Approaching Income

in two ways
TCM/Cost of Sales
Lecture

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 Forms of Cost Accounting
• Using costs by nature (already known from seminar practices)
• Using cost objects and overheads
• Primarily costs by nature, secondary cost objects and
overheads
• Primary cost objects and overheads, secondary costs by
nature

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 Cost objects and overheads
ASSETS COST OBJECTS

OVERHEADS
LIABILITIES

This form can not be applied independently, only together with cost by nature.
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 Total Cost Method
ACCOUNTS
COSTS BY NATURE EXPENSES B.N. SALES REVENUE RECEIVABLE

B Total cost of period Net sales price of

sold products

INCOME SUMMARY

Income = Revenues - expenses

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 How much is calculated income in
the two models (TCM/CoS)?
Let’s see an example!
• Total cost of period: 100
Direct Indirect
Total
Product Factory Corporate
Material 28 10 2 40
Salaries 20 5 10 35
Depreciation 2 15 8 25
Total 50 30 20 100

• 2 units of finished goods produced

• 1 unit of finished goods sold
• Selling price 80/unit
• 20 from the ‚Factory’ overhead is allocated to ‚Product’
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COST OF SALES METHOD
CIRCLE OF CIRCLE OF
CIRCLE OF INCOME
PRODUCTION BALANCE SH.
(revenue-expenses)
(cost) (assets)
Direct: Inventories Direct cost
50 +70-35 of sales
20 Sales
35
10 revenue
Factory: 30
Indirect 80
cost of sales
Corporate: 20
30
+ 15
SALES REVENUE OF THE GOODS SOLD
– HISTORICAL COST OF THE GOODS SOLD
= REALIZED INCOME
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 TOTAL COST METHOD
CIRCLE OF CIRCLE OF
CIRCLE OF INCOME
PRODUCTION BALANCE SH.
(revenue-expenses)
(cost) (assets)
Material:
Material:
40
40
Sales
Salaries: Salaries:
35 35 revenue
80
Depreciation:
Depreciation: 25
25
- 20
SALES REVENUE OF THE GOODS SOLD
– TOTAL COST OF THE PERIOD
= INCOME????
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 How can we calculate the realized income in
case of the total cost method?
Possible scenarios:
1. The amount of sold goods is equal to that of the produced
goods during the period.
2. We are selling less than we produce during the period.
3. We are selling more than we produce during the period.
4. We are producing some assets which are not for selling
purpose (but for our own use).

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 Case 1.
production = sales

• No need to adjust:
– Each cost of the period has its revenue pair (because the same
amount of produced goods are sold too),
– No impact on balance sheet

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 Case 2: production > sales
• We have charged against income some costs which do not have a
revenue pair (produced but not sold),
• The products related to these costs are still remaining in the inventories
at the end of the period
• Closing balance is higher than the opening balance in case of finished
products (there is a positive stock change)
• Stock Change (SC) = Closing Balance – Opening Balance
• SOLUTION: income has to be credited (increased) with the value of the
positive stock change and the stock increase has to be recorded in the
balance sheet.

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 Case 3: production < sales
• We have recorded some revenue which do not have its cost pair in the
period (sold but produced in a previous period),
• The products related to this revenue have been in the inventory at the
beginning of the period but missing at the end of the period (there is a
negative stock change).
• Closing balance is lower than the opening balance in case of finished
products (there is a negative stock change)
• SOLUTION: income has to be debited (decreased) with the value of the
negative stock change and the stock decrease has to be recorded in the
balance sheet.

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 Case 4. Production for own use
• We have recorded some cost that do not have pairing revenue in the
period (produced but are not for sale).
• These will not generate direct sales revenue because these assets will
be used for own purposes → have to be recorded in the balance sheet.
– Example: self-built fixed assets (buildings, machinery)
• SOLUTION: income has to be credited (increased) with the value of the
produced asset and has to be recorded at the correspondent section of
the balance sheet (e.g. PP&E)

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 CAPITALIZED PERFORMANCE (CP)
OPERATIONAL ACCOUNTS in TCM
• Income-adjusting records, which help to associate the operating expenses of the
period with the accurate earnings. (These are treated as neutral to income, they are
valued at the level of the production cost.) Finished goods, Goods in
• Components: process

– Stock change of internally generated inventories (SC of IGI see cases 2-3).
• Increase income if produced in the period but not sold in the period
• Decrease income if sold in the period but not produced in the period

– Capitalized value of internally generated assets (CV of IGA, see case 4.)
• Increase income if produced in the period but not for sale but for own
purpose

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 REVENUE/INCOME - EXPENSE

+ Realized revenue (REVENUE)

+/- CP [neutral income (not realized)]
ADJUSTED Income (Total performance)
– Total cost of production
REALIZED INCOME
+ CP = produced in the period but not sold in the period (SC of IGI>0 and CV of IGA)
- CP = sold in the period but not produced in the period (SC of IGI < 0)

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 TOTAL COST METHOD
CIRCLE OF CIRCLE OF
CIRCLE OF INCOME
PRODUCTION BALANCE SH.
(revenues, expenses)
(cost) (assets)
Material: Material exp.:
Finished goods 40 Sales
40
35 revenue
Employee
Salaries: 80
Related exp.:
35
35
SC of IGI
Depreciation: Depreciation exp.: + 35
25 25
SALES REVENUE OF THE GOODS SOLD + 15
– TOTAL COST OF THE PERIOD
+/- CP
= REALIZED INCOME
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 Finished goods,
Goods in process
Recording CP on accounts
SC of IGI Internally generated inventories

SC of IGI > 0

OR

SC of IGI < 0

CV of IGA PP&E

CV of IGI

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 Accounting according to the total cost method
• With the total cost method there is no need to record separately the value of
finished products and sold products, only the difference (stock change) once in
every period to adjust the balances of the accounts
• Production Costs must be recorded on cost accounts
• Expenses are (partially)derived from cost accounts.
– The value of derived expenses equals the value of total production cost.
• Entries to make:
– Costs of production continuously (see slide 5.)
– The value of stock change at the end of every period (see slide 21. first part)
– The value of capitalized internally generated (fixed) assets when the asset is activated (see slide
21. second part)
– The posting of costs towards expense accounts at the end of the period (see on slide 23.).

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 SUMMARY
Asset/Liab. Material cost Material exp. Sales revenue Accounts rec.
40 40 40 80 80
Emp. Rel. cost Emp. Rel. exp.
35 35 35
Amort./Depr cost. Amort./Depr exp.
25 25 25

Income Summary
SC if IGI Finished goods
35 35 35 100 80
35
Cr balance = +15

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