Employee Cost (Labour)

CHAPTER

10
Employee Cost (Labour)

INTRODUCTION
To manufacture a product or to provide services, the role of human exertion is required.
The term used for human resources may include workers, employees, labourers, staffs etc.
The compensation paid, either in monetary terms or in kind and facility is known as wages. Cost
is known as employee cost or labour cost. In a nutshell, employee cost is wider term which
includes wages, salary, bonus, incentives etc. paid to an employee and charged to a cost
object as labour cost.
Wages are determined on both quantitative and qualitative factors like volume of work, skills
required etc. Hence, it is necessary that employees should be monitored, measured, and
compensated appropriately to achieve economy in cost, efficiency in performance and
effectiveness in desired output.

EMPLOYEE (LABOUR) COST

Benefits paid or payable to the employees of an entity, whether permanent, or temporary for the
services rendered by them. Employee cost includes payments made in cash or kind. Employee cost
includes the following:
(i) Wages and salary;
(ii) Allowances and incentives;
(iii) Payment for overtimes;
(iv) Employer’s contribution to Provident fund and other welfare funds;
(v) Other benefits (leave with pay, free or subsidised food, leave travel concession,
medical benefits etc.) etc.

Classification of Employee (Labour) cost: Employee cost are broadly classified as

direct and indirect employee cost.
(i) Direct Employee (Labour) Cost
Benefits paid or payable to the employees which can be attributed to a cost object in an
economically feasible manner. This can be easily identified and allocated to an activity, contract,
cost centre, customer, process, product etc.
(ii) Indirect Employee (Labour) Cost
Benefits paid or payable to the employees, which cannot be directly attributable
to a particular cost object in an economically feasible manner.

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 Employee Cost (Labour)

Distinction between Direct and Indirect Employee Cost:

Direct employee cost Indirect employee cost

1. It is the cost incurred in payment 1. Cost incurred for payment of employee
of employees who are directly who are not directly engaged in the
engaged in the production process. production process.

2. Direct employee cost can be easily 2. Indirect employee cost is apportioned on

identified and allocated to cost some appropriate basis.
unit.
3. Direct employee cost varies with 3. Indirect employee cost may not vary
the volume of production and has with the volume of production.
positive relationship with the volume.

EMPLOYEE (LABOUR) COST CONTROL

Employee costs are associated with human beings. To control employee costs one has to
understand human behavior. Employee cost control means control over the cost incurred on
employees. Control over employee costs does not imply control over the size of the wage bill;
it also does not imply that wages of each employee should be kept as low as possible.
The aim should be to keep the wages per unit of output as low as possible. This can only
be achieved by giving employees appropriate compensation to encourage efficiency so that
optimum output can be achieved in effective manner.
A well-motivated team of employees can bring about wonders. Each concern should, therefore,
constantly strive to raise the productivity of employee.

Important Factors for the Control of Employee Cost

To exercise an effective control over the employee costs, the essential requisite is efficient
utilisation of employee and allied factors. The main points which need consideration for
controlling employee costs are the following:
(i) Assessment of manpower requirements.
(ii) Control over time-keeping and time-booking.
(iii) Time & Motion Study.
(iv) Control over idle time and overtime.
(v) Control over employee turnover.
(vi) Wage and Incentive systems.
(vii) Job Evaluation and Merit Rating.
(viii) Employee productivity.

( A ) S P E C I A L I T E M S & I T S T R E A T M E N T

1. Idle Time Wages: It can be charged to overheads or it can be charged to job/product by inflating
the rate for costing purposes if it .
But abnormal idle time is charged to costing P & L A/c.
Idle time = Time Paid - Time worked.

In the production process, lost time may occur for several reasons. The idle time is the difference
between hours paid and hours worked. It is the labour time paid for but not utilised in production.
The idle time is classified into two types. (i) Normal idle time and (ii) Abnormal idle time.

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Accounting treatment:

I. For Normal idle time: The wages paid for the normal idle time period is treated as production
overhead and absorbed into cost of product by adopting an absorption rate. The normal idle time in
tool setting etc., can be charged at inflated rate. Jobs are charged at inflated rate.
ii. For Abnormal idle time: The wages paid for the abnormal idle time can be avoided by taking proper
care and caution. It is not treated as part of cost and excluded from cost accounts and it is, straight
away debited to Costing Profit and Loss account.

