Accounting of Inter-Process Profits:Inclusion of inter-process profit creates complications in the accounts. As the internal profits remain merged in process stock, work-in-progress, and finished stock suitable adjustment is required to be made in the Balance Sheet in order to exclude such unrealized profit. 100 BSPATIL

When inter-process profit is included in the accounts, it is advisable to have three columns in the ledger to indicate the cost, profit, and the total. This facilitates the calculation of the profit to be provided for inclusion in closing stock 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 following data are available for a month. Process No. 1 Rs. 2000 13000 10000 10000 5000 Process No. 2 Rs. 12000 20000 10500 25000 6000 Process No. 3 Rs 10000 40000 50000 25000 32000

Opening stock (at prime cost) Direct material Direct Labour Factory overhead Closing stock (at prime cost)

Inter-process transfers of output included profits at the following rates: Process 1 to Process 2 Process 2 to Process 3 Process 3 to Finished Stock - 20% on transfer price - 25% on transfer price - 10% on transfer price

Inter-process profit included in the opening stock were:In Process 2 In Process 3 In Finished Stock Finished Stock:Opening balance Closing balance Sales during the month - Rs. 2,000 - Rs. 2,800 - Rs. 10,000 - Rs. 25,000 - Rs. 33,000 - Rs. 3,00,000

Complete the process accounts, determine the gross profit for the month and indicate the value at which the closing stock will appear in the Balance Sheet on the last day of the month.

Solution:
Stock (b/f) Total Rs. 2000 Cost Rs. 2000 Pft Rs. Transfer to Process No.2 Total Rs. 37500 Cost Rs. 30000 Pft Rs. 7500

Direct 13000 material Direct 10000 Labour Less stock 5000 (c/f)

13000 10000 5000

BSPATIL

101

Prime cost F.Y. Overhead Process cost Profit @ 20% on transfer price (25% on cost)

20000 10000 30000 7500

20000 10000 30000

7500

37,500 30,000 7500 Process No. 2 Account Total Rs. Stock (b/f) Transfer from process No. 1 Direct material Direct labour Total Less stock (c/f) Prime cost F.y. Overhead Process cost Profit at 25% on transfer price (1/3) of cost Total Stock (c/f) 12,000 Cost Rs. Pft. Rs.

37,500 30,000 7500

Total Rs.

Cost Rs.

Pft. Rs.

10,000 2000

Transfer 132000 90212 41788 to Process No.3

37,500

30,000 7,500

20,000 10,500

20,000 10,500 -

80,000 6,000 74,000 25,000 99,000 33,000

70,500 9,500 5,288 *712

65,212 8,788 25,000 90212 8788 33,000

132000 90212 6,000 5,288

41,788 712

132000 90212 41,788

* The proportionate profits on closing in this and other processes are worked out in the following manner:-

BSPATIL

102

Profit = Rs. 6,000 x Rs. 70,500 / Rs. 80,000 x Rs. 6,000 Rs. 5,288 = Rs. = 712 Process No. 3 Account Total Rs. Stock (b/f) Transfer from process No. 2 Direct material Direct labour Total Less stock (c/f) Prime cost F.y. Overhead Process cost Profit at 10% on transfer price of cost Total Stock (c/f) 10,000 Cost Rs. 7,200 Pft. Rs. 2,800 Total Rs. Cost Rs. Pft. Rs.

Transfer 250000 186562 63438 to finished stock

132000 90,212

41,788

40,000 50,000

40,000 50,000

232000 187412 44588 32,000 25,850 6,150

200000 161562 38438 25,000 25,000 -

225000 186562 38438 25000 25000

250000 186562 63438 32000 25850 6150

250000 186562 63438

BSPATIL

103

Finished Stock Account Total Rs.

Cost Rs.

Pft. Rs. Sales

Total Rs.

Cost Rs.

Pft. Rs.

Stock 25,000 15,000 10,000 (b/f) Transfer 250000 186562 63438 from process No. 3 Total Less stock (c/f) Gross Profit 275000 201562 73,438 33,000 58000 24,188 8,812 58000

300000 177374 122626

300000 177374 122626 Stock (c/f) 33000 24188 8812

300000 177374 122626

Provision for Profit Account Rs. Profit and Loss Account Rs. Balance (b/f) Process 2 Process 3 Stock 2000 2800 10000 Rs. Rs.

Proportion of Provision not required for Process 2 Finished 1188 Stock Balance (c/f) Process 2 712 Process 3 6150

1288

14800 Profit & Loss A/c Loss A/c Additional provision required for Process 3

3350

Finished Stock

8812 15674

BSPATIL

104

18150 Balance (b/f) Process 2 Process 3 Finished Stock

18150

712 6150 8812 15,674

Analysis of gross profit for the month: Rs. Process 1 Process 2 Plus Provision not made Process 3 Less Provision Finished Stock Plus Provision 33000 1288 25000 3350 58000 1188 59188 *122626 * This agrees with the profit in the Finished Stock Account Balance Sheet Process Stock Process 1 Process 2 Less Profit Process 3 6150 25850 Finished Stock Less Profit 33000 8812 24188 Problem: 8 A product passes through three processes to completion. These processes are known at A, B, C. The output of each process is charged to the next process at a price calculated to give a profit of 20% on the transfer price. The output of 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 information was obtained. Process A 4000 Process B 6000 Process C 2000 Rs. 7500 34288 Rs.

21650

5,000 6000 712 32000 5,288

Materials consumed

BSPATIL

105

Labour 6000 Stock on De. 2000 31

4000 4000

8000 6000

Stock in each process were valued at Prime Cost to the process There was no stock into finished stock, Rs. 4000 remained in hand on December 31, and the balance has been sold for Rs. 36,000. Show Process Accounts.

Solution: Process A Account

Total Rs. To 4000 Material To Labour Total 6000 Cost Rs. 4000 Profit Rs. Total Rs. Cost Rs. Profit Rs. 2000

By 10000 8000 Process B A/c transfer

6000

10000 10000 2000 -

Less : 2000 Closing Stock c/d Prime 8000 cost To 2000 Gross profit 25% on cost

8000

2000

10000 8000 To stock b/d 2000 2000

2000 -

10000 8000

2000

Process B Account
Total Rs. Cost Rs. Profit Rs. 2000 Total Rs. Cost Rs. Profit Rs.

To 10000 8000 Process A transfer To 6000 6000 Material To 4000 4000

By 20000 14400 5800 process A/c 2000

BSPATIL

106

Labour Total 20000 18000 2000

Less : Closing Stock c/d Prime 16000 14400 1600 cost To 4000 4000 Gross profit 25% on cost 20000 14400 5600 To stock b/d

Process C Account
Total Rs. Cost Rs. Profit Rs. By finished Stock A/c 30000 19520 10480 Total Rs. Cost Rs. Profit Rs.

To 20000 14400 5600 Process B transfer To 2000 2000 Material To 8000 8000 Labour Total 30000 24400 5600

Less : 6000 4880 1120 Closing Stock c/d Prime 24000 19520 4480 cost To 6000 6000 Gross profit 25% on cost 30000 19520 10480 To 6000 4880 1120 30000 19520 10480

BSPATIL

107

stock b/d

BSPATIL

108

Finished Stock A/c

Total Rs. Cost Rs. Profit Rs. By Sales Total Rs. Cost Rs. Profit Rs.

