Cost Account Accountinv 441

8/10/2019 Cost Account Accountinv 441

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Cost Account DraftSubject code: ACT-441

Sec: 1

Prepared For:Mr. Nikhil Chandra Shil

Senior Lecturer & Assistant Proctor

Department of Business Administration

Prepared By:

Name D!

"d#A$i$ Bin An%ar &''(-&-1'-')'*ea$u+ ,abir &''(-&-1'-')

.o/abe /a0 &''(-&-1'-

"onurr$$aman "oni &''(-&-1'-

Sar$ana erin &''(-&-1'-11(

Submission date: &121&2&'1'

Chapter-1 & Chapter-2:


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Concept and Obecti!es

Cost:

Cost is current sacrifice which can be determined as a form of Money, Time , Effort, Wealth oranything which holds value to the firm in order to get benefits in monetary term in near future.

Costs are assigned to objects for a variety of purposes including pricing, profitability studies, andcontrol of spending. A cost object is anything for which cost data are desired including products,product lines, customers, jobs, and organiational subunits. !or the purpose of assigning costs tocost objects, costs are mainly categoried in two categories. They are given below withdiscussion

"irect Cost:

A direct cost is a cost that can be easily and conveniently traced to the particular cost objectunder consideration. A cost object is anything for which cost data is re"uired including products,customers jobs and organiational subunits. !or e#ample, $irect Material , $irect %abor.

#ndirect Cost:

An indirect cost is a cost that cannot be easily and conveniently traced to the particular costobject under consideration. !or e#ample &ndirect labor, Manufacturing 'verhead.

There are many other cost which belongs in the broader category of cost. Those costs are givenbelow in the !low Chart with discussion


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Cost Classi$ication:

There are various types of cost. !rom above flow chart we can become familiar about the names.The discussion about those are given below

%eportin cost:

(nder this section there are some costs. The names and discussion about them are given below

Product cost:

The product cost is the cost of all the different components which ma)e up the product.This may either be the purchase price if the components are bought from outsidesuppliers, or the combined cost of materials and manufacturing processes if thecomponent is made in*house.!or e#ample, $irect material and $irect labor cost.


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Period cost:

An amount of cost which is incurred at the end of the period. This is an accumulation costincurred once in a period. !or e#ample, Monthly salary, +ent e.t.c

Control Cost:

(nder this section, there are some costs which are given below

Controllable Cost:

Controllable cost is the cost which can be controlled by the managers or employees. othe responsibility of this cost goes on the shoulder of managers and employees. Mostvariable cost within a department are thought to be controllable in the short term becausemanager can influence the efficiency with which resources are used, even if they cannotdo anything to rise or lower the price level. !or e#ample, $irect material cost.

'ncontrollable cost:

(ncontrollable cost is the cost which cannot be controlled by the specified members ofthe underta)ing. Most of the fi#ed costs are uncontrollable cost. !or e#ample,$epreciation, alary e.t.c

(eha!ioral cost:

(nder this section, there are some cost which are given below-

)ariable cost:Changes in the total proportion to the changes in the related levelof total activity level or volume. Assume that a icycle producing company buysa handlebar at /01 for each of its bicycles. Total handlebar cost is A cost thatchanges in total in proportion to changes in the number of bicycles assembled2variable cost3.

*i+ed cost:

$on4t change in total for a given time period despite changes in the total activity level orvolume. Assume that annister icycles incurred /56,077 in a given year for the leasing

of its plant. This is a fi#ed cost with respect to the number of bicycles assembled. Thesecosts are unchanged in total over a designated range of the number of bicycles assembledduring a given time span.

Se,i !ariable cost:

Consists of both fi#ed and variable cost. !or e#ample, Electricity cost.


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"ecision ,akin cost:

(nder this section, there are some categories of costs. They are given below

%ele!ant costs: +elevant costs are those costs that will ma)e a difference in a decision.

+elevant costs are future costs that will differ among alternatives.We can demonstrate relevant costs with the following situation. A company is deciding whetheror not to eliminate a product line. The product line accounts for appro#imately 68 of thecompany4s activities. &f the product line is eliminated, the officers of the corporation willcontinue to receive the same salaries and the central office e#penses will not change. The productline managers and other employees wor)ing directly on the product line will be terminated.9ence, their salaries will be eliminated.

The salaries of the product line managers and other employees whose salaries will be eliminatedare relevant to the decision. &f these salaries are /:77,777 with the product line and /7 without

the product line, the /:77,777 of savings is relevant. Those cost savings and other possible costsavings will be considered along with the loss of sales revenues.

'n the other hand, the officers4 salaries are not relevant in the decision. &n other words, it doesn4tmatter if the officers4 salaries are /077,777 or /0,777,777. The officers4 salaries will be the samewith or without the product line. imilarly, the decision ma)er does not need to )now the amountof its central office e#penses, since they will be the same with or without the product line.E#penses from previous years are also irrelevant.

E#ample

Opportunit costs:

The cost of an alternative that must be forgone in order to pursue a certain action. ;ut anotherway, the benefits you could have received by ta)ing an alternative action.

E#ample

One-ti,e costs: Costs those incurred one time in a product or a project life. Eg- manufacturingplant installation cost.

%ecurrin costs:Costs that continually incurred in producing product or services. Eg- $irectmaterial or $irect labor cost

Sunk costs:Costs which are already incurred and can4t be retrieved. Eg- ribe.


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Chapter-

Least S/uare %eression Analsis

Situation:ay the relationship between electricity cost and direct labor hour is loo)ed for.Though the selection of variable initially comes from theoretical conceptualiation, it should bevalidated with the information available. Thus, a least s"uare regression analysis is conducted tovalidate the relationship between variables initially selected. 9ere, electricity cost represents thedependant variable 2

Month ActualElectricit

y

cost2yi3

32 yyi

$irect laborhours2#i3

32 xxi 132 xxi 322 yyxx ii 132 yyi

?anuary @67 :7 6777 *B777 B777777 *:7777 6577!ebruary @17 07 7777 *0777 10777777 *107777 1077

March @17 07 6777 *B777 B777777 *07777 1077April 057 17 5777 6777 B@777777 7777 677May 077 *:7 61777 :777 65777777 *657777 6577?une 07 *67 1777 *777 5777777 B17777 B@77?uly 077 *:7 1@777 *5777 B777777 @7777 6577August 077 *:7 1@777 *5777 B777777 @7777 6577eptember 07 *67 B777 *6777 B@777777 B@7777 B@77'ctober 007 *17 0777 7 7 7 677Dovember 07 B7 6777 777 @6777777 7777 B77$ecember @7 BB7 6777 B777 B@5777777 B67777 B1B77Total> = @Ciy 7 =6177ix 7 0B1777777 11:7777

6777


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0orkins:

0:7

B1

@C67===

n

yy

i

A0777B1

617777===

n

xx

i

'n the basis of the information and calculation above, we may easily calculate the constants2both intercept, a and slope, b of the model3 by using the e"uations as stated below>

7766.0B1777777

11:7777

32

3322

1

==

=

xx

yyxxb

i

ii

'nce the value of b is used to solve the e"uation, it will result the value of a.

xbay +=

6B@/

B060:7

B060:7

777,A07766.70:7

=

=

+=

+=

a

a

a

a

Thus, the cost function becomes XY 7766.6B@/ +=

Where, a 2/6B@3 represents the fi#ed electricity cost irrespective of direct labor hour wor)ed andb 2/7.77663 represents the variable portion of electricity costs per direct labor hour wor)ed.


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Coe$$icient o$ Correlation and "eter,ination

Coefficient of correlation and determination are commonly used statistical measure for e#plainthe direction and strength of the relationship between depended and independent variables.

