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Cost Accounting Basics

Meaning and Objectives

Cost accounting is a branch of accounting focused on determining the cost of products and services. It involves accounting for
costs to help with planning, control, and decision-making.

"Costing is the technique and process of ascertainment of cost." - Chartered Institute of Management Accountants
(CIMA)

According to Wheldon:

"Costing is the classifying, recording, and appropriate allocation of expenditure for the determination of the cost of
products or services; the relation of these costs to sales values and the ascertainment of profitability."

CIMA defines cost accountancy as:

"The application of costing and cost accounting principles, methods, and techniques to the science, art, and practice of
cost and the ascertainment of profitability... It includes the presentation of information derived therefrom for the
purpose of management decision making."

The terms costing, cost accounting, and cost accountancy are often used interchangeably.

The main objectives of cost accounting are:

Cost ascertainment
Fixation of selling price
Help in estimating costs
Cost control
Providing data or information for management accounting

Limitations of Cost Accounting

Despite its advantages, cost accounting has limitations:

Lacks a uniform procedure, leading to potential variations in results.

Involves numerous conventions and flexible factors, making it difficult to obtain exact costs.
Cost varies with purpose, limiting its universal applicability.
Is not an exact science and involves inherent elements of judgment.
Requires a suitable system for each individual concern, which can be time-consuming and expensive.
Relies on presumed notions and differing views, impacting the inclusion of certain items in total cost.
Requires many formalities, potentially deterring small and medium-sized concerns.
Requires regular revision to remain effective, otherwise becoming a routine of forms and statements.

Financial Accounting Limitations

Financial accounting, focused on past data, has limitations that led to the development of cost accounting:

Doesn't give classified cost figures for different departments, products, processes, etc.
Doesn't provide adequate cost figures for the fixation of selling price.
Doesn't disclose reasons for variations in costs between periods.
Doesn't provide for control of material, labor, and overhead costs.
Lacks provision for setting standards for efficiency measurement.
Is concerned only with past activities, not forewarning management.
Doesn't provide adequate information to external agencies.
Doesn't supply adequate data for managerial decisions.
Doesn't provide full analysis of losses due to idle time or abnormal wastage.
Expenses are not classified into direct and indirect or controllable and uncontrollable items.

Cost vs. Financial Accounting

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Cost accounting is more useful than financial accounting when it comes to analyzing the cost of products and services.

Feature Financial Accounting Cost Accounting

Cost data is made and analyzed in

Lacks a system for classifying accounts to provide data on costs
Cost Classification accordance with managerial
incurred by different departments, processes, or products.
requirements.
Doesn't provide proper control of materials, supplies, and Systems are developed to control each
Cost Control
overheads. element of cost.
Doesn't provide day-to-day cost information; data is summarized at Continuous reporting system. Costs are
Reporting
the end of the accounting period. pre-determined, aiding corrective action.
Information for Provides adequate information in reports to external entities like Mainly used to meet the informational
Outside Agencies banks and tax authorities. requirements of management.
Doesn't provide information about losses due to defective material, Avoidable losses are clearly
Loss Information idle plant equipment, inefficient labor, or seasonal variations. No distinguished from unavoidable losses
distinction between avoidable and unavoidable losses. with separate accounting treatment.
Expenses are classified and apportioned
Expense Expenses are not classified into direct and indirect items and are
to each process and department as
Classification not assigned to the product at each stage of production.
required.
Lacks a well-developed system of standards to appraise
Efficiency
organizational efficiency in the use of materials, labor, and N/A
Appraisal
overhead costs.
Costs are not available as an aid in determining prices of products,
Pricing Aid N/A
services, production orders, or lines of products.
Time Focus Mainly historical, reporting costs already incurred. Costs are pre-determined.

Addressing Objections to Cost Accounting

Some argue that cost accounting is unnecessary, expensive, and a luxury. These points can be countered as follows:

1. Unnecessary:

While financial accounting meets legal requirements, cost accounting provides detailed information on cost units and
objects for efficient management.

2. Expensive:

Maintaining a cost accounting department should be seen as an investment, with benefits outweighing the costs.

3. Luxury:

Cost accounting is a necessity in a competitive environment for controlling costs and earning profits.

Cost Center vs. Cost Unit

Cost Center
"A location, person or item of equipment (or groups of these), for which costs may be ascertained and used for the
purposes of cost control." - CIMA

Cost Unit
"A unit of quantity of product, service or time (or a combination of these) in relation to which costs may be ascertained
or expressed." - CIMA

Ascertaining costs is a key activity in cost accounting, and it also becomes necessary to determine the 'unit' in terms of which
costs are to be ascertained. The unit is called 'Cost Unit.'

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Product/Industry Cost Unit

Radio/T.V. Per radio or T.V.

Car Per car
Coal Per tonne of coal
Bricks Per thousand
Hospital Per bed or Per patient per day
Transport Per tonne km or per passenger km
Building Construction Per building
Steel mill Per tonne of steel
Cement mill Per bag of cement
Cables Per metre of cable
Textile mill Per metre of cloth

Cost Center vs. Department

A cost center is a part of the organization where costs are accumulated, while a cost unit is what the company offers for sale.
Departments can work as cost centers, but cost centers may also exist within departments.

Classification of Costs

According to Identifiability
Direct costs: Costs easily identified with cost units or cost centers (e.g., wages of a carpenter for a piece of furniture).
Indirect costs: Costs not easily identified with specific units of output (e.g., light and power costs, rent).

According to Elements
Material: Can be direct (e.g., cloth in a shirt) or indirect.
Labor: Can be direct (e.g., tailor's wages) or indirect.
Expenses: Costs that are neither material nor labor, and can be direct or indirect.

Direct costs can be easily and directly identified with a particular cost unit, while indirect costs cannot be easily or conveniently
associated with particular cost units or cost centers.

Indirect expenses are also known as 'overheads' and may be further classified as:

Factory overheads
Office and administration overheads
Selling and distribution overheads

According to Variability
Fixed Costs: Remain constant within a certain output limit, but vary per unit with changes in output.
Variable Costs: Change in total amount with changes in output volume, but remain constant per unit.
Semi-variable Costs: Contain both fixed and variable components.

Fixed costs remain fixed irrespective of the volume of output. The image shows that total
fixed costs remain constant, while unit fixed costs decrease as production increases.

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Variable costs vary in total in direct proportion to the volume of output. The image shows
the total variable cost increasing linearly with output, while unit variable cost remains constant.

Costs for Managerial Decision Making

1. Sunk cost: Costs incurred in the past that cannot be recovered and are not relevant for decision making.

2. Imputed cost: Notional costs that are not actually paid or incurred but are computed for special purposes.

3. Out of pocket costs: Costs involving cash outlay.

4. Differential costs: Difference in costs between two alternatives, which can be incremental or decremental.

5. Replacement cost: Cost of replacing an asset, like the present market price of material.

6. Opportunity cost: Cost of an alternative, representing the advantage foregone as a result of an alternative course of action.

Classification into Product Costs and Period Costs

Product costs: Included in the cost of the product, consisting of direct material, direct labor, and some factory overheads.
Period costs: Change with time and have no relation with the volume of production; charged to the Profit & Loss Account of
the period.

According to Functions
Production or manufacturing costs
Administration costs
Selling and distribution costs
Research and development costs

According to Controllability
Controllable costs: Can be influenced by the action of a specified member of an undertaking.
Uncontrollable costs: Cannot be influenced by the action of a specified member of an undertaking.

Cost Accounting Concepts

Opportunity Cost
May be uncontrollable from the point of view of another.
Occurs when an item is received because something else was sacrificed.

Interest on a bank fixed deposit that has been sacrificed to earn interest on debentures. So the interest on bank
deposit is an opportunity cost for the investor who has purchased debentures.

Marginal Cost
The additional cost of producing an additional unit of output.

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Chartered Institute of Management Accountants of England defines marginal cost:

Amount at any given volume of output by which aggregate costs change if the volume of output is increased or decreased b

Marginal cost is the same thing as variable cost.

Marginal cost combines:
Direct material cost
Direct labor cost
Direct expenses
Variable overhead costs

Conversion Cost
The total of direct wages and factory overheads.

Total production cost minus the cost of raw materials.

Direct wages is a part of prime cost as well as conversion cost. Direct W ages + F actory Overheads

Direct Material is a part of Prime Cost.

Factors in Installation of a Cost Accounting System

Points to keep in mind while introducing a cost accounting system:

The nature of the product should be given due consideration as it determines the type of costing system to be adopted.
The objective of establishing a costing system should be kept in mind.
The type of organization required to establish the costing system and changes that may be introduced in the present
organisation.
As far as possible, the system should be simple and not complex.
The costing system should be flexible, i.e., the system of cost accounting introduced should be capable of changing
according to the change in environment.
The system should be effective in cost control.
The system should be economical to use.

Practical Problems in Implementation

Common hurdles faced when introducing a cost accounting system:

Shortage of trained costing personnel.

Lack of management support.
Resistance from the existing staff.
Cost factor.

Advantages of a Costing System

Benefits a company can derive from installing a costing system:

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Provides reliable cost data with regard to different elements of cost i.e. material, labor, and expenses.
Reveals unprofitable activities, losses, or inefficiencies occurring in any form such as inadequate utilization of plant and
machinery, wastage of manpower etc.
Introduction of a cost reduction program combined with operational research and value analysis techniques leads to
economies.
As costs are accumulated by jobs, processes, products, and departments, the management can distinguish between
profitable and unprofitable activities.
Availability of accurate cost data helps in the fixation of prices and price changes to be effected with greater reliance on the
outcome.
Costing furnishes suitable data and information to the management which serve as guidelines in taking decisions involving
financial considerations.
Standard costing and budgetary control methods help in the fixation of optimum level of efficiency.
A cost system provides ready figures for use by the government for application to problems like price fixation, price control,
wage-level fixation, payment of dividends or settlement of disputes etc.
Cost Accounting provides the management with valuable data for the control of costs.
When a concern is not working in full capacity due to some reason, the cost of idle capacity can be easily worked out and
revealed to the management.
The operation of cost audit system in the organisation prevents frauds and assists in furnishing correct cost data to the
management as well as outside parties.
Perpetual inventory system helps in exercising inventory control and preparation of periodical Profit & Loss Account.

Controllable vs. Uncontrollable Costs

Classification based on whether a cost can be influenced by a specified member of an undertaking.
Controllable costs: Costs that can be influenced by the action of a specified member of an undertaking (at least partly
within the control of management).
Uncontrollable costs: Costs that cannot be influenced by the action of a specified member of an undertaking (not within
the control of management).

Cost Accounting System Purpose

A cost accounting system that simply records costs for the purpose of fixing sale prices has accomplished only a small part
of its mission.

Cost Accounting is a branch of accounting which is concerned with ascertainment of cost of products and
services

Helps in arriving at the cost of production of each individual unit, job, operation, process, department, or service.
Lays down the principles that help in evolving methods by which expenses are analyzed and related to a specific unit of
production or job.
Helps the manager in controlling wastage and making the organization efficient and effective.
Provides data that are the bases of management accounting, thereby helping the management in taking long-term as well
as short-term decisions.

Relevant Range
The range of output in which fixed costs remain fixed or unchanged.

Fixed costs do not change within the relevant range of output.

If output is outside the relevant range, the fixed cost will also change.

Role of the Cost Accountant

Responsibilities of a cost accountant in a manufacturing organization:

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Ascertainment of the cost of various products manufactured by the company.

Accounting and control of material cost.
Accounting and control of labor cost.
Accounting and control of overheads cost.
To determine the selling price of various products manufactured by the company in normal market conditions.
To determine the selling price of various products in times of special market conditions such as depression and in periods of
low demand.
To control the cost of products by the use of various techniques such as standard costing and budgeting.
To provide cost information to management for various managerial decisions.
To help in maintaining cost records as per cost accounting record rules in operation.
To help in inventory control based on perpetual inventory system.

Management vs. Financial vs. Cost Accounting

Feature Management Accounting Financial Accounting Cost Accounting

Provides information about the cost of

External users, shareholders,
Users Internal users, managers production to enable management to control
creditors, banks, public, etc.
costs
Analyzing production to provide Finding the profitability of a Finding costs and identifying ways of
Aims
information to managers business concern. reducing costs.
Continuous basis (weekly, End of the year (P&L A/c and
Periodicity Continuous basis
monthly, daily) Balance Sheet)
Must be prepared under
Legal Necessity Voluntary Company Law, Income Tax Law, Voluntary
etc.
Accounting Not based on double entry Based on all the facts and information
Based on double entry system
System system related to costs involved.
Accounting Not bound by any accounting To be prepared as per accounting
Based on certain formulas and techniques.
Standards standards standards issued by ICAI

Materials Control

Material Control / Inventory Control

Systematized control over the procurement, storage, and use of materials to maintain an even flow of materials and
avoid excess investment in inventories.

Essential for ensuring a steady supply of materials to the production department so that the production process is not
interrupted.

Purposes of Material Control

Objectives of an effective material control system:

Material should be purchased at the minimum possible price and should be of the best possible quality.
Material must be available as and when required by the production department.
Information about the availability of material should be up-to-date.
There should be no over-stocking of materials as it increases the cost of storage.
Loss of materials due to theft and fire must be minimized.

Requirements for a Successful System of Material Control

Elements necessary for a successful material control system:

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Materials should be properly classified and codified.

Purchase of materials should be planned well in advance.
Materials kept in the storage must be properly safeguarded so that there is no theft.
Purchase Department should work in cooperation and coordination with Departments like Storage Department, Production
Department, etc.
Proper records of the quantity of materials purchased and consumed in production should be maintained.
Perpetual inventory system and continuous stock taking should be introduced.
Minimum levels, maximum levels and other levels of materials should be maintained.
Loss of materials due to obsolescence, theft, spoilage, etc. should be controlled.

Economic Order Quantity (EOQ)

The reorder quantity which minimizes the total cost of ordering and holding the stock.

Determined with the help of a formula or by a graph. Formula: EOQ = √ 2AB

CS
Where:
A = Annual Consumption
B = Buying Cost per order
C = Cost per unit
S = Storage Cost

ABC System of Inventory Control

Always Better Control - Giving more attention to costliest items and less attention to materials used in large
quantities but of comparatively low value.

Materials are classified into three types: A, B, and C.

Category 'A': costliest, smallest quantity
Category 'B': middle value, middle quantity
Category 'C': cheap, largest quantities

Example:

Items % of Value % of Quantity

A 70 10
B 20 20
C 10 70
Total 100 100

Advantages of ABC System

Benefits of using the ABC system:

Stricter control over materials is possible.

Smooth flow of production process as far as availability of materials is concerned.
Investment in inventory (of at least high-value items) is minimized, which releases working capital for other requirements of
business.
Cost of placing orders as well as inventory carrying costs are also minimized through proper Economic Order Quantity
(EOQ).
Helps in high inventory turnover rate.

Purchase Procedure in a Large Company

Steps involved in the purchase procedure:

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1. Purchase Requisition Note: A written request to the purchase department for the purchase of certain materials.
2. Selection of Supplier: The Purchase Department investigates the market and selects a suitable supplier before placing the
order.
3. Purchase Order: A written authorization to the supplier to supply the specified material as per terms and conditions and at
the price mentioned on it.
4. Receipt of Materials: Materials ordered are received by either the store-keeper, or by the Goods Receiving Department and
are inspected for their quality.
5. Comparison of Documents and Payment: All the documents like requisition, Purchase order, Goods received note etc. are
compared with one-another to determine the amount to be paid to the supplier.

Bin Card vs. Stores Ledger

Feature Bin Card Stores Ledger

Records Only quantities of materials Quantity as well as the value of the materials.
Maintained By Store-keeper in the stores Cost Accounting Department in the office
Timing of Entries Before the transaction After the transaction

Periodic vs. Perpetual Inventory System

Feature Periodic Inventory System Perpetual Inventory System

Stock-taking Done at the end of a specific period, usually one year Done regularly throughout the year
Perpetual Inventory System:

A method of recording stores' balances after every receipt and issue, to facilitate regular checking and to obviate
closing down for stock-taking.

Advantages of Perpetual Inventory System

Benefits of using a perpetual inventory system:

Helps in maintaining a detailed and up-to-date record of stock levels.

Facilitates regular checking and avoids the need for closing down for stock-taking.
Assists in the effective control of materials.

Perpetual Inventory System

A perpetual inventory system ensures that information is readily available by maintaining an up-to-date record of stock levels.
The balance in the Stores ledger should match the bin card for each material item, with regular checks against physical stock.

Continuous stock-taking involves counting items daily or frequently, comparing these counts with bin cards and stores ledger
data, typically by a store audit clerk. Discrepancies often arise from incorrect entries, breakage, pilferage, evaporation, or
approximations in pricing.

Continuous Stock-taking
Stock-taking is the physical verification of stock items through counting, weighing, or measuring, done either periodically or
regularly.

Periodic stock-taking can disrupt operations and production schedules at year-end and lacks surprise checking. Discrepancies
may remain unchecked until the end of the year. Continuous stock-taking addresses these issues by conducting checks
throughout the year at surprise intervals.

Advantages of Perpetual Inventory System

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Avoids long and costly stock-taking, eliminating the need to shut down the factory for annual counts.
Maintains a detailed and reliable check on stores.
Allows experienced personnel to regularly check stock.
Facilitates easy location and rectification of discrepancies.
Enables quick completion of profit and loss statements for interim periods.
Improves staff care due to moral effect.
Prevents unnecessary capital being tied up in inventories.

FIFO and LIFO Methods

FIFO (First-In, First-Out) and LIFO (Last-In, First-Out) are methods for pricing material issues based on the actual cost of the
material.

FIFO (First In, First Out)

This method assumes that materials are issued in the order they were purchased. The price of the earliest consignment is used
first, and subsequent consignments are used as previous ones are exhausted.

Example:

Receipts Issues

6th Oct. 400 kg @ $20.00 per kg 15th Oct. 600 kg

10th Oct. 500 kg @ $22.20 per kg 400 kg @ 20.00perkg =800.00
200 kg @ 22.20perkg =440.00
Total issue value: $1,240.00

Note: Physical issues of materials may not always follow this order.

Advantages of FIFO
Simple to operate if prices do not fluctuate often.
Closing stock valuation tends to be near current market prices and at cost.
Realistic assumption that older materials are used first.
Price is based on actual cost, avoiding estimates or approximations.

Disadvantages of FIFO
Calculations become complicated with frequent consignments at varying prices.
More than one price may be needed for pricing requisitions.
Costs of similar jobs may differ due to stock price variations, complicating comparisons.
Issue prices may not reflect current market prices, potentially inflating profit in times of rising prices.

FIFO is best used when materials are easily identified, and the size and cost of raw material units are large, with few different
receipts on a material card at a time.

LIFO (Last In, First Out)

This method prices materials based on the cost of the material last taken into stock. It uses the reverse order of FIFO, using the
latest available consignment price first. This ensures that materials are issued at actual cost, aligning costs with current price
levels, approximating replacement cost.

Advantages of LIFO
Simple to operate when transactions are not too numerous.
Production is charged at the most recent prices, aligning costs with current price levels.
Avoids unrealized profit or loss.
Prevents windfall profits during rising prices.

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Disadvantages of LIFO
Calculations become complicated with fluctuating receipt rates.
More than one price may be needed for pricing on requisition.
Comparison of costs between different jobs becomes difficult.

Rising and Falling Prices

Rising Prices: FIFO leads to higher profits due to lower charges to production, while LIFO shows lower profits due to higher
charges to production.
Falling Prices: LIFO shows higher profits because of lower charges to production, while FIFO shows lower profits due to
higher charges to production.

Other Methods of Pricing Material Issues

1. Simple Average Price:

Price materials are issued at is calculated by dividing the total of unit purchase prices of different lots in stock by the
number of prices used in the calculation.

It's easy to use but can produce crude results.

2. Weighted Average Price: Calculated by dividing the total value or cost of materials in stock by the total quantity of
materials in hand.

This method gives due weight to quantities of materials in stock, evens out the effect of widely varying prices of
different consignments comprising the stock.

