Accountancy

COST ACCOUNTANCY
SYLLABUS
Topic Page No.

Introduction 1-13
Material 13-27
Labour and Direct Expense 28-35
Overhead 36-44
Marginal Costing 44-48
Process Accounts 48-52
Production Accounts and Cost Sheet 52-53
Question 54-67
EMERGENCE
During the First World War, most of the manufacturing was done on the ―cost plus system. World
War II witnessed a blanket control over prices due to government legislations. This made it imperative for
industrialists to constantly work towards improvement of quality of products, accuracy in tracing costs of
each job/product and to control costs. These objectives were not fulfilled by financial accounting.
COST, COSTING, COST ACCOUNTING AND COST ACCOUNTANCY
It is important to understand that the terms cost, costing, cost accounting and cost accountancy,
which are normally used interchangeably, are not synonyms of each other. The difference can be understood
as follows:
Cost- sacrificed resource to obtain something. In other words the amount of expenditure (actual or notional)
incurred on, or attributable to, a given thing, but the interpretation of the term depends on a number of
factors like nature of business or industry. Moreover, it is difficult to determine an exact cost or a true cost
because no figure of cost is true under all circumstances and for all purposes.
Costing- process of ascertaining costs. In other words the classifying, recording and appropriate allocation of
expenditure for the determination of the costs of products or services; the relation of these costs to sales
values; and the ascertainment of profitability. In general, it is understood as process for determining cost.
Cost Accounting- Process of accounting for costs. It is usually considered as the next step to costing. It
involves meticulously accurate analysing, standardising, forecasting and comparing relevant costing data so
as to interpret and report various concern areas to management. Its scope includes preparation of budgets,
determination of standard costs based on technical estimates, identifying variances and reasons thereof, etc.
Cost Accountancy- practice of costing and cost accounting. It envisages application of costing and cost
accounting in a business setup. It includes determination of selling price and profitability in addition to
forecasting of expenses and future probable incomes. It facilitates management with cost control initiatives,
ascertainment of profitability and informed decision making.
COST ACCOUNTANCY
Besides, costing and cost accounting, the following areas are also covered under cost accountancy: -
Cost Reduction is aimed at achieving real and permanent reduction in the unit cost of goods produced or
services rendered without compromising the quality or suitability
Cost Control refers to search for better and more economical ways of completing the current operations. It
simply identifies and prevents waste within the existing environment.
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Cost Audit includes the verification of cost accounts and a check on their adherence to the cost accounting
principles, plans, procedures and objectives.
OBJECTIVES OF COST ACCOUNTING
Classification of Costs Ascertainment of Determination of Selling Price Ascertainment of Profit

Costs
Measurement and Identification of Means Facilitation of Cost Control and Basis of Managerial
of Increasing Efficiency Cost Reduction Decision Making
COST ACCOUNTING Vs FINANCIAL ACCOUNTING
Sl Basis of Comparison Cost Accounting Financial Accounting

No.
1. Meaning Facilitates determination, tracking Records financial information of the
and controlling of various costs business to reflect the profitability
incurred in the business. and the correct financial position of
the company at a particular date.
2. Objective Reducing and controlling costs Keeping complete record of the
financial transactions, measuring
profit position and financial position.
3. Information All information relating to All transactions which can be
recorded material, labour and overhead, measured in monetary terms.
which are used in the production
process
4. Type of cost Both historical and predetermined Historical cost only
recorded cost
5. Mode of No statutory forms and voluntary Prepared according to accounting
Presentation presentation concepts and conventions, standards
and in compliance with various acts
and statutes
6. Time period of No fixed time period. Reports Financial Statements are prepared at
Reporting prepared as and when required the end of the accounting period,
which is normally 1 year.
7. Users Internal stakeholders like All stakeholders including, both,
management of the organization internal and external parties like
customers, creditors, government,
shareholders, etc.
8. Valuation of Stock At cost Cost or Net Realizable Value,
whichever is less
9. Mandatory No, except for manufacturing Yes for all firms
firms it is mandatory.
10. Profit Analysis Generally, the profit is analysed for Income, expenditure and profit are
a particular product, job, batch or analysed together for business as a
process, thus, enabling whole
management to eliminate less
profitable product lines and
maximise the profits by
concentrating on more profitable
ones
11. Forecasting Forecasting is possible through Forecasting is not at all possible.
budgeting techniques.
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IMPORTANCE OF COST ACCOUNTING
Management Employees Creditors Economy

Aids in price fixation Makes available systems Provides a base for Facilitates control of
of incentives, bonus judgement about the costs
plans etc. profitability and further
prospects of the
company
Helps in preparing Indirectly benefits elimination of wastages
estimate through increase in and inefficiencies
consumer goods and
directly through
continuous employment
and higher
remuneration
Supports channelizing leading to the progress
production on right lines of the industry and in
consequence of the
nation as a whole
Assists in elimination of
wastages
Makes comparison
possible across periods
and across product lines
Provides data for
periodical profit and loss
accounts
Aids in determining and
enhancing efficiency
Helps in inventory
control
Facilitates cost
reduction
Assists in increasing
productivity
.
OBJECTIONS TO COST ACCOUNTING
Sl Point of Objection Brief details

No.
1. Expensive Installation and maintenance of cost accounting system requires resources as
analysis, allocation, absorption and apportionment of overheads require
considerable amount of clerical work. Unless benefits accruing from cost
accounting are more than the costs involved, it should not be sought
2. Different Results The results shown by the cost accounts generally differ from those shown by
from Financial the financial accounts due to a number of reasons
Records
3. Inapplicable Lack of common formats and systems makes it impossible to apply cost
accounting to all industries uniformly
4. Unnecessary Maintenance of cost records leads to duplication of work i.e. preparation of
financial accounts as well as cost accounts. Moreover, costing system itself
does not control costs or improve efficiency. If the management is alert and
efficient, it can control costs without the aid of the costing system.
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5. Complex Cost accounting requires identification, categorization and allocation of the
different types of expenses, which is generally considered as complicated.
6. Luck of Accuracy Use of notional cost such as standard cost, estimated cost hampers the
accuracy of the cost results.
7. Use of Secondary Cost accounting depends largely on financial statements. The limitations and
Data errors in the financial information directly affect the cost results.
These objections are flawed. Most of these drawbacks can be avoided if the cost accounting system is well
designed after taking into account technical details and advice of technical personnel of the business,
setting up an integrated system of accounts and administering the same in an atmosphere of teamwork
and co-operation.
FUNDAMENTALS OF COST, ITS ELEMENTS AND CLASSIFICATION
COST OBJECT- Cost object may be defined as anything for which a separate measurement of cost is desired.
The following examples will further enhance the understanding:
Cost Object Examples

Product Laptop, Television
Service Rail/Air Fare, Banking
Project Building, Bridge constructions
Department HR Department of a company
COST DRIVER- an activity which generates cost. A cost driver triggers a change in the cost of an activity and
is generally used to assign overhead costs to the number of produced units. An activity can have more than
one cost driver attached to it. For example, a production activity may have a machine, machine operator(s),
floor space occupied, power consumed as the associated cost-drivers
COST UNIT- a unit of quantity of product, service or time in relation to which costs may be ascertained or
expressed. The preparation of cost accounts requires selection of a unit for identification of expenditure. The
quantity upon which cost can be conveniently allocated is known as cost unit. For example, in case of
electricity companies cost unit will be per unit of electricity generated and in case of transport companies, it
will be per passenger-km. or per tonne-km.
COST CENTRE- a location, person or item of equipment or group of these for which costs may be ascertained
and used for the purpose of cost control. It can be a department or a sub-department or an item of equipment
or machinery or a group of persons.
PROFIT CENTRE- A profit centre is a business unit or department within an organization that generates
revenues and profits or losses. Here, both the inputs and outputs are measured in monetary terms, and
accounting for both costs and revenues results in automatic computation of profit with respect to this centre,
termed as profit centre
ELEMENTS OF COST
Material Labour Expenses
Direct Indirect Direct Indirect Direct/Chargeable Indirect
Cloth in shirt, printing in Process labour, Salary of foreman, directly, other than
paper in stationery, productive salesmen and director conveniently and direct
books, wood scissors used labour, are some examples of wholly allocated expenses are
in furniture in cutting operating indirect labour to specific cost indirect in
cloth for shirt, labour, centres or cost nature
nails in shoes manufacturing units
or furniture labour, direct
wages etc. are
used
synonymously
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with direct
labour
All Direct costs All indirect costs
Prime Cost (Also called Basic, First or Flat cost) Overheads
Factory/Manufacturing Administrative & Selling and
/Work/Production Office Distribution
Rent, rates, insurance, Rent of office, expenses
power etc. of factory. lighting, heating, incurred for
printing, marketing of a
stationery, etc. commodity,
for securing
orders for the
articles,
despatching
goods sold,
and for making
efforts to find
and retain
customers
ITEMS EXCLUDED FROM COST ACCOUNTS