Coe$$icient o$ Correlation also )nown as r, +, or ;earsons r, a measure of the strength of thelinear relationship between two variables that is defined in terms of the 2sample3 covariance ofthe variables divided by their 2sample3 standard deviations. The value of r is such that*B F r F GB. The G and H signs are used for positive linear correlations and negative linearcorrelations, respectively.

;ositive correlation> &f # and y have a strong positive linear correlation, r is close to GB.An rvalue of e#actly GB indicates a perfect positive fit. ;ositive values indicate arelationship between # and y variables such that as values for # increase, values for y alsoincrease.

Degative correlation> &f # and y have a strong negative linear correlation, r is close to *B.An rvalue of e#actly *B indicates a perfect negative fit. Degative values indicate arelationship between # and y such that as values for # increase, values for y decrease.

Do correlation> &f there is no linear correlation or a wea) linear correlation, r is close to

7. A value near ero means that there is a random, nonlinear relationship between thetwo variables Dote that ris a dimensionless "uantity- that is, it does not depend on the units employed.

A perfect correlation of I B occurs only when the data points all lie e#actly on a straightline. &f r J GB, the slope of this line is positive. &f r J *B, the slope of this line is negative.

A correlation greater than 7. is generally described as strong, whereas a correlation lessthan 7.0 is generally described as wea). These values can vary based upon the KtypeK ofdata being e#amined. A study utiliing scientific data may re"uire a stronger correlationthan a study using social science data.

Coefficient of determination, a measure of the proportion of variability in a data set that isaccounted for by a statistical model- often called +1- e"ual in linear regression to the s"uare of;earsons product*moment correlation coefficient. Coefficient of determination is better thancoefficient of correlation in a sense that under coefficient of determination the value isrepresented in percentage form that is easy to e#plain.
http://en.wikipedia.org/wiki/Coefficient_of_determinationhttp://en.wikipedia.org/wiki/Coefficient_of_determinationhttp://en.wikipedia.org/wiki/Coefficient_of_determination


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The coefficient of determinationis such that 7 F r1F B, and denotes the strength of thelinear association betweenxandy.

The coefficient of determinationrepresents the percent of the data that is the closest to theline of best fit. !or e#ample, if rJ 7.511, then r 1J 7.07, which means that 08 of thetotal variation in

ycan be e#plained by the linear relationship between

xand

y2as

described by the regression e"uation3. The other B08 of the total variation inyremainsune#plained.

The coefficient of determinationis a measure of how well the regression line representsthe data. &f the regression line passes e#actly through every point on the scatter plot, itwould be able to e#plain all of the variation. The further the line is away from the points,the less it is able to e#plain.

We need to be careful while using the coefficients on the ground that these coefficients never

show any cause*and*effect relationship rather they are e#plaining the variation as a mathematicalmeasure of co variation

Coe$$icient o$ Correlation r

65@@@.7

C77,67777,777,0B1777,1:7,1

3232

3322

11

=

=

=

yyxx

yyxxr

ii

ii

Coe$$icient o$ "eter,ination

16@@:.765@@@.7 11 ==r

Thus, the coefficients show that the relationship between electricity cost and direct labor hour isnot of that much strong and only 16.@@: 8 2less than 1083 of changes in electricity cost ise#plained by direct labor hours.

Standard 3rror o$ 3sti,ate


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The regression e"uation as calculated may have some error term due to the use of sample dataand leaving other variables. &t is e#pected that the actual observations should fall very close tothe regression line. The more the deviation, the less representative the line is. Thus, standarderror of estimate is calculated to set the tolerable range for management. When the value ofcoefficient correlation and determination is e#actly B, the standard errors become ero, the most

ideal situation.

Month $irect labourhours 2#i3

ActualElectricitycost 2yi3

;redictedElectricitycost

;redictederror

;rediction errors"uared

?anuary 6777 @67 0@@ :6 06:@!ebruary 7777 @17 06 :1 0B6March 6777 @17 0@@ 06 15B@April 5777 057 0 1 6

May 61777 077 @7B *B7B B717B?une 1777 07 00: *1: :15?uly 1@777 077 07 *7 577August 1@777 077 07 *7 577eptember B777 07 001 *11 66'ctober 0777 007 0:7 *17 677Dovember 6777 07 @70 *10 @10$ecember 6777 @7 @1: 0 175Total > =617777ix = @C67iy = @C67

L

iy = 732 E

ii yy = A7@1C32 1E

ii yy

Standard error o$ the esti,ate

1

32 1E

=

n

yyS

ii


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A6.00B7

A7@1C=

t 4est Statistics

9ere, $egree of freedom 2df3 J n*1 J B1*1 JB7

Assuming 508 confidence level with B7 degrees of freedom, the corresponding table value of tis 1.1 !urther assuming the estimated level of activity at 67777 direct labor hours, electricitycost should be /051 by using the e"uation as follows>

677777766.6B@/E +=iY

Dow t test statistic may be used to set the tolerable range within which cost show lie as follows>

35.BAB0512B5.:1A/3B5.BAB0512CB.6@7/

B5.BAB051

[email protected]

0B1777777

3A0777677772

B1

BB3A6.00321C.12051

32

32BB

1

1

1EE

+

++

++

andbetweenin

xx

xx

nSty i

i

pi

Management can e#pect that the actual electricity cost should be in between [email protected]

and :1.B5 at about 50 percent of the time. Electricity cost may be lower than /[email protected] andhigher than /:1.B5 at random only in 08 cases.

Chapter-5


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Cost sste, and Cost Accu,ulation

*lo6 o$ Manu$acturin Cost:

There are some steps to complete the !low of Manufacturing Cost. Those steps are discussed

below

!irst step, Company has to have the source from which the company can afford the cost

of manufacturing. Those sources can beB3 Cash13 $epreciable Assets3 Accounts ;ayables63 Accruals

After getting fund from sources the second step will be the allocation of those funds to

Cost of Material ;urchased which will be held in Material &nventory and other

manufacturing cost such as $irect %abor and !actory 'verhead. The Third step is the combination of material purchased and other manufacturing cost

resultant Wor) in ;rocess which consists ofB3 $irect materials13 $irect %abors3 !actory 'verhead Applied

After completing the W&; the !ourth teps will be Cost of goods Completed. !ifth step will be moving the C' to !inished oods &nventory. And the last step is selling the product to record sales amount and C' to identify the

profit amount which is a part of !irm4s Cash.

Cost Sste,:

$irect Material

$irect %abor

$irect Material

$irect %abor

Nariable 'verhead

$irect Material

$irect %abor

Nariable 'verhead

!i#ed 'verhead


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9istorical Amounts B3 Actual ;rime

Costing

63 Actual $irect

Costing

:3 Actual full

Absorption Costing9istorical Amounts

for $M O $%,

;redetermined

Amount for 'verhead

13 Actual ;rime

Costing

03 A hybrid $irect

Costing

3 A 9ybrid !ull

Absorption Costing

;redetermined

Amounts

3 tandard

;rime Costing

@3 tandard $irect

Costing

53 tandard !ull

Absorption Costing

Cost Accu,ulation Methods:

Cost accumulation refers to the manner in which costs are collected and identified with specific

customers, jobs, batches, orders, departments and processes. The center of attention for cost

accumulation can be individual customers, batches of products that may involve several

customers, the products produced within individual segments during a period, or the products

produced by the entire plant during a period. The company4s cost accumulation method, or

methods are influenced by the type of production operation and the e#tent to which detailed costaccounting information is needed by management.