The reasons for the idle time is to be analysed and the management need to know the reasons for
avoidable idle time so that correction can be formulated to reduce and minimise the idle time.

2. Over Time Wages: Overtime Wages = Normal wages + O.T. premium

Overtime premium is paid to the workers for the extra time worked than the normal working hours
specified in the Factories Act, 1948 or work agreement with the union. The extra time is paid at a
higher rate than the normal time rate, for example, if a worker works beyond 8 hours in a day or 48
hours in a week, he is paid with double the wages for the extra time worked. The overtime wages
consists of two elements (i) Normal wages for extra time and (ii) Additional wages paid for the
overtime worked, the accounting treatment of overtime premium is given below:
a) Normal wages should always be charged to job/products.
Overtime hours at the normal rate are treated as direct labour cost and charged to production
on the same basis as time worked during normal hours but the premium paid during the overtime
period is not a direct charge against production but is recovered as production overhead through
overhead recovery rate.
b) Overtime premium can be dealt with as follows
i. If overtime is worked due to customer's urgency then it should be charged to the respective
job/products.
Where the overtime is worked on a specific job to meet the time schedules or to carry out
specific rush orders for which extra price is recovered, then the entire labour cost can be
charged as direct labour to that job.
ii. If it is due to abnormal factors like unexpected developments, management's fault etc. then
charged to costing P & L A/c.
iii. If overtime is required to take advantages of price rise etc. then it should be charged to
overhead A/c.
iv. If overtime wages paid due to negligence or delay of workers of a particular department it
may be charged to the concerned department.
How to Control Overtime Working: To control the overtime premium the following may be given due
consideration:
− Careful production planning and scheduling
− Analysis of reasons for overtime working
− Frequency of overtime working in each department
− If It is due to shortage of labour, steps may be taken to recruit more workers
− If overtime working is due to limiting machine hours available in the production departments,
purchase extra machines, working extra shift, sub-contracting etc., may be considered.
− Appropriate authority should sanction for overtime working
− Maintenance of proper records for overtime working and payments made for it will help in control
of overtime.
− Only in urgencies and real necessities the overtime workers may be engaged otherwise the
practice of overtime working should be discouraged.

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 Employee Cost (Labour)

3) Holiday & Leave wages: It may be charged to factory O/H A/c. Admn.O.H., S&D O.H. or it may be
charged to job/ product by inflating the wage rate.

4) Night shift Allowance: It should be charged to overhead A/c.

5) Employee welfare costs: In an organisation some of the expenses are incurred on canteen, hospital,
recreation, transport etc. for the welfare of the employees. These expenses are separately recorded
and accumulated as welfare department costs. These welfare department costs are again apportioned
to other cost centre on suitable basis like total wages and number of employees of each cost centre.
6) Indirect Labour: Their wages plus all other allowance can be charged to the overhead A/c.

( B ) W A G E P A Y M E N T S S Y S T E M S
Wage payment systems can be classified under following three heads.
1) Time Wages, 2) Piece Rate, 3) Bonus or Incentive wage system.

1) Time Wages: It can be in either of the following way:

a) On ordinary rates,
b) High Wage Plan: A substantially higher wage rate than the rate prevailing in area or in industry
is paid and in turn workers are expected to maintain very high level of performance quantitative
and qualitative.
c) Differential Time rate: Up to certain level of efficiency time rate will be paid. Thereafter with
increase in efficiency the time rate will also increase.

2) Piece Rate: If piece rate is not specified in the question it can be calculated as follows:
Hourly time rate
Piece rate =
Std. production per hour
It can be in either of the following way.
a) Straight piece rate: The rate per unit of output will be applied on out put irrespective of the time
worked by the worker.

b) Piece rate with guaranteed time rate: may be in any of the following forms:
i. Wages at piece rate plus Dearness Allowance at fixed time rate.
ii. Wages at piece rate or time rate whichever is higher or
iii. Time rate wages plus piece rate wages for production above a prescribed minimum.

c) Taylor's Differential piece rate: There are two rates prevailing one is the low piece rate for below
standard performance and high piece rate for standard or above standard performance.
Low Rate = 83% normal piece Rate High Rate= 120% of normal piece Rate

Calculation of efficiency/ performance:

A) When the output is same but the time is different
S tan dard time
Efficiency 100
Actual time

B) When time is same but output is different:

Actual Output
Efficiency = X 100
S tan dard output

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 Employee Cost (Labour)

3) Bonus and Incentive Wage Systems:

A) HALSEY PLAN: Time rate is guaranteed. For above standard performance bonus equal to 50% of time
saved is paid.
Total Wages = Time taken x Time rate + 50% time saved x Time rate.
Time Saved = Standard Time - Actual Time.

