(CHAPTER) &% 2 Cost—Analysis, Concepts, Classfication and Cost Sheet © Elements of Cost Mere knowledge of total cost cannot satisfy the needs of management. For proper control and managerial decisions, management is to be provided with necessary data to analyse and classify costs. For this purpose, the total cost is analysed by elements of cost i.e., by the nature of expenses. Strictly speaking, the elements of cost are three i.e., materials, labour and other expenses. These elements of cost are further analysed into different elements as illustrated in the following chart Elements of Cost Slee a) ———— Materials Labour Other Expenses: rel 1 Direct Indirect Direct Indirect Direct Inairect ieee ta Ds aes ‘Overheads [re aa Se Production or Works Overheads Administration Overheads Selling Overheads Distribution Overheads Now all these terms will be discussed in detail one by one. 1. Direct Materials are those materials which can be identified in the product and can be conveniently measured and directly charged to the product. Thus, these materials directly enter the production and form a part of the finished product. For example, timber in furniture making, cloth in dress making and bricks in building a house. Following are normally classified as direct materials : () AU raw materials like jute in the manufacture of gunny bags, pig iron in foundry, and fruits in canning industry. ne (i) Materials specifically purchased for a specific job, process or order like glue for book- binding, starch powder for dressing yarn etc. ‘ (iii) Parts or components purchased or produced like batteries for cars and tyres for eyeles. i i i is i lboard boxes, ete. used to (iv) Prima king materials like cartons, wrappings, cardboard protect Bnished mee from climatic conditions or for easy handling inside the factory.ONCEPTS, CLASSIFICATION AND Cog re COST—ANALYS! 1 becomes clear that indirect materials are those material yy, ni Examples of indirect materials are ; consumabe From the above disc ee cannot be classified as direct materials aning materials, materials for repairs and Maintenane cotton waste, lubricants, brooms, rags, cleaning materials, ru atten assets, high speed diesel used in power generators ete, Classification of mater i , od to Critical are usually high value items as compare oe shes 4 analysis for reducing their cost. On the other hand, simple control techniques are sufficient in cay, of indirect materials being low value items. ; ; However, in some cases, though the material is a pate the ae vac Yet itis np Vs fee e, sewing in dress mal nails in furnitur, treated as direct material ; for example, sewing thread i 1 r , making. This is because their value is in comparatively small and it would be futile elaboration to make an analysis of them for the purpose of direct charge. Such materials are treated as indirect materials. Thus, it can be concluded that the ease and the feasibility with which a material can be traced into the composition of a finished product will determine what is to be treated as diraet material. ; 2. Direct Labour is all labour expended in altering the construction, composition confirmation or condition of the product. In simple words, it is that labour which can be seaveRantly identified or attributed wholly to a particular job, product or process or expended in ere Rs few materials into finished goods. Wages of such labour are known as direct wages, ‘Thus, it includes payment made to the following groups of labour: (© Labour engaged on the actual production of the product or carrying out of an operation or process, (@) Labour engaged in aiding the manufacture by way of supervision, maintenance, tools ore v Pp setting, transportation of material etc. (uD) Inspectors, analysts etc. specially required for such production. Tit wages paid to supervisors, inspectors, etc,, though not direct Iahour, can be treated as 8. Direct (or Chargeable) Expenses. All expenses which be identit ular =k cpe which can be identified to a partic product, job, department etc. are called direct expenses, These are directly charged to the product as part of prime cost. Examples of such expenses are royalty based on production, excise duty, hire and maintenance charges of a specific plant and equipment’ Packing expenses to make the product saleable, cost of any experimental work carried out Specially for a particular job, cost of making a specific pattern, design, drawing or making tool for a job, cost of making, travelling expenses incurred in connection with a particular contract or job ete. Z EXAMPLE Compute total direct expenses of product X ing information, Gun ea P from the following informal Particulars rae Production (Unite) on Sales (Units) 16,000 Labour Hours 10,000 Labour Rate per Hour 8 Royalty per unit of Sale 2 Royalty per unit of Production & 1 Design Charges ¢ 12,000 Interest on Loan for Purchase of Machine * 5,000 fire Charges of Equipment Used for Manufacturing Product ¥ ¢ 6,000 Penalty for Violating Patent ¢ 4,000COST—ANALYSIS, CONCEP’ CLASSIFICATION AND COST SHEET W2-3 SOLUTION ‘Computation of Direct Expenses =— = Particutars a “Royalty Paid on Sales a : Figures Royalty paid on Units Produced eae yn Charges: f ee 12,000 Hire Charges for Equipment Used for Manufacturing Product X Direct Expenses 4. Overheads may be defined as the aggre! n aggregate of the cost of indirect material and such other expenses including services as cannot conveniently be charged direct to specific cost units. Thus overheads are all expenses other than direct expenses. In general terms, overheads comprise all expenses incurred for or in connection with the general organisation of the whole or part of the undertaking i.e., the cost of operating supplies and services used by the undertaking and including the maintenance of capital assets. The main groups into which overheads may be sub- divided are (i) Manufacturing Overheads ; (ii) Administration Overheads (iii) Selling Overheads ; (jv) Distribution Overheads and (») Research and Development Overheads, (i) Manufacturing or Production or Works Overheads, These are the indirect expenses of operating the manufacturing divisions of a concern and cover all indirect expenditure incurred by the undertaking from the receipt of the order until its completion ready for despatch either to the customer or to the finished goods store. Examples of such expenses are : depreciation and insurance charges on fixed assets like plant and machinery, works, building, and electric equipments and floating assets like stores, finished goods etc.; repairs and maintenance of fixed assets ; electricity charges ; coal and other fuel charges; rent, rates and taxes on works, land and properties, works office printing, stationery, postage, telegrams and telephone charges ; welfare services like canteen and recreation clubs ; medical services like dispensary and hospital and service department expenses. These also include wages of indirect workers, indirect materials such as lubricants, cotton wastes and other factory supplies, salaries and other costs related to tool room, design and drawing office, production control and progress department. (ii) Administration Overheads. These refer to cost of all activities relating to general management and administration of an organisation. These are the indirect expenses incurred in formulating the policy, directing the organisation, controlling and managing the operations of an undertaking which is not related directly to a researeh, development, production or selling activity or function. These include all expenses incurred in the direction, control and administration (including secretarial, accounting and financial control) of an undertaking. Examples are the expenses in running the general office e.g. office rent, light, heat, salaries and wages of clerks, Secretaries and accountants, credit approval, cash collection and treasurer's department, general managers, directors, executives; legal and accounting machine services ; investigations and experiments and miscellaneous fixed charges. (ii) Selling Overheads. These are the expenses incurred of secking to create and stimulate demand and of securing orders and comprise the cost of soliciting and recurring orders for the articles or commodities dealt in and of efforts to find and retain customers, They refer to those indirect costs which are associated with marketing and selling (excluding distribution) activities. Examples are sales office expenses; salesmen’s salaries and commission ; showroom expenses ; advertisement charges ; fancy packing to attract sales ; samples and free gifts ; after sales service expenses; demonstration and technical advice to potential customers; cost of marketing information system and costs of catalogues: and price lists. (iv) Distribution Overheads. These are the expenses incurred in handling a produet from the time it is ready for dispatch until it reaches the ultimate consumer. These are the expenses incurred in the process which begins with making the packed product available for despatch and ends with making the reconditioned return empty package, if any available for reuse. Distribution ‘overheads include all expenses incurred from the time the product is completed in the works until it reaches its destination. Under these would be included warehouse rent ; warehouse staff salaries, insurance etc. expenses on delivery van and trucks ; expenses on special packing for bulk transport like bales, erates, chests ete, ; losses in warehouse stocks and finished goods damaged in transit and cost of repairing and reconditioning of empties and wastage of finished goods.COST_ANALYSIS, CONCEPTS, CLASSIFICATION AND Cosy See U2: ses, Research cost is the cost of searchin, Rearend Deelpmaen erent a by and improved pred Miopment cost is the cost of the process which boeing wnat paved: mennee if ow sé an improves saavicmentation ofthe decision to produce a new product ov use an imp dads the commencement of formal production of that product or by that method By grouping the above elements of cost, the following divisions of cost are obtained : prime C Direet Materials + Direct Labour + Direct Expenses ids with agit ne: Cost Prime Cost + Works or Factory Overheads Cost of Production Works Cost + Administration Overheads 4. Total Cost or Cost of Sales Cost of Production + Selling and Distribution Overheads ‘The difference between the cast of sales and selling price represents profit or loss. EXAMPLE Ascertain the prime cost, works cost, cost of production, total cost and prof from the undermentioned figures Direct Materials ¢ 6,000 ; Direct Labour ¥ 2,500 ; Direct Expenses 7 1,000; Factory Expenses ¥ 1,500 ; Administration Expenses ? 