There are mainly four categories of cost accumulation methods. They are

B3 ?ob 'rder Costing13 ;rocess Costing3 ac) !lush Costing63 9ybrid Method 2lended3

7ob Order Costin:

&n job order costing, costs are accumulated by jobs, orders, contracts, or lots. The )ey is that the

wor) is done to the customers specifications. As a result, each job tends to be different. !or

e#ample, job order costing is used for construction projects, government contracts, shipbuilding,

automobile repair, job printing, te#tboo)s, toys, wood furniture, office machines, cas)ets,


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machine tools, and luggage. Accumulating the cost of professional services 2e.g., lawyers,

doctors and C;As3 also fall into this category.

Process Costin:

&n process costing, costs are accumulated by departments, operations, or processes. The wor)

performed on each unit is standardied or uniform where a continuous mass production or

assembly operation is involved. !or e#ample, process costing is used by companies that produce

appliances, alcoholic beverages, tires, sugar, brea)fast cereals, leather, paint, coal, te#tiles,

lumber, candy, co)e, plastics, rubber, cigarettes, shoes, typewriters, cement, gasoline, steel, baby

foods, flour, glass, mens suits, pharmaceuticals and automobiles. ;rocess costing is also used in

meat pac)ing and for public utility services such as water, gas and electricity.

(ack *lush:

ac) flush costing is a simplified cost accumulation method that is sometimes used by

companies that adopt just*in*time 2?&T3 production systems. 9owever, ?&T is not just a techni"ue,

or collection of techni"ues. ?ust*in*time is a very broad philosophy, that emphasies

simplification and continuously reducing waste in all areas of business activity. ?&T system has

theconcepts of teamwor) and continuous improvement. &n fact, many of the assumptions,

attitudes and practices of communitarian capitalism are included in the ?&T philosophy.

'ne of the many goals of ?&T systems is ero ending inventories. &n a bac)flush cost system,

manufacturing costs are accumulated in fewer inventory accounts than when using the job order

or process cost methods. &n fact, in e#treme bac)flush systems, most of the accounting records

are eliminated. The production facilities are also arranged in self contained manufacturing cells

that are dedicated to the production of single or similar products. &n this way more of the

manufacturing costs become direct product costs and fewer cost allocations are necessary. Thus,

more accurate costing is obtained in spite of the fact that the cost accumulation method issimplified.

8brid9 or Mi+ed Methods:

9ybrid or mi#ed systems are used in situations where more than one cost accumulation method

is re"uired. !or e#ample, in some cases process costing is used for direct materials and job order


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costing is used for conversion costs, 2i.e., direct labor and factory overhead3. &n other cases, job

order costing might be used for direct materials, and process costing for conversion costs. The

different departments or operations within a company might re"uire different cost accumulation

methods. !or this reason, hybrid or mi#ed cost accumulation methods are sometime referred to

as operational costing methods.

o those are the cost accumulation methods. Company can follow one or more than one of those

methods to find out the cost of operation.

4he Cost o$ oods Manu$actured Schedule:

The cost of goods manufactured schedule is used to calculate the cost of producing products for a

period of time. The cost of goods manufactured amount is transferred to the finished goods

inventory account during the period and is used in calculating cost of goods sold on the income

statement. The cost of goods manufactured schedule reports the total manufacturing costs for the

period that were added to wor)*in*process, and adjusts these costs for the change in the wor)*in*

process inventory account to calculate the cost of goods manufactured.

An e#ample of calculating cost of finished goods is given below

!ollowing information are needed to calculate cost of finished goods

eginning raw materials inventory / @,177

Ending raw materials inventory 0,77

$irect labor B10,@77

&ndirect materials 6,B77


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&ndirect labor 6,:77

$epreciationPfactory building 5,077

$epreciationPfactory e"uipment 0,677

&nsurancePfactory B1,777

;roperty ta#esPfactory 6,077

eginning wor)*in*process inventory B7,177

Ending wor)*in*process inventory 5,77

eginning finished goods 0777

Ending finished goods @777


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Chapter >

Process Costin

;rocess !low>;rocess flow can be three types that are given bellow

B. e"uential1. ;arallel. elective

E"uivalent (nits> E#pression of semi*finished goods in terms of finished goods. !or instance, 1units of 078 complete means B units of B778 complete.

&nspection ;oint> pecified points in process line where goods are inspected for confirmation of"uality. &nspection point may be for rewor) or spoilage.

+ewor)> &t has been finished but due to some problem in the production, it re"uired to rewor) onit. &n another way, we can say any goods rejected at inspection point for rewor). +ewor) doesnot affect physical units but it increases cost. &t can be normal or abnormal.

poilage> Any goods rejected at inspection point for spoilage are spoiled and thrown away formthe production process. $ue to spoilage, physical units reduced and cost increases as well.poilage may again be normal or abnormal.

Dormal rewor) L spoilage> &f rewor) and spoilage is with in the tolerate limit as set bymanagement, it will be normal. Tolerate limit is set either as percentage of units inspected or as apercentage of good units passing the inspection point. This cost always born by the customer.

Abnormal rewor) L spoilage> &f total rewor) and spoilage e#ceed tolerate limit the e#tra partbecomes abnormal rewor) or spoilage. This cost will not be born by the customer ratherconsumed by the producer or reported in profit and loss accounts.

e"uential> e"uential basically used by te#tile factory and other manufacturing firm where after

finishing one part it will send to another part then again it will wor)ed in the another departmentthen after finishing second part then it moved to other part.

;arallel> ;arallel basically used by different manufacturing firm where two or more part of wor)start simultaneously and at the end of the day finished wor) with in short period of time.E#ample> ;B and ;1 start simultaneously then in another stage it joined together and finishes theproduction process. %i)e Toyota manufacturing system.


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elective> &n the selective process, manufacturing firm4s responsible managers decides whichprocess will start first and then which process will be late depending on the firm4s financialcondition and available resources with a motive of efficiently manage the scared resources.

Class Proble,:

$el Co. %td. began the current period with B777 units, which were @78 complete. $uring theperiod, wor)s on additional 07777 units were started. Materials are added at the start of theprocess while labor is added when units are 678 complete. 'verhead costs are incurreduniformly. (nits are inspected for rewor) when they are 078 complete. +ejected units arereturned to 178 complete point for rewor). Dormal rewor) is 8 of the units inspected. (nitsare again inspected when they are :78 complete. +ejected units are thrown away as spoiled.Dormal spoilage is B8 of the units inspected. There were 01777 units inspected for rewor) and

77 units were rejected as spoilage. Ending wor) in process consists of @777 units, 78complete. Costs attached to opening inventory were t). 60777 for material, t). 1B777 for laborand t). 07777 for overheads- Current costs were material t). 110777, labor t). B7@B77 and t).61B@7 for overhead.(sing weighted average method, find out H

i3 Cost of goods completedii3 Cost of ending wor) in processiii3 Cost of abnormal rewor) andiv3 Cost of abnormal spoilage.

