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BIEE Cost Accounting Theory - CA –PCC biee@sify.

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1. Define cost object and give three examples

Cost object is defined as “Anything for which a separate measurement of cost is desired”. The
term cost object and cost objective is synonymous. Cost object may refer to a process, a cost centre,
and cost units.

Cost unit is a quantitative unit of product or service in relation to which cost are ascertained.

Cost centre is a location, function or item of equipment in respect of which cost are

2. Define cost accumulation and cost assignment

Cost accumulation refers to the process of collecting cost data through an accounting system.
Usually costs are collected under general ledger accounting headings, which follow natural
classifications, such as materials, labour, power, electricity, fuel etc.

Cost assignment is a general term used to cover 1. Tracing of costs to cost objects, 2.
Apportionment of costs to cost objects, and 3. Application of costs to cost objects often termed as cost

3. Define Cost apportionment and Cost absorption.

Cost apportionment is “The allotment to two or more cost centres of proportions of the
common items of cost on the estimated basis of benefit received.”

Cost Absorption is a method of assigning cost to cost units. Cost which cannot be allocated
to cost units are assigned to them on some equitable basis. Normally it shall be assigned at a
predetermined basis like machine hour rate, labour cost etc.

4. How the cost is classified?

The costs are classified according to the basis of relationship to the production unit as direct
cost and indirect cost. The cost incurred direct in manufacture of a product in respect of each and
every unit is called direct costs. These include direct material cost; direct labour cost and direct
chargeable expenses. The expenses that are normally incurred to a production centres irrespective of
production are called indirect costs. These include indirect materials, indirect labour and other indirect

Based on the variability of the costs they are classified as fixed costs, Variable cost and semi-
variable cost. The expenses, which are constant for a particular period or for a particular level of
productivity, are fixed costs. These costs have no-direct relationship to the actual production and
incurred irrespective of actual production. Semi-variable costs include an element, which is directly
proportionate to the production, and other element, which has no relation to the production. Normally
these expenses assumes the function y = a+bx or y= a + bx + cx2.

Based on the financial accounting principle these can be classified as capital costs or revenue
cost. Capital cost is those expenses that result in increase in productivity. E.g. purchase of machinery.
The cost incurred in producing or aids in such production are the revenue costs. E.g. Materials, rent,
power, electricity etc.

5. Define the term cost driver.
A cost driver is a factor, which influences the cost of a cost object. It is often used to describe
the factors, events of forces that are the significant determinants of the cost object. For example, cost
of issuing materials is determined by the number of times materials being issued to production cost
centres and also by the size of the and the weights of materials. Similarly the cost of operating the

BIEE, No 58 1st floor North Mada Street, Nungambakkam, Chennai 34 98415-

BIEE Cost Accounting Theory - CA –PCC 2
purchases department is determined by the variety of materials being used and also the number of
purchased orders being issued.
6. What do you mean by step costs?

Step costs are those which increase in steps. These costs remain constant over various levels
of small ranges of output. These cost increase by discrete amounts as activity moves from one range to
next. Example: the amount of depreciation will remain constant till 100% productivity is achieved and
will increase considerably where the output increases above 100%.

7. Define notional cost.

Notional cost is one, which is not actually incurred but ascertained and allocated on some
basis. For example the rent for one premise can be charged which is not actually incurred but
ascertained based on actual rental value etc. These costs will not result in outflow of cash.

8. Define imputed cost, sunk cost and relevant cost.

Imputed cost – It is a historical cost and does not involve actual cash outlay, and, as a
consequence does not appear in the financial records. Imputed cost is similar to the notional cost and is
considered only in cost accounts in ascertaining the cost of a product.

Sunk cost – It represents historical cost which is irrecoverable in a given situation. For
example, while considering the replacement of asset the capital loss or depreciated book value of the
existing asset may not be taken into account on the ground that this portion of the cost having been
already incurred in the past and has no relevance to the present decision.

Relevant cost – Costs appropriate to aiding the making of specific management decisions are
called relevant cost. These are expected future costs that will differ under alternatives. Future variable
costs generally become relevant in a decision context while fixed costs may be irrelevant if they do not
change in total. However the fixed cost will also be relevant if there is a change in value immediately or
in future.

9. Define controllable cost and policy cost.

Controllable cost- costs which can be influenced by the action of an individual enterprise with
in a given time of span. But few costs are clearly under the influence of one person in any organisation
and few items of cost are susceptible to control at all levels. Another major aspect in controllability is
the time factor. With enough time virtually all cost are controllable by somebody or by some means in
an organisation.

Policy cost- the costs incurred as a result of policy decisions is called policy cost. For
example, purchase of assets will create a charge for depreciation.

10. What are the essentials of a good costing system?

An ideal system of cost accounting must posses some characteristics, which will bring the
advantages to the business. He main features of an ideal costing system are:

a. Simplicity - It must be simple, flexible and adaptable to the changing conditions. The
information must be provided in proper order, at the right time and to the right persons so as to be
utilised fully.

b. Flexibility and adaptability – The costing system must be flexible to adjust to the changing
conditions and circumstances. The expansion, contraction or changes must be adopted in the existing
system with minimum changes.

BIEE, No 58 1st floor North Mada Street, Nungambakkam, Chennai 34 98415-

BIEE Cost Accounting Theory - CA –PCC 3
c. Economy – The costing system must suit the availability of finance. The expenditure must
be less than the benefits derived from the system adopted.

d. Comparability – The management must be able to compare the facts and figures with past
figures, figures of other concerns or other departments of the same concern.

e. Suitability to the firms – Before accepting a costing system, the nature, requirements, size,
conditions of business etc. must be carefully studied. The system must be capable of prompt and
accurate reporting to different levels of management according to their requirements.

f. Minimum change in the existing set up – When introducing a costing system, it must
cause minimum disturbance to the existing system of business.

g. Uniformity of forms- Forms of different colours can be used to distinguish them forms must
be uniform in size and quality. Forms should contain instructions to fill, to use and for disposal.

h. Less clerical work – Printed forms will involve less labour to fill in, as the workers may be a
little educated.

i. Effective material control and wage system – There must be a proper procedure for
recording the time spent on different jobs, by workers for the purpose of payment of wages. A
systematic method of wage system will help in control of labour cost. Since the cost of materials forms
a greater part of the total cost there must be an efficient system of stores control.

j. Sound plan – There must be proper and sound plan to collect, allocate and absorption of
overhead expenses on each job or each product in order to find out the cost accurately.

k. Reconciliation – The system of costing and financial accounting must facilitate reconciliation
in an easy manner.

l. Overall efficiency of cost accountant – The work of the cost accountant under a good
system of costing must be clearly defined as his duties and responsibilities to the firm are very essential

11. You have been asked to design a system of cost accounting in a factory. Describe the
various points that should be considered before you design a system. (Installation of a costing

It is very difficult to prepare a uniform method of cost applicable to each and every kind of
industry. The basic principles are fairly definite, but practical application varies from industry to industry
because of the basic nature of industries. The installation of a costing system requires careful
consideration of the following:

a. Objectives of a costing system – The expectation of the management from the costing
system should be carefully understood for a smooth adoption of costing system. One must decide the
objectives to be achieved. The system must suit the general nature of the business. The system must
be well understood to the management and the personnel.

b. Product and the business – The nature of the product and business determines the
method of costing system to be adopted. E.g. Engineering industries adopt job costing, chemical
industries process or batch costing, etc. Some industries may require more labour than more materials;
many industries may require more materials than labour, etc. Hence the cost components of the
products are to be analysed into its various constituents and their relative importance must be studied

c. The organisation – When a new system of costing is introduced, the existing organisational
set up has to be modified. There should be minimum dislocation of existing set up. The size of the
organisation, levels of management, authority of each executive, sources of cost information, the
reports to be sent to various managerial authorities, etc. should be studied carefully. The whole

BIEE, No 58 1st floor North Mada Street, Nungambakkam, Chennai 34 98415-

classification of operating expenses. What do you mean by cost centre and what are its subdivisions? A cost centre is a location. factory layout. Instead of rapid introduction. storekeeper. Elasticity and economy – The system to be adopted must be capable of being flexible and adaptive to the changing circumstances. Standardisation – The forms to be used must be standardised so that clerical work can be reduced to the minimum. i. What do you mean by ‘cost control’ and ‘cost Reduction’. Communication – Emphasis should be put on the system of communication. preparation of charts. Distinguish between them. reconciliation of cost with financial accounts. Taking up corrective measures to eliminate variances. Nungambakkam. Cost control can be secured through: a. The personal cost centre – It consists of a person or group of persons. Technical aspects – A careful study of manufacturing operations and process. coding systems of material. 4 organisation must be geared to have full co-ordination and control and of course without overlapping and overlooking all functions. Analysing the differences with reasons. Chennai 34 98415- 37255 . labour control. person or item of equipment or group of these for which cost may be ascertained and used for the purpose of control. preparation of cost reports to managerial levels for making decisions are the general problems to be dealt with. by costs of operating an undertaking”. Finding out differences of actual against standards. Otherwise significance of the costing system will be lost and expensive. In certain cases the cost unit and cost centre may be the same. These will enable to remove inefficiencies of labour. sales manager and others may be accumulated. f. wastage of materials. budgetary control. Cost control plays its part at the discretion of the management. report making and reaching the appropriate levels of management. should be simple and guidelines may be provided whenever necessary. d. Each cost centre is given charge under a personnel for controlling the cost. 12. Accounting system – Determination of unit of cost. c. The cost centre may be a department or a machine or a plant or a salesman or a particular work. Only then the system will be successful. the forms to be used etc. The personnel should be convinced about the system and their co-operation is ensured. Process cost centre.BIEE Cost Accounting Theory . The system should not be complicated and expensive. No 58 1st floor North Mada Street. b. Regularity. e. stores accounting system. It aims at improving performance efficiency to achieve the target. gradual introduction of the cost system will reap the desired goal. who wish to maintain the cost within a specific limit. b. A good system of communication will render the communication process attainable the objective. d. g. transmission. 13. The method of filling.Cost data and costing information must reach the person concerned regularly and promptly. are of immense significance. Impersonal cost centre – It consists of a location or items of equipment. developing the measures of inventory control. system of wage payment. material control. Setting up standards for expenses and production. accumulation of cost and its allocation. The cost accumulated by each of these categories of department is a production or a service. The sub divisions of cost centre are: a.It consists of a specific process or a continuous sequence of operations. Cost control is defined as “The guidance and regulation by executive action. Care should be taken that the utility be more than the cost paid. When all these are adopted in an existing industry the personnel may give raise to problems because of the fact that the existing inefficiencies may be brought to light. cost like salary of works manager. c. etc.CA –PCC biee@sify. A proper system must be drawn to ensure complete and reliable cost information in the field of collection. BIEE. h. which can be considered as a cost centre. etc.

The amount of such expenditure will be very less when compared to the direct expenses charged to production.g. Marginal costing – Marginal costing is a method of costing in which the allocation of expenditure to production is restricted to those expenses which arise as a result of production. Single or output costing. manufacturing process etc. It is concerned with reduction program. marginal costing. f. It is a preventive function It is a corrective function. a. Terminal costing – terminal costing is also called as contract costing and is used by an undertaking which carries substantial contract the completion of which generally takes more than a year. Multiple costing – It is a system adopted in a business producing a variety of products each of which differs from the others as to material. e.g. Nungambakkam. g. Marginal costing is useful in manufacturing industries with various levels of output. product mix etc. d. Textile industries. Operating costing f. This type of costing is useful in taking important policy decisions such as price fixing during competition. BIEE. Aims at maintaining the cost in accordance It aims at reducing cost with standard cost 2. cost can be reduced on account of saving in cost. hospitals. Process costing – Process costing is designed to show the cost of each process through which raw materials pass through in their conversion into saleable products. c. a more precise scientific method of allocation of such expenditure is not needed. Batch costing and Standard costing. the principle characteristic of multiple costing is that a separate method of costing may be employed in respect of each article.CA –PCC biee@sify. E. Under this method a major part of the expenditure is charged direct to contracts and only the office expenses need to be allocated. The function is static. single or output costing – This costing system is applied where a single product is manufactured. petrol. power generation etc. b. List out various methods of costing and explain their practical applications.Operating costing is a system of costing applicable to industries in which end product is service. e. Seeks to attain the lowest possible cost Brings profit by challenging under existing conditions through research standard . A costing per unit of product is ascertained for a product in respect of a period. e.g. Operating costing. Transport 5 Cost reduction is concerned with reducing costs. the system is also applicable to utility services such as canteen. The function is dynamic. E. c. Brick-making b. Fixed overheads are not allocated on the ground that frequently the apportionment to cost centres or jobs cannot be made on any scientific basis. It strives to achieve permanent reduction which starts where cost control ends. This system is applied where the plants are laid out in process layout.g. 14. Job costing. E. Chennai 34 98415- 37255 . The following are the various methods of costing. distribution services such as supply of electricity. a. Distinction between cost control and cost reduction s.BIEE Cost Accounting Theory . Multiple costing. No 58 1st floor North Mada Street. e. Construction of building. 3. It requires no allocation of overheads between products. make or buy decisions. d. gas etc. Process costing. 4. This system of differentiates between fixed costs and variable costs. Emphasis is on the past and present Emphasis is on the present and future cost control cost reduction 1. Terminal costing. which is a continuous process.

No 58 1st floor North Mada Street. It implies the use by several undertakings of the same costing systems i. The best example adopting this system is pharmaceuticals. i. Chennai 34 98415- 37255 . viz.CA –PCC biee@sify. The main objective of this type of costing is to determine profit or loss for each job. work order or project separately. Differences in degree of mechanisation. Analysis of variances and taking the appropriate action where necessary. producing similar products. machine tool manufacturing units etc. d. Batch 6 g. It is a set of principles and in some cases of accounting methods. The possibility of production in more than one way and e. or b. h. When an undertaking controls a number of factories firms etc. differences in attitude of management. thus involves: i. Job costing – Job order costing or specific order costing means ascertainment of cost of each job. a. c. Comparison of standard costs and actual costs to develop variances. Manufacturing concerns adopting this method are printing press. Application of uniform costing – Uniform costing may be applied in two different circumstances.BIEE Cost Accounting Theory . Causes of differences in cost – Costs differ between firms or factories of the same undertaking or members of an industry or Trade Association because of a. Before accepting a job an estimation of cost is made. ii. the same basic costing methods. Nungambakkam. Differences between costing principles and procedures adopted by different units. biscuits and other confectioneries. Standard costing. and iv. i. BIEE. will result in obtaining all cost figures by the individual members of the industry on a comparable basis. Difference in size. Define uniform costing and when can it be applied? what are the causes for differences in cost? Uniform costing is not a separate method of costing.e. It is built up from an assessment of the values of cost elements and correlates technical specifications and quantification of various elements of cost to the prices and rates expected to apply during the period in which the standard cost is intended to be used. When a number of firms or business are members of a Trade Association. Non-manufacturing units such as general engineering work shops. principles and techniques. Ascertainment and use of standard cost.batch costing is a system of costing where the production facilities are arranged in such a way that a particular batch of production is carried out. b. automobile repair shops etc. performing similar operations.This system is a pre-determination of how must costs be incurred under certain specific conditions. which when incorporated in the accounting systems of individual members of an industry. 15. Measurement of actual costs. iii. This system is best adopted where the products manufactured cannot be manufactured as one piece and the cost also cannot be allocable per piece. Standard costing. It is adopted by many undertakings both manufacturing and non-manufacturing concerns.

Quality cost – Cost of quality can be classified into two i. External failure costs which occur when defects are detected after shipment. 7 MAERIALS 1. Chennai 34 98415- 37255 . c. decentralised purchasing? Advantages of centralised purchasing – a. 2. Nungambakkam. provides full liberty to the plant manager and thus avoids problems in co-ordination and dilution of responsibility. insurance. and d. receiving supplies and placing the same in stores.BIEE Cost Accounting Theory . following up with suppliers for early delivery. Explain the various types of costs involved in connection with materials management? There are five types of cost.g. To maintain stores in a tidy manner. 4. e. transportation. practices and procedures. Opportunity cost in this context refers to contribution from alternative use of fund. Internal failure costs which arise when defects are detected before shipment of the product to the customers. carrying cost . Develops expert purchase staffs. stock-out cost and quality cost. What are the advantages of a. which are relevant for materials management. Provides better negotiating Power and consequently ensures better prices. 4. Advantages of de-centralised purchasing – a. 3. e. ordering cost.g. No 58 1st floor North Mada Street. 3. b. customer dissatisfaction and loss of sales. 3. iv. Ensures uniformity in purchasing policies. 1. the cost of vendor development. cost of replacing the products. They are purchase cost. In case of MODVAT credit (Central Excise Law) is available. What are the objectives and functions of purchase department? The most important objective of purchasing department is to ensure continuity of supplies at the lowest cost commensurate with acceptable standards of quality and delivery. d . Cuts down unnecessary paper work. 5. centralised purchasing. ii. e. terms and conditions. issue and balance of each BIEE. b. What are the responsibilities of a storekeeper ? The responsibilities of a storekeeper are: i. rent and rates and losses due to obsolescence. To prevent entry of unauthorised persons.g. c.CA –PCC biee@sify. e. right type of material in the right quantity. at the right time and right place. storage cost. it results in higher cost involved in crash procurement. It is the responsibility of purchase department to procure. cost of defective parts. which the firm has foregone by investing the same in stock. . Prevention costs which are incurred to avoid the purchase of sub-quality of material. and b. insurance and transportation cost. Helps standardisation and substitution. 2. preparing purchase order.Stock-out cost (Shortage cost). and e. avoids duplication of errors. the same is deducted from the price paid to the supplier. To maintain up-to-date records of receipts.Purchase cost – Purchase cost consists of price paid to suppliers and all expenses for bringing the materials to stores including freight.. expenses on handling. Helps to develop local vendors and develop a personal touch with the vendors.g.. less efficient and uneconomic production schedule.When stock falls short of demand. and at the right price and to provide the materials. inspection cost.. Helps purchase department staff to familiarise with the materials which are in use.Carrying cost – This includes opportunity cost of funds locked up in stock. Appraisal costs which are incurred to detect sub-quality material. 2.Ordering cost – This includes expenses incurred on requisitioning.

Bin card – This refers to a card which shows quantitative details of receipt. Following is the proforma of a goods received note. 5. To accept materials after proper verification of documents.This is an authorisation to the store keeper to issue materials. Material Return Note – This note is an authorisation to return the materials issued in excess of the requirement or the material being defective. Goods Received Note Supplier Serial No. Store keeper must ensure that material requisition is signed by an authorised official and that the columns are filled in properly and legibly as any mistake will result in wrong accounting of material issued. The material requisition note should be pre numbered. 8 item of material. the quantities accepted and the quantities rejected. This card also shows the maximum level. This should clearly specify the job for which materials are required and the department which gets the materials issued. The receiving section retains one copy. The note is serially numbered and prepared in multiple copies. Descriptio Code Quantity Packages Gross weight n Inspection report Received by Quantity passed Rejected Remarks Required and accepted by Inspector……………………. Date 6. otherwise the cost would be accounted for wrongly: c. . Write notes on various documents used in stores.. minimum level and reordering level of material and thus helps the storekeeper to control material. 7. Goods received note is prepared by the receiving section. 5. This document should be prepared correctly. d. Write a note on ‘ Goods received note’. 6. Material Transfer note – This document is used to record the transfer of materials from one department to another department or job to another. It inspects the goods and enters in appropriate columns in the note. BIEE. To issue materials against ‘Material requisition note’ signed by an authorised official only and after checking the material requisition with ‘Bill of materials’. To periodically reconcile bin-card balance with physical balances. 4. b. which forms the basis of entries in the stores ledger. Currior Purchase order No.CA –PCC biee@sify. This is used as user’s acknowledgement for receipts of materials and forms the basis for material accounting. X&Y Ltd. Goods along with three copies of goods received note be passed on to the Inspection department. It is also pre numbered and be prepared to avoid wrong accounting. he must not allow to stock to be left at the bottom of the bin and deteriorate. issue and balance. The other copy is forwarded to the accounts department and the inspection department retain the third copy.BIEE Cost Accounting Theory . a. Goods are passed on to the stores along with one copy of duly endorsed goods received note. Following is the proforma of material requisition note.e. Chennai 34 98415- 37255 . Material Requisition Note . No 58 1st floor North Mada Street. Date of delivery Advice note No. To ensure good turnover of stock i. Entries are made immediately on receipt or issue of materials. This is known as Bin card as the cards are usually kept attached to the bins in which materials are kept.

. Bin No. In this form additional columns are provided to enter details of materials in pipeline. Bin no…. Department Date shop S. Stores Dept. Quantity Rate Value Remarks n Authorised by Stores Ledger Folio…. Receiving department. Date: Number Description Code No. Received by : Depot. date Descriptio Code No. No 58 1st floor North Mada Street. Store Material Control Record – Production planning and control department also maintains quantitative record of materials. Nungambakkam.. Material Return note Serial No Issuing department. Quantity Rate Value Remarks n Transferred by: Dept. These are kept in loose-leaf forms similar to bin cards.CA –PCC biee@sify. Store keeper………. Quantity Rate Value Remarks Transferred by: Dept.. Chennai 34 98415- 37255 .com 9 X& Y Ltd. Serial No.BIEE Cost Accounting Theory . Cost office reference e. Material Requisition note Job No. Cost office reference X& Y Descriptio Code No. BIEE. Cost office reference X& Y Ltd.. Material Teransfer note Issuing department Serial No..

7. the firm protects itself from any stock out situation by providing for the maximum usage and maximum lead-time. Emergent purchase actions are taken if stock falls below this level. Availability of funds. . 2. Stock normally touches this level immediately on receipt of the fresh lot. If it is assumed that the stock out cost is prohibitive. Re. Stock level is normally not allowed to fall below this level. 7. stock level Re-order level Minimum level Danger level period c. Maximum level and d. No 58 1st floor North Mada Street. As an authorisation to Production department for drawing materials. It is used for the following purposes: 1.consumption X min. Maximum level. Re-order level – This is the level at which storekeeper initiates purchase requisition for fresh supplies of materials. process or service. As an additional check by the accounts department for material control. Stock levels Quantity Max. Nungambakkam. which is considered as ‘ buffer stock’ for using during emergency. Stock will fall below minimum level if consumption exceeds the normal consumption or re-order period exceeds the normal re-order period or both of these happen. Bill of Materials – Bill of material is a comprehensive list of all materials required for a particular job. Storage facilities available. If stock falls below this level extra effort have to be taken to expedite the supply. Government restrictions on import procurements. stock does not reach Zero level.maximum level is that level above which no stock is allowed to rise. Carrying cost.order level. BIEE. The factors need to be considered in fixing this limit are: 1. For costly or bulky materials the maximum level is generally low. ROL = Max. In stores control there are four critical quantities: a.BIEE Cost Accounting Theory . Minimum level . This will happen only minimum usage is occurred and delivery is received in the minimum re-order period . In engineering industry this document is issued by the Designs department and in other industries by Production planning department. danger level. Economy in prices. Forecasted future movements of prices. 2. 3. It shows the exact specifications of materials and quantity required against each item. b. 5. Define these levels and what factors should be considered in determining them? 10 f. As an advance information to all concerned. The maximum level is fixed as follows Maximum Level = ROL + Re-order quantity – (Min. 3.Re-order period) d. re order period X Maximum usage. l. Danger level – This level is fixed somewhere below the minimum level. This level is a control Indicator. This level takes into account the maximum usage and unexpected delay in receiving such supplies. 6. Minimum level – This represents that level which the stock of a particular material will touch just before receipt of the fresh lot provided the same is received in normal re-order period and under normal usage. b. Chennai 34 98415- 37255 . Fall in stock level below the minimum level will indicate potential danger leading to stock-out position. The level is such that even with maximum usage during lead time and with unusual delay . Nature and properties of materials. c.CA –PCC biee@sify. 4.

For example. 3. It is also called as Re-ordering Quantity. on the basis of the value of different materials. if 100 kg. Re-order period. Input-output ratio is the ratio of raw materials put in production and the output derived. therefore. This can also be ascertained by comparing the standard cost of actual output and standard cost of standard output as :Standard cost of actual output/standard cost of standard output.High BIEE. a. A low ratio indicates that locking up of working capital in undesirable stock. Inventory turnover ratio . 7. 2. Inventory turnover = Cost of materials used / Average value of stock. items are grouped into three categories: 1. Chennai 34 98415- 37255 . 5. Ordering cost is constant irrespective of the size of the order. 9. Storage space available. Demand and purchase order lead time is known with certainty. Explain the system of a. 4. Material turnover in days = Days during the period / Inventory turnover ratio. Risk of obsolescence .com 11 8. 2. Carrying cost and ordering cost. ABC analysis and b. ABC Analysis. What are its determinants? Economic Ordering Quantity (EOQ) is the quantity to be ordered when the stock reaches the minimum level. Define Economic ordering Quantity. Availability of resources. 8. 10. 4. Explain a. Two-bin system. It is the ratio of the value of materials consumed during a period to the average value of inventory during the period. It is the quantity when it is added to minimum stock shall not exceed maximum stick level. 9. As such. No 58 1st floor North Mada Street.BIEE Cost Accounting Theory . Quantity discount and 10. EOQ can be calculated by using the formula: EOQ = √ 2AO / C Where A = Annual consumption. Nature of materials . O = Ordering cost per order and C = Cost of carrying per unit The main factors to be considered while deciding reorder quantity are as follows: 1. Seasonal conditions as to the availability and price. Inventory turnover ratio a. It enables in determining whether the usage of materials is favourable or adverse.This analysis is also known as Proportional Parts Value Analysis. Under this method (Always Better Control) efficient control of store is required to give more care on costlier items. A high ratio is an indicator of fast moving stock. It is the ratio which is useful to measure the performance of inventory. the input-output ratio is 100/80 =1.CA –PCC biee@sify. The cost of stock out is prohibitively high and therefore stock is replenished before a stock-out occurs. b. 6. Risk of price fluctuations. Of material is put in process and the final product contained is 80 kgs. cost per unit is irrelevant in determining EOQ. Input-output ratio and b.25 or 125%. AC Cost CC CO EOQ Quantity 3. The ratio is calculated as follows. It focuses on trading off between ordering cost and cost of carrying and is based on the following assumptions: 1. Nungambakkam. Cost per unit is unaffected by order size and. Consumption pattern . The comparison actual and standard facilitates to ascertain the performance of the firm and to decide about the favourable or adverse usage of materials.