To 30000 19520 1048 Process C transfer Less : 4000 2603 1397 Closing Stock c/d 26000 16917 9083 To 10000 10000 Gross profit 36000 16917 19083 To stock b/d 4000 2603 1397

36000 16917 19083

36000 16917 19083

(1) Calculation of Profit on Closing Stock

Formulae:

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

BSPATIL

109

(2) Actual Profit Realised Process Profit Process A Process B Process C Finished Stock A/c Total Rs. 2000 4000 6000 10000 22000 Unrealised Profit in Closing Stock Rs. 400 1120 1397 2917 Actual Profit Rs. 2000 3600 48880 8603 **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 Sheet

The amount of Cost Columns of Finished Stock Account will be taken to the Balance Sheet. It is comprised of: Cost of closing stock Rs. 2000 3600 4880 2603 13083

Process A Process B Process C Finished Stock Total

(4) Test Check

Individual 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

110

LESSON 8 STANDARD COSTING & VARIANCE ANALYSIS STANDARD COST & STANDARD COSTING Standard cost is a predetermined cost which is calculated from management standard of efficient operation and the relevant necessary expenditure. I.C.M.A ENGLAND Standard costing is the preparation of standard costs their comparison of actual costs and the analysis of variances to their causes and points of incidence I.C.M.A ENGLAND Thus, it is clear from these definitions that standard costs represent the scientifically planned or predetermined costs based on technical estimate, labour and overhead for selected period of time and for a prescribed set of working conditions. The word standard connotes a thing serving as a basic for comparison. Standards can be established in respect of quantitative and qualitative like material and labor. OBJECTIVE OF STANDARD COSTING The 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 date compares 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 COSTING The 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.

BSPATIL

111

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. i) Strict ideal ii) Attainable or expected / actual and iii) Loose The 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 realistic as 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 or standards division which will be versed with the work of the standard costs. the standard committee generally consists of all functional heads like production manager, personal manager, etc. In determining the output regard must be had to the limiting 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 COSTING The 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.

BSPATIL

112

LIMITATIONS OF STANDARDS COSTING Standard 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 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 STANDARDS For 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 price at 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 to the particular cost standard concerned. Standard overhead costs are classified as manufacturing, administration, selling, and distribution over heads. They are also classified as fixed, variable and semi variable so that current estimate for each class may be prepared for the budget period. Standard overhead rate is determined on the basis of past records and future trend of prices. VARIANCE ANALYSIS

BSPATIL

113

The main aim of the standard costing is the control of the cost. So the management is provided with the information about situations where in the actual results are not as they were planned to be. Hence management is informed of only the deviations or variances from the original plans, their favourable or unfavorable nature and the causes of such deviations. 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 that management can assign responsibility for off standard performance. If variance is to increase the profit it is said to be favourable shown as (F). It would result when the actual cost are lower than the standard costs. It is also known as positive or credit variance and viewed only as savings. If variance is not to increase the profit it is adverse or unfavorable shown as (A) it would result when actual costs exceed the standard costs. It is also known as negative or debit 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 of the materials used 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.

BSPATIL

114

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 the actual composition of a mixture. 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 VARIANCE This is the portion of the direct material usage variance which is due to the difference between standard yield specified and actual yield obtained. MYV = SP * Abnormal Loss / Gain Or MYV = SP (SY AY) The difference between standard yield and actual yield is called abnormal loss or gain. If the standard yield is less than the actual yield, the difference is called abnormal gain, and if the standard yield is higher than the actual yield the difference is called abnormal loss.

BSPATIL

115

CAUSES FOR MATERIAL USAGE VARIANCE The 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 . 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 and the actual rate paid.

BSPATIL

116

LRV = AT (SR - AR) = Actual time (standard rate actual rate) CAUSES FOR LABOUR COST VARIANCE Direct labour rate variance occur due to the following: 1. 2. 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. 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. Payment of guaranteed wages to workers who are unable to earn their normal wages if such guaranteed wages form part of direct labour cost. Use of a different method of payment e.g. payment of day rates while standards are based on piece work method of remuneration. Higher to lower rates paid to casual and temporary workers employed to meet seasonal demands or urgent or special work. New workers not being allowed full normal wage rates. 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.

3. 4. 5. 6. 7.

2) LABOUR EFFICIENCY VARIANCE (LEV) This is also that portion of labour cost variance which is due to the difference between the standard labour hours specified 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. LEV = SR (ST AT) CAUSES FOR LABOUR EFFICIENCY VARIANCE The causes giving rise to direct labour efficiency variance as follows: 1. 2. 3. 4. 5. 6. 7. 8. Lack of proper supervision or stricter supervision that specified. Poor working conditions Delay due to, waiting for materials tools, instructions etc. if not treated as idle time. Defective machine tools, and other equipments. Machine break down if not booked to idle time. Work on new machines requiring less tike then provided for as long as the standard is not revised. Basic inefficiency of workers due to low morale, insufficient training, faulty instructions, incorrect scheduling of jobs etc. Use of non standard material requiring more or less operation wages.

BSPATIL

117

9. 10. 11. 12. 13.

Carrying our operations not provided for and booking them as direct wages. In correct standards Wrong selection of workers, e.g. no employing the right type of man for doing the job. Increase in labour turnover. 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 of failure 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 provision was made while determining standards. This will happen only when some special public holidays be declared. LCV = SR * Holidays LABOUR 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 1 The 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. A standard loss of 10% is normally anticipated in production. The following particulars are available for the month of September 1984. A standard loss of 10% is normally anticipated in production. The following particulars are available for the month of September 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 variance

BSPATIL

118

Also 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 Q60% of Input Loss 410 410 ----410 kgs 41 ----Production 369 kgs 213200 = 164 kgs at 400 = 246 kgs at 600 213200 31 369 = 65600 P 180*360 = 147600 Q 220*680 -------------- ------400 ------------214000 = = 64,800 149,600

---------214400

-------------- -------

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) --------------------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) P = SP (RSQ AQ)

= 400 (164 * 400 / 410 180) = 400 (160-180) 8000 (A)

BSPATIL

119

= 600 (246*400/410 220) = 600 (246-220) 12000 (F) --------------40000 (F) --------------= SYR (SY-AY) 213200/369 Rs. 577.1778 per kg.

Material yield variance (MY) Standard Cost per unit at output = =

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 be Labour 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) -------------This is reconciled with Labour Efficiency Variance as calculated above. Reconciliation: MUV 9200(F) = = MMV + MYV 400 (F) + 5200 (F) MPV + MMV + MYV 10400 (A) + 4000(F) + 5200(F)

Final Reconciliation: MCV = 1200 (A) = PROBLEM 2

BSPATIL

120

The following details are available form the records of ABC Ltd. engaged in manufacturing Article A for the week ended 28th September. The Standard Labour hours for the week 1000 hrs and rates of payment per article A were as follows: Hours Skilled Labour Semiskilled Labour Unskilled Labour 10 8 16 Rate per hour Rs. 3.00 1.50 1.00 Total Rs. 30 12 16 58

The actual labour hours and rates of pay per hour were given below: Hours Skilled Labour Semiskilled Labour Unskilled Labour 9000 8400 20000 Rate per hour Rs. 4.00 1.50 0.90 Total Rs. 36000 12600 18000 66,600

From the above set of data you are asked to calculate: a. b. c. d. Labour Cost Variance Labour Rate Variance Labour Efficiency Variance Labour Mix Variance

Solution
SCSM SM Hours Rate Amount AM Rs. Skilled 1000 x 3,00 30000 Skilled 10 = 10000 Semi-skilled 1000 x 1.50 12000 Semi-skilled 8 = 8000 Un-skilled 1000 x 1.00 16000 Un-skilled 16 = 16,000 34,000 58000 Hours 9000 8400 SCAM Rate Amount Rs. 3.00 27,000 1.50 12,600

20000 1.00 20,000

37400

59,600

BSPATIL

121

(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 3 In the production of Finished product 50 employees were engaged at a Standard rate of Rs. 3 per hour. The standard performance was set at 200 numbers per hour. A 40 hour per week was in operation. In a particular period of 4 weeks 35 employees were paid at the standard period of 4 weeks 35 employees were paid at the standard rate, but 10 employees were paid at Rs. 3.20 per hour and 5 employees at Rs. 2.80 per hour. The factory stopped production for 4 hours due to equipment 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 = 200