800 ; Selling Expenses * 700 and Sales* 15,000 SOLUTION Prime Cost = Direct Materials + Direct Labour + Direct Expenses =%5,000+% 2,500 +% 1,000=7 8,500. Works Cost = Prime Cast + Factory Expenses = % 8,500 + ¢ 1,500 = ¢ 10,000. Gost of Production = Works Cost + Administration Expenses = % 10,000 + ¢ 800 =? 10,800. Total Cost or Cost of Sales = Cost of Production + Selling Expenses = & 10,800 + © 700 == 11,500, Profit = Sales — Total Cast = & 15,000 — = 11,500 = = 3,500. 1 2 3, EXAMPLE A company manufactures and retails clothing. You are required to group the costs which are listed below and numbered 1 to 20, into the following classifications (Each cost is intended to belong to only ane classification). (a) Direct Materials (e) Selling & Distribution Costs (6) Direct Labour (f) Research & Development Costs (c) Direct Expensos (g) Finance Costs (d) Indirect Production Costs, (h) Administration Costs (1) Telephone rentals plus metered calls, (2) Wages of securi 3) Parcel sent to customers, (4) Wages of operators in cutting department, (GeLe et eee i leborataty, (6) Wages of fork lift truck drivers in materials store, (8) Chief accountant’s salary, (9) Cost of painting advertising clogans in delivery ans, (10) Auditors fees, (11) Cost of advertising on television (12) eee ee ine (18) Floppy disks for general office computer, (14) Maintenance contract for office photo-copyiNé machines, (15) Interest on bank overdraft, (16) Market Research undertaken prior to new product Jaunch, (17) Carriage on purchase of raw materials, (18) Royalty paid on number of units of © particular product produced, (19) Road licences for delivery vehicles, (20) Amount payable 10 & company for breadeasting music throughout the factory, : SOLUTION ; Numbers anion @ me ee ye (e) Selling & Distribution Costs 8,9, 11, 16,19 (c) Direct s (1), Research & Development Costs 5 3 eee 18 () Finance Coste is Sei. Teduction Costa 2:5,7. 12,20) (fh Adkrinletration Goets 1,8, 10, 13, 14 peters can also be classified as (i) indirect materials, (if) indireet labour and fi) indirect @ Indi: i patent i saree nue Such materials refer to those materials which do not normally form & uct. Ithas been defined as “materials which cannot be allocated but BicosT-ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET ve. be apportioned to or absorbed by cost centres or . =| be si attributed to a particular abject, Thoee ae ee units”. Materials, the cost of which cannot (a) Stores used in maintenance of machinery, buit Placer ry Iding ete. like lubricants, cotton waste, bricks tb) Stores used by the service departments ie. non- roductive d wi se boiler house and canteen ete. ; and Z eee rea ic) Materials which due to their cost being small, are not considered worthwhile to be treated as direct materials. mples of indirect materials are stores consumed for repair and maintenance work, sundry stores of small value expended for factory use, small tools for general use, lubricating oil, losses, deficiencies and deterioration of stores etc, . (i) Indirect Labour. The wages of that labour which cannot be allocated but which can be apportioned to or absorbed by cost centres or cost units is known as indirect labour. In other words wages paid to labour which is employed other than on production constitute indirect labour costs. The employee cost which cannot be directly attributed to a particular cost object. Examples of such labour are : charge-hands and supervisors ; maintenance workers ; departmental coolies ; men employed in service departments, material handling and internal transport ; apprentices, trainees and instructors; works clerical staff and labour employed in time office and security office, holiday pay, leave pay, employer's contribution to funds, miscellaneous allowances to labour. (iii) Indirect Expenses. Expenses which cannot be directly attributed to a particular cost object. Such expenses which cannot be allocated but can be apportioned to or absorbed by cost centres or cost units such as rent, rates, insurance, municipal taxes, general manager's salary, canteen and welfare expenses, power and fuel, cost of training new employees, lighting and heating, telephone expenses ete. So, under indirect expenses two types of expenses are included (a) such type of expenses in respect of which payments are made for services rendered or supplies made. Amount in respect of such expenditure will be found from the voucher registers on the dates on which they are incurred, (b) such items which do not involve any payments and are mere adjustment transactions e.g., depreciation. © Expenses Excluded from Costs ‘The total cost of a product should include only those items of expenses which are a charge against profit. Items of expenses which are relating to capital assets, capital losses, payments by way of distribution of profits and matters of pure finance should not form a part of the cost. Following are the items which are not included in cost accounts : (a) Purely Finaneial Charges. (i) Loss arising from the sale of fixed assets, (fi) Loss on investments, (si) Discount on shares and debentures, (iv) Interest on bank loan, mortgages and debentures, (v) Expenses of the company's share transfer office, (vi) Damages payable, (vii) Penalties and fines, (viii) Losses due to scrapping of machinery, (ix) Remuneration paid to the proprietor in excess of a fair reward for services rendered, (x) Interest on capital, (xi) Expenses of raising capital, (xii) Cost discount. (6) Appropriations of Profit. i) Donations and Charities, (ii) Taxes on income and profits, ii) Dividend paid, (20) Transfers to reserves and sinking funds, (v) Additional provision for depreciation on fixed asseta and for bad debts, (vi) Capital expenditure specially charged to revenue, (e) Writing off Intangible and Fictitious Assets. Goodwill, Patents and Copyrights, ‘Advertisement, Preliminary Expenses, Organisation Expenses, Underwriting Commission, Discount on Issue of Shares/Debentures. (d) Purely Financial Incomes. () Rent receivable, (ii) Profits on the sale of fixed assets, (iit) ‘Transfer fees received, (iu) Interest received on bank deposits, (v) Dividend received, (vi) Brokerage received, (vii) Discount, commission received. (©) Abnormal Gains and Losses—(i) Abnormal wastage of material, (if) wages of abnormal idle time, (iii) cost of abnormal idle facilities, (iv) excessive depreciation, (») abnormal gain on manufacturing.COST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST Siggy 2-6 = © Cost Sheet or Statement of Cost r tatement designed to show the output of a particular accounting period along. Cost sheet is a statement des sheet are collected from various stateme nts which have been written : nee Biilee iim he preparation of a cost sheet but in betes y nee ae oe sheet coe useful, it is generally presented in columnar form. The columns sis br i Giela the curen, period, per unit for the current period, total cost and per unit cast for a nae ing period and total and per unit cost for the budget period and so on. The information to incorporated in a ost sheet would depend upon the requirement of the management for the purpose of control. Cost sheet is a memorandum statement, Therefore, it does not form part of double entry cost accounting records. Inspite of this, the relationship between cost sheet and financial accounts which are maintained on double entry system is very important as cost sheet derives its data from financial accounting. In case predetermined rates are not used, the entire data required for preparation of eost sheet is derived from financial accounting. Therefore, periodically it becomes to reconcile the information obtained from cost accounting and financial accounting separately Main advantages of a cost sheet are: 1. It discloses the total cost and the cost per unit of the units produced during the given period. 2. It enables a manufacturer to keep a close watch and control over the cost of production, 3. By providing a comparative study of the various elements of current cost with the past results and standard costs, it is possible to find out the causes of variations in costs and to eliminate the adverse factors and conditions which go to increase the total cost. 4. It acts as a guide to the manufacturer and helps him in formulating a definite useful production policy, 5. Ithelps in fixing up the selling price more accurately. 