Under this system. 2. Ageing schedule of inventories as on Dec. Ageing schedule of inventories and d. In cases where materials are not kept in the bins.The two bin system of inventory controls has many variations of the basic procedure. The materials that have moderate value and represented by proportionate stock compared to its value are grouped under ‘B’. Y items fall in between these two extremes. 11. Saving the time of management. The other bin contains quantity to cover normal usage during re-order period plus ‘Safety stock’. Nungambakkam. Items of category X need greater attention as compared to items of Y items. No 58 1st floor North Mada Street. as attention is given to high value materials. The following is an example: Stock item % of total items % of value A 10 70 B 20 20 C 70 10 ABC analysis facilitates 1. On the other hand. For these category of materials. b. 4. Medium priced materials (B). facilitates easy handling. Following is an example. which are costly and form a small part of total inventory. depending upon their requirements.) Percentage to the classification(days) total BIEE. for each item two bins are 12 priced material (A) . Low priced materials (C). X items are those whose inventory value is high while z items are those inventory the value of which is less. Desirable spare parts are those which are readily available in the market and hence the firm need not keep in stock such items except to provide for the lead time. The system is simple and in addition to being helpful in inventory control. physical counting and control of the materials. high price has to be paid and the number of items is small.This analysis is of the nature of ABC analysis and it is generally used in case of spare parts. Development of scientific inventory control. Vital spare parts are kept in stock in sufficient quantity to ensure uninterrupted operation of the plant. VED analysis. c. They are vital because their non-availability at the required time may cause stoppage in production. certain materials do not require much investment but occupies a higher proportion of physical quantity are grouped and marked ‘C’. b. But the firm may take reasonable risk with regard to these parts. It is different from ABC analysis which is based on value of materials consumed and VED analysis which is based on relative importance of inventory in stock. One of the two bins contains enough stock for usage during the period between receipt of the fresh supply of the materials to the date of placing the next order. Essential(E) and Desirable(D). Greater degree of care should be taken in storing and in the use of such items marked ‘A’. XYZ analysis . Explain the systems: a. can be grouped under A. 2. VED analysis.31 Age Date of purchase Amount (Rs. Kartex system a. Similarly items of category Y are given greater importance as compared to items of category Z while taking inventory. There should be sufficient arrangement for replenishment of these stock at short notice. 3. Closer control on the basis of investment. XYZ analysis—This analysis based on the value of stock. Based on the date of purchase on which the inventories are purchased they will be chronologically entered and the value of stock purchased during a period will be represented as a percentage on the total stock holding. b. The parts are classified into three categories – Vital(V).BIEE Cost Accounting Theory . Ageing schedule of inventories – Classification of the inventories according to age helps in identifying inventories which are moving slowly into production or sales. Two bin system. The materials. c. Purchase requisition is issued immediately when the bin is tapped. Essential spare parts are also kept in stock in adequate quantities. Chennai 34 98415- 37255 . two separate piles are made for each material. Ensures minimum cost.CA –PCC biee@sify. 3.

date and discourage committing fraud. The system serves as a morale check on the stores staff. Colour signals may also be developed in this card to show different this system. Periodic inventory system . This is done by an independent internal audit staff who compares the physical quantity with the quantities shown in the bin card and the store ledger. The cards may contain columns like stores ledger for both quantity and value of materials . Perpetual inventory system. Adoption of continuous stock taking. 5. BIEE. The cost of material used is obtained by adding the total value of inventory in hand in the beginning to the total value of purchases made during the period and subtracting the value of inventory at the end of period. is detected at an early stage and suitable steps can be taken to prevent its recurrence. Advantages of perpetual inventory system – 1. Perpetual inventory system. 1. Chennai 34 98415- 37255 .000 15 Total 40. The system has the following advantages. This system thus provides a rigid control over stock of materials as physical stock can regularly be verified with the stock records kept in the stores and the cost office. while 15% is older than 60 days. it is possible that more than 50% inventories to suffer deterioration in its value or may even become obsolete. 1. which reflects the physical movement of stocks and their current balance. They keep the stores record up-to. It is a method of recording stores balances after every receipt and issue. The system does not provide the information regarding the quantity and value of materials in hand on a continuous basis. In case of destruction of stock by fire. Interim financial accounts can be prepared with greater convenience because the long and costly work of actual stock taking is avoided. In this system a card is maintained for each item of materials. In case steps are not taken to clear the inventories. the system helps in satisfactorily settling the insurance claim as correct stock figures can be readily be obtained. theft and wastage. Bin cards provide quantitative perpetual inventory while stores ledger provides quantitative-cum-value of the inventory. Maintenance of both bin cards as well as stores ledger on perpetual inventory system. It does not require a shut down of business operations. Periodic inventory system and 2. 3. The cards used in this system are generally of the size 21cm X 5cm or 28cm X13cm.000 100 The above table shows that 50% of the inventories are of age group of 40 to 60 days.This system is called as automatic inventory system. quantity and value of inventory is found out only at the end of the accounting period after having a physical verification.BIEE Cost Accounting Theory . Kartex system. to facilitate regular checking and to obviate closing down for stock taking. Timely replenishment of stock is facilitated as the management may be informed daily of the number of units and the value of each kind of material on hand. No 58 1st floor North Mada Street.issues and balance. Write about various systems of inventory systems. d.This technique is of recent origin.000 5 46-60 Nov10 20.000 10 31-45 Nov26 2. 12. Over investment in stock can be avoided because quantity and value of materials in stock is always known. especially manufactured for the purpose. The cards are arranged in a metallic tray and kept in Kartex cabinet. There are two types of inventory systems. 6. It serves as a moral check on the stores staff as they keep their records up-to-date at all times in anticipation of the unexpected arrival of the audit staff. Loss of stock due to pilferage or obsolescence etc. The basic objectives of this system is to make available details about the quantity and value of stock of each item at all times. I t is a system of records maintained by the controlling department.000 50 61 and above Oct25 6. Under this method no accounting is made done for losses..000 20 16 –30 Dec11 13 0 -15 Dec 16 8. 2. Continuous stock-taking -An essential part of perpetual inventory system is continuous physical stock verification. Nungambakkam.CA –PCC biee@sify. 2. receipts . This tends to eliminate delays and shutdown in plant activities. 1. 2. 4. Perpetual inventory system requires: 1.

6. viz. Standard forms. for small purchases the departmental heads should be given the necessary authority in order to avoid delay.proper inventory records have to be kept in the as well as the costing office to have effective control of materials. 10. It is therefore necessary that the organisation follows an appropriate system of internal control for prevention of fraud in purchase. should be used. Effective MIS-The organisation should have an effective management information system regarding materials in order to ensure continuous flow of information about the position of materials to the concerned managerial personnel. Of course. etc. 7.. which gives the information regarding both quantity and value of materials on a continuing basis. etc. re-ordering and danger levels of each materials should be fixed in order to ensure that neither there is a shortage nor there is excess of materials in the store. Proper scheduling – The material requirements should be properly scheduled. 14. Similarly. racks. Classification and codification – There should be proper classification and codification of materials to avoid delay in locating them and convenience in accounting. BIEE. 8. No 58 1st floor North Mada Street. purchasing. Inspection – In order to prevent and check purchasing of sub-standard materials. 5. order or process. 3. moving. 11.Maximum. the economic ordering quantity should be fixed up in respect of each materials to have maximum economy in purchasing of materials. Effective internal control. issue of materials. 13. The adoption of a suitable method for pricing the materials issue is all the more important since it affects the cost of a job. Co-ordination – There has to be a proper co-ordination between the various departments concerned with material control.Properinventory records. inspection. Levels of materials. 14. 1.All materials purchases should be centralised. Centralised purchasing. Proper storage – There should be proper arrangement for storage of materials with adequate shelves. This will facilitate movement and accounting of materials. Valuation of materials. receiving. Enumerate and explain the main bases used in cost accounting for pricing materials issued to jobs. packaging. pilferage or deterioration of materials. safeguards followed by effective supervision 9.. material requisitions. Proper issue procedure -Materials should be issued in a manner that every job or process gets the right time. issue or storage of materials.Both in –coming and out-going materials should be properly valued. 12. This will greatly facilitate if the organisation follows perpetual inventory system.CA –PCC biee@sify. it is necessary to have a proper inspection of materials at appropriate time intervals.standard forms of purchase orders. minimum. This will result in making bulk purchases at competitive purchases and skilled purchasing. 4. Scheduling involves a wide range of activities Viz. receiving. Chennai 34 98415- 37255 . transfer of materials. what are the essentials of material control policy? The following are the essentials of a materials control policy. storing and issuing of materials. storage and accounts 14 13..BIEE Cost Accounting Theory . 2. Nungambakkam.materials constitute a significant part of the total cost of the product. Stock-taking – Physical stock-taking should be done from time to time.

This method is advantageous in a time of rising prices as it ensures that production is charged at the price of the latest purchase and hence the stock of material is carried forward at a mere conservative value. The quantity in excess of this base stock may be valued either on LIFO or FIFO basis. It tends to prevent the overstatement of profits. 4. This method is better than market price method under which every time when materials are issued. In short. Disadvantages – when price fluctuate. 2. 5. The system is a logical system. Calculations under this method are complicated and therefore the method is not widely used. issues are at the latest price at which the company has been committed even though materials have not yet been physically received. Highest in first out – Under this method materials of highest price are issued first. Since the system operates in conjunction with FIFO or LIFO method.. old stocks are issued first and latest arrivals will be issued later. materials are issued in the order in which they are received in the stores. There is better matching of cost and revenue. This system is good for slow moving materials. 2. This stock is always valued at a price at which the first lot of materials is received. 1. materials purchased at highest price will be first issued. Closing value of materials will reflect the current market prices. materials charged with higher price of earlier materials. No 58 1st floor North Mada Street. Where the materials can be identified with a particular purchase. the closing stock of materials will always reflect the current prices. According to this method the closing stock will be of the minimum price or as low as possible. This stock will not be issued until emergency arises. Market price . a minimum quantity of stock is always kept in stores. The method may be used in case of materials. 6. their market price will have to be ascertained. A fixed minimum stock of the material is always maintained and is known as ‘safety’ or ‘base’ stock. irrespective of the order of purchase.BIEE Cost Accounting Theory . Deterioration and obsolescence can be avoided. Nungambakkam. which are not much in demand. 2. 4. This method is simple and easy to operate. the quotations are less competitive. 2.e. 4. and hence only a minimum stock is kept and simultaneously a new order is placed for the quantity issued. Where materials issued cannot be identified with a particular purchase. It involves considerable clerical work. Actual cost – The method ensures that each job is charged with the actual cost of materials used in it. This system is not acceptable to income tax authorities.The method attempts to value material issues at an actual price which is as near as possible to the market price. it can be charged to the production either at actual cost or market price. Advantages. The value of inventory on a particular date is ascertained by deducting the cost of material issued from the total value of materials in stock. 3. the advantages and disadvantages relating to those methods are equally applicable to this method also. it can be charged in different methods . Stock of materials shown in the Balance Sheet will not reflect market prices. Last in first out – In this method materials received last by the stores will be issued first. Chennai 34 98415- 37255 . In other words. 4.CA –PCC biee@sify. 5. In other words. 2.1. calculation becomes complicated. It facilitates complete recovery of material cost. Under this method the issues are made at the next price. The following are the methods in which it can be charged. Complicated calculations will invite clerical errors. 5.First in first out – Under this system. It is most suitable when prices are rising. When prices are falling. Under fluctuating prices . the price of materials which has been ordered but not yet received. Next in first out . In case of this method materials will be issued at price at which a new order has been placed and this price will continue for all future issues till a next order is placed. When materials are returned to stores. Material cost represents current price. i. b.This method whereby materials are charged to a job at the prices ruling at the time of issue is appropriate where it is desired to disclose results of good or bad buying. 3. Base stock method – In almost all concerns.1. Due to variation in prices comparison of cost of similar jobs is non-comparable. It is suitable where materials are specially purchased for a particular job. when the BIEE. this method gives better results. 3. The materials received first will be issued first. 3. they are treated as new purchases. As a result of this system. Disadvantages : 1. Advantages . for the purpose of next 15 a. 3.

It suffers from the same disadvantages as in simple average price method. Under such circumstances. Nungambakkam. The average price is calculated by adding the prices at which different consignments were purchased during the period (excluding the price of opening stock) and dividing the same of these prices by the number of prices taken into consideration for calculation of average price. Weighted average price method. therefore. Standard price method . The issues are valued at the average price so calculated. The average price is calculated by dividing the total value of materials purchased during the period by the total quantity purchased during the same period.CA –PCC biee@sify. issues had been BIEE. Simple average method-Under this method the price is calculated by dividing the total of unit prices of different purchase lots that are in stock by the number of such prices included in the total.BIEE Cost Accounting Theory . Under this system on account of approximations being used while calculating the average price a profit or loss on issue of materials may be incurred. It does not charge actual cost of materials to production and. It also reduces the number of calculations to be made s the old average price will continue till fresh supply of material is obtained. materials purchased at the next higher price are issued. 6. There are two standards such as basic standard price which remains unaltered or for a longer period. The simple average price method is very easy to operate. The method is simple to operate and more representative than the simple average price 16 whole lot of the highest price is exhausted. 11. future trend of the prices and all others matters concerned with materials. the cost of the issue of materials will neither be at cost price nor at market price. The price calculated under this method is more representative as it takes into account the quantities purchased and the amount paid for each consignment over a number of periods.This is a method of valuing the issues at a pre-determined price of the materials taking into account the quantity purchased. No 58 1st floor North Mada Street. This method throws considerable burden on clerical staff at the end of the year. This pricing method is suitable where there are seasonal fluctuations in prices and the monthly purchase do not vary much. Moving simple average price method – The moving simple average price is the average of the periodic simple average prices for a given number of periods. Moving weighted average price method . Periodic weighted average price method – This method is similar to the weighted average price method with an advantage that average price is not calculated at the time of every new receipt of materials but only periodically. The method is more scientific than the periodic simple average method and more simpler than the weighted average method. The work of pricing materials issued is done only at the end of the period and only the quantity of material issued be entered in the stores ledger at the time of issue. The method is more scientific than the simple average method. It gives satisfactory results in cases when the prices of purchases do not show marked fluctuations. Unit prices of the latest consignment also is taken. The period for which the material issues are to be valued will be the last period. The average price to be charged to issues will continue to be the same till a new purchase is made which will necessitate computation of a new average. 8. 12. Under this method. 10. the other being current standard price which is related to current market conditions over a shorter period. 7. except that tedious clerical work at the end of the period in calculating the issue rates. The method is also unscientific as it does not take into account the quantity of materials purchased at different prices. This method is suitable for cost plus contracts. Periodic simple average method. a profit or loss may arise because of this type of valuation.Under this method materials issues for a period are valued at a price which is the average of the periodic weighted average prices of a given number of periods. market conditions. The method suffers from various disadvantages. 9. The value of opening stock and its quantity be ignored because it was purchased during the previous period.Under this method the issue price is calculated by dividing the value of materials in hand by the number of units in hand. Chennai 34 98415- 37255 . In this method also since actual cost is not charged to production it may result in some profit of loss on issue of materials. Clerical work is also considerably increased because the average price will have to be calculated on the occasion of each issue.The method is similar to the simple average price method with the advantage that average price is calculated periodically and not at the time of each issue.

1. materials issued are valued at a price at which they can be replaced. Nungambakkam.. The standard does not recognise this method and requires that only Rs.000 4..1.000. The price so calculated and charged to materials is called inflated price. After the issue.300 5. The standard recognises ‘FIFO’ and ‘weighted average cost methods’ for pricing material issues. the price is to be inflated to cover the expenses and losses. the closing stock is adjusted to the net value.000 C 4.800 be taken as stock value for balance sheet purpose. Comparison of the job becomes easy. Materials cost can be fixed in advance.000 being the historical cost of the inventory. will be shown in the balance sheet as the value of inventory. usage etc.300 19. It is not easy to know the latest prices. 2. forwarding. fixed in advance.800 3. etc.20. 2. less cost of completion and cost necessarily to be incurred in order to make the sale. If the ‘LIFO’ or ‘base stock’ method is used the fact should be disclosed as required under this standard.BIEE Cost Accounting Theory .000 4. For example. ‘Specific identification’ method should be used for items that are not ordinarily interchangeable. etc. The difference is known as ‘variance’ and it indicates the efficiency of purchases.000 D 6. Purchase of materials have been made at the actual price and issue prices. BIEE.000 TOTAL 20.000 5.800 B 5. 19. 4. loss of weight etc. freight.000 6.B. Latest prices are reflected in charging the production in respect of materials. are there. what are the salient features of ‘International Accounting Standard –2 (IAS-) ? The following are the salient features of IAS-2.CA –PCC biee@sify. Therefore when issues are made. Comparison between jobs in respect of material cost is possible. preservation. The ‘Standard cost’ method may be used if the result consistently approximates the result that would be obtained in accordance with (3) above. issuing. 3. Chennai 34 98415- 37255 . In other words. deterioration in quality. Cost of production varies with the market trends. 3. 2. 17 made at standard price.storing. should be charged at the rate prevalent in the market.000 4. Control over purchases is possible. 4. 1.200 6. Then after additional expenses.20. advantages .. Disadvantages. Net realisable value is the actual or estimated selling price in the ordinary course of business. one is able to understand that the seller charges the cost of materials and expenses like packing. there are four groups A. inventories should be valued at the lower of the historical cost and the net realisable cost. No 58 1st floor North Mada Street. 2. 5. There arises a difference between the actual cost of the materials and standard cost of the materials. It is simple to work. 13.000 20.C and D with the following particulars: If aggregate of historical cost is compared with aggregate net realisable value Rs. at the standard price. Profit or loss may arise because of rise and fall in prices of raw materials. Historical and net realisable values should be compared for each item of the inventory separately or for each group of similar items separately. there may be unavoidable losses like evaporation. will be shown as the historical cost of the inventory. shrinkage. 4. Apart from this . Advantages – 1. the value of Rs. Difference in value arises and needs adjustment. 15.800 4. In cost records. GROUP HISTORICAL COST REALISABLE VALUE FOR (Rs) VALUE(Rs) BALANCE SHEET(Rs) A 5. Market price method – This is based on the principle that materials issued to any job on a particular day. Inflated price – When purchases are made looking at invoices.

The production line is run on a demand pull basis. The term JIT refers to producing only what is needed. Product cost.Normal quantities of materials and supplies held for incorporating in the production of goods should not be written down below historical cost if the finished goods in which they will be incorporated are expected to be realised at or above historical cost. rework accounting and so forth. 4. In a JIT environment: 1. 3. material transfer notes. Overheads other than production overheads should be included in the value of finished goods or work flexible production whilst minimising manufacturing waste and stock levels. JIT production is defined as “A system which is driven by demand for finished products. Chennai 34 98415- 37255 . waste or re-work. The advocates of JIT purchasing argue that firms following conventional purchasing policy overestimate ordering cost and underestimate holding cost of production and just. The production line is stopped if parts are absent or defective work is discovered. Fixed cost are to be allocated on the basis of normal level of production.e. i. Write a note on Just-In-Time (JIT) production and JIT purchasing. whereby each component on a production line is produced only when needed for the next stage. No 58 1st floor North Mada Street. All the above provide tremendous cost advantage to firms adopting JIT production. Just. If historical cost of finished product exceeds the net realisable value. such materials and supplies should be written down below cost. Set-up time and manufacturing lead time are minimised. space and worker’s time. Estimation of non-value added activities. 2. The focus is on eliminating the root causes of defect. parts move through production system based on end unit demand. 16. to allow rapid. Batch size of one.time purchasing demands working in close co-operation with vendors.. Usually firms work with a few vendors and develop a kind of partnership with them. there is no need for an elaborate cost accounting system of stores requisition. JIT goes hand in hand with ‘total quality’. Nungambakkam. only if they clearly relate to putting those goods in their present location and condition. Thus. A 100% on time delivery service. b. –PCC biee@sify. Zero inventory. More specifically JIT seeks to achieve the following goals. Absence of large amount of materials and work-in-progress inventory enables to control inventory through personal observation. replacement cost may be available measure of the net realisable value of those materials. The following are the key features of JIT production. It is a management philosophy which aims at eliminating waste from every aspect of manufacturing and its related activities. high quality. The shift from the policy of placing individual purchase orders up to entering into long term contracts makes it possible for suppliers to be paid either monthly or per batch delivered rather than against each 18 6. 7. the cost of manufactured inventories is to be determined on absorption costing principle.” Thus waste is any resource used in excess of the minimum amount required to add value to the product. In absence of buffer stock emphasis is placed on ‘doing the job right the first time’. Thus the responsibility for checking quality and quantity is placed on vendors. 2. so that activity of each work station is authorised by the demand of downstream work stations. Demand-led production may require manufacturing small quantities of the product and producing small batches is economical only if set up time are small. JIT is defined as “A technique for the organisation of work-flows. work-in-progress constitutes. which are absolutely required to add value to the product.BIEE Cost Accounting Theory . 1. 1. 3. c. focusing on maintaining a constant flow of parts rather than batches of WIP.” JIT philosophy aims at reducing waste. materials.” (CIMA official terminology) There are two aspects to JIT – just.progress . a lower percentage of total cost of production. In that case. which is defined by Fujio Cho of Toyota as “any thing other than the minimum amount of equipment. The BIEE. Firms enter into long term contracts with them and make them aware of the premium placed for on time delivery of high quality goods in the exact quantity required.

Administrative scrap.5 kg. 5. etc. the difference of 0. 4. Legitimate scrap – this type of scrap is unavoidable. Defective scrap. shrinkage or breaking the bulk. Wastage is a complete loss. It is the incidental residue from a certain method of manufacture. aided integrated system for production and material planning. Should a firm adopt JIT purchasing depends on reduction in cost of quality.This type of scrap arises because of administrative defects. Such synchronisation requires no stock be purchased in large and kept in stores. i. 17. keeping proper records of scrap and fixing proper responsibility. Scrap occurs because of: 1. poor workmanship. but when the output is only say9. Normal waste is unavoidable and generally uncontrollable. the value of scrap may be debited to scrap account and credited to material account or factory overheads account. turning. Wastages occur on account of pilferage. 3. For example. How is it treated in cost accounts?. fire. Operating cost has come down significantly for firms. Accounting treatment – 1. Unconditional or inadequate machines and tools .com 19 argument seems to be correct if cost of quality ( the normal wastage. having no value to be recovered. cost of idle capacity arising due to defective materials ). scrap cost.. expediting cost. These scrap materials may be sold away or reused. 1. Nungambakkam. No 58 1st floor North Mada Street. These losses in almost all the cases are pre-determined or anticipated. Defective inspection system. BIEE. for example. unsuited machines and equipment etc. If it is too large. boring etc. Example of scrap are: metal from stamping operations. All these costs are to be treated as derived holding cost. It may happen as a result of evaporation. Faulty planning process. In a JIT environment. cost of early delivery.g. Distinguish between normal and abnormal wastage. cost of idle capacity) and cost of early delivery (e. which are using computer. All these cost be compared with premium payable to suppliers (by way of increase in cost of quality products for just in time supply). inferior quality of materials.CA –PCC biee@sify.. Considering the nature of materials and type of operations. It is a portion of the raw materials left behind at the time of processing or operation that has no reuse value.BIEE Cost Accounting Theory . theft. The realised value be credited to scrap account Control of scrap may be made effective through setting up standard. incremental carrying cost) are considered. Normal waste is that which is unavoidable and is bound to arise because of the nature of materials.. through a careful study. How is it treated in cost accounts.normal waste and abnormal waste. Define ‘wastage’. Raw materials of low quality. ICMA (London) defines it as: ‘it is discarded material having some value which is usually either disposed of with or without further treatment. filing. cost of delayed delivery. The value of normal wastage be borne by the balance of the products. Scrap are of three types.. Firms using JIT purchasing have reported significant saving in cost. and ordering costs.of material .g. cost of returning defective materials.g. contribution of lost sales. The waste is of two types. rework cost. Wastage is different from scrap. Such losses will be transferred to costing profit and loss account. left after completion of manufacturing operations. EOQ model has lost its relevance because the focus is on synchronising delivery and usage. 2. scrap arising from obsolescence design. Wastage is ‘that portion of basic raw material lost in processing. the realised value is credited to profit and loss account. cost of delayed delivery (e. Define scrap. Scrap is the incidental residue from certain types of manufacture usually of small quantity and low value recoverable without further processing. Such losses are bound to arise.. this loss cannot be part of manufacturing cost. 2. Abnormal waste is avoidable and controllable. the amount of normal loss can be determined. a manufacturing operation needs 10 kg . Chennai 34 98415- 37255 . careless handling. other than reclamation and handling or is introduced into the production process in the place of raw materials’. 2.5 kg . When the value of the scrap is negligible. 18. Poor manufacturing methods. recoverable without further processing. Such type of scrap is treated as abnormal and be transferred to costing profit and loss account. 3.This is because of inferior quality of machine or bad workmanship. etc. inspection cost of incoming materials.e.

If it is abnormal the amount of such spoilage be debited to costing profit and loss account. 3. If the rectification work is not identifiable.BIEE Cost Accounting Theory . Absence of standardisation. How are they treated in cost accounting. How is it treated in cost accounts. Poor manufacturing conditions. 20. The loss on account of obsolescence can be minimised by recourse to the following steps. No report from store keeper. If the cost of rectification is due to abnormal reasons. Define defectives. If possible. Poor workmanship. Lapse of time. Defectives are that portion of a product which in the process of manufacture developed some imperfection and which can be rectified at an extra cost of operating on it. spoilage occurs when goods so damaged in the course of manufacturing process. 2. Accounting treatment. 3. tools and equipment. Wrong setting of tools. it must be made known to all the people concerned. A separate register for obsolete materials be kept. xxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxx BIEE. Chennai 34 98415- 37255 . Faulty design of products. 6. But the spoiled work cannot be reconditioned and the spoiled products be sold at scrap or seconds or third grade products. 5. Such faulty units may be capable of rectification. which are no longer required for production due to change of fashion. Lack of co-operation between production department and purchase department. It is also of two kinds. 21. 1. Poor quality of raw materials. The store keeper should send reports of slow moving items.normal and abnormal. 2. No 58 1st floor North Mada Street. Management failure.1. and they may be so corrected that the cost of doing so is more than the loss in value from allowing the fault to remain uncorrected. etc. 4. 7. Unsound working conditions. and are not able to be pushed through sales. 3. If the scrap is of no value. etc. The cost of rectification 20 19. be discarded. Defective work must be distinguished from spoiled work. 5. 2. Defectives arise because of: 1. the cost be charged to factory overheads. modifications may be done to create demand. Improper maintenance of machines. 3. what are obsolete materials and how such losses can be minimised? Obsolete materials are those. ICMA defines spoilage as ‘units of output which fail to reach the required standard quality and specifications. change of design. the article may be sold as sub-standard if it still functioning sound. Lack of supervision. It happens because of . When it is uneconomic to rectify the fault. Define spoilage. 10. Nungambakkam. Whenever there is a change in design. technology.6. Defectives are the imperfections which by further processing be rectified and attains saleable value. 2. otherwise it may be disposed of as scrap. If it is a normal spoilage the cost of it is borne by the balance of the products.. The obsolete materials may be substituted to other productions. it is to be transferred to costing profit and loss account. 1. 4. if identified. Generally spoilage is irreparable or un-rectifiable. 8. 9.CA –PCC biee@sify. can be charged to the particular job or product.

