COST AND MANAGEMENT

ACCOUNTING

NMIMS GLOBAL ACCESS

INTERNAL ASSIGNMENT
Answer 1
Standard cost
Standard cost is defined in the CIMA Official Terminology as “'the planned unit cost of
the product, component or service produced in a period. The standard cost may be
determined on a number of bases. The main use of standard costs is in performance
measurement, control, stock valuation and in the establishment of selling prices.”
From the above definition Standard costs can be said as
• Planned cost
• Determined on a base or number of bases.

Standard Costing is Needed because

• Prediction of future cost for decision making
• Provide target to be achieved
• Used in budgeting and performance evaluation
• Interim profit measurement and inventory valuation

TYPES OF STANDARDS
• Ideal Standards : These represent the level of performance attainable when
prices for material and labour are most favourable
• Normal Standard : These are standards that may be achieved under normal
operating conditions.
• Basic or Bogey Standards: These standards are used only when they are
likely to remain constant or unaltered over a long period.
• Current Standards: These standards reflect the management’s anticipation of
what actual costs will be for the current period.

Advantages of standard cost

• Standard Costing system establishes yard-sticks against which the efficiency
of actual performances is measured
• Standard Costing is an exercise in planning - it can be very easily fitted into and
used for budgetary planning
• Standard costing can be used to predict costs. Although actual cost may vary
from day to day, standard costs will remain stable over a period of time and,
where demand for a product is elastic, this information can be used as a basis
for fixing the selling price
• It serves as a basis for inventory valuation. Standard costs are used for
inventory valuation. A further advantage of this procedure is that material stock
can be recorded in terms of quantities only

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Limitations of Standard cost
• Standard costing presupposes a pre-determined combination of products both
in variety and quantity. The mixture of materials used to manufacture the
products may vary in the long run but since standard costs are set normally for
a short period, such changes can be taken care of by revision of standards.
• Due to the play of random factors, variances cannot sometimes be properly
explained, and it is difficult to distinguish between controllable and
noncontrollable expenses
• Production and pricing policies may be formulated in advance before production
starts. This helps in prompt decision-making
• Lack of interest in standard costing on the part of the management makes the
system practically ineffective. This limitation, of course, applies equally in the
case of any other system which the management does not accept
wholeheartedly
Variance Analysis
Variance Analysis is nothing but the differences between Standard Cost and Actual
Cost
When Standard Costing is adopted, the standards are set for all the costs, revenue
and profit, and if the difference in case of cost is more than the standard we call it
adverse variance, symbolized (A) and if the difference is less than the standard, we
call it favourable variance, symbolized (F)
Types of variances
• Controllable and un-controllable variances
• Favourable and Adverse variance

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 Total cost
variance

Material cost
variance

Material price Material usage

variance variance
`

Material price variance

Material price variance can also be calculated taking material used as actual quantity
instead of material purchased. This method is also correct but does not serve the
purpose of variance computation. Material price variance may arise from variety of
reasons out of which some may be controllable and some may be beyond the control
of the purchase department. If price variance arises due to inefficiency of purchase
department or any other reason within the control of the company, then it is very
important to report variance as early as possible and this can be done by taking
purchase quantity as actual quantity for price variance computation.
It measures variance arises in the material cost due to difference in actual material
purchase price from standard material price. Mathematically it is written as:
Material Price Variance = [Standard Cost of Actual Quantity – Actual Cost]
Or
Actual Quantity (AQ) × {Std. Price (SP) – Actual Price(A)}

Or
[(SP × AQ) – (AP × AQ)]

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Material Usage Variance
It measures variance in material cost due to usage/ consumption of materials. It is
computed as below
Material Usage Variance = [Standard Cost of Standard Quantity for Actual
Production – Standard Cost of Actual Quantity]
Or
Standard Price (SP)× {Standard Quantity (SQ) - Actual Quantity (AQ)}
Or
[(SQ × SP) – (AQ × SP)]
According to given case

Standard quantity required of materials item 0009 1 Kg

Standard price per kg (SP) Rs 10

Product in a month appliances 100 Kgs
Actual quantity of materials used (AQ) 98 Kgs
Actual price paid per Kg (AP) Rs 11

Material usage variance

= Standard Price (SP) {Standard Quantity (SQ) - Actual Quantity (AQ)}

= 10 Rs {(100 kgs × 1 kgs) – 98 kgs}
= 10 Rs ( 2 kgs )
Material usage variance = Rs 20 (F)

Material price variance

= Actual Quantity (AQ) × {Std. Price (SP) – Actual Price(A)}

= 98 kgs ( Rs 10 – Rs 11 )
Material price variance = Rs 98 (A)

