Chapter # 8

Material Costing –
Material Losses

Sameer Hussain

www.a4accounting.weebly.com
Material Costing – Material Losses
Chapter # 8

Syllabus ACCORDING TO UNIVERSITY OF KARACHI:

 Accounting for:
o Waste and scrap materials.
o Spoil and defective works.

WHAT THE EXAMINER USUALLY ASK?

 Defective goods:
o General Journal entries if the job is charged with the cost of defective goods.
o General Journal entries if the job is not so charged directly for the defective
goods.
 Spoiled goods:
o General Journal entries if the loss is to be charged to the particular job.
o General Journal entries if the loss is to be charged to all production.

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 Material Costing – Material Losses
Chapter # 8

MATERIAL LOSSES
There are two types of material losses:
a) Normal loss.
b) Abnormal loss.

The loss of input/output where the occurrence is inevitable i.e. which

occur on account of normal reasons are normal losses. The magnitude
of the loss is dependent on the production process in consideration.
Normal losses may be expressed in absolute terms (like say 50 units)
Normal Loss: or in proportionate terms (like say 1/10the) or in percentage terms
(like say 2%).
Whether the calculation of loss should be based on the input or output
is dependent on the method used to express the loss and to some
extent on the process in consideration.

The loss of input/output whose occurrence can be avoided i.e. which

occur on account of abnormal reasons are abnormal losses. This can
Abnormal Loss:
also be interpreted as the magnitude of actual loss that is incurred in
excess of the normal loss.

FORMS OF MATERIAL LOSSES

There are four basic forms of material losses:
i. Waste.
ii. Scrap.
iii. Spoilage.
iv. Defectives.
v. Obsolescence.
vi. Rejects.

a) WASTE
The loss of raw materials in processing is waste. Waste has no receivable value. It is a quantity
loss of material in the process of producing goods.
Waste is brought into record by comparing the input quantity with the output quantity. Waste
may occur due to shrinkage, smoke, weight loss and evaporation causing the material to become
waste. They are material losses causing a quantity loss. Waste may occur in terms of a by-
product which does not produce any realizable value.
For example, 20kg of potato does not give 20kg of potato chips. Thus, the fact that 15 kg of chips
is produced out of 20kg potato means that 5 kg of potato is wasted in the course of making
chips. 5kg of waste does not produce any sales value and so is treated as waste.
Waste is divided into two types, normal and abnormal waste.

Normal waste is estimated before production and is inherent in the

Normal Waste:
nature of the raw material.

Abnormal waste occurs because of a low quality/substandard of input

Abnormal Waste:
material, bad process work, carelessness etc.

b) SCRAP
The leftover materials that are not used in the production of an item. If a product requires a
component cut from a four-by-eight-foot sheet of plywood, the pieces of plywood that are cut off
are the scrap.

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Material Costing – Material Losses
Chapter # 8

c) SPOILAGE
The term applied to products that are not acceptable quality and that are sold for reduced
prices. Many outlet malls sell “seconds” at prices lower than retail. Those seconds, also called
irregulars, are not the same quality as the regular product.

The amount of defective or substandard parts that are produced even

if the process is efficient. The process will not operate perfectly, and
not all the materials will be perfect. Normal spoilage is calculated as
the percentage of good units produced, and management determines
Normal Spoilage:
the acceptable level of spoilage and calls it normal. The costs of normal
spoilage are included in the cost of goods manufactured because the
process is unable to produce good products without producing a few
bad ones.

Spoilage that results from errors, breakdowns, accidents, etc., in a

manufacturing process. Abnormal spoilage is in excess of normal
Abnormal Spoilage:
spoilage and the cost is a separate line item on the income statement. It
is not included in the unit cost because it is avoidable.

d) DEFECTIVE
The faulty or substandard finished goods or spoilage are called defective units. Defective goods
arise due to sub-standard materials, bad supervision, bad planning of production, poor
workmanship, inadequate equipment, careless inspection etc.
Defective units can be rectified and turned out as good unit by re-processing. Such re-processing
work may need the use of additional material, labor and expenses.

e) OBSOLESCENCE
Items that are outdated hence obsolete. Reasons could be due to change in consumer demand,
change in fashion, change in specification.

f) REJECTS
Materials that are not accepted on inspection. May be rejected when purchases are received or
during the course of manufacturing. Where possible, rectification will be carried out or
otherwise the rejected item will be disposed-off.

