Ipcc costing and fm important theory qns

 

 COSTING  

DESCRIPTIVE QUESTIONS:

1.    Distinguish between spoilage and defectives in a manufacturing company. Discuss their treatment in cost accounts and suggest a procedure for their control.

2.    What is ABC analysis?

3.    Explain Idle time and its treated in Cost Accounts?

4.    What do you understand by Labour Turnover? How is it measured? What are its causes? What are the remedial steps you would suggest to minimize its occurrence?

5.    What do you understand by overtime premium?

6.    Discuss the objectives of time keeping and time booking.

7.    What is blanket overhead rate? In which situations, blanket rate is to be used and why?

8.    Why is it necessary to reconcile the profits between the Cost Accounts and Financial Accounts?

9.    How do you accounts for by-product in cost accounting?

10.  What is Non-Integrated Accounting System?

11.   What are essential Pre-requisites for Integrated System?

 

DISTINGUISH QUESTIONS:

12.  Cost unit and Cost centre

13.  Explicit costs and Implicit cost

14.  Job evaluation and Merit Rating

15.  Allocation and Apportionment

16.  Job Costing and Batch Costing

17.  Operating Costing and Operation Costing.

18.  Joint Product and By Product

19.  Cost reduction and Cost control.

20.  Product Cost and Period Cost

21.  Job Costing and Contract costing

22.  Standard cost and estimated cost.

23.  Absorption Costing and Marginal Costing

24.  Absolute and Commercial tonne kilometers

 

SHORT NOTES QUESTIONS:

25.  Conversion cost

26.  Sunk cost

27.  Differential cost

28.  Opportunity cost

29.  Escalation Clause.

30.  Irrelevant costs

31.  Retention Money

32.  Split off point

33.  Margin of Safety

34.  Profit Centre

 

 

 

35. Explain the two basic aspects of financial management
36. What are the characteristics of source of funds
37. What are the two basic objectives of financial management
38. Explain operating cycle
39. The impact of double shift working on various components of working capital
40. Explain the functions of the treasury department
41. Explain various types of floats in the context of cash management
42. Assumptions under  J. Baumol's model
43. Explain Miller – ORR cash management model
44. Procedure involved in factoring
45. Explain the procedure for issue of commercial paper
46. Short notes on modified internal rate of return method
47. Short notes on capital rationing
48. Difference between implicit vs. Explicit cost of capital
49. What are all the factors determining capital structure
50. Short notes on optimum capital structure
51. What are all the assumptions in capital structure theories
52. Explain Modigliani and Miller approach (mm)
53. Short notes on trading on equity
54. Explain the concept of  bridge finance
55. Explain various methods of venture capital financing
56. Procedure involved in debt securitisation
57. Explain lease financing
58. Explain seed capital assistance
59. Difference between ADR & GDR
60. Explain ploughing back of profit
61. Explain DU PONT chart
62. Difference between funds flow statement & cash flow statement

  

BASIC CONCEPTS

    SYNOPSIS :

 

2.1 Definition of Cost Accounting

2.2 Objectives of Cost Accounting

2.3 Importance of Cost Accounting

2.4 Advantages of Cost Accounting

2.5 Limitations of Cost Accounting

2.6 Reports Generated by Cost Accounting Department

3.1 Basic Considerations

3.2 Steps in Introduction

3.3 Essentials of a Good Cost Accounting System

3.4 Difficulties in Introduction

 

5.1 Cost Accounting and Financial Accounting

5.2 Cost Accounting and Management Accounting

 6.1 Cost

 6.2 Pre-determined Cost

 6.3 Standard Cost

 6.4 Estimated Cost

 6.5 Marginal Cost

 6.6 Differential Cost

 6.7 Discretionary Cost

 6.8 Decision Driven Cost

 6.9 Managed / Policy Cost

 6.10 Postponable Cost

 6.11 Imputed / Notional Cost

 6.12 Inventoriable / Product Cost

 6.13 Opportunity Cost

 6.14 Out-of-pocket Cost

  6.15 Joint Cost

  6.16 Period Cost

  6.17 Sunk Cost

  6.18 Committed Cost

  6.19 Shut down Cost

  6.20 Relevant Cost     

  6.21 Replacement Cost

  6.22 Absolute Cost

  6.23 Cost Centre

  6.24 Cost Unit

  6.25 Cost Allocation

  6.26 Cost Apportionment

  6.27 Cost Absorption

  6.28 Responsibility Centre

7.1 Material Cost 

7.2 Labour Cost

7.3 Expenses

7.4 Overheads

8.1 By Nature

8.2 By Behaviour

8.3 By Element

8.4 By Function

8.5 By Controllability

8.6 By Normality

8.7 By Time When Computed

9.1 Historical Costing

9.2 Uniform Costing

9.3 Standard Costing

9.4 Direct Costing

9.5 Marginal Costing

9.6 Absorption Costing

9.7 Difference Between Various Types of Costing

10.1 Job Costing

10.2 Batch Costing

10.3 Contract Costing

10.4 Process Costing

10.5 Operating Costing

10.6 Single Output or Unit Costing

10.7 Multiple Costing

11.1 Scanning of Questions Asked in Past Examinations

11.2 Frequency Table Showing Distribution of Marks

 

 The Institute of Cost and Management Accountants of England defines Cost Accountancy as follows:

"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 therefrom for the purpose of managerial decision making."

Thus cost accountancy is a very comprehensive term.

2.1 Definition of Cost Accounting :

Based on the terminology published by the Institute of Cost and Management Accountants of England, Cost Accounting is defined as the process of accounting for cost. This process begins with the recording of income and expenditure or the bases on which they are calculated and ends with the preparation of periodical statements and reports for the purpose of ascending and controlling costs.

2.2 Objectives of Cost Accounting :

Following are the main objectives of Cost Accounting -

(i) Ascertainment of Cost:

It can be done in two ways, namely,

(a) Post Costing, where the ascertainment of cost is done based on actual information as recorded in financial books.

(b) Continuous Costing, where the process of ascertainment is of a continuous nature i.e. where cost information is available as and when a particular activity is completed, so that the entire cost of a particular job is available the moment it is completed.

(ii) Determination of Selling Price:

Though there are various other considerations for fixing the selling price of a product (like the market conditions etc.), cost of the product is an important factor which cannot be sidelined.

(iii) Ascertainment of Profit :

The purpose of any business activity is to earn a profit and profit can be computed by matching the revenue and cost of that particular product/activity.

(iv)Cost Control and Cost Reduction:

Cost Control and Cost Reduction are two different concepts.

         Cost Control aims at maintaining the costs in accordance with established standards. It involves the following steps -

a.      Determination of target cost

b.      Measurement of actual cost

c.       Analysis of variation with respect to target cost

d.      Initiation of corrective action.

Cost Reduction on the other hand aims at improvement established targets. It is defined as "the achievement of real and permanent reduction in the unit cost of goods manufactured or services rendered without impairing their suitability for the use intended or diminution in the quality of the product."

The difference between Cost Cost Control and Cost Reduction can be summarized as under:

[May'94]

(v) Facilitation of Inventory Valuation :

As per the Accounting Standard 2 on Valuation of Inventories,Inventories are to be valued at "lower of cost and net realisable value". Costing accounting determines the ascertainment of this "cost" based on which the inventory is valued.

(vi) Assisting Management in Decision-making :

Decision-making is a process of choosing between two or more alternatives, based on the resultant outcome of the various alternatives. A Cost Benefit Analysis also needs to be done. All this can be achieved through a good cost accounting system.

2.3 Importance of Cost Accounting :

The importance of cost accounting can be highlighted through the following benefits which accrue to any business concern:

(i) Control of Material Cost :

Normally, material cost constitutes a major portion of the cost of the product. Hence control of material cost can ensure a good amount of benefit. Control of material cost can be exercised as follows :

a.      Maintaining optimum level of stock to avoid unnecessary locking up of capital

b.      Maintaining an uninterrupted supply of materials

c.       Use of techniques like value analysis, standardisation etc.

(ii) Control of Labour Cost :

Labour cost control can be exercised as follows:

a.      Setting standard time for each activity and keeping adverse variance to the minimum

b.      Laying down proper remuneration schemes

c.       Control over labour turnover

d.      Control over idle time, overtime

(iii) Control of Overheads :

Overheads are nothing but indirect expenses incurred at the factory, office and sales depots. Again control over overheads will ensure a control over the total cost of the product and a higher profit margin.

(iv) Determination of Selling Price :

    Refer 2.2 (ii) above.

(v) Budgeting :

Any commercial activity begins with the preparation of budgets for the same. A budget serves as a guideline against which the actual performance can be measured and continuous corrective action can be taken to ensure that the budget is adhered to.

(vi) Measuring Efficiency :

Efficiency can be measured by comparing actuals against standards and corrective action can be taken.

(vii) Strategic Decision-making:

Cost accounting enables the management to take up various strategic decisions like "Make or Buy", "Shut down or Continue", "Replace or Continue", " Status quo or Expansion" etc.

