Hydrochem, Inc

Submission by:-
Aditya Sanket(B19003)
Arpit(B19009)
Jayant Jain(B19022)
Saransh Kejriwal(B19043)

About the Firm

• Processed polychloric oxide to make blank condutronic plates
• Actual process-costing system was used to determine the cost of goods sold and
valuation of inventory
• Standard costing system for management reporting purposes was being considered
• Adopted LIFO inventory method to determine cost of goods sold and closing
inventory valuation

Objective:
To compare the standard costing system with the process costing system and determine
which is better for the firm.

Introduction
Process-costing systems are used by firms that produce masses of identical or similar units of
output. In such companies, it is fairly easy to set standards for quantities of inputs needed.
Standard cost per input unit calculated can then be multiplied by input quantity standards to
obtain the standard cost per output unit.
Actual process-costing incorporates the disadvantage of costing all products at a single
average amount. This can be tackled by implementing standard-costing method.
Under the standard-costing method, teams of engineers, operations personnel, and
management accountants work together to determine separate standard costs per equivalent
unit on the basis of different technical processing specifications for each product.
Standard costs are usually associated with a company's following costs:

• costs of direct material

• direct labour
• manufacturing overhead

Rather than assigning the actual costs of direct material, direct labour, and manufacturing
overhead to a product, we can assign the expected or standard cost. This means that the
inventory and cost of goods sold will begin with amounts reflecting the standard costs, and
not the actual costs of a product. However, manufacturers would still have to pay the actual
costs. As a result, there are differences between the actual costs and the standard costs, and
those differences are known as variances.

Q.1 Prepare two income statements for the month and two balance sheets as of the end of the
month. One set of financial statements should be based on the company’s actual process
costing system using absolute figures. The second set should be prepared using the proposed
standard costing system, where both raw-material and finished-goods inventory reflect
standard costs.
Sol. Calculations

Current Standard Cost per

plate
Units Cost/unit Cost
Raw Materials(pounds) 4 2.5 10
Direct Labour(hours) 0.6 12 7.2
Manufacturing Overhead
(Allocated) 4.45
Total standard
manufacturing cost 21.65

Monthly figures

Number of plates sold 70000

Average Selling Price 27
Total Sales 1890000
COGS 1515500

Budgeted Manufacturing
Overheads 311500 Factory Rent
Equipment
Depreciation
Supervision
Utilities
Other Costs
 Manufacturing Cost Per plate
4.45

Total Fixed Cost 175000

Total Variable Cost 136500

Time required per

plate(hours) 1.5
Total time required(hours) 105000

Variable Cost per Machine

Hour 1.3
Variable Cost per unit 1.95

Assets Units Cost/Unit Total

Raw Materials 36000 2.5 90000
Finished Goods 6100 21.7 132370
Other Goods 668000
Total Assets 890370

Liabilities and Equity Total

Accounts payable and
accrued expenses 170370
Other Liabilities 140000
Capital Stock 120000
Retained Earnings 460000
Total Liabilities 890370

During Month Activities

Units (Budgeted) Actual
Cost/
Cost/ Unit Cost Unit Cost
Purchase of Raw
Material(Pounds) 360000 2.5 900000 2.6 936000
Direct Labour(hours) 49600 12 595200 11.8 585280

Number of plates
produced 80000 22.176 1774080

Manufacturing Overheads 336000

Total Fixed Cost 174000
Total Variable Cost 162000

Per Plate 4.2

Total time taken(hours) 116000

Time taken per
plate(hours) 1.45 Actual
Actual Standard Cost per
Plate
Units Cost/unit Cost
Raw Materials(pounds) 328000 2.6 852800
Direct Labour(hours) 49600 11.8 585280
Manufacturing
Overhead(Allocated) 336000

Total standard manufacturing cost

per plate 22.176

Number of plates sold 60000

Average Selling Price 26.95
Total Sales 1617000
COGS 1330560 Using LIFO

Accounts Receivable
Collected 1400000
Accounts Receivable Left 217000 Actual
Accounts Receivable Left 490000 Budgeted

Accounts payable settled 800000

Accounts payable left 891650 Actual
865570 Budgeted

Raw Material Left 68000

Finished Goods Left 26100

Budgeted Units Cost/Unit Cost

Raw Material 68000 2.5 170000
Finished Goods 26100 21.7 566370

Actual(Using LIFO) Units Cost/Unit Units Cost/Unit Cost

Raw Material 36000 2.5 32000 2.6 173200
Finished Goods 6100 21.7 20000 21.68 565970