Solution: proble, 5

State,ent o$ production and 3/ui!alent 'nits o$ production

Element of production;hysical

(nitsE"uivalent (nits

Material %abor 'verhead(nits 8 (nits 8 (nits 8

#nputs

'pening W&;&ntroduced during theperiod 'nits accounts $or

Outputs

!inished oodsEnding W&;Dormal poilageAbnormal poilageDormal +ewor)Abnormal +ewor)3/ui!alent 'nits

B777

077770B777

66177@7770B7157

**

66177@7770B7157

**

B77B77B77B77

**

66177@7770B7157B0@7667

B77B77B77B77B77B77

661776770:176@B1

B777:7:777

0B777 0B777 0777 07B@7


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State,ent o$ costs and costs per e/ui!alent unit

Elements of costs Total Material %abor 'verhead

Costs trans$erred in:'pening inventory of W&;Current years costs 4otal Costs

E"uivalent unitsCost per e"uivalent units

BB@777:01@7@@7

607771107771:7777

1B777B7@B77B1BB77

0777761B@76:B@7

0B 7770.15

0 7771.67

07 [email protected]

tatement showing the evaluation of different elements of production>Category Costs hifted

to+atio Amount

Cost of Dormal+ewor) %> [email protected] J :66'> [email protected] J 655Total B6

!W&;DA

66177L0B777@777L0B7770B7L0B777157L0B777

:70@50:6:

Cost of Abnormal+ewor)

%> 667Q1.67 J B70@'> B1Q5.67 J B16BTotal 115:

Cost of Dormalpoilage

M> 0B7Q0.15 J 1@5%> 0B7Q1.67 J B116'> 0:Q5.67 J 0@hare of D+ J

Total :@B

!W&;

66177L07177@777L07177

@61:

Cost of Abnormalpoilage

M> 157Q0.15 J B06%> 157Q1.67 J @5@'> 17Q5.67 J B57hare of D+ J 6:Total 6B0

Cost of endingW&;

M> @777Q0.15 J B:67%> @777Q1.67 J B6677'> 677Q5.67 J 60B17hare of D+ J 50:hare of D J :

Total 5750Cost of !inishedoods

M> 66177Q0.15 J 1B%> 66177Q1.67 J B7@77'> 66177Q5.67 J 6B067hare of D+ J :70@hare of D J @61Total J :@5B@


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Process Account

Elements of costs (nits Costs Elements of;roduction (nits Costs

W&;, beginningMaterial%abor'verhead

&ntroduced during theyear

Material

%abor'verhead

B777

07777

60 7771B 77707 777

1 10 777

B 7@ B776 1B @7

Abnormal +ewor)Abnormal poilageDormal poilage!inished oodsalance cLd2W&;, ending3

1570B7

66177@777

1 15:6 B@

*: @ 5B@5 75@

0B777 @ :7 0B777 @ :7

Proble, no 1:


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Meghna Company began B55 with 777 units in wpr)*in*process. These units were @78complete. Costs attached to these units were t). 15077 for materials, t). @777 for labor and t).B6677 for overhead. $uring B55, wor) was begun on an additional B777 units. The firm endedthe year with 0777 units, 178 complete. The costs incurred during the period were t). B7077

for materials, t). B6077 for labor and t). B7057 for overhead. (nits are inspected when theyare 78 complete. +ejected units are returned to the point where units are 08 complete forrewor). Management considers B78 of the number of good units completed in a year to benormal to be normal number of units rewor)ed. $uring the year 1777 units were rewor)ed.Materials are added at the beginning of the process, direct labor is added when the units are 078complete and overhead costs are incurred uniformly. The company uses the weighted averageprocess costing.

$etermine the cost of goods completed the cost of ending wor) in process, and the loss fromabnormal rewor).

Solution:State,ent o$ production and 3/ui!alent 'nits o$ production

Element of production;hysical

(nitsE"uivalent (nits

Material %abor 'verhead(nits 8 (nits 8 (nits 8

#nputs

'pening W&;&ntroduced during theperiod 'nits accounts $or

Outputs!inished oodsEnding W&;Dormal +ewor)Abnormal +ewor)3/ui!alent 'nits

777

B7771B777

B@7770777B@77677

B@7770777

**

B77B77

**

B@777*

B@77677

B77*

B77B77

B@777B77:17B7

B77176060

66777 1B777 B777 B:577

State,ent o$ costs and costs per e/ui!alent unit

Elements of costs Total Material %abor 'verhead

Costs trans$erred in:'pening inventory of W&;Current years costs 4otal Costs

E"uivalent unitsCost per e"uivalent units

:55776500571B7777

15077B70771B7777

@777B6077117077

B6677B7057B66557

1B 777B7.77

B 777B1.10

B: 577.B7


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State,ent sho6in the e!aluation o$ di$$erent ele,ents o$ production:

Category Costs hiftedto

+atio Amount

Cost of Dormal

+ewor)

%> [email protected] J B5@77

'> :17Q.B7 J 01Total 1061

!

W&;

B@7777L1B777

0777L1B777

B5::

@700

Cost of Abnormal+ewor)

%> 677QB1.10 J 6577'> B7Q5.67 J B60Total @0

Cost of endingW&;

M> 0777QB7 J 07777%> *'> B777Q.B7 J B77hare of D+ J @700Total @6B00

Cost of !inished

oods

M> B@777QB7 J B@7777

%> @777Q1.67 J B5@777'> 677Q5.67 J B15@77hare of D+ J B5::Total 0765::

Process Account

Elements of costs (nits Costs Elements of;roduction

(nits Costs

W&;, beginningMaterial

%abor'verhead

&ntroduced during theyear

Material%abor'verhead

777

B777

15 077

@ 777B6 677

B 7 077B 6 077B 7 057

Abnormal +ewor)!inished oods

alance cLd2W&;, ending3

B@777

0777

@ 00765::

@6B00

1B777 0 :0 657 1B777 0 :0 657


24/66

Chapter-?

7oint product and b product

7oint cost:

All the costs incurred for running the joint process are called joint cost.

Split-o$$ point:

This is the point where products are separately indefinite from the joint cost.

Separable cost:

eparable costs are the costs which are needed for further processing of the products to convertthem into the end products.

#ncre,ental analsis:

This analysis shows us the incremental cost and benefit of further processing. y this analysis wecan ta)e the decision whether we sale the products at split off or we go for further processing. &fthe incremental profit is negative then we should sell the products at split off point and if theincremental profit is positive then we should go for further processing.

7oint Cost Allocation Method:

There are 6 types of methods for allocating the joint cost into different products. Those methods

are given below

B3 ;hysical Measure13 ales value at split off point3 Estimated net realiable value 2D+N363 Constant gross margin percentage

Phsical Measure:

?oint costs are allocated based on the physical unit. That means total allocation of joint costdepends on the total amount of production regarding different products.

Sale !alue at split o$$ points:

&t determines how much the product worth for selling in the split off point where those productsbecome separable identifiable. 9ere the firm does not go for further processing. &t is possibleonly if all the products have active mar)et at split off point.


25/66

3sti,ated net reali@able !alue:

D+N can be found out by deducting separable cost from final sale price. o D+N J 2!inal salesprice H eparable cost3. &f there are no intermediate mar)et at split off point or firm wants to gofor further processing then this method can be used for selling the products as a replacement of

sales value of split off method.

Constant ross ,arin Percentae:

(nder this method the cost is allocated in such a way that the gross margins of all productsbecome constant and similar. 'bjective to ma)e all the products similarly profitable. rossmargin percentage can be found by dividing the gross profit with the sales.

Comparison of alternative joint cost allocation method, !urther processing decision

+oundtree chocolate manufactures and distribute chocolates manufactures and distributechocolate products. &t purchase cocoa beans and process them into two intermediate products

Chocolate powder li"uor base Mil) Chocolate li"uor base

These two intermediate products become separately identifiable at a single split off point. Every077 pounds of cocoa beans yields 17 gallons of chocolate powder li"uor base and 7 gallons ofmil) chocolate li"uor base.

These chocolate powder li"uor base is further base is further processed into chocolate powder.Every 17 gallons of chocolate powder li"uor base yields 177 pounds of chocolate powder. Themil) chocolate li"uor base is further processed into mil) chocolate. Every 7 gallons of mil)chocolate li"uor base yields 67 pounds of mil) chocolate.

;roduction and sale data for august 1777 are>

Cocoa beans processed, 0777 pounds

Cost of processing cocoa beans to split off point J /B7,777;roduction ales elling price

Chocolate ;owder 1,777 pounds 1,777 pounds / 6per pounds

Mil) chocolate ,777 pounds ,677 pounds / 0 per pounds


26/66

The august 1777 separable cost of processing chocolate powder li"uor base into chocolatepowder are / 6107. The august 1777 separable cost of processing Mil) chocolate li"uor base intomil) chocolate are / :07.