6. It helps the businessman to minimise the cost of production when there is a cut throat competition, 7. Ithelps the businessman to submit quotations with reasonable degree of accuracy against tenders for the supply of goods. SPECIMEN OF COST SHEET OR STATEMENT OF COST Units : Total Cost | Cost per Unit ze = Direct Labour Ditect or Chargeable Expenses Prime Cost Add : Works Overheads Works Cost ‘Add : Administration Overheads: = Cost of Production ‘Add : Selling and Distribution Overheads — al Total Cost or Cost of Sales jes in the Statement of Cost, Note : If profit is also calculated by deducting cost of sales from then it is called Statement of Cost and Profit. MEUSTRATION| Calculate Prime Cost, Factory Cost, Cost of Production, Cost of Sales and Profit from the following particulars ; c x Dereet matardale 1,00,000 Depreciation : ee 20,000 Factory Plant 500(COST—-ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET 2-7 Direct: expenses 10,000 Office Premises 1,250 Wages of for 2,500 Consumable stores 2.500 i power, 500 Manager's 5,000 Fac 1,500 1.50 500 500 Storekeeper 1,000 Telephone charges 125 Oil and wate 500 Postage and T ms 250 Rent : Factory 5,000 4,250 Office 2,500 ling expenses 500 Repairs and Renewals + Advertising 1,250 Factory Plant 8,500 Warehouse charges 500 Office Premises 500 Sales 1,89,500 Transfer to Reserves 1,000 Carriage outward 375 Discount on shares written off 500 Income-tax 10,000 Dividend 2,000 SOLUTION STATEMENT OF COST AND PROFIT = z Direct Materials 1,00,000 Direct Wages "20,000 Direct Expenses 10,000 Prime Cost 7,30,000 Add; Factory Overheads : Wages of foreman 2,500 Electric power 500 Storekeeper's wages 4,000 Oil and water 500 Factory rent 5,000 Repairs and renewals—factory plant 3,500 Factory lighting 1,500 Depreciation —factory plant 500 Consumable stores 2,500 ee Factory Cost 1,47,500 Add : Administration Overheads = aan Office rent i Repairs and renewals—office premises a Office lighting ; 4 = Depreciation : office premises a Manager's salary ap Directors’ fees ‘500 Office stationery as Telephone charges > Postage and telegrams a Perel Cost of Production 1,59,375 Add : Selling and Distribution Overheads : cn Carriage outward 4.250 Salesmen’s salariesNALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET 128 cost. Travelling expenses Advertising Warehouse charges Cost of Sales Add : Profit Sales NOTES : (1) Transfer to reserves, income-tax and dividend are excluded from cost accounts being items of appropriation of profit, so these items have not been included in cost. (2) Discount on shares written off being an item of non-operating nature Is excluded from cost. ILLUSTRATION 2 In a factory two types of articles are manufactured No. 1 and No. 2. From the following particulars, prepare a statement of cost and profit showing total cost of production of each variety and ascertain the total profit, There are no opening and closing stock and no selling and distribution overheads : No.1 No.2 Materials (2) 30,000 50,000 Labour (#) 60,000 70,000 Selling Price (?/articles) 200 1,500 Articles sold (units) 00 Working overheads are charged as 40% of works cost and office overheads are charged as 20% of cost of production, SOLUTION STATEMENT OF COST AND PROFIT Materials Labour Prime Cost Factory Overheads (40% of Works Cost (1) Works Cost Office Overheads (20% of Cost of Production) (2) Cost of Production Profit Sales (SP x units) Working Notes 1. Works Cost of: tem No. 1 = € 90,000 x 12° - « 150,000 It . ,000 x “gq = 1,50, ts 40% = * 60,000 Item No. 1 = 1,20,000 x 0_= 2,00,000 Its 40% = * 80,000 2. Cost of Production: ttem No. 1 = 1,50,000 x WP = © 4,87,500 ts 20% = 37,500 tem No. 2 = € 2,00,000 x 02 ae Its 20% = 50,000COST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET 2-9 Q Treatment of Stock Stock requires special treatment while prey mde in-progress and finished good, nee # Cott shee @ Stock of Raw Materials If opening stack of raw materials s a », Purchases of raw materials and closing stock of raw ‘materials are given, then with the help of the following, raw materials consumed can be caleulated: t ‘Stock may be of raw materials, ‘Opening Stock of Raw Materials Bes Add : Purchases of Raw Materials XK we Less : Closing Stock of Raw Materials xKK ‘Cost of Raw Materials Consumed ee (Q Stock of Work-in-Progress. ‘Work-in-progress means units on which some work has been done but which are not yet complete. Work-in-progress is valued at prime cost or works cost basis, but the latter is pre ferred. Instructions in this respect should be carefully noted from the language of the question. If it is valued at works or factory cost, then opening and closing stock will be adjusted as follows : z Prime Cost xxx Add : Factory Overheads Incurred xxx ‘Add : Work-in-Progress (Beginning) xxx xxx Less : Work-in-Progress (Closing) xxx Factory or Manufacturing or Works Cost xx Q Stock of Finished Goods If opening and elosing stocks of finished goods are also given, then these must be adjusted before calculating cost of goods sold as under : z Cost of Production xxx Add : Opening Stock of Finished Goods xxx xKK Less : Closing Stock of Finished Goods xxx Cost of Goods Sold “xxx ILLUSTRA’ 3) Following information has been obtained from the records of Left- Centre Corporation for the period from January 1 to dune 30, 2018; 2018 2018 On January I On June 30 S z ‘Cost of raw materials 30,000 25,000 ‘Cost of work-in-progress 12,000 15,000 Cost of stock of finished goods 60,000 55,000 Transactions during six months are : Purchases of raw materials 4,50,000 Administration overheads 30,000 Wages paid 2,30,000 Selling and Distribution overheads 20,000 Factory overheads 92,000 Sales 9,00,000 Prepare Statement of Cost and Profit showing various divisions of cost.2-40 (COST—ANALYSIS, CONGEPTS, GLASSIFIGATION AND GOST SHEET — STATEMENT OF COST AND PROFIT for six months ending 30th June, 2018 Opening Stock of Raw Materials Add: Purchases of Raw Materials Less : Closing Stock of Raw Materials Cost of Materials Consumed Direct Wages Prime Cost Add: Factory Overheads Factory Cost Incurred Add: Opening Work-in-progress Less : Closing Work-in-progress Factory or Manufacturing or Works Cost 7,74,000 Add; Administration Overheads ; 30,000 Cost of Production 8,04,000 Add : Opening Stock of Finished Goods 60,000 8,64,000 Less : Closing Stock of Finished Goods 55,000 Cost of Goods Sold 8,09,000 Add : Selling and Distribution Overhaeds 20,000 Cost of Sales 8,29,000 Add : Profit 71,000 Sales 9,00,000 Sometimes the entire output is not sold, then cost of production of the goods sold is to be calculated in order to calculate the profit or loss after adding the selling and distribution overheads. Sometimes selling price is to be determined on the basis of cost of production but profit percentage is generally given on sales. For calculation of profit, the following formula should be used: ite Percentage on x Total Cost 100 — Rate Percentage on Sales Suppose if the profit of 25% on sales is to be realised and total cost is * 33,00¢ added to total cost will be calculated as under : Ri Profit = eee 011000, ILLUSTRATION 4 The cost of sale of Product-A is made up as follows : z z Materials used in Manufacturing 5,500 — Indireet Expenses—Factory 100 Materials used in Packing 1,000 Office Expenses 125 Materials used in Selling and Product 150 —_Depreciation— Office Building Materials used in the Factory vid and Equipment 15 Materials used in the Office 125 Depreciation—Factory 175 Labour required in Production 1,000 Selling Expenses 350COST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET W2-14 Labour required for Supervision of the a Freig 5 Management for Factory a0 A ci eee 500 Direct Expenses—Factory 500 — 195, Assuming that all products manufa tured are sold, what | profit of 25% on selling price ietured are sold, what should be the selling price to obtain a SOLUTION STATEMENT OF COST AND PROFIT Particulars = ; Direct Material : Materials used in Manufacturing 5,500 Materials used in Packing Material* 4,000 Freight on Materials "500 5 7,000 irect Labour : Labour required on Production 1,000 Direct Expenses : Direct Factory Expenses 500 Prime Cost a500 Add : Factory Overheads Indirect Material : Material used in Factory 75 Indirect Labour : Labour required for supervision of the management for factory =| 200 Indirect Expenses : Indirect Factory Expenses 100 Depreciation—Factory 175 —— | 2R5 550 Factory Cost or Work Cost 9,050 Add : Office and Administrative Overheads : = z Indirect Material : Material used in Office z| 125 Indirect Expenses : Office Expenses 125 Depreciation 75 = |.2m ie Total Cost of Production 9,375 ‘Add : Selling and Distribution Overheads : Indirect Material : Material used in Selling the Product 150 Indirect Expenses : Selling 350 Advertising 12 |e 475 Cost of Sales Profit (831/,% on Cost or 25% on Sale] Sales TH i material. Otherwise it may be treated as selling expenses. . Pree nee eee available then it is to be calculated. The value of If cost of closing stock of finished goods is not closing stock is found on the basis of cost of production. Suppose the cost of aches oe ‘units be ¥ 60,000 and the units sold are 8,000 units. Then the value of losing stock fe. 24 (10,000 — 8,000) will be calculated as : 60,000 | 5 490 =z 12,000. ILLUSTRATION 'S? Following extract of costing inform: the half year ending 31st December, 2018. .ation relates to commodity ‘A’ for~~ ‘coST-ANALYSIS, CONCEPTS, CLASSIFICATION AND COST Sige, : 9 e 000 Stock (B1st Dec., 2018) Works Ov one a Mat Raw Materials i Dire aware i 1,00,000 Finished Produets (2,000 tons) : Carriage on Purchases 1,440 Workcin-Progress es ’ (ist July, “Rew Materials 20,000 (at Dee., 2018) 16.000 Raw Materials Finished Products (1,000 tons) Selling and distribution overheads ar produced during the period. ‘You are to ascertain (i) Cost of raw materials used, r sales and tip) Net profit for the period if profit of 15% on sales is desires 16,000 Sales—Finished Products 3,00,000 ¢ ® 1 per ton sold. 16,000 tons of commodity were (it) Cost of | et for the period, (ii) Cost of STATEMENT OF COST AND PROFIT for the half year ending 31st December, 2018 Units (Tons) z Opening Stock of Raw Materials 20,000 Add : Purchases of Raw Materials 1,20,000 Add : Carriage on Purchases 1440 1,41,440 Less : Closing Stock of Raw Materials 22.240 () Value of Raw Materials Used 1,19,200 Adg : Direct Wages 1,00,000 Prime Cost Add : Works Overheads Add : Opening Stock of Work-in-Progress. 4,800 2,72,000 é 16,000 (@) Cost of Output for the period (* 16 per unit) 2,56,000 Add : Opening Stock of Finished Products 16,000 Less : Closing Stock of Finished Products ($258200.. con __ Cast of Goods Sold 15,000 | 2,40,000 Selling and Distribution Overheads on 15,000 tons @ & 1 per ton 15,000 (iii) Cost of Sales 2,55,000 15 (i) Net Profit (i x + 255,000) | 45,000 toe Sales ( £2.55,000 x 408 c, SEURTRATIONGS! Following figures are extracted from the Trial Balance of Gogetl®* Debit B. z ' ‘Opening Inventories : Debit Balances Stock Heat, Light and Power 65,000 ees ay ae re Work-in-Progress 2.00.000 Factory Expenses 33,600COST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET 243 Office Appliances 17,400. Sales Travellin Plant & Machinery 0,500 Sales Promotion Sneed Building 2,00,000 Distribution Dept.