2.4 Advantages of Cost Accounting :

(i) Helps optimum utilization of men, materials and machines

(ii) Identifies areas requiring corrective action

(iii) Identifies unprofitable activities, losses, inefficiencies

(iv) Helps price fixation

(v) Facilitates cost control and cost reduction

(vi) Facilitates use of various cost accounting techniques, like, variance analysis, value analysis etc.

(vii) Helps management in formulation of policies

(viii)Helps management in making strategic financial decisions. For eg: the technique of marginal costing helps the management in making various short term decisions.

(ix) Helps in formation of cost centres and responsibility centres to exercise control

(x) Marginal Cost having a linear relationship with production volume enables in formulation and solution of "Linear Programming Problems".

(xi) Provides a data-base for reference by government, wage tribunals and trade unions etc.

2.6 Limitations of Cost Accounting :

                                i.            It is not an exact science and involves inherent element of judgement.

                              ii.            Cost varies with purpose. Therefore cost collected for one purpose will not be suitable for another purpose.

                            iii.            Cost accounting presents the base for taking the best decisions. It does not give an outright solution .

                            iv.            Most of the cost accounting techniques are based on some pre-assumed notions.

                              v.            The apportionment of common costs comes under a lot of criticism.

                            vi.            There are different views held by different experts on the treatment of certain items of cost.

2.6 Reports Generated by Cost Accounting Department :

The Cost Accounting Department generates the following reports as a routine, for use of its executives:

                                i.            Expen

                              ii.            Cost Sheet giving details as to component wise break-up of each element of cost as compared with previous year’s data, competitors data.

                            iii.            Material Consumption Statement, showing total quantity and types of material issued and used, wastage’s if any. Comparison of actual v/s standard.

                            iv.            Labour Utilization statement showing total number of hours, budgeted & actually worked, types of labour utilised, idle time etc.

                              v.            Labour Turnover , cost of recruitment and training of new employees.

                            vi.            Overheads Statement giving break-up of various types of overheads, the actual overheads incurred as against the budgeted and the over/under absorption, if any

                          vii.            Sales Statement giving product wise break-up of unit realisation, volume achieved as against the targets.

                        viii.            Inventory Analysis Sheet giving break-up of inventories into materials, work-in-progress and finished goods, their number of months holding as against the normal holding period in the industry.

                            ix.            Statement of Abnormal wastages / losses / spoilages

                              x.            ses incurred on research and development as compared with the budget.

                            xi.            Any other report pertaining to any cost centre (explained later).

[May'96, Nov'99]

3.1 Basic Considerations in Installation of Cost Accounting System :

A system is an established set of procedures for the purpose of achieving specific objectives at minimum cost. A lot of problems can be avoided if the cost accounting system is introduced carefully. Before setting up a system of cost accounting, the under mentioned factors should be studied :

                                i.            The objective of costing system i.e whether it is for price fixation or for cost control or for a particular management decision.

                              ii.            Size of the organisation, general organisation of the business with a view to finding out the manner on which the system could be introduced

                            iii.            Areas of functioning wherein the management's action will be most beneficial.

                            iv.            Management’s policies and expectations. The system of costing should be designed after a careful study of the management's polices and expectations.

                              v.            Methods & procedures in vogue for purchase, receipts, storage and issue of material, methods of wage payment etc.

                            vi.            Technical aspects of the business should be studied thoroughly by the designers. They should also make an attempt to seek the assistance and support of the supervisory staff and workers of the organisation for the system.

                          vii.            The maximum amount of information that would be sufficient and how the same should be secured without too much burden on the existing system of the organisation.

                        viii.            Forms standardisation - various forms to be used by costing system for various data collection and dissemination.

                            ix.            The degree of accuracy of data to be supplied by the system and how verification of such data can be brought about.

                              x.            Benefits of system to be explained - the manner in which the benefits of installation of the cost accounting system should be explained and how an awareness of the utility of the same should be created.

                            xi.            The manner in which an integral system of accounts can be devised so as to automatically reconcile financial profit with costing profit with the help of control accounts.

                          xii.            Information requirements of management, the nature of reports to be generated through the cost accounting system

3.2 Steps in Introduction of Cost Accounting System : [Nov'93]

The introduction of a cost accounting system will involve the following steps:

                                i.            Codification and classification

                              ii.            Establishment of cost centres

                            iii.            Guidelines for separation of fixed and variable costs

                            iv.            Guidelines for allocation of indirect costs

                              v.            Introduction of standard formats

                            vi.            Specification of reports and their periodicity

                          vii.            Preparation of Cost Accounts Manual

                        viii.            Guidelines for post-installation appraisal of costing system

3.3 Essentials of a Good Cost Accounting System : [Nov'93, May'96]

                                i.            It should be simple and practical.

                              ii.            It should be tailor-made for the requirements of the organisation.

                            iii.            The data to be used by the cost accounting system should beaccurate or else the output will suffer.

                            iv.            The system of costing should not sacrifice the utility by introducing meticulous and unnecessary details.

                              v.            The cost of installation should justify the results.

                            vi.            Active co-operation and participation of executives from different departments ensures in developing a good cost accounting system.

                          vii.            A carefully phased program should be prepared by using network analysis for the introduction of the system.

3.4 Difficulties Likely to be Experienced in the Introduction of a Cost Accounting System :

Following initial difficulties are likely to be experienced when a new costing system is introduced :

                                i.            Lack of support from other departmental heads

                              ii.            Resistance from accounting staff

                            iii.            Non co-operation from the supervisory staff

                            iv.            Shortage of trained staff

4. ROLE OF A COST ACCOUNTANT IN A MANUFACTURING ORGANISATION

A cost accountant in a manufacturing organisation plays several important roles

                                i.            He establishes a cost accounting department in his concern.

                              ii.            He ascertains the requirement of cost information which may be useful to organisational managers at different levels of the hierarchy.

                            iii.            He develops a manual, which specifies the functions to be performed by the cost accounting department. The manual also contains the format of various forms which would be utilised by the concern for procuring and providing information to the concerned officers. It also specifies the frequency at which the cost information would be supplied to a concerned executive.

Usually, the functions performed by a cost accounting department includes -cost ascertainment, cost comparison, cost reduction, cost control and cost reporting.

a.      Cost ascertainment, requires the classification of costs into direct and indirect. Further it requires classification of indirect costs (known as overheads) into three classes viz., factory overheads; administration overheads and selling and distribution overheads. Cost accountant suggests the basis which may be used by his subordinates for carrying out the necessary classifications as suggested above.

b.      Cost comparison is the task carried out by cost accountant for controlling the cost of the products manufactured by the concern. Cost accountant of the concern establishes standards for all the elements of cost and thus a standard cost of the finished product. The standard cost so determined may be compared with the actual cost to determine the variances. Cost accountant ascertains the reasons for the occurrence of these variances for taking suitable action.

c.       Cost analysis may also be made by cost Accountant for taking decisions like make or buy and for reviewing the current performance.

d.      Cost accountant also plays a key role in the preparation of cost reports. These reports help the executives of a business concern in reviewing their own performance and in identifying the weak areas, where enough control measures may be taken in future.

In brief, one may say that there is hardly any activity in a manufacturing organisation with which a cost accountant is not directly associated in some form or the other.

 5.1 Cost Accounting And Financial Accounting :

Financial Accounting is concerned with the preparation of financial statements, which summarise the results of operations for a selected period of time and show the financial position of the organisation as at a particular date. It helps to assess the overall progress of an organisation, its strength and weakness. It facilitates effective control over the assets of the organisation.

However, there are serious limitations of financial accountancy from the point of view of the management. It is on account of these limitations that "Costs Accounting" has been developed for the purpose of management control and internal reporting.

The limitations of financial accounting together with procedures that over come the limitations are given below:

Forecasting and Planning

Decision-making

Control and Assessment

Thus the important limitations of financial accountancy namely, lack of analysis of data and absence of yardsticks is very well overcome by cost accountancy.

5.2 Cost Accounting and Management Accounting :

The scope of management accounting is broader than that of cost accounting. In cost accounting, the main emphasis is on cost and it deals with its collection, analysis, relevance, interpretation and presentation for various problems of the management. Management accountancy utilizes the principles and practices of financial accounting in addition to other modern management techniques for efficient operation of the organisation.

The main emphasis in management accountancy is towards determining policy and formulating plans to achieve the desired objective of the management.

Management accountancy has been defined by CIMA as under :

"An internal part of concerned with identifying, presenting and interpreting information used for:

a.      Formulating strategy

b.      Planning and controlling activities

c.       Decision making

d.      Optimising the use of resources

e.       Disclosure to shareholders and others external to the entity

f.       Disclosure to employees

g.      Safeguarding assets".

6.1 Cost - Cost represents the amount of expenditure (actual or notional) incurred on or attributable to a given thing. It represents the resources that have been or must be sacrificed to attain a particular objective.