This method requires a good deal of calculations when receipts are numerous

3. Market Price Method (Replacement Price Method):

Replacement price is the price at which on the date of the issue of materials, there could be a purchase of another lot
of materials identical to that whose issue is being priced.

Issues are priced at current market prices, introducing an element of unrealized profit or loss.

4. Standard Price Method: Used in standard costing, where a predetermined price is fixed for a period.

The difference between actual and the standard price is disposed of through Price Variance Account.

Easy to apply, but requires careful determination of standard prices.

For industries with constantly fluctuating material prices, the Weighted Average Price method is recommended.

Accounting and Control of Material Losses

Material losses can occur as scrap, waste, spoilage, and defectives.

Scrap
Incidental residue of material in the manufacturing process with a small value, realisable without further processing.

Examples: Wood pieces from furniture making, metal trimmings from utensil manufacturing.

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Classified into normal and abnormal scrap.

Abnormal scrap causes should be investigated and corrective action taken, with a Scrap Report prepared.
Proceeds from untraceable scraps are credited to Overheads.
For traceable scraps of significant value, a separate Scrap Account is debited, and the process or job account is
credited, transferring it to the Costing Profit and Loss Account.

Waste
A type of loss of materials that may or may not be in physical form and has no realisable value.

Examples: Smoke or evaporation.

Classified into normal and abnormal waste.

Cost of abnormal waste is charged to Costing Profit & Loss Account.
A Waste Report should be prepared periodically to control waste.

The main difference between waste and scrap is that waste may not be physical and has no sale value, while scrap is always
physical and has some sale value.

Spoilage
Portion of production below normal quality level that cannot be rectified.

Classified into normal and abnormal.

Cost of normal spoilage is part of the cost, while abnormal spoilage cost is transferred to Costing Profit & Loss Account.
A Spoilage Report should be prepared periodically, and causes of spoilage should be investigated.

Defectives
Portion of production below normal quality but rectifiable by incurring costs.

Can be sold as seconds if not rectified.

Classified into normal and abnormal.
Cost of normal defectives is part of the cost, while abnormal defectives cost is charged to Costing Profit & Loss Account.
A Defectives Report should be prepared to investigate and correct causes of defectives.

Activity Based Costing (ABC)

The collection of financial and operations performance information tracing the significant activities of the firm to
product costs.

CIMA, London defines ABC as:

The cost attribution to cost units on the basis of benefits received from indirect activities, e.g., ordering, setting up,
assuring quality.

ABC overcomes limitations of traditional costing by recognizing the relationship between costs, activities, and products.
Activities consume overhead resources and are cost objects.
Classifies 5 broad levels of activity, unrelated to production units, including batch level activity, unit level activity, customer
level activity etc.

Simple vs. Weighted Average Methods

Simple Average Method

Price at which materials are issued is calculated by dividing the total of unit purchase prices of different lots in stock
by the number of prices used in the calculation.

Simple to operate, but can give crude results.

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Weighted Average Method

Gives due weight to quantities of material in stock. It is calculated by dividing the total value or cost of material in
stock by the total quantity of material in hand.

Evens out the effect of widely varying prices but requires significant calculations when receipts are numerous.

‍Labour Cost Accounting and Control

Role of Departments
1. Personnel Department:
Concerned with selection, training, recruitment, placement, promotion, etc.
Maintains employee details: employment date, birth date, wage rate, job specialisation, medical history, etc.
2. Time Keeping Department:
Records workers' time for attendance and wage calculation and cost analysis of jobs.
Functions:
Time keeping.
Time booking.
3. Engineering Department:
Provides technical services.
Functions:
Preparation of job specifications.
Conducting time and motion studies.
Ensuring safe working conditions.
Making job analysis.
Supervising production and quality control.
4. Payroll Department:
Prepares payroll or wage sheets.
Functions:
Maintains work records.
Calculates wages (normal and overtime).
Computes gross wages, authorizes deductions, and calculates net wages.
Prepares wage packets or cheques and pay-slips.
Sends cash or pay-packets/cheques to Cost Accounting or Cash Department.
5. Cost Accounting Department:
Controls labour costs.
Functions:
Sets standard labour costs.
Prepares labour cost budget.
Prepares labour productivity reports.
Controls idle time and overtime.

Labour Turnover
Change in the labour force in an organisation.

Measurement
1. Separation Rate: SeparationRate =
N o. of employees leaving
∗ 100
Average N o. of employees

N o. at the beginning of the period − N o. at the end of the period

Average no. of employees =
2

2. Replacement Rate: Replacement Rate = N o. of employers leaving

Average no. of employees

∗ 100

3. Flux Rate: F lux Rate =

N o. of employees leaving+N o. of enployees replaced or selected
∗ 100
Average no. of employees

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Causes
Avoidable:
Retrenchment due to seasonal requirements, shortage of raw materials, fall in demand, lack of planning, etc.
Low wages.
Bad working conditions.
Job dissatisfaction.
Lack of training facilities.
Unavoidable:
Personal betterment opportunities.
Retirement.
Sickness.
Accident and death.
Personal reasons (pregnancy, marriage).
Change of residence.
Negligence, inefficiency, unauthorized absence, criminal acts, etc.

Effects of High Labour Turnover

Increases the cost of production.
Increased costs of selection and training.
Increased costs of tools.
Increase in scrap, wastes, etc.
Increased cost of supervision.
Time lost between turnover and new recruitment.
Loss of output.
Social security measures costs.

Cost of Labour Turnover

1. Preventive Costs:
Incurred to prevent labour from leaving, such as providing benefits and incentives.
Free medical facilities.
Transport facilities.
Rent-free housing.
Education for children.
2. Replacement Costs:
Incurred after workers leave.
Advertising costs.
Recruitment and selection costs.
Accident costs caused by new workers.
Material waste costs by new workers.
Production loss due to delays in appointing new workers.
Production loss due to slow work by new workers.

The cost of labour turnover is distributed between normal and abnormal costs, with abnormal costs transferred to the Profit &
Loss Account.

Methods of Time Keeping and Time Booking

Difference between Time-keeping and Time-booking

Time-keeping: Records worker attendance (arrival and departure times).
Time-booking: Analyses time taken by workers on different jobs to compute and control labour costs.

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Methods of Time-keeping
1. Attendance Register:
Manual register signed by employees on arrival and departure.
Simple and inexpensive but less accurate and more clerical work.
2. Metal Disk Method:
Metal tokens with numbers allotted to workers are placed on a board.
Workers take their token and put it in a box upon arrival.
3. Time Clocks:
Workers use time cards to punch in and out.
New digital machines record entry/exit using thumb-impression and retina recognition.

Methods of Time-booking
1. Job Card:
Prepared for individual jobs, recording start and finish times.
Submitted to supervisor for labour cost computation.
Example Proforma:
Job Card

Worker's Name:
Job No.:
Worker's No.:
Date:
Time Started:
Time Finished:
Job Description
Hours
Rate (R)
Amount (R)
Worker:
Foreman/Supervisor
2. Time & Job Card:
Combines time-keeping and time-booking.
Example Proforma:

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Time and Job Card

Worker's Name:
Department:
Worker's No.:
Week Ending:
Day Job No.
Clock Time Job Time
From To
From To
Time (Hrs.) Ordinary
Overtime Job Time
(Hrs.) (Hrs.)
Mon.
Tue.
Wed.
Thu.
Fri.
Sat.
Total
Worker:
Time Keeper:
Foreman:
Rate of Pay:
Total Wages:
Cost Clerk:

Time and Job Cards

A Job card is used for both time-keeping and time-booking. Here's the info it contains:

Worker's Name
Department
Worker's Number
Week ending date
Day
Job Number
Clock time (From and To)
Job time (From and To)
Ordinary time (Hours)
Over-time (Hours)
Job time (Hours)
Total Wages
Signatures of Worker, Time keeper, and Foreman
Rate of pay
Cost Clerk signature

A daily or weekly time sheet can be issued to a worker to record time spent on different jobs.

A piece work card is issued to workers paid on a piece basis (by quantity of work done, not time spent).

Idle Time

What is Idle Time?

Idle time indicates the time for which wages are paid to workers, but no production is obtained during that time.

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It's the difference between the time workers are paid for and the time they actually spend on production. Employers must pay for
this time even without direct benefit.

Types of Idle Time

Normal idle time: Unavoidable time.
Abnormal idle time: Avoidable time due to unusual circumstances.

Normal Idle Time

Normal idle time is unavoidable, and its cost must be borne by the employer. Examples include:

Time coming from the factory gate to the department

Time going from one job to another
Time going from the department to the factory gate at closing time
Time for personal needs and tea breaks

Treatment of Normal Idle Time in Cost Accounting

1. Treat it as an overhead expense, since no particular job benefits from it.

2. Charge jobs at an inflated rate (higher than the actual rate paid to the worker) to recover the cost of normal idle time.

The second method is generally better because the first method may unfairly burden jobs that didn't use the specific class of
workers experiencing idle time.

Abnormal Idle Time

Abnormal idle time arises from causes like:

Strikes
Lock-outs
Machinery breakdown or power failure
Non-availability of jobs or materials

Treatment of Abnormal Idle Time in Cost Accounting

Treat abnormal idle time as a loss, charging it to the Costing Profit & Loss Account.

Controlling Idle Time

Tighten supervision on workers.
Record idle time separately for each department.
Thoroughly investigate all controllable causes of idle time.
Review imbalances in production.
Ensure raw materials and tools are available when needed.

Management should consider:

Proper production planning

Timely delivery of tools and raw materials to the production site
Tight supervision to prevent workers from wasting time

Idle Capacity
Idle capacity is the difference between practical maximum capacity and actual capacity utilized, based on actual
expected sales or demand.

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It represents the underutilized portion of the plant's practical maximum capacity due to lack of sales or demand.

Practical Maximum Capacity = Maximum Capacity - Unutilized capacity due to normal interruptions (Normal
interruptions include breakdowns, repairs, shortages of materials, etc.) *Physical Maximum Capacity is the capacity
achievable without any interruptions

Idle time relates to labor cost, while idle capacity relates to the factory as a whole.

Overtime Wages and Set-Up Time

Overtime Wages
Overtime is extra time worked beyond normal hours. According to the Indian Factories Act, 1948, overtime is time worked more
than nine hours per day or 48 hours per week. Overtime is usually paid at a higher rate (often double the normal rate).

Overtime jobs are costly due to:

Higher wage rates

Lower worker productivity due to fatigue
Additional expenses (lighting, etc.)

The Production Manager (or higher authority) should authorize overtime to prevent it from becoming a habit.

Treatment of Overtime Wages in Cost Accounts

Scenario Treatment

Overtime due to abnormal conditions (floods, earthquakes, etc.) Charged to Costing Profit & Loss Account
Overtime required for seasonal pressure Treated as a Factory Overhead item
Direct overtime (identifiable with individual jobs) Charged entirely to that specific Job/Work Order
Overtime to make up for production shortfall due to management fault Charged to Costing Profit & Loss Account

Set-Up Time
Set-up time is time lost when machines are being prepared for a job, whether due to changes between jobs or breakdowns.

The cost of set-up time (wages and overheads) can be:

1. Spread over the jobs actually completed.

2. Treated like idle time, divided into normal and abnormal set-up time.

Separate machine hour rates can be computed for running and setting-up time to ensure full absorption of manufacturing
overheads.

Casual Workers and Out-Workers

Casual Workers
Casual workers are workers who are not permanent employees and are appointed on a day-to-day basis to meet
temporary requirements.

Management should take precautions when employing casual workers to control labor costs and prevent fraud. Appointment of
casual workers should be authorized by competent managers, and managers should make surprise visits to check the actual
number of casual workers employed.

Out-Workers

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Out-workers are workers who work outside the factory premises on behalf of the company.

Some out-workers are supplied with raw materials and tools and work at their own place (usually paid on a piece basis).
The quality of their finished work should be carefully inspected.
Other out-workers are sent to customer sites to perform work (e.g., installing TVs or ACs). Supervisors should make
surprise visits to control their time, and job cards should be issued to maintain records of their work and time spent.

Treatment of Specific Items in Cost Accounts

Bonus Payable to Employees

Bonus is payable to employees under the Payment of Bonus Act, 1965. The minimum bonus is 8.33% of wages, payable
regardless of profit or loss.

In cost accounting, the minimum bonus payable may be treated as:

1. Included in direct workers' wages and treated as part of direct wages, increasing the direct wage rate.
2. Included in overheads and treated as indirect wages.

Any extra bonus paid above the minimum is considered an appropriation of profit and transferred to the Costing Profit & Loss
Account.

Idle Time
Under the time wage system, workers are paid on a time basis. Idle time is the difference between the time they are paid for and
the time they spend on production. It is of two types:

1. Normal idle time

2. Abnormal idle time

Leave with Wages

Payments made to workers not directly related to production:

Leave Pay
Holiday Pay
Sick Pay
Maternity Period Pay
Pension Scheme Payments
Employer's contribution to Provident Fund
Retirement cum Death Gratuity Payment
Medical benefits, etc.

These are supplementary labor costs that cannot be allocated directly to cost units but can be allocated to the department or
cost center in which the workers are employed.

The cost of fringe benefits is treated as departmental overheads. Since these costs may not be uniform each year, the benefits for
the whole year are anticipated, and a uniform amount is charged to each accounting period.

For pension benefits, a reserve is usually created to meet future payments, and the amount of provision created is treated as an
overhead.

Wages for casual leave, medical leaves, and maternity leave are treated as indirect labor costs and included in overheads. Leave
wages may also be treated as direct wages by inflating the wage rate of direct workers.

Time Rate vs. Piece Rate Methods of Wage Payment

Time Rate Method

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Under the time rate system, payment is based on the time spent on the job (hourly, daily, or monthly basis). The quantity of work
done is not considered.

W ages = N umber of days worked ∗ Daily rate

Or

W ages = N umber of hours worked ∗ H our rate

Piece Rate Method

Under the piece rate system, wages are paid according to the quantity of work done. Time spent is not considered.

W ages = N umber of units produced ∗ Rate per unit (piece)

Deficiencies of Piece Rate System

Doesn't guarantee minimum wages.
Stresses quantity over quality.
Can negatively impact workers' health due to pressure to produce more.
May create inequality among workers.

Time Rate System vs. Piece Rate System

Basis of Difference Time Rate System Piece Rate System

Wage Calculation Based on time spent by workers Based on output or production

Idle Time Higher possibility of excessive idle time Less chance of idle time
Incentive Lack of incentive for efficient workers Encourages motivated workers to produce more
Control & Supervision More control and supervision needed Supervision is required
Quality of Work Good quality as there's no pressure to produce more Quality may suffer due to pressure to produce more

Overheads

Meaning of Overheads
Overheads are the aggregate of indirect materials, indirect wages, and indirect expenses.

Factory overheads include all indirect materials, indirect labor, and indirect expenses incurred during manufacturing operations.

Examples: depreciation, factory rent, insurance premium, Works Manager's salary, power, light, salary of supervisors and
foremen, etc. Also known as production/manufacturing/works overheads.

The main characteristic of factory overheads is that they cannot be directly debited to any particular job or work but must be
allocated and apportioned based on sound principles.

Advantages of Classifying Overheads into Fixed and Variable

1. Basic requirement of marginal costing technique.
2. Helps in Cost-Volume-Profit (CVP) analysis and break-even charts.
3. Facilitates cost control (fixed costs are mostly uncontrollable, so management can focus on variable costs).
4. Useful in preparing flexible budgets.
5. Helps management make decisions because fixed and variable costs behave differently with changes in output volume.

Allocation, Apportionment, and Absorption of Overheads

Allocation of Overheads

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Allocation is charging a set of overhead costs to a particular cost center.

If an expense can be easily identified with a cost center, it's fully charged to that center (e.g., a foreman's salary in a specific
department).

Apportionment of Overheads
Apportionment is distributing overheads when they cannot be wholly allocated to a particular department.

Examples include the Works Manager's salary or watch and ward staff's salary. It involves splitting up an overhead expense and
charging it to different cost centers on some equitable basis.

Allocation: Exact amount chargeable to a department is known.

Apportionment: Exact amount is not known; the amount is computed based on assumptions.

For example, building rent is apportioned, while indirect materials are generally allocated.

Absorption of Overheads
Absorption is allotting overheads to cost units.

It refers to charging overheads of a cost center to different cost units so each bears an appropriate portion of its share of
overheads. Also known as application or recovery of overheads.

Allocation & Apportionment: Distribute overheads to production and service departments.

Absorption: Distributes overheads to cost units.

Distribution of Service Departments' Costs

Secondary Distribution
Service departments (Stores, Time-keeping, Canteen, Repairs & Maintenance, Power House, etc.) provide services to the main
Production Department. Distribution of their costs can be done by:

1. Direct distribution
2. Non-reciprocal distribution
3. Reciprocal distribution

Direct Distribution
Service departments' costs are distributed only to production departments.

Service Department Basis of Apportionment

Stores Value of materials used

Time-keeping Number of employees
Canteen/Welfare depts. Number of employees
Power House Heat/Power used per meter
Repairs and Maintenance Asset Value

Non-Reciprocal Distribution
Service departments' costs are distributed to both production and service departments, assuming service departments are not
interdependent. Then, the costs of service departments are reapportioned to the production departments.

Reciprocal Distribution

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Used when service departments are interdependent (each provides service to and receives services from others). Methods used:

1. Repeated distribution method

2. Simultaneous equation method
3. Trial and error method

Absorption of Overheads (Revisited)

Absorption of Overheads is the allotment of overheads to cost units. It refers to charging overheads of a Cost center
to different cost units so that each cost unit bears an appropriate portion of its share of overheads.

It's the process of allotting the total cost of a cost center to the products or services that the cost center provides. Also known as
Recovery of Overheads.

Actual vs. Pre-Determined Overhead Rates

Overhead Absorption Rates

1. Actual Rate: Based on actual costs.
2. Pre-determined Rate: Based on estimated or pre-determined costs.

Pre-determined overhead absorption rates are more practical because they are available in advance for costing purposes, aiding
in cost estimates and pricing. However, they can result in over or under absorption of factory overheads.

Advantages of Pre-Determined Rates

Help in preparing tenders and quotations.
Help in controlling costs.
Greater practical utility.

Methods of Absorption of Factory Overheads

Percentage Methods
1. Percentage on Direct Materials
2. Percentage on Direct Wages
3. Percentage on Prime Cost

Hourly-Rate Methods
1. Machine-Hour Rate
2. Direct Labor-Hour Rate

Percentage on Direct Wages

The rate is calculated by dividing overheads cost by the amount of direct labor.

Rate = (Overheads/Direct wages) ∗ 100

Applied by multiplying this percentage by the direct labor cost of each job/cost unit.

Example:

Production Overheads = $10,000

Direct Wages = $40,000

Rate = ( 10,000 / 40, 000) ∗ 100 = 25

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Use Cases:

1. Labor is the most important production factor.

2. Labor grades, pay rates, and remuneration basis don't differ widely.
3. Work performed by all workers is uniform.

Percentage on Direct Materials

Similar to percentage on direct wages, but overheads are calculated as a percentage of direct materials.

Rate = (Overheads/Direct material cost) ∗ 100

Example:

Production Overheads = $10,000

Direct Materials = $20,000

Rate = (10,000 / 20, 000) ∗ 100 = 50

Percentage on Prime Cost

Calculated by dividing the production overheads by the prime cost.

Rate = (Overheads/P rime cost) ∗ 100

Example:

Production Overheads = $10,000

Prime Cost = $50,000

Rate = (10,000 / 50, 000) ∗ 100 = 20

Takes into account both material and labor and is suited where overheads depend on both.

Machine-Hour Rate
One of the most scientific methods; represents the cost of expenses incurred in running a machine for one hour.

A charge is made to that job by multiplying the machine-hour rate by the number of hours worked for that job.

Overheads Rate = (Overheads/N o. of machine hours)

Example:

Number of machine-hours = 2,000

Overheads for this machine = $6,000

M achine hour Rate = 6,000 / 2,000 = 3 per hour

Uses of Machine-Hour Rate

Logically and theoretically sound.
Useful in departments where work is mainly done by machines.
Uses time as the basis of overhead absorption.