Conclusion
NO, we are not agreed with the calculation i.e.
Material usage variance = 2 kgs @ Rs 11 = Rs 22 and
Material price variance = 100 kgs * Rs 1 = Rs 100
As per our calculations The material usage variance should be Rs 20 ( F) and Material
price variance should be Rs 98 (A)

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Answer 2
Cost sheet
A cost sheet is a statement that shows the various components of total cost for a
product and shows previous data for comparison. You can deduce the ideal selling
price of a product based on the cost sheet.
A cost sheet document can be prepared either by using historical cost or by referring
to estimated costs. A historical cost sheet is prepared based on the actual cost
incurred for a product. An estimated cost sheet, on the other hand, is prepared based
on estimated cost just before the production begins.
Elements of total cost
Components of total cost are constituted mainly of prime cost, factory cost, office cost
and cost of sales. Let us take a detailed look at each of these elements:

Prime cost: This comprises direct material, direct wages, and direct expenses. It is
also called basic cost, first cost, or flat cost. It can be defined as an aggregate of the
price of the material consumed, the wages involved in production, and the direct
expenses.
Prime cost = Direct material + Direct wages + Direct expenses
Direct material cost usually refers to the cost of raw materials used or consumed during
a given period. To calculate the amount of raw material actually consumed during a
given period, you add the opening stock and the amount of material purchased, and
deduct the closing stock. Here is the formula for material consumed:
Material consumed = Material purchased + Opening stock of material – Closing
stock of material
Factory cost: This is made up of prime cost plus factory overhead, which includes
indirect wages, indirect material and indirect expenses. Factory cost is also known as
works cost, production cost, or manufacturing cost.
Factory cost = Prime cost + Factory overhead
Office cost: This is also called administration cost or total cost of production. Office
cost is equal to factory cost plus office and administration overhead.
Total cost or cost of sales: This is the sum of the total cost of production and the
total of selling and distribution overhead.

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According to question
Cost sheet
For ABC LTD for 31 st march 2022

Particulars Total (RS) Cost Per unit

Raw materials consumed 2,80,000 7
Direct wages

Skilled workers wages 3,60,000 9

unskilled workers wages 2,40,000 6

Total Direct wages 6,00,000 15

Direct Expenses:

Royalty on raw material consumed 1,20,000 3

Prime cost 10,00,000 25

Add: Works overheads:

2,00,000
Works overheads (8*25000) 5

Works/Factory cost 1,20,0000 30

4,00,000
Office overheads 10

Cost of production 1,60,0000 40

1,60,000
Less: Closing stock 40

Cost of goods sold 14,40,000 40

1,44,000
Sales commission 4

Total cost of sales 15,84,000 44

Add: Profit 5,76,000 16

Sales value 21,60,000 60

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Answer 3(A)

Inventory Control management

The Chartered Institute of Management Accountants (CIMA) defines Inventory Control
as “The function of ensuring that sufficient goods are retained in stock to meet all
requirements without carrying unnecessarily large stocks.”

The objective of inventory control is to make a balance between sufficient stock and
over-stock. The stock maintained should be sufficient to meet the production
requirements so that uninterrupted production flow can be maintained. Insufficient
stock not only pause the production but also cause a loss of revenue and goodwill. On
the other hand, inventory requires some funds for purchase, storage, maintenance of
materials with a risk of obsolescence, pilferage etc. The main objective of inventory
control is to maintain a trade-off between stock-out and over-stocking. The
management may employ various methods of inventory control to have a balance.
Management may adopt the following basis for inventory control

Inventory
control

By setting on the basis of

using ratio physical
Quantitative Relative
analysis control
levels classifications

Inventory Control By Setting Quantitative Levels

Re-order Stock Level (ROL) This level lies between minimum and the maximum
levels in such a way that before the material ordered is received into the stores, there
is sufficient quantity in hand to cover both normal and abnormal consumption
situations. In other words, it is the level at which fresh order should be placed for
replenishment of stock.

ROL = Maximum Consumption × Maximum Re-order Period

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Maximum Consumption = The maximum rate of material consumption in production
activity
Maximum Re-order period = The maximum time to get order from supplier to the stores
ROL = Minimum Stock Level + (Average Rate of Consumption × Average Reorder
period)
Minimum Stock Level = Minimum Stock level that must be maintained all the time.
Average Rate of Consumption = Average rate of material consumption in production
activity. It is also known as normal consumption/ usage
Average Re-order period = Average time to get an order from supplier to the stores. It
is also known as normal period.