6.2 Pre-determined cost - It is the cost which is computed in advance, before the production starts, on the basis of specification of all the factors affecting the cost.

6.3  Standard cost - It is a pre-determined cost which is arrived at,assuming a particular level of efficiency in utilisation of material, labour and other indirect services. It is the planned cost of a product and is expected to be achieved under a particular production process under normal conditions. It is often used as a basis for price fixing and cost control.

6.4 Estimated Cost - It is an approximate assessment of what the cost will be. It is based on past data adjusted to anticipated future changes.

(Note : Standard cost Vs Estimated cost [Nov'92]

Although pre-determination is the essence of both standard cost and estimated cost, they differ from each other in the following respects:

a.      Difference in computation

b.      Difference in emphasis

c.       Difference in use

d.      Difference in records

e.       Difference in applicability

6.5 Marginal cost - It is the amount at any given volume of output by which aggregate cost changes if the volume of output changes increases/decreases) by one unit.

6.6 Differential cost - It is the difference in the total cost between alternatives calculated to assist decision making Thus, it represents the change in total cost (both fixed and variable) due to a change in the level of activity, technology, process or method of production, etc.

6.7 Discretionary cost - It is an "escapable" or "avoidable" cost. In other words, it is that cost which is not essential for the accomplishment of a particular objective.

6.8 Decision-driven cost - It is that cost which is incurred following a policy decision and continues to be incurred till that decision is altered. It does not vary with changes in output or with operational activities.

6.9 Managed / Policy cost - It is that cost which is incurred as a matter of policy eg: R & D cost. This cost has two important features :

a.      It arises from periodic (usually annual) decisions regarding the maximum outlay to be incurred 

And

b.      This cost is not tied to a cause and effect relationship between input and output.

(Note : Decision-driven cost Vs Managed / Policy cost  while managed / policy cost arises from periodic decisions (usually annual), decision-driven cost has no such fixed frequency).

6.10 Post-ponable cost - It is that cost which can be shifted to the future with little or no effect on the efficiency of the current operations.

6.11 Imputed / Notional cost - CIMA defines notional cost as "the value of benefits where no actual cost is incurred". Thus, imputed cost is that cost which does not involve any cash outlay. Though it is a hypothetical cost, it is relevant for decision making. Interest on capital, the payment for which is not actually made, is an example of imputed cost.

6.12 Inventoriable / Product cost - It is the cost which is assigned to the product. For eg : Under marginal costing ® variable manufacturing cost. Under absorption costing ® total manufacturing cost (fixed and variable) constitute product or inventoriable cost.

6.13 Opportunity cost - It refers to the value of sacrifice made or benefit of opportunity forgone in accepting an alternative course of action. For e.g. If Mr. A works in his brother’s firm instead of working in X Ltd., then the loss of salary Mr. A suffers by foregoing employment in X Ltd., is the opportunity cost of working in his brother's firm.

6.14 Out of pocket cost - It is that portion of total cost which involves cash outlay. It is a short term cost concept and is used in short- term decision making like make or buy, price fixation during recession. Out of pocket cost can be avoided if a particular proposal under consideration is not accepted.

6.15 Joint cost - It is the cost of the process which results in more than one main product.

6.16 Period cost - It is the cost which is not assigned to the product but is charged as an expense against the revenue of the period in which it is incurred. All the non-manufacturing costs like administrative, selling and distribution expenses are treated as period costs.

6.17 Sunk cost - Historical cost which is incurred in the past is known as sunk cost. This cost is not relevant in decision making in the current period. For eg. In the case of a decision relating to the replacement of a machine, the written down value of the existing machine is a sunk cost and hence irrelevant to decision making.

6.18 Committed cost - It is a fixed cost which results from decisions of prior period and is not subject to managerial control in the present. Examples of committed cost are depreciation, insurance premium and rent.

6.19 Shut down cost - The fixed cost which cannot be avoided during the temporary closure of a plant is known as shut down cost. Examples of shut down cost are depreciation and rent.

6.20 Relevant cost - CIMA defines relevant cost as " cost appropriate to a specific management decision".

6.21 Replacement cost - It is the cost of replacement in the current market.

6.22 Absolute cost - It is the total cost of any product or process. For e.g.: in a cost sheet, both absolute cost and cost per unit are depicted.

6.23 Cost centre - [May'95, May'97]

Meaning - For the installation of a cost accounting system, the organization is divided into sub-units. Cost centre is the smallest organisational sub-unit for which separate cost collection is attempted. It is defined as a location, a person or an item of equipment (or group of these) for which cost may be ascertained and used for the purpose of cost control.

Types – Primarily , there are two types of cost centres, namely:

a.      Personal cost centre - consisting of a person or a group of persons

b.      Impersonal cost centre - consisting of a location or an item of equipment (or a group of these).

Functionally, there are two types of cost centres, namely:

a.      Production cost centre - It is a cost centre where both direct and indirect expenses are incurred for the production. Following are the examples of production cost centres- machine shop, milling and turning shop, assembly shop.

b.      Service Cost Centre - A cost centre which renders services to production cost centres is termed as service cost centre. It serves as an ancillary unit to the production cost centre.

Powerhouse, boiler plant, repair shop, material service centre, all are examples of service cost centres.

Considerations - Formation of appropriate cost centres is very important for the purpose of cost control. Important considerations for the formation of cost centres are as follows:

a.      Organisation of the factory

b.      Conditions prevalent for incurrence of cost

c.       Management’s decision needs

6.24 Cost unit - Meaning - Once the cost of various cost centres is ascertained, the need arises to express the cost of output (product / service). A cost unit is defined as a unit of quantity of product, service or time (or a combination of these) in relation to which costs may be ascertained or expressed.

Cost units are usually units of physical measurement like number, weight, time, area, length, volume etc.

Examples - A few typical examples of cost units are given below :

6.25 Cost allocation - Cost allocation refers to the allotment of whole items of costs to cost centres. For example, if a worker is employed in department "A", then the wages paid to the worker are allocated or charged to department "A". This process of charging the entire wages (being ‘cost’) of the worker to department "A" is termed as cost allocation.

6.26 Cost apportionment - It is the process of distributing an item of cost over several cost centres or cost units. Thus, one item of cost is charged to two or more cost centres or cost units. Normally overheads (indirect costs) are charged to cost centres or cost units by way of apportionment in proportion to the anticipated benefits.

( Note : Cost allocation Vs Cost apportionment. The former involves the process of charging direct expenditure to cost centres or cost units while the latter involves the process of charging indirect expenditure to cost centres or cost units.)

6.27 Cost absorption - It is the process of absorbing the overhead costs (indirect costs) allocated to or apportioned over a particular cost centre. Thus cost absorption follows cost allocation and cost apportionment. Selection of correct method of overhead absorption is very important for pricing policies, tenders and other managerial decisions. Overhead absorption is accomplished through overhead rates. For eg. the overhead costs of a ‘grinding centre’ may be absorped by using a rate per " grinding" hour.

6.28 Responsibility centre - Meaning - When an organisation is divided into different sub-units according to the responsibility and for each sub-unit, a specified individual is made responsible, then the sub-unit thus formed is termed as a responsibility centre. Thus, a responsibility centre is defined as an activity centre of a business organisation entrusted with a special task.

The specified individual is held accountable only for those activities which he directly affects. Under modern budgeting and control, finance executives tend to apply the concept of responsibility centres for the purpose of control.

Types -

Responsibility centres can be classified as under:

a.      Cost centres - Refer 6.23 above

b.      Profit centres - Centres, which have the responsibility of generating and maximising profits , are called profit centres. [Nov'97]

c.       Investment centres - Centres which are responsible for earning an optimum return on investments are termed as investment centres.

d.      Revenue centres - Centres which are devoted to raising revenue with no responsibility for production are called revenue centres. Eg. Sales centre.

e.       Contribution centres - Profit centres whose expenditure are reported on a marginal cost basis, are called contribution centres.

The following diagram depicts the various elements of cost:

7.1 Material Cost :

                                i.            Direct Materials - Materials which are present in the finished product or can be identified in the finished product are called direct materials. For eg. coconuts in case of coconut oil or wood in a wooden cupboard.

                              ii.            Indirect Materials - Indirect materials are those materials whichdo not normally form part of the finished products or which cannot be directly traced to the finished product. For eg. stores, oil, grease, cotton wool etc.

7.2 Labour Cost :

                                i.            Direct Labour - Labour which can be attributed wholly to a particular product, process or job is called direct labour. It is the labour utilised in converting raw materials into finished products. For eg. labour employed in the crushing department of an oil mill.

                              ii.            Indirect Labour - Labour which cannot be identified with a particular product, process or job is called indirect labour. Indirect labour cost is apportioned to cost units or cost centres. For eg. maintenance workers.

7.3 Expenses :

                                i.            Direct Expenses - Expenses incurred (except direct materials and direct labour) specifically for a product, process or job is known as direct expenses. They are also called "chargeable expenses". For eg. hiring charges for a machine specifically hired for a particular process, excise duty, royalty.