+oundtree fully process both of its inter mediate products into chocolate powder or mil)

chocolate. There is an active mar)et for these intermediate products. &n august 1777, +oundtreecould have sold the chocolate powder li"uor base for / 1B per a gallon and the mil) chocolateli"uor base for / @ a gallon.

Separable cost 52BB3 /077 /@077

%e/uire,ent-:

3sti,ated Net %eali@able )alue N%):

C;% MC%

!inal ales ;rice /777 /B:777

2*3 eparable costs /6107 /:07

D+N /:07 /@077

+atio 0 BB

Allocation 20>BB3 /B10 /@:0

%e/uire,ent-:

Constant ross Marin Percentae:


28/66


29/66

Chocolate powder li"uor base have to be sold at plit*off ;oint and Mil) Chocolateli"uor base needed to be sold after further processing for which +oundtree

Chocolate company will have an incremental profit of /607L

Chapter-=


30/66

Materials: Controllin9 Costin and Plannin

E#planation>

- ;urchase re"uisition is the principal form re"uired in purchasing. &t is li)e a voucher,designed according to its demand.

- ;urchase department issues purchase order. ;urchase order is also a principal formwhich gives the vendor a description of the goods and services desired as well as terms,

prices, and shipping instructions. Dowadays, purchase department is also named asprocurement department

- Accounting department finalies the amounts that need to be paid but they are notauthoried to pay. Treasurer signs for the payment and they are not included in theaccounting department.

Flowchart for Purchasing, Receiving, Recording & Payingfor Materials

Purchase

Requisiti

on

Accounting

Dept.

For accout no.

account

nu!er

Purchasing Dept.

issues purchase order

to"#. $endor%. Accounting Dept.

. ReceivingDept.'. Materials (edger

)ler*

+. File )opy

$endor

Returns

ac*nowledge

- ent copy

hips aterials

ends invoice

Accounting Dept.

ses"#. nvoice%. Purchase /rder

. Receiving andinspection report0s1

for invoice approval'. Payent

approved for

voucher prepared

Receiving

Dept.

ssues

receiving

report to"#. Purchasing

Dept.%. /wn File. )opies tonspection Dept.

Ma*es distri!ution to"#. /wn File%. Accounting

Dept.. Materials Dept.

2reasur

er

For

Payent

Materials

(edger

)ler* Posts

quantity and

dollar aounts to

aterials ledger.

aterials ledger

Materials

Dept.

tore*eeper

stores

aterials in

proper location


31/66

E#planation>

1. Cost o$ carrin in!entor:

- &nterest on investment> this is the basic cost of capital.- ;roperty ta# and insurance> this is actually the corporate ta#.- Warehouse L storage> this is a significant cost of carrying inventory.- 9andling> loading and unloading cost.- $eterioration and shrin)age cost> normal or abnormal loss- it depends on raw

material.- 'bsolescence> this is a ris) factor- it occurs due to technological innovation.

2. Cost o$ not carrin in!entor:

- E#tra ;urchasing, handling Transportation Costs> if inventories are not carried thengoods need to be purchased fre"uently. &t ultimately increases the cost in discussed.

- 9igher ;rices for Materials> when goods are purchased at small lots, buyers are unli)elyto receive discounts that are given on bul) purchases. Thus they will incur higher prices.

- toc) outs> occurs when shortage of raw materials stop production process.

3uantitative ModelsPlanning Materials

RequireentsPlanning deals with two Fundamental Factors

1. The Quantity 2. The Time

to purchaseInvolves two conficting kind o costs

1. !ost o carrying inventory 2. !ost o not

carrying inventorynterest on investent

Property ta4 & insurance

5arehouse or torage

6andling

Deterioration & hrin*age

/!solescence

74tra Purchasing, handling

2ransportation )osts

6igher Prices for Materials

toc* outs

Additional )lerical )osts

(ost sales & 8ad will


32/66

- Additional Clerical Costs> incurred due to red tape.- %ost sales O bad will> loss of customers or sales and thus good will when stoc)s are not

available at the time of sale or on demand.

E#planation>

Economic order "uantity 2E'S3 is the amount of economic inventory ordered at one timethat minimies annual inventory cost. &f a company buys materials infre"uently and in large"uantities, the cost of carrying the inventory is high because of the sieable averageinvestment in inventory. &f purchase is made in small "uantities in fre"uent orderscorrespondingly high ordering cost can result. Thus the optimum "uantity to order whencarrying cost J ordering costs. We must also note that carrying cost is inversely related toordering cost. Economic order "uantity is a widely used traditional approach. Meanwhile,Enterprise +esource ;lanning 2E+;3 is the advanced approach.

7conoic /rder 3uantity 07/31

2he order si9e where cost of

aterial is iniu

)arrying )ost : /rdering )ost

"um#er o

$rder

!ost

s

Annual /rdering )ost

Annual )arrying )ost

2otal )ost

(ow Point

7conoic

/rder

3uantity

07/31


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%athematical Formulation o &$Q

Economic 'rder Suantity JCCCU

CORU

1

0here9 %' D Annual %e/uire,ents

CO D Cost per Order

C' D Cost per 'nit

CC D Carrin Cost Percentae


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$erivation of the E"uation

1. Nu,ber o$ Orders Placed Annuall:

2. Annual Orderin Costs:

. A!erae #n!entor:

5. Annual Carrin Costs:

B. 4otal Costs AC:

EOQ

RU

EOQ

CORU

1EOQ

1EOQCCCU

1EOQCCCU

EOQCORU +

1

EOQCCCU

EOQ

CORUAC

+

=

1B EOQCCCU

EOQCORUAC

+=

1

1 CCCUEOQCORU

dEOQ

dAC +=

11

CCCU

EOQ

CORU

dEOQ

dAC +

=

CCCU

CORUEOQ

=11

Assuming, 29ere marginal cost is minimum3.7=dEOQ

dAC

11

CCCU

EOQ

CORU =

CORUCCCUEOQ = 11

CCCU

CORUEOQ

=

1

CCCU

CORUEOQ

=

1


35/66

E#planation> While determining the time to order, the following three factors should beta)en into consideration>

B. Time needed for delivery> %ead time is the interval between the time an order is placedand the time when the materials arrive on the factory floor, ready for production.

1. +ate of inventory usage> %ead time Q daily usage. &f lead time or usage is below

e#pectation during an order period, the new materials arrive before the e#isting stoc) isconsumed thereby adding to the cost of carrying inventory. &f lead time or usage isgreater than e#pected, a stoc) out will occur with its many forms of cost, including lostcustomers. &f average or normal lead time and usage are used to determine an orderpoint, a stoc) out can be e#pected on every other order.

Deterining the 2ie to

/rderFactors'

#. 2ie ;eeded for Delivery 0(ead 2ie1

%. Rate of nventory sage 0(2 < Daily sage1

. afety toc* = to inii9e the possi!le stoc*

out

afety toc* will !e aintained where total stoc* out cost and carrying

cost will !e iniu.%aterials !ontrol %ethod

/rder )ycling Method or )ycle Review Method

Min-Ma4 Method2wo-!in Methodelective )ontrol = A8) Plan


36/66

. afety stoc)> to minimie the possible stoc) out an inventory cushion or safety stoc) isoften the least costly protection. toc) outs will occur only in times of lead time. Thebasic problem is to determine the safety stoc) "uantity. Time to order depends onwhether we need safety stoc)s or not. The optimum safety stoc) is that "uantity thatresults in the smallest total cost of stoc) outs plus safety stoc) carrying costs.