B) ROWAN'S PLAN: Time rate is guaranteed. Bonus is that proportion of time wages, as time saved
bears to the standard time.
Time Saved
Total wages = Time Wages + ------------------ x Time Wages
Standard Time

Or Total wages = Time Wages + Bonus Wages

Time Saved
Bonus Hours = ------------------- x Time worked
Standard Time

Bonus Wages = Bonus Hours X Time Rate

Requisites of good wage incentive plan:

For design and introduction of good wage incentive plan the following points are considered:
− it should be simple to understand by the workers and should enable themselves to calculate their
earnings.
− it should be simple to administer and reduce clerical work
− it should be capable of using computers for increase in speed of calculations
− it should be introduced only after full consultation and agreement with the workers and unions.
− it should act as a motivational scheme.
− it should guarantee the minimum day wages
− it should be ensured to operate for a long period
− it should cover as many employees as possible.
− the incentive should be paid as quickly as possible after the completion of the work
− the cost of administration of the scheme should be minimum
− the incentives should relate to the efforts and efficiency of the workers
− the abnormal factors should not effect the earnings of the worker
− the incentives should be paid only on good production units and discouragement for defective
work.
− the standard of work should be set after scientific study of work and the performance levels
should be fair to reach.
− It should confirm to labour laws and regulations of the land.
− It should minimise labour turnover and absenteeism.
− No limits should be placed on additional earnings under the scheme.
− It should be at least equivalent to the incentive schemes prevailing in other units or industries
in the region.
− Due consideration should be given for the saving in cost of production due to the incentive plan
and the incentive that will pass to the workers.

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 Employee Cost (Labour)

M E A S U R E M E N T O F L A B O U R T U R N O V E R
Labour turnover is the movement of people into and out of the organisation. It is usually convenient
to measure it by recording movements out of the firm on the assumption that a leave is eventually
replaced by a new employee. The term separation is used to denote an employee who leaves for any
reason. Labour turnover is the rate of change in the number of employees of a concern during a
definite period. Labour turnover studies are helpful in manpower planning. A high index of labour
turnover rate a warning to management that something is wrong with the health of the organisation.
A high turnover rate may mean poor personnel policies, poor supervisory practices or poor company
policies. Too lower a rate of turnover can also be a danger signal.
Measurement of labour turnover: The following formulae are in common use for measuring labour
turnover.
1. Separation method = No. of worker separated / Average No. of worker

Labour turnover rate(separationrate )=

Number of separationsduringtheperiodunder review
X 100
Average number of employees duringthesameperiod

2. Replacement method = No. of workers replaced / Average No. of worker

Number of employees replaced

(
Labour turnover rate replacement rate = ) X 100
Average number of employees on rolls

3. Flux method = No. of separations + No. of accessions / Average No. of worker

Number joining plus number leaving

( )
Labour turnover rate flux rate = X 100
Average number employed
Average number of employees during the period is calculated as follows:

No. of employees at begining +No. of employees at end of the period

=
2
Equivalent (Annual) Employee (Labour) Turnover rate:
If in the above computations, the data given is for a period other than a year, the employee
turnover rate so computed may be converted into equivalent annual employee turnover rate by using
the following formula:
𝐸𝑚𝑝𝑙𝑜𝑦𝑒𝑒 𝑇𝑢𝑟𝑛𝑜𝑣𝑒𝑟 𝑟𝑎𝑡𝑒 𝑓𝑜𝑟 𝑡ℎ𝑒 𝑝𝑒𝑟𝑖𝑜𝑑
𝑥 365
𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑑𝑎𝑦𝑠 𝑖𝑛 𝑡ℎ𝑒 𝑝𝑒𝑟𝑖𝑜𝑑
Employee turnover due to new recruitment: Generally, employees recruited on account of
expansion of an organisation, are not considered for calculation of employee turnover. But it
is considered that the newly recruited employees are also responsible for changes in the
composition or work force. Due to this feature, some management accountants feel to take
new recruitment for calculating employee turnover.