Labour-Hour Rate
Under this method, labor-hours are taken as a basis of overhead absorption.

Labour − hour Rate = (Overheads/N o. of labour hours)

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Example:

Labour-hours = 4,000
Works overheads = $1,000

Labour − hour rate = 1,000 / 4,000 = 25\ paise\ per\ hour$

Used for jobs where labor is the predominant production factor. Computed separately for each grade of labor.

Rate Per Unit of Output

Very simple method applied where production is of uniform size.

Rate = (Overheads/N o. of units)

Example:

Production overheads = $5,000

Number of units = 1,000

Rate = 5,000 / 1,000 = 5 per unit

Under/Over-Absorption of Factory Overheads

Overheads are usually charged to production at pre-determined rates## Over/Under-Absorption of Overheads Quite often, the
actual costs or expenses incurred differ from the applied or estimated costs.

Under-absorbed overheads: Occur when actual costs exceed absorbed costs.

Over-absorbed overheads: Occur when actual costs are less than absorbed costs.

In either scenario, the difference represents the amount of overheads over/under-absorbed and is transferred to the 'Overheads
Control Account'. Under-absorption understates cost, while over-absorption overstates it.

Reasons for Over/Under-Absorption

Over/under-absorption of overheads may arise due to factors such as:

1. Mistakes in estimating the amount of overheads.

2. Errors in estimating the level of production.
3. Seasonal fluctuations in overhead expenses.
4. Unforeseen changes in production capacity.
5. Policy changes in production plans.

Treatment of Over/Under-Absorbed Overheads

These may be treated in one of the following methods:

1. Transfer to Costing Profit & Loss Account: Followed when the under or over-absorption results from factors beyond
factory management's control or when the amount is very small.
2. Supplementary rates: The balance amount is charged to the cost of sales and cost of inventory. Supplementary rates are
computed based on hours of work, unit, or product value. Essential when prices are fixed on a cost-plus basis and when
management wants to maintain actual costs for future comparison.
3. Absorption in the accounts of subsequent years: The amount is transferred to a Reserve maintained for Under or Over-
absorbed Account, assuming the balance will be wiped out over time due to seasonal factors. A small balance left is
transferred to Costing Profit & Loss Account.

Treatment of Specific Items in Cost Accounts

Interest on Capital

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Certain income, expenses, and appropriations are included in financial accounts but not in Cost Accounts (e.g., provision for
taxation, debenture interest). Conversely, some items belong only to Cost Accounts, often notional in character and treated as
opportunity costs for managerial decision-making. Interest on Capital employed is one such item.

There are varying opinions on whether to include interest on capital in cost. The general consensus is that interest should not be
included. However, if it is included, it should be charged on the total capital employed, including equity capital.

If interest is included in cost, then actual interest paid along with notional interest should be included.

Leave Wages
These are payments made to workers not directly related to production, such as:

Leave Pay
Holiday Pay
Sick Pay
Maternity Period Pay
Pension Scheme Payments
Employer's contribution to the Provident Fund
Retirement cum Death Gratuity Payment
Medical benefits

These costs are supplementary labor costs that cannot be directly allocated to cost units but can be allocated to specific
departments or cost centers. Often, these benefits are anticipated for the whole year, and a proportionately uniform amount is
charged to each accounting period to avoid uneven charges. Pension benefits are usually allocated directly to a cost center or
apportioned based on the number of employees or total wages paid.

Audit Fees
Audit fees are treated as a normal expense item, included in both Cost Accounts and Financial Accounts on an accrual basis. This
expense is part of the administration overheads and is absorbed or charged to the product cost at a pre-determined rate.

Holiday with Pay

Holiday with pay is estimated in advance for the full year and included in the cost. For direct workers, it may be treated as a direct
cost by inflating the wage rate or included in production overhead. For indirect workers, it is treated as an overhead.

Casual Wages
These are wages payable to casual workers employed on a daily basis who are not on the regular payroll. As casual workers are
mostly untrained and indirect, their wages become part of production overheads.

Bad Debts
Opinions vary on the treatment of bad debts in Cost Accounts. Some exclude it as a financial loss, while others include it as
selling overheads. Only the normal amount of bad debts should be included in Cost Accounts, with abnormal amounts
transferred to the Profit & Loss Account.

Carriage Inwards
Carriage inwards refers to transport expenses on the purchase of materials. It is common practice to include carriage inwards in
the cost of materials purchased, treating it as part of direct or indirect material cost. Alternatively, it may be included as an item of
factory overheads.

Additional Cost Account Items

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Expenses for Staff Welfare Activities

These are non-monetary benefits extended to staff in the form of amenities or facilities, such as:

Good working conditions

Medical facilities
Education facilities for staff's children
Subsidized canteen
Recreational facilities
Uniforms

These expenses are treated as part of the factory overheads and apportioned over different cost centers based on the number of
employees in each department.

Wages Paid for Re-Operation of Defectives

Defective goods are those that can be rectified with reasonable costs, unlike spoilage, which cannot be repaired.

Defectives arise due to:

Defective material
Poor workmanship
Poor supervision
Wrong design or planning
Defective machines or tools

The normal cost of rectification is treated as part of the factory overheads, whereas abnormal costs are charged to the Costing
Profit & Loss Account.

Research and Development Expenses

Research cost includes expenses on searching for new or improved products, materials, or methods. Development cost includes
expenses on implementing the results of research programs.

These expenses are often pre-production costs. If they are of a recurring nature, they may be treated as part of the Factory
overheads. If related to a specific job, they may be charged exclusively to that job.

Capacity Cost Concepts

There are four types of capacity levels:

1. Maximum Capacity: Assumes no loss of working time and perfect conditions.

2. Practical Capacity: Provides for unavoidable losses of operating time (e.g., machine setup, holidays, maintenance). Practical
capacity = Maximum capacity - Normal losses.
3. Normal Capacity: Based on the long-term average of capacity and is also known as average capacity.
4. Actual Capacity: The actual level of capacity achieved during the period, which may be above or below normal capacity.

Fixed overhead rates are generally calculated based on normal capacity, resulting in the minimum amount of under or over-
absorption of overheads. If production is below normal levels, there may be idle capacity, representing unused production
capacity and the fixed cost of maintaining plant and machinery and permanent workers.

Packing Expenses
Packing of goods is of two types:

1. Primary Packing: Necessary for certain goods that cannot be sold without packing (e.g., medicines, liquids). These costs are
treated as direct material cost or sometimes as overhead.
2. Secondary Packing: Makes goods more attractive and ensures safe delivery and transportation. These costs are indirect
expenditures and are included in Selling and distribution overheads (e.g., packing of computers, TV sets).

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Steps to Charge Overhead Costs to Cost Units

1. Classification and collection of Overheads.
2. Allocation and apportionment of Overheads to various Production Departments (e.g., Melting Department, Weaving
Department) and Service Departments (e.g., Labour welfare Department, Purchase Department). This is primary
distribution.
3. Reapportionment of Service Department costs to Production Departments. This is secondary distribution.
4. Absorption of Overheads of each Production Department to Cost Units produced in these departments. Absorption is also
known as recovery of overheads.

Activity Based Costing (ABC)

ABC is defined as "the collection of financial and operations performance information tracing the significant activities
of the firm to product costs."

ABC was developed by Kaplan and Cooper of Harvard Business School. Under this system, main activities are identified, and the
cost of these activities is traced to products based on the demand made by the products for each activity.

Differences Between ABC and Traditional Costing

Feature Traditional Costing Activity Based Costing

Usage Obsolete Used more by target-oriented companies

Focus Structure Activities or processes
Value Addition N/A Helps identify the needs of keeping or eliminating certain activities to add value
Cost Accuracy Arbitrary values Accurate costs
Implementation Start Date N/A Largely in use since 1981

Methods of Costing
Broadly, there are two main methods of costing: Job Order Costing and Process Costing. All other methods are variations of
these two basic methods.

Job Costing
Used where work is done against orders and instructions from customers. A separate account is prepared for each job to
ascertain its cost and profit. Each job is given a job number. Direct materials and wages are charged to each job on an actual cost
basis, while overheads are charged on a pre-determined rate.

Contract Costing
Does not differ in principle from job costing. A contract is considered a big job, whereas a job is a small contract. Commonly used
in industries undertaking building contracts.

Batch Costing
Orders for like products are arranged in convenient batches, and each batch is treated as one job. Examples include toy and
biscuit manufacturing.

Process Costing
Used in mass production industries producing standard products such as steel, textiles, sugar, and cement. The product passes
through various processes, and the cost of each process is ascertained.

Operating Costing

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Used in industries that provide services rather than tangible goods, such as transport companies, electricity companies, hotels,
and cinemas. The cost of providing a service is computed.

Operation Costing
A variant of process costing where costs are accumulated for each operation. The cost per unit is calculated at each stage of
production. Used where the manufacturing process comprises distinct operations, and the cost of each operation must be
ascertained.

Output Costing
Used in industries where production is continuous and units are identical, such as sugar mills, cement works, collieries, and brick
kilns. To find the cost per unit, the total expenditure is divided by the number of units produced. Also known as Unit costing and
Single costing. A cost sheet is prepared to ascertain the cost.

Multiple Costing
Involves using more than one method of costing for the same product. Engineering products like motor cars and computers may
need different costing methods for each component, with another costing procedure for final assembly. Also known as
Composite costing.

Job Costing in Detail

Job costing is employed in production scenarios where work is executed according to customer orders and instructions. It entails
creating a separate account for each job to determine its costs and profits. A unique job number is assigned to each project. Direct
materials and wages are directly charged to each job based on actual costs, while overhead expenses are applied using a
predetermined rate through various overhead absorption methods. This process helps in determining the total cost of a job,
which is then compared against the sale price to ascertain the profit or loss for that specific job.

Features of Job Costing

Products are made only against customer orders, not for maintaining stock.
Each job is performed according to customer specifications.
Each job is distinct due to differing customer specifications.
There is no continuous production.
There is no large-scale production of goods.
Not all jobs go through all departments.
Costs incurred for a job are separately recorded and maintained.
A separate cost sheet is prepared for each job.
Work in progress depends on the number of jobs in hand.
If a job involves multiple operations, job tickets are issued.
The main objective is to ascertain the profit or loss of each job separately.
Manufacturing overheads are charged to departmental accounts.

Contract Costing Terms

Cost-Plus Contract
These contracts do not have a pre-agreed contract price. The price is determined after completion, based on all costs incurred
plus a fixed percentage of profit. Generally used when costs cannot be accurately ascertained in advance due to uncertain future
prices of materials and labor. The profit may be a fixed amount or percentage of cost. Government contracts are often on a cost-
plus basis.

The contractor has no risk of loss and is protected from fluctuations in material prices and labor rates.

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Escalation Clause
Included to reduce the risk of fluctuations in the prices of materials and labor rates. If prices rise, the contract price is revised
upwards, meaning the contractor would bear the additional cost due to the increase in the prices of material and labor.

Process Costing: Losses and Gains

Normal Loss
This loss is inherent and unavoidable in the production process or the nature of materials (e.g., loss of weight, leakage, pilferage,
normal scrap). Such loss is borne by good units, increasing the cost per unit of good production.

Abnormal Loss
Any loss exceeding normal loss, occurring due to abnormal causes such as accidents, inefficiency, or defective tools. Abnormal
loss is transferred to the Costing Profit & Loss Account.

The cost per unit is calculated as:

Costperunit = (T otalCost − Saleof normallossunits)/(U nitsintroduced − N ormallossunits)

Abnormal Gain
If the actual loss is less than the normal loss, it is known as abnormal gain or effectives. Like abnormal loss, abnormal gain is not
allowed to affect the cost of good units produced. The value of abnormal gain is debited to the related process account and
credited to the Abnormal Gain Account.

Joint Products and By-Products

In many industries, processing raw materials results in multiple products. When products have roughly equal sales value, they
are called joint products. When one product has much greater sales value, it is the main product, and the others are by-products.

Profits on Incomplete Contracts

Large contracts usually take multiple years to complete. At the end of each year, some profit is considered 'accrued' and credited
to the Profit & Loss Account.

This is to avoid showing all profit only in the final year and to apply the Convention of Conservatism.

However, the following rules apply:

No profit should be taken unless the contract is sufficiently advanced (usually at least 1/4 of the work has been completed).
When a contract is more than 1/4 complete, then 1/3 of the profit is transferred to P&L Account, and the balance is kept in
Reserve Account.
Transferred to P&L Account = Notional Profit x 1/3 or Notional Profit x 1/3 x Cash ratio
When a contract is more than 1/2 complete but not near completion, then 2/3 of the notional profit is transferred to P&L
Account, and the balance is kept in Reserve Account.
Transferred to P&L Account = Notional Profit x 2/3 or Notional Profit x 2/3 x Cash ratio
When a contract is near completion, then estimated profit is calculated and transferred to Profit & Loss Account according
to the following:
Estimated Profit x (Work Certified / Contract price) or, Estimated Profit x (Work Certified / Contract price) x Cash ratio
Whenever there is a loss on an incomplete contract, it is transferred to P&L Account in full, irrespective of the degree of
completion.

Abnormal Loss vs. Abnormal Gain

Abnormal Loss: Loss caused by unexpected conditions such as accidents or substandard material. It's the loss over and above
normal loss. Segregated from Process costs and investigated to prevent future occurrences.

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Journal Entries

1. Abnormal Loss Ac Dr. To Process AC

2. Cost Ledger Control Ac (Scrap value) Dr. Costing Profit & Loss Ac Dr. To Abnormal Loss

Abnormal Gain: Occurs when the actual loss is less than the expected loss. It represents the difference between actual
production and expected loss.

Accounting Treatment of Abnormal Gain

When there is an abnormal gain, the value is moved to the debit side of the relevant process and eventually closed by crediting
it to the Costing Profit and Loss Account.

The journal entries are as follows:

S.No. Particulars L.F. Dr. (₹) Cr. (₹)

1 Process A/c XXX

To Abnormal Gain A/c XXX
(Being abnormal gain transferred to process A/c)
2 Abnormal Gain A/c XXX
To Normal Loss A/c XXX
To Costing Profit & Loss A/c XXX
(Being abnormal gain adjusted)

Job Costing vs. Process Costing

There are different cost accounting techniques used to figure out the cost of a product.

Job costing is used when goods are made based on special orders. On the other hand, process costing is used when a product
goes through several processes or stages, where the output of one process becomes the input for the next. This method is
typically used when similar units are made in a continuous flow.

Job Costing: Used to calculate the cost of jobs or contracts that are distinct in nature.

Process Costing: Used to compute the cost charged to each process.

Here's a breakdown of the differences between job costing and process costing:

Basis Job Costing Process Costing

A costing method where costs charged to a specific

A costing method where costs are charged to
1. Meaning contract or work order are calculated based on
various processes and operations are determined.
instructions.
2. Nature Customized production Standardized production
Products are manufactured consecutively and lose
3. Identity Each job is different from the others.
their identity.
4. Cost
Completion of the job. End of the cost period.
Ascertainment
Suitable for industries that manufacture products as per Perfect for industries where mass production is
5. Industry
customer's order. done.
Normal losses are carefully ascertained, and
6. Losses Losses are usually not segregated.
abnormal losses are bifurcated.
7. Work-in- May or may not exist at the beginning or end of the Will always be present at the beginning or end of
Progress financial year. the accounting period.

Unit Costing (Single Costing)

Unit costing, also known as single costing, is used in industries that manufacture a single or only a few grades of similar items
(e.g., paper, cement, bricks, coal). It's a method of costing through which the cost per unit is determined.

The cost per unit is calculated by dividing the total production cost by the number of units manufactured during a given period:

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T otal cost of production

Cost per unit =
T otal number of units manuf actured

Importance of Unit Costing

Discloses the total cost and cost per unit.
Helps to determine the profitable volume of production.
Helps to determine the selling price of the product.
Enables a manufacturer to closely monitor and control the cost of production.
Helps to prepare the tender sheet.
Helps to compare current costs with previous costs.
Provides the necessary cost information to management.

Limitations of Unit Costing

Not suitable for industries that produce a variety of products.
Not suitable for service-oriented organizations like schools, colleges, hospitals, etc.
Can be used only for homogeneous products and not for heterogeneous products.

Service Costing and Accounting Systems

Service Costing
According to CIMA London, Service Costing is that form of operation costing which applies where standardized
services are rendered either by an undertaking or by a service cost center within an undertaking.

Service costing is used in undertakings like electricity companies, road transport, railways, hospitals, hotels, cinema halls, etc. It's
also called Operating Costing.

Main features of Service Costing:

Used in undertakings that provide unique types of services.
All costs are classified into fixed and variable costs.
Cost unit may be a simple cost per unit or a composite cost unit like passenger miles/kilometers, tonne mile/kilometer, etc.

Reconciliation of Cost and Financial Accounts

Under a non-integrated accounting system, costing profit and financial profit may not agree. In such cases, cost and financial
accounts are reconciled.

Need for Reconciliation: Cost and financial accounts are reconciled to:

Find out the reasons for the difference between costing and financial profits.
Ascertain the accuracy of cost and financial accounts.

Differences arise because of the following reasons:

(a) Items included in Financial Accounts and not in Cost Accounts:

These items reduce or increase the financial profit but are not included in cost accounts.

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1. Purely Financial Charges:

Loss on Investments
Fines and Penalties
Loss on Capital Assets
Stamp duty and expenses on the transfer of Capital, Stock, Shares, Bonds, etc.
Discount on debentures
Interest on bank loans, etc.
2. Purely Financial Incomes:
Profit on the sale of fixed assets
Rent received
Dividend received
Interest received on bank deposits
Fees received on transfer of shares
3. Appropriation of Profits: Items which appear in Profit & Loss Appropriation Account:
Dividends paid
Taxes paid
Transfers to reserves
Goodwill written off
Transfers to Sinking Fund, etc.

(b) Items included in Cost Accounts only:

These items are included in cost accounts but not in financial accounts.

1. Interest on Capital.
2. Charge in lieu of Rent.

(c) Under and Over-recovery of overheads:

Overheads are recovered based on pre-determined rates, and the amount recovered and the amount actually incurred will
invariably disagree.

Under-recovery: The amount of overheads absorbed (in Cost Accounts) is less than the actual amount.
Over-recovery: Overhead expenses recovered in Cost Accounts are more than actual.

(d) Different methods of valuation of Stock:

The basis of stock valuation in Cost Accounts and Financial Accounts may be different, leading to a difference in profits.

(e) Basis of Depreciation:

Different methods of providing depreciation adopted in two sets of books may also lead to some difference in the profit or loss
figures.

Integrated Accounting
There are two systems of keeping accounts:

Non-Integral
Integral systems of accounting.

Non-integral Accounting: Cost Accounts and Financial Accounts are separately maintained. Profit or Loss under the two systems
may differ, and there may be a need for reconciliation.

Integrated Accounting: Both the Cost Accounts and Financial Accounts are maintained in one and the same set of books. This
means the merger or integration of both Financial and Cost Accounts, thus maintaining only one integrated ledger containing
both financial as well as costing records.

Under the integrated accounting method, there is no need to reconcile the results of Cost Accounts with those of the Financial
Accounts because both accounts are preferred as part of a single comprehensive accounting method.

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Advantages of the Integrated Accounting System:

No need for preparation of any reconciliation statement.
No duplication of work because only one set of accounts is maintained.
Costs are saved.
More efficient control over the accounting process.
Timely reporting of information at the end of the year without delay.

Practical Problems (Unit Wise)

A. Accounting and Control of Material Cost

1. Calculation of Stock Levels

Q.1. A... Ltd. produces a product 'Red' using two components X and Y. Each unit of 'Red' requires 0.4 kg of X and 0.6 kg of Y.
Weekly production varies from 350 units to 450 units, averaging 400 units. The delivery period for both the components is 1 to 3
weeks. The economic order quantity for X is 600 kg, and for Y is 1000 kg. Calculate:

(i) Re-order level of X (ii) Maximum level of X (iii) Minimum level of Y

Sol.

