Management Accounting

Problems
1. P/V Ratio = Contribution/Sales

P/V Ratio (in %) =

Contribution
X 100
Sales

Sales = Contribution/P.V Ratio

Contribution = Sales x P.V Ratio

2. When sales and profit of 2 years are given

Change in profits
X100
PV Ratio = Change in sales
Q) Calculate P.V Ratio of the following

Sales – Rs.6,00,000

Variable Cost – Rs.4,50,000

Fixed Cost – Rs.1,00,000

 Answer:
Sales 600000
Less: Variable Cost 450000
Contribution 150000
Less: Fixed Cost 100000

Profit 50000

P/V Ratio = Contribution/Sales x 100

= 150000/600000 x 100

= 25%
Q) Contribution of a concern is Rs.400000 and its
P/V ratio is 50%. Find out its sales.

Sales = Contribution/P.V Ratio

= 400000/50 %
= Rs.800000
Q) Sales during a period is Rs.10,00,000. Its P/V ratio is
40% and profit is Rs.150000.
Find out contribution and also fixed costs.

Contribution = Sales x P.V Ratio

= 10,00,000 x 40%
= Rs.400000
Fixed Cost = Contribution – Profit
= 4,00,000 – 1,50,000
= Rs.2,50,000
Q)
• Contribution = Sales- Variable Cost

• PV Ratio = Contribution or F+P

Sales Sales

Break Even Point (BEP) sales = Fixed Cost*

PV Ratio
*Here Contribution = fixed cost
No profit no loss, Sales= FC+VC

Margin of safety =Present Sales- Break Even Sales

Q)
Solution:
 Break Even Sales
Break Even Sales (In Value)

Fixed Cost/PV Ratio

( ie. Fixed Cost/Contribution) Sales

Break Even Units (Volume)

Fixed Cost/ Contribution per Unit

(ie.Fixed Cost/SP Per unit- VC Per Unit)

OR
Break Even Sales/SP Per Unit
Q)
 Margin of Safety
• Excess of sales over Break-Even Sales
• Range at which concern is safe from the point of view of profit
• Length of margin of safety measures the degree of profitability of an organisation
• Higher margin refers to more profitability, and low margin indicates low profitability

Margin of Safety = Sales – Break Even Sales

Or
Margin of Safety = Profit/P.V Ratio

Margin of Safety Ratio = Margin of Safety x 100

Sales
Q)
Q)
Q)
 Qn.
A company has annual fixed cost of 1,68,00,000.
In the year 2013-14, sales amounted to 6,00,00,000 and 4,50,00,000 in the preceding
year 2012-13.
The profit in the year 2013-14 is 42,00,00 more than that in 2012-13. On the basis of
the above information, answer the following:
(i) What is the break-even level of sales of the company?
(ii) Determine profit/loss on the forecast of a sales volume of 80,00,00,000.
(i) P/V Ratio = Change in Profit
Change in Sales
= 42,00,000 X100
600,00,000 450,00,000
= 28%

Break Even Sales = P/V Ratio

Fixed Costs
1,68,00,000
= 28%
= 600,00,000

(ii) Contribution for Sales Volume of 800,00,000 = P/V Ratio X Sales

= 28% X 800,00,000
= 224,00,000

Profits = Contribution – Fixed costs

= 224,00,000 – 168,00,000
= 56,00,000
`
Q)
 Direct Materials
Costs of raw materials or parts that go directly into
producing products

Example, Company A is a toy manufacturer, an example of

direct material cost would be the plastic used to make the
toys
 Direct Labour
Wages, benefits and insurance that are paid to employees
who are directly involved in producing the goods

Example, workers on the assembly line or those who use

the machinery to make the products
Manufacturing Overhead
Direct factory related costs that are incurred when
producing a product, such as the cost of machinery and the
cost to operate the machinery

Also include some indirect costs such as:

- Indirect materials – used in production process but not
directly traceable to product
Eg – glue, oil, tape etc

- Indirect labour – Those who are not directly involved in

production of products
Eg – security guards, supervisors etc
Establishment of Standards

Standard costs are established for each elements of cost

separately. Generally, elements of cost is grouped as
material, labour and overhead
 1. Direct Materials

Standard quantity of
materials
Standard Direct Material
Cost for each product
should be established
which involves:
Standard price per unit
of materials
 2. Direct Labour

Standard Time
Standard Direct
Labour Cost should be
established which
involves:
Standard Rate
 3. Overheads
Standard overhead rate is
Overheads are classified into
fixed for these on the basis
fixed, variable and semi-
of past records and future
variable overheads
trend of prices

Involves the following steps:

- Determination of Standard
It will be calculated per unit
Overhead Costs
or per hour
- Determination of the
estimates of production
- Direct Expenses