—S ; Sales Return and Rebates 14,000 and Expenses 18,000 Materials Purchased 3,20,000 Office Salaries and Expenses 8,600 Freight incurred on Materials 16,000 Interest on Borrowed Funds 2,000 Direct Labour 160,000 Credit Balances i Indirect Labour 18,000 Sales 7,68,000 Factory Supervision 10,000 Purchase Returns "4,800 Repairs and Upkeep—Factory 14,000 : Further details are available as follows: (Closing Inventories : Finished Goods ¥ 1,15,000; Raw Materials ® 1,80,000; Work-in-Progress ® 1,92,000, (ii) Accrued expenses on : Direct Labour 7 8,000; Indirect Labour @ 1,200; Interest on Borrowed Funds ® 2,000. (iii) Depreciation to be provided on : Office Appliances 5% ; Plant and Machinery 10% ; Buildings 4%. Gv) Distribution of the following costs : Heat, Light and Power to Factory, Office and Distribution in the ratio of 8 = 1 : 1 Rates and Taxes two-thirds to Factory and one-third to Office. Depreciation on Buildings to Factory, Office and Selling in the ratio of 8: 1 : 1. With the help of the above information, you are required to prepare : (i) a statement of cost showing various elements of cost and (ii) a statement of profit. SOLUTION STATEMENT OF COST a Opening Raw Material Inventory Add : Materials Purchased Freight on Material Less : Purchases Returns Closing Raw Materials Inventory Material Consumed 291,200 Direct Labour (@ 1,60,000 +7 8,000) 1,868,000 Prime Gost 4,59,200 Add : Factory Overheads Indirect Labour (? 18,000 + 1,200) 1aa00 Factory Supervision ea Repairs and upkeep —Factory nk 4 Heat, Light and Power | of & 5000) 52,000 Rates and Taxes a = 200) aon Misc. Factory Expenses ie Depreciation on Plant (10% of 2 4,60,500) 5 4 4 A Depreciation on Building (6 x 2,00,000 x 5 6,400 1,70,550 6,29,750 Gross Works CostcOsT—ANALYSIS. CONCEPTS, © -LASSIFICATION AND COST sy, W214 = Add - Opening Work-in-Progress Inventory Less : Closing Work-in-Progress Inventory Works Cost Add : Administration Expenses 8,600 Office Salaries and Expenses a) Depreciation an Office Appliances (5% of € 17.400) Depreciation on Building + oe Heat, Light and Power [75 of © 65,000 | Rates and Taxes Cost of Production Add : Opening Finished Goods Inventory Less = Closing Finished Goods Inventory Cost of Goods Sold Add : Selling & Distribution Expenses ; Sales Commission Sales Travelling Sales Promotion Distribution Department— Salaries & Expenses 18,000 Heat, Light and Power os of € 65,000 6,500 Depreciation on Buildi 800 33,600 Cost of Sales STATEMENT OF PROFIT Sales Less: Returns Less: Cost of Sales Net Operating Profit Less : Interest on Borrowed Funds Net Profit ILLUSTRATION 7. Following inti ee aa of Ree Re are ae ee, iene tron jhe: oer : z Fase Good on 1-1-2018 50,000 Heat, Light and Power yee a a 10,000 Factory Insurance and Taxes Heck ia -1-2018 14,000 Repairs to Plant 5,000 Dias ee 1,60,000 Factory Supplies 6,000 tama 98,000 Depreciation—Factory Building 10,000 Cilicia eoatlan melds elle 40,000 Depreciation—Plant 90,000 + Ra material cor . is Factory cost of goods produced in 2018 ¢ 2, zs teat in 2018 95,000; Cont of goods sold in SSneueaaenre z Statement of Conk gna ministration expenses were incurred during the year 2018 Prep break-up, What should le the eine 28a ending 2018 giving maximum possible information selling price to obtain a profit of 20% on the selling price?COST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET SOLUTION add Less Add : Less: Add : Less: Add: Aditya Chemicals Ltd. STATEMENT OF COST AND PROFIT for the year 2018 Cost of Raw Materials Consumed : Opening Stock of Raw Materials Purchases Materials available for use Closing Stock (missing : Bal. Fig.) (Material Available & 1,08,000 — Material Consumed % 95,000) Cost of Raw Materials Consumed Direct Labour Prime Gost Factory Overheads : Indirect Labour Heat, Light and Power Insurance and Taxes Repairs to Plant Factory Supplies Depreciation—Plant —Building Total Factory Cost incurred during the year Opening Work-in-Progress Total Factory Cost to account for (ty Closing Work-in-Progress (missing: Bal. Fig.) {(2}— (1)] Factory Cost (given) (2) Opening Finished Goods Stock Cost of Goods available for sale (8) Closing Stock of Finished Goods (missing: Bal. Fig.) [(4) - (3)] Cost of Goods Sold (given) or Total Cost Profit (1/4th of Total Cost or 1/5 of Sales) Sales 40,000 20,000 5,000 3,000 5,000 10,000 0215 2,55,000 89,000 844,000 14,000 3,58,000 78,000 2,80,000 50,000 3,30,000 1,70,000 4,60,000 40,000 ILLUSTRATION 8 Popeye Compan; products to the home construction market. Consider the following data for the month of October, y is a metal and wood cutting manufacturer, selling 2018 1-1-2018 31-10-2018 Direct Materials 1,00,000 1,25,000 Finished Goods 2,50,000 3,75,000 Work-in-process 25,000 35,000 Transactions during the month + a 4 Be Sand paper 5,000 Property taxes on plant & equipment 10,000 Material-handling costs 1,75,000 Fire Insurance on plant & equipment 7,500 Lubricants and Coolants 12,500 Direct materials purchased 11,50,000 Miscellaneous indirect manufae- Sales revenue 34,00,000 turing labour 1,00,000 Marketing promotions 1,50,000TS, CLASSIFICATION AND Cosr y Hee 246 cOST—ANALYSIS, CONCEP: salaries per 7,850,000 Marketing #a 2,50,04 Direct inamufaeturing labour 1.85,000 Distribution costs 1,75.909, PlantJeasing costs ‘90.000 Customer-service costs 25Lon, Depreciation-plant & equipment Required () Prepare an income statement with a separ manufactured. s ms, indicate by V or F whether each is basically a variable cust g, Gi) For all manufacturing items, indie: " a fixed cost (where the cost object is a product unit) SOLUTION ate supporting schedule of cost of goog, Popeye Company ‘COST SHEET for the month ending October, 2018 ea he nS SS z Direct Materials Beginning Inventory eae Add : Purchase of Direct Materials | 11,50,000 12,50,000 Less : Ending Inventory fe) 11,25,000 v Direct Manufacturing Labour 7,50,000 Indirect Manufacturing Costs Sand Paper 5,000 ¥ Material Handling Cost 4,75,000 V Lubricants and Coolants 12,500 V Misc. Indirect Mig. Labour 1,00,000 V Piant Leasing Cost 1,35,000 F Depreciation—Plant & Equipment 90,000 F Property Tax—Plant & Equipment 10,000 F Fire Insurance— Plant & Equipment 7,500 F [——__|.5.88,000 Manufacturing Cost incurred 24,10,000 Add : Opening WIP ‘25,000 24,95,000 Less : Closing WIP "35,000 Cost of Goods Manufactured (Transferred to Income Statement) 24,00,000 Ss —— INCOME STATEMENT for the month ending October, 2018 Sales Revenue Cost of Goods Sold Beginning Finished Goods Add : Cost of Goods Manufactured 2,50,000 24,00,000 Less : Ending Finished Goods os Gross Margin Less ; Marketing Promotions Marketing Salaries 1,580,000 2,50,000cOST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET W2-17 Distribution Costs Customer Service Costs 1,758,000 ase i 8,25,000 ng incom Operating e a oe a a Hy Eeinetsing coos has a Machine Shop in which it manufactures 4 @ for vely. te aber 2018, the following cost data are available aE eee rr aaa rt Consumption of Raw Material—A Tend Consumption of Raw Material—B 200,000 Direct Wages—X “36,000 Direct Wages—Y $2,000 Salaries (Factory) 85,000 Stores and Spares 12,000 Repairs and Maintenance 15,000 Power 16,000 Insurance 8,000 Depreciation 50,000 Other Factory Overheads 63,000 ‘Administration Overheads 64,400 Selling and Distribution Overheads 75,000 Total cost ‘You are given the following further information + ti) Production, Sales and Machine hours utilized for “X" and “Y" were as under + Production x ¥ Production (units) 6,000 4,000 Sales of above units (@) 4,80,000 5,20,000, Machine hours utilized 550, 450 (i) Direct wages paid for each product is used for apportioning salaries and other factory overheads. (iii) Factory overhead items like stores and spares, repairs and maintenance, power, insurance tag depreciation are charged to cost of both the products on the basis of machine hours used iv) Administration overheads are apportioned on the basis of respective conversion costs (Wages and all factory overhead items) while selling and distribution overheads on the basis of their sales realizations. (v) All the production was sold out. Required : Prepare cost sheet of both the products and work out profits earned on each of them. SOLUTION COST SHEET Total x ¥. Particulars ®) 6,000 units _(#) | 4,000 units (%) Direct Materials 3,50,000 1,50,000 2,00,000. Direct Wages 68,000 96,000 32,000 Prime Gost 4,18,000 41,86,000 2,32,000 Factory Overhead Salaries 85,000 48,000 40,000 Stores and Spares 42,000 6,600 5,400 Repairs and Maintenance 15,000 Bae CieHg cOSTANALYSIS, CONGEPTS, CLASSIFICATION AND COST See, 16,000 8,800 Power 4,400 8,000 5 Insurance Pee 27.500 Depreciation . 