The total number of workers joining, including replacements, is called accessions.

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Questions with Solutions for Self Study

Q.1: [May 1995] A worker produced 200 units in a week’s time. The guaranteed weekly wage payment for 45
hours is Rs.81. The expected time to produce one unit is 15 minutes which is raised further by 20% under the
incentive scheme. What will be the earnings per hour of that worker under Halsey (50% sharing) and Rowan bonus
schemes?
Solution:
Rate per hour = 81/45 = Rs.1.80
Standard time to produce 1 unit = 15 × 120% = 18 minutes
Time allowed = (200 units × 18 minutes per unit)/60 = 60 hrs
Time taken = 45 hrs
Time saved = 15 hrs
Halsey Bonus Scheme:
Earnings = Hours worked × Rate per hour + (50% × Time saved × rate per hour)
= 45 × Rs 1.80 + ( 50% × 15 × Rs 1.80)
= Rs.94.50
Earnings per hour = 94.50/45 = Rs. 2.10
Rowan Bonus Scheme:
Earnings = Hours worked × Rate + {(Time worked/Standard time) × Time saved} × Rate
= 45 × Rs.1.80 + {(45/60) × 15} × Rs.1.80
= Rs.101.25
Earnings per hour = 101.25/45 = Rs. 2.25

Q.2: [Nov 1998] Calculate the earnings of a. worker under (i) Halsey Plan and (ii) Rowan Plan from the following
Particulars:
1. Hourly rate of wages guaranteed 0.50 paise per hour.
2. Standard time for producing one dozen articles 3 hour
3. Actual time taken by the worker to produce 20 dozen articles 48 hours
Solution:
Time allowed = 20 dozens × 3 hrs per dozen = 60 hrs
Time taken = 48 hrs
Time saved = 12 hrs
Halsey Bonus Scheme:
Earnings = Hours worked × Rate per hour + (50% × Time × rate per hour)
= 48 × Re 0.50 + ( 50% × 12 × Re 0.50)
= Rs.27
Rowan Bonus Scheme:
Earnings = Hours worked × Rate + {(Time worked/Standard time) × Time saved} × Rate
= 48 × Rs.0.50 + {(48/60) × 12} × Rs.0.50
= Rs.28.80

Q.3: Mr. A is working by employing 10 skilled worker He is considering the introduction of some incentive
scheme – either Halsey Scheme (With 50% bonus) or Rowan Scheme – of wage payment for increasing the labour
productivity to cope with the increased demand for the product by 50%. He feels that if the proposed incentive
scheme could bring about an average 20% increase over the present earnings of the workers, it could act as
sufficient incentive for them to produce more and he has accordingly given this assurance to the worker
As a result of the assurance, the increase in productivity has been observed as revealed by the following figures
for the current month:
Hourly rate of wages (guaranteed) Rs.2.00
Average time for producing 1 piece by one worker at the previous performance 2 hours
(This may be taken as time allowed)

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 Employee Cost (Labour)

No. of working days in the month 25

No. of working hours per day for each worker 8
Actual production during the month 1,250 units
Required:
1. Calculate effective rate of earnings per hour under Halsey Scheme and Rowan Scheme.
2. Calculate the savings to Mr. A terms of direct labour cost per piece under the schemes.
3. Advise Mr. A about the selection of the scheme to fulfil his assurance.
Solution:
1. Total time wages of 10 workers per month:
= No. of working days in the month × No. of working hours per day of each worker × Hourly rate of wages
× No. of workers
= 25 days × 8 hrs × Rs.2× 10 workers = Rs.4,000
2. Time saved per month:
No. of units produced during the month by 10 workers 1,250 pieces
Total time allowed to produce 1,250 pieces (1,250 × 2 hours) 2,500 hours
Actual time taken to produce 1,250 pieces 2,000 hours
Time saved (2,500 hours – 2,000 hours) 500 hours
3. Bonus under Halsey scheme to be paid to be paid to 10 workers:
Bonus = (50% of time saved) × hourly rate of wages
= 500 hours × 50% × Rs.2= Rs.500
Total wages to be paid to 10 workers are (Rs.4,000 + Rs.500) Rs.4,500, if Mr. A considers the introduction
of Halsey Incentive Scheme to increase the labour productivity.
4. Bonus under Rowan Scheme to be paid to 10 workers:
Bonus = {(Time worked/Standard time) × Time saved} × Rate
= {(2,000/2,500) × 500} × Rs.2.00 = Rs.800
Total wages to be paid to 10 workers are (Rs.4,000 + Rs.800) Rs.4,800, if Mr. A considers the introduction
of Rowan Incentive Scheme to increase the labour productivity.