(i) Re-order level of X = Maximum consumption x Maximum re-order period = (450 × 0.4) × 3 weeks = 540 kg

(ii) Maximum level of X = Re − order level + Re − order quantity − (M inimum consumption × M inimum re − order period)
= 540 + 600 − (350 × 0.4) × 1 = 540 + 600 − 140 = 1, 000 kg

(iii) Minimum level of Y = Re − order level − (Average consumption × Average re − order period)
= 810 − [(400 × 0.6) × 2] = 810 − 480 = 330 kg

Q.2. XYZ Ltd. manufactures a product A. The following particulars were collected for the year 2012:

Cost of placing an order: ₹400 Annual carrying cost per unit: ₹2 Normal usage: 300 units per month Minimum usage: 100 units
per month Maximum usage: 600 units per month Re-order period: 4 to 8 months

Compute from the above:

(i) Re-order Level (ii) Minimum Level

Sol.

(i) Re-order level = Maximum consumption x Maximum re-order period = 600 × 8 = 4, 800 units

(ii) Minimum level = Re − order level − (N ormal consumption × Average re − order period) Average re-order Period
M inimum re−order period+M aximum re−order period 4+8 12
= = = = 6 months
2 2 2

Minimum level = 4, 800 − (300 × 6) = 4, 800 − 1, 800 = 3, 000 units

Q.3. A company uses 2,500 units of a material per month. Cost of placing an order is ₹150. The cost per unit is ₹20. The re-order
period is 4 to 8 weeks. The minimum consumption of raw materials is 100 units, whereas the average consumption is 275 units.
The carrying cost of inventory is 20% per annum.

Calculate:

(i) Re-order quantity (ii) Re-order level

Sol.

(i) EOQ or Re-order Quantity = √ 2AS

EOQ - Economic Order Quantity A - Annual consumption = 2, 500 × 12 = 30, 000 units S - Cost of placing an order = ₹150 C -
Annual cost of carrying one unit Math input error

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EOQ or Re-order Quantity = √

2×30,000×150
= √1, 500 × 30, 000 = √22, 500, 000 = 1, 500 units
4

(ii) Re-order level = Max. Re-order period x Maximum usage = 8 × 450 = 3, 600 units

Q.4. Medical Aids Co. manufactures a special product A. The following particulars were collected for the year 2009:

Cost of placing an order: ₹100 Annual carrying cost per unit: ₹5 Normal usage: 50 units per week Minimum usage: 25 units per
week Maximum usage: 75 units per week Re-order period: 4 to 6 weeks

From the information of material A as given below, find:

(i) Re-order level (ii) Maximum stock level (iii) Minimum stock level (iv) Average stock level

Sol.

(i) Reorder Level = Maximum consumption x Maximum Re-order period = 900 × 5 = 4, 500 units

(ii) Maximum Stock Level

= Re − order level + Re − order quantity − (M inimum Consumption × M inimum Re − order period)

= 4, 500 + 3, 600 − (300 × 3) = 8, 100 − 900 = 7, 200 units

(iii) Minimum Stock Level = Re − order level − (Average consumption × Average Re − order period)
= 4, 500 − (600 × 4) = 4, 500 − 2, 400 = 2, 100 units

Working notes: Since normal consumption is not given, we use average consumption.

Average consumption =
M aximum consumption+M inimum consumption 900+300 1,200
= = = 600 units
2 2 2

Again, normal re-order period is not given, so we use average re-order period.

Average Re-order period =

M aximum Re−order period−M inimum Re−order period 5−3
= = 1 weeks
2 2

Q.6. From the following information in respect of material number 30, calculate re-order level, minimum level, and maximum
level of stock of material number 30.

Re-order quantity: 1500 units Re-order period: 4-6 weeks Consumption per week: Maximum: 400 units Normal: 300 units
Minimum: 250 units

Sol.

Re-order level = Maximum consumption x Maximum re-order period = 400 × 6 = 2, 400 units

Minimum Stock Level = Re − order level − (N ormal consumption × N ormal re − order period)

Since the normal re-order period has not been given, we take the average re-order period as the normal re-order period.

Average re-order period = M inimum re−order period+M aximum re−order period

2
=
4+6

2
=
10

2
= 5 weeks

Minimum Stock level = 2, 400 − (300 × 5) = 2, 400 − 1, 500 = 900 units

Maximum Stock level = Re − order level + Re − order quantity − (M inimum consumption × M inimum re − order period)
= 2, 400 + 1, 500 − (250 × 4) = 3, 900 − 1, 000 = 2, 900 units

2. Methods of Pricing of Material Issues

Q.8. From the following informations prepare stores ledger account as per FIFO method:

January 2009: Opening balance: 500 units @ ₹25 per unit Issue: 70 units Issue: 100 units Issue: 80 units Received: 200 units @
₹24 per unit Returned to store: 15 units @ ₹24 per unit Issue: 180 units Received: 240 units @ ₹24.75 per unit Issue: 304 units
Received: 320 units @ ₹24 per unit Issue: 112 units Returned to store: 12 units @ ₹24.50 per unit Received 100 units @ ₹25 per
unit

On 15th January, there was a shortage of 5 units. Again, it was found a shortage of 8 units on 27th January.

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Sol.

Stores Ledger Account (FIFO Method)

Date Receipts Issues Balance

Qty. Rate Amount

(Units) (₹) (₹)
Jan. 1
3 - - -
4 - - -
8 - - -
13 200 24 4,800
14 15 24 360
15 - - -
16 - - -
20 240 24.75 5,940
24 - - -
25 320 24 7,680
26 - - -
27 12 24.50 294
28 100 25 2,500
Closing Stock

Q.9. Prepare a Stores Ledger Account from the following transactions assuming that the issues have been priced on the principle
of "Last-in-first-out" (LIFO).

2011 Jan. 1: Received 400 units @ ₹4 per unit Jan. 10: Received 50 units @ ₹5 per unit Jan. 20: Issued 200 units Feb. 4: Received
600 units @ ₹6 per unit Feb. 21: Issued 400 units March 16: Issued 100 units April 12: Issued 200 units May 10: Received 450
units @ ₹5.50 per unit May 25: Issued 300 units

Sol.

Stores Ledger Account (LIFO Method)

Date Receipts Issues Balance

Qty. Rate Amount

(Units) (₹) (₹)
Jan. 1 400 4 1,600
Jan. 10 50 5 250
Jan. 20 - - -
Feb. 4 600 6 3,600
Feb. 21 - - -
Mar. 16 - - -
Apr. 12 - - -
May 10 450 5.50 2,475
May 25 - - -
Closing Stock

Q.10. The following transactions took place in respect of a material item:

March 2: Receipt, quantity: 200 units, rate: ₹2.00 March 10: Receipt, quantity: 300 units, rate: ₹2.40 March 15: Issue, quantity:
250 units March 18: Receipt, quantity: 250 units, rate: ₹2.60 March 20: Issue, quantity: 200 units

Prepare a stores ledger sheet using:

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(i) LIFO method (ii) Weighted average method

Sol.

(i) Stores Ledger Sheet (LIFO Method)

Date Receipts Issues Balance

Qty. Rate Amount

(Units) (₹) (₹)
Mar. 2 200 2.00 400
Mar. 10 300 2.40 720
Mar. 15 - - -
Mar. 18 250 2.60 650
Mar. 20 - - -
Closing Stock

(ii) Stores Ledger Sheet (Weighted Average Method)

Date Receipts Issues Balance

Qty. Rate Amount

(Units) (₹) (₹)
Mar. 2 200 2.00 400
Mar. 10 300 2.40 720
Mar. 15 - - -
Mar. 18 250 2.60 600
Mar. 20 - - -
Closing Stock

Working notes: Weighted average price is calculated as follows:

On March 10, Weighted Average Price Math input error On March 18, Weighted Average Price Math input error

Q.11. From the following informations taken from the costing records of XYZ Company in respect of material number 101 for the
month of January 2011, prepare stores ledger account according to LIFO and weighted average method of pricing material
issues:

Purchases: January 10: 200 units @ ₹2 per unit January 16: 400 units @ ₹3.50 per unit Issues: January 20: 100 units January 28:
200 units Shortage: January 31: 25 units

Sol.

Stores Ledger Account (LIFO Method)

Date Receipts Issues Balance

Qty. Rate Amount

(Units) (₹) (₹)
Jan. 10 200 2 400
Jan. 16 400 3.50 1,400

Straight Piece-Rate Earnings

Straight piece-rate earnings are calculated based on the number of units produced multiplied by a fixed rate per unit.

Earnings = U nits : P roduced × Rate : per : U nit

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Worker Units Produced Rate per Unit Earnings per Day

Govind 80 $0.40 $32

Ram 100 $0.40 $40
Shyam 120 $0.40 $48

Halsey Bonus Plan

The Halsey Bonus Plan involves wages plus a bonus based on 50% of the time saved, multiplied by the time rate.

W ages = (T ime : T aken + 50

Worker Calculation Earnings per Day

Govind (8 + (0.5 × 0)) × 4 $32

Ram (8 + (0.5 × 2)) × 4 $36
Shyam (8 + (0.5 × 4)) × 4 $40

Rowan Bonus Plan

The Rowan Bonus Plan calculates wages by adding the time taken multiplied by the rate to a bonus based on the proportion of
time saved to time allowed, multiplied by the time taken and rate.
T ime:Saved
W ages = (T ime : T aken × Rate) + ( × T ime : T aken × Rate)
T ime:Allowed

Worker Calculation Earnings per Day

Govind (8 × 4) + (
0

8
× 8 × 4) $32
Ram (8 × 4) + (
2

8
× 8 × 4) $38.40
Shyam (8 × 4) + (
4

8
× 8 × 4) $42.67

Effective Earnings per Hour

Effective earnings per hour are determined by dividing total earnings by hours taken.
Earnings
Ef f ective : Earnings : per : H our =
H ours:T aken

Plan Govind Ram Shyam

Straight Piece-Rate $4.00 $5.00 $6.00

Halsey $4.00 $4.50 $5.00
Rowan $4.00 $4.80 $5.33

Labor Turnover Rates

Replacement Method
The replacement method focuses on the number of workers replaced during a period relative to the average number
of workers.
N umber:of :Replacements
Labour : T urnover : (Replacement) : Rate = × 100
Average:N umber:of :W orkers

Given a replacement rate of 5% and 30 workers replaced:

30
0.05 =
Average:N o.:of :workers

30
Average : N umber : of : workers = = 600
0.05

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Separation Method
The separation method considers the number of workers who left or were discharged relative to the average number
of workers.
N umber:of :Separations
Labour : T urnover : (Separation) : Rate = × 100
Average:N umber:of :W orkers

Given a separation rate of 3%:

N umber:of :Separations
0.03 =
600

N umber : of : Separations = 0.03 × 600 = 18

Flux Method
The flux method includes both replacements and separations to determine the labor turnover rate.
N o.:of :Separations+Replacements
Labour : T urnover : (F lux) : Rate = × 100
Average:N o.:of :workers

Given a flux rate of 10%:

18+N umber:of :Replacements
0.10 =
600

N umber : of : Replacements = (0.10 × 600) − 18 = 42

Overtime Labor Cost

Regular Overtime Due to Labor Shortage

When overtime is worked regularly, the cost is directly charged to the job.

Normal Hours: 2,000 hrs @ 24 =48,000

Overtime Hours: 500 hrs @ 26 =13,000
Total Cost: $61,000

Irregular Overtime
When overtime is worked irregularly, only the normal wage rate is charged.

Normal Hours: 2,000 hrs @ 24 =48,000

Overtime Hours: 500 hrs @ 24 =12,000
Total Cost: $60,000

Overtime at Customer's Request

If overtime is worked at the customer's request, the overtime premium is charged to the job.

Normal Hours: 2,000 hrs @ 24 =48,000

Overtime Hours: 500 hrs @ 26 =13,000
Total Cost: $61,000

Overtime Due to Abnormal Idle Time

If overtime is due to abnormal reasons, the overtime premium is charged to the Costing Profit & Loss Account.

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Normal Hours: 2,000 hrs @ 24 =48,000

Overtime Hours: 500 hrs @ 24 =12,000
Total Cost: $60,000
Overtime Premium: $1,000 charged to Costing Profit & Loss Account

Quarterly Labor Turnover Rate

Given Data
Workers at start: 3,500
Workers at end: 4,000
Workers left: 50
Workers discharged: 150
Workers recruited: 560
Replacements due to expansion: 50

Average Number of Workers

W orkers:at:start+W orkers:at:end
Average : N o. : of : workers =
2

3,500+4,000
Average : N o. : of : workers = = 3, 750
2

Separation Method
N o.:of :workers:separated
Labour : T urnover : Rate : (Separation : method) = × 100
Average:no.:of :workers

50+150
Labour : T urnover : Rate = × 100 = 5.33
3,750

Replacement Method
N o.:of :workers:replaced
Labour : T urnover : Rate : (Replacement : method) = × 100
Average:no.:of :workers

560−50
Labour : T urnover : Rate = × 100 = 13.6
3,750

Total Labor Cost and Job Costs

Given Information
Workers employed: 100
Normal working hours: 200 hours per month
Basic wages: $5,000 per month
Dearness allowance: 50%
Employees subscription to PF: 10%
Overtime paid at double the normal basic wage rate plus DA
Employer's contribution to PF is at equal rate with the employees
Workers employed on Jobs X and Y in the ratio 3:2
Overtime of 10 hours was worked on Job X only

Calculations

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Basic wages: $5,000

DA: $2,500
Total: $7,500
Employer's contribution to PF (10% of 5, 000) :500
Normal Cost: $8,000
Normal working Hours: 200
Cost per hour: 8, 000/200 =40

Case I: Overtime of 10 hrs Assumed to be Worked by All the Workers of Job X

Particulars Job X Job Y

No. of workers (100 workers in the ratio 3:2) 60 40

Normal cost per worker pm. $8,000 $8,000
Total cost of all workers $4,80,000 $3,20,000
Overtime: 10 hrs. @ $75 $750 -
Total $4,80,750 $3,20,000
Total labor cost of Job X and Job Y = 4, 80, 750+3,20,000 = $8,00,750
Normal cost = 7, 500/200hrs =37.5 per hrs
Overtime cost at double rate = 37.5x2 =75 per hour

Case II: Overtime of 10 hrs is Assumed to be Worked by Each Worker of Job X

Individually, i.e., Overtime of 10 hrs x 60 workers = 600 hours

Particulars Job X

Normal cost $4,80,000

Overtime for 600 hours x $75 $45,000
Total $5,25,000
Total labor cost of Job X and Y = 5, 25, 000+3,20,000 = $8,45,000

Factory Overhead Costs

Given Data
Department A: $1.50 per machine hour for 14,000 hours
Department B: $1.30 per Direct labor hour for 3,000 hours
Department C: 80% of D.L. cost of $6,000
Department D: $2 per piece for 950 pieces
Overheads: A = 19, 500, B =4,500, C = 4, 000, D =2,500

Calculations

Department Overheads Absorbed Actual Overheads Under/Over Absorption

A 1.50x14, 000 = 21,000 $19,500 $1,500 (over)

B 1.30x3, 000 =3,900 $4,500 $600 (under)
C 5, 000x804,800 $4,000 $800 (over)
D 2x950 =1,900 $2,500 $600 (under)

Overhead Distribution Summary

Given Data

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Department Department Department Department Department

Item Total Basis
A B C X Y

Power $22,400 - - - - - KWH

Asset
Depreciation $20,000 - - - - -
value
Rent $4,200 - - - - - Area
No. of
Personnel Department $4,000 - - - - -
workers
No. of
Canteen $3,000 - - - - -
workers
Asset
Maintenance of assets $2,400 - - - - -
value
Asset
Insurance $2,200 - - - - -
value
Area (sq. meters) - 400 400 300 200 100 -
Kilowatt hours - 2,000 2,200 800 750 250 -
Number of workers - 90 120 30 40 20 -
Capital value of assets (₹ 000) - 50 60 40 30 20 -
Direct material cost - $5,000 $3,000 $2,000 - - -
Expenses of department X and Y will be
apportioned among production
departments in the ratio of 5:3:2 and
20%, 30% and 50% respectively.

Overhead Distribution Summary

Items Basis Total Department A Department B Department C Department X Department Y

Direct materials Given $10,000 $5,000 $3,000 $2,000 - -

Power KWH $2,400 $800 $880 $320 $300 $100
Rent Area $4,200 $1,200 $1,200 $900 $600 $300
Canteen No. of workers $3,000 $900 $1,200 $300 $400 $200
Insurance Asset value $2,200 $550 $660 $440 $330 $220
Depreciation Asset value $20,000 $5,000 $6,000 $4,000 $3,000 $2,000
Personnel department No. of workers $4,000 $1,200 $1,600 $400 $533 $267
Maintenance of assets Asset value $2,400 $600 $720 $480 $360 $240
Total $40,200 $15,250 $15,260 $8,840 $5,523 $3,327
Department X 5:3:2 $6,523 $3,261 $1,957 $1,305 ($6,523) -
Department Y 20:30:50 $4,277 $865 $1,298 $2,114 - ($4,277)
Total $40,200 $14,376 $15,515 $10,309 - -

Absorption Rates (Percentage of Direct Material Cost)

Direct:Overheads
Absorption : Rate = × 100
Direct:materials

Department A: 14, 376/5,000 x 100 = 287.52%

Department B: 15, 515/3,000 x 100 = 517.17%
Department C: 10, 309/2,000 x 100 = 515.45%

Overheads Recovery Rates

Given Data

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Direct material consumed: $1,80,000

Direct wages: $1,50,000
Production overheads: $1,26,000
Labor hours worked: 12,000 hours
Machine hours worked: 10,000 hours

Relevant Data for One Order

Material consumed: $30,000
Direct wages: $24,750
Labor hours: 1,650 hours
Machine hours: 1,200 hours

Calculation of Overhead Rates

Percentage on Direct Material

P roduction:overheads
Overhead : Rate = × 100
Direct:material:consumed

1,26,000
Overhead : Rate = × 100 = 70
1,80,000

Percentage on Direct Wages

P roduction:overheads
Overhead : Rate = × 100
Direct:wages

1,26,000
Overhead : Rate = × 100 = 84
1,50,000

Percentage on Prime Cost

P roduction:overheads
Overhead : Rate = × 100
P rime:cost

P rime : Cost = Direct : material + Direct : wages

P rime : Cost = 1, 80, 000 + 1, 50, 000 = 3, 30, 000

1,26,000
Overhead : Rate = × 100 = 38.18
3,30,000

Labor Hour Rate

P roduction:overheads
Overhead : Rate =
Labour:hours:worked

Overhead : Rate =
1,26,000

12,000
=10.50 : per : hour$

Machine Hour Rate

P roduction:overheads
Overhead : Rate =
M achine:hours

Overhead : Rate =
1,26,000

10,000
=12.60 : per : hour$

Overhead Chargeable to the Order

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Method Calculation Overhead Chargeable

Percentage on direct material 70 30,000 $21,000

Percentage on direct wages 84 24,750 $20,790
Percentage on prime cost 38.1854,750 $20,904
Labor hour rate 1, 650 : hours : × : 10.50 $17,325
Machine hour rate 1, 200 : hours : × : 12.60 $15,120

N ote : P rime : Cost = M aterial : consumed + Direct : wages = 30, 000 + 24, 750 = 54, 750

Kilometers and Passenger Kilometers

Given Data
Number of buses: 4
Days operated in a month: 30
Trips made by each bus per day: 2
Distance covered in one trip: 200 kilometers
Seating capacity of each bus: 40 passengers
Actual passengers carried: 75% of seating capacity

Calculation of Total Kilometers

T otal : kilometers = Distance : covered : in : one : trip × T rips : made : by : each : bus : per : day × Days : operated : in : a : mon

T otal : kilometers = 200 × 2 × 30 × 4 = 48, 000 : kilometers

Calculation of Total Passenger Kilometers

T otal : passenger : kilometers = T otal : km × Seating : capacity : of : each : bus × Actual : percentage : of : passengers : carrie

T otal : passenger : kilometers = 48, 000 × 40 × 0.75 = 1, 440, 000 : passenger : km

Machine Hour Rate Computation

Given Data
Cost of machine: $1,14,800
Installation charges: $5,400
Anticipated life of the machine: 10 years
Residual value at the end of 10 years: $5,000
Rent and rates per annum: $12,000
Insurance of the machine per annum: $3,000
Repairs and maintenance per annum: $8,640
Consumable stores per annum: $1,200
Total production services per annum: $1,080
Power cost: 5 units per working hour @ $0.40 per unit
Setting-up time (Non-productive): 400 hours per annum
Working days: 300 days of eight hours in a year

Calculations
Number of Machine hours per annum = (300 x 8) = 2,400

Less: Setting up time (Non-productive) = (400)

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Number of effective machine hours = 2,000

Computation of Machine Hour Rate

Particulars Per annum (₹) Per hour (₹)

Standing charges:
Rent and Rates 12,000
Insurance of the machine 3,000
Consumable Stores 1,200
Total production services 1,080
Total Standing charges 17,280
Standing charges per hour 8.64
Variable Charges:
Depreciation 5.76
Repairs and maintenance 4.32
Power 2.00
Machine Hour Rate 20.72

Machine Hour Rate: ABC Ltd.

