Reorder levels

Reorder level is when inventory held reaches the reorder level then a replenishment order
should be placed.
Lead time is the time expected to elapse between placing an order and receiving an order
for inventory.
Reorder quantity is when the reorder level is reached, the quantity of inventory to be
ordered is known as the reorder or EOQ.
Demand is the rate at which inventory is being used up. It is also known as inventory usage.

If the demand in the lead time is constant, the reorder level is calculated as follows:

Sensitivity: Internal Management Accounting

Maximum Level of Inventory – Class Activity

Sensitivity: Internal Management Accounting

 Accounting for Labour

Sensitivity: Internal Management Accounting

Direct and indirect labour
• Direct labour costs make up part of the prime cost of a product and include the basic
pay of direct workers.
• Direct workers are those employees who are directly involved in making an
organisation’s products.
• Indirect labour costs make up part of the overheads (indirect costs) and include the
basic pay of indirect workers.
• Indirect workers are those employees who are not directly involved in making
products, (for example, maintenance staff, factory supervisors and canteen staff.
• Indirect labour costs also include the following.
• Bonus payments.
• Employers’ National Insurance Contributions.
• Idle time
• Sick pay.

Sensitivity: Internal Management Accounting

Overtime and Overtime Premiums
When employees work overtime, they receive a basic pay element and an
overtime premium. E.g. if Fred is paid $8 per hour and overtime is paid at time and a half,
when Fred works overtime, he will receive $12 per hour ($8 + $4 (50% x $8)):

• Overtime premiums are treated as direct labour costs, if at the specific request of a
customer because they want a job to be finished as soon as possible.
• Employees who work night shifts, or other anti-social hours may be entitled to a shift
allowance or shift premium. These are also treated as indirect labour cost.

Sensitivity: Internal Management Accounting

The Labour Account

Sensitivity: Internal Management Accounting

Remuneration methods
Time-based systems
Total wages = (hours worked x basic rate of pay per hour) + (overtime hours worked x
overtime premium per hour)

Piecework systems
Total wages = (units produced x rate of pay per unit)

Incentive schemes
1. Measured day work
2. Share of production

Many different systems exist in practice for calculating bonus schemes.

General rules are as follows:

– They should be closely related to the effort expended by employees.
– They should be agreed by employers/employees before being implemented.
– They should be easy to understand and simple to operate.
– They must be beneficial to all of those employees taking part in the scheme.

Sensitivity: Internal Management Accounting

Labour turnover
Labour turnover is a measure of the proportion of people leaving relative to the average
number of people employed.

Management might wish to monitor labour turnover, so that control measures might be
considered if the rate of turnover seems too high, and the business is losing experienced
and valuable staff at too fast a rate.

Test you Understanding

At 1 January a company employed 3,641 employees and at 31 December employee numbers were
3,735. During the year 624 employees chose to leave the company.

What was the labour turnover rate for the year?

Sensitivity: Internal Management Accounting

Analyzing Labour Performance

Labour efficiency ratio:

Labour capacity ratio:

Labour production volume ratio:

Sensitivity: Internal Management Accounting

Labour Ratio Analysis – Class Activity

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 Accounting for Overheads

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Fixed Production Overheads
Fixed production overheads = indirect materials + indirect labour + indirect expenses

Fixed production overheads of a factory will include the following costs:

– heating the factory
– lighting the factory
– renting the factory.

Organizations must recover their fixed production overheads and they do this by
absorbing a fixed amount into each product that they make and sell.

Sensitivity: Internal Management Accounting

Fixed Production Overheads – Class Activity

Sensitivity: Internal Management Accounting

Absorption Costing
Production overheads are recovered by absorbing them into the cost of a product and
this process is therefore called absorption costing.

The main aim of absorption costing is to recover overheads in a way that fairly reflects the
amount of time and effort that has gone into making a product or service.

Absorption costing involves the following stages:

– allocation and apportionment of overheads
– reapportionment of service (nonproduction) cost center overheads
– absorption of overheads.

Allocation involves charging overheads directly to specific departments (production and

service).

Overheads must be apportioned between different production and service departments

on a fair basis.

There are no hard and fast rules for which basis of apportionment to use except that
whichever method is used to apportion overheads, it must be fair.

Sensitivity: Internal Management Accounting

 Do keep in touch!

0345 8506336 amd.aff@gmail.com

Ahmed Jawad Syed Ahmed Jawad Hussaini

ahmedjawad23 Ahmed Hussaini

Sensitivity: Internal Management Accounting