- Method o$ Calculation o$ the %eorder point 6hen the $ir, is:

a. 0ithout sa$et stock: lead ti,eEusae rate.

b. 0ith sa$et stock: sa$et stock F lead ti,eEusae rateG

0here sa$et stock e/uals:

1. ,a+i,u, usae H nor,al usae E lead ti,e.

Or

2. ,a+i,u, lead ti,e H nor,al lead ti,e E 'sae rate.

Nor,al ,a+i,u, in!entor D 3OI F sa$et stock

Absolute ,a+i,u, in!entor D3OI F sa$et stock FNor,al usae

-Mini,u, usae ELead ti,e

s /o+din3 or maintainin3 safety stoc,s rationa+

&nitially at every level of units we will conduct the trial and error method. Thus, safety stoc) willbe maintained where total stoc) out cost and carrying cost will be at minimum.


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3+planation:

Order Cclin Method or Ccle %e!ie6 Method:oods are e#aminedat the end of each cycle, say, 7, @7, 57 days. Cycle time varies over thetypes of material. 9igh value critical items usually re"uire a short reviewcycle. !or low*cost, non*critical items a longer review cycle is commonbecause order "uantities are large and a stoc) out is not as costly. This is arough and simple process.

Min-Ma+ ,ethod: Suantities of most items are subject to definablelimits. Ma#imum "uantity is established for each item. Minimum levelprovides the margin of safety, necessary to prevent stoc) outs during a

reorder cycle. Minimum level sets the order point and the order "uantityusually brings inventory up to the ma#imum level but not more than that.

46o-(in Method: Each stoc) item is stored in two bins, piles, orbundles. !irst bin contains enough stoc) re"uired from receipt of an orderto the placing of the ne#t order. econd bin contains normal lead timeusage plus the safety stoc). When the first bin is empty and the secondbin is tapped a purchase re"uisition for a new supply is prepared.

1. $rder !ycling %ethod or !ycle (eview %ethod

>oods are e4ained at the end of each cycle, say, ?, @?, ?days)ycle tie varies over the products

)ostly ites have lower cycle tie and low-cost ites havehigher cycle tie.

3uantities of ost ites are su!Bect to deCna!le liitsMa4iu quantity is esta!lished for each iteMiniu level provides the argin of safety, sets the orderpoint

7ach stoc* ite is stored in two !ins, piles, or !undlesFirst !in contains enough stoc* required fro receipt of anorder to the placing of the ne4t order.econd !in contains noral lead tie usage safety stoc*


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Types of &tems Characteristics

A H Type 9igh value, Critical items H Tightest Control

H Type Middle value H Moderate Control

C * Type Don*critical items H imple ;hysical Controls 2Two H bin Method

3+planation:

o far this is the best method. &t is also )nown as AC plan. The term AC is related to materialcontrol method. 9ere inventories are classified into types.

a. A H Type> 9igh value, critical items are under the tightest Control.b. H Type> Middle value items re"uire moderate Control.c. C H Type> Don*critical items are under simple physical controls such as the

two H bin method.

Proble,s

Pae: =-29 P=-2

elling price J /17Lpac)age

Annual re"uirement J 1777QB1J16777 pac)ages

(nit costJ /B7 per pac)age

%ead time J days

). *elective !ontrol +


39/66


40/66

+e"uirement 6

$aily usage J 16777

@7 J @@.@: pac)age

+eorder point J lead timeQdaily usage

JQ@@.@:

J177 pac)age

E#tra inventory J 677*177

J 177 pac)ages

$ays can be used J 177

@@.@:

D days

After days, the ne#t order should be placed.

+e"uirement 0The assumption that E'S formula holds are always wrong, it is not fi#ed. o every time themanufacturers will face problems. E'S formula just gives a guideline for the manufacturer.

Pae: =-9 P=-

+e"uirement B'rder point J 2%ead TimeQ$aily usage3 G 2ma#imum usage * normal usage3Q %ead

Time


41/66

J 2B7Q1773 G 217*1773QB7

J1777G77

J177 units

+e"uirement 1 Dormal ma#imum inventory J E'S G safety stoc)

J 6777G77

J 677 units

+e"uirement Absolute ma#imum inventory JE'S G safety stoc) G 2Dormal usage *Minimum usage3

Q%ead time

J 6777G77G 2177*B073QB7

J 6777G77G077

J 677 units

+e"uirement 6

%et, C(QCC J =

E'S J 21 Q+(QC'3

=

'r, 6777 J 21 Q2177Q1073Q73

=

'r, 267773U J 2 1 Q2177Q1073Q73U

CCCU

CORUEOQ

=

1


42/66

=

'r, 1Q2177Q1073Q7 J 267773U

=

'r, 267773U Q= J ,777,777

'r, B@,777,777= J ,777,777

'r, = J ,777,777

B@,777,777

Answer> = J / 7.0

Pae: =-9 P=-5

'N#4S O*

SA*34;

S4OCJ

P%O(A(#L#4; O*

%'NN#N O'4 O*

SA*34; S4OCJ

NO. O*

S4OCJO'4

S4OCJO'4

COS4

CA%%;#N

COS4

4

B7 078 1.0 177 7 1

17 678 1.7 B@7 @7 1

7 78 B.0 B17 57 1

67 178 B.7 7 B17 1

+? #?E ?.+ '? #+? #

/0 .1 12 1 1

Chapter- 11


43/66

Labor: Controllin & Accountin $or Costs

Labour producti!it:

&t is a measure of productive performance. &t is the amount of goods and services a wor)erproduce. ;roductivity can ve described as the efficiency with which resources are converted intocommodities and or services.

#ncenti!e plan:

Wage program where wage rise with productivity increase above the establish standard.&ndividual incentive plans are based on the performance of the individual employee while roup

incentive plan are based on the performance of the wor) group. While individual memberreceiving a respective proportion of the pay allocated.

A successful incentive wage plan must include> &t will be applicable to situation in which wor)er can increase output. ;rovide for proportionately more pay for out put above the standard. et fair standard where results in bonus pay.

Three common incentive plans are described below-

Straiht Piece6ork Plan:

This plan pay wage above the base rate for production above the standard. The productionstandard is computed minutes per piece and then translated into dollar per piece. ay fore#ample, if minutes is the standard time for producing B unit then the standard rate is 17 pieceper hour. &f a wor)ers pay rate is / per hour the piece rate is L17 or /.67.

The incentive is effective only if wor)ers can control their individual rates of output. ;iece ratesare not effective when output is machine paced. !or e#ample, it is necessary to modifyproduction standard and labour rates if output increase due to improve technology. &f the rate ofoutput depends on group report then the individual incentive plan is appropriate.


44/66

%et, uaranteed wageJ/77

;ay per piece J/

(nits producedJB77 units

tandard unitsJ57units

%CJ WG;;;2(;*(3J /77G/2B77*573J /7

4he 1


45/66

9ours wor)ed J 67 hours

'utput unitsJ@@7 units

tandard unit J@77units

Efficiency ratioJB.B7

ase rateJ/:.0

ase = Efficiency ratioJ/ .107

Total earnedJ/7

The B778 onus ;lan pay proportionately more pay for output above standard.

roup (onus Plan:

roup onus ;lan is used to pay bonus for production plant where output depends on groupperformance. This plan obviously depends on group performance which should be evaluatedafter performing the wor) then company has to determine how much time is saved by the groupto complete the particular tas). Then bonus are paid on that time saved and bonus are given in

the proportion of the base rate of each particular employee or labor.EJ +W G onus

Where EJ roup earnings

+WJ +egular wage 2Actual hour = +ate per hour3

onus J 9our saved = +ate per hour

EJ/67777G 2B7 = B73EJ/6B77

Chapter*B1


46/66

Factory $verhead' Planned4 ,ctual and

,pplied

3+planation:

!actory overhead is generally defined as indirect materials, indirect labor, and all other factorycosts that cannot be conveniently identified with or charged directly to specific jobs, products orfinal cost objectives. $irect material and direct labour are more structured. 'verheads arecontrolled by engineers. 'ther terms used for factory overhead arefactory burden,manufacturing e#pense manufacturing overhead, factory e#pense and indirect manufacturingcost.

