Accounting Grade 12 revision and final exam preparation

MANUFACTURING GRADE 12
DBE – PAPER 2 IEB PAPER 1

INTRODUCTION
In Grade 11, the focus was on preparing the General Ledger Accounts for a Manufacturing
concern. In Grade 12, you need to be able to prepare the financial statements specifically
the Production Cost Statement and the Statement of Comprehensive Income. You will also
need to analyse the costings and calculate and comment on the Break-Even of the
Manufacturing business.

TERMINOLOGY

FIXED COSTS
These costs are constant and are not dependant on the number items produced e.g. rent
expense and insurance.
Factory Overheads + Administration Costs = Fixed Costs

VARIABLE COSTS
These costs increase or decrease dependant on how many units are produced e.g. direct
materials and direct labour.
Direct Material + Direct Labour + Selling Distribution = Variable Costs

DIRECT COSTS/PRIME COSTS

DIRECT MATERIALS

These are the materials used to product the items and are issued to the factory for
production.
DIRECT LABOUR

The employees who are directly involved in making the product are the factory workers.
These costs would also include any contributions to pension or medical aid.

FACTORY OVERHEADS
Factory overheads are the costs of running the factory e.g. depreciation of machinery,
water and electricity, maintenance costs etc.

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SELLING AND DISTRIBUTION COSTS

These are the costs of getting the product to the market and selling them to customers e.g.
advertising, commission, bad debts.

ADMINISTRATION COSTS
Administration costs are to do with running the office e.g. depreciation on office
equipment, salary of the secretary, bank charges

TOTAL COST OF PRODUCTION

This is the total costs involved in producing the units for the year.

RAW MATERIALS
The materials purchased to be used in the production of the items being manufactured

WORK IN PROGRESS
Is the account which records the items that are in production and are incomplete.

FINISHED GOODS
The stock that has been produced and are ready for sale.

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PRODUCTION COST STATEMENT

Production Cost Statement for Summer Costumes Manufacturers for 28 February 2020
Prime Costs/Direct Costs 2 322 000
Direct Materials 1 1 780 000
Direct Labour 2 542 000
Factory Overheads 3 794 500
Total Manufacturing Costs 3 116 500
Work in Progress at the beginning of the year 242 500
3 359 000
Work in Progress at the end of the year (359 000)
Cost of Production of finished goods 3 000 000

STATEMENT OF COMPREHENSIVE INCOME

Statement of Comprehensive Income of Summer Costume Manufacturers

for 28 February 2020
Sales 4 500 000
Cost of Sales 6 (2 960 000)
Gross Profit 1 540 000
Other Costs (725 000)
Selling and Distribution 4 414 000
Administration Costs 5 311 000
Net Profit for the year 815 000

Notes to the Financial Statements

1. Direct Materials Costs

Opening stock of raw materials 410 000
Purchases 1 450 000
Carriage on purchases 45 000
1 905 000
Closing stock of raw materials (125 000)
Direct Materials issued to factory 1 780 000
2. Direct Materials Costs
Factory Wages 514 000
Pension Contribution 28 000
542 000

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3. Factory overhead costs

Indirect Materials (6 000+15 800 – 4 200) 17 600

Indirect Labour 454 000
Rent expense 165 400
Insurance 25 100
Depreciation on Machinery 74 000
Maintencance Costs 58 400
794 500
3. Selling and Distribution Costs
Depreciation on Vehicles 210 000
Commission expense 50 000
Advertising 140 000
Bad Debts 14 000
414 000
4. Administration Costs
Depreciation on Office Equipment 168 000
Salaries 75 000
Office: Rent 57 500
Insurance 10 500
311 000
5. Cost of Finished Goods Sold
Finished Goods at the beginning of the year 80 000
Cost of finished goods produced 3 000 000
3 080 000
Finished Goods at the end of the year (120 000)
Cost of Goods Sold 2 960 000

• In some cases you may need to work back to figures so it is important to see
connections. The cost of goods sold (cost of sales) can be calculated by using the
mark-up percentage and then working back to calculate the cost of finished goods
produced.

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MANUFACTURING ANALYSIS
Calculating the total cost per unit for the item being produced is important when
calculating the selling price.
We also need tight control over costs to ensure maximum profit. This especially applies to
variable costs where waste needs to be kept to a minimum. Fixed costs cannot be changed.
It is important to know the total cost per unit. However, it is important to break down each
cost per unit. This is so we can put in control measures and compare to previous years.
We can test the internal control measures are working.

MANUFACTURING RATIOS
UNIT COST OF PRODUCTION

How much it cost to produce one unit in the factory?

Total cost of production
Number of units produced
Compare to previous years, check if in line with inflation
DIRECT MATERIALS COST PER UNIT

Direct materials cost

Number of units produced
Compare to local, inflation, wastage
DIRECT LABOUR COST PER UNIT

Direct labour cost

Number of units produced
Look at overtime, productivity
FACTORY OVERHEADS PER UNIT

Factory overhead costs

Number of units produced
Compare to inflation and other specific costs

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VARIABLE COSTS PER UNIT

Direct Materials + Direct Labour + Selling Distribution

Number of units produced
FIXED COSTS PER UNIT

Factory Overheads + Administration

Number of units produced
BREAK-EVEN CALCULATION

Fixed Costs
Contribution

Calculates how many units need to be produced and sold in order to cover the fixed costs.
Profit will be 0. Anything sold over and above this point will be profit.
CONTRIBUTION

Selling price per unit – Variable Cost per unit

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ASSET MANAGEMENT – INVENTORY

DBE PAPER 1/2 IEB PAPER 1

INVENTORY SYSTEMS

PERPETUAL INVENTORY SYSTEM

• This is a system used to record all transactions relating to trading stock.
• It this system all purchases and costs related to the purchases and returns of stock
are recorded in an asset account called trading stock. Whenever stock is sold, its cost
price is immediately calculated and it is subtracted from the trading stock account.
• This system enables good stock control because it is easy to pick up loss due to theft
or damages using this system, because it is easy to calculate at any time exactly how
much stock there should be in the business.