Costs incurred
Budgeted 1495200
Actual 1521280

Cash Received
Budgeted 288500
Actual 264000
 Income Statement(Budgeted)

Sales 1890000
Cost of Goods Sold 1515500
Gross Profit 374500
Net Profit 374500

Income Statement(Actual)

Sales 1617000
Cost of Goods Sold 1330560
Gross Profit 286440
Net Profit 286440

Balance Sheet (Budgeted)

Assets Liabilities

Raw Materials 170000 Accounts payable 865570

Finished Goods 566370 Other Liabilities 140000
Other Assets 668000 Capital Stock 120000
Accounts Receivable 490000 Retained Earnings 460000
Cash 288500 Net Profit 374500
Reserves 222800

Total Assets 2182870 Total Liabilities 2182870

Balance Sheet (Actual)

Assets Liabilities

Raw Materials 173200 Accounts payable 891650

Finished Goods 565970 Other Liabilities 140000
Other Assets 677920 Capital Stock 120000
Accounts Receivable 217000 Retained Earnings 460000
Cash 264000 Net Profit 286440

Total Assets 1898090 Total Liabilities 1898090

Variance Analysis

Budgeted Actual Variance Remark

Raw Material
Variance 900000 936000 36000 Unfavourable

Direct Labour 595200 585280 9920 Favourable

Variance
Manufacturing 311500 336000 24500 Unfavourable
Overhead
Variance
Revenue Quantity 70000 60000 10000 Unfavourable
Variance
Total Revenue 1890000 1617000 273000 Unfavourable
Variance
Revenue Expense 1515500 1330560 184940 Unfavourable
Variance
Net Profit 374500 286440 88060 Unfavourable
Variance
Net Profit Margin 19.81% 17.71% 2.1% Unfavourable
Variance

From the variance analysis, it could be observed that the company is incurring heavier costs
than forecasted and is not able to convert the same into a commensurate revenue stream.
Thus, the company needs to focus on reducing the raw material and manufacturing overheads
cost.
There may also be a case of lack of incentives in sales and marketing, thus not selling the
forecasted number of units. In this case, the relevant problems with the sales and marketing
decisions should be identified and dealt with appropriately.

Q.2 Explain the differences between the two sets of financial statements. Which costing
method should Dang use? Why?
Sol. The first set of financial statements have been prepared by the Process-costing method,
which is used by firms that produce masses of identical or similar units of output. In such
companies, it is fairly easy to set standards for quantities of inputs needed. Standard cost per
input unit calculated can then be multiplied by input quantity standards to obtain the standard
cost per output unit.
The financial statements produced compute the costing of all products at a single average
amount. Furthermore, they do not provide any opportunity for a variance analysis and all the
errors get reflected in the financial statements in the form of incorrect information. This can
be tackled by implementing standard-costing method.
The second set of financial statements have been computed by the standard-costing method.
Under the standard-costing method, teams of engineers, operations personnel, and
management accountants work together to determine separate standard costs per equivalent
unit on the basis of different technical processing specifications for each product.

The financial statements associate the costs with the following costs:

• costs of direct material

• direct labour
• manufacturing overhead

Rather than assigning the actual costs of direct material, direct labour, and manufacturing
overhead to a product, we can assign the expected or standard cost. This means that the
inventory and cost of goods sold will begin with amounts reflecting the standard costs, and
not the actual costs of a product. However, manufacturers would still have to pay the actual
costs. As a result, there are differences between the actual costs and the standard costs, and
those differences are known as variances.

Dang should use the Standard Costing method to prepare the financial statements. The
advantages of the Standard Costing method have been discussed above. Furthermore, the
following benefits are obtained:
• Calculation of Variance: The variance could be calculated based on the forecasted
values and the actual values
• Efficiency Measurement: The efficiency could be measured by taking into account
the actual values as a fraction of the forecasted values
• Management by Exception: Standard-Costing gives the opportunity to specifically
identify the inherent problem in the process, thus making it possible to tackle it
effectively
• Cost Control: Costs can be controlled by taking into account the factors responsible
for the occurrence of the variance
• Better Decision-Making: All of the following analysis provide the opportunity for
making better decisions, and eliminate inefficiencies.