Nature of Factory Overhead

Examples:

* Indirect Material

* Indirect Labor

* Other factory related costs

Related Terminologies:

* Factory burden

* Manufacturing expenses

* Manufacturing oerhead

* Factory expense

* Indirect manufacturing cost


47/66

3+planation> 'verhead is a part of indirect e#pense and hence an indirect cost. !actoryoverhead has two characteristics>

B. +elationship to the product> (nli)e direct materials and direct labour overhead is an

invisible part of the finished product. till overhead is a significant part of themanufacturing cost. $ue to increase in automation overhead is getting momentum andta)ing the place of prime cost. Thus direct labor4s percentage has declined.

1. +elationship to the volume of production>'verhead can be fi#ed, variable or semi*variable 2mi#ed3.As volume changes the different overhead cost behavior patterns causeper*unit manufacturing cost to fluctuate considerably.

Nature of Factory Overhead cont.

!haracteristics:

Relationship to the product

Oerhead is an inisible part of the finished product"

#ut$ due to changes %automation& oerhead is getting

momentum and ta'ing the place of prime cost"

Relationship to the olume of production

Oerhead can be fixed$ ariable or semi(ariable

%mixed&"


48/66

3+planation: This rate represents overhead rate. This is not the actual rate- a rate ispredetermined depending on previous e#periences. The rate should be very close to the actual. Apredetermined overhead rate permits a consistent and logical allocation to each unit of output. &talso helps managers in many aspects of their wor).

Concept of

Predeterined /verhead Rate


49/66

3+planation:

The factor measured in the denominator of an overhead rate is called the overhead rate base, theoverhead allocation base, or simply the base. election of the base is important if a cost system is

to provide meaningful cost data. ase is actually the cost driver.ases B, 6 and 0 are calculated in terms of units li)e hours. ases 1 and are calculated in termsof percentages.

Factors considered

#ase to be used:

)hysical output +estimated Factory O, - )O./irect Materials cost ( +estimated Factory O, - /M!./irect Labor !ost ( +estimated Factory O, - /L!./irect Labor ,ours ( +estimated Factory O, - /L,.Machine ,ours ( +estimated Factory O, - M,.Transactions or 0ctiities %0#!& ( +estimated Factory O, - 0ctiity

Leel.


50/66

3+planation:

The primary objective in selecting a base is to ensure the application of overhead in a reasonableproportion to the indirect factory resources used by the jobs, products or wor)s performed. Asecond objective in selecting a base is minimiation of clerical cost and effort. The direct laborcost base and the direct materials cost base tend to cause the least clerical effort, because the datathey re"uire are accumulated for other reasons and thus are readily available. %abour hour and

machine hour bases generally entail additional clerical wor) due to e#tra effort re"uired tocollect the data.

Factors considered cont..

Ob1ecties of selecting bases To ensure the application of oerhead in a reasonable

proportion to the indirect factory resources usedby the 1obs$ products or 2or' performed"

To minimi3e clerical cost and effort" /L! and /M!re4uire less effort 2hereas L, and M, re4uiremore effort"


51/66

Factors considered cont..

Selection of Activity Level

The greater the assumed activity level, the lower

the predetermined overhead rate due to the averagingof fixed portion of overhead

!ifferent Activity Levels

Theoretical Capacity " at #$$% capacity level&ractical Capacity " setting up capacity 'y considering all

uncertainties(xpected Actual Capacity " set on planned production

Normal Capacity " average production over a long time tolevel up all highs and lows

ctors considered cont..

/M!

)rocurement cost

,andling costMaterials

M,

Machining cost

5tility cost

Experts cost

Technology

/L! or /L,6uperision cost

Fringe benefitsLabor

Suita'le )ase!ominated 'yOrientation


52/66

3+planation:

&n calculating a predetermined overhead rate, a great deal depends on the activity level selected.The greater the assumed activity level, the lower the predetermined overhead rate due to theaveraging of fi#ed portion of overhead.

The different activity levels include>

B. Theoretical capacity*&t is the capacity to produce at full speed without interruptions i.e.,at B778 capacity level. This is theoretically possible not practically. ecause to operate amachine certain things li)e the unavoidable interruptions such as the repairs, powerfailure, etc. need to be assured.

1. ;ractical capacity*&t is the capacity that results from the reduction of theoretical capacity.This is caused by e#ternal influences. y considering all the uncertainties this capacity isset up.

The above two levels are used in e#ceptional cases.

. E#pected actual capacity* Corresponds to the amount of output e#pected to beproduced during the period which is determined from the production budget. &t dependson the planned activity.

6. Dormal capacity H Corresponds to the average activity over a time period longenough to level out the highs and lows.


53/66

3+planation:

The first step in calculating the overhead rate is determining the activity level to be used for the

base selected. Then each individual overhead cost item is estimated or budgeted at that activitylevel, arriving at the total estimated factory overhead. !or e#ample,

!actory overhead rate J Estimated factory overhead

Estimated machine hours

Calculation of Factory Overhead *ate

Total FO, Rate 7 + Estimated FO, - #ase .8ariable FO, Rate 7 + Estimated 8FO, - #ase .Fixed FO, Rate 7 + Estimated FFO, - #ase .Total FO, Rate 7 8ariable FO, Rate

9

Fixed FO, Rate


54/66

3+planation:

Actual $actor o!erheadis the amount of indirect cost incurred, while applied $actor

o!erheadis the amount of cost allocated to output. When applied factory overhead is lower thanactual then it is considered as underapplied. When applied factory overhead is higher than actualthen it is said to be as overapplied.

Actual Factory O+

0pplied Factory O,

/ver or nder Applied

Factory /6f Applied

Factory /6

is higher

than Actual

f Applied

Factory /6 is

lower thanActual

Factory /verhead

)ontrol


55/66

3+planation:

!actory overhead control ALC is always debited 2li)e power, wage, and insurance ALC3.pecificaccount is credited 2li)e Accounts payable, prepaid e#penses, accumulated depreciation, cashALC3.

Actual O!erhead:

*actor O!erhead Control "r.

Speci$ic Accounts Cr.

Applied O!erhead:

0ork in Process "r.

Applied *actor O!erhead Cr.

Applied *actor O8 is closed to *actor O8 Control Account

Applied *actor O!erhead "r.

*actor O!erhead Control Cr.

*ecording Actual Applied O+

All actual overheads are accumulated in Factory Overhead Control Account "

Factory Overhead Control !r

Specific Accounts Cr

Factory overhead is applied at predetermined rate "

-or. in &rocess !r

Applied Factory Overhead Cr

Applied Factory O+ is closed to Factory O+ Control Account Applied Factory Overhead !r

Factory Overhead Control Cr


56/66

3+planation:

A debit balance indicates that factory overhead has been underapplied. A credit balance means that factory overhead has been overapplied.

These over or under applied balances are a source of much information needed by managementfor controlling and judging the efficiency of operations and the use of available capacity, and for

calculating predetermined factory overhead rates in subse"uent periods.


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3+planation:

$isposition of the over or underapplied factory overhead is usually "uite simple. 'ver orunder applied amount can be disposed by closing through including it in the profit and

loss account as period cost or can be allocated between inventories and cost of goodssold. &f insignificant, it should be closed directly to &ncome ummary or to Cost of oods old

as a period cost.

eneral management can be held responsible for clerical issues. When responsibility belongs togeneral management>

a #nco,e Su,,ar "r.