The cost and the financial accounts do not always give the same results. The reason can be attributes
to certain items which are included in financial accounts but not in cost accounts. These items can be
categorized under three major heads:
Appropriation of profits Matters of pure finance Abnormal gains and losses

Appropriation to sinking funds. (A) Purely financial charges Losses or gains on sale of fixed
assets
Dividends paid. Losses on sale of investments, Loss to business property on
buildings, etc. account of theft, fire or other
natural calamities
Taxes on income and profits. Expenses on transfer of Abnormal items including gains
company‘s office and losses may also be excluded
from cost accounts.
Transfer to general reserves. Interest on bank loan, Alternatively, these may be taken
debentures, mortgages, etc. to Costing Profit and Loss
Account.
Excess provision for depreciation Damages payable.
of buildings, plant etc. and for bad
debts.
Amount written off—goodwill, Penalties and fines
preliminary expenses,
underwriting commission,
discount on debentures issued;
expenses of capital issue, etc.
Capital expenditure specifically Losses due to scrapping of
charged to revenue machinery.
Charitable donations. Remuneration paid to the
proprietor in excess of a fair
reward for services rendered
(B) Purely financial incomes
Interest received on bank
deposits
Profits made on the sale of
investments, fixed assets, etc
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Transfer fees received.
Rent receivable.
Interest, dividends, etc., received
on investments
Brokerage received
Discount, commission received
COMPONENTS OF TOTAL COST

The total cost comprises of four major components:
Prime Cost Factory Cost Office Cost Total Cost/Cost of Sale
all the direct costs, viz. prime cost and factory Factory cost and office & sum total of selling and
direct material, direct overheads administration distribution overheads
labour and direct overheads and the total cost of
expenses production
Also called Basic, First or Also called works cost, Also called
Flat cost production or administration cost or
manufacturing cost the total cost of
production
ADJUSTMENT FOR INVENTORIES
Direct Material Consumed Work Cost Cost of Production of goods sold

= Opening Stock of Direct = Gross Works Cost = Cost of Production
Material + Opening Work – in – progress + opening stock of finished goods
+ Purchases of Direct Material - Closing Work – in – progress – closing stock of finished good
- Closing Stock of Direct Material
COST SHEET
The components of cost can be summarized in the form of a statement, usually referred to as Cost Sheet
Illustration 1
Calculate prime cost from the following information:-
Opening stock of raw material = Rs. 2,50,000
Purchased raw material = Rs. 15,00,000
Expenses incurred on raw material = Rs. 1,00,000
Closing stock of raw material = Rs. 4,50,000
Wages Rs. 9,52,000
Direct expenses Rs. 4,68,000
Solution: -
Particular Debit Credit
Opening Stock of raw material 250000
Add: Purchase 1500000
Add: Expenses of purchases 100000
Raw materials available 1850000
Less: Closing stock of raw material (-)450000
Raw material consumed 1400000
Add: Direct wages on labour 952000
Add: Direct expenses 468000
Prime Cost 2820000
Illustration 2
Compute factory cost from the following details:-
Raw material consumed = Rs 50,00,000
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Direct wages = Rs20,00,000
Direct expenses = Rs 10,00,000
Factory expenses 80% of direct wages
Opening stock of work in progress = Rs 15,00,000
Closing stock of work in progress = Rs 21,00,000
Solution: -
Direct material consumed 5000000
Add: Direct wages 2000000
Add: Direct Expenses 1000000
Prime cost 8000000
Add: Factory expenses (80% of 2000000) 1600000
Gross Factory cost 9600000
Add: Opening stock of work in progress 1500000
Total goods processed during the period 11100000
Less: Closing stock of work in progress (-) 2100000
Factory Cost or Work Cost 9000000
Illustration 3
Prepare cost sheet from the following particulars:
Raw material purchased = Rs. 2,40,000
Paid freight charges = Rs 20,000
Wages paid to labourers = Rs 70,000
Directly chargeable expenses = Rs 50,000
Factory on cost = 20% of prime cost
General and administrative expenses = 4% of factory cost
Selling and distribution expenses = 5% of production cost
Profit 20% on sales
Opening stock (Rs.) Closing stock (Rs.)
Raw material 30,000 40,000
Work in progress 35,000 48,000
Finished goods 40,000 55,000
Solution: -
Add: Expenses of purchases (Freight Charges) 20000
Prime Cost 370000
Add: Factory Overhead (20% of 370000) 74000
Gross Work Cost 444000
Add: Opening Work-in-progress 35000
Less: Closing work-in-progress 48000
Factory cost of work 431000
Add: Office & Administration Overhead 17240
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Production Cost 448240
Add: Opening stock of finished goods 40000
Cost of goods available for sale 488240
Less: Closing Stock of finished goods 55000
Cost of goods sold 433240
Add: Selling & Distribution Overhead 21662
Total Cost of sale 454902
Profit (20% on sale= 454902/80*100) 113726
Sale cost 568628
Illustration 4
Calculate (a) Cost of raw-materials consumed; (b) Total cost of production; (c) Cost ofgoods sold and (d) The
amount of profit from the following particulars :
Opening Stock : Raw-materials 2,00,000 Finished goods 1,60,000
Closing Stock : Raw-materials 1,60,000 Finished goods 2,00,000
Raw-materials-purchased 20,00,000
Wages paid to labourers 8,00,000
Chargeable expenses 80,000
Rent, rates and taxes 2,00,000
Power 96,000
Factory heating and lighting 80,000
Factory insurance 40,000
Experimental expenses 20,000
Sale of wastage of material 8,000
Office management salaries 1,60,000
Office printing and stationery 8,000
Salaries of salesman 80,000
Commission of travelling agents 40,000
Sales 40,00,000
Solution: -
Cost of raw materials consumed 2040000
Less: Sale of wastage of materials 8000
Cost of Direct Material 2032000
Prime Cost 2912000
Add: Factory Overhead
Rent, Rates and Taxes 200000
Power 96000
Heating & Lighting 80000
Insurance 40000
Experimental Expenses 20000 436000
Factory Cost 3348000
Add: Office & Administrative overheads
Office Management Salary 160000
Office Printing & Stationery 8000 168000
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Add: Opening Stock of finished goods 160000
Less: Closing stock of finished goods (-)200000
Cost of Production of goods sold 3476000
Add: Selling and distribution overheads
Salaries of salesmen 80000
Commission to travelling agents 40000 120000
Cost of sale 3596000
Profit after balancing the sale and cost of sale (4000000-3596000) 404000
Sale 4000000
CLASSIFICATION OF COSTS
The basis of classification and the respective costs associated under each of the basis have been presented
below
Time Traceability Association Accounting Analytical and Nature of
Period decision elements
making
Historical Direct Product Capital Opportunity Material
Pre-determined Indirect Period Revenue Sunk Labour
Differential Overhead
Imputed
Out-of-pocket
Change in Controllability Avoidability Functional Other

activity/volume
Fixed Controllable Avoidable Manufacturing Distribution Conversion
Variable Un-controllable Unavoidable Administration Research & Normal
Dev
Semi-variable Selling Pre- Total
production
Historical cost The original cost at the time of a transaction.