Standard cost of actual production (SCAP) = 28000 x 0.75 = Rs. 21,000

Actual Cost (AC) Employee s 35 10 5

Weeks x 4 x 4 x 4

Hour s x 40 x 40 x 40

Rate Rs. = 5600 x 3.00 = 1600 x 3.20 = 800 x 2.80

Amount = 16,800 = 5,120 = 2,240

BSPATIL

122

50

8000

24,160

AHP

= 8000 = 7200

AHW = 8000 Idle time of 4 hours 8000 200 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 VARIANCE Overhead Variance can be classified into (A) Variable Overhead Variance and (B) Fixed Overhead Variance. OVERHEAD COST VARIANCE Fixed Overhead Variance Variable Overhead Variance Expenditure Variance Efficiency Volume Variance Capacity Expenditure Variance Calendar Efficiency Variance 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 Overhead

Alternatively, the following variable overhead variance may be computed to make the position more clear: (i) Variable Overhead Expenditure Variance (VCHE x V) Cost This is the difference between standard variable Overhead allowance of actual output, and the standard variable overhead of actual time. VOHE efficiency Variance = Standard Overhead Rate (Actual Time Standard time for actual production)

BSPATIL

123

Total Variable Overhead = Expenditure Variance + Efficiency Variance Fixed Overhead Cost Variance (FOHCV) : It is that portion of overhead variance which is due to the difference between fixed overhead recovered and the actual fixed overhead cost incurred. FOHCV = (Actual output * Standard fixed overhead Rate) Actual Overhead

This variance is divided into (i) fixed Overhead Expenditure Variance and (ii) Fixed Overhead Volume Variance 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 Overheads If the actual output is more than the budgeted output, it leads to over-recovery of overheads costs and a favourable variance 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. Quantity) (i)

FOHVV = Standard Fixed Overhead Rate (Actual Quantity Budgeted Or = Actual output * Standard Rate Budgeted Fixed Overhead

If the actual output is more than the budgeted output, it leads to over-recovery of overhead costs and a favourable variables 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 Quantity) When the actual output is more than the standard quantity of output. Overhead Cost Variance: Causes Controllability A. Overhead Expenditure Variance 1. Rise wages in prices, Uncontrollable Standard

2. Lack of control Dept. Manager over Expenditure

BSPATIL

124

B. Volume Variance

3. Change in production 4. Change in nature of service eg. Use gas in lieu of electricity 1. Declining Sales (Lack of orders) or Customer demands 2. Lack of proper supervision 3. Defect in Machinery (Breakdown) 4. Low efficiency of worker 5. Poor quality material 6. Abnormal idle time (if not booked as part of time spent on jobs) 7. More or less working days / Calendar 8. Strikes, absenteeism including lateness

Production Manmager --do--

Sales Manager Foreman Maintenance Engineer Foreman / Personnel Manager Purchase Manager Foreman Uncontrollable Uncontrollable Personnel Manager /

PROBLEM 4 The following figures have been extracted from the cost records for the month of March 1997. Standard units 7500 100% 25 Rs. 22500 Rs. 15000 Actual 8000 105% 26 Rs. 23500 Rs. 15750

Number of produced Capacity Number of days worked Fixed overheads Variable overheads

Analyse the total overhead variance into (i) Fixed overhead variance, (ii) Variable overhead variance, and (iii) Sub-variances under each head

Solution
Overhead Cost Variance = Std. cost for Actual production Actual cost = 40,000 - 38,900

BSPATIL

125

= Rs. 1,100 (F)

Overhead Cost Variance = FOHCV + VOHCV Rs. 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) = BOHR AP * SOHR = 8000 x 3 Rs. 22500 = Rs. 1500 (F) Or SOHR (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 (c) FOHVV

= Rs. 3 Standard 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) = = 7875

BSPATIL

126

FOHCV

= FOHEV + FOHVV = Rs. 650(A) + Rs. 1500 (F) = Rs. 850 (F)

Proof FOH V.V. Rs. 1500(F) (i) = Cal. V. + Cap. V. + Eff. V. = Rs. 900(F) + Rs, 225 (F) + Rs. 375(F) = SC AC

Variable overhead Variance Where

= Rs. 16000 Rs. 15750 = Rs. 250(F) (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 overhead efficiency 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: Material 1 Unit Rs. 10 Rs. 10 Material 950 at Rs. 11 Rs. 10,450

BSPATIL

127

Labour 5 hours at Rs. 2 Overheads: Variable 5 hours at Rs. 2 Fixed 5 hours at Rs. 1 Total cost per unit

10 Labour 4,500 hours at Rs. 2.20 Overheads: Variable 5 Fixed 35 Total cost of 1000 units of product A

9,900

11,000 6500 37,850

The flexible budget for this department for normally monthly activity was called for 6,600 direct labor hours of operations. 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) 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 Rs. 450(A) = = Materials price variance + material usage variance 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)

BSPATIL

128

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) Proof Overhead 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 be affected 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) ii) Sales value or turnover method and 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.

SALES VALUE VARIANCE

Price Variance

Volume Variance Mix Variance Quantity

Variance
Sales Value Method (i) Sales Value Variance: It is difference between standard Or Budgeted sales and the actual sales Sales Value Variance Note: Standard Sales = Standard sales Actual sales = Standard sales * Actual quantities of sales

If actual sales are more than the budgeted or standard sales, a favourable variance would result and vice versa.

BSPATIL

129

ii) Sales Price Variance: If is that portion of the sales value variance which is due to the difference between standard price specified and the actual price charged. Sales Price Variance 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 Sales If actual sales at standard price exceed the budgeted sales, there is a favourable variance and vice versa. Thus, Sales Value Variance = Price Variance + Volume Variance The 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 actual interrelationship of the quantities of each product or product group of which sales are composed, where products are homogeneous. = Actual quantity Sold (Standard Price Actual Price)

- Standard Cost of Actual Mix Sales 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 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: Actual Quantity)

BSPATIL

130

It is the difference between the budgeted profit (or Loss) and the actual profit (or loss). Types A. Sales Price Variance Causes 1. Unexpected Competition 2. Rise in general price level 3. Poor quality of material 1. Unexpected Competition 2. Ineffective Sales Proportion 3. Ineffective Supervision and control of salesman Controllability Uncontrollable - Do - Do Uncontrollable Publicity Manager Sales Manager

B. Sales Volume Variance

DISPOSAL OF VARIANCES There is difference of opinion among accountants as regards disposal of cost variance. However, the following methods are usually used to close the Standard Cost Variances: i) ii) iii) Transfer to profit and loss account. Allocation of finished stock, work in progress, and cost of sales; Transfer to Reserve Account i.e., to carry forward to the next financial year and to be set off in the subsequent year of years

The standard cost are also incorporated in the accounting system so as to increase its statistical utility. The following are the methods for accounting based on standard costing. i) Partial plan method, ii) Single plan method and iii) Dual plan method. PROBLEM 7 From the following particulars of Sri Dhanalakshmi mills Ltd., calculate: i) Total sales margin variance ii) Sales margin variance due to selling price. iii) Sales margin variance due to volume. Standard Cost p.u. Prod X 3,000 10 Prod Y 2,000 15 Qty Actual in (Rs.) Cost Price 10.50 14.00 13 17

Price p.u. 12 18

Units 2,200 1,600

Solution
i) Total Sales Margin Variance = Actual quantity of sales x Actual profit per unit - budgeted quantity of sales x Budgeted profit per unit

BSPATIL

131

(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

132

PROBLEM 8 For a month, the budgeted and actual figure for sales in a company were as under: Product I II III IV Qty 20 10 5 10 45 Price Rs. 2 1 3 3.50 Budget Value Rs. 40 10 15 35 100 Qty 15 15 10 10 50 Actual Price Rs. 2 1.50 2.50 3 Actual value Rs. 30 22.50 25 30 107.50