36.000 Other Factory Overheads __88,000 | _ Saaaal Factory Cost Reta Administrative Overheads —— — ‘Cost of Production 7,26,400 Selling & Distribution Overheads ___75,000 | Total Cost 8,171,400 | Profit 1,88,600. Sales Cost per unit ILLUSTRATION 10 A fire occurred in the factory premises on October 31, 2018. The accounting records have been destroyed. Certain accounting records were kept in another building They reveal the following for the period September 1, 2018 to October 31, 2018 (@) Direct materials purchased % 2,50,000 (it) Work in process inventory, 1-9-2018 z 40,000 (iif) Direct materials inventory, 1-9-2018 = 20,000 (iv) Finished goods inventory, 1-9-2018 = 37,750 (v) Indirect manufacturing costs 40% of conversion cost Sales revenues = 7,50,000 Direct manufacturing labour = 2,22,250 (viii) Prime eost 2 3,97,750 (i) Gross margin percentage based on revenues 30% (x) Cost of Goods available for sale % 5,55,775 The loss is fully covered by insurance. The insurance company wants to know the historical cost of the inventories as a basis for negotiating a settlement, although the settlement is actually to be based on replacement cost, not historical cost. Required : (i) Finished goods inventory, 31-10-2018 ; (ii) Work-in-process inventory, 31-10- 2018 ; (iii) Direet materials inventory, 31-10-2018. SOLUTION Working Notes : Prime Cost (given) = 397,750 (1) Direct Material Used = Prime Cost — Direct Manufacturing Labour Gost % 3,97,750 = * 2,22,260 = 1,75,500 Comanen co _ Direct Manufacturing Labour Cost _ = 2.22250 _» 479 41667 0.6 ines (2) Indirect Manufacturing Cost = & 3,70,416,67-% 2.29,260 1,48,166.67 SCHEDULE OF COMPUTATION Ndine the cost of ought-out matorila or seri Process which begins with the implementation it ‘hod and ends with the commencement of forma normal requirement, incurred i It is the cost of abnormal idleness of fixed assets or availableGOSTANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET M225 FE plduetien tines These “are absof to be incurred immediately in order to avoid the hampering faveree effect on the elfciency of erates eeeial and their shifting to future period will have Post ib] i witht any ete onthe et cts St be ostponed or shifted to the fare period general not avoiding altogether, current operations. Such cost is only a deferment of cost and (t) Pre-production Costs. These are costs i - in the process of being established, a new poset eee luting the period when a new factory is taken up but there is no established or fc i i These costs are normally treated as deca a such costs may be charged. capitalised) and are charged to future Congrred, revenue expenditure (except the portion which is (v) Research Cost. These are costs incurred i i i Y i 0 in the discovery of new ideas or processes by seperiment or eerie! and for putting the ‘results of such experiments on a commercial basis. Research cost is defined as the cost of searching for new or improved product, new application of material or new improved methods, processes, systems or services. (w) Training Cost. The cost of training workers, apprentices and staff, generally comprises of their wages and salaries, pay and allowances of the training and teaching staff, payment of fees etc. for training or for attending courses of studies sponsored by outside agencies, and cost of material, tools and equipment used in training work. All these costs are booked under separate standing order numbers for the various functions. Usually, there is service cost centre, known as the training section to which all training costs are allocated. The total costs of training section is thereafter apportioned to production centre. Q Cost Classification Cost classification is the process of grouping costs according to their common characteristics. It is the placement of like items together according to their common characteristics. A suitable classification of costs is of vital importance in order to identify the cost with cost centres or cast units, Cost may be classified according ta their nature, i.c., material, labour and expenses and a number of other characteristics, The same cost figures are classified according to different ways of costing depending upon the purpose to be achieved and requirements of a particular concern. The important ways of classification are : (1) By Nature or Elements (2) By Functions (3) By Degree of Traceability to the Product (4) By Changes in Activity or Volume (5) By Controllability (6) By Normality (7) By Relationship with Accounting (8) By Time Period, (Capital and Revenue) (9) According to Planning and Control (10) By Association with the Product (11). For Managerial Decisions. Now each classification will be discussed in detail. : - = 1. By Nature or Elements, (or Analytical Classification). According to this classification, the coste are divided into three categories i,e., Materials, Labour and Expenses. ‘There can be further sub-elassifieation of each element ; for example, material into raw material components, share parts, consumable stores, packing material etc. This classification is important as it helps to find out the total cost, how such total cost is constituted and valuation of work-in-progress, ds i ing to this classification costs are 2.B, i i.e,, Functional Classification), According to thi i divided in fae ie * ifferent aspects of basic managerial activities involved in the operation ofa business undertaking. It leads to grouping of costs according to the broad divisions or funeticns of a business undertaking i.e, production, administration, selling and distribution. Accordi Ton costs are divided as follows : Metssie Go saa precietien ‘Cost. This is the total of costs involved in manufacture, Construction and fabrication of units of production. ; Commercial Cost, This is the total of costa incurred in the operation of » business undertaking other then the cost of manufacturing and production. Commercial en Tat Tt sub-divided into (a) administrative cost, and (2) selling and distribution cost, already been explained in this chapter.CONCEPTS, CLASSIFICATION AND Cosy Shee, 12. cOST—ANALYS! Direct and Indirect). Accord ty to the Product (Dix u ing to i wats and indirect costs, Direct costs are t is classification, total cost is divided into direct enats and indi Be atilar cost cette sages Which fre incurred for and may be conveniently identified with a particular sisy Sontrs or coat ung Materials used and labour employed in manulag a = Gaiid are thinestenstecorhich as rOress of production are common examples of direet costs. friirect cosis Att ts which are iney : t units and cannot be conveniently identified, for the benefit of a number of cast. centres or cos! With particulareost centre or cost unit, Examplos of indirect costs include rent of building, manager falaries, machinery depreciation ete. ‘The nature of the business and the cost unit chosen wi determine which costs are direct and which are indirect. For example, the hire of a mobile crang for use by a contractor at site would be regarded as a direct cost but if the crane is used 88 @ Dart of the services of a factory, the hire charges would be regarded as indirect cost because it will probably benefit more than one cost centre. The importance of the distinction of costs into direct ang indirect lies in the fact that direct costs of a product or activity can be accurately determined while indirect costs have to be apportioned on certain assumptions as regards their incidence. 4. By Changes in Activity or Volume. According to this classification, costs are classified according to their behaviour in relation to changes in the level of activity or valume of production. in this basis, costs are classified into three groups viz., fixed, variable and semi-variable. On this b fied into three groups viz,, fixed, variable and semi-variabl (i) Fived Costs are commonly deseribed as those which remain fixed in total amount with increase or decrease in the volume of output or productive activity for a given period of time. F; di in the volume of output or producti ity for a given period of iced cost por unit decreases as production increases and increases as production declines, Examples of fixed casts are rent, insurance of factory building, factory manager's salary etc. These fixed costs are constant in total amount but fluctuate per unit as production changes, These costs are known 85 period costs because these are dependent on time rather than on output. Such costs remain constant per unit of time such as factory rent of £10,000 per month remaining same for every month irrespective of output of every month. , Fixed costs can be classified into the following categories : (a) Committed Costs. These costs are the result. of inevitable are : ne| consequences of commitments The management nas Tle or ao duction aoe yee aes, mame be qulelyeliinated 5 e 7 Badr epee nee type of costs e.g. rent, insurance, depreciation (b) Policy and Managed Costs. Policy costs iS - a i management polis acotvedevopmuct Laing a ey, Amplementing some costs are incurred to ensure the operating existence of the company e.g. stalf cerviees (¢) Discretionary Costs. The i Hie tenet a cae die pe oS not ayaa to the operation but can be controlled by eliminated ar redueed to a desirable level at the deerctin nee Be™ Tesearches etc. and can be S liseretion of the management, These include fixed 3. By Degree of Traceabi (d) Step Costs. Such costs are const: aiaquetet a higher level of alioue stant for a given level of output and then increase by a fixed product costs because they depend on the q expenditure ineurred by, say, the Tool Room but the share of the tool-room expenditure controlled by the machine shop foreman wn ee partly fixed and partly variable. For example total telephone expenses are semi-v tual charge plus variable according to ealls ; thus i van is and maintenance of building and plant ene, OU" &=amples of such costs are depreciation, repairscOST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET v2.27 5. By Controllability. Under this, costs are classified accor ing to whether or nat they are I classified ing fiuenced by the action of a given member of the undertaking On thie bane clr eee cen ied i ny he ai ber of the undortaking, On a : (#) Controllable Cost; se wl et ih eran dudeeskine thatig arc iba oie as be te ced by the action of a specified member An organisation is divided into @ number of responsibilty conte de aoe tro of management. particular cost centre can be inflverced be Eee ily centres and controllable costs incurred in Generally speaking, all divcet costs including direct materiale; dherc Gee oa ee a 5 ect: materials, direc 8 are ernre oe eal lower level of management, Boer sree ee ii) Uncontrollable Costs are those which cann nl : ssembcr ofan underakings ore res at Oat be fuonced by the action of a specified the fixed costs are uncontrollable. For ‘ iE ; example, rent of the building is not controllable and so is managerial salaries. Overhead cost, which is | Paar a coeur nce 08h, Which is incurred by one service section and is apportioned to another which receives the service is also not controllable by the latter, The distinction between controllable and uncontrollable is sometimes left to individual judgement and is not sharply maintained. In fact, no cost is controllable, it is only in relation to a particular level of management or an individual manager that we may say whether a cost is controllable or uncontrollable. A particular item of cost which may be controllable from the point of view of one level of management, may be uncontrollable from another point of view. Moreover, there may be an item of cost which is controllable from long-term point of view and uncontrollable from short-term point of view. This is partly so in the case of fixed costs. Examples : = (@) A supervisor may be unable to control the amount of managerial remuneration allocated to his department but for the top management this would be a controllable cost, () Depreciation would be a non-controllable cost in the short-term but controllable in the long-term. 6. By Normality. Under this, costs are classified according to whether these are costs which are normally incurred at a given level of output in the conditions in which that level of activity is normally attained. On this basis, it is classified into two categories : (a) Normai Cost. It is the cost which is normally incurred at a given level of output in the conditions in which that level of output is normally attained, It is a part of cost of production, (6) Abnormal Cost. It is the cost which is not normally ineurred at a given level of output in the conditions in which that level of output is normally attained. It is not a part of cost of production and charged to Costing Profit and Loss Account. 