Re-Order Quantity: Re-order quantity is the quantity of materials for which purchase
requisition is made by the store department. While setting the quantity to be re-
ordered, consideration is given to the maintenance of minimum level of stock, reorder
level, minimum delivery time and the most important the cost. Hence, the quantity
should be where, the total of carrying cost and ordering cost is at minimum. For this
purpose, an economic order quantity should be calculated.
Economic Order Quantity (EOQ): The size of an order for which total of ordering and
carrying cost are minimum.
Ordering Cost: Ordering costs are the costs which are associated with the purchase
or order of materials such as cost to invite quotations, documentation works like
preparation of purchase orders, employee cost directly attributable to the procurement
of material, transportation and inspection cost etc.
Carrying Cost: Carrying costs are the costs for holding/ carrying of inventories in store
such as the cost of fund invested in inventories, cost of storage, insurance cost,
obsolescence etc.
The Economic Order Quantity (EOQ) is calculated as below:

√2 ×Annual Requirement (A)×Cost per order(O)

EOQ =
√Carrying Costperunitperannum (C)

Annual Requirement (A)- It represents demand for raw material or Input for a year.
Cost per Order (O) - It represents cost of placing an order for purchase.
Carrying Cost (C) – It represents cost of carrying average inventory on annual basis.

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Assumptions underlying E.O.Q.
The calculation of economic order of material to be purchased is subject to the
following assumptions:
(i) Ordering cost per order and carrying cost per unit per annum are known and
they are fixed.
(ii) Anticipated usage of material in units is known.
(iii) Cost per unit of the material is constant and is known as well.
(iv) The quantity of material ordered is received immediately i.e. the lead time
Is zero.

Minimum Stock Level: It is lowest level of material stock, which must be maintained
in hand at all times, so that there is no stoppage of production due to non-availability
of inventory. It is calculated as below
Minimum Stock Level = Re-order Stock Level - (Average Consumption Rate ×
Average Re-order Period)
Maximum Stock Level: It is the highest level of quantity for any material which can
be held in stock at any time. Any quantity beyond this level cause extra amount of
expenditure due to engagement of fund, cost of storage, obsolescence etc.

Maximum Stock Level = Re-order Level + Re-order Quantity - (Minimum

Consumption Rate × Minimum Re-order Period)
Average Inventory Level: This is the quantity of material that is normally held in stock
over a period. It is also known as normal stock level.
It can be calculated as below:

Average Stock Level = Minimum Stock Level + 1/2 Re-order Quantity

IMPLICATIONS
The goal of the EOQ formula is to identify the optimal number of product units to order.
If achieved, a company can minimize its costs for buying, delivering, and storing units.
The EOQ formula can be modified to determine different production levels or order
intervals, and corporations with large supply chains and high variable costs use an
algorithm in their computer software to determine EOQ.
EOQ is an important cash flow tool. The formula can help a company control the
amount of cash tied up in the inventory balance. For many companies, inventory is its
largest asset other than its human resources, and these businesses must carry
sufficient inventory to meet the needs of customers. If EOQ can help minimize the
level of inventory, the cash savings can be used for some other business purpose or
investment.

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The EOQ formula determines a company's inventory reorder point. When inventory
falls to a certain level, the EOQ formula, if applied to business processes, triggers the
need to place an order for more units. By determining a reorder point, the business
avoids running out of inventory and can continue to fill customer orders. If the company
runs out of inventory, there is a shortage cost, which is the revenue lost because the
company has insufficient inventory to fill an order. An inventory shortage may also
mean the company loses the customer or the client will order less in the future.

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Answer 3 (B)
(A) Economical number of unit to order
√2 ×Annual Requirement (A)×Cost per order(O)
EOQ =
√Carrying Costperunitperannum (C)

A = Units consumed during year = 48000 units

O = Ordering cost per order = Rs 9
C = Inventory carrying cost per unit per annum. = 15% of Rs 4
EOQ = √(2*48000*9)/√(4*0.15)
= √1440000 = 1200 units

(B) Orders should be placed in a year

Total consumption of materials per annum
No. of orders to be placed in a year = 𝐸𝑂𝑄

48000
= 1200

= 40 orders in a year
(C) Orders to be placed
365 𝑑𝑎𝑦𝑠
=
𝑡𝑜𝑡𝑎𝑙 𝑛𝑢𝑚𝑏𝑒𝑟𝑠 𝑜𝑓 𝑜𝑟𝑑𝑒𝑟𝑠 𝑖𝑛 𝑎 𝑦𝑒𝑎𝑟

365 𝑑𝑎𝑦𝑠
= 40 𝑜𝑟𝑑𝑒𝑟𝑠

= 9.125 days i.e. 9 days approx.

Order should be placed after 9 days

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