Given Details
Bought of machinery: $4,50,000
Installation charges: $50,000
Life of machine: 5 years
Working hours per year: 2,500
Repairs charges: 75% of depreciation
Electric power consumed: 10 units per hour @ $3
Lubricating oil $40 per day of 8 hours
Consumable stores @ $80 per day of 8 hours
Wages of machine operator @ $200 per day of 8 hours

Calculation of Machine Hour Rate

Number of Machine Hours = 2,500 hrs.

r (per hr.) ₹

Lubricatig ol ($40 / 8hrs.) 5.00

Consumable stores ($80 / 8hrs.) 10.00
Wages of machine operator ($200 / 8hrs) 25.00
Depreciation 40.00
Repair charges (75% of $40) 30.00
Electric power (10 hours @ $3) 30.00
Machine Hour Rate 140.00

Machine Hour Rate: Effective Life

Given Data

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Machine Cost: $90,000

Scrap Value: 5% at the end of its effective life (10 years)
Expected run time: 2,400 hours per annum
Lost time for normal repairs and maintenance: 150 hours
Lost time due to staggering: 750 hours
Wages of two operators for five machines in the shop: $8,000 per year
Rent and rates of the shop: $4,800 per year
General Lighting of the shop: $5,400 per year
Insurance premium of the shop: $25 per quarter
Cost of repairs and maintenance per machine: $50 per month
Shop supervisor's salary: $500 per month
Power consumption: $10 per hour
Other factory overheads attributable to the shop: $4,000 per annum
Supervisor's time devoted to the machine: one-fifth

Calculations
Number of Machine Hours = 2,400 - 150 - 750 = 1,500 p-a.

Particulars Per annum (₹) Per hour (₹)

Wages of two operators 1,600

Rent and Rates 960
General Lighting 1,080
Insurance premium 180
Supervisor's Salary 6,000
Other Factory overheads 800
Total Standing charges 22,500 15.00
Depreciation 3.00
Repairs and Maintenance 2.00
Power 20.00
Machine Hour Rate 40.00

Machine Hour Rate: Cost of Machine

Given Data
Cost of the machine: $10,00,000
Installation charges: $1,00,000
Estimated scrap value at the end of effective working life (10 years): $50,000
Rent and rates of the workshop per month: $3,000
Insurance premium for the machine per annum: $9,200
Power consumption: 10 units per hour
Rate of power per 100 units: $200
Supervisor's salary per month: $6,000
Estimated working time of the machine per annum is 2,200 hours, including setting-up time of 200 hours (regarded as
productive time).
The machine occupies one-fourth area of the workshop.
The supervisor is expected to devote one-fifth of his time in supervising the operation of the machine.

Computation of Machine Hour Rate

Number of Effective Machine Hours: 2,200* p.a.

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Particulars Per annum (₹) Per hour (₹)

Rent and rates of the workshop 9,000

Insurance premium of the machine 9,200
Supervisor's salary 14,400
Total standing charges 32,600 14.82
Depreciation 31.82
Power 20.00
Machine Hour Rate 66.64

Note: Since setting up time is treated as productive, it would not be subtracted from 2,200.

Machine Hour Rate: Estimated Life

Given Data
Cost of machine $1,00,000
Estimated life 10 years
Scrap value $10,000
Estimated working time 50 weeks of 44 hrs. each. It includes the following:
Time taken up in maintenance 200 hrs.
However, setting up time is 100 hrs (regarded as productive time).
Power used during setting up time is 16 units @ $0.09 per unit.
The machine requires a chemical solution, which is replaced at the end of each week at a cost of $20 each
Cost of maintenance
Two attendants control the operation of this machine together with five other identical machines. Their combined weekly
wages amount to $120.
General work overheads allocated to this machine for the year amount to $2,000.

Computation of Machine Hour Rate

Particulars Per anuum (₹) Per hour (₹)

General works overheads 2,000

Wages of attendants 3,000
= 2,000 hours" 1.50
Depreciation 10,000
2,000 x 10yrs. 4.50
Chemical 1,000
20x5 50 0.50
Maintenance 1,200
2,000 0.60
2,000hrs. 1.37
Machine Hour Rate (MHR) 8.47

Estimated working hours = (50 weeks x 44 hrs.)

Less: Maintenance time

Effective hrs.

Machine Hour Rate for Recovery of Overheads

Given Data

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Cost of the machine is 5, 00, 000andestimatedscrapvalueis20,000 after its working life of 10 years.
Annual working hours are 3,000 in the factory.
The machine requires 400 hours per annum for repair and maintenance.
Cost of repair for the whole working life of the machine is $70,000.
Power used is 15 units per hour at a cost of $10 per unit.
A chemical is required for the machine at a cost of $10,000 per annum.
Wages of operator is $15,000 per month. The operator devoted 1/3rd of his time to the machine.
Annual insurance charges are 2% of the cost of machine.
Lighting charges for the department are $10,000 per month having 40 points in all, out of which only 8 points are used at
this machine.
Other indirect expenses chargeable to the machine are $1,300 per month.

Computation of Machine Hour Rate

Number of Machine Hours: 2,600

Particulars Per ammm (₹) Per hour (₹)

Chemical 10,000
Wages of operator 60,000
Insurance charges 50,000
Lighting charges 24,000
Other indirect expenses 15,600
Total standing charges 1,34,600 51.77
Depreciation 18.46
Repairs and Maintenance 2.69
Power 150.00
Machine Hour Rate 222.92

Annual working hours 3,000

Less: Repairs and maintenance time (400)

Effective Machine Hours 2,600

Overheads and Wages Absorption Rate

Given Data
Normal working week 40 hours
Number of machines 15
Number of weekly loss of hours on maintenance etc. 4 hrs. per machine
Estimated annual overheads $1,55,520
Estimated direct wages rate $3 per hour
Number of weeks worked per year 48

Actual Results
Overheads incurred $15,000
Wages incurred $7,000
Machine hours produced 2,200 hrs.

Calculations
Working hours per annum are calculated as:

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= 15 machines * 48 weeks x (40 - 4) effective hrs. per week

= 15 x 48 x 36 = 25,920 hours

Overhead rate per machine hour = 1, 55, 520/25, 920hrs. =6

Under/Over-Absorption
Overheads incurred = $15,000
Overheads absorbed = 2,200 hrs. x 6 =13,200
Under-absorbed overheads = 15, 000−13,200 = $1,800

Wages
Wages incurred = $7,000
Wages absorbed = 40 hrs. x 15 machines x 3x4weeks =7,200
Wages over-absorbed = 7, 200−7,000 = $200

Traditional vs. Activity-Based Costing

Given Data

Product Annual Output (unit)) Total Machine hours Total number of set-ups Total number of purchase orders

A 5,000 20,000 160 20

B 60,000 1,20,000 384 44

Annual Overheads

Type Amount (₹)

Volume-related activity costs 5,50,000

Set-up related costs 8,20,000
Purchase related costs 6,18,000

Traditional Method of Costing## Machine Hour Rate

Power Cost Calculation

To calculate the power cost, we need to determine the actual hours the machine is used for production, excluding setup time.

Total working hours: 2,600 hours

Setting up time: 156 hours
Actual production hours: $2600 - 156 = 2444$ hours

Power cost is then calculated as:

P owerCost = 2444 hours ×

151 units

2600 hours
0.50 \text{ per hour}$
×

Machine Hour Rate Calculation

Given the details for the machine, we calculate the machine hour rate as follows:

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Detail Amount (₹)

Cost of machine 1,90,000

Freight and installation 10,000
Working life 5 years
Repairs and maintenance 40% of Depreciation
Annual power expenses 6,000
Eight Hourly Day Charges:
Power 24
Lubricating oil 20
Consumable stores 28
Wages 80

1. Depreciation Calculation:

Total cost: $1,90,000 + 10,000 = 2,00,000$

Annual depreciation: $2,00,000 / 5 = 40,000$
Depreciation per hour: $40,000 / 2,000 = $20.00$, where 2000 is working hours during the year.

2. Repairs and Maintenance:

Annual repair cost: 40% of $40,000 = $16,000$

Hourly repair cost: $16,000 / 2,000 = $8.00$

3. Per Hour Charges:

Consumable stores: $28 / 8 = $3.50$

Lubricating oil: $20 / 8 = $2.50$
Wages: $80 / 8 = $10.00$
Power: $24 / 8 = $3.00$

4. Total Machine Hour Rate:

Component Rate (₹)

Consumable stores 3.50

Lubricating oil 2.50
Wages 10.00
Depreciation 20.00
Repairs & maintenance 8.00
Power 3.00
Machine-hour rate 47.00

Activity-Based Costing (ABC)

Activity-Based Costing (ABC) is an approach to costing that assigns costs to activities and then to products based on the
consumption of those activities.

Given Data
A company manufactures two products, A and B, using common facilities. Here’s the cost data for a month:

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Product A Product B

Units produced 1,000 2,000

Direct labor hours per unit 2 3
Machine hours per unit 6 1.5
Set-up of machines 15 50
Orders 18 70
Machine activity expenses ₹23,00,000
Set-up related expenses ₹730,000
Expenses relating to orders ₹235,000

Calculations
1. Total Machine Hours:

For A: $1,000 \text{ units} \times 6 \text{ hours} = 6,000 \text{ hours}$
For B: $2,000 \text{ units} \times 1.5 \text{ hours} = 3,000 \text{ hours}$
Total: $6,000 + 3,000 = 9,000 \text{ hours}$

2. Number of Machine Set-ups:

Total set-ups: $15 + 50 = 65$

3. Number of Orders:

Total orders: $18 + 70 = 88$

4. Machine Hour Rate:

M achine Activity Expenses
M achine H our Rate =
T otal M achine H ours

Math input error

5. Cost Per Set-Up:

Setup Related Expenses
Cost per Setup =
N o. of Setups

Math input error

6. Cost Per Order:

Expenses related to Orders
Cost per Order =
N o. of Orders

Math input error

Overheads Per Unit Using Activity-Based Costing

Activity Product A (1,000 units) Product B (2,000 units)

Cost Driver Cost Rate per Unit (₹)

Machine-related 6,000 hrs x ₹255.56/hr ₹1,533,333/1000 units = 1533.33
Set-up related 15 x ₹11,230.77 ₹168,462/1000 units = 168.46
Order-related 18 x ₹2,670.45 ₹48,068/1000 units = 48.07
Total 1749.86

Cost Sheet
A Cost Sheet is a statement that presents the various elements of cost incurred in the production or manufacturing of a product
or service. It provides a detailed breakdown of costs such as raw materials, direct labor, and overheads, helping in cost control
and decision-making.

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Format and Components

A typical cost sheet includes the following components:

Raw Materials: Direct costs of materials used in production.

Direct Wages (Labor): Wages paid to workers directly involved in production.
Prime Cost: The sum of raw materials and direct wages.
Factory Overheads: Indirect costs related to the factory, including fixed and variable components.
Work/Factory Cost: Sum of prime cost and factory overheads.
Selling and Distribution Overheads: Costs related to selling and distributing the product, including fixed and variable
components.
Total Cost: Sum of work cost and selling & distribution overheads.
Profit: The desired profit margin.
Sales: The total revenue from sales.

Example Problems and Solutions

Problem 1
X Ltd. received an inquiry for supplying 1,000 premium shirts. The estimated costs are as follows:

Item Details Amount (₹)

Raw Materials 25000 mtrs @ ₹40 per mtr 1,00,000

Direct Wages 10,000 hrs @ ₹4 per hr 40,000
Variable Factory Overheads ₹2.40 per labor hr 24,000
Fixed Factory Overheads 6,000
Selling & Distribution Overheads (Fixed) 14,000
Selling & Distribution Overheads (Variable) 16,000

Prepare a Cost Sheet showing the price to be quoted per shirt resulting in a profit of 20% on the selling price.

Solution:

Particulars Amount (₹)

Raw Materials (2,500 mtrs @ ₹40) 1,00,000

Direct Wages (10,000 hrs @ ₹4) 40,000
Prime Cost 1,40,000
Factory Overheads:
Fixed 6,000
Variable (10,000 hrs @ ₹2.40) 24,000
Factory/Work Cost 1,70,000
Selling and Distribution Overheads:
Fixed 14,000
Variable 16,000
Total Cost 2,00,000
Profit (20% on selling price or 25% of cost) 50,000
Sales 2,50,000
Price to be quoted (selling price per shirt) ₹250

Problem 2
From the following, prepare a Cost Sheet:

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Item Amount (₹)

Raw materials 6,000

Direct wages 5,000
Factory overheads 2,400
Opening Stock of finished goods (200 kg) 800
Closing Stock of finished goods (400 kg) -
Sale of finished product (3,000 kg) 20,000
Advertising & Selling expenses 1,475

Profit desired is 30% on sales.

Solution:

Particulars Amount (₹)

Raw materials 6,000

Direct wages 5,000
Prime cost 11,000
Factory overheads 2,400
Cost of Production 13,400
Add: Opening Stock of finished goods (200 kg) 800
14,200
Less: Closing Stock of finished goods (400 kg) (₹13,400/3,200 kg) 1,675
Cost of Goods Sold 12,525
Advertising & Selling expenses 1,475
Total Cost 14,000
Profit (30% on Sales) 6,000
Sales 20,000

Key Considerations
Profit Calculation: Profit is often calculated as a percentage of either cost or sales. Ensure that the calculation basis is
clearly stated (e.g., 20% on selling price or 25% on cost).
Stock Adjustments: Proper adjustments must be made for opening and closing stocks of both raw materials and finished
goods.
Classification of Costs: Accurate classification of costs is essential (i.e., direct vs. indirect, fixed vs. variable) for meaningful
analysis and decision-making.

Operating Costing
Operating costing is a method used to ascertain the cost of providing services. It's commonly applied in industries like
transportation, hospitality, and utilities.

Key Components and Calculations

Operating costing involves identifying and classifying costs into fixed (standing) charges and variable (running) charges.

Problem 1
Union Transport Company provides the following details for a truck with a 5-tonne capacity:

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Particulars Amount (₹) per unit

Cost of truck 450,000

Estimated life 10 years
Diesel, oil ₹5 per liter
Repairs and maintenance ₹500 per month
Cleaner's wages ₹250 per month
Driver's wages ₹7,500 per month
Insurance ₹4,800 per year
Tax ₹2,400 per year
General supervision charges ₹4,800 per year

The truck carries goods to and from the city, covering 50 miles each way. While going to the city, it’s at full capacity, and on
return, it’s at 20% capacity. The truck runs an average of 25 days a month. Work out the operating cost per tonne-mile.

Solution:

1. Standing (Fixed) Charges (Per Month):

Particulars Calculation Amount (₹)

Driver's wages 7,500

Cleaner's wages 250
Tax ₹2,400 / 12 months 200
Insurance ₹4,800 / 12 months 400
General supervision charges ₹4,800 / 12 months 400
Total Standing Charges (A) 8,750

2. Running (Variable) Charges (Per Month):

Note: Given parameters for depriciation and diesel is missing. The following calculation is based on available parameters.*

Particulars Calculation Amount (₹)

Repairs and maintenance 500

Total variable charges (B) 500

3. Total Costs (Per Month):

Total Cost (A + B): ₹8,750 + ₹500 = ₹9,250

4. Calculation of Tonne-Miles:

Tonne-miles (to city): $50 \text{ miles} \times 5 \text{ tonnes} \times 25 \text{ days} = 6,250 \text{ tonne-
miles}$
Tonne-miles (return): $50 \text{ miles} \times (5 \text{ tonnes} \times 0.20) \times 25 \text{ days} = 1,250
\text{ tonne-miles}$
Total tonne-miles per month: $6,250 + 1,250 = 7,500 \text{ tonne-miles}$

5. Operating Cost Per Tonne-Mile:

T otal Cost
Operating Cost per T onneM ile =
T otal T onneM iles

Math input error

Problem 2
The Madras Transport Company, which maintains a fleet of lorries, provides the following data for April 2008:

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Particulars Amount (₹)

Kilometers run 30,000

Wages 2,000
Petrol, oil, etc. 4,000
Original cost of vehicles 1,00,000
Repairs 6,000
Garage rent 1,000
License, insurance etc. 6,000 p.a.

Depreciation is charged at 25% per annum on the original cost. Prepare a statement for April 2008, showing the cost per running
kilometer.

Solution:

1. Standing (Fixed) Charges (Per Month):

Particulars Calculation Amount (₹)

Wages 2,000
Garage rent 1,000
License, insurance etc. $6,000 / 12 \text{ months}$ 500
Total Standing Charges 3,500

2. Variable (Running) Charges (Per Month):

Particulars Calculation Amount (₹)

Petrol, oil, etc. 4,000

Depreciation (₹1,00,000 * 0.25) / 12 \text{ months} 2,083
Repairs 6,000
Total Variable Charges 12,083

3. Total Costs (Per Month):

Total Cost: ₹3,500 + ₹12,083 = ₹15,583

4. Cost Per Running Kilometer:

T otal Cost
Cost per Running km =
T otal Kilometers Run

Math input error

Key Considerations
Capacity Utilization: Especially relevant in transport, consider the actual capacity utilized versus the maximum capacity.
Distance Measurement: Ensure accurate measurement of distances covered, as this directly impacts per-unit costs.
Time Period: Specify the time period (per month, per year) for accurate cost assessment.

Process Accounting
Process accounting is a method of costing applicable in industries where production involves a sequence of continuous
processes.

Key Concepts

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Process Costing: A method of costing used in manufacturing industries where similar goods are produced through a series
of processes.
Normal Loss: The expected loss that occurs during the production process under normal conditions. It is usually expressed
as a percentage of input.
Abnormal Loss: The loss that is more than the normal loss due to unexpected or abnormal conditions like accidents,
machine failure, etc.
Abnormal Gain: It occurs when the actual loss is less than the normal loss.

Accounting Treatment
1. Normal Loss:

The cost of normal loss is absorbed by the good units.

The value of scrap from normal loss is credited to the process account.

2. Abnormal Loss:

It is valued at the cost per unit of the process.

It is credited to the process account and debited to the Abnormal Loss Account.
Any scrap value of abnormal loss is credited to the Abnormal Loss Account, and the remaining balance is transferred
to the Costing Profit and Loss Account.

3. Abnormal Gain:

It is valued at the cost per unit of the process.

It is debited to the process account and credited to the Abnormal Gain Account.

Example Problem and Solutions

Problem 1
D Ltd. introduced 5,000 units in a process at a cost of ₹10,000. The wages and overheads incurred are ₹10,000 and ₹8,000,
respectively. It is estimated that 10% of the input is normal loss, and the scrap value is ₹2 per unit. Actual output is 4,400 units.