Constant endeavour to improve productivity and efficiency through improvement in the methods of remuneration. Correct time keeping . Labour is different from other factors of production in the sense that it is not subject to any technical limitations. Examples of indirect labour cost are wages paid to supervisors. ICMA defines indirect wages as ‘cost other than direct wages cost’. at the same time indirect labour helps the direct labour in accomplishing their goal. In view of present labour laws. 2. ‘the cost of remuneration for employee’s efforts and skills is applied directly to a product or a saleable service. conversion of indirect labour into direct labour etc. thus creating closeness to production. Chennai 34 98415- 37255 .com 21 LABOUR COST 1. No 58 1st floor North Mada Street. on the other hand. Indirect labour. operations and production orders or jobs. composition or condition of the product is known as ‘Direct labour’. labour cost is a committed cost than discretionary cost. Labour productivity significantly influence cost per unit. recording of the total actual time spent in the factory. Importance of labour cost control – Labour cost requires constant measurement. 3. inspectors. 4. the direct labour cost forms part of prime cost and indirect wages becomes the part of overheads. According to ICMA ‘Direct labour cost is that cost which can be identified with and allocated to cost centres or cost units’. engaged in other than production of goods and services. Which are the various departments involved in labour cost control? BIEE. 2. Labour is now a days no more a variable overhead based on production. cleaners etc.. Time booking – i. control and analysis because: 1. It varies directly with production.e.BIEE Cost Accounting Theory .. in -turn the product finds no place in the market or fetches less price and less profits and a time arises when the factory has to be shut down. Generation of adequate and effective manpower performance reports indicating productivity and efficiency of labour.CA –PCC biee@sify. watchmen. i. timekeepers. Again . Therefore indirect labour cost is the amount of wages paid to workmen. 5. Engaging unfit persons in the factory results in poor output at high cost of production. Improvement of labour productivity results in the reduction of fixed overheads per unit. Labour cost per unit is also reduced if increase in wages is proportionately less than the increase in output. cannot be conveniently identified with cost unit or cost centre. repairers. 3. Nungambakkam. Labour cost control deserves special attention in those organisations where labour cost forms a significant portion of the total product cost. Distinguish between direct labour and in-direct labour. It represents human contribution to production. analysis of time in terms of departments. 3. which restrict productivity. 2. The direct labour cost can easily be identified and allocated to cost units. Therefore management takes measures for effective control on the labour. Accounting and control of labour cost requires: 1. What is meant by control of labour cost control? What are the objectives and importance of labour cost control? The control of labour cost is very important.’ The labour spent in altering the construction. 4.e. foremen. Strict control on labour requirements.

e. 6. 2. Work study includes method study. It charges jobs. preparation of pay rolls and maintenance of records. determine a standard task for every worker. The fixation of standard can be done by a careful analysis of job called ‘Work-study’. 5. 4. It is also responsible for management of human resources including training and development of personnel. motion study and time study. Under scientific management through a careful study. To optimise use of manpower. 3. Work study helps to increase productivity through standardisation and simplification of work. 2. processes or departments with the relevant cost as evidenced by various factory documents. It is an analysis of work processes and work methods to improve productivity. 5. job analysis etc. thereby improving production flow. 2. Motion study – Motion study is a systematic and critical analysis of the movements of men and machines involved in the performance of a job so as to eliminate wasteful and unnecessary movements. process or in a department. 4. time and motion studies. Describe the tools under scientific management in control of labour. supervision of all the production activities. ill directed and inefficient motions. 2. and better arrangement of work place and tools. Method study helps to improve productivity by 1. It is costly and time consuming. equipment. According to Frank Gilbreth ‘motion study is the science of eliminating wastefulness resulting from using unnecessary. 4. To standardise work processes. It helps in planning the operations in a scientific manner. To eliminate wasteful and inefficient motions. 4. It is likely to be misunderstood by workers and may put strain worker-management relationship. The limitations are: 1. Reducing the number of operations. It helps in better distribution of work. Combining interrelated tasks. machinery and other facilities. Pay roll department . Factory automation. 4.It involves critical examination and systematic recording of existing and proposed ways of doing a job so as to find better and more efficient methods: method study covers the following activities.this department is responsible for manpower planning. 3. Most effective use of human effort. To remove duplication of effort. based upon measurement of the work content of the prescribed method. Work-study means the application of systematic analysis to the work of men and machines so as to improve methods and establish time values for that work. To improve work design and plant layout. Factory layout. Motion study- how people work. The engineering department.BIEE Cost Accounting Theory . Time keeping department – This department is primarily responsible for collecting data in respect of total and specified time worked on a job. 3. It helps to improve productivity and to reduce industrial fatigue. Reasonable work load for the workers. 1. It covers all aspects of work. Work study seeks to achieve the following objectives: 1. under standard condition. Optimum utilisation of plant and equipment.g. No 58 1st floor North Mada Street. It ultimately results in increased productivity and reduced costs. Simplifying the process. 3. 5. Eliminating unnecessary task. layout. It helps faster and better working. procedures. 4. methods etc. Time study –‘ Time study involves the technique of establishing an allowed time standard to perform a given task. Re-arranging the tasks. 2. Method study .. materials.CA –PCC biee@sify. 3. 3. cost accounting department – This department collects and classifies all cost data of which labour cost is one of the most important elements.This department is responsible for computing total and net earnings of each worker. hiring and firing of personnel on the recommendations of other functional heads. To eliminate unnecessary fatigue and thereby effect economy in human effort. Motion study has the following advantages and limitations: Advantages: 1.This department is responsible for preparation of production plans and specification for each job. Chennai 34 98415- 37255 . product. Its aim is to find out and perpetuate the least waste methods of doing work'. Material handling. 22 The following departments are involved in exercising effective labour control 1. 2. The personnel department . 2. The main objectives of method study are as follows: 1. with due BIEE. The standard is the quantity of work to be done by an average worker. products. work conditions and machinery or equipment.

What is ‘Job Evaluation’ and what are its advantages? Job evaluation is to determine by studying and assessing. the relative worth of each job in order to ascertain its comparative labour worth.CA –PCC biee@sify. To set production quotas for hourly rated workers. time study aims at the determination of standard time required by a worker of average ability. The employees are encouraged through a good system of reward and effort. responsibilities. thus further improvement is aimed at.The following are the methods generally used for recording the attendance. 7. BIEE. 5. 2. It is studied on the basis of job description and job analysis comparing one job with another. It also acts as a record for punishments. It helps in establishing an incentive wage payment scheme. which are casual and not repetitive. risk involved etc. Trade unions and associations generally consider time study as an infringement on workers’ freedom of action. 3. Nungambakkam. Chennai 34 98415- 37255 . It lacks mathematical accuracy because of complexity in breaking up a task into various elements and also because of subjective element that is present in levelling or performance rating. 6. In it. The advantages of job evaluation are: 1. All these characteristics are given point value and the total of these points is the relative value of the job.time keeping and time booking. in and out of the production department and the actual time spent on the job. Muster Roll (Attendance Register) . posing average skill. As soon as the workers arrive and when they leave they have to sign the register. There develops good relationship between the employee and employer as no scope is left for personal bias of the employer. Facilitates cost control. and duration of engagement in the attendance register is kept under the custody of the time keeper. A sense of healthy competition in the minds of workers is developed. 4. No 58 1st floor North Mada Street. It helps in avoiding anomalies. What are the different methods of recording attendance of a worker in a factory? Every factory maintains a Time-Keeping Department. Following are the advantages of merit rating. 3. The major function of this department is to keep a record of workers’ arrival and departure time in the factory. The late commerce may even be asked to sign after noting the time of their arrival. educational qualifications. Helps in the process of production scheduling. Simplifies wage administration by bringing out uniformity in wage rates. Helps in bringing uniformity in wage structure. 6. 2. 2. 2. exerting average effort. working under average conditions. They are manual methods and mechanical methods. It is good for small firms. It fails to provide for adequate measurement for jobs and tasks where quality is of prime importance. sequencing. It helps in job classification and work 23 allowance for fatigue and for personal and unavoidable delay’. 5. 3. The main objective of merit rating is that an employee is to be rewarded suitably. In short. To be clearer the department has to keep records of employees’ attendance in and out of the factory.BIEE Cost Accounting Theory . the names of the workers. Labour turnover is reduced. confusion. 1. a. budgeting and staffing. under normal conditions to perform a task. In job evaluation it is the job and not the incumbent is rated. 3. Time keeping means the recording of the time of workers’ arrival and departure from the factory for the purpose of attendance and preparation of wage records. It is not applicable to jobs. It endeavours to find out the time taken by average worker. Promotions. and maintaining this effort with average consistency. The limitations of time study are : 1. There are two methods of time keeping. Sets standard labour cost under a system of standard costing. It is the basis on which wages are fixed and paid. transfers and punishments are justified. 4. The main advantages of time study are: 1. Manual methods . on the basis of merit. the number if any are written. Merit rating is subjective and rates the people than the jobs. This system is an orthodox system. 5 . unrest etc. It simplifies wages structure. 5. 6. 4. The record of times for two purposes. Write a short notes on ‘Merit Rating’ and what are its merits? Merit rating may be defined as systematic evaluation of an employee’s performance on the job in terms of the requirements of the job. Promotions and wage rates are based on merit rating of individuals. The labour value of each job is calculated by considering skill. It aims at evaluating the performance of employee. To calculate cost of production. demotions.

The following are the methods: 1.BIEE Cost Accounting Theory . The clock is a mechanical device and it automatically records the time of the workers. It simple to understand and easy to operate. Format of Daily Time Sheet DAILY TIME SHEET Name………… No:…… Date………… Department:………… Clock ticket No:……… Grade:………….. Job No.CA –PCC biee@sify.Dial time recorder and card time recorder 8. The objectives of time booking are: 1. Daily Time Sheet. the purpose of time booking is to ascertain the time taken by a worker to complete a job or an operation. To provide suitable apportionment of overhead expenses. Description Quantity Time Hours For cost office st BIEE. No 58 1 floor North Mada Street. Paper work becomes voluminous. when entering the gate. Disc Method (Check token) – All the workers are allotted some numbers. Small firms follow the manual system and larger firms adept mechanical systems. Under this system. mischief has no place. When the schedule time is over. In this method. It is a record of work done by the worker. The purpose of time keeping is to denote the attendance of the workers in and out of the factory. the worker takes their respective discs and place them in a tray or box. Time Recording Clocks – The use of time recording clocks ensures greater accuracy and avoids all types of disputes. 3. Nungambakkam. about 160 . This tray shall also be removed after some time. This devise is of two types. 2. On arrival. Dial Time Recorder. Merits – 1. which bears a number corresponding to the token number. It provides information. the difference between time keeping and time booking.. These cards are serially arranged in a tray and kept at the entrance of the factory. clerical labour in recording time is reduced and wage preparation is rendered easy. To ascertain the labour cost of each job. each worker is given a time card for a week or fortnight. b. Chennai 34 98415- 37255 . both job-wise and worker-wise. Mechanical devices . this automatically imprints the arrival and departure time on a paper roll mounted inside the machine. known as token numbers and each worker is provided with a metal disc bearing this number. b. Each worker. each of. Workers arrive. What is time booking? What are the different methods of time booking? Time keeping and time booking are two different terms. take their respective cards and insert them in the slit of the clock and the clock prints the time of arrival of the worker in appropriate column.e. On the other hand. has to turn the arm and press the same into the hole bearing his number. 2. The clock may also be devised in such a way to print the late arrivals in red. This system is also defective since a fellow worker can drop an absentees disc in the tray. The same process is repeated at the end of the day to enter the departure time of the workers. They are as follows: 24 but large firms cannot adopt the system as at the arrival time there will be a crowd. Moreover fellow workers may sign by overcome the defects of manual methods mechanical devices are generally adopted by large concerns for recording the time of the workers. These discs are allowed to hang on a board at the entrance of the factory. 3. The worker completes the sheet daily and hands it over to the foreman for verification and endorsement. 3. There is a close check up.In a small concern every worker is provided with a daily time sheet in which the particulars of time spent on each job are recorded daily. 4. the tray or box is removed and another tray meant for late comers is placed. To have control over wastage of time – unproductive or idle time i. There is a radial arm mounted at the centre. 2. This can be used as a pay roll also. kept inside the factory. Methods of time booking – Time booking may be done manually or mechanically. which contains all relevant information about the worker.The Dial Time Recorder has a number of holes. Demerits – the correctness depends upon the supervisor. as the foreman verifies every day. To ascertain the work on which a worker is employed.

BIEE Cost Accounting Theory . 2. No:… Date…………. This card shows the time lost and the reasons there of. which cannot be avoided. The foreman can verify the jobs completed. 9. Normally it will not agree. Demerits – 1. but similar recordings are made for a week. It reduces clerical work. Irregularity in filling the sheet is common. power shutdown. Accounting treatment.This sheet is similar to the Daily Time Sheet. Weekly Time Sheet. The method is not successful when one has to do number of jobs in a week. etc. power failure. Time taken to reach the department from gate. Day Job no. 2. Accuracy depends on 25 on Off Rate Amount Worker Foreman Costed by 2.CA –PCC biee@sify. difference between the completion of one job and start time of the subsequent job are few examples of normal idle time. machine breakdown. Department……………………… Week ending….. 3. 3. tea time. the rate be 14/7 =Rs2 per hour. The cost of normal idle time be calculated and included with factory on cost. Format of Weekly Time Sheet PTO WEEKLY TIME SHEET Name:……………………. Nungambakkam. idle time is that for which the employer pays without benefit to him. No 58 1st floor North Mada Street. In the above example a sum equivalent to 14 x 1/8 be included with factory overheads. For example if the daily rate for a day of 8 hours is Rs. Description Work Time Hours For cost office done on Off Rate Amount Mon Tue Wed Thurs Fri Sat Worker………… Foreman……….. Examples of abnormal idle time are machine breakdown. This system is an improvement over the first one. The hourly rate may be raised to the extend of the cost of idle time. which can either be avoided or minimised. Chennai 34 98415- 37255 . the time booked for jobs must agree with gate time. this difference between gate time and booked time is called idle time reconciliation of gate timing and preparing an idle time card facilitates time booked. Idle time is of two types – Normal idle time and Abnormal idle time. BIEE. When workers spend their whole time at different jobs. and the normal idle time is 1 hr. It has separate columns or rows for each day. It so happens because of reasons like waiting for materials. This sheet is used by contractors.Normal idle time – The cost of normal idle time can be treat in two ways. Normal idle time is one. waiting for work. waiting for instructions. It is most suited for intermittent jobs. Abnormal idle time is one. 2. Costed by……… Merits – 1. tool setting time. What is idle time? How is it accounted for costing purposes? Give a proforma of an idle time card. etc. etc. civil engineers. 1.

Reason time Time lost For cost office Remarks From to Rate Amount Worker …………. 3. It is the proportion of replacements to the average working force and represented as percentage. 1948 overtime has to be paid to the workers at double the normal rate.It is the addition of both LTOs.BIEE Cost Accounting Theory . What are the various causes of labour turnover and how labour turnover can be reduced ? what are the cost associated with labour turnover? BIEE. Separation method – under this method. 3. In other words. However overtime may be allowed 1.CA –PCC biee@sify. Foreman…………… Costed by………… Accounting treatment – Abnormal idle time. such overtime wages can straightway be charged to the concerned job. number.. Double rate has to given to the period of overtime.Replacement method and 3. Flux method..Flux method. Overtime work affects the quality of performance. which is responsible for delay. According to Factories Act. During seasonal rush. Labour Turnover may be defined as the rate of change in the labour force. 2. What are the methods of measuring labour turnover. When there is a failure of power or breakdown of machine etc.e. 3. If overtime is paid on the instruction of a specific customer. Define Labour 26 IDLE TIME SHEET Name ……………. under separation method and replacement method. 1. In general unless situation compels overtime work should be avoided because: 1.The cost of abnormal idle time should not be included in the cost of the products or services. What is overtime and how is it treated in cost accounts? When a worker works for more than normal working hours. 4. the amount so paid for such overtime can be debited to costing profit and loss account. When there is more demand for the product.Replacement method. The extra cost may be charged to the department. 4. it denotes the percentage of change in the labour force of an organisation. Overhead expenses will also increase because of overtime.Under this method only the actual replacement of labour during a period into account irrespective of the number of works leaving. Shop/ Dept………. No 58 1st floor North Mada Street. Thus under this method the total number of separations plus replacements be divided by the average working force and represented as percentage. 10. labour turnover for any period is measured by dividing the total number of separations by the average number of workers on the roll. 2. if a worker works for more than 9 hours a day or 48 hours in a week. it is a term used to describe the movement of shifting into and out of an organisation by the employees. 2. 3. then multiplied by 100. he is said to be working overtime. Date ……………. 2. In all these methods the average working force to mean the working force in the beginning plus at the close divided by two 12. This can be measured under 1. To finish a job in time. Chennai 34 98415- 37255 . The extra amount be charged to prime cost.. 2.. Nungambakkam. Workers are tempted to earn more by not completing their job in normal hours and doing the same in overtime hours. Accounting treatment – 1. If there is any abnormal reason for allowing such abnormal time. i.Separation method. 4. Such cost be separately calculated and debited to costing profit and loss account. 11.

Better working conditions may be provided to the workers. This is the simplest. irrespective of output during the BIEE. 5. a day. Retirement or death. 5. The time may be an hour. Rough and mishandling of machines calling for higher replacement. Dissatisfaction with wages. 13. Unsuitable working hours. 14. The system under which wage payment is made to workers according to the time for which they work is known as time wage system. There must be job security and opportunities for career advancement. 9.1. 2. Lack of promotional opportunities. Workers roving nature. Chennai 34 98415- 37255 . 6. renewal repair and maintenance costs. 7. etc. 14. Dissatisfaction with the job. a week or a month. 3. when it is expressed in terms of money. Avoidable causes. 2. 6. 11. Unfair methods of promotions. 2. 7. training etc. 7.BIEE Cost Accounting Theory . Higher accident rate resulting in higher medical expenses and compensation. 10. Non-co operative attitude. It should be flexible to adjust to the changes in the cost of living. Well organised training programmes must be chalked out to increase their efficiency. 3. 5.the cost of labour turnover can be divided into two heads. A good wage policy and incentive plans must be devised. 9. oldest and the most common method of wage payment.1. It should be based on scientific time and motion study. 2.What are the requirements of an ideal wage system? An ideal wage payment should posses 1. 9. Dislike to the job. 8. It should minimise absenteeism. Unavoidable causes – 1. It should enable an efficient worker to earn more. The wage system adopted must be simple so that the workers may be able to understand. educational facilities to the children of workers. Poor working conditions. 3. Preventive cost – these costs are incurred in preventing the workers from leaving the organisation by providing the following: good working conditions. Labour participation in management must be encouraged. It should aim at reducing labour turnover. 3. 12. Increase of scrap. An effective grievance procedure be adopted. It should ensure minimum wage at satisfactory level. subsidised meals and other welfare activities.7. 6. Dislocation of even flow of production. high cost of supervision. Personal betterment. A good working condition conducive to health and efficiency should be provided. Replacement costs are concerned with the loss of production because of delay in recruiting new hands and cost of training. Selection of candidates must be based on scientific principles and workers must be placed on appropriate jobs. 10. It should increase the morale of the workers. It should encourage productivity. It should not be in violation of Government policies. 1. 4. National service. 2. relating to causes of labour turnover and suggest remedies. 4. The cost of the scheme must be minimum. Marriage. Cost of labour turnover. 8. Accident or illness. Increasing cost of staff selection. 3. Discuss about time rate system of wage payment. 4. 6. can be called the cost of labour turnover. Nungambakkam. 10. medical and housing facilities. Unsympathetic attitude of 27 The causes of labour turnover can be divided into two categories as avoidable causes and unavoidable causes.preventive cost and replacement cost. The system must ensure satisfaction to both the employees and the employer.CA –PCC biee@sify. Lack of work. 6. defectives. 4. No 58 1st floor North Mada Street. 8. resulting in additional cost on supervision too. Methods of reducing labour turnover. scrap. Inadequate protection. 9. Quitting the job due to inefficiency. 7. high wages. wastage. The personal department must prepare a periodical report. It should be according to the capacity to pay. Weakness in employee-employer relationship. 5. 5. 13. inability of labour and their low team spirit. 4.Following measures are suggested to the management to maintain a happy and contented labour force resulting in decreased labour turnover. There must be a cordial employer-employee relationship. 8. It must be accepted by the trade unions. Fall in production. tool breakage. Effects of labour turnover. The effect of labour turnover.

It means that a definite sum is guaranteed for the specific time the payment is calculated as Earnings = Time worked X rate per unit of time. 1. Workers are in hurry. Each worker is assured of minimum wage. Precision and artistic works. 4. Work is of repetitive nature. Quality of the work is not that much important. Slow worker goes further slow. Discuss about piece rate system and what are its merits and demerits. Where the work is to be completed by experts. supervisory staff. Efforts and rewards are correlated.. Piece rate with guaranteed time rates. 3. 8. Breakdown of machines or power failures will disappoint workers.BIEE Cost Accounting Theory . Constant supervision is needed to reduce idle time. though the scheme is acceptable to all. It will also act as an impulse to other to reach such level and be fixed at high rate. as the workers are anxious of only speed. The worker develops skill and zeal to work. No 58 1st floor North Mada Street. 5. There is a good demand resulting in large scale production.. Job rate can easily be fixed. The system can be adapted for high levels in order to have higher performance. Where machine restrict as the speed and the operator has got no control e. Under this system payment is based on the production. 2. 4. Under this system the levels of seniority. hence accidents may 28 period turned out by the workers. skilled workers etc.g. the workers are paid at a fixed rate per unit of production . Nungambakkam. The method is applicable where: 1. 5. When there is less demand. sincerity. hence machines are handled with care.CA –PCC biee@sify. 9. Where it is very difficult to measure the work accurately. This method recognises efficiency and hence welcomed by sincere and efficient workers. Demerits – 1. ability. Where quality of work is more important than quantity of work. Chennai 34 98415- 37255 . Straight Piece Rate system. but compensates it by increasing the price of the products. 7. punctuality etc. 8. There are three types of piece rate system. It benefits the average and below average workers. Guaranteed time rates system .. 5. In any case it is difficult to determine the index. Idle time has no place. This method is suitable under the following cases: 1. as a result overhead cost increases. Merits – 1. High speed work is injurious to the health of workers. 5. Hence efforts are not rewarded properly. 2.under this system the payment is at time rates. 3. It is preferred by trade unions. 6. but adjusted to the cost of living. Equality to all will depress the superior worker. The high rate is equally effective as that of other incentive plans. 3. as workers are interested in quantity. the flow of work is regulated by conveyor belt. as in the case of indirect workers such as watchman. it is possible that machines are used recklessly. Breakage of machine will reduce wages. 3. 2. 2. a worker gets a flat rate per unit of output. It is simple to understand and easy to operate. 4. skill. Efficient and inefficient workers are paid alike. Earnings = Units produced X rate per unit. Merit awards for personal qualities. 2. Merits – 1. 3. 7.g. 9. 15. His earnings is equal to rate per unit X units produced. The job is a standardised one. The system works as an incentive to the workers. 6. BIEE. It is possible that materials may be wasted or spoiled. are also considered. 4. Fixation of a satisfactory piece rate is a difficult task. Standard of qualities maintained because workers are in no hurry to complete more number of units. thus leading to overtime. Demerits – 1. 6. The employer is not losing. 1. Quality of the products will be examined. Where the worker does the work in his own interest. can identify the labourers and through other merit rating devices and a higher wage may be paid. Differential Piece Rate Systems. 4. In order to maximise production. Straight piece rate system – under this system. There is no discrimination between workers. 5. over production may arise. Where the operation or job is not repetitive. 4. 3. 2. The output is increased.. e. Inefficient workers are penalised. The rate of fixed overhead is reduced. this system will encourage sincere workers. 2. Efforts and rewards can be made confidentially and accurately. 3. 6. Supervision is low.

2.W. Output at standard level Bonus of 20% of the time rate 3. Gantt Task and Bonus Scheme. Beadaux Point System. At 90 % efficiency level the bonus is 9. Out put below standard Time rate(guaranteed) 2. This system penalises the slow worker by having low rate. Differential piece rate system – under this scheme the rate per piece is increased. A worker who could not complete the work within the standard time is paid on time wages. Bonus payment starts at the rate of 01% of basic wages at 66. Gantt Task and Bonus Scheme. as the output level is increased. 16. who fail to reach the standard. The remuneration is payable as: Output Remuneration 1. The main features are.This is a system combined with time. by putting more effort. The system is not guaranteeing minimum wage. and reward an efficient worker by giving higher rate because of higher production. Chennai 34 98415- 37255 . The work is repetitive in nature. if a worker completes the work with in the standard time. Taylor Differential Rate System . the worker gets wages for the actual time. The standard B makes allowance for the normal rest and fatigue. Emerson Efficiency Plan – Under this plan hourly rate is guaranteed. The system is complicated one and is not widely followed. for each job standard time is stipulated. the father of scientific management. From 83% to 100% 110% of basic piece rate. Merrick multiple piece rate system. 29 2. Merrick Multiple Piece Rate System – It is the modification of Taylor system. Piece rates with guaranteed time rates – under this system. 2. Lower rate is for output below the standard and higher rate is for the output above standard. Output can be identified with individual workers. 2. Standards are set and bonus is paid. and he is also paid for the performance beyond a prescribed limit.Taylor. The appropriate bonus percentage is read off from specially compiled tables. a point or Beadaux abbreviated as ‘B’ is defined as the work which a man should be able to perform in one minute. 1. c. Taylor differential piece rate system . The system is as follows: Efficiency Piece rate applicable 1. This system is more suitable where 1. Up to 83% Basic normal piece rate. That is there is more than one piece rate system. 5. BIEE. 2. 3. Output above standard High piece rate on output.F. Thus the system guarantees the day wages. A task or operation can be expressed in a number of ‘Bs’ depending upon the nature of work. According to this system: a. The workers are paid either at low piece rate or at high piece rate and no one is paid at actual piece rate. the increase in rates may be proportionate to the increase in output. piece rate and bonus. Above 100% 120% of basic piece rate. If the actual time exceeds the standard time . By this system inefficient workers encouraged to earn more.BIEE Cost Accounting Theory . Thus every one in the organisation is encouraged. 4.91% and at 100% bonus is 20%. Emerson Efficiency Plan. Barth plan . There are two piece rate systems – one is lower and the other is higher. The standard work per minute is set after careful time and motion studies. Beadaux point scheme – In this system. 3. How the earnings are calculated under 1. introduced this system. The standard Bs are compared with the actual time. the worker gets his wages for the time spent and bonus for the time saved. Time wages are guaranteed to workers. in order the penalisation of slow workers. 3. No 58 1st floor North Mada Street. 5. 6. Thus B is the normal time of a normal work to be performed by a normal worker. 4. In other words. 4. 2. Nungambakkam. 3. 3. 1. If the standard B’s exceed the actual time. Day wages are guaranteed. Above100% efficiency a worker in addition to his wages will get a bonus of 20% plus for every one percent increase in efficiency one percent increase in bonus.67% efficiency and gradually increases as the performance increases.CA –PCC biee@sify. because of low production. a worker gets a fixed amount of wages.