Standards based on past performance records subject

to anticipatory changes

- Standard Hour

Hypothetical hour which measures the amount of

work that should be performed in one hour
 Variance Analysis

When the actual cost differs from the standard cost, it is called variance. If the actual cost
is less than the standard cost or the actual profit is higher than the standard profit, it is

called favourable variance. On the contrary, if the actual cost is higher than the
standard cost or profit is low, then it is called adverse variance
 Variance Analysis - Importance

- Helps managers in making efficient, detailed and forward looking

budgetary decisions

- Acts as a control mechanism

- Facilitates assigning responsibility and engages control mechanism on

departments
Each element of cost and sales requires
variance analysis
Variance

Direct Material Direct Labour Overhead

Sales Variance
Variance Variance Variance
 Material Cost Variance (MCV)
The difference between standard direct material cost of actual production and actual cost of
direct material
MCV = MPV +MUV
Material Price Variance (MPV)
Portion of Material Cost variance due to difference between the
Standard Price and Actual Price
MPV = (SP - AP) AQ
Material Usage Variance (MUV)
Portion of Material Cost variance due to difference between the
Standard Quantity for production and Actual quantity used.
MUV = (SQ - AQ) SP
 Q.1

• Calculate MCV,MUV and MPV from the following data

Material Standard Standard Standad Actual Actual SQ-AQ SP-AP
Qty ** Price Cost QTY Price

A 72 10 710 72 12 0 -2

B 144 1 144 108 1 36 0

C 108 5 540 126 4 -18 1

** Output
36 units

MPV of A,B and C = (SP - AP) AQ

= (-2 X 72 )+ (0 X 108) +(1 X 126)
= -144+0+126 = 18 (Adverse)
MUV of A,B and C = (SQ - AQ) SP
= (0 X 10) + (36 X 1) +(-18X 5)
= 54 (Adverse)
MCV = MPV +MUV = 18+ 54
= 72 (Adverse)
Q. For producing one unit of a product, the materials standard is:
Material X : 6 kg. @ 8 per kg., and
Material Y : 4 kg. @ 10 per kg.
In a week, 1,000 units were produced the actual consumption of
materials was:
Material X : 5,900 kg. @ 9 kg., and
Material Y : 4,800 kg. @ 9.50 per kg.
Compute the various variances
Material Standard Qty Standard Standad Cost Actual QTY Actual SQ-AQ SP-AP
** Price Price

X 6000 8 48000 5900 9 100 -1

Y 4000 10 40000 4800 9.50 -800 .50

** Output
1000 units

MPV of A and B = (SP - AP) AQ

= (1 X 5900)+ ( .50X4800 )
=5900+2400 = 3500( Adverse)
MUV of A and B = (SQ - AQ) SP
= ( 100X 8) + ( -800X 10)
= 800 – 8000 = 7200 (Advrse)
MCV = MPV +MUV = 10,700 (Adverse)
Standard cost of materials of 1,000 units:
`
Material X: 6,000 kg. @ 8 48,000
Material Y: 4,000 kg. @ 10 40,000
Total 88,000
Actual cost: Material X 5,900 kg. @ 9 53,100
Material Y 4,800 kg. @ 9.50 45,600
Total 98,700
Total materials cost variance 10,700 (A)
Analysis
Material Price Variance: Actual Quantity (Standard Price - Actual Price)
X = 5900 (8 - 9) = 5,900 (A)
Y = 4800 ( 10 - 9.50) = 2,400 (F)
3,500 (A)
Material Usage Variance: Standard Price (Standard Quantity - Actual Quantity)
X = `8 (6,000 - 5,900) = ` 800 (F)
Y = `10 (4,000 - 4,800) = `8,000 (A)
7,200 (Adverse)
Material Cost Variance = Materials price variance + Material Usage Variance
= 3500 (A) + 7200 (A) =10,700 (A)
 Fixed Budget/Static Budget

Sometimes known as static budget is one which remains

unchanged irrespective of changes in volume of output or
level of activity

This budget is drawn for one level of activity and one set of
conditions on the assumption that forecast of a business
activity will prove correct

Does not take into consideration any change in expenditure

arising out of changes in the level of activity
Fixed Budgets are not ideal because of the
following:
Wholly unsuitable for long period because of its rigidity

Fixed budgets are unsuitable where labour costs and other factors are constantly
changing

Cannot be used where short run problems of co-ordination of activities of different

sections are to be solved
Q)
Flexible Budget/Sliding Scale Budget

Budget prepared for different levels of activities so as to

facilitate determination of the budgeted cost at any level of
activity

Also known as ‘Variable Budget’ or ‘Sliding Scale Budget’