Solution:

1. Calculate Normal Loss:

Normal Loss = 10% of 5,000 units = 500 units

2. Calculate Actual Loss:

Actual Loss = Input - Actual Output = 5,000 - 4,400 = 600 units

3. Determine Abnormal Loss/Gain:

Since Actual Loss (600 units) > Normal Loss (500 units), there is an Abnormal Loss.
Abnormal Loss = Actual Loss - Normal Loss = 600 - 500 = 100 units

4. Calculate Cost Per Unit:

Total Cost = Initial Cost + Wages + Overheads = ₹10,000 + ₹10,000 + ₹8,000 = ₹28,000
Scrap Value of Normal Loss = 500 units * ₹2 = ₹1,000
Cost Per Unit = (Total Cost - Scrap Value) / (Input - Normal Loss)
Cost Per Unit = (₹28,000 - ₹1,000) / (5,000 - 500) = ₹27,000 / 4,500 = ₹6 per unit

5. Value of Abnormal Loss:

Abnormal Loss = 100 units * ₹6 = ₹600

6. Process Account:

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Particulars Units Amount (₹) Particulars Units Amount (₹)

To Units Introduced 5,000 10,000 By Normal Loss 500 1,000

To Wages 10,000 By Abnormal Loss 100 600
To Overheads 8,000 By Units Transferred 4,400 26,400
Total 5,000 28,000 Total 5,000 28,000
7. Abnormal Loss Account:
Particulars Units Amount (₹) Particulars Units Amount (₹)

To Process X 100 600 By Sale of Scrap 100 200

By P&L A/c 400
Total 100 600 Total 100 600

Problem 2
The output from Process A transferred to Process B was 2,500 units. The Normal Loss was 10% of input in Process A, which
was 300 units. 200 units were reported as abnormal loss. Material introduced @ ₹5 per unit, labor cost ₹4,000, and overheads
₹3,350. Normal loss realized ₹2.50 per unit.

Solution:

1. Material Introduced:

Since Normal Loss is 10% of input and equals 300 units: 0.10 × Input = 300 Input = 3, 000 units
Material Cost = 3,000 units * ₹5 = ₹15,000

2. Process A Account:

Particulars Units Amount (₹) Particulars Units Amount (₹)

To Materials Introduced 3,000 15,000 By Normal Loss 300 750

To Labor 4,000 By Abnormal Loss 200 1,600
To Overheads 3,350 By Transfer to Proc B 2,500 20,000
Total 3,000 22,350 Total 3,000 22,350

3. Cost Per Unit Calculation:

Cost Per Unit = (Total Cost - Normal Loss Realization) / (Total Units - Normal Loss Units)
Cost Per Unit = (₹22,350 - ₹750) / (3,000 - 300)
Cost Per Unit = ₹21,600 / 2,700 = ₹8 per unit

4. Abnormal Loss Account:

Particulars Units Amount (₹) Particulars Units Amount (₹)

To Process A 200 1,600 By Sales @ 2.5 200 500

By Profit & Loss 1,100
Total 200 1,600 Total 200 1,600

Abnormal Gain

Key Points:
Occurs when actual loss is less than normal loss.
Valued at the cost per unit of the process.
Debited to the process account and credited to the Abnormal Gain Account.

Problem 3

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From the following information relating to Process A, prepare Process A Account, Abnormal Gain Account, and Normal Loss
Account:

Particulars Details

Units introduced 840

Cost per unit ₹40
Material added ₹5,924
Direct wages ₹8,000
Overheads ₹8,000
Actual output 750 units
Normal loss 15% of input
Value of scrap ₹1 per unit

Solution:

1. Calculate Normal Loss Units: Normal Loss = 840 * 0.15 = 126 units

2. Calculate Actual Loss Units: Actual Loss = 840 (Introduced) - 750 (Actual Output) = 90 units

3. Determine Abnormal Gain Units:

Since Actual Loss (90) < Normal Loss (126) Abnormal Gain Exists

Abnormal Gain = 126 (Normal Loss) - 90 (Actual Loss) = 36 units

4. Calculate Cost Per Unit (Before Abnormal Gain/Loss):

T otalCost−ScrapV alueof N ormalLoss
CostP erU nit =
T otalU nits−N ormalLossU nits

$Cost Per Unit = \frac{(84040+5924+8000+8000)-(1261)}{840-126}$

33600+5924+8000+8000−126
CostP erU nit =
714

55498
CostP erU nit = = 77.73
714

5. Adjusted Cost Per Unit: The cost per unit including the adjustment for abnormal gain is shown in the Process A Account.

6. Process A Account:

Particulars Units Amount (₹) Particulars Units Amount (₹)

To Units Introduced 840 33,600 By Normal Loss 126 126

To Material Added 5,924 By Transfer to Proc 750 57,000
To Direct Wages 8,000
To Overheads 8,000
To Abnormal Gain 36 2736
Total 876 58,260 Total 876 58,260
7. Normal Loss Account:
Particulars Units Amount (₹) Particulars Units Amount (₹)

To Process A 126 126 By Cash (Sale of Scrap) 90 90

By Abnormal Gain 36 36
Total 126 126 Total 126 126
8. Abnormal Gain Account:
Particulars Units Amount (₹) Particulars Units Amount (₹)

By Process A 36 2736
Total 126 126 Total 126 126

Process Costing Explained

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Process costing is a method used to allocate costs to similar products or services that go through a series of sequential
processes.

Key Concepts
Normal Loss: Expected loss that occurs during production.
Abnormal Loss: Unexpected loss that is greater than the normal loss.
Abnormal Gain: When actual loss is less than normal loss.

Process Costing Accounts

Process A Account
Process B Account
Finished Stock Account

Calculation of Losses and Gains

Normal Loss
Normal loss is usually calculated as a percentage of input.

Normal Loss = (Input Units) * (Normal Loss Percentage)

Abnormal Loss
If the actual loss is greater than the normal loss, the difference is the abnormal loss.

Abnormal Loss = Actual Loss - Normal Loss

Abnormal Gain
If the actual loss is less than the normal loss, the difference is an abnormal gain.

Abnormal Gain = Normal Loss - Actual Loss

Cost Per Unit

To calculate the cost per unit, use the following formula:
T otal Cost−Scrap V alue of N ormal Loss
Cost per U nit =
U nits I ntroduced−U nits of N ormal Loss

Example Problems and Solutions

Question 21
A product passes through two processes, A and B. Normal loss in process A is 10% of the input, and in process B, it's 7.5% of
the input. Scrap value in process A is 5 paisa per unit and in process B, it's 10 paisa per unit.

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Process A:
Materials: $5,000
Wages: $5,500
Other Expenses: $2,550
Process B:
Materials: $2,500
Wages: $3,000
Other Expenses: $1,073

10,000 units were introduced into process A at a cost of $25,000. The outputs were: Process A - 8,400 units, Process B - 7,300
units. Prepare process cost accounts.

Solution:

Process A Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Units Introduced 10,000 5,000 Normal Loss 1,000 50

Materials 5,000 Abnormal Loss 600 1,200
Wages 5,500 Transfer to Proc. B 8,400 16,800
Other Expenses 2,550
Total 10,000 18,050 Total 10,000 18,050

Working Notes for Process A:

Input: 10,000 units

Normal Loss: 1,000 units (10% of 10,000)
Output: 8,400 units
Actual Loss: 10,000 - 8,400 = 1,600 units
Abnormal Loss: 1,600 - 1,000 = 600 units
Cost per unit: (18, 050 − 50)/(10, 000 − 1, 000) =2
Value of Abnormal Loss: 600 units * 2 =1,200

Process B Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Transfer from Proc. A 8,400 16,800 Normal Loss 630 63

Materials 2,500 Abnormal Loss 470 1,410
Wages 3,000 Transfer to Finished Stock 7,300 21,900
Other Expenses 1,073
Total 8,400 23,373 Total 8,400 23,373

Working Notes for Process B:

Input: 8,400 units

Normal Loss: 630 units (7.5% of 8,400)
Output: 7,300 units
Actual Loss: 8,400 - 7,300 = 1,100 units
Abnormal Loss: 1,100 - 630 = 470 units
Cost per unit: (23, 373 − 63)/(8, 400 − 630) =3
Value of Abnormal Loss: 470 units * 3 =1,410

Question 22
A product passes through two distinct processes, A and B, and then to the finished stock. The output of A passes directly to B,
and that of B passes to the finished product.

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Process A:
Material consumed: $12,000
Direct Labour: $14,000
Manufacturing expenses: $4,000
Input: 10,000 units
Output: 9,400 units
Normal wastage: 5%
Value of normal wastage: $8 per 100 units
Process B:
Material consumed: $6,000
Direct Labour: $8,000
Manufacturing expenses: $4,000
Output: 8,300 units
Normal wastage: 10%
Value of normal wastage: $10 per 100 units

No opening or closing stock is held in process.

Solution:

Process A Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Units Introduced 10,000 10,000 Normal Loss 500 40

Material Consumed 12,000 Abnormal Loss 100 421
Direct Labour 14,000 Transfer to Proc. B 9,400 39,539
Manufacturing Exp. 4,000
Total 10,000 40,000 Total 10,000 40,000

Working Notes for Process A:

Normal Loss: 5% of 10,000 = 500 units

Abnormal Loss: 10,000 - 500 - 9,400 = 100 units
Cost per unit: (40, 000 − 40)/(10, 000 − 500) =4.21 (approx.)
Value of Abnormal Loss: 100 units * 4.21 =421

Process B Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Transfer from Proc. A 9,400 39,539 Normal Loss 940 94

Material Consumed 6,000 Abnormal Loss 160 1,086
Direct Labour 8,000 Transfer to Finished Stock 8,300 56,359
Manufacturing Exp. 4,000
Total 9,400 57,539 Total 9,400 57,539

Working Notes for Process B:

Normal Loss: 10% of 9,400 = 940 units

Abnormal Loss: 9,400 - 940 - 8,300 = 160 units
Cost per unit: (57, 539 − 94)/(9, 400 − 940) =6.79 (approx.)
Value of Abnormal Loss: 160 units * 6.79 =1,086

Question 23
The product XYZ of a company passes through three distinct processes before completion. Wastage is incurred in each process:

Process A: 2%
Process B: 5%
Process C: 10%

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The wastage of Processes A and B is sold at 10perunit, andthatof P rocessCat80 per 100 units.

Process A:
Materials: $12,000
Direct Labour: $16,000
Machine expenses: $2,000
Other factory expenses: $3,500
Process B:
Materials: $8,000
Direct Labour: $12,000
Machine expenses: $2,000
Other factory expenses: $3,800
Process C:
Materials: $4,000
Direct Labour: $6,000
Machine expenses: $3,000
Other factory expenses: $4,200

20,000 units have been issued to Process A at a cost of $20,000. The output of each process has been as follows: Process A -
19,500 units, Process B - 18,800 units, Process C - 16,000 units.

Solution:

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Process A Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Units Issued 20,000 20,000 Normal Loss 400 4,000

Materials 12,000 Abnormal Loss 100 252
Direct Labour 16,000 Transfer to Proc. B 19,500 49,248
Machine Expenses 2,000
Other Factory Exp. 3,500
Total 20,000 53,500 Total 20,000 53,500

Working Notes for Process A:

Normal Loss: 2% of 20,000 = 400 units

Abnormal Loss: 20,000 - 19,500 - 400 = 100 units
Cost per unit: (53, 500 − 4, 000)/(20, 000 − 400) =2.52 (approx.)
Value of Abnormal Loss: 100 units * 2.52 =252

Process B Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Transfer from Proc. A 19,500 49,248 Normal Loss 975 9,750

Materials 8,000 Transfer to Proc. C 18,800 66,267
Direct Labour 12,000
Machine Expenses 2,000
Other Factory Exp. 3,800
Abnormal Gain 275 969
Total 19,775 76,017 Total 19,775 76,017

Working Notes for Process B:

Normal Loss: 5% of 19,500 = 975 units

Abnormal Gain: 19,500 - (18,800 + 975) = -275 units. Because this is a negative loss (more output than expected) it
is an abnormal gain
Cost per unit: (75, 048 − 9, 750)/(19, 500 − 975) =3.53 (approx.)
Value of Abnormal Gain: 275 units * 3.53 =969

Process C Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Transfer from Proc. B 18,800 66,267 Normal Loss 1,880 1,504

Materials 4,000 Abnormal Loss 920 4,457
Direct Labour 6,000 Transfer to Finished Stock 16,000 77,506
Machine Expenses 3,000
Other Factory Exp. 4,200
Total 18,800 83,467 Total 18,800 83,467

Working Notes for Process C:

Normal Loss: 10% of 18,800 = 1,880 units

Abnormal Loss: 18,800 - 16,000 - 1,880 = 920 units
Cost per unit: (83, 467 − 1, 504)/(18, 800 − 1, 880) =4.82 (approx.)
Value of Abnormal Loss: 920 units * 4.82 =4,457

Question 24
A product passes through two processes A and B. Loss of 5% is allowed in Process A and 2% in Process B. Nothing being
realized by disposal of the wastage.

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Process A:
Units introduced: 10,000 units @ $6 each
Materials: $6,140
Labour: $10,000
Overheads: $6,000
Process B:
Materials: $6,140
Labour: $6,000
Overheads: $4,600

The output was: 9,300 units from Process A. The output of Process B was 9,200 units. 8,000 units of the finished product were
sold.

Solution:

Process A Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Units Introduced 10,000 60,000 Normal Loss 500

Labour 10,000 Abnormal Loss 200 1,600
Overheads 6,000 Transfer to Proc. B 9,300 74,400
Total 10,000 76,000 Total 10,000 76,000

Process B Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Transfer from Proc. A 9,300 74,400 Normal Loss 186

Materials 6,140 Finished Stock 9,200 92,000
Labour 6,000 Abnormal Gain 86 860
Overheads 4,600
Total 9,386 92,000 Total 9,386 92,000

Question 25
A product passes through two processes A and B. The normal wastage for each process is as follows:

Process A - 3%
Process B - 5%

Wastage of process A was sold at 25 paise per unit, and that of process B at 50 paise per unit. 10,000 units were introduced in
process A @ $1 per unit.

Process A:
Material: $1,000
Labour: $5,000
Direct expenses: $1,050
Actual output: 9,500
Process B:
Material: $1,000
Labour: $8,000
Direct expenses: $1,188
Actual output: 9,100

Solution:

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Process A Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Units Introduced 10,000 10,000 Normal Loss 300 75

Material 1,000 Abnormal Loss 200 350
Labour 5,000 Transfer to Proc. B 9,500 16,625
Direct Expenses 1,050
Total 10,000 17,050 Total 10,000 17,050

Process B Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Transfer from Proc. A 9,500 16,625 Normal Loss 475 237.50

Material 1,000 Transfer to Stock 9,100 27,300.50
Labour 8,000 Abnormal Gain 75 225
Direct Expenses 1,188
Total 9,575 27,538 Total 9,575 27,538

Question 26
Product X is obtained after passing through three distinct processes.

50,000 units @ $100 per unit were introduced in process 1.

Process 1:
Material: $50,000
Labour: $150,000
Overheads: $30,000
Actual output: 46,500 units
Normal loss: 5%
Value of scrap: $10
Process 2:
Material: $75,000
Labour: $400,000
Overheads: $90,750
Actual output: 27,000 units
Normal loss: 15%
Value of scrap: $25
Process 3:
Material: $25,000
Labour: $325,000
Overheads: $136,000
Actual output: 10,500 units
Normal loss: 20%
Value of scrap: $50
Management expenses during the year were 400, 000, andsellingexpenseswere250,000.

Solution:

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Process 1 Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Units Introduced 50,000 5,000,000 Normal Loss 2,500 25,000

Material 50,000 Abnormal Loss 1,000 109,579
Labour 150,000 Transfer to Proc. 2 31,000 3,396,947
Overheads 30,000 Sales 15,500 9,300,000
Profit & Loss 7,601,526
Total 50,000 12,831,526 Total 50,000 12,831,526

Process 2 Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Process 1 31,000 3,396,947 Normal Loss 4,650 116,250

Material 75,000 Transfer to Proc. 3 13,500 1,970,665
Labour 400,000 Sales 13,500 11,137,500
Overheads 90,750
Abnormal Gain 650 94,884
Profit & Loss 9,166,834
Total 31,650 13,224,415 Total 31,650 13,224,415

Process 3 Account:

Particulars Units Amount ($) Particulars Units Amount ($)

Process 2 13,500 1,970,665 Normal Loss 2,700 135,000

Material 25,000 Abnormal Loss 300 64,491
Labour 325,000 Sales 10,500 13,125,000
Overheads 136,000
Profit & Loss 10,867,826
Total 13,500 13,324,491 Total 13,500 13,324,491

Key Takeaways
Process costing is essential for industries with continuous production.
Understanding normal loss, abnormal loss, and abnormal gain is crucial.
Accurate cost allocation ensures correct pricing and profitability analysis.## Contract Account & Balance Sheet Preparation

Here's how to prepare a Contract Account and Balance Sheet based on the given information. We'll cover the essentials with
examples and clear steps.

Contract Account
The Contract Account is a summary of all costs and revenues associated with a specific contract. It helps determine the profit or
loss on that contract for a specific period.

Example 1 (Year Ending March 31, 2010)

Scenario:

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Materials: $14,00,000
Wages: $2,50,000
Plant & Machinery (60% at site): $15,00,000
Fuel & Power: $1,25,000
Site Expenses: $5,000
Office Expenses: $12,000
Rates & Taxes: $15,000
Contract Price: $60,00,000
Work Certified: $18,00,000
Cash Received: $20,00,000

Contract Account Structure:

Particulars Amount (₹) Particulars Amount (₹)

To Materials 14,00,000 By Materials at site 30,000

To Wages 2,50,000 By Plant returned 5,000
Add: Outstanding 5,000
Total Wages 2,55,000 By Plant at site 12,35,000
To Plant & Machinery 15,00,000 By Work-in-Progress:
To Fuel & Power 1,25,000 Work certified 20,00,000
To Site Expenses 5,000 Work uncertified 1,00,000
To Office Expenses 12,000
To Rates & Taxes 15,000
To Notional Profit 2,43,000
Total 35,55,000 Total 35,55,000

Notional Profit Calculation:

The notional profit is the difference between the value of work certified plus the value of work uncertified, and the
total costs incurred to date.

Profit & Loss (P&L) and Reserve:

Particulars Amount (₹) Particulars Amount (₹)

To Profit & Loss A/c 72,900 By Notional Profit 2,43,000

To Reserve 1,70,100
Total 2,43,000 Total 2,43,000

Transfer to Profit and Loss Calculation:

T ransf ertoP rof itandLoss = N otionalP rof it ∗ (1/3) ∗ (CashReceived/W orkCertif ied)

= 2, 43, 000 ∗ (1/3) ∗ (18, 00, 000/20, 00, 000) = 72, 900

Example 2 (Year Ending December 31, 2011)

Scenario:

Materials: $2,40,000
Wages: $3,28,000
Plant: $40,000
Overheads: $17,200
Cash Received (80% of work certified): $4,80,000
Materials in Hand: $20,000
Plant Depreciation: 20%

Contract Account Structure:

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Particulars Amount (₹) Particulars Amount (₹)

To Materials 2,40,000 By Materials in hand 20,000

To Wages 3,28,000 By Plant at site 32,000
To Plant 40,000 By Work certified 6,00,000
To Overheads 17,200
To Notional Profit 26,800
Total 6,52,000 Total 6,52,000

Notional Profit Split:

Particulars Amount (₹) Particulars Amount (₹)

To P&L A/c 14,293 By Notional Profit 26,800

To Reserve 12,507
Total 26,800 Total 26,800

Example 3 (Year Ending June 30, 2011)

Scenario:

Materials on site: $4,20,000

Materials from stores: $81,200
Labor on site: $4,05,000
Plant hire & use: $12,100
Direct expenses: $23,000
General overheads: $37,100
Material in hand: $6,300
Wages accrued: $7,800
Direct expenses accrued: $1,600
Work not yet certified: $16,500
Amount certified: $11,00,000
Cash received: $8,80,000
Contract Value: $22,50,000

Contract Account Structure:

Particulars Amount (₹) Particulars Amount (₹)

To Materials on site 4,20,000 By Materials on hand 6,300

To Materials from stores 81,200 By Work-in-Progress:
To Labour on site 4,05,000 Work certified 11,00,000
To Plant Hire & Use 12,100 Work uncertified 16,500
To General Overheads 37,100
To Wages Accrued 7,800
To Direct Expenses 23,000
To Direct Exp. Accrued 1,600
To Notional Profit 1,35,000
Total 11,22,800 Total 11,22,800

Notional Profit Split:

Particulars Amount (₹) Particulars Amount (₹)

To P&L A/c 72,000 By Notional Profit 1,35,000

To Reserve 63,000
Total 1,35,000 Total 1,35,000

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Balance Sheet
The Balance Sheet shows the financial position of the company at a specific point in time, listing assets, liabilities, and equity.