ACCOUNTING TREATMENT FOR MATERIAL LOSSES

1) ACCOUNTING TREATMENT OF SCRAP

There are following three options for accounting of scrap:

Nominal sales price realized out of negligible scrap is treated as other

Option # 1:
income in cost account.

A scrap account is opened with the full amount of the scrap of the
process or job if such a scrap value is significant. Process account or
Option # 2: job account is given credit by the value of scrap. The scrap account is
closed by the balance either of profit or loss to the profit or loss
account.

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 Material Costing – Material Losses
Chapter # 8
Net sales value of scrap after deduction of selling and distribution
costs is deducted either from the overhead amount or from the
Option # 3: material cost. Deduction out of overheads is made to adjust the
overhead ratio if scrap is not possible to identify in relation to a
process or a job.

2) ACCOUNTING TREATMENT OF SPOILAGE

There are two methods of handling the cost of spoiled materials:
(a) The loss due to spoilage may be charged to the job on which this spoilage occurred.
(b) The loss due to spoilage may be charged to factory overhead thus spreading it over the
cost of all the jobs.

GENERAL JOURNAL ENTRIES

If the loss due to spoilage may be charged to the job on which this spoilage occurred:

 Manufacturing Cost:
Work in process DR. (with manufacturing cost)
Raw material CR. (with direct material used)
Accrued payroll CR. (with direct labour used)
Factory overhead applied CR. (with factory overhead applied)
-----------------------------------------------------------------------------------------------------------------

 Loss on Spoilage Goods Charged to Job:

Spoiled goods DR. (with sales value)
Work in process CR. (with sales value)
-----------------------------------------------------------------------------------------------------------------

 Cost of Finished Gods:

Finished goods DR. (with finished goods amount)
Work in process CR. (with finished goods amount)
-----------------------------------------------------------------------------------------------------------------

If the loss due to spoilage may be charged to factory overhead thus spreading it over the
cost of all the jobs:

 Manufacturing Cost:
Work in process DR. (with manufacturing cost)
Raw material CR. (with direct material used)
Accrued payroll CR. (with direct labour used)
Factory overhead applied CR. (with factory overhead applied)
-----------------------------------------------------------------------------------------------------------------

 Loss on Spoilage Goods Charged to Job:

Spoiled goods DR. (with sales value)
Factory overhead DR. (with loss on spoiled goods)
Work in process CR. (with original cost of spoiled goods)
-----------------------------------------------------------------------------------------------------------------

 Cost of Finished Gods:

Finished goods DR. (with finished goods amount)
Work in process CR. (with finished goods amount)
-----------------------------------------------------------------------------------------------------------------

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Material Costing – Material Losses
Chapter # 8

3) ACCOUNTING TREATMENT OF DEFECTIVES

The accounting treatment for defective work is similar to that relating to spoiled goods. The cost
of defectives can be treated in the following manner:
(1) Normal defectives i.e. those defectives which are inherent in the manufacturing process
and are identified as normal, can be treated in the following manner:
a. Charged to good products.
b. Charged to general factory overheads.
c. Charged to department overhead.
(2) If the defectives units are clearly identifiable with a specific job or production order and
defects are particular to the job, the cost to complete the defective units can be charged
to that job.
(3) If defectives are abnormal and due to reasons beyond the control of the business firm,
the rework cost charged to the costing profit and loss account.

GENERAL JOURNAL ENTRIES

If the loss is charged to job:

Work in process DR. (with total loss on waste)

Raw material CR. (with direct material waste)
Accrued payroll CR. (with direct labour waste)
Factory overhead applied CR. (with factory overhead waste)
-----------------------------------------------------------------------------------------------------------------

If the loss is charged to factory overhead:

Factory overhead DR. (with total loss on waste)

Raw material CR. (with direct material waste)
Accrued payroll CR. (with direct labour waste)
Factory overhead applied CR. (with factory overhead waste)
-----------------------------------------------------------------------------------------------------------------

4) ACCOUNTING TREATMENT OF WASTE

Normal waste is treated as a part of the cost of the product i.e. the cost of normal waste unit is
borne by the good remaining units. Abnormal waste cost is transferred to the costing profit and
loss account. In case of normal waste, cost per unit of the finished output is relatively inflated,
but in abnormal waste, cost per unit remains the same for abnormal units as well as good
finished units.