Comparison of actual performance with budget is facilitated

Q)
 Fixed Budget V/S Flexible Budget
Fixed
1. Meaning Remains the same
irrespective of the level of
output
2. Classification of Cost Not classified according to
their nature
3. Nature Static nature
4. Assumption Assumes that conditions
will remain constant
5. Cost Ascertainment Under changed
at different levels circumstances cost cannot
be ascertained
Flexible
Varies in accordance with the
level of output
Classified according to their
nature; fixed, variable &
semi-variable
Dynamic nature
This budget is changed if level
of activity varies
Costs can be easily
ascertained under different
levels of activities
 Fixed Budget V/S Flexible Budget
Fixed
6. Level of activity Prepared for only single
level of activity
7. Use It is of limited use in case
volume of output changes
from budgeted
8. Variance Analysis It does not give useful
information as all costs are
related to one level of
activity
9. Comparison If level of activity changes,
comparison not possible
10. Forecasting It is difficult to forecast
accurately the results
Flexible
for different levels of activity
It is more useful for cost
control and performance
evaluation
Gives useful information as
the cost is analysed according
to the behaviour
Comparison between
budgeted and actual figures
possible
Clearly shows impact of
various expenses on the
operational aspect of the
business
 Performance Budgeting

Process of analysing, identifying and evaluating the performance of the organisation in

the context of both specific as well as overall objectives of the organisation

Pre-suppose the crystal clarity of organisational objectives in general and short term
business objectives as stipulated in the budget in particular

Provides a definite direction to each employee and also a control mechanism to higher
management
Objectives of Performance Budgeting
Helps to integrate the physical and financial aspects of each
activity and programme

Helps to introduce and improve the budgeting at various

levels

Helps to facilitate performance audit and make it more

effective

Helps to compare the compare the performance

Helps in cost control and cost reduction

Important Elements of Performance Budgeting

• Sets the framework for the specification of objectives for individual activities and projects

• Appropriate classification of activities to integrate physical and financial aspects of each activity
and programme

• Fixation of standards

• Performance of different activities in financial terms will be revalued by good accounting system

• Decentralized style of management is the essence of performance budgeting

• Effective reporting system is essential for performance budgeting

6
 Cash (Financial) Budget

Estimate of receipts and disbursements during a future period of time. It is based on

cash forecasts or estimates.

Gives information as to what funds would be available at a particular time and whether
the funds available would meet the requirements of the time

Cash budget should be co-ordinated with other activities of the business, functional
budgets may be adjusted according to the cash budget
 Importance of Cash Budget

Safe working Proper utilisation

Ensuring liquidity
capital position of cash

Conveniently
Investment of Planning capital
adjusting other
surplus fund expenditure
financial budgets
 Methods of
preparing Cash
Budgets

Receipts and
Balance Sheet Profit Forecast
Payments
Forecast Method Method
Methods
 1. Receipts and Payments Method

• Applicable for short-term budgeting

• Forecasts of cash receipts and payments are made on the basis of
functional budgets
• All the probable receipts are added to the opening balance of cash
and the probable payments of the period are deducted, thus
forecasting a balance of cash at the end of the period
Proforma
Q)
Particulars April May June

Opening Balance

Receipts

………… xxx

………… . Xxx
Total xxxx
Payments

;;;;;;;;;;;; xxx

;;;;;;;;;;;; xxx

. Total xxxx

Closing Balance xx
Q)
Q)
 2. Balance sheet Forecast Method
• Used for long term or annual forecasts

• Under this method, all anticipated changes in the

balance sheet items are either added to the opening

balance of cash or deducted from it
 Proforma
Opening Balance of cash xxx
Add: Reduction in assets (xxx)
Increase in liabilities xxx xxx
xxx
Less: Increase in assets xxx
Reduction in liabilities (xxx) xxx

xxx
 3. Profit Forecast Method
• Useful for long term forecast of cash and is based on the assumption
that cash balance would increase by the amount of profit

• For this purpose, the amount of net profit and the non cash items of
expenses like depreciation, provisions and reserves, accrued expenses
etc. are added and the items like dividends, capital payments, increase

in stock and debtors etc are deducted to arrive at closing cash balance
 Budgetary Control Ratios
• Under the system of budgetary control, the actual
performances are compared with budgeted performances so
1 as to determine deviations or variances

• The deviations or variances may be favourable or

unfavourable and may be expressed in terms of absolute
2 figures or in terms of ratios

• The ratios in terms of which the deviations or variances are

expressed are known as Control Ratios
3
 Types of
Control Ratios

Capacity Activity Efficiency

Ratio Ratio Ratio
 • Fund Flow Statement Consist of

1. Statement of Changes in Working Capital*

*Difference Between Current Assets and

Current Liabilities in two balance sheet dates

2. Statement of Sources and Application of Funds**

**Sources from which working capital obtained

and uses of working capital
Statement Form
Calculation of Fund from Operation

• Closing Balance of P&L or Retained Earnings ***

(In the Balance Sheet)

Add Non Fund and Non operating items Debited in P&L

Depreciation of Fixed Assets
Amortisation of Intangible assets
Appreciation of Retained Earnings
Loss on Sale of Fixed Assets
Dividend, Provision for Tax ***
Any other non fund item debited

Less Non Fund and Non Operating items Credited in P&L

Appreciation of Fixed Assets
Profit on Sale of Fixed Assets
Dividend received ***
Any other non fund item credited
Adjust opening balance of P&L ***