Key Components in Contract Accounting Context:

Assets:
Land and Building
Plant in Store
Plant at Site
Furniture
Materials at Site
Cash at Bank
Work-in-Progress (Certified and Uncertified) Less Cash Received and Reserve
Liabilities:
Share Capital
Wages Outstanding

Example Balance Sheet (as of March 31, 2010)

Liabilities Amount (₹) Assets Amount (₹)

Share Capital 50,00,000 Land and Building 23,00,000

Wages Outstanding 5,000 Plant in Store 11,90,000
Profit & Loss A/c 72,900 Plant at Site 12,35,000
Furniture 60,000
Materials at Site 30,000
Cash at Bank 1,33,000
Work-in-Progress:
Certified 20,00,000
Uncertified 1,00,000
Less: Cash Received (18,00,000)
Less: Reserve (1,70,100)
Net Work-in-Progress 1,29,900
Total 50,77,900 Total 50,77,900

Working Notes
Contract Price: Total agreed amount for the contract.
Work Certified: Value of work approved by the engineer.
Work Uncertified: Cost of work completed but not yet certified. Percentage of Work Certified:

P ercentage = (W orkCertif ied/ContractP rice) ∗ 100

Profit Transfer to P&L:

The portion of notional profit that can be prudently transferred to the Profit and Loss account, based on the stage of
completion and cash received. For Example:

Misplaced &

Key Points:
Accurately track all costs (materials, labor, plant, overheads).
Differentiate between work certified and uncertified.
Prudently determine the amount of profit to be transferred to the P&L account.
Prepare the Balance Sheet to reflect the contract's impact on the company's financial position.

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By following these steps, you can effectively manage and account for contract-related financial activities.

‍Labor Costing

Labour Turnover Rate

Separation Method
Formula: LabourT urnoverRate = (N o. of workersseparated/AverageN o. of workers) ∗ 100

Where:

Average Number of Workers = (N o. of workersatthebeginning + N o. of workersattheend)/2

Replacement Method
Formula: LabourT urnoverRate = (N o. of workersreplaced/AverageN o. of workers) ∗ 100
Note: When calculating the number of workers replaced, exclude those added due to expansion schemes. For example, if
1,700 workers were engaged, including 1,500 for expansion, only 200 (1,700 - 1,500) should be considered for
replacement calculations.

Flux Method
This calculates the overall change in the workforce, considering both separations and replacements.

FIFO Method
FIFO stands for First-In, First-Out.
This inventory valuation method assumes that the first units purchased are the first ones sold.
When preparing a stores ledger account, the FIFO method requires meticulous tracking of each batch of goods.

Stores Ledger Account Example

Date Receipts Issues Balance

Qty. Rate Amt. Qty. Rate Amt. Qty. Rate Amt.

March 1 5,000 10 50,000
March 5 3,000 10 30,000 2,000 10 20,000
March 7 6,000 10.20 61,200 2,000 10 20,000
6,000 10.20 61,200
March 15 2,000 10 20,000 5,500 10.20 56,100
500 10.20 5,100
March 15 100 10.20 1,020 5,400 10.20 55,080
(Shortage)
March 16 1,000 9.15 9,150 5,400 10.20 55,080
(Return) 1,000 9.15 9,150
March 17 4,000 10.20 40,800 1,400 10.20 14,280
1,000 9.15 9,150
March 25 2,200 10.30 22,660 1,400 10.20 14,280
1,000 9.15 9,150
2,200 10.30 22,660
March 27 1,400 10.20 14,280 800 10.30 8,240
1,000 9.15 9,150
Closing 800 10.30 8,240
Stock

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Idle Time, Overtime, and Packing Materials

Idle Time
Idle time refers to the period when workers are paid but not actively engaged in production.

Overtime
Overtime is the time worked beyond the standard working hours.

Packing Materials
Packing materials are the items used to protect and contain products during storage and transportation.

Inventory Management Levels

Reorder Level
Definition:

The inventory level at which an order should be placed to replenish stock.

Formula: ReorderLevel = M aximumconsumption ∗ M aximumreorderperiod

Minimum Level
Definition:

The lowest acceptable inventory level to avoid stockouts.

Formula: M inimumLevel = Reorderlevel − (Averageconsumption ∗ Averagereorderperiod)

Maximum Level
Definition:

The highest desirable inventory level to avoid overstocking.

Formula: M aximumLevel = Reorderlevel + Reorderquantity − (M inimumconsumption ∗ M inimumreorderperiod)

Average Stock Level

Definition:

The average inventory held over a period.

Formula: AverageStockLevel = (M inimumLevel + 1/2ReorderQuantity)

AverageStockLevel = (M inimumlevel + M aximumlevel)/2

Activity Based Costing (ABC)

Explanation
Activity-Based Costing (ABC) is a costing method that assigns costs to activities based on their resource consumption and
then assigns costs to cost objects (products, services, customers) based on their activity consumption.

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Difference from Traditional Overhead Costing

Feature Activity-Based Costing (ABC) Traditional Overhead Costing

Cost Costs are assigned to activities and then to Costs are allocated to products/services using broad,
Assignment products/services based on consumption of activities. arbitrary measures like direct labor.
More accurate costing, especially for complex Less accurate, particularly when overhead costs are not
Accuracy
products/services. directly related to production volume.
Uses multiple cost drivers to allocate overhead costs Uses a single cost driver, such as direct labor hours, to
Cost Drivers
based on activities. allocate overhead costs.
Focus Focuses on activities that drive costs. Focuses on departments or cost centers.

Machine Hour Rate

Explanation
The machine hour rate is the cost of running a machine for one hour.

Computation
1. Calculate Standing Charges per Hour:
Sum up all fixed costs related to the machine (rent, lighting, insurance, supervisor's salary).
Divide the total by the estimated working hours per annum.
2. Calculate Variable Charges per Hour:
Include depreciation, repairs & maintenance, and power costs.
3. Machine Hour Rate:
Add standing charges per hour and variable charges per hour.

Computation Breakdown

Particulars Per Annum (₹) Per Hour (₹)

Standing Charges
Rent and rates for the shop 6,000
General lighting 9,000
Insurance 9,600
Supervisor's Salary 14,400
Total Standing Charges 39,000
Standing Charges per hour 19.50
Variable Charges
Depreciation 50,000 25.00
Repairs & maintenance 10,000 5.00
Power 20.00
Machine Hour Rate 69.50

Overhead Distribution Summary

Explanation
An overhead distribution summary is used to allocate indirect costs to various departments within an organization.

Computation

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Item Basis Total Production Deptt. Service Deptt.

(₹) X (₹) Y (₹) Z (₹) M (₹) S (₹)

Indirect material Given 8,500 2,400 1,800 500 3,000 800
Indirect labor Given 11,150 2,500 3,000 700 3,000 1,950
Power and light KWH 36,000 12,000 13,200 4,800 4,500 1,500
Rent and rates Area 16,800 4,800 4,800 3,600 2,400 1,200
Insurance on assets Asset value 6,000 1,500 1,800 1,200 900 600
Meal charges No. of employees 18,000 5,400 7,200 1,800 2,400 1,200
Depreciation Asset value 24,000 6,000 7,200 4,800 3,600 2,400
Total 1,20,450 34,600 39,000 17,400 19,800 9,650
Department M Direct labor hours 9,600 5,400 4,800 (19,800)
Department S No. of requisitions 3,886 3,173 2,591 (9,650)
Total (A) 1,20,450 48,086 47,573 24,791
Labor Hrs. (B) 8,000 4,500 4,000
Labor Hour Rate (A/B) 6.01 10.57 6.20

Joint Products vs. By-Products

Joint Products
Definition:

Two or more products of significant value that are produced simultaneously by a single process.

By-Products
Definition:

Products of relatively small value that are produced incidentally during the production of main products.

Cost Per Passenger Per KM

Computation
1. Standing Charges:
Sum up all fixed costs (wages, salaries, road tax, etc.).
2. Variable Charges:
Sum up all variable costs (diesel, repairs, depreciation).
3. Total Cost:
Add standing charges and variable charges.
4. Passenger KMs:
Calculate total distance covered by all buses multiplied by the actual passenger capacity.
5. Cost per passenger per km:
Divide total cost by passenger KMs.

Computation Breakdown

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Particulars Amount (₹)

Standing Charges
Wages of drivers, conductors 96,000
Salaries of Office staff 30,000
Honorarium of accountant 10,000
Road tax and insurance 64,000
Taxation insurance and other charges 80,000
Total Standing Charges 2,80,000
Variable Charges
Diesel, Oil etc. 1,60,000
Repairs and Maintenance 32,000
Depreciation 1,04,000
Total Variable Charges 2,96,000
Total Cost 5,76,000
Cost per passenger km 0.80

Reconciliation Statement

Explanation
A reconciliation statement is used to reconcile the profit as per cost records with the profits as per financial records.

Computation

Particulars Amount (₹)

Profit as per Cost Accounts 6,00,000

Add: Over-absorbed Factory overheads 1,00,000
Over-absorbed Selling and Distribution overhead 40,000
Over-valuation of closing stock in financial accounts 54,000
Total 7,94,000
Less: Under-absorbed administrative overhead 1,34,000
Goodwill written off 4,00,000
Interest paid on Capital 40,000
Profit as per financial accounts 2,20,000

Process Costing

Explanation
Process costing is a method of costing used in industries where similar products are produced continuously.

Process Account Example

Particulars Units Amt. (₹) Particulars Units Amt. (₹)

To Units introduced 10,000 1,00,000 By Normal loss 300 750

To Sundry Materials 10,000 By Abnormal loss 200 3,500
To Labour 50,000 By Transfer to Process Y 9,500 1,66,250
To Direct Expenses 10,500
Total 10,000 1,70,500 Total 10,000 1,70,500

Cost Accounting vs. Financial Accounting

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Cost Accounting
Definition:

Focuses on determining the cost of products and services.

Financial Accounting
Definition:

Focuses on preparing financial statements for external users.

Key Differences

Feature Cost Accounting Financial Accounting

Users Internal users (management) External users (investors, creditors)

Purpose Cost control, decision-making Reporting financial performance
Rules Not bound by strict rules (flexible) Follows GAAP or IFRS (standardized)
Focus Detailed cost information Summary financial information

Direct Cost vs. Indirect Cost

Direct Costs
Definition:

Costs that can be easily and directly identified with a particular cost unit.

Indirect Costs
Definition:

Costs that cannot be easily or conveniently associated with a particular cost unit or cost center.

Examples

Cost Type Examples

Direct Costs Cost of cloth in a shirt, tailor wages

Indirect Costs Salaries of general staff, rent

🗑 Material Scrap vs. Spoilage

Material Scrap
Definition:

Residual material from manufacturing processes with relatively low recovery value.

Spoilage
Definition:

Damaged or defective units that cannot be economically reworked and are discarded.

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Key Differences

Feature Material Scrap Spoilage

Value Low recovery value Little to no recovery value

Nature Residual material Damaged or defective units
Disposition Sold or reused Discarded

Perpetual vs. Periodic Inventory System

Perpetual Inventory System

Definition:

Continuously tracks inventory balances.

Periodic Inventory System

Definition:

Relies on occasional physical counts to determine inventory balances.

Key Differences

Feature Perpetual Inventory System Periodic Inventory System

Tracking Continuous tracking of inventory balances Occasional physical counts

Record-keeping More record-keeping Less record-keeping
Sophistication More sophisticated Less sophisticated

B C Analysis

Explanation
ABC analysis is an inventory categorization technique that divides inventory into three categories—"A items" with very
tight control and accurate records, "B items" with less tightly controlled and good records, and "C items" with the simplest
controls and minimal records.
A Items:
High-value items requiring tight control and accurate records.
B Items:
Medium-value items requiring less tight control and good records.
C Items:
Low-value items requiring the simplest controls and minimal records.

Economic Order Quantity (EOQ)

Explanation
EOQ is the optimal order quantity that minimizes total inventory costs (ordering costs and carrying costs).
Formula: EOQ = √((2 ∗ AnnualDemand ∗ OrderingCost)/CarryingCostperU nit)

Inclusion of Interest in Cost Accounts

When deciding whether to include interest in cost accounts, there are varying perspectives.

Arguments for Inclusion:

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When old plant and machinery are replaced with modern machinery, the interest on capital borrowed for the replacement
should be studied to accurately ascertain the result.
Advantages derived from the replacement should be compared with the interest lost on the locked-up capital.
If interest is paid, it should be included in cost accounts as expenditure incurred is considered at the time of cost
ascertainment.

Arguments Against Inclusion:

Payment of interest is a matter of finance, not directly connected with production costs.
Interest payment does not affect manufacturing cost but influences the quantum of profit.
The reward for capital is covered by profits. Interest on borrowed capital should be included, but not interest on owned
capital as a reward.
Only actual expenses are considered for total cost determination; therefore, interest not payable should not be included.
Including interest in cost accounts may inflate the value of closing stock and work-in-progress.

Machine Hour Rate Computation

Here’s an example of how to compute the machine hour rate:

Given Data:

Period: Half Yearly

Machine Type: 61 Machines

Computation:

Particulars Amount (₹)

Standing Charges:
Supervision (₹52,800 / 2) 26,400
Repairs & Maintenance (₹54,00,000 * 33% / 2) 27,000
Insurance (₹42,000 / 2) 21,000
Other factory overheads (₹75,670 / 2) 37,835
Total (A) 1,12,235
Variable Charges:
Depreciation (₹18,00,000 * 10% * 1/2) 90,000
Power and fuel (₹36,000 / 2) 18,000
Consumable stores (₹2,500 * 26 weeks * 61 machines) 78,000
Electricity (₹24,000 * 61 months) 24,000
Total (B) 2,10,000
Total Cost (A + B) 3,22,235

Machine Hour Rate Calculation:

Machine hours = 160 hrs * 61 months * 61 machines = 5,760 hrs

Machine Hour Rate = Total Production Overheads / Machine Hours

Math input error

Departmental Overhead Rates

Here's how to calculate departmental overhead rates.

Given Data:

PQ Engineering Company for the quarter ended March 31st, 2017:

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Production Dept. A Production Dept. B Production Dept. C Service Dept. X Service Dept. Y
Particulars
(₹) (₹) (₹) (₹) (₹)

Direct Wages 70,000 60,000 50,000 10,000 10,000

Direct Materials 30,000 25,000 20,000 15,000 10,000
Employees (Nos.) 200 150 150 50 50
Kilo Watt Hours 8,000 6,000 6,000 2,000 3,000
Light Points (Nos.) 10 15 15 5 5
Asset Value 5,00,000 3,00,000 2,00,000 1,00,000 1,00,000
Area Occupied (Sq.
800 600 600 200 200
yd.)

Expenses for the Quarter:

Expense Amount (₹) Basis

Stores Overheads 74,000 Direct Materials

Motive Power 15,000 KWH
Light and Electricity 2,000 Light Points
Labour Welfare 30,000 No. of Employees
Depreciation 60,000 Asset Value
Repairs & Maintenance 12,000 Asset Value
General Overheads 1,00,000 Direct Wages
Rent and Taxes 6,000 Area Occupied (Sq. yd.)

Apportionment:

Department X expenses are apportioned in the ratio of 4:3:3 to departments A, B, and C respectively.
Department Y expenses are apportioned in proportion to direct wages to departments A, B, and C respectively.

Departmental Overhead Distribution Summary:

Item Basis Total (₹) Dept. A (₹) Dept. B (₹) Dept. C (₹) Dept. X (₹) Dept. Y (₹)

Direct Materials Given 25,000 15,000

Direct Wages Given 20,000 10,000 10,000
Stores Overheads Direct Materials 4,000 1,200 1,000 800 600 400
Motive Power KWH 15,000 4,800 3,600 3,600 1,200 1,800
Light & Electricity Light Points 2,000 400 600 600 200 200
Labour Welfare No. of Employees 30,000 10,000 7,500 7,500 2,500 2,500
Depreciation Asset Value 60,000 25,000 15,000 10,000 5,000 5,000
Repairs & Maintenance Asset Value 12,000 5,000 3,000 2,000 1,000 1,000
General Overheads Direct Wages 1,00,000 35,000 30,000 25,000 5,000 5,000
Rent & Taxes Area (Sq-yd) 6,000 2,000 1,500 1,500 500 500
Total 2,74,000 83,400 62,200 51,000 41,000 36,400
Department X 4:3:3 16,400 12,300 12,300 (41,000)
Department Y 7:6:5 14,156 12,133 10,111 (36,400)
Final Total 2,74,000 1,13,956 86,633 73,411

Reconciliation Statement
A reconciliation statement reconciles the profit as per cost books with the profit as per financial books.

Example:

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Particulars Amount (₹)

Profit as per Cost Books 6,02,280

Add:
Overheads over-absorbed in Cost Books 11,360
Interest received on bank deposit 15,600
26,960
6,29,240
Less:
Income tax not included in Cost Books 1,80,000
Directors Fees 75,000
(2,55,000)
Profit as per Financial Books 3,74,240

Contract Account
A contract account is prepared to ascertain the profit or loss on a specific contract.

Example:

Contract Account for the year ending 31-12-2016

Particulars Amount (₹) Particulars Amount (₹)

To Materials sent to site 8,53,490 By Materials returned 25,490

To Labour 17,43,770 By Materials in hand 18,830
Add: Wages accrued 24,000
17,67,750 By Plant at site 1,10,000
To Plant Installed 1,50,000 By Work-in-progress:
To Direct Expenditure 2,41,260 Work Certified 19,50,000
Add: Direct Exp. Accrued 2,400 Work Uncertified 45,000
2,43,660 19,95,000
To Establishment Charges 2,31,670
To Notional Profit c/d 2,82,750
21,29,320 21,29,320
To Profit & Loss A/c 1,74,000 By Notional Profit b/d 2,82,750
To Reserve 1,08,750
2,82,750 2,82,750

Working Note:

Percentage of work certified to the contract price: (19, 50, 000/25, 00, 000) ∗ 100 = 78
Work certified lies between 50% and 90% of the value of the contract.
Transfer to Profit and Loss A/c: Math input error

Statement of Cost and Profit

A statement of cost and profit outlines the various costs incurred and the profit earned during a specific period.

Example:

Statement of Cost and Profit for the year ended 2016

Particulars Amount (₹)

Raw Material Purchased 12,00,000

Less: Closing Stock (1,50,000)
Direct Materials Consumed 10,50,000
Direct Labour Cost 6,00,000
Prime Cost 16,50,000

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Process Accounts
Process accounts track the flow of costs through different stages of production.