ACCOUNTING FOR PERPETUAL INVENTORY

• Trading Stock is an asset
• When stock is purchased for cash or credit it is Debited to the Trading Stock Account
• When stock is sold for cash or credit it is Credited to the Trading Stock account and
Cost of Sales is Debited
• When stock is returned by customers it is Debited to the Trading Stock account and
Credited to the Cost of Sales account
• When stock is returned to the supplier it is Credited in the Trading Stock Account
• When stock is delivered the cost is Debited to the Trading Stock account.

TRADING STOCK ACCOUNT

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YEAR-END PROCEDURES - PERPETUAL INVENTORY

Sales and Cost of Sales are closed off to the Trading Account to calculate the Gross Profit for
the year.
SALES – COST OF SALES = GROSS PROFIT
Trading Account

PERIODIC INVENTORY SYSTEM

The cost of sales is calculated for every sale when using the perpetual inventory system. It is
not always feasible to do this for every business. It is dependent on the product that is
being sold. So for example - grocery stores, tuck shops, sweet shops etc. It is difficult to
calculate the Cost price of each item sold. These businesses will then use the Periodic
Inventory System.
• In this system the cost of goods sold is only calculated periodically, at the end of the
month or year-end.
• Cost of sales is calculated using the formula: opening stock + net purchases+ carriage
on purchases + customs duty- closing stock.
• At the end of a financial period a stock-take is done to determine the cost of goods
sold. It is assumed that if stock that was available for sale is no longer in the
business, it must have been sold. Some of this stock could have been stolen but it is
difficult to validate if this was the case.
• Using the intended mark-up and the achieved mark-up one can determine if theft
could have taken place.

ACCOUNTING FOR PERIODIC INVENTORY

• Stock is recorded in a new account called PURCHASES - this is an EXPENSE account.
• Delivery of stock to the business is recorded in a new account called CARRIAGE ON
PURCHASES which is regarded as an EXPENSE.
• Stock returned to customers decreases the PURCHASES account
• There is NO Cost of Sales account
• Donations will decrease the Purchases account.
• Stock take is done to calculate the Cost Price of goods sold
• New Accounts = Opening Stock (Expense) and Closing stock (Income)

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YEAR END PROCEDURES – PERIODIC INVENTORY

Cost of Sales under the periodic inventory is calculated by:
Opening stock + Purchases + Carriage on Purchases – Closing Stock

COMPARISON OF THE TWO SYSTEMS

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INVENTORY VALUATION

INTRODUCTION
At the end of the year a physical stock take is done.
• Under Perpetual inventory we compare to the trading stock account to calculate the
deficit
• Under Periodic this is the closing stock amount which is used to calculate the Cost of
Sales.
Once we have physically counted the stock we need to calculate the rand value of this
stock. How do we do this when the prices of the stock have varied each time we purchase
items? A business needs to therefore choose a method to value the stock counted.

STOCK VALUATION OPTIONS

There are 4 options that a business can choose:
• Specific Identification
• FIFO (First in First Out)
• Weighted Average
• LIFO (Last in First Out) - we do not cover this option.
Once a business chooses the method for valuing stock they need to stick with it for
consistency purposes. Changing methods would result in unrealistic financial results.

SPECIFIC IDENTIFICATION METHOD

CHARACTERISTICS OF THIS METHOD

• Easiest form of stock valuation as a cost price is assigned to each product

• Cost price is recorded on a stock card, catalogue or register
• The carriage is added on to the cost price of each item.
• The cost price is deducted from the stock records when the item is sold.
• The stock take is used to check against the stock records to see if any stock has gone
missing.
• This method gives a realistic and accurate account of the value of stock on hand.
• Businesses that use this system usually have small number of items that are large in
size e.g. Televisions, motor vehicles.

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FIRST IN FIRST OUT METHOD

CHARACTERISTICS OF THIS METHOD

• The stock that is bought first is sold first i.e. it is sold in the order which it comes into
the shop.
• When the stock take is done it is assumed that the most recent stock purchased is on
the shelf and the cost price of these items would be used to determine the value of
the stock on hand
• The carriage is allocated to the cost price of the item.
• The value of the stock on hand is more accurate and realistic as it is valued at the
most recent prices paid for the items.
• The products that would be best suited to using this system would be where the
stock has limited shelf life or when it is easy to identify which stock comes in first and
needs to be sold first such has technology based products.

WEIGHTED AVERAGE METHOD

CHARACTERISTICS OF THIS METHOD:

• The average price of stock is calculated

• Carriage on the items is included in the cost
• After the stock take is done – the average cost is calculated by taking total cost
divided by number of units this is then multiplied by number of units on hand
• Weighted average is not as accurate as the other methods as the prices fluctuate
over the financial year and the average price is not the most recent price of the items
on hand.
• Products that are best suited to this method is small products where it is difficult to
calculate the cost price of each item e.g. golf balls.
ADDITIONAL QUESTIONS
In an examination often, the following calculations are included in this question:
• Mark-up percentage – GP/COS x 100
• Stock ratios such as:
o Period for enough stock on hand – Average Stock/Cost of Sales x 365
o Stock turnover rate – Cost of sales / average stock,
• VAT can be asked in this question.

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