The ascertainment of such cost can be done after it has been incurred
It is objective in nature and can be verified after actual operations take place
Pre-determined Cost is the cost computed even before commencement of an operation or activity.
It is ascertained either from past data or as per organisational standards
Product costs costs which become part of the cost of the product rather than expenses of the period
in which they are incurred.
They are included in inventory values
They are treated as assets in financial statements until the goods they are assigned are
sold. They become an expense at that time.
Period costs Costs which are not associated with production.
They are treated as an expense of the period in which they are incurred
Such costs include general administrative costs, salesmen salaries and commission etc.
They are charged against the revenue of the relevant period.
Fixed cost remains static or constant irrespective of changes in output. The fixed costs have
relationship with time
Variable cost changes in direct proportion of change in volume of output
Semi-variable costs neither change proportionately nor remain static for example repairs
Step costs are costs that remain fixed over a range of activity and then jump to a new level as
activity changes
Opportunity represents the cost of an alternative given up when a decision is made, i.e. the next
cost best alternative.
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It is not recorded in books and is used for decision making and comparing alternatives
Sunk costs are historical or past costs and cannot be changed by any decision that will be made in
the future. They are irrelevant for decision making
Differential cost is the difference in total costs between two alternatives.
If the cost of alternative results in increased cost, it is incremental cost and if it is
decreased cost, it is decremental cost
Imputed or are costs which do not involve cash outlay.
hypothetical They are not included in cost accounts but are important for taking into consideration
costs while making management decisions
Out-of-pocket mean the present or future cash expenditure regarding a certain decision which will
costs vary depending upon the nature of decision made. They involve payment to outsiders
and are more relevant for price fixation during recession or when make or buy decision
has to be made
Shut down cost Shut down costs are those costs which have to be arise under all conditions in the case
of stopping manufacture of a product or closing down a department or a division. Shut
down costs are always fixed costs
If the manufacture of a product is stopped, variable costs like direct materials, direct
labour, direct expenses, variable factory overhead will not be incurred.
Unavoidable fixed cost related with the product will be incurred such as rent,
watchman’s salary, property taxes etc.
Some fixed costs need not be incurred in case production is stopped such as
supervisor’s salary, factory manager’s salary, lighting, etc.
Shut down costs, thus refer to minimum fixed costs which are incurred in the event of
closing down of a department or division.
Conversion is the cost incurred by the company in transforming direct materials into the finished
cost. products is known as the conversion cost.
It excludes direct material cost and is usually taken as the aggregate of the cost of direct
labour, direct expenses and factory overheads
Normal cost is the cost which is normally incurred at a given level of output in the conditions in
which that level of output is achieved.
Total cost is the sum total of all costs associated with the product or service, unit or centre
BASICS OF INSTALLATION OF COSTING SYSTEM
The following should be the main considerations to be kept in mind while introducing a costing
system in a manufacturing organisation:
(i) The nature of the product (ii) The size and type of organization (iii) The objective (iv) The technical
details (v) Informative and simple (vi) Method of maintenance of cost records- Integral- no separate sets of
books are maintained for costing transaction but they are interlocked with financial transactions into one set
of books and non-integral- separate books are maintained for cost and financial transactions. At the end of
the accounting period the results shown by the two set of books are reconciled (vii) Flexibility (viii) Accuracy
of data (ix) Current practices.
PRACTICAL DIFFICULTIES
(i) Lack of support from Top Management (ii) Resistance from existing staffs (iii) Non-cooperation at
other levels (iv) Non-Cooperation at other levels and (v) Heavy cost
Cost Estimation is the process of determining the costs of a certain product, job or order in advance
for budgeting, measurement of performance efficiencies, preparation of financial statements (valuation of
stocks, etc.) make or buy decision, fixation of the sale prices of products etc.
Cost Ascertainment is the process of computing costs on the basis of actual data. Hence,
computation of historical costs is cost ascertainment while computation of future costs is cost estimation.
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Cost Allocation is the allotment of whole items of cost i.e. direct expenditure to cost centres or cost
units, such as material, labour and other direct charges.
Cost Apportionment is the allotment of proportions of items of cost i.e. indirect expenditure to cost
centres or cost units, such as canteen expenses, electricity consumption etc.
COST REDUCTION AND COST CONTROL
Basis Cost Control Cost Reduction

Meaning A process of controlling cost by A process resulting in economizing the unit
comparing actual and budgeted cost without negatively impacting the
costs. Helps in maintaining the costs quality of the product.
in accordance with established
standards
Aim Achieving the cost targets achieve Directed to explore the possibility of
objective improving the targets themselves
Saves Total Cost Cost per unit
Reduction in quality Not necessarily No
Nature Temporary effect but continuous Permanent reduction
process
Emphasis on Historical and budgeted costs Present and future costs
End The pre-determined target is No visible end
achieved.
Action type Preventive Corrective
METHODS OF COSTING
Broadly, there are two main methods used to determine costs viz. Job Cost Method and Process Cost
Method. However, the different methods of costing can be further bifurcated
Method of Details
costing
Job This method is used for tracing specific costs to individual jobs especially where
production is not highly repetitive. The cost ascertainment is for specific jobs or orders
which are not comparable with each other. Job costing is commonly used in printing
press, automobile garage, repair shops, etc.
Contract Principally, there is no difference between job and contract costing but it is convenient to
prepare and maintain separate contract accounts when large scale contracts are carried
out at different sites like in the case of building construction, ship builders, etc. A contract
is a big job while a job is asmall contract.
Cost-plus In some contracts, an agreed sum or percentage besides cost to cover overheads and
profit is paid to the contractor. This system of costing is termed as cost plus costing. The
system is used generally where Government is the contractee.
Batch In this method of costing, a batch of similar products is considered as one job and the cost
of the complete batch is ascertained. Thereafter, the cost of each unit is determined.
Pharmaceutical industries, car, toy, brick manufacturing companies etc. generally use this
method.
Process If a product passes through different stages, each distinct and well-defined, with the
output of one process becoming the input for the other, it is desirable to know the cost
of production at each stage.. The system of costing is suitable for the extractive industries,
e.g., chemical manufacture, paints, foods, explosives, soap making etc
Operation The procedure of operation costing is broadly the same as for process costing except that
cost unit is an operation instead of a process. For large undertakings involving a number
of operations, it is important to compute the cost of each operation. For example, the
manufacturing of handles for bicycles will make use of operation costing as it involves
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many operations like cutting steel sheets into proper strips, moulding, machining and
finally polishing
Unit or Under this method of costing, cost of a single product produced by a continuous
Output manufacturing process is computed in addition to amount of each element of cost. The
Or Single method is suitable in industries such as flour mills, paper mills, cement manufacturing etc.
Operating This method is employed to ascertain the cost of services rendered like transport
companies, electricity companies, or railway companies
Departmental Departmental Costing aims to ascertain the cost of output of each department of the
company separately.
Multiple or Application of more than one method of costing for the same product is done under
Composite multiple costing. Herein, the costs of different sections of production are combined after
finding out the cost of every part manufactured. It is applicable where a product
comprises of many assembled parts, e.g., motor cars, engines, machine tools, typewriters,
radios, cycles etc.
TECHINQUES OF COSTING
Technique Details
of costing
Marginal Marginal costing has been defined as ‗the accounting system in which variable costs are
charged to cost units and the fixed costs of the period are written-off in full against the
aggregate contribution. Fixed overheads are excluded on the ground that in cases where
production varies, the inclusion of fixed overheads may give misleading results
Direct All direct costs to operation, process or products, excluding all indirect costs to be written
off against profits in the period in which they arise. The technique considers some fixed costs
as direct costs in appropriate circumstances, thus differentiating it from marginal costing.
Absorption A method of costing by which all direct costs and applicable overheads are charged in
products or cost centres for finding out the total cost of production. Absorbed cost includes
production cost as well as administrative and other costs.
Uniform Uniform costing refers to a technique of costing wherein standardised principles and
methods of cost accounting are employed by a number of different companies and firms,
thus, facilitating inter-firm comparisons, establishment of realistic pricing policies etc.
Activity- a technique of ―cost attribution to cost units on the basis of benefits received from indirect
based activities e.g. ordering, setting up, assuring quality.‖ In other words, it is a method of
assigning organisation‘s resource costs through activities (called cost drivers) to the
products and services. It is generally used by a company having products that differ in
volume and complexity of production for the purpose of apportionment of overhead costs.
SYSTEM OF COSTING
System of Details
costing
Historical Historical costing also known as conventional or orthodox costing determines cost on the
basis of actuals.
It may be in the nature of post costing, wherein cost ascertainment is done after the
production is completed or in the form of continuous costing, wherein cost ascertainment
is done as soon as the job is completed or even when the job is in progress.
Post costing is done by analysing the financial accounts at the end of the period in such a
way as to disclose the cost of the units which have been produced while continuous costing
is usually done by charging the job or product with actual expenditure on materials and
wages and estimated share of overheads, thus, leading to inexact cost.
Post costing does not help in exercising control over cost as it is based on actuals which can
be known only after the activity is over while continuous costing provides prompt cost
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information to the management thereby facilitating timely, necessary corrective action in
time.
Neither provides any standard for judging current efficiency nor does it disclose what the
cost of the job ought to have been.
Standard Standard costing makes use of certain pre-determined standards for cost ascertainment in
advance and requires in force a vigorous system of controlling cost and maintaining standard
cost.
MATERIALS
The first and the most important element of the product cost is material. Material is a substance, an
integral part, from which the product is made. And constitutes a significant component of total cost.
Depending upon the type of product manufactured, the material cost may go up-to 70-80% of the total cost.
Material may be classified in three broad categories
Raw Material Semi-finished Finished