*actor O!erhead Control underapplied Cr.

;roduction floor can be held responsible for increase in cost of goods sold. Whenresponsibility belongs to manufacturing management>

b Cost o$ oods Sold "r.

*actor O!erhead Control underapplied Cr.


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Proble,s


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Pae: 12-259 312-1

+e"uirement B

Wor) in process $r. /77

!inished oods $r. /B577

Cost of oods old $r. /77

!actory 'verhead Control Cr. /@777

+e"uirement 1

!actory 'verhead Control $r. /@777

Wor) in process Cr. /77

!inished oods Cr. /B577

Cost of oods old Cr. /77

+e"uirement


!inished oods $r. /B517


!actory 'verhead Control Cr. /@777

Pae: 12-259 12-2B9 P12-1


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Cost of oods old $r. /B7,777

!actory 'verhead Control Cr. /B7,777

+e"uirement 6


!inished oods $r. /077


!actory 'verhead Control Cr. /B7,777

Chapter-1


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*actor O!erhead: "epart,entali@ation

*actor o!erhead:

Total of all costs of manufacturing e#cept direct materials and direct labor, also calledmanufacturing overhead, indirect manufacturing e#penses, factory e#penses, and factory burden.&n addition to indirect materialand indirect labor, it includes such items as depreciation, setupcosts, "uality costs, cleanup costs, fringe benefits, payroll ta#es, and insurance. &t is an costcharged by allocation towor)*in*process 2W&;3.

+eferring Terms of !actory 'verhead>B3 !actory burden

13 &ndirect manufacturing e#penses3 Manufacturing overhead63 'verhead cost03 'verhead variance@3 &ndirect cost

"epart,entali@ation o$ *actor O!erhead:

$epartmentaliation of factory overhead means dividing the plant into parts or sections called

departments or cost centers to which e#penses are charged.More accurate costing of jobs and products is possible because each department will be chargedwith overhead rates which are reasonable for that department. A job or product going throughdifferent departments will be charged with the predetermined rates of those departments. Theoverhead cost, depending upon the type and number of departments through which a productpasses, will be charged, and in this way it will be an easy job to calculate the cost of a product atany stage that may be the re"uirement of the organiation.

There are two main types or class of departments. 'ne is the producing department which isengaged in actual manufacturing of the products by changing the shape, ;roduce !inished oods

from Materials, or by just assembling the parts into a finished product. A few e#amples ofproducing departments are spinning departments, weaving departments, finishing departmentscutting departments etc. The other one is the service department which produces nothing buthelps in production indirectly by rendering services to other departments. A few e#amples ofservices departments are repairing department, purchasing departments, storage departments,cafeteria, inspection etc.
http://www.allbusiness.com/glossaries/indirect-material/4944329-1.htmlhttp://www.allbusiness.com/glossaries/indirect-labor/4943988-1.htmlhttp://www.allbusiness.com/glossaries/indirect-labor/4943988-1.htmlhttp://www.allbusiness.com/glossaries/work-process-wip/4941932-1.htmlhttp://www.allbusiness.com/glossaries/work-process-wip/4941932-1.htmlhttp://www.allbusiness.com/glossaries/factory-burden/4951368-1.htmlhttp://www.allbusiness.com/glossaries/indirect-manufacturing-expenses/4943834-1.htmlhttp://www.allbusiness.com/glossaries/manufacturing-overhead/4944557-1.htmlhttp://www.allbusiness.com/glossaries/overhead-cost/4943518-1.htmlhttp://www.allbusiness.com/glossaries/overhead-variance/4943412-1.htmlhttp://www.allbusiness.com/glossaries/indirect-cost/4944347-1.htmlhttp://www.allbusiness.com/glossaries/indirect-material/4944329-1.htmlhttp://www.allbusiness.com/glossaries/indirect-labor/4943988-1.htmlhttp://www.allbusiness.com/glossaries/work-process-wip/4941932-1.htmlhttp://www.allbusiness.com/glossaries/factory-burden/4951368-1.htmlhttp://www.allbusiness.com/glossaries/indirect-manufacturing-expenses/4943834-1.htmlhttp://www.allbusiness.com/glossaries/manufacturing-overhead/4944557-1.htmlhttp://www.allbusiness.com/glossaries/overhead-cost/4943518-1.htmlhttp://www.allbusiness.com/glossaries/overhead-variance/4943412-1.htmlhttp://www.allbusiness.com/glossaries/indirect-cost/4944347-1.html


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The number and type of departments in which a manufacturing concern will be divided largelydepends on the nature of its business, sie, and re"uirements. A small sie of a manufacturingconcern may be having only one department and big concern may have many departments. utthe number of department should be such that should help for the smooth running of alloperations rather than being a cause of the repetition.

Cost Absorption Staes:

tage*B> &dentify all directly and indirect cost.

tage*1> All direct costs are traced with the product directly.

tage*> All indirect costs are allocated among the production and service department.

tage*6> All service departments costs are transferred to production departments.

tage*0> ;roduction department costs are shared by the products produced by the department.tage*@> ;roduct cost will be a combination of costs calculated in tage*1 and tage*0.

Methods o$ Allocatin Ser!ice "epart,ent Cost to Producin "epart,ents:

There are methods to transfer service department cost to production department. Which are asfollows-

$irect method tep down method

imultaneous method

Direct met/od:H the most widely used method. This method ignores any servicerendered by one service department to another, it allocates each service departmentstotal cost directly to the producing departments. This method does not consider thecost of service department provided to other service department.

Step "et/od:H sometimes called se"uential method of allocation. This methodrecognies services rendered by the service department to another service departmentand is more complicated because &t re"uire a se"uence of allocation. The se"uencetypically starts with the department that renders service to the greatest number otherservice departments and ends with the department that renders service to the leastnumber of other departments. 'nce a service departments cost have been allocated,no subse"uent service department cost are allocated to it. This method partiallyconsider service departments mutual benefits because after distribution of a servicedepartment cost no further distributions are made to that department regardless of theservice it received . &n this method ran)ing of service department should be necessaryand it can be done by considering the cost of department.


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*eciproca+ met/od>* This method allocates cost by e#plicitly including the mutualservices rendered among all departments. The benefit of the department is, it considerthe allocation of cost of service department to another service department. 'n theother hand if percentage form of costs are not given it cannot be applied to allocatethe cost.

MA48:

Iuestion:

B 1 ;B ;1

Cost :177 5777 10777 177

ervice ;rovidedby

B ** B78 678 078

1 678 ** 178 678

Solution:

B 1 ;B ;1

Cost :177 5777 10777 177

ervice ;rovidedby

B * B78 678 078

1 678 * 178 678

"irect ,ethod:

B 1 ;B ;1 Total


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Cost :177 5777 10777 177 @0777

Allocation

B26>03 2:1773 * 177 6777

121>63 * 257773 777 @777

7 7 B177 77 @0777

Step do6n ,ethod:

1 B ;B ;1 Total

Cost 5777 :177 10777 177 @0777

Allocation

126>1>63 257773 @77 B77 @77

B26>03 * 2B7773 677 @777

7 7 B@77 677 @0777

Si,ultaneous ,ethod:

BJ:177G7.61

1J5777G7.BB

BJ:177G7.625777G7.BB3

JV BJ:[email protected]

JVB*.76BJB777


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JVBJBB107

1J 5777G7.B2BB1073

J B7B10

B 1 ;B ;1 Total

Cost :177 5777 10777 177 @0777

Allocation

B2B>6>03 2BB1073 BB10 6077 0@10

126>1>63 6707 2B7B103 1710 6707

7 7 B010 6:0 @0777

Documents

Cost Account Accountinv 441