                              ii.            Indirect Expenses - Expenses incurred other than direct expenses are called indirect expenses. For eg. factory rent & insurance, power, general repairs.

7.4 Overheads :

Overheads is the sum total of indirect materials, indirect labour and indirect expenses. Functionally overheads can be classified as under -

                                i.            Production / Works overheads

                              ii.            Administrative overheads

                            iii.            Selling overheads

                            iv.            Distribution overheads

 

 

 

 

 

 

 

 

 

8. CLASSIFICATION OF COST

8.1 Classification By Nature :

                                i.            Direct cost - Direct cost is that cost which can be identified with a cost centre or a cost unit. For e.g. cost of direct materials, cost of direct labour.

                              ii.            Indirect cost - Cost which cannot be identified with a particular cost centre or cost unit is called indirect costs. For e.g. wages paid to indirect labour.

8.2 Classification By Behaviour :

                                i.            Fixed cost - Fixed cost is that cost which remains constant at all levels of production. For e.g. rent, insurance.

                              ii.            Variable cost - The cost which varies with the level of production is called variable cost i.e., it increases on increase in production volume and vice-versa. For e.g. cost of materials, cost of labour.

                            iii.            Semi-variable cost - This cost is partly fixed and partly variablein relation to the output. For e.g. telephone bill, electricity bill.

8.3 Classification By Element :

Refer 7 above.

8.4 Classification By Function :

                                i.            Production cost - It is the cost of the entire process of production. In other words it is nothing but the cost of manufacture which is incurred upto the stage of primary packing of the product.

                              ii.            Administrative cost - It is the indirect cost pertaining to the administrative function which involves formulation of policies, directing the organisation and controlling the operations of an undertaking. This cost is not related to any other functions like selling and distribution, research and development etc.

                            iii.            Selling cost - Selling cost represents the indirect cost which is incurred for

(a)  seeking to create and stimulate demand

and

(b) securing orders.

                            iv.            Distribution cost - It is the cost of the sequence of operations which begins with making the packed product available for despatch and ends with making the reconditioned returned empty package, if any available, for re-use.

                               v.            R&D cost - "Research Cost" and "Development cost" are two different types of costs.

Research cost is the cost of researching for new products, methods and applications. Development cost is the cost of the process which begins with the implementation of the decision to produce the new product or apply the new method and ends with the commencement of formal production of that product or by that method.

                            vi.            Pre-production cost - It is that part of the development cost which is incurred for the purpose of a trial run, before the commencement of formal production.

                          vii.            Conversion cost - It is the cost incurred for converting the raw material into finished product. It comprises of direct labour cost, direct expenses and factory overheads.

                        viii.            Prime cost - Prime cost is the aggregate of direct material cost, direct labour cost and direct expenses. The term ‘direct’ indicates that the elements of cost are traceable to a particular unit of output.

8.5 Classification By Controllability : [May'97]

                                i.            Controllable cost - The cost, which can be influenced by the action of a specified person in an organisation, is known as controllable cost. In a business organisation, heads of each responsibility centre are responsible to control costs. Costs that they are able to control are called controllable costs and include material, labour and direct expenses.

                              ii.            Uncontrollable cost - The cost which cannot be influenced by the action of the person heading the responsibility centre is called uncontrollable cost. For e.g. all the allocated costs and the fixed costs.

Note: It may be noted that controllable and uncontrollable cost concepts are related to the authority of a person in the organisation. An expenditure which may be controllable by one person may not be controllable by another. Moreover, in the long run, all cost may be controllable.

8.6 Classification By Normality :

                                i.            Normal cost - It is the cost which is normally incurred at a given level of output, under the conditions in which that level of output is normally attained. Normal cost is charged to the respective product / process.

                              ii.            Abnormal cost – It is the cost which is not normally incurred at a given level of output in the conditions in which that level of output is normally attained.

This cost is charged to the costing profit and loss account i.e., the product / process does not bear the abnormal cost.

8.7 Classification By Time when Computed :

                                i.            Sunk cost - Refer 6.17 above

                              ii.            Estimated cost - Refer 6.4 above

Following are the techniques of costing used in industries for ascertaining the cost of products / services:

9.1  Historical Costing - It is the ascertainment of costs after they have been incurred. This costing is based on recorded data and the cost arrived at are verifiable by past events. This type of costing has limited utility.

9.2 Uniform Costing - CIMA defines it as " the use by several undertakings of the same costing system, i.e., the same basic costing methods, principles and techniques."

9.3 Standard Costing - CIMA defines standard costing as " a control technique which compares standard costs and revenues with actual results to obtain variances which are used to stimulate improved performance."

9.4 Direct Costing - Under direct costing, a unit cost is assigned only the direct cost, i.e., all the direct costs are charged to the relevant operations, products or processes. The indirect costs are charged to the profit and loss account of the period in which they arise. As a result, inventory is valued at direct cost only.

9.5 Marginal Costing - Under marginal costing, marginal cost is ascertained by differentiating between fixed and variable costs. In this type of costing, variable costs are charged to cost units and fixed costs of the period are written off in full against the aggregate contribution.

Marginal costing is of great importance in case of short-term decision making.

9.6 Absorption Costing - It is the technique of assigning all costs i.e. both fixed and variable, to the respective product/service.

9.7 Difference between various Types of Costing

Note : Please note the following distinctions

a.      Marginal Costing V/S Absorption Costing

Marginal cost excludes fixed costs. Under absorption costing, even fixed costs are charged to the product/service.

b.      Marginal Costing V/S Direct Costing

Under marginal costing only variable cost (both direct and indirect) is charged to the cost unit while under direct costing, only direct cost ( both fixed and variable) is charged to the cost unit.

c.       Absorption Costing V/S Direct Costing

Under absorption costing, all costs (both direct and indirect) are assigned to the cost unit, whereas under direct costing only direct cost is assigned to the cost unit. In both types of costing, variability of cost is ignored.

d.      Differential Costing V/S Marginal Costing

[May'94, Nov'97]

Scope

Variability

Definition

Basis of Decision Making

Incorporation in Accounting System

Applicability

 

The method of costing applied by a particular industry depends upon the nature of the industry.

Following are the various methods of costing which are commonly followed :

10.1 Job Costing - The objective under this method of costing is to ascertain the cost of each job order. A job card is prepared for each job to accumulate costs. The cost of the jobs is determined by adding all the costs against the job when it is completed.

This method of costing is used in printing press, foundaries, motor- workshops, advertising etc.

10.2 Batch Costing - This method of costing is used where small parts/components of the same kind are required to be manufactured in large quantities. Here a batch of similar products is treated as a job and the cost of such a job is ascertained as mention in (10.1) above

For e.g. in a cycle manufacturing unit, rims are produced in batches of 1,000 units each, then the cost will be determined in relation to a batch of 1,000 units.

10.3 Contract Costing - If a job is very big and takes a long time for its completion, then the method appropriate for costing is called contract costing. Here the cost of each contract is ascertained separately.

It is suitable for firms engaged in erection activities like construction of bridges, roads, buildings, dams etc.

10 4 Process Costing - This method of costing is used in those industrieswhere the production comprises of successive and continuous operations or processes. Here specific units lose their identity in the manufacturing operation. Under this method of costing, costs are accumulated by ‘processes’ for a particular period regardless of the number of units produced.

This method of costing is followed by chemical industry, soap industry, rubber industry, paints industry.

10.5  Operating Costing - The method of costing used in service rendering undertakings is known as operating costing.

This method of costing is generally made use of by transport companies, gas and water works departments, electricity supply companies, canteens, hospitals, theatres, schools etc.

10.6  Single Output/Unit Costing - This method of costing is used where a single product is produced. The total production cost is divided by the total number of units produced to get the unit/single output cost.

This method of costing is normally used in marble quarrying, mining, brick-kilns, breweries, etc.

10.7 Multiple Costing - It is a combination of two or more methods of costing mentioned above. Suppose a firm manufactures bicycles, including its components, the parts will be costed by way of batch costing but the cost of assembling the bicycle will be done by unit costing. This method is also called composite costing.

Some other industries using this method of costing are those manufacturing – radios, automobiles, aeroplanes etc.

11.1 Scanning of Questions Asked in Past Examinations :

Nov'92 - Distinguish between : Standard costs and Estimated costs. (4 marks)

May'93 - Match the following : (1 mark each)

May'93 - Indicate whether the following statements are True or False : All costs are controllable.

                                                        i.            Conversion cost is equal to direct wages plus factory overhead.

                                                      ii.            Variable cost per unit varies with the increase or decrease in the volume of output.

                                                    iii.            Depreciation is an out of pocket cost.

                                                    iv.            An item of cost that is direct for one business may be indirect for another.