Materials entering the Partly finished materials Products that are used in the
production process at the very purchased from outside or form they are manufactured
beginning in their natural or raw produced within the organization without any further value
form. The materials might be for assembling into a final addition, e.g., an automobile is a
appearing in the final product, for product, e.g., unpolished finished product used directly by
example raw cotton (KAPAS) in furniture purchased from outside the consumer. However, finished
the Production of Cotton textile and polished in-house before components can also be used as
or disappearing in the production sale, clothes for embroidery raw materials or semi-finished
process without forming a work. materials for manufacturing of
tangible part of the output, for the final product e.g. Tyres,
example, Coal batteries, engine, and other
components are finished material
used by automobile
manufacturers.
CLASS OF MATERIALS
Direct Indirect
Direct Materials are those that can be conveniently All those materials that cannot be classified as
and wholly identified with specific units of output/ direct material are called indirect materials.
product/Job/ contract/ processor operations.
These become the part of finished product itself. Indirect materials, generally, do not physically
constitute a part of the product as direct material
do
Such as Leather in leather products, Wood in Materials, though used in production, which have
Furniture production, clothes in shirt making etc. so small or complex consumption that it is not
feasible to try to trace them to specific products.
At times, certain materials of small value though Production supplies & materials which cannot be
traceable to specific cost unit are treated as indirect identified with specific cost units e.g. Grease,
material because the time, energy and cost involved Lubricating oil, scrap, small tools etc. used in a
in record keeping of such small value is not worth factory
achieving a slightly higher accuracy in ascertaining
the cost
Such Glue, nails, nut bolt, needle etc.in furniture
production.
Material, of whatever value, used in contracts
performed as special sales outside the factory are
ascertained as direct materials as they are for
specific contract only
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MATERIAL CONTROL
Material Control is a system which ensures the provision of the right quantity of material of the right
quality, at the right time with a minimum amount of investment. It is a systematic control over the
procurement, storage, and usage of materials so as to maintain an even flow of materials and at the same
time avoiding excessive investment in inventories. The essentials of a good system of material control include
scheduling the requirements of purchasing, receiving, inspecting, maintaining stock records and material
accounting and recording.
OBJECTIVES OF MATERIAL CONTRO
Continuous supply of Optimum investment in Economy in purchasing Strict quality control

materials for materials
uninterrupted flow of
production
Minimum handling cost Control on payment for Authorized issues Minimize wastages:
and time materials
Control on the pilferages Detect the slow moving Control on Regular and dependable
and leakages and other and fast moving misappropriations information about
losses materials materials:
INGREDIENTS/ ESSENTIALS OF SOUND MATERIAL CONTROL SYSTEM
Organization for There should be a proper coordination and internal check between sales,
Material Control production, purchases, receiving, testing, and storage and issue functions.
Material Planning Material requirement should be determined in advance. Through the adoption of
perpetual inventory system, the quantity of material in hand and its value is always
available, which helps in avoiding the situation of over and under stocking.
Material Purchasing A proper system should be laid down for comparing quotations, receiving and
and Receiving inspection of materials and testing the quality of materials received.
Storage of Material Location and layout of the stores should be such that the time and transportation
cost involved in receiving and issue of materials to the users is least.
Issue of Material Materials should be issued only against a proper Material Requisition slip. Surplus
material, if any, should only be returned to the Stores department and direct
transfer of surplus material from one job to another should be discouraged.
Material Accounting A complete record of all purchases, issues, returns, transfers and losses of material
and Reporting should be prepared and an efficient system of internal audit should be established.
INVENTORY SYSTEMS
Periodic Perpetual
In this case the value and amount of inventory is In this system, the quantity of stock in hand and its
found out only at the end of accounting period after value is available after each issue or receipt of
having physical verification of units in hand. material.
This system does not continuously provide The system thus provides a rigid control over the
information regarding quantity and value of stock of materials as physical stock can be verified
material in stock. anytime with stock records
STEPS INVOLVED IN A SOUND MATERIAL CONTROL SYSTEM
Planning Purchasing Receiving Inspection Storage Issue

MATERIAL PLANNING
Suitable classification and Ascertainment of the Adoption of perpetual inventory
Codification of all material items requirement of material in system
to facilitate the other functions of advance
MCS
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Ascertainment of the quantity of Ascertainment of Economic order Adoption of ABC (Always Better
material to be purchased through quantity, Maximum Level, control) analysis for selective and
centralized or through Minimum Level and Reorder level focused control on high value low
decentralized purchasing. for each material separately volume items
VED (Valuable, Essential, and Desirable) analysis can be used for controlling spare parts
Material Requirement Planning (MRP): Automated planning for materials that works on the
requirement of materials by first ascertaining the amounts and timings of finished goods required and then
working back to determine the demand for sub components, raw material etc. at various stages of
productions.
MATERIAL PURCHASING
A separate purchasing department Selection ofJust in Time Purchasing (JIT) aims at

ensures that the right type of materials centralised oreliminating avoidable investment in stocks of
in the right quality and quantity is decentralised raw materials, work in progress and finished
purchased from a right source at the purchasing taking goods. Raw material is procured just when
right price and time into considerationthey are required for production and
the requirement production is fully synchronized with sale
and involvedThis leads to minimization of loses due to
advantages and pilferage, spoilage and obsolescence. This
disadvantages. needs a close relationship with suppliers and
frequent deliveries of small quantities so that
deliveries just precede their use.
The initiation of purchase begins with Exploring the Having selected the supplier, the next step is
the receipt of purchase requirement/ supply sources placing a formal purchase order i.e. The
requisition slip by the purchase and selection of written authorization to the vendor to supply
department from either the stores supplier specific quantity and quality of materials at
department for regular stocks items or stipulated terms and at the time and place
by the departmental head for mentioned.
specialized materials. It is to be signed by the purchase manager.
RECEIVING OF MATERIALS
Verification of the Preparation of material The original copy of The original copy of
contents of the (generally 5 copies) consignment note along material received report
packages with the received report having with a copy of material is sent to the purchasing
consignment notes sent the date of receipts, received report is sent department.
by the suppliers. quantity, and the to the stores
condition of goods. department.
Three copies are sent to Stores /production department sends one copy One copy is retained for
the stores/ production each to the receiving department and to the the future reference.
department along with accounts departments
the materials
INSPECTION OF MATERIALS
confirm that whether It may also send It submits its The original> purchasing
the goods have been samples for reports of department and second >stores
received as per the laboratory test Inspection and or production department and
specification mentioned testing in triplicate third is retained by the
in the purchase order or department for future reference
not
STORAGE OF MATERIALS
15
The store keeper should accept the materials only after verifying the material received with consignment
note, material received report and inspection report.
Classification Classification is the process of arranging items in groups and sub groups according to
and common characteristics
Codification: Materials should be classified according to the nature (subjective Classification) or the
purpose to be fulfilled (objective classification).
The subjective classification is useful for identification, storage, ordering and accounting
of materials. The objective classification is useful for costing purposes
Classification and codification go together. Classification is the first step and Codification
is the next step.
Classification facilitates identification of items on the basis of description while coding is
the process of assigning symbol or code number on the basis of classification
Code is shorter, precise and substitute for long and imprecise description.
The codification can be as per any of the three methods- a) Alphabetical b) Numerical c)
Alphabetical cum Numerical
Bins and Racks The store should be divided into several sections containing suitable container for
particular types of material.
Such containers or place are called as bins or racks. Each bin or rack is properly numbered
and indexed for easy identification
The card is hung outside each bin and whenever the material is received or issued, entry
is made in the card by the store keeper and correspondingly the balance is shown after
every transaction
Bin card consist of three columns only and gives the ready reference for finding the
balance of material available at any point of time
Stores Ledger The cost office maintains a store ledger in which separate card is maintained for each
type of raw material and spare parts in the store
Stores ledger gives the same information as is available in the bin cards except that it
gives the monetary information also, such as the rate, amount of receipts, issues and the
balance of materials
The stores ledger account has three broad sections – receipts with quantity, rate and
amount, issues with quantity, rate and amount and balance with quantity, rate and
amount
Sometimes it also consists of a fourth section-for material ordered that enables planning
of production without unnecessary reference to other books and accounts.
Difference between Bin card and Store Ledger
BIN CARD STORE LEDGER
Maintained by the storekeeper in the store maintained in costing department
Contains only quantitative details of material It contains information both in quantity and
received, issued and returned to stores. cost/Value
Entries are made when transactions take place. It is always posted after the transaction.
Each transaction is individually posted. Transactions may be summarized and then posted.
Inter-department transfers do not appear in Bin Material transfers from one job to another job are
card. recorded for costing purpose
Bin card is not a basic accounting record. Stores ledger is a basic accounting record
Investment in One of the basic objectives of Material Control is to make the best use of every Rupee
materials invested in inventories.
This requires that the right quantity of material should be ordered at the right level of
stock so that the production and sales process goes on smoothly
There should be neither overstocking nor under stocking. This leads to minimization of
material holding related cost
Safety Stock Safety stock serves the same purpose in a business unit as a shock absorber in a vehicle.
16
It maintains a cushion for contingencies arising out of uncertainties on either
demand/supply side.
Higher the degree of uncertainties, greater is the need for safety stock
The balance between the cost of having plenty of safety stocks and the risk of lack of
safety stocks should be exercised.
Economic The order size which results in lowest material related costs for meeting a given material
Order Quantity requirement in a period is EOQ
(EOQ) It refers to the size of the purchase order for a material which results in making material
available in a year at minimum total material related costs
Cost relating to materials is:- 1) Purchase Cost 2) Ordering Cost 3) Storage Cost 4) Stock
Out Cost
Purchase Cost The cost of acquiring the raw material from the supplier is called as Purchase Cost
Ordering Cost All costs involved in placing the order is considered as Ordering Cost. Example:
transportation cost, travelling allowances of purchases officers, telephone bills, printing
and stationery bills etc. are the few examples of ordering costs
It is assumed that ordering cost per order remain constant. Larger the order size, less is
the number of orders and therefore smaller is the total ordering cost in a given period
and vice versa
Storage Cost It includes all costs involved in holding costs example: interest on investment in stocks,
insurance, godown rent, cost of bins, pilferage, spoilage, obsolescence etc..
All these costs are closely related to the number of units held in stores and therefore
larger the order size larger is both the average investing and total storage cost and vice
versa.
Stock-out Cost The cost arising from non-fulfilment of delivery promises is called the Stock Out cost-
like, loss of sales, loss of goodwill, loss of customers, etc.
It is associated with carrying too little inventory
Ordering cost exercises pull in favour of larger order size because that will result in smaller no. of
orders and smaller total ordering cost. Storage cost exercise pull in favour of smaller order size because
smaller order size will result in smaller average inventory and hence smaller storage cost.
EOQ or least cost order size is determined at a point where both these pulls exactly meet each other.
At EOQ,
1. Total Ordering Cost = Total Storage Cost; and
2. The total of the two costs is the least.
So EOQ refers to that size of purchase order for a material which results in making material available
in a given year at a minimum total material related cost (i.e. Ordering Cost + Storage Cost). At any other
quantity of material ordered the total cost of ordering and storage will be more.
Impact of changes in ordering and storage cost
In case the ordering cost per order increases, it will With increase in per unit storage costs it will be
be advisable to reduce the total number of orders profitable to maintain thinner inventories. Thus, the
in the period. size of EOQ will come down
As a result, the size of EOQ will increase. With With decrease in storage cost, the pull of these
decrease in ordering cost, the pull of these costs will costs will have weakened and carrying inventories
get weakened and the size of EOQ will decrease will become less costly. As a result the size of EOQ
will go up.
MATHEMATICAL FORMULATION OF EOQ
2𝑋𝐴𝑋𝑂
Economic Order Quantity (EOQ) = √ 𝐶
A = Annual demand or requirement of the material in units
17
O = Ordering cost per order C = Storage cost per unit of material for a period, say, per annum
ASSUMPTIONS IN EOQ MODEL
Annual requirement of material can be Storage cost per unit of Ordering cost per unit of material
estimated with reasonable accuracy material is constant. is constant.
Daily consumption of materials is more Determination of EOQ is with reference to circumstances
or less constant. prevailing at a point of time or projected for a given period. In
case parameters involved with EOQ calculations change, then
EOQ will also change.
Illustration 1
Purchase Manager has been given an estimated annual purchase requirement of 2000 units of material. Unit
price of material is Rs20. Annual cost of carrying inventory is 25% of cost of material. Ordering cost for an
order is Rs50. What order size would you recommend to the Purchase Manager?
Solution:
2𝑋𝐴𝑋𝑂 2𝑋2000𝑋50 200000
EOQ= √ 𝐶
= √ 25% 𝑜𝑓 20 =√ 5
= √40000 =200
Illustration 2
Calculate the Economic order Quantity from the following information. Also state the number of orders to
be placed in a year. Consumption of materials per annum: 10,000 kg. Order placing cost per order: Rs. 50
Cost per kg. of raw material: Rs. 2 and Storage costs : 8% on average inventory
Solution
2𝑋𝐴𝑋𝑂 2𝑋10000𝑋50 2𝑋10000𝑋50𝑋25 25000000
EOQ= √ 𝐶
=√ 8% 𝑜𝑓 2
=√ 4
=√ 4
= √6250000 =2500
𝑇𝑜𝑡𝑎𝑙𝐶𝑜𝑛𝑠𝑢𝑚𝑝𝑡𝑖𝑜𝑛𝑜𝑓 𝑚𝑒𝑡𝑟𝑖𝑎𝑙𝑠𝑝𝑒𝑟𝑎𝑛𝑛𝑢𝑚𝑁𝑜 10000
No. of order to be placed in a year = 𝐸𝑂𝑄
= 2500
= 4 orders per year
Illustration 3
The average annual consumption of a material is 18,250 units at a price of Rs. 36.50 per unit. The storage
cost in 20% on average inventory and the cost of placing an order is Rs. 50. How much quantity is to be
purchased at a time?
Solution:
2𝑋𝐴𝑋𝑂 2𝑋18250𝑋50 2𝑋18250𝑋50𝑋5 9125000
EOQ= √ 𝐶
= √ 20% 𝑜𝑓 36.5 = √ 36.5
=√ 36.5
= √250000 =500
MAXIMUM LEVEL, MINIMUM LEVEL AND REORDER LEVEL