5) ACCOUNTING TREATMENT OF OBSOLESCENCE

When a business has inventory that it cannot sell, it must write off the obsolete inventory as an
expense. The accounting method for this expense is for the business to determine if the
inventory has any disposal value, subtract this value from the inventory's book value and set
aside the difference in a reserve account. This step results in a debit to the cost of goods sold
account and a credit to the reserve for obsolete inventory account.

Cost of goods sold DR. (with obsolete inventory amount)

Reserve for obsolete inventory CR. (with obsolete inventory amount)
-----------------------------------------------------------------------------------------------------------------

As the business gets rid of the obsolete inventory, the business debits the reserve for obsolete
inventory account and credits the inventory account. If the business can get no payment for the
inventory, the expense write-off becomes the same as the inventory's book value. However,

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 Material Costing – Material Losses
Chapter # 8
sometimes a business can dispose of inventory at a greatly reduced price and only has to write
off part of value as an expense.

Reserve for obsolete inventory DR. (with obsolete inventory amount)

Inventory CR. (with obsolete inventory amount)
-----------------------------------------------------------------------------------------------------------------

ILLUSTRATION # 1: (DEFECTIVE GOODS)

The ABC Company produces many varieties of shirts. The cost upon the completion of the order
were:
Material Rs.6,000
Labour Rs.4,200
Factory overhead Rs.1,800
Inspection reveals that a certain part of the work is defective. The defectiveness has removed at
the following cost:
Material Rs.800
Labour Rs.300
Factory overhead Rs.200
REQUIRED
Entries in the books of accounts under each of the following conditions:
(a) When the job is charged with the cost of defective work.
(b) When the job is not so charged directly for the defective work.

SOLUTION # 1:
When the job is charged with the cost of defective work:
ABC COMPANY
GENERAL JOURNAL
Date Particulars P/R Debit Credit
(1) Work – in – process 12,000
Raw material 6,000
Accrued payroll 4,200
Factory overhead applied 1,800
(To record the manufacturing cost applied to
production)
(2) Work – in – process 1,300
Raw material 800
Accrued payroll 300
Factory overhead applied 200
(To record the additional cost applied to defective
goods)
(3) Finished goods (12,000 + 1,300) 13,300
Work – in – process 13,300
(To record the cost of goods manufactured)

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Material Costing – Material Losses
Chapter # 8
When the job is not so charged directly for the defective work:
ABC COMPANY
GENERAL JOURNAL
Date Particulars P/R Debit Credit
(1) Work – in – process 12,000
Raw material 6,000
Accrued payroll 4,200
Factory overhead applied 1,800
(To record the manufacturing cost applied to
production)
(2) Factory overhead 1,300
Raw material 800
Accrued payroll 300
Factory overhead applied 200
(To record the additional cost applied to defective
goods)
(3) Finished goods 12,000
Work – in – process 12,000
(To record the cost of goods manufactured)

ILLUSTRATION # 2: (SPOILAGE)
1991 Regular & Private – Lahore
University Fabrication is producing lot No. 657, which called for 2,500 dresses style No. 34
incurred costs as follows:
Material Rs.2.00 per dress
Labour Rs.1.20 per dress
Factory overhead Rs.1.60 per dress
When the lot was completed, inspection rejected 200 spoiled dresses, which were sold Rs.3
each.
REQUIRED
(a) Journal entries if the loss is to be charged to the lot No. 657.
(b) Journal entries if the loss is to be charged to all production of the fiscal year.