What are the requisites of a successful incentive system of wage payment? For a successful working of an incentive system of payment by results the following factors should be kept in 30 6 Barth . incentive value may be low. 3. thus prevents overproduction. It can be introduced in any modern industry. the worker is not induced to rush work. 3.Under this system the workers are paid as follows. Nungambakkam. Careful supervision is necessary. 2. 2. It is suitable for learners and beginners. The employer is protected even if rates are not properly fixed. 4. This affects extra-ordinary efficiency. It provides incentives to efficient workers at the same time below average workers are not penalised.A. 2. Both employer and employee get equal benefit from time saved by the worker. Halsey premium plan. .CA –PCC biee@sify. Where efficiency of workers is less than 50% of more workers will fall under this group time saved.Strandard time is fixed. Merits – 1. an American engineer. No 58 1st floor North Mada Street. Earnings are reduced at high level of efficiency. The system is more complex and expensive. If wage rate is low. From the view point of management . The system is based on time saved and not on output. Demerits – 1.this system is also known as Split Bonus Plan or fifty-fifty plan. the standard time is fixed. hence basic rates will not be changed. The system should be simple and easily understandable by the workers. From the view point of the workers. In this scheme also as in Halsey plan Standard Time and Hourly Rate are fixed. Demerits – 1. Workers are paid at hourly rate for the time taken plus bonus . 4. the calculation of bonus causes certain differences between them. The plan was introduced by F. the time saved bears to the standard time. Rowan Premium plan – This scheme was introduced in the year 1901 by David Rowan of Glasgow. 5. The cost of operating the system BIEE. 1. 3. The workers are paid at time rate for the time taken an d a bonus of 50 % of time saved X hourly rate as bonus. 3. advantages and disadvantages of Halsey premium plan and rowan premium plan. Merits – 1. 5. Comparison between Halsey and Rowan premium plans -1. disadvantage to the management. 2.BIEE Cost Accounting Theory . Discuss the main features. Earnings = Hourly rate X √ Standard hours X Hours worked 17. Thus earnings be: (Time Taken X Hourly Rate) + 50% of Time Saved X Hourly Rate. 6. Chennai 34 98415- 37255 . advantageous to workers. Bonus is 50% of hourly rate on time Bonus is in that proportion of time taken.Halsey. Fixation of standard is very difficult. Gains of efficiency are shared by Gains of efficiency are not shared equally. 2. the total earnings start decreasing. 7. as if the time is more than half. and advantageous to them 18. which saved. 6. Saving in time reduce both labour cost and overhead expenditure. Since bonus declines at higher efficiency. it is At low efficiencies it pays more than Halsey and disadvantages at low efficiencies. 7. However.plan . 5. 3. Proper understanding and co-operation keep up workers’ morale. 4. Standard time is fixed for each job or operation. Under both the systems Standard Time and Hourly rates are fixed and the workers are paid for the time taken at hourly rates and bonus for the time saved. In the plan . The workers benefit along with the workers. employer and employee (1:1) 4. Sino Halsey Rowan 1. It pays higher bonus to workers when compared to Halsey plan. 2. It assures the minimum time wages. bonus is calculated as {(ST-AT) ÷ ST} X HR. It is simple to understand and easy to calculate. It is difficult to understand and calculate. Bonus increases steadily through out Bonus increase upto saving in time is equal to 50% of standard time.

Job evaluation and merit rating system to indirect workers can arrive at the quantum of bonus. out of the bonus earned by the whole group. 5. Payment of incentive may be according to the ratio between direct and indirect labour hours. Payment of bonus to indirect workers creates team spirit. so that minor changes as necessary in the method of calculation.BIEE Cost Accounting Theory . Indirect workers maybe paid bonus on the basis of output of a group of direct workers of a production shop. cleaning and overhauling etc. 2. packers etc. 12. Incentives can be based on savings of the actual expenses over the budgeted expenditure. The time lag between the performance of the work for which the payment of incentive is due and the actual payment should be reduced to the minimum. 1.3. indirect workers like helpers. internal transport. introduction of a system of payment by results is difficult. The scheme should be such that it be susceptible to easy supervision. 5. The system should be flexible. can be easily made in order to suit changes in production methods. The following are the different methods of payment of incentives to different types of indirect labour. store-keeping etc. inspection. The workers must be properly educated and motivated by the desire to earn more. Nungambakkam. it becomes necessary to provide for incentives to such workers for the following reasons: 1. 18.fumes.CA –PCC biee@sify. of inspection so that workers are paid only for good performance. There should be an equitable distribution of work and no worker should suffer a deduction of earnings for factors beyond his control.. Such variations should not necessarily affect the basic system of payment. 5. The following arrangements may be made for introducing incentive systems and payment of bonus to indirect workers: 1. 6. 17. The incentive should be conducive to the setting up of standard costs and budgetary control. which would be fair to both. 3. or of a factory as a whole depending upon whether the indirect workers render service to a group. 4. Workers putting in the same amount of effort should get uniform incentives irrespective of job 31 should be low. The system should be introduced on a permanent and should not be discontinued in times of financial stringency. to a shop or to the entire factory. There should be a satisfactory system. The rates and standards fixed should be reasonable so that it shall not be incapable of performance. 7. 4. 16. Working conditions should be as uniform as practicable so that worker can fully control the rate of his output. such as stoppage of work due to lack of tools. In such cases introduction of a suitable incentive system is not difficult. Application of arbitrary methods – for example the rate of service personnel can fixed at higher level to include the incentive can be fixed. For work of repetitive nature such as periodical check up. In spite of the difficulty involved. 14. Indirect workers should also be included in the incentive plans. may be included in a collective plan along with the skilled worker and paid proportionately. Standard hourly rates may be established for carrying each kind of material BIEE. dust . The system should be fair enough to meet the viewpoints of the employer as well as the employees and it should be applied in a manner. There should be no rate cutting and no ceiling should be fixed on individual’s earnings. stores maintenance and control. etc. 4. 9. Where ever possible . 13. 2. Payment should be made in accordance with what is agreed upon by the employer and workers. 15. 19. It is but logical to say that indirect workers are as much entitled to bonus as direct workers. noise. Factors which normally affect the output are : variations in the quality of input materials and tools. 11. 8. The incentive should be large enough to induce workers to achieve it. bad lighting etc.. How can incentive schemes be devised for indirect workers in a factory? As the setting up of standard time and measurement of actual is not an easy task in case of indirect work like maintenance. any deficiency of the latter due to lack of incentive lowers the efficiency of direct workers. Incentive scheme for material handling staff. carriers of materials. No incentive plan or system should be introduced only as a stop gap arrangement in order to temporarily tide over labour troubles. For example. Increasing the standard time to such extent cover such contingencies. 6. Payment of time rate to indirect workers and giving incentive to direct workers who are working side by side leads to dissatisfaction and labour unrest. Chennai 34 98415- 37255 .Incentives may be based on the number of items of materials handled. machines of low efficiency. 3. Standards once set should not be altered unless there is a change in the method of production. materials or instructions. 7. For work above the standard the reward should be high. cleaning. An incentive system for indirect workers assists in maintaining the efficiency of important services such as plant repairs. 10. packing. No 58 1st floor North Mada Street. power cut etc. the maintenance staff attached to the production department may be paid at a stipulated percentage of the total bonus earned by all direct workers in that section. In cases where the work of the direct workers is dependent on the service rendered by indirect workers.

Advantages – 1.In mass production work. Provident fund contributions. 2. How can frauds in payment of wages be prevented. Incentive to stores staff – Incentives may be based on the number of requisitions handled. If such evaluation is not possible . 4. To verify time shown by time cards with that of pay-roll. 12. Pension schemes.. for especially arduous work. Incentives to supervisors and executives usually take the form of non monetary benefit. for maintaining schedules and for clearance of arrears of work. The following are some of the non-monetary benefits: 1. Welfare measures. Nungambakkam. Protective clothing and uniforms. These incentives which are given in the form of amenities or facilities. 3. a monthly overall bonus related to the efficiency of performance may be computed. Cheap grains. 3. create a reputation for the undertaking so that the best of the labour is attracted. defectives etc. Impart satisfaction to workers and create a sense of loyalty and co-operation in them.monetary incentives? Give examples. Favourable working conditions. do not offer cash rewards to the employees for any specific or measured work.4. The non. If such detailed accounting for measuring efficiency is not practicable. department and period wise on a permanent basis. milk etc. 4. 5. The major functions of pay-roll department are: 32 based on the time and distance involved. 2. scrap. Some suitable standard may be established for it. Incentive for such staff should assist in maintaining efficiency all round and avoids idle time and excess spoilage. 4. 8. 3. Pay-roll (Wages Sheet) – It is a detailed information of the gross. Educational facilities to their children. 4. Calculation of wages payable to the employees is the main responsibility of pay-roll department. The specimen of a pay-roll is : PAY-ROLL BIEE.. The benefit goes to all employees in the undertaking and is not limited to any individual or class or group. To calculate the correct amount payable to each worker . 21. 5. Recreational facilities. No 58 1st floor North Mada Street. What are the functions of pay-roll department? Give a proforma of pay-roll. These benefits are also called as ‘fringe benefits’. Otherwise group bonus can be computed each month by comparing the aggregate efficiency with the pre-determined standards. Transport facilities. Tea. Such non-monetary benefits create a psychological effect by making working conditions and terms of employment lucrative enough to induce the employee to increase his efforts. foremen.monetary incentives are also called as psychological incentives. 7. The accuracy of the pay-roll should be verified with relevant records. 2.CA –PCC biee@sify. Incentive for repair and maintenance staff . Where standard costing and budgetary control system is in vogue. a group bonus system can be established on the basis of reduction in breakdown or on the number of complaints. To maintain wage records of each worker. Housing facilities. Reduce absenteeism. as well as the net amount payable to each worker.BIEE Cost Accounting Theory . 11. What are non. 6. Medical facilities for the individual and his family. bonus may be calculated on the basis of saving effected. 9. Subsidised canteen. 2. To compute and arrange for deductions from the gross salaries of workers and cause necessary remittances to the proper authorities on whose behalf such deductions are carried out. Chennai 34 98415- 37255 . 3. Incentive for supervisors and executives – Supervisors. Incentive for office staff – Job evaluation may be done for each item of office work and a bonus may be fixed on the basis of performance for reduction of overtime work. 20. Reduce labour turnover. and executives form an important link between the workers and the high level management. 10. increasing production and productivity and ultimately results in reduction of costs. wastage. majority of the repairs and maintenance duties can be considered as routine and repetitive for which efficiency percentage can be evaluated.

Entries with regard to the time of work be checked with relevant entries in time booking cards. 1. The person who prepared the pay-roll should certify the pay-roll to its correctness. indirect labour and such other expenses including services as cannot be conveniently charged to a specific unit. Nature. Cash payment of wages may be avoided. 4. Making payments to wrong persons. 3. Therefore. 9. proper systematic and strict procedures are to be adopted . Semi-variable overhead Functional 1. Worker N0.No. No 58 1st floor North Mada Street. Normality and 5.CA –PCC biee@sify. Production overhead BIEE. The wages of workers should be paid in the presence of the head of the department. 6.BIEE Cost Accounting Theory . Chennai 34 98415- 37255 . Pay packets be prepared for every worker. on which all the relevant information be recorded. the department in which he is working. Alternatively. Manipulating wage calculations. 4. wages and expenses’. 3. Manipulation of hours worked.There are various methods of classifying or grouping overheads which greatly depend upon the objectives of classification. which cannot be traced directly to a particular unit of output. frauds in connection with payment of wages are of the following 33 S. overhead may be defined as the cost of indirect materials. the following steps should be taken to avoid or minimise fraud. Variable overhead 2. Overtime hours Gross ESI Others Name Time taken Normal hours Normal rate Pf contribution Net deductions Normal wage Overtime wage Dearness allowance Other allowances Net payable Precautions – Strict control must be exercised at the time of disbursement of wages. OVERHEADS Nature Variability Control 1. The terms of remuneration and bonus schemes should be clearly defined without any ambiguity. Wheldon says.Iindirect labour 2. in job cards. 2. Function. Therefore to avoid frauds . 6. 8. Define ‘overheads’ and how are they classified? Overheads is the aggregate of indirect material cost. Omission to make authorised deductions in pay-roll. Nungambakkam. because frauds are committed at this stage. 9. The ICMA defines overhead as ‘Total cost of indirect materials. 7. Undistributed amount in pay packets are to be entered in the ‘Unpaid wages account’. indirect labour cost and indirect expenses. number. and there after be distributed through main cashier. Classification of overheads. 2. Blocker and Weltmer define overheads as operating costs of a business enterprise. The association of cashier with pay-roll department be either avoided or minimised. Generally they are classified according to 1. Fixed overhead 1 Controllable 2. 5. Making payment to a worker twice. Making a worker present who was actually absent. Variability (behaviour). overheads are all expenses other than direct expenses. 2. 5. Outstation workers are to be paid by the head office only. 8. Indirect materials 1. Control. 4. Recording bogus overtime. the type of the firm and its size. Suitable internal checking system be introduced to verify every step and calculation in preparation of pay-roll.Indirect expenses 3. Uncontrollable 3. Each worker should be given a photo identity card in which name. It can be paid by ‘account payee’ crossed cheque drawn in the name of the worker or the amount may be credited to the bank account of the worker. designation and other relevant data are inscribed. Inclusion of dummy or ghost workers in pay roll. 3. OVERRHEADS 1. Using wrong rates of pay in wage calculations. 7. 10.

Cost of idle time. small tools etc. Normal overhead 4. No 58 1st floor North Mada Street. 6. Office air-conditioning and electricity expenses. directing and controlling the operations of an undertaking which is not related to production . Bank charges. 6. 2. 5. 4. Depreciation. 1. depreciation on own buildings. c. Distribution overhead –The expenses pertaining to delivery of sold goods to the customer fall under this group. works manager etc. salaries of sales manager and sales office. 7. rent. Indirect materials – The cost of materials. 4. insurance. Indirect materials such as consumable stores. fuel. 8. All expenses pertaining to office administration. Factory lighting. 2. selling and distribution. salaries of supervisory staff etc. Indirect labour – labour charges. 2. Depreciation . Fuel and power. works on cost. Fixed overheads. depreciation and insurance of delivery vans. 2. 4. Legal expenses. stationery. 1. Maintenance and repairs. etc. 2. Selling overhead – It means the cost of seeking to create demand and stimulate demand in securing orders for the product. 3. 3.g. welfare expenses. General administration expenses. telegram and telephones. carriage on sales etc. 2. selling expenses. 1. salary of foremen. buildings. rather than in regard to a particular product. E..g. telephone. 7. loss of goods in transit to the extent of normal loss already provided for. taxes. Selling overhead 1. insurance etc.g. lubricant oil etc. 5. heating and ventilation.. 6. Administrative overhead Normality 3. Administrative overheads – “It is the cost of formulating policy. small tools for general use etc... taxes. E. holiday pay etc. general market research and analysis expenses. window-dressing. idle time. Office salaries. 3. E. 34 2. a list of items of factory overhead are 1. 3. Consumable stores. repairs to factory building etc. Abnormal overhead Nature classification – according to the nature of expenses incurred the expenses are classified as indirect materials. stationery. Carriage outwards and transport expenses. Salary of foremen. Salaries and commission to salesmen. These include: 1. administrative overheads. variable overhead and semi-variable overhead. maintenance workers. audit fee. which cannot be allocated to a particular unit and does not form directly chargeable to finished product is termed as indirect materials. c. E. rent. depreciation of plant and machinery. factory telephone and stationary etc. indirect wages and indirect expenses. 1. 10. Repairs of plant and machinery and equipment. research and development activity or function’. Postage. Bad debts. machinery and equipment. Distribution overhead 2. lighting and heating. Packing materials and expenses. Repairs and maintenance of power house. 3. business administration and management are included under this head. Insurance. selling overheads and distribution overheads. which cannot be allocated to a particular unit of cost.. They remain constant as a totality and decreases per unit for increase in output. of factory plant. Classification according to behaviour – According to the behaviour all the indirect expenses can be grouped under three heads as fixed overhead. of the office buildings. Warehouse expenses such as rent of warehouse or depreciation of warehouse and its furnishings.g. b. Store keeping expenses.fixed overhead is one which tends to be unaffected by variation in the volume of output. overtime. is called indirect labour. 8. Sales office expenses – postage. Functional classification – according to the function for which the expenditure was incurred it can be classified as factory overheads. canteen. Travelling expenses of salesmen. Rent. Chennai 34 98415- 37255 ..BIEE Cost Accounting Theory . Quotations and price list.. factory on cost etc.. etc. 1. consumable stores. Account office expenses. d.CA –PCC biee@sify. 12 workers training and welfare. Factory overheads – They are also called as manufacturing overheads.. Nungambakkam. Indirect expenses – most items of expenditure are classified as indirect expenses since they are incurred for the business as a whole. salaries to warehouse staff etc. equipment and furniture. advertisement. 9. BIEE. 5. 4. Advertisement. E.g.

Rent and taxes of factory land and building. No 58 1st floor North Mada Street. The tendency of this kind of expenditure is to vary in total and fixed per unit. 3.BIEE Cost Accounting Theory . stores expenses. Salaries of permanent staff. It means that part of the expense does not change while the other part of the same changes with volume of output. warehouse etc. indirect labour.. The semi-variable overhead may be of the following types. The best example is depreciation . The variable cost increases in the same proportion with the increase in output. 2. works manager salary etc. Some expenses remain foxed for some time and slowly changes to variable in character for some time and the cycle repeats very often. some expenses do change with the change in volume of output but not in the same proportion. Managers salary and salaries of staff. fuel and power. Salaries of supervisory staff.. 35 Cost FOH (Total) Cost FOH (Per unit) Quantity Quantity The expenses relating to fixed overhead are: A. depreciation on furniture and delivery van. 2. 3.variable overhead. Rent or depreciation of sales office. administrative overhead – 1. Semi. postage. Some times the part of fixed expenditure remains constant and the part of variable expenditure varies in direct proportion to the output. Cost VOH (Total) Cost VOH (Per unit) Quantity Quantity Indirect materials. Rent or depreciation of factory buildings. Depreciation on plant and machinery. Other expenses such as office cleaning. discount to customers etc. Chennai 34 98415- 37255 . are few examples of variable overhead. Cost Semi –fixed line Cost Semi variable line BIEE. It takes the form of regression Y = a + bX. Generally no expenditure is truly fixed or truly variable.CA –PCC biee@sify. c. B. which is partly fixed and partly variable. The fixed expenses remain constant up to a level of activity and changes when the level is increased. Variable overhead – The variable overhead is one which tends to vary directly with the volume of output. C. Etc. b.It is an overhead. watchmen salary etc. Nungambakkam. 2. 4. 2. Factory overheads –1. which remains constant up to 100% of capacity utilisation and increase beyond 100% of utilisation. Insurance on factory plant and machinery. Selling and distribution – 1. a.

Abnormal costs are those costs. which can be controlled by an efficient management.CA –PCC biee@sify.. etc. idle time. These can be included in production cost.g. 2.8. The slop of variable over head can be found by applying trigonometry. and so the variable cost.000 – 1.800 Feb 1. The following are the methods of segregating such expenses. abnormal wastage. Nungambakkam. X is the output and Y is the total cost.BIEE Cost Accounting Theory . where a is the fixed cost. 3. 4. These are unavoidable.the various values of output and corresponding costs are plotted in the graph.000 + (200 X 8) = 2. the difference between the cost for high level of output and low level of out put be found. 1. Linear equation method – in this method the total overhead is found as Y =a +bX. which are not expected to occur in attaining a given output. Such expenses are considered as loss and be transferred to costing profit and loss account e. Normal overheads are expected to be incurred in attaining a given output. No 58 1st floor North Mada Street.600. Uncontrollable costs are those which cannot be controlled. According to control – A cost may be either controllable or uncontrollable.000 Fixed overhead = 5. 1.600 Mar 300 3. and so on.) Jan 100 1.000 + (100 X 8) = 1. Similarly the difference in quantity between these two levels be ascertained.400 Apr 500 5.000 Similarly for other periods the composition of cost can be found. The fixed part be separated and added to general fixed overheads. The value of a.000 = Rs.200 ÷ 400 = Rs. What are the various methods of segregating semi-variable overheads into its components of fixed element and variable element? The semi-variable overhead is not a separate entity for costing. line of least square method. wastage.800 Feb 200 2. abnormal idle item. Variable overhead for April = 8 X 500 =Rs. All types of fixed expenses are the best example for uncontrollable cost. Chennai 34 98415- 37255 . E. By dividing the difference in cost by difference in quantity is the rate of variable cost. tanθ =Opposite side ( adjacent side Cost R 5000 Rate of VOH = tanθ = QR ÷ PQ = (5000 –1000) ÷ (500 – 0 ) = 8 BIEE. High and low points method . E. 2. scatter graph method. b is the variable cost per unit.under this method. The place at which the cost line intersects Y axis determines the fixed cost..000 Rat of variable overhead =(5. This separation is necessarily be done where marginal costing system is adopted.800) ÷ (500 –100) = 3. etc. The total variable cost is the product of the rate and 36 Quantity Quantity Classification according to normality – According to normality overheads are classified as normal and abnormal.000 – 4. can be controlled. Controllable costs are those costs. In the above example Month a + bX = Y Jan 1. b can be found by applying statistical technique trend analysis. For example the following is the information in respect of production and relevant cost Month units cost (Rs.g.

this type of classification is helpful in fixing price. which is rendered possible only because of classification of cost according to its behaviour . The pre-determined rates can be found only if the expenses are properly segregated.CA –PCC biee@sify. it is essential to find out the fixed cost and variable cost per unit. If the absorption rates are pre-determined. calling for further analysis and treatment of over and under absorption of overheads. brushes. Therefore for the purpose of cost control this type of classification according to behaviour is must.BIEE Cost Accounting Theory . By splitting the expenses one can know the type of expenses which can be controlled. The sources from which the overheads are collected are the following: a. The controllable costs are variable costs. fall under uncontrollable classification. To analyse the cost of production and its fixation. a separate system is to be developed. Invoices for materials are entered in the material control accounts and invoices for expenses are entered in overhead control accounts. Decisions such as fixation of price at depression. Overhead absorption – There are many methods to absorb overheads: and rates are different on fixed and variable overheads. lubricants.Costs are divided into fixed and variable costs. Pricing policy – As far as pricing policy is concerned. Cost control _ When cost is classified as controllable or uncontrollable. No 58 1st floor North Mada Street. What is meant by ‘collection of overhead’ and what are the various sources from which the overheads can be collected? In order to ensure uniformity and accuracy in the accumulation of overheads and classification.. IN fixing differential prices. That is the lowest price should cover atleast the variable cost. Decision making. The variable cost are taken as the marginal cost. introduction of new product lines. The costs cannot be controlled and remain constant even at zero level of activity. BIEE. replacement of old machines with new ones etc. b. b. d. c. are helpful in ascertaining the overheads to be charged to the departments to which issued. 4. generally all fixed costs like rent.Managerial decisions greatly depend upon proper classification of cost into fixed and variable. there arises a variation between the cost absorbed and the actual cost incurred. etc. etc. Variable cost can be controlled by lower levels of Marginal cost .When production increases the fixed overhead cost per unit declines and variable overheads remain constant. The technique of marginal costing is widely used for various types of decision making. Unit cost of production . Chennai 34 98415- 37255 . Nungambakkam. the guiding factor is the variable cost. rates . Purchase journal and invoice – the purchase journal gives information about the indirect materials and stores purchased. alternative methods of production. e. make or buy decision of component.. It may happen sometimes that different prices are charged for the same article on the basis of competition in different markets. Project planning. shut down of projects and similar decisions are taken with the help of marginal costing. Store requisition – Store requisition prepared for the issue of indirect materials like cotton waste. product mix. That is standing order number is to allotted to various items of expenses and separate code number to each department or cost centre must be given so that collection of overhead will be an easy job. which is again facilitated only by proper classification of expenses into fixed and variable. What are the advantages of classifying costs according to variability? 37 1000 P θ FOH Q Quantity 500 3. f.