Process I Account

Particulars Units Amount (₹) Particulars Units Amount (₹)

To Units Introduced @ ₹30 1,000 30,000 By Normal Loss @ ₹20 50 1,000

To Direct Materials 26,000 By Transfer to Process II A/c 950 95,000
To Direct Wages 20,000 (Balancing figure)
To Prod. Overheads 20,000
1,000 96,000 1,000 96,000

Process II Account

Particulars Units Amount (₹) Particulars Units Amount (₹)

To Process II A/c 950 95,000 By Normal Loss (@ ₹40) 95 3,800

To D. Materials 19,800 By Abnormal Loss 15 3,000
To D. Wages 30,000 By Transfer to Process III A/c 840 1,68,000
To Prod. Overhead 30,000 (Balancing figure)
950 1,74,800 950 1,74,800

Abnormal loss = Units Introduced - Normal Loss Units - Output = 950 - 95 - 840 = 15 units

Value of Abnormal Loss = (1,74,800 / 950) * 15 units = ₹3,000

Process III Account

Particulars Units Amount (₹) Particulars Units Amount (₹)

To Process II A/c 840 1,68,000 By Normal Loss (126@₹50) 126 6,300

To D.1 Materials 29,620 By Transfer to Finished Stock (Bal. figure) 750 2,85,000
To D.V Wages 40,000
To Prod. Overhead 40,000
To Abnormal Gain 36 13,680
876 2,91,300 876 2,91,300

Abnormal Gain = Actual Output + Normal Loss - Units Introduced = 750 + 126 - 840 = 36 units

Value of Abnormal Gain = (2,77,620 / 840) * 36 units = ₹13,680

Normal Loss Account

Particulars Units Amount (₹) Particulars Units Amount (₹)

To Process I A/c 50 1,000 By Sales: Process I 50 1,000

To Process II A/c 95 3,800 Process I 95 3,800
To Process III A/c 126 6,300 Process III 90 4,500
By Abnormal gain transfer to Profit & Loss/Ac 36 1,800
271 11,100 271 11,100

Abnormal Loss Account

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Particulars Units Amount (₹) Particulars Units Amount (₹)

To Process II A/C 15 3,000 By Sale of scrap @ ₹40 per unit 15 600

By Costing Profit&LossAc 2,400
15 3,000 15 3,000

Abnormal Gain Account

Particulars Units Amount (₹) Particulars Units Amount (₹)

To Normal Loss @ ₹50 per unt 36 1,800 By Process III AC 36 13,680

To Costing Profit &L Loss A/c 11,880 (Shortfall n sale of scrap)
36 13,680 36 13,680

Working notes
Normal loss (5
Abnormal loss = Input - Normal loes units - Outpat
5, 000 − 250 − 4, 700 = 50uwits

Valne of Abmormal Loss = Math input error

₹Math input error

Process B Account

Particulars Units Amount (₹) Particulars Units Amount (₹)

Tol ProcessA 4,700 9875 By' Normal Loss 470 47

To' Material consumed 1,500 By Abnormal loss' 80 271
To' Wages 2,000 By: Trf.to Friished Stock 4,150 14,057
To' Manufacturing expenseses 1,000
4.700 14,375 4.700 14,375

Normal loss (10 - 4,700 x 10% = 470 wnits

Abnormal loss Input - Normal loss units - Output - 4,700- 470 - 4,150 = SO wuits

Value of Abmornal loss - (4,700 2114,375 / 470)u units/ 47) 80 units = 14,328 / 4.230 * 80 = ₹271 (Approx.)

Activity Based Costing (ABC)

Activity Based Costing (ABC) is a costing method that identifies activities in an organization and assigns the cost of
each activity to all products and services according to the actual consumption by each.

Advantages of ABC:

More accurate system for determining the cost of products.

Overcomes under-costing and over-costing issues in traditional methods.
Helps in making judicious pricing decisions.
Identifies unnecessary activities for elimination, improving efficiency.

Limitations of ABC:

Complex system, not easily understandable.

Requires specialized staff, making it costly and less affordable for small firms.
May not be applicable to some cost items, requiring the use of traditional methods.

Economic Order Quantity (EOQ)

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Economic Order Quantity (EOQ) is the order quantity that minimizes the total cost of inventory management,
including ordering and holding costs.

EOQ = √(2AB/L)

Where:

A = Annual usage
B = Buying or ordering cost
L = Carrying Cost

Example:

Annual usage (A) = 500 units * 12 months = 6,000 units

Buying cost (B) = ₹30
Carrying Cost (L) = ₹4

EOQ = √(2 ∗ 6, 000 ∗ 30/4) = √90, 000 = 300units

Number of orders per year = 6, 000units/300units = 20orders

Time lag between two orders = 365days/20orders = 18days

Transport Company Calculations

Calculations for a transport company.

Given:

Number of buses: 4
Days operated in a month: 30
Capacity of each bus: 40 passengers
Distance of route: 100 km (one way)
Round trips made by each bus: 2
Average capacity used: 80%

Calculations:

Total kilometers run = Distance covered in one trip * Trips made by each bus per day * Days operated in a month * No. of
Buses = 100 * 2 * 2 * 30 * 4 = 48,000 km
Total Passenger km = 48,000 km * 40 passengers * 80% = 15,36,000 passenger km

FIFO vs LIFO Inventory Valuation

Feature FIFO (First-In, First-Out) LIFO (Last-In, First-Out)

Issuance Materials received first are issued first. Materials received last are issued first.
Closing Stock Priced at the latest purchases. Valued at old prices.
Profit (Rising Prices) Produces higher profit. Produces lower profit.

Equivalent Production Statement

Input Output Items Units Material Qty. % Labour Qty. % Overhead Qty. %

2,000 Units Introduced Units finished 1,500 1,500 100 1,500 100
Work in progress 500 500 100 300 60
Total 2,000 2,000 1,800

Cost Statement

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Items Cost (₹) Equivalent Units Cost per unit (₹)

Material 18,000 2,000 9

Labour 9,000 1,800 5
Overhead 6,600 1,650 4
Total 18

Evaluation Statement
Particulars Amount (₹)

Finished output (1,500 units @ ₹18) 27,000

Work in progress:
Material 500 units @ ₹9 4,500
Labour 300 units @ ₹5 1,500
Overhead 150 units @ ₹4 600
Total 6,600

Process A Account
Particulars Units Amount (₹) Particulars Units Amount (₹)

To Materials 2,000 18,000 By Process B 1,500 27,000

To Labour 9,000 By Transfer to WIP 500 6,600
To Manufacturing Overheads 6,600
2,000 33,600 2,000 33,600

Costing Profit & Loss Account

Particulars Amount (₹) Particulars Amount (₹)

To Direct Materials 2,80,000 By: Sales 7,00,000

To Direct Wages 1,00,000 By Net Loss 4,22,000
Prime Cost 3,80,000
To Factory overheads @ 20% 76,000
4,56,000
Less: Work in progress 80,000
Factory Cost 3,76,000
To Administration overheads 4,80,000
Cost of Production 8,56,000
Less: Closing stock of Finished Goods 2,14,000
Cost of Goods Sold 6,42,000
To: Seling overheads (1,20.000x₹4) 4,80,000
11.22.000 11.22,000

Reconciliation Statement

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Particulars Amount (₹)

Net Loss as per Cost Account 4,22,000

Add. Factory overhead under-absorbed in Cost Accounts 2(3,80,000 - 76,000) 3,04,000
Closing: slock difference in value 2(2,14,000 - 1.20.000) 94,000
Bad debts not: showni in Costing PI & LAc 20,000
Preliminary expenses not: shown in Costing PÉ &LAC 10,000
Legal charges not shown nn Costing P &1 LAC 5,000
4,33,000
8,55,000
Less: Over charging of Materials nn costing P & LAI 2(2,80,000 - 2,50,000) 30,000
Administration oh over-absorbed nn financial PELAC 2(4,80,000 - 2.50,000) 2,30,000
Dividend income not: showni in Costing P&LAC 50,000
Interest received not: showni in Costing P&LAC 10,000
(3,20,000)
Net Loss as per Financial Accounts 5,35,000

Labour Turnover ‍
Labour turnover is the rate at which employees leave an organization and are replaced.

Causes of Labour Turnover:

1. Avoidable Causes:
Remuneration: Dissatisfaction with salary and wages
Working Conditions: Poor physical environment, lack of safety measures
Relationship with Supervisors: Conflicts, lack of support
Job Security: Temporary jobs and uncertainty about future employment.
Career Opportunities: Lack of promotion, training, and growth prospects.
2. Unavoidable Causes:
Personal Reasons: Family responsibilities, health issues
Retirement: Normal aging and end of career
Relocation: Moving to a new area
Death: End of employment due to mortality

Methods of Measuring Labour Turnover:

1. Separation Method:
Turnover Rate = (Number of Separations / Average Number of Employees) * 100
2. Replacement Method:
Turnover Rate = (Number of Replacements / Average Number of Employees) * 100
3. Flux Method:
Turnover Rate = [(Number of Separations + Number of Replacements) / Average Number of Employees] * 100

Operating Cost Sheet for Transportation

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Particulars Per Annum (₹) Per km (₹)

Standing Charges:
Insurance (₹50,000 x 6%) 3,000
Taxes 2,000
Garage Rent (₹100 X 12) 1,200
Repairs 2,000
Driver's Salary 3,000
Conductor's Salary 1,800
Stationery 600
Manager's Salary (₹400x12) 4,800
Total 18,400
Standing Charges perr month (₹18,400 + 12) 1.533.33
Variable Charges:
Depreciation ₹50,000 ₹833.33
Oi and Diesel 3000km ₹750.00
Total Cost pm. 3116.66 or:₹3117
Proft (13 of cost or: 25% on takings) 1039
Takings 4,156
Charge per round trips 255.41
Charge or bus fair per passenger ₹1.38

Idle Time
Idle time refers to the period when workers are paid for their time, but no productive work is being done.

Causes of Idle Time:

1. Productive Causes:

Machine breakdown
Power failures## Cost System Advantages

A cost system helps management accurately determine the value of inventory and cost of goods sold. Some advantages include:

Revealing unprofitable activities, losses, or inefficiencies (e.g., inadequate plant utilization, manpower wastage)
Enabling cost reduction programs with operational research and value analysis
Distinguishing between profitable and unprofitable activities to take corrective measures
Providing accurate cost data for price fixation and adjustments
Furnishing data and information for financial decisions like make-or-buy
Facilitating optimum efficiency via standard costing and budgetary control
Supplying figures for government use in price fixation, wage levels, etc.
Offering data for cost control and comparisons across periods/units
Calculating the cost of idle capacity
Preventing fraud and ensuring correct cost data through cost audits
Aiding inventory control and periodical profit/loss preparation with perpetual inventory systems

Classification of Costs
Cost data collection is the start of costing. Collected cost figures should be classified based on their intended use. Costs can be
classified as follows:

According to Identifiability
Costs can be classified as direct or indirect.

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Direct Costs: Costs easily identified with cost units or cost centers.
Example: A carpenter's wages for a specific piece of furniture.
Indirect Costs: Costs not easily identified with specific units of output.
Example: Rent, light, and power costs.

According to Elements
Cost elements typically include material, labor, and expenses.

These can be further divided into direct and indirect.

Direct Materials/Direct Labor/Direct Expenses (Direct Costs): Costs directly identified with a cost unit.
Example: Cloth cost in a shirt or tailor's stitching charges.
Indirect Materials/Indirect Labor/Indirect Expenses (Indirect Costs): Costs not easily associated with cost units,
general in nature.

According to Variability
Costs can be classified as fixed, variable, and semi-variable.

Fixed Costs: Remain constant within a certain output range but vary beyond that limit.
Cost per unit changes with output level, but total cost remains constant.
Variable Costs: Change in total with output volume.
Cost per unit remains constant.
Semi-variable Costs: Contain both fixed and variable components.

Classification into Product Costs and Period Costs

Product Costs: Included in the cost of the product, consisting of direct material, direct labor, and factory overheads.
Changes with the level of output.
Period Costs: Change with time and have no relation to production volume.
Charged to the Profit & Loss Account of the period.
Under Marginal Costing, fixed costs are period costs.

According to Functions
Costs classified based on functions include:

Production/Manufacturing costs
Administration costs
Selling and distribution costs
Research and development costs

Materials, labor, expenses (direct and indirect), and primary packing form Factory or Production costs. Office salaries, rent,
postage, and depreciation are "Office overheads". Advertising, bad debts, and salesmen's salaries are part of "Selling overheads".
Packing, warehouse rent, and delivery wages are "Distribution overheads".

According to Controllability
Costs are either controllable or non-controllable, based on influence by a member of an undertaking.

Controllable Costs: Influenced by a specified member of an undertaking; within management's control.

Direct costs are generally controllable by lower management.
Uncontrollable Costs: Not influenced by a specified member of an undertaking; not within management's control.
Fixed costs are mostly uncontrollable (e.g., rent, managerial salaries).

Cost Calculation Example and Analysis

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Here's an example problem involving cost calculations with and without a discount, followed by an analysis to determine
whether to avail the discount.

Problem: A manager has the following data for procuring a particular item:

Annual demand: 1,000 units

Ordering cost: $7,800 per order
Inventory carrying cost: 40% per unit
Cost per unit: $260
A supplier offers a 10% discount if the order size is at least 350 units.

Solution:

Factor Without Discount With Discount

Price/Cost per unit $260 $234 (10% discount)

Carrying Cost @ 40% $104 $93.60
EOQ 258 units 350 units (Given)
Number of Orders 4 3
Ordering Cost $31,200 $23,400
Carrying Cost $13,432 $16,380
Total Cost $304,632 $273,780

Calculations:

Without Discount:

EOQ (Economic Order Quantity): $$ \sqrt{\frac{2 \cdot 1000 \cdot 7800}{260 \cdot 0.4}} = 258 $ units
Number of Orders: 1000

258
= 4

Ordering Cost: 4 ⋅ 7800 = 31, 200

Carrying Cost: 258 ⋅ 104 = 13, 432
Total Cost: (1000 ⋅ 260) + 31, 200 + 13, 432 = 304, 632

With Discount:

Number of Orders: 1000

350
= 3

Ordering Cost: 3 ⋅ 7800 = 23, 400

Carrying Cost: 350 ⋅ 93.60 = 16, 380
Total Cost: (1000 ⋅ 234) + 23, 400 + 16, 380 = 273, 780

Decision: With the 10% discount, the total cost is 273, 780, whichislessthanthecostwithoutthediscount(304,632). Therefore, the
discount should be availed.

Methods of Keeping Workers' Attendance

Methods of recording worker attendance include:

1. Attendance Register: Manual register for employees to sign in and out, noting time.
Simple and inexpensive but less suitable for large organizations.
2. Metal Disk Method: Numbered tokens for workers to place in a box upon arrival.
Attendance is marked based on tokens in the box.
3. Time Clocks: Workers use time cards to punch in and out.
4. New Digital Machines: Record entry and exit using thumb-impression and retina recognition.

Control of Idle Time

To control idle time:

Supervise workers and record idle time separately for each department.
Investigate controllable causes of idle time.
Review imbalances in production.
Ensure timely availability of raw materials and tools.

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Management should consider:

Proper production planning.

Timely delivery of tools and raw materials.
Tight supervision to prevent wasted time.

Allocation, Apportionment, and Absorption of Overhead

Allocation: Assigning costs directly to a specific department or cost center.

Apportionment: Dividing costs among different departments or cost centers on a reasonable basis.

Absorption: Recovering overhead costs by including them in the cost of units produced.

Example of Financial Accounts and Costing Records Reconciliation

Problem:

PS Ltd. has the following figures extracted from its Financial Accounts for the year ending March 31, 2019:

Sales (20,000 units): $5,000,000

Materials: $2,000,000
Wages: $1,000,000
Factory Overheads: $900,000
Administrative Overheads: $520,000
Selling and Distribution Overheads: $360,000
Finished goods (120 units): $300,000
Closing Work-in-Progress:
Material: $60,000
Labor: $40,000
Factory Overheads: $40,000

PS Ltd. paid income tax of 50, 000andinterestoncapitalof 40,000, while it had written off Goodwill of $200,000. In the costing
records:

Factory overheads are charged at 100% of wages.

Administrative overheads are at 10% of factory cost.
Selling and distribution overheads are at $20 per unit sold.

Solution:

Statement of Cost and Profit for the year ending 31-03-2019

Particulars Amount (₹)

Direct Materials 2,000,000

Direct Wages 1,000,000
Prime Cost 3,000,000
Factory Overheads (100% of wages) 1,000,000
4,000,000
Less: Closing Work-in-Progress (140,000)
Factory Cost 3,860,000
Add: Administrative Overheads (10% of Factory Cost) 386,000
Cost of Production 4,246,000
Less: Closing stock of Finished goods (246,000)
Cost of Goods Sold 4,000,000
Add: Selling and Distribution Expenses (20,000 units x ₹20) 400,000
Total Cost 4,400,000
Profit (Balancing Figure) 600,000
Sales 5,000,000

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Profit & Loss Account for the year ending 31-03-2019

Particulars Amount (₹) Particulars Amount (₹)

To Direct Materials 2,000,000 By Sales 5,000,000

To Direct Wages 1,000,000 By WIP
To Factory Overheads 900,000 Material 60,000
To Administrative Overheads 520,000 Labour 40,000
To Selling and Distribution Overheads 360,000 Fixed Overheads 40,000
To Interest on Capital 40,000 By Finished Stock 300,000
To Goodwill written off 200,000
To Income Tax 50,000
To Net Profit 370,000
5,440,000 5,440,000

Reconciliation Statement

Particulars Amount (₹)

Profit as per Cost Accounts 600,000

Add:
Factory Overheads Overabsorbed 100,000
Selling and Distribution Overheads Overabsorbed 40,000
Over-valuation of Closing Stock in Financial Accounts 54,000
194,000
794,000
Less:
Administrative Overheads Underabsorbed 134,000
Income Tax paid 50,000
Interest on Capital 40,000
Goodwill written off 200,000
(424,000)
Profit as per Financial Accounts 370,000

Operating Costing
Example:

Kashi Bus Services Ltd. runs 5 buses on a 40 km long route. The buses make 3 round trips per day, carrying 80% of their seating
capacity on average. Each bus has a seating capacity of 40 passengers and runs on average for 25 days a month. Diesel costs
₹65 per liter, and each bus runs 6 km per liter. Additional information for the year 2019-20 is given below:

Cost of each bus: ₹4,500,000

Annual depreciation: 15% of cost
Annual insurance: 3% of cost
Garage rent: ₹40,000 per month
Annual repairs: ₹82,500 per bus
Salaries of 5 drivers: ₹13,000 each per month
Wages of 5 conductors: ₹9,000 each per month
Manager's salary: ₹50,000 per month
Road tax per bus: ₹5,000 for a quarter
Office expenses: ₹20,000 per month

Solution:

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Operating Particulars Total (₹)

Depreciation 3,375,000
Garage rent 480,000
Repairs 412,500
Salaries of drivers 780,000
Wages of conductors 540,000
Manager's salary 600,000
Road tax 100,000
Office expenses 240,000
Insurance 675,000
Total Cost 7,202,500
Cost per bus per month 120,022
Diesel (₹65) 300,000 km
Total Cost per month per bus 185,042
Cost per passenger km 0.9638
Profit (25% of cost) 0.2409
Bus fare per passenger km 1.2047

Contract Accounting
Example:

A company undertook a contract for the construction of a building. The construction work commenced on April 1, 2019, and the
following data is available for the year ended March 31, 2020:

Contract price: $3,500,000

Work Certified: $2,000,000
Cash received: $1,500,000
Materials issued: $750,000
Planning and Estimating Cost: $100,000
Direct Wages paid: $400,000
Material returned from site: $25,000
Plant Hire Charges: $175,000
Sundry Expenses: $50,000
Site Office Costs: $67,800
Head Office Expenses apportioned: $37,500
Direct Expenses incurred: $90,200
Work Not Certified: $14,900

The contractor owns a plant that originally cost

200, 000andhasbeencontinuouslyinuseonthiscontractthroughouttheyear. T heresidualvalueof theplantaf ter5yearsof lif eis

50,000. On March 31, 2020, direct wages were payable at 27, 000, andthematerialatthesitewasestimatedat20,000.

Solution:

Contract Account for the year ending 31-03-2020

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Particulars Amount (₹) Particulars Amount (₹)

To Materials 725,000 By Materials at Site 20,000

To Wages 400,000 By WIP
Add: Wage Accrued 27,000 Work Certified 2,000,000
427,000 Work Uncertified 14,900
To Direct Expenses 90,200
To Planning and Estimating cost 100,000
To Plant Hire Charges 175,000
To Sundry Expenses 50,000
To Site Office Costs 67,800
To Head Office Expenses 37,500
To Plant Depreciation 30,000
To Notional Profit c/d 332,400
2,034,900 2,034,900
To Profit & Loss Account 166,200 By Notional Profit b/d 332,400
To Reserve 166,200
332,400 332,400

Balance Sheet (An extract)

Liabilities Amount (₹) Assets Amount (₹)

Wages Accrued 27,000 Work Certified 2,000,000

Add: Work Uncertified 14,900
2,014,900
Less: Cash received 1,500,000
Less: Reserve 166,200
348,700
Materials at site 20,000
Plant 170,000

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