                                                      v.            Fixed cost per unit remains fixed. (1 mark each)

Nov'93 - Outline the steps involved in installing a costing system in a manufacturing unit. What are the essentials of an effective costing system? (16 marks)

May'94 - Distinguish between:

Marginal costing and Differential costing

Cost control and Cost reduction (8 marks)

May’95 - Write short notes on : Cost centre. (4 marks)

May’96 - What are the essentials of a good cost accounting system?(6marks)

May’96 - Narrate the essential factors to be considered while designing and installing a cost accounting system. (10 marks)

Nov’96 - A factory manufactures only one product in one quality and size. The owner of the factory states that he has a sound system of financial accounting which can provide him with unit cost information and as such he does not need a cost accounting system. State your arguments to convince him the need to introduce a cost accounting system. (4 marks)

May’97 - What is meant by ‘Cost Centre’ ? (4 marks)

May'97 - Distinguish between the following : Controllable costs and Uncontrollable costs. (4 marks)

Nov’97 - What is meant by ‘Profit Centre’? (4marks)

Nov’97 - Distinguish between : Differential costing and marginal costing

May’98 - Name the various reports ( Elaboration not needed) that may be provided by the Cost Accounting Department of a big manufacturing company for the use of its executives. (5 marks)

Nov’98 - Specify the methods of costing and cost units applicable to the following industries:

                                i.            Toy making

                              ii.            Cement

                            iii.            Radio

                            iv.            Bicycle

                              v.            Ship building

                            vi.            Hospital. (3 marks)

Nov’99 - Discuss the four different methods of costing along with their applicability to concerned industry. (4 marks)

Nov’99 - Enumerate the factors which are to be considered before installing a system of cost accounting in a manufacturing organisation.(5 marks)

 

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MATERIAL

Introduction :-

    These Chapter deals with Calculation & Control of Material Cost. Normally Stock of material is valued either at cost price or MKT Price whichever is lower. Under the Cost Price criteria method like FIFO [First In First Out], LIFO [Last In First Out], Weighted Average, Simple Average are used.

    The Above Approach are related to calculation & valuation of material stock. However it is equally important to control the material cost. For controlling the cost , it is necessary to decide how much should be purchased, when to purchased, what should be stock level, How much discount should be demanded from the supplier etc. It is also necessary to keep check over material turnover. For controlling the material cost .

[1]    ECONOMIC ORDER QUANTITY (EOQ) OR REORDER QUANTITY (ROQ)

            It represent the quantity of material which should be purchased each time. These quantity is economical from the angle of the storages & ordering cost.

Where

            A   = Annual Consumption of Qty

            B   =  Buying cost OR cost of placing one order.

            CS =  Cost of storing one unit of material for one year.

    If the cost of the Investment is given then such cost also will be part of CS

Note :- Whenever Discount Factor given in a problem. These Formula will not be apply for calculating EOQ.

[2]     Reorder Period OR Delivery Period OR Lead Time :-

            It represent the time gap involves between placement of order & Actual Receiving of the Delivery. Such Period is again divided into Maximum Period, Minimum Period, Average Period & Emergency Period.

[3]       Reorder Level  (ROL) :-

            It represents that level of stock of which fresh quantity of material should be purchased. The Purchased Quantity will be EOQ.

    ROL is calculated as follows :

A]

 B]

C]

4]    Maximum Stock Level

        It represent minimum Qty of stock which should be maintained by Organisation.

5]    Minimum Stock Level :-

        It represent Minimum Qty of stock which should be maintained by Organisation

6]    Average Stock Level :-

           It represent on an average how much stock quantity should be maintained.

            1]

            2]

  

7]     Danger Level :-

                It represent that Level of stock below which production will stop.

8]    Material Inventory Turnover Ratio :-

9]    Material Inventory Period :-

        It represents the period of one Consumption Cycle.

 

 

 

LABOUR

INTRODUCTION :-

This Chapter deals with Calculation of wages under Piece rate system & Time rate system. It is also covers Labour Turnover; it's impact on profit & additional coverage will be General problem relating to labour calculation.

PART I

Piece rate system of labour Calculation :-

In this Approach wages are paid according to Quantity produced by the workers. 

However efficient workers should be given some incentives & therefore following Approaches will be developed by Orthodox Cost Accountant..

[1] Taylor Approach :-

Note :- In the Institute Study Material it is given 125% which is not correct.

[2] Merrick Approach :-

PART II

Time rate System of Labour Calculation :-

    In this Approach Remuneration is Calculated according to actual time worked by the worker.

Following thinking are available 

[1] HALSEY'S 50% PREMIUM APPROACH : - 

Std Time :-       It means Time allowed OR Std taken for Actual Production.

Actual Time :-  It means Actual time take for Actual Production  OR Actual Hrs Worked by the  Worker.

Difference Between Std time & Actual Time , It represent Time Saved.

1st Part of the Formula Indicates Normal Wages

2nd Part of the Formula Indicates Bonus Amt or Incentives

[2]  Rowan Approach :-

PART III

Mixed Approach :-

It is Developed by Gantt Task

This Approach is combination of Time rate system & Piece rate system.

Level of Efficiency	Remuneration
< 100%	Actual Hrs Work X Std Rate Per Hour
100%	Actual Hrs Work X [ Std Rate Per Hour + 20%]
> 100%	Actual Qty Produced X High Piece rate OR Actual Hrs Work X Std Rate per Hour + 1/3

* High Piece rate is fixed by the management.

Labour Turnover

It represent worker leaving the Job & New worker's Appointed. Labour Turnover is essential for removal of inefficient worker & appointing of the new efficient workers. However high rate of turnover will result into loss of production, loss of sales, loss of profit & other administrative cost relating to selections, recruitment, training, etc of new workers.

Following method are available for calculation of labour turnover.

[1] Separation Method :

 

[2] Replacement Method :

[3] Flux Method:- 

    It is  a Combination of 1^st and 2^nd

[4] Labour Turnover on the Basis of Hours

 

 

 

 

 

 

 

 

OVERHEADS

This chapter deals with detail analysis of Factory overhead, the Basis coverage is as under :-

[1] Distribution of Service Department Overheads to Production Department

[2] Treatment of Over Absorption & Under Absorption of overheads

[3] Calculation of Machine Hour Rate.

Distribution of Service Department Overheads to Production Department

These Department helping the Production Dept are known as "Service Department".

For E.g;- Power Generation Dept

                Repair & Maintenance Dept

                Labour and Welfare Dept

Cost of such Department will be ultimately transfer to Production Dept . For this Purpose 3 Method are available.

[1]    Simultaneous Equation Method

[2]    Step and Ladder Method

[3]    Repeted Cycle Method OR Continuous Distribution Method

Note : If Nothing is given in problem about method ,then [3] Method will be Apply.

Treatment of Over Absorption and Under Absorption of Factory Overheads :

    Absorption means Amt of Factory Overheads charge to WIP Account i.e. Production A/c.

    Actual Overheads incurred is Different Amt & overheads charge to WIP is different Amt. Factory overheads charged to WIP on the basis of some predefined standard de to this situation of over and under Absorption arises.

    If the amt of absorption is High as compared to amt actually incurred, it is represent "Over Absorption"

E.g :

Factory Overheads A/c

    If the amt of absorption is Less as compared to amt actually incurred, it is represent "Under Absorption"

E.g :

Factory Overheads A/c

Overheads Absorption is Calculated as under :

METHOD I	ACTUAL LABOUR HOUR WORK X STD RATE LABOUR  HOUR
METHOD II	ACTUAL UNIT PRODUCED X STD FACTORY OVERHEADS PER UNIT
METHOD IIII	ACTUAL WAGES INCURRED X STD % OF OVERHEADS ABSORPTION                                        WITH REF TO WAGES
METHOD IV	ACTUAL MACHINE HOUR WORK X STD RATE OF OVERHEADS PER MACHINE HOUR

If Standard rate of overheads absorption is not given then calculate as under :

[1]

[2]

[3]

[4]

* How to deal with Amount of Over or Under Absorbed Overheads :

APPROACH I	Amount will be carried forward to Next Year
APPROACH II	Amount will be transferred to Costing P/L A/c.
APPROACH III	Nullify the Over and Under Absorption Situation by revising std rate of absorption.

Revise Std Rate of Absorption

Original Standard Rate [+/-] Supplementary Rate

In Case of Under Absorption Positive Supplimentary rate will be adopted & in case of over Absorption Negative supplimentary rate will be adopted.

Calculation of Machine Hour Rate

Machine Hour Rate represent expenses involved for using a machine for one Productive Hour.

Expenses of the Machine & Productive Hours of Machine, both should be calculated for the period operation.

In the Absence of Information Machine set up time will be considered as Productive time.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

COST CONTROL(INTEGRATED AND NON INTEGRATED APPROACH)

This chapter deals with Accounting Treatment of costing transaction. Two Approach are available 

1] Non Integrated Approach

2] Integrated Approach

Non Integrated Approach :-

    It is pure costing approach in which Person A/c & Real A/c's are ignored. In order to complete Double effects, Artificial Account is prepare " General ledger Adjustment Account"

     In this approach those item are ignored which are not considered in cost sheet . 