The budgeted costs were the different products were: I II III IV Rs. Rs. Rs. Rs. 1.50 0.80 2.00 3.00

Calculate the sales variance based on : a) Turnover andb) 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 II III IV = = = = 15 (2 2) 15 (1 1.50) 10 (3 2.50) 10 (3.50 3) = = = = Nil 7.50 (F) 5.00 (A) 5.00 (A)

BSPATIL

133

2.50 (A) Sales Volume Variance (SVV): = (SR (BQ AQ) I II III IV = = = = 2 (20 15) 1 (10 15) 3 (5-10) 3.50 (10 10) = = = = 10.00 (A) 5.00 (F) 15.00 (F) 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: Product Qty. I II III IV 20 10 5 10 45 ACTUAL PROFITS AP Product Qty. I II III IV 15 15 10 10 50 Rate of Profits 2.00 1.50 = 0.50 1.50 0.80 = 0.70 2.50 2.00 = 0.50 3.00 3.00 = Nil. Total Rs. 7.50 10.50 5.00 Nil 23.00 Budget Profit Rate of Profits 2.00 1.00 3.00 3.50 1.50 = 0.80 = 2.00 = 3.00 = 0.50 0.20 1.00 0.50 Total Rs. 10.00 2.00 5.00 5.00 22.00

BSPATIL

134

Standard Profit (SS) Actual Budget Product Qty Rate of Profit I 15 0.50 II 15 0.20 III 10 1.00 IV 10 0.50 50 Total sales Profit Variance

Revised Standard Profit Value Standard Margin per Unit of Standard Mix

7.50 = 22 / 45 3.00 = Rs. 0.4889 10.00 RSP = 50 x 0.4889 5.00 = 24.44 25.50

= 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) = II = 15 (0.20 0.70) = III = 10 (1.00 0.50) = IV = 10 (0.50 Nil) = Nil 7.50 (F) 5.00 (A) 5.00 (A) 2.50 (A) Sales Volume Variance (SVV) : = (SRP (BQ AQ) I II III IV = = = = 0.50 (20 15) = 0.20 (10 15) = 1.00 (5 10) = 0.50 (10 10) 2.50 (A) 5.00 (F) 5.00 (F) 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:

BSPATIL

135

SVV 3.50 (F) CONTROL RATIOS

= SQV + SMV = 2.44 (F) + 1.06 (F) = 1.00 (F)

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 be favourable but if these ratios are less than 100% then the performance will be unfavourable or unsatisfactory. The formula 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 the efficiency 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 is more than 100% then actual working days are more than the budgeted number of working days and vice versa if the ratio 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, 1000 units of X and 600 units of Y were produced. The company employees 50 workers in the production department. The budgeted hours are 1,02,000 for the year. Calculate capacity ratio, activity ratio and efficiency ratio.

Solution
Standard Hours for Actual Production: Product X Product Y : 1000 x 5 : 600 x 10 = = 5000 Hours 6000 Hours --------------11000 Hours

BSPATIL

136

--------------Budgeted Hours (Monthly = 1,02,000 / 12 = 8500 Hours Actual Hours Worked = 50 x 25 x 8 = 10,000 Hours

= 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

137

LESSON 9 COST LEDGER ACCOUNTING Cost 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 cost details. It will differ from general financial accounting system adopted in the organisation. Hence, it requires two weparate set of accounts. It can be called inter-locking system. Under cost Ledger Accounting the books are kept only for 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 ultimately reflected in the cost accounts are recorded in the books of original entry. Summaries from these books are journalized and posted in the general ledger which contain control accounts and subsidiary books. The following ledger accounts in this system.

Stores Ledger: In consists of accounts of individual items of raw materials, components and consumable stores. Receipts are posted into the stores ledger on the basis of stores received notes and issues are recorded on the basis of requisition slip. The balance of 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 costs charged to the job and a share of overheads. It is credited with the values transferred to finished stock ledger and when job is completed. Stock ledger: It contains item wise accounts in respect of finished stock intended for sale. A separate account is opened is for each 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 store ledger, stock ledger and work in progress ledger. In addition, it contains general ledger control accounts, wages control accounts 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 and make it self balancing. These control accounts are nothing but total accounts or adjustment accounts, summarizing mass of information contained in the subsidiary ledgers. These control accounts are posted with the totals of items which have been debited or credited in detail to the accounts in the ledgers to which they relate. The balance in control accounts represents the total of balances in a number of accounts of similar nature maintained in that subsidiary ledger to which the control relates.

Advantages of Control accounts: Control accounts helps

BSPATIL

138

- 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.

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 goods received posted on the basis of material requisition in the credit side of the account. The balance of this account represents the total balance of stock which should agree with aggregate of the balance of individual accounts in the stores ledger.

Wage Control Account:

This accounts records labour transactions in aggregate. It is debited with gross wages shown in wages analysis sheet. 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 as transferred from the respective control accounts. The completed job will be credited in this account. Thus, this account shows 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, indirect material analysis and wage analysis sheets. It is credited with the amount of overheads, recovered, as obtained from the applied overhead analysis sheets. The balance represents under or over absorption which is transferred to overhead adjustment account.

Administrative Overhead Control Account:

It is debited with the administration overhead incurred and credited with the amount of administrative overhead absorbed by finished goods. The balance represents under or over absorption of administrative overhead which is transferred 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 aabsorbed by 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 selling distribution overhead absorbed. It is closed by transferring its balance to costing profit and loss account.

Costing Profit and Loss Account:

BSPATIL

139

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 control account.

Cost ledger control account or General ledger Adjustments A/c:

It is maintained to make the cost ledger self-balancing. The main object of this account is to complete double entry in cost accounting. All the financial transactions on account of material purchases, wages, salaries and miscellaneous expenses are credited to cost ledger control account by contra debit to various control accounts. All financial receipts are debited to this account. The balance is this represents the total of the balance of all personal accounts 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 trial balance as on 31st March 1984. a) Balance as on 1.4.83: Material control Work in progress Finished goods Production overhead Administration overhead Selling & Distribution overhead General ledger control b) Transactions for the year ended 31.3.84 : Materials : Purchases Issued to: Jobs Maintenance works Administration office Selling departments Direct wages Indirect wages Carriage inward Production overhead : Incurred Absorbed Administration overhead: Incurred Absorbed Allocated to sales Sales overhead: Incurred Absorbed Finished goods produced Finished goods sold Rs. (thousands) 1240 625 1240 84 120 (credit) 65 3134 Rs. (thousands) 4,801 4,774 412 34 72 1,493 650 84 2,423 3,591 740 529 148 642 820 9,584 9,773

BSPATIL

140

Sales realization

12,430

Solution:
Cost Ledger General Ledger Adjustment Account Dr. Rs. To costing P/L Account (sales) To balance c/d 12,430 By balance By material control a/c 3,226 By wages control a/c By production overhead control a/c (carriage) By production overhead control a/c Admini. Overhead control a/c By selling & dis. Overhead control a/c. By closing P/L a/c 15,656 Material Control Account To Balance b/d 1240 To General Ledger 4801 Adjustment a/c

Cr Rs. 3,134 4,801 2,143 84 2,423 740 642 1,689 15,656

By WIP control A/c By Production Overhead Control A/c By Administration overhead control a/c By selling & dis overhead control a/c By balance c/d

4774 412 34 72 749 6041

6041 Wages Control Account To General Ledger 2143 Adjustment a/c

By WIP Control A/c

1493

By production overhead 650 Control a/c 2143 Production Overhead Control Account 2143

BSPATIL

141

To balance b/d To Material Control a/c To General Ledger Adjustment account To Wages Control a/c To General Ledger Adjustment a/c