CA –PCC biee@sify. 5. spoiled material. No. can be collected from this book. they are grouped under different appropriate headings. What are standing order numbers and how are they prepared? The codification is associated with the use of Standing Order Numbers and Cost Account Numbers. BIEE. So such overheads as paid in cash and not entered elsewhere in the above books. payments made in advance. Combination of number and alphabet method.Indirect material S. Standing order numbers as adopted by an undertaking should be listed in a schedule or manual for easy reference. idle time.. 6. etc. The numbers provided to items of the overheads of production are known as Standing order numbers. 1 to 10 . Likewise for every expenditure codes can be created. 4. 11 to 20. depreciation as D. This grouping is done by the method of Codification. Cash book – All expenses incurred in cash are recorded in cash book.Idle time S. For example. To help the allocation and apportionment of overheads to departments or cost centres. To help in the operation of mechanised accounting system. 5. Different reports and registers – Information about depreciation can be availed from the plant and machinery register. The standing order numbers can be prepared in one of the following ways . 31 . Thus overhead items are allotted numbers and each item is known by the number allotted to it. to be treated as overhead. The codification is the method of grouping the overheads by allotting numbers. As the order in which the numbers are fixed almost remains constant they are called Standing Order Numbers. and the numbers provided to the items of office. No. For example ‘R’ stands for Repairs and maintenance.Training of workers S. selling and distribution overheads are called as Cost account number. d. overtime bonus . In one group. 3. No.repairs to office equipment machinery. etc. waste. To analyse the overheads for the purpose of planning and control. f. R1 to R10 for repairs and maintenance to buildings.O. b. 21 to 30. R1 . and so on for every kind of expenditure. alphabets or symbols to the overheads.Indirect labour S. Chennai 34 98415- 37255 . What do you mean by codification of overheads and what are the objectives of coding? After the overheads are collected from different sources. interest and other financial adjustments. If R11 to R20 for repairs to plant and machinery and equipment.O. Serial Numbering System – Under this method each head of expense is given a serial number as shown below: S. It means that the overheads of similar nature and character are placed under the same head.O. To bring the overheads of similar nature into one group. No. e. Journal – This book gives information about the accrued expenses . 2. No 58 1st floor North Mada Street. and the numbers to individuals items under the head.Under this system it can be so designed that the Head of expense is denoted by the alphabet. indirect labour as IL Selling expenses as SE. and so on. The objects of codifying are the following: 1.O. 32 . Reports regarding scrap. a.Over time . Nungambakkam. Wages analysis book – This book gives information regarding indirect wages. besides depreciation and other non cash charges. No.O. idle machine hours and facilities in the factory help to collect the overheads.BIEE Cost Accounting Theory .com 38 c.Repairs to factory building R2 – Repairs to power house R3 – Repairs to office buildings. R20 – Repairs to factory plant and machinery R21 – Repairs to power and transmission plants R22. To reduce the number of ledger accounts to the reasonable limit so that the accounting may become more economical and useful.

etc. No 58 1st floor North Mada Street. building. Plant depreciation. Floor space building BIEE. rent . Supervision Number of employees 9. insurance. 7. a workshop foreman may supervise two departments and his salaries may be apportioned in the ratio of time spent by him in the two departments. volume. they are to be apportioned on a suitable basis to the various cost centres. Service or use method – under this system. rates. Distinguish between allocation and apportionment of expenses. Numerical codes – For mechanised accounting system. For example factory rent is further sub-divided into or apportioned to the various departments of the factory. shares larger part of the cost of the service department by deliberate decision of the costing department. But apportionment of cost needs suitable basis for the sub-division of the costs to various cost units or centres. value of machines etc. repairs. etc. For example. For instance. For example: code Particular of expenditure 101200100 idle time. electricity etc. waiting for material 101200200 idle time. is important and the following principles are useful in dealing with them. Factory rent can be allocated to factory. value etc. which produces costly goods or earns higher profits. The maintenance cost of production shop can be allocated to the shop directly. For instance. Further in allocation. depreciation. overhead costs are shared by the departments on the basis of services or benefits received therefrom. What is meant by departmentalisation ? What are the bases on which it can be done? The process of assigning the expenses to departments is known as departmentalisation. 7. Survey method – in certain cases. Nungambakkam.BIEE Cost Accounting Theory . plant 202300500 Depreciation. c. but can be apportioned to the various machines of the shop. 8. a. Electric light Light points. A 39 c. Selection of suitable basis. floor space. b. Cost apportionment to mean and involves allotment of proportion of items of cost to cost units or centres. The allocation of service department overheads to production departments is known as ‘secondary distribution’. The process of distribution of expenses to various departments is known as ‘primary distribution’ . repairs Value of plant 6. Audit fee Sales or total cost 8. The common bases used for allocation of various expenses are : S. 1. PF & ESI Direct wages 10 Rent. Delivery expenses Weight. Indirect wages Direct wages 3. In all cases direct allocation is not possible. 2. costs are directly allocated.CA –PCC biee@sify. Similarly the expenses of service departments are to be apportioned to the various production departments. machine break-down 202300100 Depreciation. Indirect material Direct material 2. Certain type of expenses are there which need further sub- division. rent on the basis of floor space. Ability to bear – This principle is on the basis of earning profits among the departments. insurance etc. direct(if metered) 5.No Overhead Basis of distribution 1. but can be apportioned to departments. the use of alphabets is restricted and total numerical code system is adopted. is apportioned to various departments on the basis of use. a survey method has to be used in order to understand the benefits received by different departments. Allocation and apportionment are two different items. Cost allocation means the allotment of whole items of cost to cost units or cost centres. on the basis of machine hours run. and the time spent by him in this two departments may be ascertained only by survey of related documents regarding time booking of the foreman. Chennai 34 98415- 37255 . Principles of apportionment – After collecting indirect expenses such as electricity. Electric power Horse power of machines – KWH 4.

The next step is to reallocate the service department expense to production departments. 14. is first apportioned to other service departments and production departments. which figure forms the basic for allocation in the given ratios including to that of service department. There are two methods in such allocation A. The next most serviceable department expenses are shared to the remaining service departments and production departments and so on till the last service department expenses are shared only to the production departments. Generally the following bases are used to apportion such expenses. stores requisition –for internal transport and material handling department expenses. Descending departmental apportionment (Step method) and B. What are the different methods of distributing service department costs? The expenses of service departments are collected in the primary distribution summary. 2. For example a factory in addition to production departments has three service departments. They are 1. the department which serves the largest number of departments. The equation be formed as x = 4.4. Let x be the total expenditure of X department and y be the expenditure of Y department. Machine hours..1 y…………. i. Chennai 34 98415- 37255 .Direct method. B. and X to share 10% of Y department expenses and Y to share 20% of X department expenses.000 + 0. Step method – In this method. which shall be distributed in secondary distribution table in the given ratio . let there be two service departments X and Y. weight of materials.000 + 0. capital value etc. direct wages.2x………….com 40 11. Nungambakkam. Apportionment to production departments only – In this case the total of service department expenses is distributed only to the production departments on an appropriate basis. Apportionment only to production departments.CA –PCC biee@sify. canteen. the cost of the most serviceable departments.Normally a situation may arise the service departments may render mutual services general not only the production department but also the service departments reap benefits because of other service departments. etc. staff welfare. Apart from sharing to production departments.. a. and 2. There are two methods of apportioning the service department costs to the production departments. the expenses are to be shared by the departments also inter-se. horse power or wattage-for power department expense. repeated distribution method. A. Inter-departmental apportionment . Apportionment to service as well as production departments 1. BIEE. For example . Personnel . number of employees. Hence for proper allocation it is advised to allocate the service department expenses to the other service departments also. Simultaneous equation method – under this method algebraic equations in the form of simultaneous equation be made and solved algebraically.000 for Y. then Stores department expenses can be shared to all production departments and maintenance department in the ratio of store requisition and finally the Maintenance department expenses can be shared only to production departments in the ratio of value of machines or machine hours worked in each department. Apportionment to service as well as to production departments... No 58 1st floor North Mada Street.(1) y = 5.(2) By solving these equations the value of x and y can be found. Miscellaneous Direct wages 9. time keeping and wages Number of employees or total wages office. in which cases.BIEE Cost Accounting Theory . Inter-departmental apportionment. sales expenses Actual or percentage of sales 13.. before allocating such department expenses to the production departments. Timekeeping. first timekeeping department expenses can be shared to stores and maintenance departments in the ratio of number of workers. the overhead as per primary distribution is Rs. internal transport Value of materials handled 12 Advertising. stores and Maintenance.. simultaneous equation method and b.e. safety. For example the personnel department services are enjoyed by other service departments such as repairs shop.000 for X and Rs 5. There exists two method in such allocation a. Storekeeping. Direct labour hours.

they are charged on pre-determined rates or standard rates. Machine hours On labour hours (Labour Hour Rate) = Overhead ÷ Direct labour hours during the period On machine hours (Machine Hour Rate) =Overhead ÷ Machine hours during the period. At the same 41 b. b. there arises a difference between the actual overhead and recovered overhead resulting in under-recovery or over-recovery. 10. Hourly rate methods. The amount of overhead charges are equal to the overheads incurred. this method can be used. Chennai 34 98415- 37255 .. it is known as over-recovery. Labour hours.BIEE Cost Accounting Theory . 3. Under this method each service department expense be shared to other departments including other service departments which gain service from them. But usually because of the limitations of actual rate system. Direct materials. overhead absorption is ‘the allotment of overhead to cost units’. it must be flexible to the changing conditions. b. Though initial expenses are shared.when actual expenses incurred are less than the recovered overhead. BIEE. 1. This is a simple method and when the same type of products are manufactured. 3. 11. 2. The selected method should be according to the nature of the product. the above said algebraic method will be tedious and repeated distribution method is used. In other words. No 58 1st floor North Mada Street.CA –PCC biee@sify. 12. Percentage methods: the recovery rates can be calculated as a percentage on a. Production unit method – This method is also known as ‘units of output method’ or ‘ cost unit rate method’. The selected overhead rate must be stable so that comparison can be made. What is meant by under-absorption and over-absorption of overheads? What are the causes? How are they treated in cost accounts? Overheads are charged to the cost units on the basis of actual rate or pre-determined rate. Recovery rate per unit = Overhead ÷ output 2. still there will some expenditure in each service department to be shared because of allocation of other service department expenses. Over-absorption or over-recovery. Production unit method. Repeated distribution method – if there are more than two service department rendering services amongst themselves. c. if the work is done by machines. The same process of sharing will continue repeatedly till further subdivision will not improve sharing meaningfully. the machine hour rate should be adopted. Prime cost On direct materials = (Overhead ÷ Direct material cost) X 100 On direct labour =(Overhead÷ Direct labour cost) X 100 On prime cost =( Overhead÷ Prime cost) X 100 3. 2.g. if based on actual. What are the different methods of absorption of overheads? The various methods applied for absorption of overheads can be grouped under three methods. Percentage methods. Requisites of a good absorption rate: 1. What is meant by absorption of overheads? What are the requisites of a good absorption rate? Charging the overheads to individual unit or specific product is called as overhead absorption. The actual or pre-determined rate of absorption is calculated by dividing the total overhead by the number of units produced or estimated to be produced. the situation is known as under-recovery. e. According to ICMA. Under or over recovery will result in difference between profits as shown by cost accounting and financial accounting resulting in the need for reconciliation between two profits. Direct labour. Nungambakkam. The adopted system should not bring much difference between recovered overhead and actual overhead. Hourly rate methods -The recovery rates can be calculated based on a. Similarly where the actual expenses are more than recovered overhead. the method of charge or apportionment of overheads of an individual cost centre is known as absorption or recovery. It should not involve unnecessary clerical work. Under such circumstances. 4. 1.

The over-absorption be adjusted through negative supplementary rate. number of points or direct st BIEE. Writing off to costing profit and loss account. Power. Ordinary machine hour rate and 42 Causes for under or over. 2. e. 2. 2. 1. 1. What is machine hour rate and how is it computed? The cost of running a machine per hour is called ‘Machine hour rate’. The machine hour rate can be computed either for one machine or a group of similar machines of a department. machine expenses and other general overheads of the department like supervision. Fluctuations in the volume of production due to trade cycle. Machine expenses are of two types. Changes in methods and techniques of production.Direct machine expenses are taken into account when calculating ordinary machine hour rate. then it can be written off to costing profit and loss account at the end of the year. Use of supplementary rates – the amount of over or under-absorbed overhead is adjusted to 1. 6. When the actual output is more or less than the budgeted output.No Expense Bases 1. S. In fixing the recovery rates the estimation of expenditure or the base in which it is to be found is made wrongly. Finished goods. When actual hours are more or less than budgeted hours. positive rates and 2. 2. The actual and pre-determined rates factory overhead absorption is computed by dividing the cost of running machine by the number of hours it worked. rent. which can be related to overhead cost of the production departments. Factory cost of sales by supplementary rates. The amount of under- absorbed overhead is adjusted by adding it to jobs with the help of positive supplementary rates. Chennai 34 98415- 37255 . No 58 1 floor North Mada Street. Rent and rates Floor space 2. These expenses are variable in nature. These supplementary rates of two types. 3. Negative rates. 7. the following methods are used a. Expenses which have no relation to operation and which are of fixed nature. 3.Ordinary machine hour rate. Treatment (Disposal) of under or over-recovery . Non-recurring nature of expenses may be incurred during the year. 13. When overhead incurred is more or less than the estimated amount . Lighting and heating Floor space. The base may be units of production. b. c.. Composite machine hour this method the balance of under or over-absorbed overhead is transferred to ‘overhead reserve account’ or ‘suspense account’ and is carried forward to next year and will be absorbed in that year. fuel and depreciation comes under this group and these expenses are calculated per hour directly.In disposing the under or over-recovery of overheads. lighting and heating etc. This will be added to ordinary machine hour rate to get composite machine hour rate.1.g. 8. Carry forward to the next year .CA –PCC biee@sify. These standing charges apportioned to each machine are divided by the number of machine hours. etc. Supplementary rate = Amount of under or over-absorbed ÷ Total base. 5. Machine hour rate (MHR) = Total cost of running machine ÷ Machine hours during the period There are two methods of computing machine hour rate 1. are taken into account and they are known as standing charges. The rate is determined by reconciling with the financial and cost books. Under or over utilisation of capacity. The following are suitable bases for apportionment of different expenses for calculation of machine hour rate..recovery – 1.BIEE Cost Accounting Theory .. direct machine hours or any base adopted for recovery of overheads.If under or over-absorption is not due to seasonal fluctuations or not deliberate or the amount is small. 4. These are to be apportioned to each machine on a suitable basis. Composite machine hour rate – in this method. insurance on machinery. Work-in-progress. Machine expenses which are proportional to the operating time of the machines. Nungambakkam. The under recovery will be debited and over recovery will be credited to costing profit and loss account. A separate rate for each machine can be established. direct labour hours. are calculated for a period and apportioned over the machine hours during the period.

Thus administrative overhead does not include the costs of administrating manufacturing activities. equipment and machinery.Interest on capital is a theoretical concept of economist. no direct relationship can be established between administration overhead and products or jobs manufactured and sold. Insurance Value of machines 6. office furniture and equipment. Chennai 34 98415- 37255 . Define ‘Administrative Overheads’ and what are the various approaches in accounting the administrative 43 3 Supervision Time spent on each machine 4. Depreciation Value of assets 8. depreciation of office furniture. value of asset. The second view is that administration is an important function and is as important as the other major functions. printing and stationery etc. 2. Nungambakkam. depreciation is charged to these assets and if interest is also included it amounts to charging doubly and unnecessarily increasing the cost of products. Usually for a multi-unit firm. Consumable stores and lubricant oil Stores requisition 5. Administration overhead is the aggregate of expenses associated with the administration of an undertaking. machine base hours. The capital contribution seems to be without cost. office cleaning. Arguments against inclusion – 1. KWH. salaries to office staff.CA –PCC biee@sify. Since. Hence as wages are included in cost. plant and machinery. 14. The profits of two firms . only the corporate office expenses are treated as administrative overhead while expenses relating to the administrative activities of the manufacturing units are treated as manufacturing overheads.but as manufacturing overhead. since the major activities – manufacturing and selling – are benefited by the administration overhead. research or development activity or function. Arguments for inclusion – 1. However there exist arguments both for its inclusion and non-inclusion in cost with borrowed capital and the other with own capital cannot be compared if interest is not taken into account. machine hours 7. the latter be apportioned between the two activities on some equitable basis. There are three different approaches to accounting of administration overheads: 1. distribution. According to the first approach. machine hours or direct 10.BIEE Cost Accounting Theory . ventilation. interest should also be included. 3. How interest on capital is to be treated in cost accounts It is a debatable point whether interest on capital should be considered or not. Power Value of assets. Examples of administrative overheads are: Office rent and rate. Miscellaneous expenses Direct wages. the profit shown is overstated since this expenditure is not absorbed. Accounting of administration overheads in cost accounts . Any other item for which there is no clear Direct wages. value of asset. 15. Repairs Value of assets 9. Just like wages is the reward for labour interest is the reward for capital investment. buildings etc. Certain authors believe that interest on capital is purely of financial nature and not to be included in cost accounts. director’s remuneration. For example the cost incurred in operating time office is not treated as administrative overhead . 2. post and telegraph. selling. 2. repairs and insurance of office building. directing the organisation and controlling the operations of an undertaking which are not directly related to production. and because these costs are largely fixed in BIEE. which is unreal. office lighting. legal expenses. Even in case of own capital if interest is not charged. audit fee. Normally capital block is invested in capital assets like plant and machinery. No 58 1st floor North Mada Street. Cost accounts records only the actual expenses incurred and not the presumptive expenses. In other words it is the cost of formulating the policy. 3.

Undertaking time and motion study for each task. Past year’s overhead. What are the accounting treatments of ‘selling and distribution overheads’? Selling overhead is the total costs involved in seeking to create and stimulate demand. once the volume of activity surpasses the higher limit of the ‘relevant range’ the expense increase. A unique feature is that once such an overhead touches a higher level. Standardisation has got the advantage of grouping similar activities. securing and executing orders. Many tasks can be standardised. Establishing a report system. Give examples.. is to put a restraint on the tendency to increase administration overhead. 2. Distribution overhead is the total of the costs of moving the finished products to central and local storage. Normally it is preferred to deal with selling and distribution overheads together. and charged directly to costing profit and loss account. 4. therefore. Overheads collected for an accounting period are compared with: 1. Yet another view is that administration overhead is to be added as a separate charge to the cost of manufacturing and selling the jobs. In short. and those which cannot be standardised. 5. 3. however excluded. It provides incentives for better work...BIEE Cost Accounting Theory . Administration overhead budget is prepared as a part of the master budget and actual expenses are compared with the same. moving finished products to the customers. quotations etc. Selling costs. products and services. production function ends and distribution function begins. The previous year’s data does not provide the right evaluation criteria because it includes inefficiencies of past year and fails to consider the intervening changes. 4. Determining the standard cost for each operation. Overheads related to distribution function are termed as ‘distribution overhead’. are based on this there exists a chance to quote low rates and resultant losses. Standards. Further if administration overhead is not recovered in the cost of the product. Number of units manufactured. legal fee etc. Gross profit on sales. which can be standardised. 3. The most difficult problem in applying this method arises in selecting the base for allotment of these costs to units produced or units sold. Manufacturing costs. budget or standards so that corrective actions may be taken. moving the finished products to and from the prospective customers as in the case of goods on sale or return basis and making the empty packages reusable. How the administrative overheads be controlled? Control of administrative overhead requires collection of expenses under correct cost account numbers for each administration department separately. BIEE. which are used to allot administration overheads. It increases the morale since every one will be aware that their performance is measured. The pre-requisite of an effective control. territories. 17. Selecting a unit of measurement for each task. salesmen etc. net profit for operation segment cannot be ascertained properly. Nungambakkam. Net sales value. 5. Chennai 34 98415- 37255 . Define ‘selling and distribution overhead’. 16. The main criticism against the method is that if the administration overhead is eliminated from costs of jobs. Administration overhead is collected in the same manner as manufacturing overhead. In spite of the limitation this method is gaining recognition . 3. The various bases. It standardises the systems of operation. 44 nature. Certain expenses like audit fee. 3. 2. Some accountants suggest the use of standards for control of administration overhead. Cost of manufacturing and distributing the finished products are. It must be remembered that though administration overheads are largely fixed in nature. and if tenders. The following are the steps involved in standardising: 1. products.CA –PCC biee@sify. Classifying the tasks into those. No 58 1st floor North Mada Street. Budgets provide a better criteria for evaluation. are not subject to standardisation. International Accounting Standard 2 recognises this method. Budgets. Number of units sold. are: 1. it becomes difficult to bring down the same even when the activity level comes down. 2. when a product is placed in a saleable condition. they should be treated as period costs. Effective control requires investigation into the causes of variances calculated by comparing actual with past data.

Bank charges for issue of bank guarantees. except that unlike manufacturing overhead some of the selling and distribution overheads can be identified directly with a specific product or group of products sold.No. insurance charges and operating cost of delivery vans. rates and taxes. cost of catalogue and price lists. direct selling expenses. Selling and distribution overheads may be classified under fixed. Advertising expenses Sales value or physical units 2. The following are the examples of account heads for selling and distribution overheads: Advertising.Accounting of selling and distribution overheads starts with the collection of overheads under clearly defined cost account numbers. Nungambakkam. semi-variable. 4. 2. Cost of catalogues Sales value or number of customers 3. The following is the bases of which are commonly used for distribution of selling overheads to functions and territories. Direct selling. The second step is to allocate and apportion these expenses to various functions and territories . Selling overhead Distribution base 1. Expenditure on advertising and on various promotional schemes and demonstration schemes have 45 Examples of selling overhead are: Salaries. Rent.CA –PCC biee@sify. Depreciation. warehousing. This analysis is similar to the absorption of manufacturing overhead in the units produced. Credit collection It is not sufficient to allocate and apportion costs to functions. 2. Sales commission. Depreciation Capital value of assets Many of the expenses can be recorded for each function and territory. the function may be grouped under the following headings: 1. bank charges. can be allocated directly. travelling expenses of salesmen and technical representatives. cost of operating market information system including market research. Postage. cost of repairs and maintenance. cost of maintenance of showrooms. The final step is the analysis of selling and distribution overheads by products or group of products sold. Travelling expenses of salesmen. expenses on insurance of finished products. wastage of finished goods. cost of repairs and maintenance.BIEE Cost Accounting Theory . and telegram. Proper accounting and control of selling and distribution overheads has assumed importance because these are showing an increasing trend. The following are examples of selling and distribution expenses. 7. which can be allocated. commission. Chennai 34 98415- 37255 . With the widening of sales territories. cost of repairs and maintenance. Repairs of vehicles. Classification of cost by behaviour pattern. 2. etc. Shipping costs. Insurance charges Value of property 4. 5. distribution cost also have expanded. 6. S. As for as possible overheads need BIEE. Analysis of expenses under these classification is essential for effective control as well as for decision making. bad debts. 5. Insurance. etc. Warehousing and storage. 3. etc. etc. Commission to salesmen. After-sales service. 18. insurance charges and operating expenses of delivery vehicles.1. Discount . Accounting of selling and distribution overheads . sales office expenses. Proper accounting requires distribution of selling and distribution costs to the central marketing organisation and territories. brokerage. Depreciation. Advertisement and sales promotion. expenses on advertisement and publicity. 4. Catalogue and price lists. Fancy packing. and variable overheads. 3. Examples of distribution overheads are: depreciation. Transportation. and therefore. telephone. Expenses allocated and apportioned to central marketing organisation are then re-apportioned to the territories. No 58 1st floor North Mada Street. cost of secondary packing. directly to functions and territories. separately. selling function and distribution function. Stationery and printing. insurance charges of buildings and office equipment. Segregation between marketing function (basically promotional activities). Cost account numbers reflect the nature and objective of expenditure. How selling and distributions overheads can be controlled? The essential pre-requisites for controlling selling and distribution overheads are: 1.

and actual are compared with these standards. Overheads related to research and development activities. 2. Other costs related to research and development activities. services. 3. and identifying practical difficulties. It is difficult to fix proper standards for research and development expenses. which may arise in its applications. Development activities include conceptual formulation. 2. Profitability analysis – profitability analysis by customers and size of orders help to decide the optimum size of order for each class of customers. which do not have budgetary control system. 4. production lines. Note: the cost of routine or periodic minor modifications to existing products. Standard costing – Standards are established for salesmen. ‘ Development is the translation of research findings or other knowledge into a plan or design for the production of new or substantially improved materials. Budgetary control – Flexible budgets at different levels of activity is generally used for controlling selling and distribution overheads. judgement and decisions. The expenses on promotional activities need to be controlled at the planning stage itself because these expenses are influenced directly by managerial strategy. The results of a research cannot be put directly to commercial use. 4. design and listing of product/process alternatives. products. territories. 2. 3. fixed and semi-variable overheads. 5. Variances are investigated into and suitable corrective actions are taken. The cost of materials and services consumed in research and development 46 to be classified into variable. Collection of cost data (under clearly defined account headings) by functions. This helps to reduce these overheads. The following methods are used for controlling these overheads: 1. The depreciation of equipment and facilities to the extent that they are used for research and development activities. It requires feasibility study. devices. The salaries. and other ongoing as well as routine or promotional costs of market research activities are excluded from research and development activities Special features of research and development costs – The following are the special features of research and development costs: 1. 5. Development starts where research ends. 3. Define ‘Research and Development costs’. Chennai 34 98415- 37255 . No 58 1st floor North Mada Street. a new process. Till the research project is complete. it should not be charged to current production. processes. Benefits of research projects spreads over a number of future years. but in terms of ratio to sales-value. development of prototypes etc. manufacturing processes. it is totally uncertain whether the same would yield fruitful results. customers and product groups. 3. Actual expenses are compared with budget provisions and variances are investigated into for taking remedial actions. 4. IAS 9 has defined ‘Research’ and ‘Development expenses’ as follows: ‘ Research is original and planned investigation undertaken with the hope of gaining new scientific or technical knowledge and understanding’. wages and other related costs of personnel engaged in research and development activities.CA –PCC biee@sify. products etc. The research and development costs include: 1. systems or services prior to the commencement of commercial production’. 19. such as amortisation of patent and licence fee. Most of the research and development costs are incurred in anticipation of future production of new or improved product or future use of new or improved processes or techniques. technique or in bringing about a significant improvement to an existing product or process . collection BIEE. Comparison with past performance – this method is suitable for small organisations. Nungambakkam.BIEE Cost Accounting Theory . Research activities aim at the discovery of new knowledge which can be used in developing new products. and therefore. territories. What are its special features and how is it accounted for in cost accounts. In some organisations research and development costs are very high and benefits of a research project are received by more than one product. though not in absolute terms.

pension funds and cost of providing fringe benefits to employees. Costs on repairing of breakdowns. The product or process is clearly defined and the cost attributable to the product or process can be separately identified. The overheads are usually re-apportioned to production cost centres for final recovery. Costs auxiliary to salaries and wages.BIEE Cost Accounting Theory . 10. development costs of a project may be deferred to future periods if all the following criteria are fulfilled: 1. expenses associated with preparation of tender estimates are treated as selling overhead. 3. The canteen is treated as a separate service cost centre and the net subsidy is re- apportioned to production cost centres. each section should be treated as a separate cost centre. Maintenance and repairs of plant and building . Research undertaken for the general interest of the firm should be treated as period cost. and drawing office expenses are directly apportioned to jobs by using an hourly rate. The allocated and apportioned amount is then reapportioned to work 47 Accounting for research and development costs: The of research and development costs is very important for proper accounting and control. 7. drawing hours for each job are booked. How the following expenses are accounted for in cost accounts : 1. Costs auxiliary to salaries and wages . 4. Costs on preventive maintenance. Market research cost. research and development costs research and development function should be treated as a separate cost centre. After-sales services 1. the question of overhead does not arise. A project should be undertaken only after the proposal is approved by top management and a work order should be issued immediately after the approval is obtained. the amount of subsidy is treated as factory overhead. Supervisors’ canteen). The management of the enterprise has indicated its intention to produce and market or use the product or process. 5. 9 royalty and patent fee. the expenditure can be charged to the product.CA –PCC biee@sify. Nungambakkam. Adequate resources exist. it should be charged to his account. If possible. Costs on major overhaul and 3. 6. If the canteen is subsidised. Estimating and drawing office expense –estimating and drawing office should be treated as a service cost centre. If the research is specifically designed to a particular product. Canteen expenses – If the canteen runs on ‘no profit no loss basis’. Common overheads should be apportioned to the cost centre on some equitable basis.8. if it is to be used internally rather than to be sold. Research and development costs are accumulated against work numbers. 4. Chennai 34 98415- 37255 . 2. 1. academic or educational nature. which can be identified with the cost centre. Workers’ canteen. Alternatively. is hardly justified. auxiliary costs related to direct workmen should be charged to cost units by inflating the wage rates to be applied for the recovery of direct wages. to complete the project and market the product or process. 3.Costs auxiliary to salaries and wages include contributions to PF. Auxiliary costs related to indirect workers and other employees should always be treated as overhead and collected under different heads as factory overhead etc. Where the research has been undertaken at the request of a customer. Canteen expenses. 20 .Maintenance and repairs of plant and building should be analysed separately under three categories. In accordance with the standard. It is preferable to issue different work orders at the research stage and at the development stage.. gratuity funds. 2.g. Cost. ESI. 3. Cost of packing. Estimating and drawing office expenses. 4. which are theoretical. or are reasonably expected to be available. It is a good practice to allot a work order number to each project. these should be treated as overheads of the respective cost centres. Bad debts. Maintenance and repairs to plant and building 5. 2. No 58 1st floor North Mada Street. For example. a portion of overheads collected under this cost centre is often treated as selling overhead and the balance is re-apportioned to production cost centre. BIEE. General overheads should not be apportioned to research projects. an elaborate system of absorbing. In a heavy engineering factory manufacturing specific one –off jobs. There is a clear indication of future market for the product or process or . However. IAS –9 provides that the amount of research and development costs should usually be charged off as expenses of the period in which they are incurred. Advertisement . If there is more than one canteen (e. 2. its usefulness to the enterprise is demonstrated. Research and development costs are likely to benefit future products and therefore. should be allocated to it. The technical feasibility of the product or process is demonstrated.