SOLUTION # 2:
Computation of Actual Cost of Spoiled Goods:
Material (200 x 2.00) 400
Labour (200 x 1.20) 240
Factory overhead (200 x 1.60) 320
Total cost of soiled goods 960

Computation of Sales Recovery of Spoiled Goods:

Sales recovery of spoiled goods
Sales recovery rate = x 100
Cost of spoiled goods
3.00
Sales recovery rate = x 100
4.80
Sales recovery rate = 62.5%

Material (400 x 62.5%) 250

Labour (240 x 62.5%) 150
Factory overhead (320 x 62.5%) 200
Total sales recovery of soiled goods 600

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 Material Costing – Material Losses
Chapter # 8
Computation of Loss on Spoiled Goods:
Total sales recovery of spoiled goods 600
Less: Total cost of spoiled goods (960)
Loss on spoiled goods 360

If the loss is to be charged to the lot No. 657:

UNIVERSITY FABRICATION
GENERAL JOURNAL
Date Particulars P/R Debit Credit
(1) Work – in – process 12,000
Raw material (2,500 x 2.00) 5,000
Accrued payroll (2,500 x 1.20) 3,000
Factory overhead applied (2,500 x 1.60) 4,000
(To record the manufacturing cost applied to
production)
(2) Spoiled goods (200 x 3) 600
Work – in – process 600
(To record the cost of spoiled goods)
(3) Finished goods 11,400
Work – in – process (12,000 – 600) 11,400
(To record the cost of goods manufactured)

If the loss is to be charged to all production of the fiscal year:

UNIVERSITY FABRICATION
GENERAL JOURNAL
Date Particulars P/R Debit Credit
(1) Work – in – process 12,000
Raw material (2,500 x 2.00) 5,000
Accrued payroll (2,500 x 1.20) 3,000
Factory overhead applied (2,500 x 1.60) 4,000
(To record the manufacturing cost applied to
production)
(2) Spoiled goods (200 x 3) 600
Factory overhead 360
Work – in – process 960
(To record the cost of spoiled goods)
(3) Finished goods 11,040
Work – in – process (12,000 – 960) 11,040
(To record the cost of goods manufactured)

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Material Costing – Material Losses
Chapter # 8

PRACTICE QUESTIONS
Question # 1: 2004 – Regular (Cost Accounting) – UOK
The Sana Company produces many varieties of frocks. One of which was for Tooba
Manufacturing Company. The cost upon the completion of the order were:
Material Rs.3,000
Labour Rs.2,100
Manufacturing expenses Rs.900
Inspection reveals that a certain part of the work is defective. The defectiveness has removed at
the following cost:
Material Rs.400
Labour Rs.200
Manufacturing expenses Rs.100
REQUIRED
Entries in the books of accounts under each of the following conditions:
(a) When the job is charged with the cost of defective work.
(b) When the job is not so charged directly for the defective work.

Question # 2: 2007 – Regular & Private (Cost Accounting) – Bahawalpur

Prince Investment Company manufactures for stock a number of precision instruments, which
must meet strict specifications. During the last month an order for 20,000 instruments was
received and executed costs incurred were:
Direct materials Rs.65,000
Direct labours Rs.45,000
Manufacturing overhead was applied @ 50% of material cost.
An examination of the finished instruments indicated that 1,000 instruments were defective and
had to be reworked, the additional costs for this rework were:
Direct materials Rs.1,400
Direct labours Rs.900
Manufacturing overhead at applied rate.
REQUIRED
Entries that would appear in the books under each of the following conditions:
(1) When reworking costs are charged directly to the job on which incurred.
(2) When additional costs incurred in reworking are charged to factory overhead account.

Question # 3: 2010 – Regular & Private (Cost Accounting) – Punjab

Faizan & Co. manufactures appliances to be sold to an automobile industry. An order of 1,200
appliances was received at sales price of Rs.200 per unit. The cost per unit was as follows:
Material cost Rs.32
Labour cost Rs.42
Factory overhead cost Rs.22
On completion of the order, it was found that 100 units were imperfect and spoiled and could
only be sold at a price of Rs.48 per unit to a small manufacturing company which would repair
and sell them under their own name. Faian & Co. decided to sell 100 spoiled units to this
company at a price of Rs.48 per unit.
REQUIRED
Prepare all necessary journal entries to record the following:
(a) Putting the 1,200 units into process.
(b) Placing the spoiled units in the inventory.
(c) Completion and sale for cash 1,100 good units.
(d) Sale for cash of the 100 spoiled units.