84 412 84 650 2423

By WIP Control a/c By Balance c/d

3591 62

3653 Work in Progress Control Account To Balance b/d To Material Control a/c To wage Control a/c To Production Overhead Control A/c

3653

625 4774 1493 3591

By Finished Control A/c By Balance c/d

Goods 9584 899

10483 Administration Overhead Control Account To Material Control a/c 34 To General Ledger 750 Adjustment a/c To Balance c/d 23 197 Finished Goods Control Account To Balance b/d 1240 To Administration 529 Overhead Control a/c To WIP Control a/c 9584 11353 Selling and Distributions Overhead Control Account To Balance b/d 65 By cost of sales To Material control a/c 72 To General Ledger 642 Adjustments a/c To Balance c/d 41 820 Cost of Sales Account To Finished goods 9773 Control a/c To Selling & Dis. 820 Overhead Control a/c To admin. Overhead 148 Control a/c

10483

By Balance b/d 120 By Finished Goods 529 Control a/c By Cost Sales a/c 148 197 By Cost of sales a/c By Balance c/d 9773 1580

11353

820

820

By Costing P/L a/c

10741

BSPATIL

142

10741 Costing Profit and Loss Account To Cost of Sales a/c To General Adjustments a/c

10741

10741 By General ledger 12430 Adjustment a/c (Sales) Ledger 1689

12430

12430

BSPATIL

143

Trial Balance as on 31.3.1984 Dr. Rs. Material Control Account WIP Control Account Finished goods ledger control account Production overhead control account Administration overhead control account Sales & Distribution overhead control a/c General Ledger Adjustment account Problem : 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 the profit or loss for the month. Balance as at 1-12-19 Dr. Cr. Rs. Rs. 5200 2300 50 30 1150 8730 8730 8730 749 899 1580 62 23 41 3226 Cr. Rs.

Worn-in-Progress Account Finished Goods Account Factory Overhead Suspense Account Office Overhead Suspense Account Store Ledger Control Account General Ledger Adjustment Account

Transactions for the months were; Direct Wages Indirect Wages Works Overhead absorbed in production Office Overhead absorbed in production Stores issued to production Goods finished during the months Finished Goods Sold Stores Purchased Stores issued to factory repair orders Carriage inwards on stores issued for Production Factory Expenses Office Expenses

Rs. 7500 500 2200 1200 4900 18000 21000 5000 200 80 1450 1170

BSPATIL

144

Solution: Journal Date 19 Dec.1 Work-in-Progress Ledger Control A/c Finished Goods Ledger Control A/c Factory Overhead Suspense A/c Office Overhead Suspense A/c Stores Overhead Suspense A/c To General Ledger Adjustment A/c
19 Dec. 1

Dr. Cr. Rs. Rs. Dr. 5200 Dr. Dr. Dr. Dr. 2300 50 30 1150 8730

Stores Ledger Control a/c Dr. To General Ledger Adjustment A.c (Being stores purchased) W.I.P. Ledger Control A/c Dr. To stores Ledger Control A/c (Being the stores issued to production Rs. 4900 and carriage inward on stores issued Rs. 80) Factory Overhead Control A/c Dr. To stores Ledger Control A/c (Being stores issued to factory repairs) W.I.P. Ledger Control A/c Dr. To Wages Control A/c (Being indirect Wages charged to factory overhead) Factory Overhead Control A/c Dr. To Wages control A/c (Being the total wages brought into Costing Books from financial books) Wages control A/c Dr. To General Ledger Adjustment A/c (Being the total wages brought into Costing Books from financial books) Factory Overhead Control A/c Dr. To Factory Overhead suspense A/c (Being the latter transferred to former A/c reversing the entry

5000 5000

4980 4980

200 200

7500 7500

500 500

8000 8000

50 50

BSPATIL

145

Factory Overhead Control A/c Dr. To General Ledger adjustment A/c (Being the actual factory expenses brought into costing books) W.I.P. Ledger Control A/c Dr. To Factory Overhead Control A/c (Being the overheads charged to production) Office Overhead Control A/c Dr. To office Overhead Suspense a/c (Being Suspense A/c transferred to former reversing the entry) Office Overhead Control A/c Dr. To General Ledger Adjustment A/c (Being the actual office overheads brought into costing books) W.I.P. Ledger Control A/c Dr. To Office Overhead Control A/c (Being the office overheads charged to production) Finished Goods Control A/c To W.I.P. Ledger Control A/c (Being the finished goods transferred to former account)

1450 1450

2200 2200

30 30

1170 1170

1200 1200

Dr. 18000 18000

Cost of Sales A/c Dr. 20300 To Finished Goods Control 20300 A/c (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 To General Ledger Adjustment A/c (Being the amount of Profit) Dr. 700 700

BSPATIL

146

COST LEDGER General Ledger Adjustment Account Rs. To Costing P & L A/c 21000 By Balance b/d (Sales) To Balance c/d 4050 By Stores Ledger Control A/c By Wages Control A/c By Factory Overhead Control A/c By Office Overhead Control A/c By Costing P & L A/c 25050 Stores Ledger Control Account Rs. Rs. 1150 By W.I.P Ledger Control 4980 A/c To General Ledger 5000 By Factory Overhead 200 Adjustment A/c Control A/c By Balance c/d 970 To Balance b/d 6150 To Balance b/d 970 6150 Rs. 8730 5000 8000 1450 1170 700 25050

Wages Control Account To General Ledger 8000 Adjustment A/c

By W.I.P. Ledger Control 7500 A/c By Factory Overhead 500 Control A/c 8000

8000 Factory Overhead Control Account To Stores Ledger Control A/c To Wages Control A/c To Factory Overhead Control A/c To General Ledger Adjustment A/c Rs. 200 500 50 1450

Rs. By W.I.P. Ledger Control 2200 A/c

2200 Office Overhead Control Account To Office Suspense A/c Rs. Overhead 30

2200 Rs. By W.I.P. Ledger Control 1200 A/c

BSPATIL

147

To General Ledger 1170 Adjustment A/c 1200 Work-in-Progress Ledger Control Account Rs. To Balance b/d 5200 To Stores Ledger Control A/c To Wages Control A/c To Factory Overhead Control A/c To Office Overhead Control A/c To Balance b/d 4980 7500 2200 1200 21080 3080 21080 1200

By Finished Control A/c By Balance c/d

Rs. Goods 18000 3080

BSPATIL

148

Finished Goods Control Account Rs. To Balance b/d 2300 By Cost of sales A/c To W.I.P. Ledger Control 18000 20300 Cost of Sales Account To Finished control A/c Rs. Goods 20300 By Costing P & L A/c Rs. 20300 Rs. 20300

20300

20300 Costing Profit and Loss Account

20300

Rs. Rs. 20300 By General Ledger 21000 Adjustment A/c (sales) To General Ledger 700 Adjustment A/c (profit) To Cost of Sale A/c 21000 Trial Balance (As at 31st December .. Rs. To Stores Ledger 970 Control A/c Work-in-Progress 3080 Ledger Control 4050 21000

Rs. General Ledger Control 4050 A/c

4050

Problem : 3 The following balances are extracted from the costs books of Ajith Traders Ltd., for the year ended 31st Dec. 1995 Dr. Cr. Rs. Rs. 16000 24500 24600 26100 32000 33500 76000 500 68000 67200 22000 69200 240000 238500

Stores in Hand Stock of Finished Goods Work-in-Progress Purchases Carriage Inwards Stores Issued Wages Direct Wages - - Indirect Work Expenses Cost of Finished Goods Cost of Finished Goods sold