In order to avoid over and under investment in materials the management should decide the
maximum and minimum quantity of materials to be stored at any point of time. The fixation of maximum
level is necessary in order to avoid unnecessary blocking of capital, losses on account of obsolescence,
deterioration of materials, thefts, storage cost etc.
Maximum Level Re-Order Level + Re- Order Quantity-(Minimum Consumption × Minimum

reorder period)
Minimum Level Reorder Level – (average rate of consumption ×average delivery period)
Re-order Level Maximum daily consumption × Maximum delivery period.
Average Level (Minimum Level + maximum Level)/2 or
Minimum stock Level+1/2(Reordering Quantity)
Danger level Average consumption x Lead time for emergency purchase
Re-Order Quantity Maximum Level – Re-Order Level + (Minimum Consumption ×Minimum Re-
Order period)
Safety Stock Annual Demand / 365 x Max. Lead time – Normal Lead time
Inventory Turnover ratio Material Consumed / Average inventory
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Inventory turnover period 365 / inventory turnover ratio
Total inventory cost ordering cost + carrying cost + purchase cost
Cost of material consumed opening stock + purchase + direct expenses – closing Stock
No. of orders per year Annual consumption / EOQ 8.
Time between two 365 / No. of orders per year
consecutive orders
Illustration 1
Find the Re-order quantity if consumption is 80-100 units per day, delivery period is 3-5 days and maximum
level is 660 units.
Solution:
Re-order Level = Maximum Consumption × Max Re-Order period. = 100×5 = 500.
Maximum Level = Re-Order Level + Re-Order Quantity- (Minimum Consumption × Minimum Re-Order period)
Hence, Re-Order Quantity = Maximum Level – Re-Order Level + (Minimum Consumption ×Minimum Re-Order
period).
= 660-500+ (80×3) = 400 units.
Illustration 2
About 50 items are required every day for a machine. A fixed cost of Rs. 50 per order is incurred for placing
an order. The inventory carrying cost per item amounts to Rs. 0.02 per day. The lead period is 32 days.
Compute: (I) Economic order quantity. (II) Re-Order level.
Solution:
Annual consumption (A) = 50 items x 365 days = 18,250 units
Fixed cost per order (O) or Ordering cost = Rs. 50
Inventory carrying cost per item per annum (C) = Rs. 0.02 x 365= Rs. 7.30
2𝑋𝐴𝑋𝑂 2𝑋18250𝑋50 1825000
EOQ= √ =√ =√ = √250000 = 500
𝐶 7.3 7.3
Re-order level = Maximum usage per day x Maximum lead time = 50 items per day x 32 days = 1,600 items
Illustration 3
A producer has estimated annual requirements of a material as 72000 units. Cost of placing an order is
estimated as Rs 50/order and annual storage cost/unit of material is Rs. 5. Calculate the optimum order
quantity or EOQ. Also show that at EOQ level, total ordering cost is equal to total storage cost
Solution:
2𝑋𝐴𝑋𝑂 2𝑋72000𝑋50 7200000
EOQ= √ 𝐶
=√ 5
=√ 5
= √1440000 = 1200
Total ordering Cost = No. of orders × ordering cost per order.

= Total annual requirements × Ordering cost per order = 72500 x 50 =3000
Order size 1200
Or Total annual requirements = Number of orders x ordering cost per order= 60x50 = 3000
Total Storage Cost = Average Stock x Annual Storage Cost per unit.
= Ordering Size × Storage charge. = 1200 × 5 = 3000
2 2
Therefore, at EOQ = Total Storage Cost (3000) = Total Ordering Cost (3000)
Ascertainment of Slow and Non- moving Materials and Stock Items