Advertisement . normally sales value or units sold. Only a portion of it should be included in the overhead for the BIEE. helps to accumulate costs. Nungambakkam. Advertisement costs. competitors’ strategy. The method of issuing ‘service order’ authorising each maintenance and repair work. e. Abnormally heavy amount of bad debt or bad debt of exceptional nature should be excluded from cost accounts and be charged directly to profit and loss account. Costs are apportioned to primary and then re-apportioned to production cost centres on some equitable basis. 6.Advertisement costs should be allocated and apportioned to various functions. are re-apportioned to production cost centres on some equitable basis. Advertisement costs which is likely to result in long term benefit should be treated as fixed asset and depreciation there on should be treated as selling and distribution overhead. Market research cost is treated as selling overhead. Common advertisement costs should be apportioned to various products in an equitable base. However. 8. Primary packing is treated as factory overhead. This includes the study of potential markets. it is like a policy cost because it does not relate to activity level. such precession is usually considered wasteful.there are two approaches for treating bad debts in cost accounts. Advertisement cost is an overhead but its exact treatment.1. Maintenance department expenses are apportioned to each service order on the basis of maintenance hours.g. 3. 7. Bad debts . 2.BIEE Cost Accounting Theory .CA –PCC biee@sify. not accounted for by ‘service orders’.1. secondary packing and fancy packing on the basis of some technical estimate. customers’ 48 Maintenance and repair costs include cost of maintenance spares and other materials. i. 3. cost of advertisement calling for tender in supply of materials be treated as part of material cost. cost of advertisement for recruitment should be allocated to personnel function. 5. Market research cost – Market research addresses itself to specific marketing problems.. Primary packing – Packing essential for protection and convenient handling of the product. Costs accumulated against ‘service orders’ are allocated to respective production cost centres.2. For example . Cost of packing – packing may be of the following three types: 1. Heavy advertisement cost which is likely to benefit more than one accounting period should be treated as deferred revenue expenditure and only the portion likely to benefit the current period should be included in selling and distribution cost for the current period. No 58 1st floor North Mada Street. etc. Usually. the cost of neon light advertisement fixtures. However if it is high in a particular period. secondary packing is treated as selling and distribution cost and fancy packing is treated as advertisement cost. Secondary packing – Packing essential for safe transportation of the product. Bad debt is similar to other expenses and should not be excluded from cost accounts and it is to be treated as selling overhead. repairs hours are booked against each ‘service order’ along with costs of spares and other materials. Fancy packing – Packing meant to attract customers. 2. whether it should be treated as administration overhead or selling overhead or manufacturing overhead will depend upon its exact nature. Cost of advertisement to create and retain demand for products and services should be allocated to selling function. Cost for maintenance hours. it should be treated as deferred charge. but varies with management policy on market research. Chennai 34 98415- 37255 . as the total expenditure on maintenance and repairs is in itself an overhead cost. Packing department is considered as separate cost centre and the total expenses are apportioned between primary packing.e. labour costs and expenses of maintenance department. bad debt is a financial loss only and should be excluded from cost accounts. allocated and apportioned to selling and distribution function should be allocated to products if these can be identified with products. Real costs of maintenance and repairs can be worked out only if costs of other services received by maintenance cost centre and administration costs are added to maintenance cost centre expenses.

Depreciation of tools. equipment and other assets. Purely financial items – 1. even though such services are not covered under any agreement. Dividends . e. Cost of after-sales services rendered only to retain customers’ goodwill.. If royalty and patent fee are fixed charge in the nature of rent. xxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxx RECONCILIATION OF COSTING AND FINANCIAL PROFIT 1. 6. Interest on debentures and other borrowings. e. if they are based on the number of units sold. If design department is responsible for the 49 current year. Cost of routine services. 2.Profit or loss of capital assets. If after-sales service involves repairs of the product after bringing it to factory. After-sales service – It is a common practice to offer continued free support/ maintenance service during a stipulated guarantee period. Cost of indirect materials consumed – cost of materials of small value. Non-operating surplus. Appropriation of profit not dealt with in cost accounts: 1. 4. mobile van. The differences may be due to the following: 1. Damages payable and paid by law. Cost of transportation should also be included in the total cost. 2. 4. Why the profits as shown by the financial books and cost records are to be reconciled? What are the reasons for differences between profits as shown by cost accounts and financial accounts? Where separate sets of books are maintained for cost accounting and financial accounting purpose. shares and bonds. Amount written off of fictitious assets. 3. a fair share of manufacturing overhead should also be included in the cost of after-sales services. Profit or loss on sale of investments. they should be treated as manufacturing overhead. The following after sales services are treated as selling overhead. Additional depreciation to cover replacement cost of assets. If then damage is caused in transit. Expenses and other losses like.CA –PCC biee@sify. preliminary expenses etc. Expenses on issues and transfers of capital stock. discount on issue and premium on redemption of bonds. the cost is treated as selling overhead. 2. 4. cost of parts and components replaced.Royalty and patent fee may either be based on the units sold or produced or may take the form of a periodical payment of a pre-determined sum. 9. If it is to rectify manufacturing defects. Chennai 34 98415- 37255 . On the other hand. e. 7. the profits disclosed by Costing Profit and Loss Account may differ from that shown in the Financial Account. Costs on after-sales services of an exceptional nature should be charged off to profit and loss account. the cost is allocated to design department. No 58 1st floor North Mada Street. fines etc.. Amount written off of the goodwill and other intangible assets. 3. 10.g.BIEE Cost Accounting Theory . Correct accounting of costs of after-sales services requires a careful analysis of the total costs. dividend and interest received. 6. Cost of after sales service include: 1. they should be treated as selling overhead. Income tax and other taxes based on profit. Purely cost accounting matters: purely cost accounting matters like notional costs (notional rent) are entered only in cost accounts BIEE. Cost of direct materials. 2. 2. Transfer to any other fund or reserves. the cost is treated as manufacturing overhead. It is therefore important that they should be reconciled with each other periodically. Treatment of cost of after-sales services in cost accounts depends upon the cause. or are based on the number of units produced. Expenses of after-sales service department. The balance should be carried forward to the future years for inclusion in overhead of those years. which has given rise to the after sales services. debentures. 7. Costs of direct labour. etc 3. 5.g. 5. Royalty and patent fee . 3. they can be treated as direct expenditure and can be charged straight away to the product. Additional provision for doubtful debts. 5. Nungambakkam. 6.g. 1. If royalty and patent fee can be identified with a specific product.

which manufacture products against specific orders. Each job is different from others. causing difference. This method is also called as ‘production order costing’ or ‘terminal order costing’ It is adopted by many undertakings. Items which are accounted for differently in cost accounting and financial accounting: 1. 2. by which it is identified. etc. because production is not made for stock. In cost sheet full details of costs are entered. it is valued at cost price. BIEE. Overheads: in financial books overheads are debited to the extent of actual amount plus due. while in cost accounts. 3. Nungambakkam. Features – 1. but in cost accounts it is apportioned normally at pre-determined rates. the date of commencement. Manufacturing concerns adopting this method are printing press. The main objective of this costing is to determine profit or loss earned or suffered in executing each job. stock is valued at the lower cost and net realisable value. auto-repair shop. The actual costs are compared with estimated costs. but in financial account it is a definite charge as a percentage on the value of asset. What is job costing? What are its special features? ‘Job order costing’ or ‘specific order costing’ means ascertaining costs of each 50 4. Both manufacturing and non-manufacturing concerns follow this method. A separate cost sheet is made for each job.BIEE Cost Accounting Theory .CA –PCC biee@sify. 4. 4. but against orders. 5. machine tool manufacturing etc. The cost of each job is ascertained. Each job is given a certain number. Different bases of stock valuation : in financial accounts. Before accepting a job. Each job has its own characteristics and so different degrees of attention and skill are required for different jobs. costs are estimated. Abnormal losses are excluded from cost accounts while in financial accounts all such losses are incorporated. No 58 1st floor North Mada Street. Depreciation in cost accounts is charged on the basis of units produced or machine hour rate. Thus correct estimation can be made and profitable and un-profitable jobs can be identified. completion of the job and actual and estimated costs written side by side.. 3. The nature of the job decides the process of each job in passing from department to department. xxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxx JOB COSTING 1. Production is carried out against customer’s order and specification. 2. Non-manufacturing units such as general engineering works. Chennai 34 98415- 37255 . work order or project separately.

Materials . All the packs will contain the same batch number.Define ‘contract costing’. The treatment of important expenses are as follows: 1. In case of normal loss the issue rate to the contract be 51 Advantages ..1.materials needed for the contract can either be purchase directly or drawn from stores. 3. 1. BIEE. Spoilage and defective work can be discovered by every specific job and management can take effective steps in reducing these to minimum. In job costing production is undertaken against specific orders. salary for supervisory staff etc. It helps in future production planning. pharmaceutical industries etc. It collects cost data and detailed analysis of cost by elements and functions. There can be two types of material losses.CA –PCC biee@sify. A batch in manufacturing tablets say contain 2. Even if drawn from stores through Materials requisition .50. at which level total cost will also be the minimum. For e. It helps to know or distinguish the profitable from unprofitable jobs. 4. adopt this method of costing. Builders . unit price falls with increase in batch size.since each contract is distinct from others. What do you mean by the term ‘Batch costing’? how is ‘Economic Batch Quantity’ determined? Batch costing is a type of job costing. whereas in batch costing. The method facilitates quotations in cost + contracts. BATCH COSTING.000 tablets. No 58 1st floor North Mada Street. items manufactured are held in stock and sold on demand. It is usual to give each contract a distinguishing number.BIEE Cost Accounting Theory . EBQ is determined at the point where setting up cost equals carrying cost. The principles of job costing are applicable to contract costing and embrace some basic principles of cost ascertainment. constructional and mechanical engineering firms etc.normal and abnormal. How the various expenses accounted for in contract costing? Contract costing is a type of job costing in which a contract constitutes a unit of cost. 7. A batch is the unit of cost in batch costing. Batch costing is done when production consists of a definite number of articles or production is undertaken which involves limited repetition work. these responsibility of such bad work is fixed on persons or departments. To determine the EBQ. Cost data under job costing help in preparing budgets for future. 4.1. 6. Any return of stores be credited to the contract account. 9. A contract may continue for a longer time even more than a year. the total cost is debited to the related contract. Contracts take a longer time for completion. Since the contracts take a number of years to complete. The cost of production per unit can be found by dividing the batch cost by batch quantity. Nungambakkam. When the materials are purchased for the use of contract. It helps the management in fixing the selling prices of special orders. are apportioned to all contracts as a percentage of materials or labour. this costing is also called as ‘Terminal costing’ Features of contract costing. generally at customers’ site. Determination of Economic Batch Quantity (EBQ) . Setting up costs are fixed per batch.civil engineering firms. all expenses of a particular contract are directly charged to it. Carrying cost involves the cost of carrying large stock. 3. S is setting up cost and c is cost of carrying per unit per annum.A contract ledger is kept in which a separate account is opened for each contract undertaken. It is useful for statistical purposes in the determination of the trends of the different types of the jobs and their relative efficiencies. The cost is collected for this batch as one batch. 5. electrical components manufacture. It helps in preparation of estimates while sending quotations for similar jobs. where D is annual demand. This batch is say packed as 10 tablets per pack. A batch may consist of number of units. cost may be grouped into setting up costs and carrying costs. the problem of finding the realised profits arise.g. Accounting procedure . CONTRACT COSTING 1. 8. The work is executed. interest on capital blocked etc. 2. the amount be debited to the related contract account. This costing is followed in industries footwear factory. The indirect expenses and common expenses of central office.cost of storage. 2. In certain cases. EBQ = √2DS ÷ C . Chennai 34 98415- 37255 .Determination of Economic Batch Quantity is the most important function in batch costing.

At the end of the period the value of plant less depreciation be credited to contract account. However if the credit side is more than debit side representing profit. the value of returned plant. the balance 20% is retention money. Nungambakkam. The material at the site at the end of the period is credited to contract account and will be shown in the balance sheet as materials at site. The cost of such subcontract is debited to the concerned contract account. which is based on work certified. Depending upon the terms of agreement the contractee will pay a certain percentage of work certified. In contract accounts how the profits in the case of incomplete contracts are arrived at and treated in books of accounts Big contracts take several years for its completion. hire charges of special plants etc.It is possible that the contractor may be asked to do additional work. Define ‘ work certified’ and ‘retention money’. At the end of the every period the work-in-progress be valued to the extent of material. The labour employed on contracts is treated as direct labour and the cost is debited to the contract account. However some common expenses like . Hence the profits of incomplete profits are anticipated every year. Every year. No 58 1st floor North Mada Street. the work of painting. The balance of the value in work certified is the retention money. the following procedure be adopted. 3. 3.BIEE Cost Accounting Theory . Similarly if in a year where no contract is completed the profit and loss account may show huge loss. there arises a problem of control. Chennai 34 98415- 37255 . because most of the expenses such as lighting. are brought to the site and kept at site till the work is complete. When there are number of contracts. This procedure is followed every year till the plant is returned to the main office or the contract is complete and executed. 1. 2. in which case. This balance be brought forward to the next period in the debit side of the contract account. These overheads are debited to contract account. a clear record is maintained about the plants issued to the sites of various contracts. The exact amount of profit can be ascertained only at the end of the completion of contract. For instance. The salaries of supervisory staff. the entire amount be transferred to profit and loss 52 The abnormal loss if any in the contract be debited to costing profit and loss account and credited to contract account.CA –PCC biee@sify. The cost price of plant can be debited to the contract account in the beginning. Following is the procedure followed in transferring profits: If the debit side of the contract account is more than credit. in a year where many contracts are completed the profits will be more. the contract price may be increase to include the extra cost in executing such additional work. 5. OR 2. the contractor gives a portion of work to subcontractors. head office expenses are shared amongst the several contracts in an equitable bases. If it is so there will be wide fluctuations in the profits of the concern . The agreement between the contractor and contractee may specify the terms of payment. representing loss. If the amount is large. 6. labour and overheads content in the executed job. Therefore. Where there are more than one site. may be given to another contractor. Labour – The contracts are carried out at the site of construction away from the premises of contractor’s office.special types of plant like concrete mixers. are entirely charged to the respective contract account. This closing balance of materials at site be transferred to the debit side as opening stock in the next period. Further if it is a company form of organisation there will be wide fluctuation of share prices in the securities market. in which case. Extra work . supervising two or more contracts be apportioned suitably and debited to contract accounts. Overheads – generally apportionment of overhead expenses does not arise. if the amount is less it may be debited to the contract account itself. the depreciation alone as a % on cost or on written down value according to the depreciation policy be debited to the contract account. 4. and a certain amount of profit be transferred every year to general profit and loss account. as reduced by depreciation till date of return be credited to contract account. Normally the contract will be executed over a period of time ranging in years. 2. This shall be divided as ‘work certified’ and ‘work uncertified’. For example if the contractee pays 80% of work certified. Work certified is the portion of work-in-progress as certified by a competent authority. Subcontracts – Sometimes. Plant. a separate pay-roll is prepared for every contract. As such no profits shall be transferred to profit and loss account. How ever for such additional work. BIEE. a separate account is opened to debit the concerned expenses on account of extra work and added to the cost at the end. This renders profits incomparable. There are two methods of accounting for plant in contract accounts. special flooring etc..

It safeguards the contractor and the contractee against unfavourable changes in prices of materials and labour. The method of costing is advantageously used in undertaking like collieries. Labour charges can be charged directly from pay-rolls. Escalation clause and 2. ship yards etc. where a single article is produced in a large scale or produced in two or more grades. if the contract is recently started and the work completed is less than one-fourth of the total work. Adjustment may be needed for opening and closing stock of raw materials. In all the above first three 53 1. Factory overhead is added first to get factory cost. Direct chargeable expenses can be charged straight to the products from concerned registers. The administrative overhead be added with factory cost to get cost of production. the contractor is assured of the actual cost to which a margin of profit is added. The contractor receives a reasonable profit and the contractee is ensured of a reasonable price. At this stage the opening and closing finished stock be adjusted to get BIEE. sugar mills. Neither of them stands to lose. 5. 6. Material consumed = opening stock + purchases – closing stock. Collection of cost-.The procedure of cost ascertainment – 1. 4. Cost plus contracts . 2. who possesses the right. Chennai 34 98415- 37255 . The total cost incurred is subject to scrutiny by the contractee. What do you mean by 1. The profit is in the form of a fixed amount or of a percentage in cost. administrative overheads and selling and distribution overheads and be added to the cost of the products. to find out the cost per unit the total cost is divided by number of units produced. brick fields. a detailed analysis of expenditure is essential. 6. The opening and closing work –in progress be adjusted along with factory cost. Cost per unit = Total cost ÷ units produced. 7.CA –PCC biee@sify. increase in costs etc. Under these circumstances. Cost plus contract Escalation clause – It is a clause in the agreement of a contract. no profit should be transferred to profit and loss account. where the contract is fully completed the entire amount of profit be transferred to profit and loss account. If 50 % but less than 100% is complete. Indirect expenses are collected under three heads. 3. If two or more grades and sizes of commodities are produced .factory overheads. If the contract is complete one-fourth but less than one-half. Raw materials consumed are charged directly. the profit to be transferred is arrived at as follows: Notional profit X 2/3 X cash received÷ work certified 4. If only one product is produced. 4.Certain contracts are such that their cost cannot be estimated in advance.BIEE Cost Accounting Theory . the difference in the contract account after transferring to profit and loss account be treated as reserve to meet future contingencies such as penalties. which provides to compensate the contractor to accommodate the price variance in the cost of materials or labour because of market fluctuations. This clause is included in the case of long period contracts. Nungambakkam. This method can also be used in such concerns. the profit to be transferred to profit and loss account is calculated as: Notional profit X 1/3 X cash received÷ work certified 3. 2. cement factories. The output is measured convenient physical units. UNIT OR OUTPUT COSTING 1. detailed analysis of cost is not necessary. Cost plus contract is advantageous to both the contractor and contractee. What are the main features of unit costing? how the cost is collected under unit costing? Unit costing or output costing or single costing means the ascertainment of the cost of producing a unit of output. paper mills. No 58 1st floor North Mada Street. This method is used in industries where production is identical or uniform and manufacturing process is continuous.

3. 3. Scrap or wastage – Materials obtained during the course of production or the residue in the course of manufacture. The tender or quotation be prepared in the form of a cost sheet. The realisable value of by-products is deducted from the factory overheads and there by will reduce the cost of main product. How the following are treated under unit costing. The total cost be divided by the number of units sold to get the Cost of Sales per unit. Chennai 34 98415- 37255 .BIEE Cost Accounting Theory . Unless to the contrary. it can be included in the factory cost. they will be calculated at certain recovery rates based on certain conventional bases. 1. Scrap or wastage. which are useless for production are called scrap or wastage. The scrap materials are sold out and this will reduce the cost of material 54 Cost of Production of Goods Sold. Defective products. 2. If it is abnormal. What do you mean by “Tenders and Quotations”. it can be transferred to costing profit and loss account or to a separate account called ‘defectives account’. 2. The collection of cost are set out in the form of a statement called statement of cost or cost sheet. Manufacturing operations causes them. It will denote the price at which the producer is prepared to supply the products. With the cost as calculated desired profit be added and the tender price or quotation price is fixed. Tenders and quotations are the estimates given to the prospective customer. Defective products – defective products can be rectified at an extra cost. 8. Materials. BIEE. How are they prepared. The selling and distribution overhead be added to get cost of Cost of Sales. Estimates are made on the basis of the past cost structure. For the purpose of inclusion of overheads. factory overheads be found as a % on wages. This scrap value will be reduced from materials or factory overheads. The cost is found as said above with due adjustments for changes in rates etc. wages and direct chargeable expenses are variable costs and calculated per unit.9. administrative overheads as a % on factory cost and selling over head as per unit sold or as a % on sales value. By-products and 3. (A specimen of cost sheet can be given) 2. Tenders and quotations are based on past performance. By-products – Some by-products arise from the manufacturing process. Nungambakkam.CA –PCC biee@sify. 1. No 58 1st floor North Mada Street. It is caused by normal reasons.

is made ineffective. Disadvantages – 1. The system invites monopolistic tendency. 7. 10. 2. allocation.BIEE Cost Accounting Theory . Advantages – 1. It means and involves that different concerns should adopt a common method of costing and apply uniformly the principles. The system is expensive as for as small units are concerned. techniques and practices. Uniform costing is the base for inter-firm comparisons. 6. Performance of individual unit can be measured with the standard laid down. Reliable data of the industry facilitates the Government in taking current decisions. 7. There is a tendency of increasing prices. 9. Better and standardised systems are available for the undertakings. To maintain secrecy. It reduces labour turnover. costs and profits of firms of an industry. capital investment etc. Inter-firm comparison facilitates further cost control and cost reduction. 9. The central co-ordinating organisation collects the information from its members at regular intervals. 3. 2. 8. but in the form of ratios. This system will provide reasonable price to customers and profit to producers. apportionment of costs etc. Chennai 34 98415- 37255 . the data are not given in absolute figures. 8. the objective being to facilitate 55 UNIFORM COSTING 1. there arises difficulty to lay down standard and common principles. There is a central co-ordinating organisation. Comparison helps to bring uniformity in the production cost of different units of the same industry. Whatever maybe the method of finding cost. Comparison of cost of production will facilitate the improvement of production capacity and labour efficiency. 10.firm comparison’. Fixation of a common sale price is rendered possible. which collects data from its members analysed and presents them in a suitable manner for the benefit of its members. 7. Elimination of unhealthy competition among different units of an industry is possible. generally once in a year. Mutual trust and confidence may not continue for long. No 58 1st floor North Mada Street. What is uniform costing ? what are its objectives. because some member units will not pass secret information to the common pool. Inter-firm comparison is a technique of self control and self improvement. It is difficult to find a common basis for classification. 5. 2. Cost control and cost reduction are made effective. Determination of common policy for different firms of an industry is possible. 2. 4. 4. What do you understand by ‘inter-firm comparison’? What are the advantages and disadvantages of inter-firm comparison. Prices fixed on uniform costing or on reliable data create confidence among consumers. advantages and disadvantages? Uniform costing is not a separate system of costing like job costing or process costing. The trade association for the benefit of its members designs a uniform costing system. a consolidated report is prepared. Inter-firm comparison is the technique of evaluating the performances. Objectives – 1. Exchange of ideas and technological knowledge among the members is possible. Firms are rarely identical and so costs may be incomparable. Weaker participating members can improve the efficiency by following standard methods. Difference in member units on account of labour forces. nature of plant. 3. When the size and type of business differ. Smaller units can reap the benefit of researches and experiment carried on by the big firms at no expense. 3. Uniform costing system is a pre-requisite to an inter-firm comparison. 8. Wage boards find it easy to fix minimum wages or fair wages. BIEE. The cost of installation of a costing system is high. Thus uniform costing is defined as ‘A common system using agreed concepts. 6. On the basis of the data. 5. The stability in demand for products can be achieved. efficiencies. it is simply a system of costing designed by an industry for the use by its various firms.CA –PCC biee@sify. Uniform costing is defined a ‘the use by several undertakings of the same costing principles and or practices’. 6. 5. 9. principles and standard accounting practice adopted by different entities in the same industry to ensure that they all deal with accounting information in a like manner. the method is applied uniformly by all the concerns of a particular trade association. Cut throat competition is avoided. Nungambakkam. In certain cases a questionnaire is sent and data are collected in the form of replies. 4. 10. The standardised terminology may be misunderstood by the member concerns.

8. 2. transport companies. OPERATING COSTING Define operating costing.. It is the cost of rendering a service. prices are to be adjusted for changes. In the absence of co-operation among members.g. Disadvantages – 1. gas etc. 2. the scheme may not be worked out properly. Services rendered to customers are called external services.BIEE Cost Accounting Theory . transport services. It assists Government in industrial development and regulations through appropriate policies. but useful service is rendered. 4. hospital Per patient bed 4. Information supplied by many firms may not be reliable. Chennai 34 98415- 37255 . It guards the absolute data. repairs and maintenance department or canteen in a factory is a n internal service. the efficient firms may not be willing to participate in the scheme. Goods transport Per tonne kilometre 3. utility services like canteens. Gas works Per 1000 cubic feet 8. Inter-firm comparison helps management to control the costs. 9. Improved method of production and technical knowledge of the superior firm. sometimes. Steam production Per 1000 lbs 9.CA –PCC biee@sify. In comparison process the time factor which is important is ignored. 10. 8. 3. hospitals. 7. No 58 1st floor North Mada Street. electricity companies etc. Canteen Per plate meal 6. Electricity supply Per kilowatt hour 5. becomes available to less efficient firms. Institutions Per student BIEE. Passenger transport Per passenger kilometre 2. Before comparison is made. there is internal or external service. Cost consciousness is created among the participant firms and they are cautious at every level. Operating costing method is one designed to ascertain and control the costs of the undertakings. 5. 6. Cinema theatre Per man show 7.g. 5. Efficient system of reporting can be developed and presented in standardised forms. 7. For e. Industries using operating costing do not provide tangible products. E. It facilitates fullest utilisation of available resources. Inter-firm comparison makes the management aware of its strength or weakness in relation to others in the industry... Due to lack of scientific costing system. S. For e.g. distribution services like supply of electricity. The central agency may. It eliminates unfair competition among the firms.. 9. Cost unit – the selection of cost unit is different in operating costing. 6. hospitals etc. In certain cases suitable base of comparison may not be available. Firms may not be prepared to disclose information relating to their production and cost structure. Production can be improved when the area of weakness or uneconomies is located. Nungambakkam. Operating costing is also known as service costing. it is that form of operation costing which applies where standardised services are provided either by an undertaking or by a service cost centre within an undertaking. Cost of implementing the uniform costing system may be heavy. But no adjustments are made.No SERVICE COST UNIT 1.. which do not produce products but which render services. to arrive at correct idea. Thus conclusions may be wrong. the following are few examples. 4. fail to induce the firms to supply the necessary information. lodge Per man room 10. Mention the industries where it is applied and their cost 56 Advantages – 1. 3.