BSPATIL

149

Selling Expenses Office & Administration Expenses

6100 14000

The Cost Journal shows that Rs. 92700 and Rs. 13900 were allocated to Work-in-Progress for works overheads and office overheads respectively. Prepare Cost Ledger Account and a Trial Balance from the above information as at 31st Dec. 1995. Solution: Rs. Rs. To Balance c/d 327600 By Balance b/d 72600 By Stores Ledger 76000 Control A/c By Stores Ledger control 500 A/c (Carriage) By Wages Control A/c 200 By Production Overhead 69200 Control A/c By Administration 14000 Overhead Control A/c By Selling and 6100 Distribution Overhead Control A/c 327600 By Balance b/d Store Ledger Control Account To Balance b/d To General Adjustment (Purchases) To General Adjustment (Carroage) Rs. Rs. 16000 By Work-in-Progress 68000 Ledger Control A/c Ledger 76000 By Balance c/d 24500 A/c Ledger 500 A/c 327600 327600

92500 To Balance b/d Wages Control Account 24500

92500

Rs. Rs. To General Ledger 89200 Work-in-Progress 67200 Adjustment A/c Ledger Control A/c Production Overhead 22000 Control A/c 89200 Production Overhead Control Account To Wages Control A/c Rs. Rs. 22000 By W.I.P. Leger Control 92700 89200

BSPATIL

150

A/c To General Ledger 69200 Adjustment A/c To Overhead 1500 Adjustment A/c 92700 Administration Overhead Control Account Rs. Rs. To General Ledger 14000 By W.I.P. Ledger Control 13900 Adjustment A/c A/c By Overhead 100 Adjustment A/c 14000 Selling and Distribution Overhead Control Account Rs. To General Ledger 6100 By Cost of Sales A/c Adjustment A/c 6100 Work-in-Progress Ledger Control Account Rs. To Balance b/d 32000 To Stores Ledger 68000 Control A/c To Wages Control A/c 67200 To Production Overhead 92700 Control A/c 273800 33500 14000 92700

Rs. 6100

6100

By Finished Goods Control A/c By Loss in Production A/c By Balance c/d To Administration Overhead Control A/c

Rs. 240000 300 33500 13900

273800

To Balance b/d Finished Goods Control Account

Rs. To Balance b/d 24600 By Cost of Sales A/c To W.I.P. Ledger Control 240000 Balance c/d A/c 264600 Cost of Sales Account Rs. To Finished Goods 238500 By Balance c/d Control A/c To Selling & 6100 Distribution Overhead

Rs. 238500 26100

264600

Rs. 244600

BSPATIL

151

Control A/c 244600 244600 244600

To Balance b/d

Overhead Adjustment Account Rs. To Administrative 100 Overhead Control A/c To Balance c/d 1400 1500 By Balance b/d Loss in Production Account Rs. To W.I.P. Ledger Control 300 A/c 300 Trial Balance (As at 31st December 1995) Dr. Rs. General Ledger Adjustment A/c Stores Ledger Control A/c Work-in-Progress Ledger Control A/c Finished Goods Control A/c Cost of Sales A/c Overhead Adjustment A/c Loss in Production A/c 24500 33500 26100 244600 1400 300 329000 329000 Cr. Rs. 327600 By Balance c/d Rs. 300 Rs. By Production Overhead 1500 Control A/c

1500 1400

300

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 Trial Balance 21000

BSPATIL

152

(As at 31st December .) Dr. General Ledger Control A/c Stores Ledger Control A/C Work-in-Progress Ledger Control A/c 970 3080 4050 4050 of Ajith Traders Ltd., for the 31-12-1975 Rs. 24500 Cr. 4050

Problem : 3 The following balances are extracted from the coasts books year ended 31st Dec., 1995. 1-1-1975 Rs. Stores in Hand 16000 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 Expenses

The Cost Journal shows that Rs. 92700 and Rs. 13900 were allocated to Work-in-Progress for works overheads and office overheads respectively. Prepare Cost Ledger Account and a Trial Balance from the above information as at 31st Dec. 1995.

Solution: General Ledger Adjustment Account Rs. To Balance c/d 327600 By Balance b/d By Stores Ledger Control A/c By Stores Ledger Control A/c (Carriage) By Wages Control A/c By Production Overhead Control A/c By Administration Overhead Control A/c Overhead Control A/c
327600 By balance b/d Stores Ledger Control Account

Rs. 72600 76000 500 89200 69200 14000 6100 327600 327600

BSPATIL

153

To Balance b/d To General Adjustment (Purchases) To General Adjustment (Carroage)

Rs. 16000 Ledger 76000 A/c Ledger 500 A/c

Rs. By Work-in-Progress 68000 Ledger Control A/c By Balance c/d 24500

92500 To Balance b/d Wages Control Account Rs. To General Ledger 89200 Adjustment A/c 24500

92500

Rs. By Work-in-Progress 67200 Ledger Control A/c By Production Overhead 22000 Control A/c 89200

89200 Production Overhead Control Account Rs. To Wages Control A/c 22,000 By W.I.P. Ledger Control a/c To General Ledger 69200 Adjustment A/c To Overhead 1500 Adjustment A/c 92700 Administration Overhead Control Account Rs. To General Ledger 14000 Adjustment A/c

Rs. 92700

92700

Rs. BY W.I.P Ledger Control 13900 A/c By Overhead 100 Adjustment A/c 14000

14000 Selling and Distribution Overhead Control Account Rs. To General Ledger 6100 By Cost of Sales A/c Adjustment A/c

Rs. 6100

BSPATIL

154

6100 Work-in-Progress Ledger Control Account Rs. 32000

6100

To Balance b/d

To Store Ledger 68000 Control A/c To Wages Control A/c 67200 To Production 92700 Overhead Control A/c 273800 To Balance b/d 33500

By Finished Control A/c By Loss in Production 300 A/c By Balance c/d 33500 To Administration 13900 Overhead Control a/c

Rs. Goods 240000

273800

BSPATIL

155

Finished Goods Control Account Rs. To Balance b/d 24600 By Cost of Sales A/c To W.I.P. Ledger 240000 Balance c/d Control A/c 264600 Cost of Sales Account Rs. To Finished Goods 238500 By Balance c/d Control A/c To Selling & 6100 Distribution Overhead Control A/c 244600 244600 Rs. 244600 Rs. 238500 26100

264600

244600

To Balance b/d Overhead Adjustment Account

Rs. To Administrative 100 Control A/c To Balance c/d 1400 1500 Loss in Production Account To W.I.P. Control A/c Rs. Ledger 300

By Production Overhead Control A/c

Rs. 1500

1500

By Balance c/d

Rs. 300

300 Trial Balance (As at 31st December, 1995) Dr. Rs. General Ledger Adjustment A/c Stores Ledger Control A/c Work-in-Progress Ledger Control a/c Finished Good Control a/c Cost of Sales A/c Overhead Adjustment A/c Loss in Production A/c 24500 33500 26100 244600 1400 300 329000

300

Cr. Rs. 327600

329000

BSPATIL

156

Lesson 10 Integral Accounting Integral accounting system is defined as a single set of accounts which provides both financial and cost accounting information. Cost and financial accounts are kept in one self contained ledger which is known as integrated ledger. This system does not recognize the need for separate set of accounts. Hence, there is no need for reconciliation of cost and financial accounts. Advantages is Integral systems: 1. 2. 3. 4. 5. 6. An integrated accounting system has the following advantages. There is not problem of reconciliation as there will be only profit amount. This system is economical and easy to understand. Duplication of work and labor is avoided. Cost data can present promptly and regularly. All cost data and accounts are automatically checked and thus cost figures are accurate. In broaden the outlook of accountant and his staff. Journalize following transactions assuming cost and financial accounts are integrated. Raw materials purchases Direct materials issued to production Wages and (30% indirect) Direct wages charged to production Manufacturing expenses incurred Manufacturing overhead charged to production Selling and distribution costs Finished products at cost Sales Closing stock Receipts from debtors Payments to creditors Solution: 1. 2. 3. 4. 5. 6. 7. Stores ledger control a/c To Bought ledger control a/c Work-in-progress control a/c To stores ledger control a/c Wage control a/c To bank a/c Factory overhead a/c To wages control a/c Work-in-progress ledger control a/c To wages control Factory overhead a/c To bank a/c Work-in-progress ledger control a/c To Factory overhead a/c 4000 4000 30000 30000 24000 24000 Dr. 7200 7200 Dr. 16800 16800 Dr. 19000 19000 Dr. 18400 18400 40000 30000 24000 16000 19000 18400 4000 40000 58000 --13800 22000

Problem 1.