7. By Relationship with Accounting Period (Capital and Revenue). The cost which is incurred in purchasing an asset either to earn income or increasing the earning capacity of the business is called capital cost, for example, the cost of a rolling machine in case of steel plant. Such vost is incurred at one point of time but the benefits accruing from it are spread over a number of accounting years. If any expenditure is done in order to maintain the carning capacity of the concern such as cost of maintaining an asset or running a business it is revenue expenditure e.g., ost of materials used in production, labour charges paid to convert the material into production, salaries, depreciation, repairs and maintenance charges, selling and distribution charges etc. The distinetion between capital and revenue items is important in costing as all items of revenue expenditure are taken into consideration while calculating cost whereas capital items are completely ignored, : P 8. By Time. Costs can be classified as (i) Historical costs and (ii) Predetermined costs. i) Histori ich are ascertained after being incurred are called historical ee Cee Tey production of a particular thing has already been ‘ests. Such costs are available only when the F lone. Such costs are only of historical value and not at all helpful for cost control purposes. Basic characteristics of such costs are : © ‘They are based on recorded facts. © They can be verified because they are © They are mostly objective because they relate to place, always supported by the evidence of their occurrence. i happenings which have already taken(GOST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST Simey ii) Predetermined Costs. Such costs are estimated costs i.e. computed in advange a ee taking into consideration the previous periods’ costs and the factors affecting such casa Predetermined cost determined on scientific basis becomes standard cost. Such costs whe, compared with actual costs will give the reasons of variance and will help the management to gy the responsibility and to take remedial action to avoid its recurrence in future. Historical costs and predetermined costs are not mutually exclusive but they work together i: the accounting system of an organisation. In competitive age, it is better to lay down standards = that after comparison with the actuals, the management may be able to take stock of the situation to find out as to how far the standards fixed by it have been achieved and take suitable action ix the light of such information. Therefore, even in a system when historical costs are used, predetermined costs have a very important role to play because a figure of historical cost by itself has no meaning unless it is related to some other standard figure to give meaningful information ts the management. 9. According to Planning and Control. Planning and control are two important functions of management. Cost accounting furnishes information to the management which is helpful in the due discharge of these two functions. According to this, costs can be classified as budgeted costs and standard costs. Budgeted Costs. Budgeted costs represent an estimate of expenditure for different phases of business operations such as manufacturing, administration, sales, research and development ete coordinated in a well conceived framework for a period of time in future which subsequently becomes the written expression of managerial targets to be achieved. Various budgets are prepared for warious phases, such as raw material cost budget, labour cost budget, cost of production budge, manufacturing overhead budget, office and administration overhead budget ete. Continuous comparison of actual performance (i.e., actual cost) with that of the budgeted cost is made so as te report the variations from the budgeted cost to the management for corrective action. Standard Costs. Budgeted costs are translated into actual operation through the instrument of standard costs, The Chartered Institute of Management Accountants, London defines standard cost as “the predetermined cost based on a technical estimate for materials, labour and overhead for a selected period of time and for a prescribed set of working conditions”. Thus, standard cost is determination, in advance of production of what should be the cost. Budgeted costs and standard costs are similar to each other to the extent that both of them represent estimates for cost for a period of time in future. In spite of this, they eitfer in the following aspects = " (/) Standard costs are scientifically predetermined costs of ev. yusiness activity whereas budgeted costa are mote ertintie en ne aepees of busines financial accounting data adjusted to future trends. Thus, budgeted costs are projection of financial accounts whereas standard costs are projection of cost neeaunte (ii) The primary emphasis of budgeted costs is on the planni: ageme: whereas the main thrust of standard costs is on eee ce is ‘emphasis on what should be the costs. (iii) Budgeted costs are extensive whereas standard costs Sopttatn. Burgetcd ants trench eee ana, Sts tre intemal in bet they are estimated in respect of the operations of a department. Contrary to this stendard costs are concerned with each and every aspect of business operation carried in a department. Thus, budgeted costs deal with aggregates whereas standard costs deal with individual parts which make the aggregate. For example, budgeted costs are calculated for different functions of the business i.c., production, sales, purchases ete. whereas standard costs are compiled for various elements of costs i.e., materials, labour and overhead, 10. By Association with the Product. Under this classification, cost ean be product costs and period costs. ing costs constitute inventoriable ar product cost. Products Costs are those costs which are traceable to the product and are included in inventory valuation. Product costs arecOsT—ANALYSIS, CONCEPTS, CLASSIFICATION AND Cost SHEET 2:29 ipventoriable costs and they become b; iipprise direct materials, direct labous cancers, ‘These are used for Valuation o Gre sold because such costs provide inen ir transferred to the cost of goods sold meee eet Period Costs. These whi te eremeinaites ee oe which are not assigned to products but are incurred on the basi dal to keep the business mnt, These may relate to administration and selling costs Sey Gao ee these ere not associated with production and are y : assigned to a in revenue of the period in which these are incurred and treated eeemease one oe Charged against The net income of a concern is influenced b i r 'y both product and period costs. Product costs are included in the cost of production and do not affect income till goods are sold. Period costs are aot | related to producti i 7 stall parecer 'on and as such are not inventoried but are charged to the period in which 11. For Managerial Decisions. On this basis, costs may be classified into the following costs: @ Marginal Cont. Marginal cost is the total of variable costs i.e., prime cost plus variable overheads. It is based on the distinction between fixed and variable costs. Fixed costs are ignored and only variable costs are taken into consideration for determining the cost. of products and value of work-in-progress and finished goods. (ii) Out of Pocket Costs. This is that portion of the costs which involves payment to outsiders i.e., gives rise to cash expenditure as opposed to such costs as depreciation, which do not involve any cash expenditure. Such costs are relevant for price fixation during recession or when make or buy decision is to be made. (iii) Differential Cost. Differential cost is the difference in total cost between alternative calculated to assist decision making. Differential cost is the increase or decrease in total costs resulting out of producing and distribution a few more or few less units of products, a change in the method of production/distribution, an addition or deletion of a product or a territory and the selection of an additional sales channel. The change in costs due to change in the level of activity or pattern or method of production is known as differential cost. If the change increases the cost, it will be called incremental cost. If there is decrease in cost resulting from decrease in output, the difference is known as decremental cost. (iv) Conversion Cost is the sum of direct wages, direct expenses and manufacturing overhead costs of converting raw material from one stage of production to the next. In other words, conversion cost is works cost