Certain materials are slow moving. It means that their consumption rate is quite slow. Sometimes,
due to high value of slow moving and non-moving raw materials, it appears that the concern has blocked
huge sum of money unnecessarily in raw materials and storing costs continue to be incurred in such
materials. To overcome this problem, it is necessary to dispose-off as early as possible, the non-moving items
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or make arrangements for their puff out with the inventories required by the concern. Besides this no new
requisition should be made for the purchase of slow moving items, till the existing stock is exhausted.
Computation of inventory turnover ratio may help in identifying slow moving items.
Use of Control Ratios:
Input Output Ratio: Inventory control can also be exercised by the use of input output ratio analysis.
Input-output ratio is the ratio of the quantity of input of material to production and the standard material
content of the actual output. This type of ration analysis enables comparison of actual consumption and
standard consumption, thus indicating whether the usage of material is favourable or adverse.
Inventory Turnover Ratio: Computation of inventory turnover ratio for different items or material
and comparison of the turnover rates, provides a useful guidance for measuring inventory performance .
High inventory turnover ratio indicates that the material in the question is a fast moving one. A low turnover
ratio indicates over–investment and blocking of the working capital in inventories.
Inventory turnover ratio= Cost of materials consumed during the period
Cost of average stock held during the period
Average stock = ½ (opening stock + closing stock)
Always This system exercises control over different items of stores classified on the basis of the
Better investment involved
Control Usually the items are divided into three categories according to their importance, namely,
(ABC) their value and frequency of replenishment during a period.
Analysis
Cat A Consists of only a small percentage i.e. about 10% of the total items handled by the stores
but require heavy investment about 70% of inventory value, because of their high prices or
heavy requirement or both.
Cat B Relatively less important; they may be 20% of the total items of material handled by stores.
The percentage of investment required is about 20% of the total investment in inventories.
Cat C items does not require much investment; it may be about 10% of total inventory value but
they are nearly 70% of the total items handled by store
Advantages Continuity in production
Lower cost
Less attention required
Systematic working
VALUATION OF MATERIALS
Issuing of In case, the materials have been exclusively purchased for a job or a contract, these can
Material be charged at the same rate at which these materials were purchased.
In case, the raw materials have been issued from the stores it becomes necessary to
decide about the price which is to be charged for a material requisition to be used for
a particular job or a contract.
MATERIAL It is a formal request by the user department to the store keeper for the issue of
REQUISITION material.
This request should be duly signed by an officer authorized to make such request
One copy with material to requisitioning department, One copy retained for making
entry in Bin Card/Stores Ledger and one copy to coting department.
Bill of material A bill of material is a schedule of materials needed for job or unit of production.
It is prepared generally by the production department or an engineering department
as soon as the order is received.
It is prepared for non-standardized jobs where exact material requirement differs from
job to job and there is a need to prepare an advance estimate of cost expected to be
incurred on the job.
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A bill of material serves the purpose of material requisition also and therefore must be
duly authorized
Comparison between bill of material and material requisition
Bill of Material Material Requisition
an authorization for the store keeper to issue a list of materials with complete specification
materials. required for a job, contract or order
can serve as a material requisition cannot serve as bill of material.
helps in exercising quantitative control over issues Does not control material issue.
through material requisition
facilitates preparation of quotation for a job cannot be used for this purpose
contains description of materials required by the contains description of materials required by the
production department production department
In case if the job or process requires longer time for prepared as and when certain materials are
completion, required.
it is prepared in advance
In case system of standard costing is adopted prepared on actual use of material.
prepared based on standard cost
can be made for issues of material over and above
that stated in Bill of material.
Material Return This excess material should be returned to stores without delay
Note Department returning the materials prepares a material return note in triplicate
One copy returned to returning department by store, second > costing department and
third>retained for documentation.
Material Direct transfer of material from one department to another is generally discouraged
Transfer Note due to control considerations.
Where feasible and beneficial, materials may be transferred from one job to another
directly through a Transfer Note
VALUATION OF INCOMING MATERIALS

The incoming materials are to be valued at invoice price subject to trade or quantity discount plus all
expenses incurred up to the point of placing materials in a condition suitable for issuance from the stores.
Expense on (i) Transportation including cartage expenses (ii) Receiving unpacking and inspecting
materials costs (iii) Insurance and storage costs and (iv) Accounting and purchasing costs.
The basic price of Materials is to be adjusted upwards considering the cost of containers
and the discount availed.
The supplier of materials may charge separately for the containers that he has used for
supplying materials
In case these containers are not returnable, their cost must be added to the cost of
materials received.
If the containers are returnable at a price less than the cost charged the difference must
be charged to the cost of material received
Sales Tax, excise duty, custom duty, Insurance etc. are to be added to the purchase price
Discounts Discount is of three types (i) Trade (ii) Quantity and (iii) Cash
Trade Discount: It refers to allowance which is permitted by the vendor to a purchaser
who must resell the articles. The allowance is permitted to compensate the purchaser
for storage, bulk breaking and delivering small quantities.
Quantity Discount: Such discount is allowed by the supplier to the buyer to encourage
him to place large orders. Both trade and quantity discounts should be taken into account
while valuing the incoming materials
Cash Discount: Such discount is allowed by the vendor to the buyer to encourage him to
make prompt payment of invoice. It is given only when the debtor gives the payment
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within the stipulated period. As it is a financial incentive, it is not to be included in valuing
the incoming cost of materials
Methods of The problem of pricing the issues arises only when large quantities of materials
pricing issues purchased at different prices remain in the stock for a period of time making it difficult
to identify which unit of material was purchased at what price and hence which price is
to be charged for which issue.
The pricing of issues only deals with the assigning of pricing to the issues. It has nothing
to do with the actual physical movement of materials.
Objectives of To provide satisfactory basis for the evaluation of closing stock to prepare the final
material accounts.
pricing To charge the cost of material used for measuring the cost of production and cost of sales
METHODS OF PRICING ISSUES
Cost Price Methods Average Price Methods: Market Price Methods Notional Price Methods
Specific price Simple average price Replacement price Standard price
First-in-first-out (FIFO) Weighted average price Realizable price
Last-in-first-out (FIFO) Periodic simple average
price
Base stock Periodic weighted
average price
Moving simple average
price
Moving weighted
average price
Specific Price This method is useful, especially when material are purchased for a specific job or work order,
and as such these material are issued subsequently to that specific job or work order at the
price at which they are purchased to use this method,
It is necessary to store each lot of material separately and maintain its separate account
Advantage Disadvantage
The cost of material issued represents actual and correct difficult to operate, especially when purchases and
cost issues are numerous
best suited for non-standard and specific products
First-In-First- the materials first received in the store are the first issued at their cost price.
Out (FIFO) each issue of material only recovers the purchase price which does not reflect the current
market price
This method is considered suitable in times of failing price because the material cost charged
to production will be high while the replacement cost of materials will be low.
In the case of rising prices, if this method is adopted, the charge to production will be low as
compared to the replacement cost of materials (as in the current period) in future without
having additional capital resources.
Advantages Disadvantages
Simple to understand and simple to operate. If the price fluctuates frequently, this method may
lead to clerical error.
Material cost charged to production represents actual the cost charged to the same job are likely to show
cost a variation from period to period
In the case of falling prices, the use of this method gives In the case of rising prices, the real profits of the
better results. concern being low, they may be inadequate to meet
Closing stock of material will be represented very closely the concern’s demand to purchase raw materials
at current market price at the ruling price
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The old material is issued first leaving less or no
possibility of loss of material due to spoilage or
obsolescence
Last-In-First- The items of the last batch (lot) purchased are the first to be issued.
Out (FIFO) The price of the last batch (lot) is used for pricing the issues, until it is exhausted, and so on.
If however, the quantity of issue is more than the quantity of the latest lot than earlier (lot)
and its price will also be taken into consideration
During inflationary period or period of rising prices, use of LIFO would help to ensure that the
cost of production determined on the above basis is approximately the current one
This method is also useful specially when there is a feeling that due to the use of FIFO or
average methods, the profits shown and tax paid are too high.
The cost of materials issued will be either nearer to and Calculation under LIFO system becomes
or will reflect the current market price. complicated and burdensome when frequent
purchases are made at highly fluctuating rates
The use of the method during the period of rising prices Costs of different similar batches of production
does not reflect undue high profit in the income carried on at the same time may differ a great deal
statement as it was under the FIFO or average method
and thus avoid paying undue taxes to some extent.
In the case of falling prices profit tends to raise due to In time of falling prices, there will be need for writing
lower material cost, yet the finished products appear to off stock value considerably to stick to the principle
be more competitive and are at market price of stock valuation, i.e., the cost or the market price
whichever is lower.
the use of LIFO helps to level out the fluctuations in This method of valuation of material is not
profits acceptable to the income tax authorities.
The closing stock is priced at a very old price which
does not show the correct position of the business
Base Stock A minimum quantity of stock under this method is always held at a fixed price as reserve in
Method: the stock, to meet a state of emergency, if it arises
This minimum stock is known as base stock and is valued at a price at which the first lot of
materials is received and remains unaffected by subsequent price fluctuations
this is more a method of valuing inventory than a method of valuing issued because, with the
base of stock valued at the original cost some other method of valuing issues should be
adopted
This method is not an independent method as it uses FIFO or LIFO. Its advantages and
disadvantages therefore will depend upon the use of the other method viz., FIFO or LIFO
Simple Average Materials issued are valued at average price, which is calculated by dividing the total of all
Price Method units rate by the number of unit rate.
It is calculated as Total of unit prices of each purchase/Total number of purchase
It is useful when the materials are received in uniform lots of similar quantity, otherwise, it
will give wrong results.
When purchase prices do not fluctuate considerably
simple to understand and easy to operate. issue cost does not represent actual cost price
leading to a profit or loss may arise from such type
of pricing
a mixed form of market price and cost price In case the prices of material fluctuate considerably,
this method will give incorrect results.
tendency of equality in different rates is arrived at. The prices of materials issues used are determined
by averaging prices of purchases without giving
consideration to the quantity. Such a price
determination is unscientific
difficult to calculate the average again and again.
23
Periodic Simple This method is similar to simple average price method except that the average price is
Average Price calculated at the end of the concerned period.
the price paid during the period for different lots of materials purchased are added up and
the total is divided by the number purchases made during the period.
The rate so computed is the used to price all the issues made during the period, and also for
valuing the closing inventory of the period.
simple to operate, as it avoids calculation of issue price cannot be applied in jobbing industry where each
after every receipt. individual job order is to be priced at each stage of
can usefully be employed in costing continuous its completion.
processes where each individual order is absorbed into unscientific as it does not take into consideration the
the general cost of producing large quantities of articles quantities purchased at different prices.
suffers from all those disadvantages of simple
averages cost method
Weighted This method gives due weights to quantities purchased and the purchase price, while,
Average Price determining the issue price
Method The average issue price here is calculated by dividing the total cost of materials in the stock
by total quantity of materials prior to each issue i.e. Total of unit prices of each
purchase/Total quantity of purchase
Smoothens the price fluctuations of material purchase Material cost does not represent actual cost price
Issue prices need not be calculated for each issue unless and therefore, a profit or loss will arise out of such
new lot of materials is received a pricing method
Scientific one as after reaching the bin, the new and old If the material is purchased again and again at short
material mix up, i.e., there remains no separate existence intervals, the calculation work increases.
in the bin, of the material separately purchased on the
different dates
Required less calculation As the material is issued at average price, the
a mixed form of market price and cost price production cost cannot be correctly estimated.
Closing stock is shown at appropriate price which can be
used in financial accounts also.
Periodic This method is like weight average price method, except that the calculations of issue prices
Weighted are made periodically (say, a month).
Average Price The rate so arrived is used for the issues made during that period and also for valuing the
Method inventory at the end of the period.
overcomes or events out the effect of fluctuations. This method is not suitable for job costing because
each job is to be priced at each stage of completion.
all the advantages of the simple weighted average price suffers from all those disadvantages of weighted
method averages cost method
Moving Simple Under this method, the rate for material issues is determined by dividing the total of the
Average Price periodic simple average prices of a given number of periods by the numbers of periods.
Method For determining the moving simple average price, it is necessary to fix up first period to be
taken for determining the average
evens out price fluctuations over a longer period, thus A Profit or loss arises by the use of moving simple
stabilizing the charges to work-in-progress average cost
Moving Under this method, the issue, rate is calculated by dividing the total of the periodic weighted
Weighted average price of a given number of periods by the number of periods
Average Price
Replacement price at which it is possible to purchase an item, identical to that which is being replaced or
Price Method: revalued.
Under this method, materials issued are valued at the replacement cost of the items
24
The product cost under this method is at current market price
Useful to determine true cost of production and to value material issues in periods of rising
price
Product cost reflects the current market prices and it can Requires the determination of market price of
be compared with the selling price material before each issued of material.
Realizable Price Realizable price means a price at which the material to be issued can be sold in the market
Method This price may be more or may be less than the cost price at which it was originally purchased.
Standard Price materials are priced at some predetermined rate or standard price irrespective of the actual
Method purchase cost of the materials
Standard cost is usually fixed after taking into consideration (i) Current prices (ii). Anticipated
market trends and (iii) Discount available and transport charges etc.
Simplifies the task of valuing issues of materials does not reflect the market price and thus results in
a profit or loss.
Facilitates the control of material cost and the task of fixation of standard price becomes difficult when
judging the efficiency of purchase department. prices fluctuate frequently
Reduces the clerical work
TREATMENT OF NORMAL AND ABNORMAL LOSS OR MATERIALS
Normal Loss Abnormal Loss