BSPATIL

157

8. 9. 10. 11. 12. 13.

Selling & distribution overhead a/c To Bank a/c Finished stock ledger control a/c To Work-in-progress control a/c Cost of sales a/c To finished stock ledger control a/c To selling & distribution control a/c Sales ledger control account To cost of sales A/c Bank A/c To Sales ledger control a/c Bought ledger control a/c To Bank a/c

Dr. 4000 4000 Dr. 40000 40000 Dr 44000 40000 4000 Dr. 58000 58000 Dr. 13800 13800 Dr. 2200 2200

Note: It has been assumed that all manufactured units have been sold and selling and distribution overhead have been charged 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 250000 Transactions for the twelve months ended 31st December were: Dr. 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 430000 cost 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 600 overhead incurred

Cr.

BSPATIL

158

Purchases of fixed assets in cash Charitable Donations Fines paid Interest on bank loan Income-tax

4000 2000 1000 200 40000

You are required to write upto the account in the integral ledger and take out a trial balance. The administration overhead is written off to profit and loss account.

Solution:
In the Integral Ledger of A Co. Ltd. Stores Control Account Dr. Date Particular Jan To Balance b/d 1 Dec. 31

Particular By Work-in-Progress a/c To Creditors 200000 Dec31 By Production Control A/c overhead ac Dec.31 By Balance c/d 236000 12000

Amt. 36000

Date Dec31

Cr. Amount 220000 4000 12000 236000

Jan1

To Balance b/d

Work control Account Dec. To Bank 31

184000 Dec. 31

By 174000 Work-in-Progress A/c Dec.31 By Production 10000 overhead a/c 184000

184000 Production Overhead Account Rs. 10000 Dec. 31 4000 Dec. 31 2600

Dec.31 To Wages Control Dec.31 To Stores Control A/c Dec. 31 To Depreciation Provisions A/c

By Pre-paid expenses A/c (Rent) By Work-in-progress A/c

Rs. 600 96000

966000 Administration Overhead Account Dec.31 To Bank Rs. 24000 Dec. 31 By Cost Sales A/c of

96600

Rs. 24000

BSPATIL

159

24000 Selling and Distribution Overhead Account Rs. Dec. To Bank 28000 Dec.31 By Cost of Sales 31 A/c 28000

24000

Rs. 28000

28000

BSPATIL

160

Work-in-Progress Account Jan1 Dec. 31 Dec. 31 Dec.31 To Balance b/d Wages Control a/c Rs. Rs. 34000 Dec. By Finished 430000 31 Good A/c 174000 Dec.31 By Balance c/d 94000

To Stores Control 220000 a/c To Production 96000 Overhead A/c 524000 94000 524000

Jan 1

To Balance b/d

Finished Goods Account Jan1 To Balance b/d Rs. 26000 Dec. By Cost of Sales 31 430000 Dec.31 By Balance c/d Rs. 440000 ` 16000

Jan.1 To Work-in-progress A/c

Jan 1 To Balance c/d Cost of Sales Account De. 31 To Finished Goods A/c Dec.31 To S & D Overhead a/c Dec.31 To Costing P & L A/c

456000 16000

456000

Rs. 44000 Dec. 31 28000 132000

By Debtors Control A/c

Rs. 600000

Jan 1 To Balance b/d 6,00,000 Costing P & L Account for the year ending 31st December Rs. De. Administration 24000 Dec. By Cost 31 Overhead A/c 31 Sales Dec. To P & L 108000 31 132000

6,00,000 Rs. of 132000

132000

P & L for the year ending 31st December Dec. 31 To Charitable Donations To Fines Rs. 2000 Jan 1 1000 Jan1 By Balance b/d Rs. 64000

By Costing P & 108000

BSPATIL

161

L A/c To interest on 2000 Bank Loan To Income-tax 40000 To Net Profit 128000 172000 Pre-paid expenses account Dec.31 To A/c Production Rs. 600 Dec. 31 By Balance c/d Rs. 600 172000

Jan 1

To Balance b/d

600 600

600

Depreciation Provision Account Rs. 12600 Jan.1 By Balance b/d Dec. 31 12600 Jan. 1 Debtors Control Account Rs. Rs. Dec. To Balance b/d 24000 Dec.31 By Bank 580000 31 Dec.31 To cost of 600000 Dec.31 By Balance 44000 sales a/c c/d Jan 1 Jan1 To Balance b/d To Balance b/d 624000 44000 624000 By balance b/d By Production Overhead A/c Rs. 10000 2600

Dec. 31

To Balance c/d

12600 12600

Creaditors Control Account Dec. To Bank 31 Dec.31 To Balance c/d Rs. 202000 Jan1 Rs. By Balance 16000 b/d 14000 Dec.31 By Stores 200000 Control A/c 216000 Balance 14000

216000 Jan1 By c/d

BSPATIL

162

Share Account Rs. 20000 Dec. By Wages 31 Control Dec.31 To Debtors 580000 Dec.31 By Fixed Control A/c Assets A/c Dec.31 By Production overhead a/c Dec31 By admin. Overhead Dec.31 S&D overhead Dec.31 By creditors control a/c Dec.31 By Fines A/c Dec.31 By Charitable Donations Dec.31 By interest on Bank Loan De.31 By Income-tax Dec.31 By balance c/d Jan.1 To Balance b/d 600000 34800 Rs. 184000

80000 24000 28000 202000 1000 2000 200 40000 34800

600000

Jan.1

To Balance b/d

To Trial Balance as on 31st December Head of Account Stores Control A/c Work-in-progress A/c Finished goods A/c Prepaid expenses A/c Depreciation Provision A/c Debtors Control A/c Creditors Control A/c Fixed Assets A/c Bank A/c Share Capital A/c Profit & Loss A/c Total Dr. Bal Rs. 12000 94000 16000 600 44000 14000 114000 34800 160000 128800 315400 315400 Cr. Bal Rs.

12600

BSPATIL

163

Lesson 11 Reconciliation of Cost and Financial Accounts When 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 the profit 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 companys 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 in lieu of rent where premises are owned, interest on capital employed in production but upon which no interest is actually paid. 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 accounts the actual amount incurred is taken into account. There arise a difference between the actual expenses and the predetermined 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 than the actual amount, the shortfall is called as under recovery or under absorption. If overhead expenses recovered in cost accounts is more than that of the actually incurred, it is called over absorption. Thus, both the over and under recovery may 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 financial accounts stocks are valued either at cost or market price, whichever is less.

BSPATIL

164

The valuation of work-in-progress may also lead to variation. In financial books only prime cost may be taken into account 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: The are two alternative forms of presentation of reconciliation of profits revealed by cost and financial accounts, namely Statement form Account form In the statement form it is known as Reconciliation Statement and in the accounts form it is known as Memorandum Reconciliation 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 of another 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 credited to 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. To Loss as per Cost Book To Items of expenses shown in Finance books but not in Cost books To Items of expenses undercharged in Cost Books or overcharged in Fin. Books. To items of income over-charged in Cost Books or not included in Fin. Books To Over-valuation of opening stock in Fin. Books To Under-valuation of closing stock in Fin. Books..,. To Depreciation under-charged in Cost Books or over charged in Fin. Books To Profit as per Financial Books By Profit as per Cost Books By Items of expenses shown in cost but not in Fin. Books By items of over charges in Cost Books By Over valuations of opening stock in Cost Books By Under-valuation of closing stock in Cost Books Rs.