Costs are transferred from one process No such transfer of costs from one job to to another process other unless there is a cost relation between jobs. The basic raw material is introduced in the first process and the finished stock emerges out of last and indirect are recorded in each process. Control over cost and production can be advantageously effected as pre-determined and actual data are available for each process. 2. The production is a continuous flow of Production is executed against specific stock in anticipation of demand order from customers. say daily or weekly. 57 PROCESS COSTING 1. Chennai 34 98415- 37255 . to find the cost of performance in each department. 2. no managerial control is made easy standardisation calling for intensive managerial attention. The cost of the previous process along with the output be transferred to next process. 3. can be ascertained. The cost of different processes as well as finished goods can be computed conveniently at short intervals. 2. Stores process1 process2 process3 warehouse The cost is collected and ascertained and transferred to the next process. 9. by-products and joint products may arise. process for a period 5. The factory is divided into a number of process cost centres or departments and in each cost centre accounts are maintained.No Process costing Job costing 1.CA –PCC biee@sify. closing work-in-progress. There is always work-in-progress both Jobs may or may not have opening and in the beginning and at the end. Costs are found out at the end of the Costs are found at the completion of every period job. Costs are accumulated for each Costs are accumulated for each job. 6. Finished products are homogeneous. The finished product of one process is the raw materials for the subsequent process. Paper work is less Since every job is costed separately there is more of paper work. The output of one process becomes the input of next process. total cost of the finished product comprises of all costs incurred in all processes. All types of costs. 3. 4. And continuous to flow from one process to other in sequence till it reaches the last process from which it will be transferred to warehouse for the purpose of stocking. Distinction between process costing and job costing S. What are the features. Where the plants doing similar functions are grouped together in every department and the materials are allowed to move from one department to other department. 3. No 58 1st floor North Mada Street. Define process costing and distinguish it from job costing Process costing is a method of costing. 6. process costing is used. 8. thus. Of course. advantages and disadvantages of process costing? features: 1. Nungambakkam. 5. the total cost of the last process will reveal the totality of all costs incurred in all the processes. It involves less clerical work because of the simplicity of cost records. Since production is of standard Production is based on individual products they are uniform specification and may differ widely. BIEE. while converting raw materials into finished products. 4.5. calling for cost allocation to such products. Advantages – 1. It enables the correct valuation of inventories. Through standardised systems Since each job is different. The average cost of homogeneous products can be easily computed. Expenses can be allocated to different processes on rational basis and accurate cost. 4. The layout of plant and machinery decides the type of costing to be adopted. this method refers to costing of distinct process involved.BIEE Cost Accounting Theory . 2. 6. No individual identity of products Different jobs are individually identified.

What is the accounting treatment for by-products? BIEE. prime cost. such by-product having either a net realisable value or a usable value which is relatively low in comparison with the saleable value of main products. water etc. Joint products are those which emerge at the end of a single process or at the end of different processes and which are of equal importance in terms of sales value and profit. wages. these overheads are recovered at predetermined rates based on wages. the accumulated cost of the transferring process is credited in its accounts and the process to which it has been transferred shall debit the same. For expenses such as depreciation . Joint products – Joint products are defined as ‘two or more products separated in the course of processing. gas is the main product and coke is the by-product 5. resulting in approximations. Define joint products and by-products. each having a sufficiently high saleable value to merit recognition as a main product’. Generally. 3. By-products may be further processed to increase their realisable value’. in coke ovens. 4.2. Chennai 34 98415- 37255 . 4. In petroleum industry petrol. Where the finished product of one process is transferred to the subsequent process. Nungambakkam. kerosene emerge as joint products. direct expenses and indirect expenses are charged to the process concerned.product is that the joint product has got a high resale value similar to the main product and hence worth treated as main product. Production of joint products depends on technology and not on managerial decisions. Overheads. All expenses – materials. The system of costing conceals weaknesses and inefficiencies in processing. Materials – Materials required for each process are drawn from stores through Material requisitions. No 58 1st floor North Mada Street. Relevant evidences are made available through machine booking cards. It does not evaluate the efforts of individual workers or supervisors. Joint products are not distinguishable unless a stage called split off point is reached in processing where they get separated from each other. consumable stores etc are debited to the concerned process accounts directly. Production of by-product is incidental to production and cannot be avoided by managerial decision. Labour cost – Wages paid to workers who are engaged in a particular process are directly allocated to the process concerned. How the cost is collected in process costing? The factory is divided into distinct processes or operations and a separate account is maintained for each process. The following is the method of cost collection in respect of every process. The basic difference between joint product and by.1. which are some common expenses of one or more processes. whereas by-product has got a negligible vale and therefore can not be treated as main product. By-product – ‘ A product which is recovered incidentally from the material used in the manufacture of recognised main products. lighting. coke is the main product and gas is a by-product. If production is not homogeneous. in foundries castings of different shapes and sizes are made) the average cost may give an incorrect picture of cost. Direct expenses. E. The cost ascertained at the end of the process is historical cost. 5.CA –PCC biee@sify. Material Requisitions etc. The main product of an industry may be the by-product of another industry. Each process is debited with the cost of materials issued according to the requisition. diesel. telephone. liquid petroleum gas. while in gas works. gas. The time booking cards will form the basis for such allocation. ( 58 Disadvantages.g.Rent. The valuation of work-in-progress on the basis of degree of completion is merely a guess work. which is of negligible use for managerial control. machine hours etc.BIEE Cost Accounting Theory . 3. may be apportioned to the various processes on suitable bases.

Nungambakkam. Physical units method.e in metres. including joint products.the value realised by the sale of by-products is treated as other income because of its negligible value. The stock of by-product is valued at zero value for the purpose of balance sheet. BIEE. Average unit cost method. 2. tonnes etc. Crediting the actual cost to process account – in case the by-products need further processing before sales.. Chennai 34 98415- 37255 . c. physical units are the units in which the basic raw material is measured. the by-products are valued at standard cost and credit is given to the process account. 7. b. The total process cost of pre-separation is divided by the total units including the joint products.e. Survey method (Point Value Method) – This method is adopted after a technical survey of all factors involved in the production and distribution of products. 3. 6. the by-products are utilised in the same industry as raw materials and valued at the market 59 By-products can be of two types – certain products can be sold in their original condition and certain products need further processing after separation. In accounting for joint products. If any expenses incurred in selling by-products shall be deducted from its sales value and the balance be credited to process account. This method cannot be used if the products of different physical measurements. i. the process account is credited to the value. this method the joint costs are apportioned on the basis of some physical units (raw materials) this method. This method is applicable where process are common and inseparable from products and expressed in common units. Define scrap and wastage. Percentage or points value is assigned to each product to denote its relative importance and common costs are apportioned on the basis of total points. 4. Market value method – In this. The following are the methods of separation of joint expenses. 1. In this method also the cost of by-product stock is taken as nil for the purpose of balance sheet.Standard price – in this method. the cost of it is debited to the by-product account and credited to process account.BIEE Cost Accounting Theory . the joint expenses incurred before separation be apportioned to main products and joint products in a suitable basis. In accounts they are treated in any one of the following methods. B . No 58 1st floor North Mada Street. How the joint costs are allocated to main products and joint products. c.Non-cost methods (sales value method) - a. Apportionment on suitable basis – where the by products are prominent. And is determined at the point of separation of the joint products. replacement cost – under this method. they will be treated as joint products and as such joint cost is apportioned in a suitable basis. cost methods a. weight or volume applicable for all units. the joint costs are apportioned on the basis of the proportion of market price of the products. 1. Thus products having higher price are charged with higher proportion of the joint costs and products having lesser price get lesser share of the joint costs. crediting sales value to the process account – Under this method the value of the by-product is credited to process account. so that the cost of them causes some reduction in the price of main product.CA –PCC biee@sify. it is assumed that the total cost of the process is borne by all units equally. By-products are produced along with main product and the same are of comparatively of less value. Other income method.

For the purpose of accounting treatment. accidents etc. Nungambakkam. Unless otherwise stated it shall be assumed to have been sold at scrap rate of normal loss that shall be debited to cash account and credited to abnormal loss account. The spoilt material that can be sold off at below the cost is termed as scrap. 2. 9. bad workmanship.BIEE Cost Accounting Theory . for which cash account is debited and Normal Loss account is credited. Thus value of abnormal loss is: Al = {(Total cost – value of normal loss) ÷ (Input. Waste is defined as ‘Discarded substances (materials) having no value. Costing P&L xx x xxx x xxx BIEE. Unavoidable loss is treated as normal loss and it consists of 1. Normal loss is calculated in advance by technical estimate or on the basis of past experience and it indicates the loss that would occur in normal conditions. but abnormal loss is valued at the rates of cost of production. Scrap is defined as ‘Discarded material which have some recovery value and which is either disposed of without further treatment (other than reclamation and handling). abnormal loss and abnormal gain. These units be 60 A loss of material due to evaporation or spoilage in process is inevitable in process industries and therefore output from the process is less than the input. 8. Losses inherent in the material or process due to chemical changes or other physical reasons. Spoilt material may sometimes be reintroduced in the process after reprocessing and such spoilt material is also known as scrap. Process account Abnormal Loss account Qty Amt qty Amt qty Amt By NL x xx To process x xxx By cash x xx … AL x xxx . Chennai 34 98415- 37255 . Unavoidable spoiled quantities or units withdrawn for test or sampling. What is the accounting treatment for normal loss. Write a note on ‘Normal and Abnormal loss’. The term abnormal loss includes abnormal scrap and wastage also. Treatment of normal loss – The normal loss shall be valued at scrap rate.units of NL)} X AL units. Loss in excess of normal loss is termed as abnormal loss and is usually caused by unexpected or unfavourable conditions such as use of substandard materials. No 58 1st floor North Mada Street.CA –PCC biee@sify. These losses may be of either scrap or waste. The term normal loss includes normal scrap and normal waste. In most process industries the loss of material which is unavoidable can be estimated in advance. For example. The normal loss shall be valued at scrap rate. there should be a clear distinction between normal and abnormal losses. after deducting the value of normal loss. copper off-cuts may be reprocessed for conversion into copper strips for reintroduction in the process. The value of normal loss shall be debited to Normal Loss Account and credited to Process Account. The balance in abnormal loss account will be transferred to costing profit and loss account. Process account Normal loss Account Qty Amount qty Amt qty Amt By NL x xx To pro x xx By cash x xx x xx x xx Treatment of Abnormal loss: the abnormal loss shall be valued at the cost of production. The value of abnormal loss is debited to abnormal loss account and credited to process account.. or reintroduced in the production process in place of raw material’.

Abnormal loss/abnormal gain. Statement of cost per unit per element of cost and 3. Discuss equivalent production. No 58 1st floor North Mada Street. The value of abnormal gain is: Ag = {(Total cost – value of normal loss) ÷ (Input. by dividing the total cost incurred by the total units produced during the period. the normal loss in terms of units shall stand reduced to the extent of units of abnormal gain. The balance in abnormal gain account shall be transferred to costing profit and loss account. Specimen of statement of equivalent production Input Particulars Output Materials labour Overheads % units % units % units Opening WIP Fully completed N loss A loss Closing WIP TOTAL BIEE. But when the process is a continuous process. Thus equivalent production represents the out put of a process expressed in terms of completed units. Because of abnormal gain. fully completed units be converted at 100% and closing stock to the stage of completion in respect of each and every element of cost. Chennai 34 98415- 37255 . if unit cost is arrived at on the basis of the total process cost and units produced. The average cost per unit is determined in progressing type of industries. Nungambakkam. Statement of equivalent production. unless other wise stated be converted at 100%. Normal loss shall be considered as nil. Process account Abnormal gain account qty Amt qty amt qty Amt qty Amt To AG x xx By NL x xx To NL x xx By Process x xx To Costing P&L x xx x xx x xx 10. 1. In such cases.CA –PCC biee@sify. Hence the work-in-progress is required to be converted into their equivalent of completed units. ignoring incomplete units will not represent the correct cost. This is done on the basis of estimate or percentage of degree of completion in respect of every element of cost the concept calls for preparation of three statements. A statement of equivalent production 61 Treatment of Abnormal gain – Abnormal gain shall also be valued like abnormal loss. there is always in complete work in the opening and closing periods of each process. Wheldon defines the equivalent production as ‘the production of a process in terms of completed units’. Hence a sum equivalent to the proportionate value of abnormal gain at scrap rate be transferred from abnormal gain account to normal loss account.BIEE Cost Accounting Theory . – in this statement every output including the WIP shall be converted to its equivalent fully completed units in respect of each and every element of cost. 1. But the incomplete units should not bear the same cost as fully completed units. The value of abnormal gain is debited to process account and credited to Abnormal Gain account. Under FIFO method opening work in progress be converted to the stage of balance of completion. Statement of evaluation.units of NL)} X Ag units.

may be transferred at cost plus some percentage of profit added to it.e no conversion of opening wip in terms of balance of units to be converted. for which purpose the amount of unrealised profits is deducted from the value of closing work in progress. No distinction is made between opening WIP and fully completed units. Production = Opening WIP + input during the period – closing WIP 11. Hence. the profit transferred to profit and loss account will contain an element of unrealised profits to the extent of the profit content in the opening work in progress of all the processes. Unless otherwise stated Normal loss is calculated as a percentage of 62 Specimen of statement of equivalent production (with Abnormal gain) Input Particulars Output Materials labour Overheads % units % units % units Opening WIP N loss Fully completed Closing WIP Less: A. Statement of cost – I n this statement the cost in respect of each element of cot is divided by its corresponding equivalent production. in respect of every element of cost as a product of its corresponding equivalent production and rate. How the evaluation is made in equivalent production under ‘Average Cost’ method. The cost of transfer to the next process will be calculated as the sum of opening value of opening work in progress plus its proportionate cost as per statement of evaluation plus the cost of fully completed units. which shall be deducted from the total profits in order to take into account only the realised profits. in respect of each and every element of cost will be given. 3. the value of opening WIP in respect of each element of cost be added up with the current period cost in respect of those corresponding elements and the total cost is divided by the equivalent production units. No 58 1st floor North Mada Street. 12. Statement of evaluation – in this statement. Discuss ‘inter process profits’ When the produced goods are transferred from one process to other and at the end from final process to finished stock. Under such circumstances. The value of normal loss be deducted from cost of materials before calculation of rate.CA –PCC biee@sify. to arrive at the rate of cost per unit. abnormal loss/gain and closing work in progress be valued. The total cost of an output is the sum of all costs as calculated in respect of each and every element of cost. The transfer to the next process is treated as production and taken as 100% complete. the amount of unrealised profits is calculated. I. BIEE. Chennai 34 98415- 37255 . In evaluation statement also opening Wip will not be evaluated separately. Under this method the value of opening WIP. In the statement of cost.gain TOTAL 2. every output.BIEE Cost Accounting Theory . The closing stock of work in progress in the balance sheet shall be stated only at cost price. Nungambakkam. Further the closing work in progress of each department is also overvalued to the extent of profits added by the previous processes. fully completed units. opening wip.

The ICWA defined marginal cost as the amount at any given volume of output by which the aggregate costs are changed. Better presentation – The statements and graphs prepared under marginal costing are better understood by BIEE. which is the difference between marginal income and marginal cost. Helpful to management . The management can take decision regarding pricing and tendering. process costing etc. variable part being added with variable overheads for treatment as marginal cost and fixed element is added with fixed overheads. Chennai 34 98415- 37255 . Make or buy decisions – Sometimes. management can control marginal cost effectively. Marginal costing is a technique of costing which is used in conjunction with other methods of costing. 2. Better results – when used with Standard Costing. a decision is to be made whether to manufacture a component or a product or to buy it ready made from the market. 9. Features of Marginal Costing – 1. The variable cost includes cost of materials. When evaluation of finished goods and work in progress are taken into 63 MARGINAL COSTING 1. 4. incremental costing and comparative costing. Effective cost control. 11. As fixed costs are period costs. Helps in production planning – It shows the amount of profit at every level of output with the help of cost volume profit relationship. The break even chart is used for such types of decisions. Any price above the floor price may be quoted to increase the total contribution. it gives better results.It divides cost into fixed and variable. 12. Preparing tenders – Many business enterprises have to compete in the market in quoting the lowest price. Fixed and variable costs are kept separate at every stage.It reduces the degree of over or under-recovery of the overheads due to the separation of fixed overheads from production cost. Fixed cost is excluded from product. which will be equivalent to Prime cost per unit + variable overheads per unit. 7. marginal costs are stable.CA –PCC biee@sify. What are the advantages and disadvantages of marginal costing? Advantages – 1. Thus marginal cost = Increase in total cost÷ Increase in output. but in the long run. Fixation of selling price – the differentiation between fixed costs and variable costs is very helpful in determining the selling price of the products or services.BIEE Cost Accounting Theory . they will be valued only at marginal cost. becomes the ‘floor price’.As the fixed overhead costs are excluded from product cost. 5. It is helpful in determining which is profitable whether to buy or manufacture a product. The decision to purchase it would be taken if the price paid recovers some of the fixed expenses. Helpful in Budgetary Control – the classification of expenses is very helpful in budgeting and flexible budget at various levels of activities. Uniform and realistic valuation . Total variable cost. Constant in nature – variable costs fluctuates from time to time. Marginal costing is not a method of cost ascertainment like output costing. As such. the valuation of work-in-progress and finished goods becomes more realistic. 10. Only variable costs are considered as the cost of output. The other names of marginal costing are: direct costing. In marginal costing only variable items of costing alone is considered. 8. 6. labour and variable elements of overheads.It enables the management to start a new line of production which is advantageous. Nungambakkam. differential costing. Marginal cost = variable cost. 5. Marginal costing is a method of control costing and useful to the management in managerial decisions. As fixed costs are period costs they will be debited in full to the P&L account and not carried forward to the next year. 6. is the profit against which the fixed expenses are adjusted to find the net profit. when separately calculated. 3. Treatment of overheads is simplified . According to Joseph Marginal costing is a technique of determining the amount of changes in the aggregate costs due to an increase of one unit over the existing level of production. No 58 1st floor North Mada Street. Fixed costs are not allocated to the products and are charged directly to profit and loss account. Marginal contribution.3. different prices are charged for the same article in different markets to meet varying degrees of competition. Semi variable costs are split into variable and fixed. 2. Sometimes. 4. What is marginal costing and what are its main features? Marginal costing is a technique of costing which may be used in conjunction with other methods of costing. they are excluded from cost of production. if the volume of output is increased or decreased by one unit. 2. As such it arises from the production of additional increments of output.

Profit-volume ratio 4. Contribution margin = Sales – Variable cost. No portion of fixed overhead is added to the value of stock. 64 management executives. Explain the concept of ‘Break-even analysis’ and P/V ratio. ‘the most significant single factor in profit planning of the average business is the relationship between the volume of business costs and profits’. Difficulty in fixation of price –Under marginal costing. And. all cost are variable depending upon the level of operation and capacity utilisation. Profit graph 5. Thereby cost-volume-profit analysis is the relationship among cost.BIEE Cost Accounting Theory . but in long run. Generally total cost will not change in direct proportion to the production and thereby a small change will affect the profit also. The break-even analysis presents the behaviour of cost. Marginal costing equations: Sales = Variable cost + Fixed cost + Profit or loss Sales – Variable cost = Fixed cost + Profit or loss Sales – Variable cost = Contribution ∴ Contribution = Fixed cost + Profit or loss For more profits contribution must be higher than fixed cost and to avoid loss contribution should be equivalent to fixed cost. Profit = Sales – Cost of goods sold.7. 5. sales. because the fixed cost per unit decreases and vice versa. Marginal cost formulae. contribution etc. S. which is a difficult process. cost. 4. Closing inventories are valued at full Closing stock is valued only at variable cost. To understand the cost volume profit relationship a study of the following is essential 1. Difficulty to analyse overhead – Separation of cost into fixed and variable is a difficult problem. established. fixed expenses occupy major portion in the total cost. Significance lost – In capital intensive industries. In the words of Heiser. Key factor and 6.1. When the output is the maximum within the installed capacity. When the volume of output increases unit cost of production decreases. it adds to the contribution.It does not explain the reason for increase in production or sales. Nungambakkam. This factor is ignored under this system. In the event of insurance claim. it is very difficult to fix the price. semi-variable costs are not considered. But marginal cost covers only variable costs. unreliable stock valuation – under marginal costing stock of work-in-progress and finished goods are valued only at variable cost. there is no question of under or over- overheads absorption of overheads.CA –PCC biee@sify. In case of cost plus contracts. Briefly explain the concept of Cost-Volume-Profit analysis. 3. Time element ignored – Fixed costs and variable costs are different in short run. thus the results can easily be grasped.fixed and variable are charged Only variable costs are charged to to products products. 3. 2. 5. 3. Unrealistic assumption – Assumption of sale price will remain fixed at different levels of operation is false. 3. The cost-volume-profit analysis helps or assists the management in profit planning. In order to increase the profits. 4. In marginal costing. claim made as valued under marginal costing is unfavourable to the organisation. Disadvantages. Break-even analysis. in terms of charts and graphs. They will be segregated into fixed and variable. All costs.2. As such it looses significance in capital industries. 4. Since all the costs are included it may Since fixed overheads are not included in lead to under or over-absorption of cost. It does not reveal the cost-volume-profit Cost-volume-profit relationship is relationship. Sales mix. Distinguish between ‘Absorption Costing’ and ‘Marginal Costing’. a concern must increase the output. selling price is fixed on the basis of contribution. 5. and Profit = Contribution – fixed cost. No 58 1st floor North Mada Street.No Absorption Costing Marginal Costing 1. Complete information is not given. 2. Chennai 34 98415- 37255 . BIEE. volume and profit.

BIEE Cost Accounting Theory - CA –PCC 65
The break- even- point and break- even- chart are two by products of break even analysis.
In a narrow sense, it is concerned with the break even point and in the broad sense it is concerned with
break even chart. Break even analysis is also known as cost volume profit analysis. It is a tool of
financial analysis whereby the impact on profits of the changes in volume, price, cost and mix can be
estimated with reasonable accuracy.

Break-even-point: Break even point is the equilibrium point or balancing point of no profit no
loss. This is a point at which loss ceases and profit begins. This is the point where income is exactly
equal to expenditure. This is the point where sales will be equal to the total cost. The formula to
calculate BEP is:
BEP(units) = Total fixed cost ÷ contribution per unit.
BEP(Sales)= (Total fixed cost ÷ contribution per unit) X Selling price per unit.
Where information in totality instead of per unit is given:
BEP(Sales)= (Fixed cost X sales)÷ total contribution.

P/V ratio – P/V ratio is called as profit-volume ratio expressing the relationship of profit to sales.
The ratio is also denoted as contribution- sales ratio, marginal income ratio or variable-profit ratio.
P’V ratio = (contribution÷ Sales) X 100
= {(Sales – Variable cost)÷ Sales} X 100
= {( Fixed expenses + profit)÷ sales }X100
BEP(Sales) = Fixed cost ÷ P/V ratio.

Break-even-chart Graphical representation of break-even analysis is called break-even-chart.
BEC is a graph showing the amount of fixed expenses, variable expenses and sales at different
volumes of output. The point of intersection of the total cost and sales lines indicates the BEP. The
vertex drawn from the point of intersection to the x-axis indicates BEP in terms of units. And the line
drawn horizontally to denote BES. The angle created at the point of intersection of sales and total cost
lines is the slope the quantum with which the profit increases above BEP and vice versa. This is known
as θ., otherwise known as ‘Angle of Incidence’. At a particular activity level the difference between the
Break- even sales and actual sales is called as ‘Margin of safety’.

The margin of safety ratio at a particular level of activity is:
MSR = (Margin of safety ÷ actual sales) X 100

Value Sales
Total cost

Fixed cost


Assumptions of break even chart: 1. Fixed costs remain the same and do not change with the
level of activity. 2. Costs are divided into fixed and variable cost. Variable cost change in accordance
to output. 3. Selling price remains the same at different levels of activity. 4. There is no change in the
product mix. 5. There is no change in the level of efficiency. 6. Policies of management do not
change 7. No change in manufacturing process due to non-static operating efficiency. 8. As the
number of units produced and sold are the same, there is no closing or opening stock.

Advantages of break-even chart-1. Total cost, variable cost and fixed cost can be determined at
various levels of activity. 2. BE output or sales value can be determined. 3. Cost-volume-profit
relationship can be studied. 4. Inter-firm comparison is possible. 5. It is useful for forecasting and

BIEE, No 58 1st floor North Mada Street, Nungambakkam, Chennai 34 98415-

BIEE Cost Accounting Theory - CA –PCC 66
plans. 6. The best product mix can be selected. 7. Total profits can be calculated. 8. Profitability of
different levels of activity, various products or profits etc can be known. 9. It is helpful for cost control.

Limitations – 1. Exact and accurate classification of cost into fixed and variable is not possible.
Fixed costs vary beyond a certain level of output. Variable cost per unit is constant and it varies in
proportion to the volume. 2. Constant selling price is not true. 3. Detailed information cannot be
known from the client. To know all the information about fixed cost, variable cost and selling price a
number of charts must be drawn. 4. No importance is given for opening and closing inventory. 5.
Various product mix on profits cannot be studied as the study is concerned with only one sales mix or
product mix. 6. Cost, volume and profit relation can be known; capital amount, market aspects, effects
of Government policy, which are very important in decision making cannot be considered from BEC. 7.
If the business conditions changes during a period, BEC becomes out of date as it assumes no change
in business conditions.

6. What is meant by key factor?

Firms would try to produce such commodities that fetch a higher contribution. This assumption
is based on the possibilities of selling out the product at the maximum. Sometimes it may happen that
the firm may not be able to push out all products manufactured. Some times the firm can sell all the
products it manufactured but production may be limited due to shortage of materials, labour, plant
capacity, capital, demand, etc. the key factor or limiting factor is that factor which puts a limit on
production and profit of the firm. These factors are also known as principal factors or critical factors.
When there is no limiting factor, the production on the basis of the highest P/V ratio. When two or
more limiting factors are in operation, they will be seriously considered to determine the profitability.
Profitability = Contribution ÷ Key factor (materials, labour, capital etc)

7. What are the various applications of marginal costing technique?

Marginal costing is an extremely valuable technique with the management. The cost volume
profit relationship has served as a key to lock storehouse of solutions to many situations. It enables the
management to tackle many situations, which are faced in the practical business. Marginal costing
helps the management in decision making in respect of the following areas.

1. Cost control - the two types of costs- variable and fixed- are controllable and non-
controllable respectively. The variable cost is controlled by production and the management controls
the fixed cost.

2. Fixation of selling price- Product pricing is very important function of management. One
of the purposes of cost accounting is the ascertainment for fixation of selling price. Marginal cost of a
product represents the minimum price for the product and any sales below the marginal cost would
entail a loss of cash. There are cyclic periods in business- boom, depression, recession etc. during
normal circumstances, price is based on full cost. The theory is that only those products should be
produced or sold which make the largest contribution towards the recovery of fixed costs. The selling
price fixation is also done under different circumstances. The products may be sold even below the
marginal cost when: 1. A competitor is to be driven out of market. 2. To popularise the product. 3.
Labour engaged cannot be retrenched. 4. The goods are of perishable nature. 5. To keep the plant in
running condition. 6. Here is a cut throat competition in the market. 7. The use of materials which is
about to perish. 8. The product is used to as a loss leader for the sale of another products. 9. Not to
close down the firm. 10. Fear of market, which may go out of hand. 11. To prevent the loss of future
orders. 12. To capture the foreign market.