should be transferred to Overhead Control Account should be written off to the Costing Profit and Loss
account.
an alternative method is used to price per unit of
material so as to cover the normal loss
Material Losses
Waste The portion of basic raw materials lost in processing having no recoverable value
Waste may be visible – bits and pieces of basic raw materials – or invisible- e.g. disappearance
of basic raw materials through evaporation, Smoke etc.
Normal- absorbed in the cost of net output
Abnormal- transferred to the costing Profit and loss Accounts
Scrap The incidental residue from certain types of manufacture, usually of small amount and low
value, recoverable without further processing.
When value is negligible-excluded from the cost i.e. the cost of scrap is borne by good units
and income scrap is treated as other income
When the scrap value is not identifiable to a particular process or job- The sales value of scrap
net of selling and distribution cost, is deducted from overhead to reduce the overhead rate.
A variation of this method is to deduct the net realizable value from material cost.
When scrap is identifiable with a particular job or process and its value is significant- The scrap
account should be charged with full cost. The credit is given to the job or process concerned.
The profit or loss in the scrap account, on realization, will be transferred to the costing profit
and loss account.
Spoilage It is the term used for materials which are badly damaged in manufacturing operations and
they cannot be rectified economically and hence taken out of process to be disposed of in
some manner without further processing
When spoiled work is the result of rigid specification, the cost of spoiled work is absorbed by
good production while the cost of disposal is charged to production overhead
Normal- (i.e. which is inherent in the operation) costs are included in costs either charging
the loss due to spoilage to the production order or by charging it to production overhead so
that it is spread over all products
25
Abnormal spoilage (i.e. arising out of causes not inherent in manufacturing process) is
charged to the costing profit and loss account.
Defective those units or portions of production which can be rectified and turned out as good units by
application of additional material, labour or other service
Goods and serviceable parts should be separated and taken into stock
Parts which can be made serviceable by further work should be separated and sent to the
workshop for the purpose and taken into stock after the defects have been removed
Parts which cannot be made serviceable should be collected in one place for being melted or
sold.
Defectives are generally treated in two ways- either they are brought up to the standard by
incurring further costs on additional material and labour or where possible, they are sold as
inferior products (seconds) at lower prices
when the defectives caused in one department are reflected only on further processing, the
rework cost are charged to general overhead
If the department responsible for defectives can be identified then the rectification costs
should be charged to that department;
If defectives are abnormal and are due to causes beyond the control of organization, the
rework cost should be charged to costing profit and loss account
Obsolete The loss in the intrinsic value of assets due to its supersession
Where it is a spare part or a component of a machinery used in manufacture and that
machinery becomes obsolete
Where it is used in the manufacture of a product which has become obsolete
Where the material itself is replaced by another material due to either improved quality or
fall in price
The loss arising out of obsolete materials on abnormal loss does not form part of the cost of
manufacture.
Illustration 1
Draw a stores ledger card recording the following transaction that took place in a month under FIFO & LIFO
methods:
2018 1st Jan Opening stock 200 pieces @Rs. 2 each

Purchases- 5th Jan 100 pieces @Rs. 2.20 each, 10th Jan 150 pieces @Rs. 2.40 each, 20th Jan 180 pieces @Rs.
2.50 each
Issues- 2nd Jan 150 pieces, 7th Jan 100 pieces, 12th Jan 100 pieces and 28th Jan 200 pieces
Solution
Store Ledger card (FIFO Method)
Date Receipt Issue Balance
Qty Rate Amount Qty Rate Amount Qty Rate Amount
OB 200 02 400
02.01.18 150 2 300 50 02 100
05.01.18 100 2.2 220 50 02 100
100 2.2 220
07.01.18 50 2 100
50 2.2 110 50 2.2 110
10.01.18 150 2.4 360 150 2.4 360
12.01.18 50 2.2 220
50 2.4 120 100 2.4 240
20.01.18 180 2.5 450 180 2.5 450
28.01.18 100 2.4 240
CB 100 2.5 250 80 2.5 200
26
Store Ledger card (LIFO Method)
OB 200 02 400
02.01.18 150 2 300 50 02 100
05.01.18 100 2.2 220 50 02 100
100 2.2 220
07.01.18 100 2.2 200 50 2 200
10.01.18 150 2.4 360 150 2.4 360
12.01.18 100 2.4 240 50 2 100
50 2.4 120
20.01.18 180 2.5 450 180 2.5 450
28.01.18 180 2.5 450
CB 20 2.4 48 50 2 100
30 2.4 72
Illustration 2
Prepare a priced Ledger sheet, pricing the issues at(a) Simple average rate : (b) Weighted average rate
Purchase- 10.1.18 (200 @2), 15.1.18 (300 @2.4), 18.1.18 (250 @ 2.5)
Issue- 16.1.18 (250), 20.1.18 (200)
Store Ledger card (SIMPLE AVERAGE)

Qty Rate Amount Qty Rate Amount Qty Amount
10.01.18 200 2 400 200 400
15.01.18 300 2.4 720 500 1120
16.01.18 250 2.2 550 250 570
18.01.18 250 2.6 650 500 1220
20.01.18 200 2.5 500 300 720
(1) 2+2.4/2= 2.2 (2) 2.4+2.6/2=2.5
Store Ledger card (WEIGHTED AVERAGE)