    We have to deal following account

    [1]    Stores Ledger Control Account

    [2]    Wages Control Account

    [3]    Factory Overheads Account

    [4]    WIP Account

    [5]    Office & Administration Account

    [6]    Finished Goods Account

    [7]    Selling and Distribution Account

    [8]    Cost of Goods Sold Account

    [9]    Costing Profit and Loss Account

    [10]    Sales Account

    [11]General Ledger Adjustment A/c ( GLA A/c)

Flow of Transaction :-

[1] Total Material Purchased 

    Direct Material      Transferred to WIP A/c

    Indirect Material    Transferred to Factory overheads A/c

[2] Total Wages

     Direct Labour       Transferred to WIP (Production) A/c

    Indirect Labour     Transferred to Factory overheads A/c

[3] For Direct Expenses WIP Account will be directly affected.

[4] Factory Overheads incurred Transferred to WIP Account

[5] WIP Account transferred to Finished Goods Account

[6] Office and Administration Transferred to Finished Goods 

[7] Finished Goods Account Transferred to Cost of Sales Account

[8] Selling and Distribution Expense Transferred to Cost of Sales Account

[9] Cost of Sales  Transferred to Costing Profit and Loss Account

[10] Cash/ Credit Sale done Transferred to Costing Profit and Loss Account.

[11] Costing Profit and Loss Account Transferred to GLA Account

1	TOTAL MATERIAL PURCHASED
	STORES LEDGER CONTROL ACCOUNT ..... Dr	XX
	TO GENERAL LEDGER ADJUSTMENT ACCOUNT		XX
2	MATERIAL ISSUED TO PRODUCTION
	WIP ACCOUNT ..... Dr	XX
	TO STORES LEDGER CONTROL ACCOUNT		XX
3	REPAIRS AND MAINTENANCE MATERIAL [INDIRECT MATERIAL]
	FACTORY OVERHEADS ACCOUNT  ..... Dr	XX
	TO STORES LEDGER CONTROL ACCOUNT		XX
4	TOTAL WAGES INCURRED
	WAGES CONTROL ACCOUNT  ..... Dr	XX
	TO GENERAL LEDGER CONTROL ACCOUNT		XX
5	DIRECT LABOUR CHARGED TO PRODUCTION
	WIP ACCOUNT  ..... Dr	XX
	TO WAGES CONTROL ACCOUNT		XX
6	REPAIRS AND MAINTENANCES [INDIRECT LABOUR]
	FACTORY OVERHEADS ACCOUNTS  ..... Dr	XX
	TO WAGES CONTROL ACCOUNT		XX
7	DIRECT EXPENSES INCURRED
	WIP ACCOUNT  ..... Dr	XX
	TO GENERAL LEDGER CONTROL ACCOUNT		XX
8	FACTORY OVERHEADS INCURRED
	FACTORY OVERHEADS ACCOUNT  ..... Dr	XX
	TO GENERAL LEDGER ADJUSTMENT ACCOUNT		XX
9	SALE OF SCRAPE
	GENERAL LEDGER ADJUSTMENT ACCOUNT  ..... Dr	XX
	TO FACTORY OVERHEADS ACCOUNT		XX
10	FACTORY OVERHEADS ABSORBED OR RECOVERED OR APPLIED OR ALLOCATED (TRANSFERRED)
	WIP ACCOUNT  ..... Dr	XX
	TO FACTORY OVERHEADS ACCOUNT		XX
11	FINISHED GOODS PRODUCED
	FINISHED GOODS ACCOUNT  ..... Dr	XX
	TO WIP ACCOUNT		XX
12	OFFICE AND ADMINISTRATION OVERHEADS INCURRED
	OFFICE OVERHEADS ACCOUNT  ..... Dr	XX
	TO GENERAL LEDGER ADJUSTMENT ACCOUNT		XX
13	OFFICE OVERHEADS ABSORBED OR APPLIED OR ALLOCATED OR RECOVERED
	FINISHED GOODS ACCOUNT   ..... Dr	XX
	TO OFFICE OVERHEADS ACCOUNT		XX
14	COST OF FINISHED GOODS SOLD
	COST OF SALES ACCOUNT  ..... Dr	XX
	TO FINISHED GOODS ACCOUNT		XX
15	SELLING AND DISTRIBUTION OVERHEADS INCURRED
	COST OF SALES ACCOUNT  ..... Dr	XX
	TO SELLING AND DISTRIBUTION OVERHEADS ACCOUNT		XX
16	CASH AND CREDIT SALE DONE
	GENERAL LEDGER ADJUSTMENT ACCOUNT	XX
	TO SALES ACCOUNT		XX
17	SALES TRANSFER TO COSTING PROFIT AND LOSS ACCOUNT
	SALES ACCOUNT  ..... Dr	XX
	TO COSTING PROFIT AND LOSS ACCOUNT		XX
18	COST OF SALES TRANSFERRED TO COSTING PROFIT AND LOSS ACCOUNT
	COSTING PROFIT AND LOSS ACCOUNT  ..... Dr	XX
	TO COST OF SALES		XX
19	PROFIT TRANSFERRED TO GENERAL LEDGER ACCOUNT
	GENERAL LEDGER ADJUSTMENT ACCOUNT  ..... Dr	XX
	TO COSTING PROFIT AND LOSS ACCOUNT		XX

Integrated Approach :-

   It is a mixed Approach, which is combination of costing Approach and Financial Accounting Approach. It has 2 features

    (1) Personal and Real Account will be considered. Therefore GLA Account will not be taken place. First 10 Account prepared as usual , followed by other Personal and Real Accounts.

    (2) Non Costing Transaction will also be considered E.g Interest, discount, Dividend , Income Tax Etc.

The Flow of Transaction will be Considered here also.

JOB COSTING AND BATCH COSTING

JOB COSTING

        When continuous production is not carried out but production depends on specific order received from customer, then in such case technique of Job costing  is adopted for cost & profit calculation. Each order represent separate Job and we have to prepare Job cost sheet. The technique of Job costing is applied for preparation of Tender or Quotation.

        In Absence of Information following points should be considered for preparing Job cost sheet.

[1]    First a fall prepare cost sheet of running business or transaction took place in previous period.

[2]    Calculate per unit cost of direct material, Direct labour, Direct Expenses and Selling & Distribution Overheads. Any Increase or Decrease will be adjusted to such per unit cost. The Revise per unit cost will be multiplied by Quantity of the Job order and we will get respective cost per job cost sheet.

[3]    Calculate % of Factory overheads to Direct labour, using Data of previous period transactions.

[4]    Apply this % on Direct Labour of Job cost sheet &  we will get Factory overheads for Job cost sheet.

[5]    Normally in Job Cost Sheet there will be no opening and closing WIP & Finished Goods. Even sale of scrape will not be taken place.

[6]     Calculate % of office overheads to Works Cost using data of previous period. Apply this % to works cost of job cost sheet, & we will get office overheads for job cost sheet.

[7]    Calculate % of Profit to cost of sale using data of previous period. Apply this % to cost of sale of Job Cost sheet & we will get the profit for job cost sheet.

BATCH COSTING:-

    When Item produced is small in size identically nature , large scale production is carried out & cost per unit is quite lower, then the techniques of Batch Costing is utilised for calculation of cost.

    We have to prepare cost sheet for particular Batch size. The Overall amount of fixed cost will not change according to Batch size but per unit fixed cost will be change according to Batch size.

If  Semi variable expenses take place then it will be divided into Variable cost and Fixed cost.

This Techniques is utilised of manufacturing items like Pencils, Pins, Clips and Other small stationary Items, small Electrical Items, Etc.

OPERATING COSTING

Introduction

These Chapter deals with Calculation of Cost for Service Orientated Organisation.

E.g:- Hospitals, Theaters, Transportation Services, Educational Institution, Etc.

We have to Calculate Cost & Quantity for Period of Operation.

    At the time of calculation cost Proper classification should be adopted in respect of variable cost, Fixed cost & Semi variable cost.

    Variable Cost include those expenses which fully change according to the level of activity or level of Quantity.

    Fixed Cost are those Cost which change according to time Factor & doesn't have any relation with the quantity involves.

    Normally Expenses like Rent, Depreciation, Interest, Etc are time based expenses or fixed expenses. Whenever we come across semi-variable expenses we have to divided into parts i.e Variable Cost and Fixed Cost. Normally Maintenance cost is semi variable cost.

PROCESS COSTING

Introduction

Process Account

	Qty	Rate	Amt		Qty	Rate	Amt
To Direct Material	xx	xx	xx	By Sale of Scrape	xx	xx	xx
To Indirect Material	xx	xx	xx	By Sale of Wastage	xx	xx	xx
To Direct Labour	xx	xx	xx	By Normal Loss	xx	xx	xx
To Indirect Labour	xx	xx	xx	By Sale of Output	xx	xx	xx
To Direct Exp	xx	xx	xx	By Loss on sale of Output	xx	xx	xx
To Indirect Exp	xx	xx	xx	By Output transferred to Next Process	xx	xx	xx
To Abnormal Gain	xx	xx	xx
To Profit on sale of Output	xx	xx	xx
	xx	xx	xx		xx	xx	xx

whenever it is possible to divide production procedure into separate function, then cost is calculated for each function separately by preparing Process Account. Process account will include all cost upto fact level.