3. Closure of a department or discontinuing a product- Marginal costing technique shows
the contribution of each product to fixed cost and profit. If a department or product contributes the least
amount, that department can be closed or its production can be discontinued for the use of the capacity
so spared for production of products yielding more contribution.

4.Selection of a profitable product mix- In a multi-product concern, a problem is faced by
the management as to which product mix or sales mix will give the maximum profit. The mix gives the
maximum contribution is to selected to maximise the profits.
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BIEE Cost Accounting Theory - CA –PCC 67

5.Profit planning- Profit planning is a plan for future operation or planning budget to attain the
given objective or to attain the maximum profit. The volume of sales required to be made to get the
planned profit is:
Desired Sales = (Fixed cost + desired profit)÷ P/V ratio.

6. Decision to make or buy - a firm may make some products, parts or tools or sometimes it
may purchase the same from outside. The management must decide which is more profitable to the
firm. If the marginal cost of the product is lower than the price at which it can be purchased from
outside, then the same will be purchased.

7. Decision to accept a bulk order or foreign order – Large scale purchasers may demand
products at less than market rate. A decision has to be taken whether to accept the order or to reject it.
By reducing the normal price, the volume of output and the sales can be increased. If the price quoted
is above the marginal cost the same can be accepted. Similarly acceptance of foreign market can also
be aimed at reduced price, provided the price is not less than the marginal cost.

8. Introduction of new product- A producing firm may add additional products with the
available facility. The new product is sold at a reasonable price, in order to sell it in large quantities. If
favourable conditions exist, the production and sales can be increased ; thus the total cost comes down
because of operation of large scale economies, and contribute towards more contribution and profits.

9. Choice of technique - every management wishes to manufacture the products at the most
economical way. For this, the marginal costing is a good guide as to the products at different stages of
production, that is to say whether the management has to adopt hand operated system or semi-
automatic system or complete automatic system. When operations are done by hand, fixed cost will be
lower than the fixed cost incurred by machines and in complete automatic system fixed costs are more
than variable cost.

10. Evaluation of performance – Marginal costing helps the management in measuring the
performance efficiencies of a department or a product line or sales division. The department, product or
the division which gives the highest P/V ratio will be the most profitable one or that is having the
highest performance efficiency.


BIEE, No 58 1st floor North Mada Street, Nungambakkam, Chennai 34 98415-

According to L. Standard Costing – ‘ The preparation and use of standard costs. Historical cost Vs Standard cost S. ‘Standard Cost’ and ‘Standard Costing’ Standard . It is used to ascertain the profit or loss It is used for the measurement of incurred during the period of cost operational efficiency of the enterprise. goal or a model’. Similarity of standard cost and budgetary control – 1. accurate than the estimated cost. For both of them pre-determined standards are fixed. It is an after-production –recorded cost. 3. 2. No 58 1st floor North Mada Street. Standard Cost – Standard costs are predetermined cost or forecast estimate of cost. Controlling cost by variance analysis and 4. ‘ a predetermined cost. Reporting to management for taking proper action to maximise the efficiency. It may be used as a basis for price-fixing and for cost control through variance analysis’. ICMA defines standard cost as.the actual cost and 3. Define ‘Standard’..CA –PCC biee@sify. 3.Kohler. It is used as statistical data and leads to It is a regular system of scientifically based a lot of guess work accounts 2. It is an approximation It is based on scientific analysis and based on past experience.Budgetary control and standard costing. performance. operation. measured cost. which is calculated from management standards of efficient operations and. The other names for standard cost are predetermined cost. budgeted cost. specifications cost etc. 2. Thus the technique of standard costing includes: 1.No Historical cost Standard cost 68 STANDARD COSTING AND VARIANCE ANALYSIS 1. should be. Ascertainment and use of standard cost. Both aim at determination of cost in advance2. Standard cost is the predetermined cost of manufacture of one unit of output.No Estimated cost Standard cost 1. Its objective is to ascertain what the cost The objective is to ascertain what the cost will be. Chennai 34 98415- 37255 . their comparison with actual costs and the analysis of variances to their causes and points of incidence’. Standard may be used to a predetermined amount or a predetermined cost’.BIEE Cost Accounting Theory . projected cost. it is not useful for It is a future cost and will be helpful in cost cost control control 4. It is a predetermined cost 2. the relevant necessary expenditure. 2. as it relates to the past. 4. It is actually incurred cost It is an ideal cost. model cost. Comparison of actual coast with standards. It gives importance to cost ascertainment It is used for effective cost control and to for fixing the sale price take proper action to minimise cost. In both of them actual costs are BIEE. Nungambakkam. which is calculated from management standards of efficient operation and.the difference between these costs which is termed as the variance. Historical cost and standard cost and 3. 5.the standard cost 2.Estimated cost and standard cost. 3. ‘standard is a desired attainable objective. Standard costing is a method of ascertaining the costs whereby statistics are prepared to show 1. It is not accurate. It can be used where costing is in It can be used where standard costing is in operation. 3. Distinguish between 1. Estimated cost Vs standard cost S.

From the basic standards. need a constant revision of standard. Both requires periodic cost reports.Opening stock and closing stock are valued at the standard price. Standard costing is not applicable to industries engaged in performance of non. What are the advantages and limitations of standard costing. 6. Budgetary control Vs Standard costing S. It is not helpful for cost control and cost ascertainment. 3. Standard costing helps the management in formulating pricing and production policies. as it relates to production.standard tasks. Introduction of standard cost facilitates timely reporting and immediate corrective action Limitations. Executives become more responsible. It facilitates timely cost reports to management and a forward -looking mentalities encouraged at all levels of the management. But they differ in scope and technique. According to ICMA. 3. BIEE.. 6. The variance analysis and reporting facilitate the principle of ‘Management By Exception’. it is difficult to ascertain correct variances. 10. 3. Industries which are subject to frequent changes in technological process or the quality of materials. 2. changes in current standard and actual standard can be measured. 11. Budgets are prepared for sales.4. Chennai 34 98415- 37255 . a projection of financial cost accounts. allocating expenses to cost units. recording and production cash 69 compared with standards. 5. as it clearly shows who is responsible for cost centres. No 58 1st floor North Mada Street. Since it is difficult to set perfect standards. 3. Control is exercised by taking into Standards and actual are compared through account budgets and actual . which is highly an expensive process requiring method study and time study. 5. 9. it facilitates to reduce clerical and accounting cost and managerial time. It is a yardstick of performances. as it is applied to deals with the operation of department or manufacturing of a product or providing a business as a whole service. It is determined by classifying.BIEE Cost Accounting Theory . It creates cost consciousness among the personnel. as the setting of standards needs high technical skill. Both aim at the maximisation efficiencies and managerial costs. finance etc. Budgeting can be applied in parts It cannot be applied in parts. 2. It is a part of financial and management It is a part of cost accounting. projecting the accounts. accounts 4. It reduces avoidable wastage and losses. It is a basis for the implementation of an incentive system for employees. elements of costs. It is extensive in its application. because the variance analysis fixes responsibilities for favourable or unfavourable performances. 2. For small concerns the system is cost prohibitive.N Budgetary control Standard cost o 1. 7. It helps in budgetary control and decision-making. favourable and unfavourable variances. 8. This helps in the preparation of Profit and Loss Account for a short period. Advantages – 1. the character of labour. 4.CA –PCC biee@sify. and the differences are analysed and effective cost control is taken.1. It calls for heavy expenditure on training. methods and equipment etc. Keeping of up-to-date standards is a difficult operation. 6. as it It is intensive. 5. What are the various types of standards? 1. sales. 5. It is costly. It is more expensive and broad in It is not costly because it pertains to only nature. Basic standard – It is a fixed or bogey standard for use unaltered for an indefinite period for forward planning. Standard costs are compared with actual costs. Nungambakkam. London. Inefficient staff is incapable of operating this system. which reveals both are not revealed through accounts. it is ‘an underlying standard from which a current standard can be developed’. Periodic revision of standards is a difficult task. 4. variances variance analysis. 7. 4.

ICMA defines it as ‘the standard which can be attained under the most favourable condition possible’. as it is revised at regular 70 2. Fixation of standard materials quantity and 2. Direct material cost. It is very difficult to attain this standard.. The cost accountant and the purchase manger do in setting up of material price. a standard material mix is determined to produce the desired quality of product. 5.The production department consisting of production engineers. As such. revision of standard price is necessary. Standard for each element of cost is to be fixed. Comparison of actual and standards be facilitated. For studying long term trend of costs. But it increases the clerical work and its associated cost. 6. where different kinds of materials are used as a mix for a process or product. 5. The current standard is the desirable and effective standard for fixing the price Normally one year is the period for fixation of standard price. As such. No 58 1st floor North Mada Street. 4. in which purchase manager. can be attained over a future period of time.The responsibility of setting standards be fixed. What are the preliminaries that should be gone through before setting standards? While setting standard cost the following preliminaries must be gone through: 1.8. Chennai 34 98415- 37255 . Standard cost for each element of cost be determined. Standard material price . as it is related to current conditions of budgeted period.the setting of material standard price is not an easy task. personnel manager and production manager are represented. chemists and work-study practitioners develops standard quantities of direct materials. 3. cost records and forms in use. Nungambakkam. A . Current standard – It is a short term standard. Similarly. 3. This standard is realistic and helpful to business. Standard may be based on technical data or past performance data. Study of existing cost system. 7. A proper system of follow up actions for variances be made. similar to Budget Committee. It is used for planning and decision-making during the period of trade cycle to which it is related. It is very difficult to apply in practice. and is based on normal conditions. If necessary the existing system should be reviewed. How the standard cost is set for different elements of cost? Standard cost is determined for each element of cost. Material prices vary from time to time. best possible conditions capable of achievement should be taken into consideration. For each product or part or process. An average of the current standard or expected standard set for different periods or years. The type of standard cost to be used should be determined. It is useful to cost control. preferably long enough to cover one trade-cycle’. The cost accountant co-ordinates the functions of the standard committee. this allowance will conceal inefficiencies in usage. It is consistent and achievable. 5. 6 . It fulfils all the features of a good standard. This standard is fixed and needs a high degree of efficiency . Standard material quantity . ICMA defines it as ‘ the standard which. The setting up of standard cost for materials involves 1. designers. the points to be considered are: price quoted by BIEE. For setting this standard. the allowance for normal loss must be fixed very carefully. mechanical calculations or mechanical analysis is made. 2. it is anticipated can be attained during a future specified budget period’. and a low allowance will lead to adverse variance. If there are more fluctuations in material prices. Standard material prices. A technical survey of the existing methods of production should be undertaken so that accurate and reliable standard can be established. it is not useful. Normal standard – it is an standard. ICMA defines it as ‘the average standard which. Expected standard – It is a practical standard.CA –PCC biee@sify. ICMA refers to it as ‘a standard which is established for use over a short period of time and is related to current conditions’. Ideal standard-It is set up under ideal conditions. Before fixing the standard. Normal wastage allowance is made high. it is more realistic than the ideal standard. due weightage is given for all the expected conditions.Standard material cost is equal tot he standard quantity multiplied by the standard price. The accounts should be properly be classified so that variances can be accounted for as desired. There must be a Standard Committee. 1. 4. it is anticipated.BIEE Cost Accounting Theory . can work as normal standard. which prevail over a long period of trade cycle.

which is the product of standard output for a particular period and budgeted overhead rate. Write a note of ‘Revision of Standards’. the deviation is favourable. Chennai 34 98415- 37255 . b. 2. Setting up of standard cost involves 1. 2. 4. If the standards are fixed for a short period. normal delays and for other contingencies. ICMA defines standard hour as ‘a hypothetical hour which represents the amount of work which should be performed in one hour under standard conditions’. 3. There exist large variation in standards and actual. future prices based on statistical data and materials price already contracted. demand for labour. Setting standard cost for overheads .com 71 suppliers. No 58 1st floor North Mada Street. which shall be compared with the actual overhead cost for the period. Change in designs or specifications. kilograms etc. Standard costs are established for a certain period. Fixation of standard rate . 2. What do you mean by ‘variance’ and what are its kinds? After the standard costs have been set. labour and overheads. 3. Changes in the price level of materials.BIEE Cost Accounting Theory . the accountant determines the standard rate. it may not be useful in days of high inflation or fluctuations of rates in case of materials and labour.. it is expensive and frequent revisions of standards will impair the utility and purpose for which the standard is set. when: 1. There are no definite rules for the selection of a particular period. The same is the method of calculating the standard rate for both variable and fixed overheads. Favourable and unfavourable variances. Current standards are reviewed every year at the beginning of the accounting period under the following circumstances. The effect of BIEE. Determination of standard overhead cost. The standard cost of overhead is the product of standard hours and budgeted rate per hour.With the help of personnel manager. Standard may become unrealistic with the change in conditions of production calling for revision. Standard overhead rate is calculated for these on the basis of past records and future trend of prices. 5. Nungambakkam. 1. trade and cash discounts available. Fixation of standard is influenced by trade unions. There are permanent changes in the method of production – designs. Overheads are divided into fixed. Technological advances etc. 2. Government. Setting Standard for direct labour. c. Fixation of standard time – Standard time is fixed by time and motion study or past records or test runs or estimates.the standard labour cost is equal to the standard time for each operation multiplied by the standard wage rate. variable and semi-variable overheads. 1. in which case the calculation of standard and actual overhead be based on hours. Estimation of production and computation of the overhead rate. no revision be made. All products cannot be expressed in physical terms as units. methods of wage payment etc. economic conditions.variances may be favourable or unfavourable depending upon whether the actual cost is less or more than standard cost. pieces. The budgeted expenditure be standardised at a particular activity level. changes in methods due to technological change etc. normal idle time is allowed for fatigue. Change in plant capacity. Standard cost is the resultant effect of a number of factors that vary from time to time in different situation caused by both and external factors. At the same time if standard is set for a longer period. Error in setting the standards. 7. Favourable variance – when the actual cost incurred is less than standard cost. Fixation of standard time and 2. basic standards are revised in the course of time under the following circumstances.The problems to be faced in determination of standard overhead are1. While fixing the standard time. Fixation of standard rate. 8. the next stage in the operation of standard costing is to ascertain the actual cost of each element and compare them with the standards already set. If the change is of a temporary nature. The rate is calculated either for one unit or for one hour.CA –PCC biee@sify. Apart from the above. The deviation of actual from standard is called the variance. Change in the method of production. specifications. Standard overhead rate = Budgeted overhead (Budgeted production or budgeted hours.

Controllable and uncontrollable variance. 13.Overtime work at higher or lower than specified hours. Bad working conditions.controllable.1. Careless handling of materials. Unfavourable variance – it results when the standard cost is more than the actual cost. Incorrect instructions. 6. 9. Setting improper standards. 4. It is also known as positive variance. Change in price policies. 5. Improper planning of overtime hours. Changes in basic wage rates. Strict supervision. 6. Non availability of standard quality at reasonable rates. 3. 11. power cut. Incorrect setting of standard price. 10. 4. This variance will result in decrease in profit or increase in loss. 5. 8. No 58 1st floor North Mada Street. Reasons for efficiency variance. For example variances caused by excess usage of materials excess time taken by the workers etc. 8. Proper working conditions. 4. Change in composition of gang at different rate from standard. Failure of power supply etc. Reason for differences in usage variance. 9. 7. What are the reasons for Labour Rate variance and Efficiency variance? Reasons for rate variance . 6. Use of good quality materials. Unfavourable factors. Lack of proper tools and equipment. Loss of discount and fraud on purchases.BIEE Cost Accounting Theory . 8. 2. 5. 12. 4. 11. 10. 7. Good incentives.3. That is. Defective equipment and tools causing losses.1. Faulty recruitment. Higher or lower rate paid to casual workers.CA –PCC biee@sify. Difference between standard and actual yield. High labour turnover.1. 11. 6. Nungambakkam. Workers’ dissatisfaction . 7. 9. Employment of skilled workers. Workers’ co-operation. This variance is also called as adverse or negative variance.1. Government interferences leading to increase in prices. 9. increase in price of materials. 7. Use of non-standard substitutes. 10. Unexpected additional cost in purchases. it refers to the deviation caused by internal factors. 4. Changes in design or specification of product. 8. scrap. Theft of materials. Chennai 34 98415- 37255 . 2. Improper training to workers. 2. Wrong setting of labour rates.Favourable factors – 1. 3. 5. Low labour turnover. Inadequate supervision.A variance is controllable. Overtime at higher or lower than standard rate. 9. uncontrollable - uncontrollable variances are those which arise mainly out of external factors and internal factors on which executive control can not be influenced. Improved tools and machines. The increase in cost due to loss of production caused by machine failure. spoilage etc. which could be influenced by the executive action. wage rates etc. 10. Loss in transit. Inefficiency in buying. xxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxx BIEE. Emergency purchases leading to high cost. Failure to enter into forward contracts. due to inefficient production methods or by unskilled workers. Low employee 72 favourable variance is to increase the profit. Use of inferior materials. Use of non0standard materials. Improper inspection. 9. and resultant change in price. 2. 3. Higher wages paid because of urgent work. 6. General rise in wages. 12. High morale of workers. 8. Untimely purchase leading to increase in purchase price. 3. Engaging new and unskilled workers. Defective machinery. 5. What are the reasons for material price variance and material usage variance? Reasons for material price variance. 7. High cost of transportation and carriage of goods.. More idle time than normal. if it can be identified as the primary responsibility of a specified person or department. Right man at right work. Wastage. Fluctuation in material price. 10. 10. 2.

BIEE. Taxes & Duties on Purchases +++ +++ Less : Closing Stock of Raw Material ------ Sale of unsuitable Raw Material ------ Sale of scrap of Raw Material -----. M & Freight. Bank Charges. Opening Stock of Raw Material +++ Add : Purchase of R. Goodwill w/o. ----- Cost of Raw Materials Consumed ++++ +++ Direct Labour +++ Direct Expenses/ Chargeable expenses PRIME COST PC Add: Works Overheads +++ GWC GROSS WORKS COST +++ Add : Opening Work-in-progress ++++ Less : Closing Work-in-progress ---- WORKS COST or FACTORY COST } NWC or PRODUCTION COST or MANUFACTURING COST } Add: Office and Administration Overheads +++ COP COST OF PRODUCTION +++ Add : Opening stock of Finished Goods ++++ ---- Less : Closing stock of Finished Goods COST OF GOODS SOLD COGS Add: Selling & Distribution Overheads +++ COST OF SALES or TOTAL COST COS Add : Profit / (Less : Loss) (balancing figure) ++/--- SALES SALES Items to be ignored while preparing cost sheet: Bad debts. Nungambakkam. Chennai 34 98415- 37255 .CA –PCC 73 Formats and Formulas COST SHEET or STATEMENT OF COST Raw Material Rs. No 58 1st floor North Mada Street.BIEE Cost Accounting Theory . Preliminary expenses w/o. Interest on debentures. Dividend paid. Income tax.

com 74 PRIME COST ADMINISTRATION EXPENSES  Productive Wages  Office Salaries and Expenses  Direct Material  Depreciation on Office Appliances  Freight on Purchase  Office Heat.BIEE Cost Accounting Theory . No 58 1st floor North Mada Street. Nungambakkam. Light and Power /  Heat. Chennai 34 98415- 37255 . Light and Power Electric Power  Depreciation  Factory insurance and taxes  Salaries of Salesmen  Factory supplies  Salaries to Travelling Agents  Experimental expenses  Carriage Outward  Wastage of Material  Advertising  Wages of Foreman  Warehouse Rent and Rates  Storekeeper’s wages  Warehouse Staff Salaries  Oil and Water  Showroom Rent & Showroom Expenses  Consumable Stores  Repairs and Depn of Delivery vans  Drawing office Expenses  Depreciation of Plant & Machinery  Water Consumption in Factory BIEE. Fuel. Light and Power  Carriage on Purchase  Office Rent and Taxes  Taxes and Duties on the material  Management Salary / Manager’s Salary /  Direct Wages Directors’ fees  Direct Expenses  Office Printing and Stationery  Chargeable Expenses  Telephone charges Postage and  Carriage Inward Telegrams  Legal Charges and Bank Commission  Office cleaning FACTORY OVERHEADS SELLING & DISTRIBUTION EXPENSES  Indirect Material  Sales Expenses  Indirect Labour / Wages  Sales Commission  Factory Supervision  Sales Travelling  Factory Expenses  Sales Promotion  Factory Stationery  Distribution Department – Salaries &  Repairs & Maintenance Expenses  Factory Heat.CA –PCC biee@sify.

In other words EOQ is the ordering quantity at which Carrying cost will be equal to ordering cost. Nungambakkam. Level X 1/2 of Re-order Quantity Danger level = Normal Consumption X Max.CA –PCC biee@sify. EOQ can be calculated by using the formula: EOQ = √ ( 2AB) ÷ CS Where A = Annual 75 Materials Stock levels Max. Chennai 34 98415- 37255 . Reorder period for emergency Economic Order Quantity It is the quantity to be ordered at which the total cost will be minimum. B = Ordering cost per order CS = Cost of carrying and storage per unit per annum Number of orders to be placed = A ÷ EOQ BIEE. Level = (Maximum Level + Minimum Level) ÷ 2 Or Min. No 58 1st floor North Mada Street. Re-order period) Min Level = ROL – (Normal Consumption X Normal Re-order Period) Avg.BIEE Cost Accounting Theory . consumption X Min. stock level Re-order level Quantity Minimum level Danger level Period Stock Levels ROL = Maximum Consumption X Maximum reorder period Max Level = ROL + ROQ – (Min.

No 58 1st floor North Mada 76 LABOUR 1. Up to 83% Basic normal piece rate. 5. 2. a.67% efficiency and gradually increases as the performance increases. Output above standard High piece rate on output. 3.Under this system the workers are paid as follows. Halsey premium plan. Earnings = (Time Taken X Hourly Rate) + 50% of Time Saved X Hourly Rate. • Above100% efficiency a worker in addition to his wages will get a bonus of 20% plus for every one percent increase in efficiency one percent increase in bonus.BIEE Cost Accounting Theory . 7. • Bonus payment starts at the rate of 01% of basic wages at 66. Gantt Task and Bonus Scheme Output Remuneration 1. Merrick Multiple Piece Rate System. Out put below standard Time rate (guaranteed) 2. • The appropriate bonus percentage is read off from specially compiled tables. Efficiency Piece rate applicable 1. Taylor differential piece rate system . Earnings = (Time Taken X Hourly Rate) + 30% of Time Saved X Hourly Rate. Nungambakkam. Halsey-weir premium plan. Above 100% 120% of basic piece rate. • At 90 % efficiency level the bonus is 9.According to this system wages will be calculated as follows. Earnings = Hourly rate X √ Standard hours X Hours worked 6. 3. Chennai 34 98415- 37255 .91% and at 100% bonus is 20%. Emerson Efficiency Plan – Under this plan hourly rate is guaranteed. From 83% to 100% 110% of basic piece rate. 8. Barth plan .CA –PCC biee@sify. If the output is at or above standard 120% of piece rate 2. Output at standard level Bonus of 20% of the time rate 3. Rowan Premium plan Earnings = (Time Taken X Hourly Rate) + (Time Taken/Standard Time X Time Saved X Hourly Rate) BIEE. It the output is below standard 80% of piece rate b.this system is also known as Split Bonus Plan or 50-50 plan. 4.

Storekeeping. repairs Value of plant. Miscellaneous Direct wages OVERHEADS Basis of Apportionment of Common Expenses/Overheads for Primary Distribution summary CONTRACT ACCOUNTS Profit recognition on incomplete contracts: Percentage of Completion Notional Profit to be transferred to P& L The work Certified is less than one-fourth No profit should be transferred to profit and loss of the Contract Price account. The work Certified is 25% but less than Notional profit X 1/3 X cash received ÷ work 50% of the Contract Price certified The work Certified is 50% but less than Notional profit X 2/3 X cash received ÷ work 100% of Contract Price certified MARGINAL COSTING AND DECISION MAKING Marginal cost is “Increase in total cost due to increase in one more unit of production” Formulas 1. sales expenses Actual or percentage of sales 13. staff welfare. canteen. safety 14. Contribution = [Sales – Variable cost] (OR) [Fixed Cost + Profit] (OR) = [Units Sold x Contribution per unit] (OR) [Sales x P/V Ratio] 2. Audit fee Sales or total cost 8. HP of Machines 6. time keeping and wages Number of employees or total wages office. Indirect wages Direct wages 3. Chennai 34 98415- 37255 . volume. BIEE Cost Accounting Theory . 7. depreciation. No 58 1st floor North Mada Street. Electric light Light points. Personnel . Plant depreciation. internal transport Value of materials handled 12 Advertising. Delivery expenses Weight. floor space. value etc. direct (if metered) 5. PF & ESI Direct wages 10 Rent.building Floor space 11. Electric power Horse power of machines – KWH 4. Indirect material Direct material 2. repairs. Nungambakkam. 77 Overhead Basis of distribution 1.CA –PCC biee@sify. Profit = [Contribution – Fixed Cost] (OR) [Sales – Total Cost] BIEE. Supervision Number of employees 9.

Only Sales Value and Variable Cost are considered for decision making 2. consider the mix which yields maximum profit. Chennai 34 98415- 37255 .BIEE Cost Accounting Theory . Break Even Point (BEP) Fixed cost BEP In Rupees In units = OR Contribution per unit SP Per Unit Fixed Cost In Rupees = OR BEP units x SP P/V Ratio OR Present Sales – Margin Of Safety 4.CA –PCC biee@sify. When Sales in Units is limited. then decision is made based on Contribution per key factor 78 3. If contribution is positive. No 58 1st floor North Mada Street. Fixed costs are irrelevant for decision making. a product should be continued 4. Sales Required to Earn a Desired Profit Fixed cost + Desired Profit In units = Contribution per unit Fixed Cost + Desired Profit In Rupees = P/V Ratio DECISION MAKING Key points to be noted while making decisions 1. While choosing a product mix. Margin of Safety = Present Sales – BEP Present Profit OR P/V Ratio 5. Nungambakkam. then make decision based on Contribution per unit 6. When Sales in Rupees is limited. then make decisions based on P/V Ratio 5. 3. When any other factors of production is available in short-supply (Key factor). Contribution Ratio (OR) Profit – Volume Ratio (OR) P/V Ratio SP – VC X 100 SP Contribution X 100 FC X 100 Sales BEP P/V ratio When Two period information is given Changes in profit X 100 Changes in Sales 3.

Chennai 34 98415- 37255 .CA –PCC 79 7. (If VC > Quoted Price then Purchase otherwise reject) BIEE. if buyer quotes a price above Variable Cost then accept otherwise reject 8. In case of export decision.BIEE Cost Accounting Theory . While making “Make or Buy” decisions compare Variable Cost of Manufacturing and Outside Supplier price. Nungambakkam. No 58 1st floor North Mada Street.