minus the cost of direct materials. (v) Sunk Cost. A sunk cost is an irrecoverable cost and is caused by complete abandonment ofa plant, It is the written down value of the abandoned plant less its salvage value Such costs are historical costs which are incurred in the past and are not relevant for decision-making and are not affected by increase or decrease in volume. Thus, expenditure which has taken place and is irrecoverable in a situation, is treated as sunk aaa waking managerial decisions with future implications, a sunk cost is an soetlenant cost ax it has no role in current decision making process. If a decision has to be, ee ioe replacing the existing plant, the book value of the plant less salvage value (if nde Fal bets sunk cost and will be irrelevant cost for taking decision of the replacement of the existing plant and therefore, not cnnideed See ea i i costs and notional costs have the same . ee acres Pos ee oer na term ‘notional cost’ is ‘imputed cost’. These The American equivatett and do not involve any cash outlay. The Chartered Institute costs are notional in natvants, London, defines notional cost as “the value of a benefit of Management ‘f‘je incurred”. Even though such costs do not involve any cash outlay [here no actua’ fo consideration while making managerial decisions. Examples of such costs ae motional ent charged 2 ne re ive capital Investment ona chp erence a, When er eet nen projects are being °Trrived as to which is the most profitable project. Actual payment o sis for product pricin, and manufa f inventory ig and cost plus contracts. They cturing overheads in case of manufacturing and are shown in the Balance Sheet till they only after sale, The product cost of goods soldv2.30 : ____COST—ANALYSIS, CONCEPT: CLASSIFICATION AND cosr SHEEP rotten hone tral it Not made but the basic concept it that, had the funda beon . somowhere else, they would have enmned intone Therefore, imputed conta on rented coats can be dex ortunity costs. Imputed oF notional ena” ie yypotheticnl cost to r benefit enjoyed by a firm in respeet of whink Actual exponse de not incu rfors to the value of sacrifice mado or benefit of opportunity forgone in accepting an alternative course of acting (1) Opportunity Cost. Opport f other opportunities ved ifthe cost is the coat of seleeting one course of nction and the 0 carry out that course of action, It in the amount that can 1 is utilized in its next beat alternative, It ia the maximum oval that might have heen earned if the productive eapacity nt serving had been put to some alt In simple words, it is the advantage, in ns; Which han been foregone due to not tising the facility in the manner prginally planned. For example, if an owned bullding in proposed to be used for 4 Prete, the likely rent of the building is tho opportunity rost crheh, should be taken inta consideration while ing the profitability of the project, Similarly a firm financing its expansion ) 6 money from its bank deposits, In such a case the lost of interest on the is the opportunity cost for carrying out the expansion ) Replacement Cost, It is tho cost at which there could be purchase of an asset or replarne dentical to that, which is being replaced or revaluod "It 10 any cost of replacement at current market price (ix) Avoidable and Unavoidable Costs Avoidable costs are those which can be eliminated i ment with which they are directly related is of the clerks employed in a particular department e: is discontinued. Unavoidable cost is that cost which if) i oats. | sult specifically from a clear cause and vilect (oP relaahip eco par ed ata esa fu ear ae und fe observable. Examples of inputs are direct material costs, direct labour costs ete, Main points of difference between Explicit Costs and Implicit Costs are ; Implicit costs do not involve immediate payment of cash whereas explicit costs involve immediate outgo of cash. Implicit costs are not recorded in the books of accounts where explicit costs are entered in the books of accounts. ANDAs cores ONAN TRUE/PALSE : hich of the statements ure argo variable cost does not increase in total proportion to output. i denelen ii ‘imble cost per unit remains constant, i di) sak coats ure relevant for decision-making, w Gi) izCOST—ANALYSIS, CONCEPTs, CLASSIFICATION AND COST SHEET W234 (iv) Costing and cost accounting are the (v) Fixed cost does not chan: 5 * not change in the same proportion in which output (vi) Administration expenses are mostly fixed.» —— (vii) Abnormal cost is controllable. (viii) Cost of production is & (iz) Variable same. qual to prime cost plus works cost. increases as the fixed cost. Financial accounting provides information for cost control (xi) Direet cost is one which can be convenie1 e vith an ged t price ee ntly identified with and charged to a (aii) Cost centre and cost unit are the samt (x) Fixed cost per unit decreases with rise in output and inereases with fall in outp Marginal cost is not at all helpful to management for decision-maling. (xv) Period costs are not assigned to products (xvi) Standard costs tell us what the cast is. (xvii) Decremental cost means the cost of an added unit. (xviti) Period costs are unvariable and are expensed out as and when inventory (xix) Chargeable expenses is an example of fixed cost. (xx) Costs which are ascertained after they have been incurred, are known as historical costs. (TRUE : (ii), (v), (vi), (wii), Gri), Geiii) , (xv), (ex) ; FALSE : (i), (#12), G (=), (xii), Geiv), (xvi), (xvii), (xviii), (xix)] Fill in the blanks : (a) An item of cost that is direet for one business may be. (6) The total of all direct expenses is known as cost. (C) ss. Costs are partly fixed and partly variable in relation to output. (d) An opportunity cost is (e) Works cost is a total of . = (f Allcosts are......... controllable. (g) An opportunity cost does not involve ... (h) Variable costs change with change in output. (@) Fixed cost per umit ....... with inerease in output. () Depreciation is........ expenditure. (k) Out of pocket costs involve payment to () Added value is the change in. | ; tn) is the value of benefit sacrificed in favour of an alternative course of action. (a) dll indivect costs related to indirect material, indirect labour and indirect expenses are (xiv) sold. (iii), (ix), . for another business termed as a ( t plus administrative overheads is known as. (a) ee pune + (c) Semi-variable ; (d) the advantage foregone (e) airect material, direct Labour, direct or chargeable expenses and works expenses : 5 ately 5 3 $ not 5 ig) cash outlays; (h) Prort) opportunity cost ; (n) overheads ; (0) cost of production} Give one example of the pleat 5 (a) Variable cost ; (6) Fixed cost ; (c) le Controllable cost; (f) Uncontrollable cost ; (g) Sunk cost ; i i@ fled Direct material ; (6) Rent of tat ee at jo Tees caress | s ie ign pera ti dering the noe es era value of a we ea ot cons: is replacement of that plant ; (h) Rent on own building, i-variable cost ; (d) Direct expenses ; (e) Bunks cost; (s) Imputed cost ; (i) Out of pocket2-32 4. cOST—ANALYSIS: CONCEPTS, CLASSIFICATION AND Cosy siof production, and (7) Total cog "Om Ascortain (a) Prime ct oe undermentioned figur . cuter C20 a ale Factory expenses 30h pair expenses © seo E aes Expenses ® 5,009, “tty, Fost orale € 35,000 Selling ORPOMEES TO, tat + (b) & 90,000 ; (e) © 1,10 ; , aoe ee ecaeives given below, choose the right answer : (a) Three elements of cost are * (@) Direct Material, Direct Labour, } Manufacturing Overheads, Offies ) Material, Labour, Other Exper ) Material, Labour, Overhead: (8) Cost of production is equal to: (2) Prime cost plus works costs (ii) Total cost minus Prime cost (iii) Works cost plus Administrative cost (iv) Prime cost plus Administrative cost. (c) Works cost includes + (i) Direct Material + Direct Labour + Chargeable Expenses (ii) Direct Material + Direct Labour + Office Overheads (iii) Direct Material + Direct Labour + Direct Expenses + Works Expenses (iv) None of the above. (d) Which of the following is not Selling and Distribution Expense ? (@ Cost of samples Go) \Gariage currant (iii) Bad debts (iv) Primary packing material. (e) Which of the following expense is excluded from cost ? (@) Excise duty (ii) Discount on shares and debentures Gii) Hire charges of a special plant for a particular job (iv) Cost of patent rights. (f) Insurance of goods in transit to a customer is a: @) Administrative Expense (ii) Selling and Distribution Expense (iii) Direct Expense (iv) None of the above. (g) Selling overheads are charged on: @) ‘The number of units produced Gi) ‘The total number of units ii) ‘The number of units sold (i) None of the above, (h) Which of the following is not a di: (Royalty paid (ii) Carriage on purchases (ii) Wages of machine operator (iv) Wages of watchman, () Profit is (@ Sales minus factory cost (ii) Sales minus cost of production Git) Sales minus ost of sales (iv) Sales minus cost of goods sold Direct Expenses ¢ Overheads, Selling Overheads irect expense ?COST—ANALYSIS, CONCEPTS, CLASSIFICATION AND COST SHEET 2-33 G) Which of the following is not an administrative expense ? () Rent and rates of office building (Hi) Depreciation of office equipment (ii) Interest on capital (iv) Trade magazines and journa Ans. Ue) i¥; (b) tii; Ce) Gai); (CAD Cav); (0) (48); (PP (a); (wg) Ladd dg MA) 6. From the alternatives given below, choose the right anawer : (a) Which of the following ix not ineluded in cont 7 (i) td); G) Gio) (i) Consumable stores (ii) Dividend (iii) Indirect labour (iv Distribution overheads, (b) Which is not a direct expense ? (i) Excise duty Gd) Municipal taxes (iii) Special d (e) Cost of sales is: (®) Cost of Production + Selling and Distribution Expenses (ii) Cost of Production + Stock of Finished Goods Git) Gost Feet + Opening Stock of Finished Goods — Closing Stock of inished Goo (iv) Cost of Goods Sold + Selling and Distribution Expenses. (d) When cost price is ® 800 and profit on sale is 20%, the profit shall be : @ % 160 (ii) @ 80 (iit) % 100 (iv) @ 200, (e) If cost of production of 1,000 units is ¥ 20,000, What is the cost of closing stock ? The units sold are 800 units. @ 74,000 ii) 7 2,000 (iii) 7 8,000 (iv) % 1,000, (/ Speeify the expense excluded from costs : (i) Direct or chargeable expenses (ii) Expenses of raising capital Selling overheads (iv) Indirect labour. (g) Conversion cost includes : (i) Direct Material + Direct Labour (ii) Direct Material + Direct Labour + Works Expenses (iii) Indirect Material + Indirect Labour + Other Expenses (iv) Labour + Manufacturing Expenses. (h) Bad debts are: @. Office expenses (ii) Selling expenses (iia) Distribution expenses (iv) Financial expenses. (® Factory overheads are 80% of direct labour cost. If factory overheads are © 64,000, then direct labour cost is : @® 51,200 (iii) % 80,000 @) Value of material consumed is : F () Opening stock of material + Closing stock of material : (ii) Opening stock of material + Purchases of material ~ Closing stock of material. (iii) Average of opening and closing stock of material (iv) Purchases of material —Closing stock of material, == Ans. {(a) (di); (b) Gi); (e) (iv); (a) (iv); Ce) i DP EDs (@) (dvds CH) MAD); iG awings and designs (iv) Hire charges of specific plant, (i) 7 8,000 (iv) % 5,120, 5G) a)EPTS, CLASSIFICATION AND COs; 5 ic ;—ANALYSIS, CON’ 2-34 et! a Ans. % Ans. 10. i. 12. 