Following are the Important Terms :-

1] Normal Loss :-

        It represent Expected Loss of Output quantity which cannot be controlled. Such Quantity is estimated on the basis of Previous Experience. If Such Loss doesnot have sale value then it reflect as normal loss.

2] Expected Output = Input Quantity - Normal Loss

3] 

4] Abnormal Loss :-

        When actual Output obtained is lower as compare Expected output, then such loss of output is known as Abnormal Loss. Abnormal Loss take place due to Negligence.

                    Abnormal Loss Account    Dr......        xx

                            To Process Account                                        xx

5] Abnormal Gain

            When Actual output obtained is higher as compare to Expected Output, then such Extra output obtained is considered as Abnormal Gain. 

                        Process Account     Dr....                xx

                                To Abnormal Gain Account                xx

Note :- Effect of Abnormal Loss or Gain will be given only when actual output is given in the question.

 

INTER PROCESS PROFIT PROBLEM

        When output  of one process is transferred is transferred to another process by charging  profit then it is  Inter Process Profit Problem. In the Process account we have to give  3 column i.e Cost, Profit & Total. Total column is actual , All figure given in the problem are at total level, all calculation should be done with reference to amount of total column.

        Output of 1st process will be transferred to second process by charging profit. Same procedure will be followed in subsequent process also. The opening & closing stock of 1st process will not have element  of profit. However opening and closing stock subsequent process & finished goods will have profit element. We have to create stock reserves account for element pf profit in such stock. The stock reserves treatment will be covered in Costing P/L A/c.

        The value of closing stock will be deducted from debit side instead of writing on credit side. The amount of profit will appear in Profit column & total column but never in cost column.

 

 

EQUIVALENT PRODUCTION

Introduction

        In the Process Problem WIP is involved, then Equivalent Production Treatment will be apply. The cost of  the process will be allocated between completed output and Incompleted Output depending on the level of completion derived in the current period.

Equivalent Production for the 1st Process using FIFO order:-

        The  opening WIP will be completed 1st & then fresh input will be completed , due to this Closing is available out of  fresh Input. Following steps will be followed as working Note.

STEP I  :-    Prepare Process Account with Qty Data

STEP II :-    Division of output quantity (using FIFO)

STEP III :-    Statement of Equivalent Production

(QTY)

Particulars	Material	Labour	Fact. Overheads
Opening WIP completed in current period (Apply Balance %)	xx	xx	xx
Output from current Input (Always 100%)	xx	xx	xx
Closing WIP completed in current period (Apply % Given)	xx	xx	xx
Abnormal Loss (If scrape completion % is given then apply that % otherwise 100%)	xx	xx	xx
(-) Abnormal Gain (always 100%)	xx	xx	xx
Equivalent Quantity	xx	xx	xx

Step IV Statement pf Equivalent Cost

	Material	Labour	Factory Overheads
	Rs.	Rs.	Rs.
Cost incurred in Current Period	xx	xx	xx
(-) Sale of Scrape	xx	xx	xx
Net Cost	xx	xx	xx
/
Equivalent Qty	xx	xx	xx
Equivalent C.P.U	x	x	x

Step V :- Valuation Procedure

Part I Value of completed Output

   (A)    Value of opening WIP completed     

            Opening Cost B/d   (given in the Problem)                     xx

            (+) Current cost                                                             xx

                [Equivalent Qty X Equivalent C.P.U]                                

                                                                                                xx  

(+)        Value of Output From Current Input

            [Equivalent Qty X Total Equivalent C.P.U]                         xx     

                                                                                                  xx    

Part II Value of closing WIP

               Equivalent Qty    X Equivalent CPU

Part III Value of Abnormal Loss

                  Equivalent Qty    X Equivalent CPU

Part Iv     Value of Abnormal Gain

                  Equivalent Qty    X Equivalent CPU

   After these working prepare Process Account which must tally.            

Reconciliation

 

Introduction :-

    In this Topic we reconcile or match costing Profit with Finance Profit. Costing Profit is calculated in Costing Department in the factory. Finance Profit is calculated in account department in head office. For any company for one accounting year, Profit figure must be same but in Actual Life this figure are never same. There is always difference between this profits. A Statement is Prepared regularly explaining the reason for differences. Such statement is known as statement  of Reconciliation. Following  are reasons for Difference :-

    [1]    Recording Of Expenses :-

                    In cost books expenses are record as estimate. In finance books expenses are recorded as actual . Estimate never equal to Actual.

   [2]    Method of Stock Valuation :-

                    In Cost Books stock is valued at cost of Production . In Finance books stock is valued at cost or Mkt Price which is less. As a method of stock valuation is different stock figure are different.

   [3]    Method Of Depreciation :-

                    In Cost records , Depreciation depends upon use of assets. In Finance books Dep depends upon SLM or RBM Method. As Method of Dep are Different  and hence the profit is Different.

    [4]    There is  a certain item which appear only in finance books or only in cost books. As a result figure are diferent and hence the Profit is different.

STATEMENT OF RECONCILIATION

Rules for Reconciliation Statement :-

    [1]    Exp are More , Profit is Less , Now You Add

    [2]    Exp are Less  , Profit is More , Now You Less

    [3]    Income are Less, Profit is Less, Now You Add

    [4]    Income are More, Profit is More, Now You Less

Hint :- Opening Stock - Exp

           Closing  Stock – Income

 

COST SHEET

    Every Business wants to earn maximum profits. For this Purpose, he has two options

    [1]    Increase in Selling Price

    [2]    Decrease the Cost

Rise in selling Price is not possible as there exists competition in the Mkt. Hence efforts are made to reduce the cost . The focus is on the future transaction of the company.

Cost Sheet :-

    Cost Sheet is a statement in which all expenses are grouped under suitable heads for there analysis, Control, and Reduction. Aim is to earn maximum profit

Cost Sheet for the Year

    Note :-

[1]     Interest paid on loan Dividend Paid , Bank charges Etc are Financial Exp not considered in Cost Sheet.

[2]     In the absence of any instruction Cash Discount and Bad Debts are taken as selling Exp. Alternatively if they are taken as Finance Exp, they will not taken in Cost Sheet.

[3]    Purchase of Fixed Assets is a Capital Expenditure never taken in Cost Sheet.

 

List of formulas for Costing and FMCost SheetFormat of cost sheetMaterials Economic order quantityWhere the purchase price is constant irrespective of the quantity purchased EOQcould be computed using Wilson formula. In case of multiple purchase prices pricebreak model has to be followed.(a) Wilson formula: √ (2*C*O)/I where C= Annual consumption; O= Cost perorder; I= Holding cost per unit per annum.(b) Price break model: compute total cost of materials and select that lot sizehaving the least total cost. Total cost= ordering cost+holding cost+purchasecost. Ordering cost=Number of orders*Cost per order; Holdingcost=1/2*order size*I; Purchase cost= purchase price*C. Computation of stock levels(a) Re-order level(ROL)= Maximum lead time*Maximum consumption(b) Minimum level= ROL-Average lead time*Average consumption(c) Maximum level=ROL+ROQ-(Minimum consumption*Minimum lead time)(d) Average level=(Minimum level+Maximum level)/2(e) Danger level=Average consumption*Lead time during emergency purchase.Opening stock of Raw Materials XX+ Purchases XX- Closing stock (XX) XX+ Direct wages XX+ Direct expenses XXPrime cost XX+ Factory overheads XXGross Works cost XX+ Opening work in progress XX- Closing work in progress (XX)Net works cost/cost of Prodn XX+ Opening finished goods XX- Closing finished goods XXCost of goods sold XX+ Administration overheads XX+ Selling & Distribution overheads XXCost of Sales XX+ Profit XXSales XX
 