By Depreciation over-charged in Cost Books

BSPATIL

165

Problem : 1 The profit as per cost accounts is Rs. 150000. The following details are ascertained on comparison of cost and financial accounts. Rs. a. Rs.

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 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. Profit as per Cost accounts Add : Opening stock of finished goods over valued in cost accounts Closing stock of materials under recovered in cost accounts Interest charged only on cost accounts Dividend on UTI not included in cost accounts 2000 1000 10000 1000 Rs. 150000

14000 164000

Less : Opening stock of material under valued in cost accounts Closing stock of finished goods over valued in cost accounts Preliminary expenses written off in financial accounts Goodwill written off in Final accounts Indirect expenses under recovered in cost accounts Profit as per financial accounts

5000 3000 500 1500 4500

14500

149500

Alternatively, the above information may also be presented in the form of an account known as Memorandum Reconciliation Account. Memorandum Reconciliation Account Rs. Rs.

BSPATIL

166

To Opening stock of 5000 material under valued in cost A/c To Closing stock of 3000 finished good over valued in cost account To Preliminary expenses 500 written off To Goodwill written off 1500

By profit as per Cost 150000 Account By Opening stock of finished goods over valued in cost a/c By closing stock of material under valued in cost accounts By interest charged only in cost A/c By dividend received 2000 1000 10000 1000

Overheads under 4500 recovered To Profit as per financial 149500 Accounts (balancing fig) 164000

164000

Problem: 2 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. 80000 Work-in-progress The cost account reveal direct material 280000 consumption 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.

Solution
Closing Profit and Loss account for the year ending 31.3.96 Rs. Rs.

BSPATIL

167

To direct materials To direct wages

280000 100000

To factory overhead 76000 To administration 480000 overhead To selling & Dis. 480000 Overhead 1416000 Profit & Loss Account as per Financial Books Rs. To direct materials 250000 To direct wages 100000 To Factory overhead 380000 To Administration 250000 overhead To Selling & Dis. 480000 To Bad debts 20000 To Preliminary expenses 10000 To legal charges 5000 1495000

By Sales Closing stock: Finished goods Work-in-progress By net loss

700000 120000 80000 516000

1416000

By sales By dividend received By Interest received By Closing stock: Finished goods Work-in-progress Net loss

Rs. 700000 50000 10000

120000 80000 535000

1495000

Reconciliation Statement Loss as per cost account Less: a. Over charging of materials in Cost 30000 accounts b. Over absorption of administration 230000 overhead in cost account Add: a. Under absorption of factory overhead b. Bad debts not included in cost accounts

516000

260000 256000

304000 20000

324000 580000

Less : Adjustment of income items not included in 50000 cost accounts Interest on deposit received 10000

60000 520000

Add: Adjustments not shown in cost accounts Preliminary expenses Legal Charges Net loss as per financial books

10000 5000

15000 535000

BSPATIL

168

Notes: 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 : 3 From 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. 100000 150000 200000 50000 600000 250000

Opening stock of raw materials Closing stock of raw materials Opening stock of finished product Closing stock of finished product Purchase of raw materials Wages

Calculate factory overhead at 25 percent on prime cost. Office overhead will be levied at 75 percent on factory overhead. Actual works expenditure amounted to Rs. 193750 and actual office expenses amounted to Rs. 152500. The selling price was fixed at 25% above cost price.

BSPATIL

169

COST LEDGER ACCOUNTING

Cost of manufacture a) Raw materials Opening stock Add purchases Less closing stock Wages Factory overhead (25% on Prime cost) Office overhead (75% on Fy. Overhead)
Cost of manufacture

Rs. 100000 600000 150000

Rs.

550000 250000 200000 150000 115000

Statement of Profit (Cost Accounts)

b) Opening Stock of Finished goods Cost of manufacture Less Closing Stock of Finished goods Cost of sales Profit (25% of cost) Sales Rs. 200000 1150000 50000 1300000 325000 1625000

Profit and Loss Account Rs. To opening Stock 200000 By sales To Raw materials: By Closing Stock 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 Reconciliation Statement Profit as per Cost Accounts Add Over-absorption of F.Y. 200000 overhead -193750 Less under-absorption of office 152500 overhead -150000
Profit as per Financial Accounts Problem 4:

Rs. 1625000 50000

1675000 325000 6250 2500 328750

A companys net profit as per the cost books was RS. 23063 whereas the audited final accounts showed a profit of Rs. 16624. With the help of the following data, you are required to

BSPATIL

170

prepare a reconciliation statement, and explain the reason for the difference between the two figures.

Opening Stock Purchase

Profit and Loss Account Year ended 31st March, 19. Rs. 247179 Sales 82154

Rs. 346500

329333 Closing Stock 75121 Direct Wages Factory Overhead Gross profit c/d Total Administration expenses Selling expenses Net Profit Total

254212 23133 20826 48329

346500 9845 22176 16624 48,645 Gross profit b/d Miscellaneous income

346500 48329 316

48645

The 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 income

Solution
Rs. Profit as per Cost Accounts Less : Difference in valuation of closing stock Factory overhead under absorbed Selling expenses under-absorbed Add: Wages over-absorbed Administration overhead 78197 75121 20826 19714 22176 17325 24867 23133 10395 Rs. 23063 (-) 3076 (-) 1112 (-) 4851 1734

BSPATIL

171

over-absorbed Sundry income Costing Profit

9845 not shown in

550 316

Profit as per financial accounts 16624. MODEL QUESTION PAPER B.Com., Cost Accounting
Maximum:100 marks Answer any FIVE questions 1. 2. 3. 4. 5. 6. What are the objectives of cost accounting? What do you mean ABC analysis? Explain it with an illustration. What do you mean by labour turnover? What are its causes? What are the different methods of allocation of joint costs to joint products. What are the advantages and limitations of standard costing? From the following particulars, calculate the economic order quantity and find out the number of orders to be placed in a year: Annual requirements Cost of material per unit Cost of placing and receiving on order Annual carrying cost of inventory values : 1600 units : Rs. 40 : Rs. 50 : 10% inventory in PART A

7. A furniture manufacturer uses sunmica tops of tables. out price variance, usage variance and cost Variance: Standard quantity of sunmica per : table Standard price per sq. metre of : sunmica Actual production of tables : Sunmica actually used : Actual purchase price of sunmica :

From the following information, find 4 sq. metre Rs. 5 1000 4300 sq. meter Rs. 5.50 per sq. meter

PART B

( 4 x 15 ) = 60

Answer 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.

BSPATIL

172

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 Direct wages Hours of machine operations Labour hours worked Overheads vhareable to department : : : : the : Rs. 72000 60000 20000 24000 48000

On one order carried out in the departments during the period, the relevant data were: Hours Materials used Direct wages Labour hours Machine hours 1650 1200 Rs. 4000 3300

Prepare 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 II 3879 5989 456 10% 8

I Direct materials (Rs.) 5200 Direct wages (Rs.) 4000 Units produced 879 Normal loss 5% Values of scrap per units 4 (Rs.)

III 4329 2987 234 15% 10

1000 Units at Rs. 6 Each was introduced in process. The indirect expenses for the month Rs. 18000. Prepare process accounts. 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

BSPATIL

173

Factory expenses Office expenses Selling expenses Net Profit

45000 13000 9000 27500 320000

320000

The normal output of the factory is 125000 units. Factory expenses of a fixed nature re Rs. 25000. These expenses are for all practical purposes constant. Selling expenses are constant to the extent of Rs. 3000 and the balance varied with sales. 14.Calculate overhead variance form the following data: Standard (Rs) Fixed overheads 8000 Variable overheads 12000 Output in units 4000 Actual (Rs.) 8500 11000 3800

BSPATIL

174