1. (i) Effective hourly rate of earnings under Halsey scheme:

= Rs.4,500/2000 hr = Rs.2.25 per hour
(ii) Effective hourly rate of earnings under Rowan scheme:
= Rs.4,800/2000 hr = Rs.2.40 per hour
2. (i) Saving in terms of direct labour cost per piece under Halsey scheme:
Labour cost per piece (under time wage scheme) = 2 hours × Rs.2 = Rs.4.
Labour cost per piece (under Halsey scheme)
= Rs.4,500/1250 units = Rs.3.60 per unit
Saving per piece : (Rs.4 – Rs.3.60) = Re.0.40.
(ii) Saving in terms of direct labour cost per piece under Rowan Scheme:
Labour cost per piece under Rowan scheme = Rs.4,800/1,250 units = Rs.3.84
Saving per piece = Rs.4 – Rs.3.84 = Re.0.16.
3. From the labour cost per piece under Halsey scheme (Rs.3.60) and Rowan scheme (Rs.3.84), it is quite clear
that Halsey scheme brings about more saving than Rowan scheme to the concern. But Halsey scheme does
not fulfil the assurance given to the workers about 20% increase in their earnings as it secures only 12.5%
[(500/4,000) × 100] increase.
On the other hand, Rowan scheme secures 20% [(800/4,000) × 100] increase in the earnings and it fulfils
the assurance. Therefore, Rowan scheme may be adopted.

Q.4: Calculate the labour hour rate of a worker X from the following data:
Basic pay Rs.1,000 p.m.
D.A. Rs.300 p.m.
Fringe benefits Rs.100 p.m.
Number of working days in a year 300. 20 days are availed off as holidays on full pay in a year. Assume a day of
8 hour

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Solution:
(i) Effective working hour
Days in a year 300
Less: Leave days on full pay 20
Effective working days 280 days
Total effective working hours (280 days × 8 hours) 2,240
(ii) Total wages paid in a year Rs.
Basic pay 12,000
D.A. 3,600
Fringe benefits 1,200
16,800
Labour hour rate = Rs.16,800/2,240 hrs = Rs.7.50 per hour

Q.5: [May 1998] The management of Sunshine Ltd. Wants to have an idea of the profit lost / foregone as
a result of labour turnover last year.
Last year sales amounted to Rs.66,00,000 and the P/V Ratio was 20%. The total number of actual hours worked
by the direct labour force was 3.45 lakhs. As a result of the delays by the Personnel Department in filing
vacancies due to labour turnover, 75,000 potentially productive hours were lost. The actual direct labour hours
included 30,000 hours attributable to training new recruits, out of which half of hours were unproductive. The
cost incurred consequent on labour turnover revealed on analysis the following:
Rs.
Settlement cost due to leaving 27,420
Recruitment cost 18,725
Selection costs 12,750
Training costs 16,105
Assuming that the potential production lost due to labour turnover could have been sold at prevailing prices,
ascertain the profit foregone / lost last year on account of labour turnover.
Solution:
Actual hours worked (given) 3,45,000 hours
Less: Unproductive training hours (30,000 × 0.5) 15,000 hours
Actual productive hours 3,30,000 hours
 Sales generated in 3,30,000 hours = Rs.66,00,000
The hours lost due to labour turnover (assumed that loss of 15000 = 75,000 hour
hours in training are included in it)
Rs.66,00,000
 Sales lost in 75,000 hours = × 75,000 hours
3,30,000
= Rs.15,00,000
Contribution lost due to labour turnover = 20% × Rs,15,00,000
= Rs,3,00,000
Total loss i.e. profit foregone due to labour turnover:
Contribution foregone Rs.3,00,000
Settlement cost due to leaving Rs. 27,420
Recruitment cost Rs. 18,725
Selection cost Rs. 12,750
Training cost Rs. 16,105
Profit foregone Rs.3,75,000

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