 Treatment of material losses(a) Normal losses : They should be treated as product cost. The cost of normalloss is recovered by good units. Such losses will be charged to the currentP&L account to the extent of material consumed and balance is carriedforward to the subsequent year Vide closing stock.(b) Abnormal loss: The entire loss is debited to P&L account (i.e.) it is treated asperiod cost. Residual category of problems to be revised(a) Issue valuation under different methods such as FIFO, LIFO, Wt.Avg, SimpleAvg, Base stock, Replacement price and Standard cost.(b) Safety stock computation when stock out costs is given.(c) ABC analysis.Labour Some important formulas(a) Time rate wages: TT*TR(b) Piece rate wages: units produced*piece rate(c) Taylor’s differential piece rate:Efficiency Piece rateBelow standard 80% piece rateAt or above standard 120% piece rate(d) Merricks multiple piece rate:Efficiency Piece rateUpto 83% Normal piece rate83% to 100% 110% piece rateAbove 100% 120% piece rate(e) Gantt task bonus plan:Efficiency WagesBelow standard Guaranteed time wagesAt standard 120% time rate*std timeAbove standard 120% time rate*std time for actual output(f) Halsey premium plan: (TT*TR)+50%(TS*TR)(g) Rowan premium plan: (TT*TR)+TS/TA(TS*TR)(h) Barth plan:TR*√ std time * actual timeNote:TT=time taken;TS=time saved;TR=time rate;TA=time allowed Labour turnover computation methods(a) Separation method: Number of separations/Average labour(b) Replacement method: Number of replacements/Average labour(c) Flux method: (Number of replacements+number of separations)/Average

labourNote: Go through the problems involving computation of profit foregone due tolabour turnover. Treatment of Idle time(a) Normal idle time: If it is that of direct workers treat it as direct wages and inother cases treat it as production overheads.(b) Abnormal idle time: charge it to costing P&L account. Treatment of overtime(a) Regular feature in the organisation: inflate the wage rate to absorb theovertime premium also.(b) To meet the seasonal demand: overtime premium should be treated asproduction overheads.(c) To meet specific customer requirement: charge the over time premium to thespecific job.(d) Abnormal reasons: overtime premium should be debited to costing P&Laccount.Overheads Absorbtion of overheads(a) Calculation of absorbtion rate: Overheads/suitable baseNote: Common bases used: labour hour; machine hour; material cost; labour cost;prime cost; production units.(b) Charging to each unit of production: quantity of base contained in eachproduction unit*absorbtion rate. Under or over absorbtion computationUnder or over absorbtion=actual overheads-Overheads absorbed (If positive underabsorbtion else overabsorbtion)Note:(a) Actual overheads actual rate*actual base(b) Overhead absorbed=predetermined rate*actual base(c) Predetermined rate=budgeted overheads/budgeted base(d) Actual rate=actual overhead/actual base Treatment of under or overabsorbtion(a) Period cost method: transfer the amount of under or overabsorbtion tocosting P&L account.(b) Product cost method: calculate supplementary rate and distribute the underor over absorbtion between cost of goods sold and closing stock.Activity based costing

 Steps in activity based costing(a) Identification of major activities in the organisation.(b) Collection of cost incurred for each activity. It is referred as cost pools.(c) Identification of the factor which drives the cost of each activity. It is called costdriver.(d) Finding out the quantum of cost driver consumed during the period.(e) Calculation of cost driver rate [(b)/(d)](f) Charging the overheads to the product. Amount to be charged = cost driverrate*quantum of cost driver consumed by that product.Process costing Format of process accountParticulars Units Amount Particulars Units AmountTo Opening WIP By normal lossTo materials By Transfer to nextprocessTo wages By abnormal lossTo overheads By closing WIPTo abnormal gain Steps in process accounts with losses(a) Calculate the total process cost(b) Reduce the sales proceeds of normal loss scrap from (a)(c) Input-normal loss units=normal output(d) Cost per unit to be transferred to next process(b)/(c) Steps in process accounts with WIP(a) Statement of equivalent units(b) Statement of cost per equivalent units(c) Statement of apportionment(d) Process account.Time value of money PVCF = CF*PVF FVCF = CF*FVF PVA = Annuity*PVAF FVA = Annuity*FVAF Perpetuity = CF/rNote: PVF, FVF, PVAF, FVAF can be obtained from their respective tables or by using

the following formulas:(a) PVF = 1/(1+r)^n(b) FVF = (1+r)^n(c) PVAF = 1/r [1-(1/(1+r)^n)](d) FVAF = [(1+r)^n –1]/r(e) Where the annuity due is immediate multiply ( c) or (d) with (1+r).Terms: PVF = present value factor; FVF = future value factor; PVAF = present valueannuity factor; FVAF = future value annuity factor; CF = cash flows.Capital budgeting Maxims in calculation of cash flow under capital budgeting decisions Consider only incremental cash flows Cash flows should be adjusted for effects on other projects After tax cash flows should be used No tax No depreciation In case of depreciation being relevant consider issues such as set-off andcarry forward of unadjusted depreciation. Remove effect of financing decisions while computing cash flows. Remember to give effect to working capital adjustments. Capital budgeting techniques: some formulasNon-discounting techniques(a) Average rate of return (ARR) = Average profit / Average investmentAverage investment = (Original investment-Salvage value)/2 + Salvage value +Additional working capital.(b) Pay back = period at which the cumulative cash inflows equals the cash outflow.Discounting techniques(c) Net present value (NPV) = Present value of inflows – Present value of outflow(d) Internal rate of return: It is the discount rate at which the net present value ofthe project cash flows become zero. Its calculation depends on the cash flowstructure. Annuity cash flows: IRR can be computed by locating the present value factorin the annuity table for the number of years given in the problem. Presentvalue factor to be located = original investment / annuity inflow. Non-Annuity cash flows: IRR is calculated by making trial calculations in anattempt to compute the correct interest rate, which makes the Net present,value zero. The first trial rate may be calculated on the basis of the method,which is used to determine the IRR for an annuity cash flow. The only change

is to substitute Average annual cash flow in place of Annuity inflow.(e) Profitability index or Benefit cost ratio = Present value of inflow / Presentvalue of outflow.(f) Discounted payback = Same as pay back but instead of cash flows usediscounted cash flow.Leverages Leverage formulas(a) Degree of operating leverage (DOL) = contribution / EBIT or change inEBIT/change in sales.(b) Degree of financial leverage (DFL) = EBIT / [EBIT -I- PD/(1-t)] or change inEPS/change in EBIT(c) Degree of total leverage (DTL) = DOL*DFL or change in EPS/change in sales Financial break even pointIt is the EBIT level at which the EPS is ZERO. Financial BEP = I+PD/(1-t) Indifference pointIt is the level of EBIT at which the EPS under two different financing plans aresame. Computation of indifference point is as follows: Assume X to be the EBIT at which the EPS of to financial plans are same. Solve the following equations to get the value of X{(X-I1)(1-T)-PD1} / No. of equity shares = {(X-I 2)(1-t)-PD 2} / No. ofequity sharesNote: In comparing two financial plans, we should select financial plan having lowerfinancial break even point, if the EBIT expected to be generated is below indifferencepoint, be indifferent between both the plans if the expected EBIT is equal toindifference point and the other plan if the EBIT is above indifference point.Cost of capital Computation of individual components of cost of capital(a) Cost of debtIrredeemable debt Redeemable debtKd = I(1-t) / SV Kd = [I(1-t) + (RV-SV)/n] / (RV+SV)/2OrKd = IRR of the cash flows associatedwith issue of debtNote: I = Interest rate; t = Tax rate; SV = Issue proceeds; RV = Redemption value(b) Cost of preference capital (Kp): Same computation procedure as that ofdebt except that tax will not feature in such computation.(c) Cost of equityEarnings model Dividend model Dividend growth model

Ke = EPS / MPS Ke = D1 / Po Ke = {D1 / Po} + gNote: EPS = earnings per share; MPS = Market price per share ; D1 = expecteddividend ; Po =current market price. overall cost of capitalKo = W1 Kd + W2 Kp + W3 KeRatio analysis Liquidity ratios Current ratio = current assets / current liabilities Quick ratio or acid test ratio = [current assets- inventories] / current liabilities Cash ratio = [cash+marketable securities] /current liabilities Interval measure = [current assets-inventories]/Avg daily optg exp Net working capital ratio = Net working capital / Net assets Leverage ratios or capital structure ratios Debt equity ratio = Debt / Equity {equity means shareholdersfunds or networth}Note:(1) Where Company uses fixed assets on long term lease, it commits itselfto a series of fixed payments. The value of lease obligation is equivalent to debt.Therefore include the same in the debt.(2) Preference share capital should be treated as part of equity whilecalculating debt equity ratio. Interest coverage ratios = EBDIT / I Fixed charges coverage ratios = [EBDIT+Lease rentals] / [Interest+Leaserentals +{preference dividend+loan repayment}/(1-t)] Activity ratios Inventory turnover ratio = cost of goods sold / Average inventory Debtors turnover ratio = credit sales / Average debtors Total assets turnover ratio = Sales / Total assets Fixed assets turnover ratios = Sales / Fixed assets Working capital turnover ratio = Sales / Working capital Capital turnover ratio = Sales / Capital employed { capital employed =fixed assets + working capital or debt + equity} Profitability ratios

 Gross profit ratio = Gross profit / Sales Net profit ratio = profit after tax / Sales Operating expense ratio = Operating expense / Sales Return on investments (ROI) = [Profit after tax + Interest] / Capitalemployed Return on Equity (ROE) = Profit after tax / Equity Miscellaneous ratios Earnings per share (EPS) = Profit after tax and preference dividend /Number of equity shares Dividend per share (DPS) = Dividend / Number of equity shares Dividend Payout ratio (D/P ratio) = DPS/EPS Price earning ratio (P/E ratio) = MPS / EPSALL THE BEST MY FRNDS:):)