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 Material Costing – Material Losses
Chapter # 8
Question # 4: 2002 – Regular & Private (Cost Accounting) – UOK
Stylo Fabricators is producing lot No. 55 which called for 500 dresses style No. 2002 incurred
costs as follows:
Materials Rs.240 per dress.
Labour Rs.165 per dress.
Factory overhead Rs.135 per dress.
When the lot was completed inspection rejected 20 spoiled dresses which were sold for Rs.324
each.
REQUIRED
(1) Journal entries if the loss is to be charged to lot No. 55.
(2) Journal entries if the loss is to be charged to all production of the fiscal period.

Question # 5: 2004 – Private (Cost Accounting) – UOK

XYZ Company is producing lot No. CJQ which called for 2,500 dresses style No. 3B20 incurred
costs as follows:
Materials Rs.40 per dress.
Labour Rs.24 per dress.
Factory overhead Rs.32 per dress.
When the lot was completed, inspection rejected 20% spoiled dresses which were sold for Rs.60
each.
REQUIRED
(1) Journal entries if the loss is to be charged to lot No. CJQ.
(2) Journal entries if the loss is to be charged to all production of the year.

Question # 6: 2006 & 2007 – Regular & Private (Cost Accounting) – Sargodha
A company has received an order for 2,500 shirts. It incurred the costs as follows:
Material cost Rs.48 per unit.
Labour cost Rs.33 per unit.
Factory overhead cost Rs.17 per unit.
When the lot was completed, inspection rejected 200 spoiled shirts which were sold for Rs.65
each.
REQUIRED
(1) Journal entries if the loss is to be charged to the same job.
(2) Journal entries if the loss is to be charged to all production of the year.

Question # 7: 2005 – Regular & Private (Cost Accounting) – Bahawalpur

ABC Company had a production run of 4,500 pairs of jeans during the last week of December
with the following unit cost:
Direct materials Rs.15.00
Direct labour Rs.14.00
Factory overhead Rs.13.50
Final inspection showed that 320 pairs were not up to standard. They were sold for Rs.7 each.
REQUIRED
(1) Journal entries if the loss is to be charged to the same job.
(2) Journal entries if the loss is to be charged to all production of the year.

Question # 8: 2013 – Regular & Private (Cost Accounting) – Punjab

Production of an order consisting 800 units requires direct material of Rs.350,000 and direct
labour of Rs.250,000. Factory overhead is applied at the rate of 80% of direct labour cost. After
completion of the order, 16 units are classified as spoiled which can be sold for Rs.4,000.
Customer takes delivery of remaining 784 good units and paid in cash the contracted prices at
the rate of Rs.1,250 per unit. Spoiled units are sold and Rs.4,000 received in cash.

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Material Costing – Material Losses
Chapter # 8
REQUIRED
(1) Journal entries if the loss is charged to the order.
(2) Journal entries if the loss is charged to factory overhead.

Question # 9: 2005 – Regular (Cost Accounting) – UOK

20 units costing Rs.8,000 were rejected as spoiled units with salvage value of Rs.95 each, and 50
defective units were reworked at the following costs:
Direct materials Rs.2,500; Direct labour Rs.1,500; Factory overhead 75% of prime cost.
REQUIRED
Entries in General Journal to allocate the losses to:
(i) All jobs. (ii) Specific job.

Question # 10: 2006 – Regular & Private (Cost Accounting) – Bahawalpur

Kiran Crockery received an order for 50 units of a product. In anticipation of spoilage,
production of 52 units was started. The following costs were incurred:
Direct materials Rs.80 per unit.
Direct labour Rs.50 per unit.
Factory overhead 100% of direct labour.
During inspection, 10 units were found defective and required the following additional cost:
Direct materials Rs.10 per unit.
Direct labour Rs.20 per unit.
Factory overhead 100% of direct labour.
On final inspection, 2 units were classified as spoiled and sold Rs.90 each. The good units were
dispatched to the customer at a price of Rs.240 per unit.
REQUIRED
Pass journal entries to record completion of order, and sales of good and spoiled units under
both of the assumptions as to charge of the additional cost.

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