13, 4. 15. 16. a7. Ans, inble and variable costs : a 4, semi-variable an y the flowing costa itm Dae Ui) Waver and Gag; (iv) Salary of Works Map, ding (i) Power tage of sales; (vi) Showroom expenses, ieaion to salesman as a percent SS ah peeps (iv); Varinble (Fy (if, (oh Sem parlable 1 Gd Covad the help of examples ii) Cost Centre ; (i) Profit Centre ; (i) Sy ) Imputed Cost. (vii) Cost Unit. a Class (¢) Depreciation of Bui Explain the elements of cost with (a) Define and explain the terms : (i) Cost (t Cost ; (0) Cost Object ; to) Cost Driver ; (v# () Explain the terms cost, expense and loss. What do you understand by the term cost centre centres ? (B.Com.Hons. Delhi, 2008 ? What are the different types of cost oR, Define cast centre and state its types. (CA—IPC May, 2013) (a) Define cost classification (é) Diseuss classification based on variability and controllability. Distinguish between direct cost and indirect. cost. Define : (i) fixed cost ; (ii) variable cost ; and (iii) semi-variable cost. (a) Define period costs. Describe three different purposes for computing period costs. (4) Distinguish between product cost and period cost. (a) Explain what do you understand by chargeable expenses and state its treatment in cost accounts, (b} Give examples of direct expenses, State, with reasons, whether the following statements are correct or incorrect : (i) Notional costs and imputed costs mean the same thing. lai) Conversion costs and overheads are interchangeable terms. [Correct (é) ; Incorrect (ii)] “Opportunity cost the measure of the benefit of opportunity forgone”. Comment. Explain opportunity cost and out of pocket cost, Explain : () Controllable costs and non-controllable costs with Illustrations, (di) Cost Unit and Cost Centre, (CA—May 2017) Explain the meaning of following (é) Conversion Cost Gi) § : : Replacement cost of) Inputed vone’st (#) Opportunity Cost (iv) Shut down cost (t) Give the names of five cust centres in an i i fa te consideration for selection of a suitable oust, eee ene oe oe ara Define explicit costs. How are they different from implicit costs ? OR Explain explicit costs and implicit coste, What are imputed costs and common costs? 30/000 tate Closes ene good is 183,000 units, the produetion during the pert & every unit oold, then find out the total selling cane mits and if 0.5 per unit is SPE ( 1,40,000) mcnaes.COST—ANALYSIS, CONCEPTS, CLASSIFICATION AND GOST SHEET 18. Ifthe prime cost is & 4,00,000 and factor per cent of the factory overheads, what would be [2 7,20,000] : A firm has purchased a plant to manufacture 2-35 ¥ cost is € 6,40,000 and office overheads are 334 the cost of production ? Bile new product. The cost data are given eet Meee, 3 oe units; Material 4 per unit; Direct lavour— 0.6 per unit: —) facturing —t 2. a ‘i 5 expenses 15 of ealeg ins —* 24,000 pia; Administrative expenses—z 28,800 p.ar Selling Calculate the selling price tis aa EAS he selling price if profit per unit is ® 1.50. Assume whatever is produced is sold 20. Z Lid. produced 500 units of a product and the following costs were incurred : Material consumed—& Factory overheads—? 26,000; Offi sads— Gece sn onn: ice overheads—% 20,000; Selling and ,000; Wages paid—t 30,000; Chargeable expenses—? 2,000; jatribution 450 units were sold at cost plus 25 per cent on sales. Prepare a statement showing the (i) eae cost; (ii) Factory cost; (i#i) Cost of production; (iv) Cost of goods sold; (v) Profit; and (vi) Sales. Ans. [(2) © 52,0005 (ii) 7 78,000; (iii) F 98,000; (iv) F 88,200; (v) % 32,733; (vé) ¢ 1,30,933) 21. A,B,C and D are products produced by a company. Power is supplied to these produc! units from the in-house power generator. Cost of power generated for a certain period w: = 1,00,000, Additionally, the committed cost of standby power shop utiliti The sales value of A, B, C and D were equal and the units produced wer: 2:3. What amount of power cost will be part of cost of production for each of A, B, C ai jes was © 25,004 the ratio 1 D? One unit of power is consumed per unit of production of A, B, C and D. Ans. [¥ 125,000 in the ratio of 1:2:2:3] 22. Products X, ¥ and Z are manufactured by XYZ Company. Special permit charges of = 12,00,000 are paid for X and renewable every 4 years, How will the permit charges be treated in Cost Accounts ? Ans. [Direct Expenses amortised at ¢ 3,00,000 per annum] 23. The variable and semi variable costs of producing 50,000 units are * 6 per unit and * 12 per unit respectively. If at 20,000 units, these total costs add up to ¢ 4,80,000 what is the amount of fixed cost component of the semi variable cost ? Ans. [7 2,00,000] 24. Prime Cost = %12,50,000; Works Cost = ¥ 20,00,000 and office overheads are 30% of factory overheads, What is the Cost of Production ? Ans. [% 22,25,000] ING ANSWER TYPE 1, Tabulate the elements of cost showing the usual items of expenditure pertaining to each. 2. Bring out clearly the significance of each of following cost classifications and explain the meaning of the terms used therein (@ Direct and Indirect ; (ii) Variable 3. (a) (6) () (d) 4. Write notes on : (®) Conversion cost ; (é) Sun ; Li) 0 centre ; (vi) Cost unit ; (vié) Differential cost and Fixed ; (éii) Controllable and Uncontrollable, “The classification of costs as controllable and non-controllable depends upon & point of reference.” Explain. : nee “Direct costs and controllable costs are not necessarily the same”. Comment. — “ term that denotes different costs allocated to products for caret samen generale tree purposes. Explain the composition of Product cost, for the ao of external financial reporting along with its rationale, Direct costs and variable costs are not necessarily the same.” Comment « Gai) Opportunity cost ; iv) Imputed cost ; (0 Cost Sunk cost et tilt) Out of pocket cost (ix) Operating costs.re 1s, 1 At. COST—ANALYSIS, CONCEPTS, CLASSIFICATION AND Cosy SHey 1 Range j (si!) Product costs; ri) Engineered o, ty () Decision making cost (i) Re (aie) Cost Unit Distinguish between ! sosts ; Gi) Cost centre and cost Unit ; (ii) Product Cra ia nt Ot Od eet tg Syroteaniey costs and imputed costs ; (vif) Sunk eosts and incremental cost inlterenial cost aun reseual costs 3 (2) Absolute costs and alternative oats) Ure J postponable costs ; (ii) Prime cost and conversion cost 5 (+?) Out of pocket cost art Sooorvamity cost ; cali) Variable eost and direet cost ; (xiv) Estimated cost and standart eee) Varuible cost and eost variance ; (xvé) Conversion cost and added value, rug ’Xpstod cost and unexpired east, (cviif) Controllable Costs and Uncontrollable Costs. EXplictt Costs and implieit Costs, (xx) Cost Object and Cost Driver. tex!) Period Cost avg : tv) Imputed Cost and Out of Pocket Cost. (xi) Cost Centre and Discretionary Cost Department. ie) What is a Cost Centre ? (6) Give the names of five cost centres with name of the industry in which they normally occur. (c) Differentiate between a cost and profit centre {@) “Notional costs and imputed costs mean the same thing”, Comment, (O) What are ‘Imputed Costs’ and ‘Common Costs’ ? Do you agree with the view that cost should be presented in different ways for different purposes ? Support your view with suitable illustrations. OR “the term cost must be qualified according to its context”, (2) Discuss the classification of costs according to time factor of cost determination. XO) Describe in brief three major elements of cost. Describe the various costs used in decision-making and explain their characteristics. OR of costs for the purpose of managerial decision making. Deseribe briefly the principal aims of classifying the costs. Distinguish between ‘Period Cost’ and ‘Product Cost’, Why is this distinction considered important? {e) Define : () Direct expenditure ; and (ii) Indirect expenditure and of cost in each. {) You are required to state why it is important to distinguish between ‘fixed’ and ‘variable! expenses in Cost Accounting, Give three examples of each type of expenses ‘Explain fully the concept of ‘Cost’, Distinguish between ‘Direct Cost’ and ‘Indirect Cost” oR An item stat {hat is direct for one business, may be mye for another ae pate. may be classified in 4 variety of waye according to their nature and the informatio needs of management”, Explain and dis cus: fi ar, amples o classifications required for diferent purpose this statement giving examp! What is a cost centre and how does it differ from a dey OR ter serve ? Aro cost contres and cost units related 00 eae Explain the classific partment of a factory ? What purposes does cost een other ? It'yes, how ? Explain the nature of product enterprise? " ' OR Explain the meaning and formulation of Ph ct Cost fe ‘of incom® measurement and determination af financial poamtiar’ C8 for the purpose of I position,