10.01.18 200 2 400 200 2 400
15.01.18 300 2.4 720 500 2.24 1120
16.01.18 250 2.24 560 250 2.24 560
18.01.18 250 2.6 650 500 2.42 1210
20.01.18 200 2.42 484 300 2.42 726
LABOUR
Labour is the second important element of production. The role of labour in production cannot be
overlooked in spite of the fact that machines are being used a vast scale these days. The efficiency of
production department is based on the skill of workers. In the absence of skilled workers product cannot be
manufactured. Workers convert raw materials into finished goods. Skilled worker helps in decreasing the
cost of product besides increasing the quality and quantity of the production.
27
TYPES OF LABOURS
Direct Indirect
Labour which can be conveniently identified with a Such cost cannot be conveniently identified with a
particular cost centre or cost unit, the remuneration specific job, product or process but can be
which is payable to direct workers is direct wages. apportioned to or absorbed by cost centres or cost
units. The remuneration which is paid to indirect
workers is known as indirect wages
For example wages paid to machine operators, For example Services of supervisor, inspector,
furniture maker, shoe maker, tailor etc. foreman, time keeping officers, cleaners, general
managers etc.
While in some cases it is very complicated to differentiate between direct and indirect labour. A
worker might be engaged in doing a particular work concerned with manufacturing commodity and after an
hour the same worker might be placed on a different job say time-keeping, repairing etc. In such situation,
initial one hour will be treated as direct and later hours will be treated as indirect
Difference between Direct Labour and Indirect Labour
Basis Direct Labour Indirect Labour

Identification can be really identified with a particular cannot be directly identified with a particular
job or work order job or work order
Variability changes directly with the volume of may or may not changes directly with the
output volume of output.
Treatment Treated as Prime Cost Treated as a part of Overhead
CONTROL OVER LABOUR COST
Personnel Engineering Time-Keeping Payroll Cost-Accounting

Department Department Department Department Department
Personnel responsible for hiring the right person at the right place at the right time
Department to train them before sending them to the workplace
Whenever a new worker is employed, the Personnel Department sends a notification to
the time keeping department and paymaster department for their compensations.
The personnel department first receives the following requisition slip from the concerned
departments who are having need of the workforce.
Availability of the employees in the required category is checked.
If required employees are not available in the organisation then action will be taken to
recruit more employees.
Engineering committed to provide congenial work environment to its employees also controlling over
Department the production methods and processes followed in the various departments
majorly involved in planning and conducting motion studies, work studies, time studies,
job analysis and setting piece rates, providing safe and efficient working conditions,
supervising production activities in various production departments
Time- plays important role in the accounting and controlling of labour cost
Keeping main function of this department is to accurately record the time spent by each worker on
Department the work place and it will be forwarded to the pay-master department
Some most prevalent methods are 1. Attendance register 2. Token or disc method 3. Time-
recording clocks 4. Biometric time clock
Payroll The payroll department is concerned with the compensation of the workers.
Department This department takes data from the time keeping department and computes the salaries
of the employees at the end of every month
the final destination of the all types of costs related to labour be it direct cost or indirect
cost
28
Cost- For the purpose of collecting the data it makes use of clock cards, daily or weekly time
Accounting sheets, payroll sheets etc
Departmen collates, analyse and present a report reflecting the true picture of direct labour cost and
indirect labour cost in front of management to take decision
Work Study a technique of management which involves analytical study of jobs/operation with the
object of determining the exact operations to be performed and measuring the work
content of jobs
The object of work study is overall improvement by saving time, reducing loss of materials,
developing new methods of work, etc..
Time Study Determines standard time for an operation by direct time. It takes place with the help of
stop watches to fix standard time for the job/operations.
While fling standard time necessary time for rest is also added.
Time study is very useful in standard costing and it is a base of incentive schemes for
workers.
The basic purpose of time study is to find out required time for performing the
job/operations.
Motion Motion study is conducted by recording the movement of the workers and machines on
Study the job.
When a worker is required to perform operations at work during which his body is moving
such as movement at hands, eyes and neck
With the help of this study such movements can be minimized by proper arrangement of
light, place of machines and height of chairs to reduce fatigue and tiredness.
Job Analysis includes preparation of a description and classification of each job with a list of
qualification needed by the workers
It is the determination of the tasks which comprise the job and the sills, knowledge,
abilities and responsibilities required of the workers for successful performance and which
differentiates the job from all others.
Merit Rating Merit rating is the qualitative and quantitative assessment of the worker's personality and
performance
Merit rating is based on following factors of workers (a) Quality of work, (b) Quantity of
work, (c) Attendance, (d) Discipline and cc-operations, (e) Job knowledge, (f) Initiatives, (g)
Reliability and responsibility, and (h) Aptitude of work.
IDLE TIME, HOLIDAY PAY, OVERTIME ETC
Idle Time wastage of time during working hours is considered as idle time
Idle time is the time during which the workers were idle.
Generally, lack of materials lack of machine, lack of power, lack at instructions,
mismanagement, transfer of workers and employer- employee-tussle are treated as major
causes of idle time
Idle time may be classified into two categories normal and abnormal
Normal Idle Time Abnormal Idle Time
Refers that any loss of time is inherent/inevitable Whereas, abnormal idle time indicates the idle time
in every situation which cannot be avoided. noticed is an excess of normal idle time
can be reduced and avoided by maintaining the
operational efficiency in the organisation
Any cost which is associated with the normal idle Reasons
time mostly fixed in nature Improper planning.
Reasons Lack of planning and co-ordination.
Time taken for personal affairs. Power failure.
Time taken for lunch tea breaks. Time lost due to delayed instructions.
Time lost due to inefficiency of workers.
29
Time taken for obtaining work. Time lost due to non-availability of raw materials,
Time taken by the workers to walk between spare parts, tools etc. Time lost due to strikes, lock
factory gate and place of work. outs and lay-off.
Abnormal idle time can be classified into two
categories controllable and uncontrollable
Charged to factory overhead or to the job by charged from costing profit and loss account.
inflating the job rate
Overtime Extra time spent by the workers on the job than the normal or pre-fixed working hours.
The rate of wages during such additional hours is higher than normal wages so overtime is
sectioned in specific circumstances only and these are a) Making up time lost b) Seasonal
rush of work c) Completion of job within a specified period d) Shortage of labour or some
workers on leave e) To utilize machine and infrastructure to the maximum extent
Cost of product would increase because of extra payment for over time spent by the
workers
Workers might not work efficiently during their normal working hours in lieu of earning
extra money through overtime premium.
If the over-time has been spent by the worker for the completion of a critical project on
the demand of the customers and associated to a particular job only then it will be treated
as direct expense and charged to the job itself
If over-time has been spent by the worker because of abnormal reasons like Machine
break-down, shortage or raw material etc. should be treated as an abnormal expense and
it will be charged to costing profit and loss account
Holiday Pay Worker are paid for the holidays on weekend, festivals or on gazetted offs.
Their wages are treated as indirect cost and charged from the factory overheads account
and thus it will be recovered from the production
LABOUR REMUNERATION SYSTEM

The remuneration of employees is a reward of services rendered by him. It is an agreement among
employer and employee. Remuneration is the reward for labour and services, whereas incentive is the
stimulation of effort and effusiveness by offering monetary inducement or extra facilities. Labour cost plays
an important role in total cost. It is based on efficiency and experience of workers. Many times labour cost
forming 60 per cent to 70 per cent part of total cost.
Low wages do not necessarily mean low costs; in fact, it is widely recognized now that efficiently
organized factories may pay the highest, and yet have lowest labour costs
Normal Incentive System Group Bonus

Time Wages Plan Taylor’s Differential Piece Work
Piece Wages Plan Halsey Premium Plan
Merric's Plan
Rowan Bonus Plan
Emerson's Efficiency Plan
Gantt Task and Bonus Plan
Time- Based on the hours spent by the workers on the job under time wage payment system.
Wages Plan
Workers are self-motivated to stay on the work difficult to make distinction between efficient and
there is no need to force them inefficient workers
This system is easy to understand by the labour Workers concentrate more on hour’s completion
and easy to implement by the employer rather than work which hampers the productivity of
the organisation
30
workers get fixed monthly, daily, hourly wage restricts the flexibility of labour also even in case of no
rates for smooth functioning of their life work is assigned to them but they are liable to
complete the time
This method is comparatively cheaper than the Discontentment among the efficient workers for their
other methods efforts are not properly rewarded.
affects the efficiency of the employees. They become
laggards over a period of time
Piece-wage Compensation is paid on the basis of units produced by the workers rather time spent by
Plan the workers on the workplace.
workers are given a target for production
Less than target-No payment, Up-to the target-Standard rate and above target-Higher rate
Wages = Number of units X per piece wage rate
close supervision is not needed Quality of the product is likely to be compromised.
suitable in the highly demanding industries Maintaining the record of production by each worker
is difficult on the daily basis
Suits industry where more emphasize is given on Maintaining discipline in working regarding entry and
the quantity than quality. exit time is also difficult under this system
Labours are self-motivated to work and complete In the anxiety of producing more and more goods
the targets labours may damage the machines and waste the raw
This method of wage payment increases the material.
efficiency and productivity of the workers
Labours get flexible work environment
Group Group bonus refers to bonus paid for the collective efforts made by group/team of workers.
Bonus or This scheme is generally introduced where individual efficiency cannot be established for
Piece Plan the payment of bonus.
If any incentive is to be offered, it should be offered to the team as whole. The quantum of
bonus is determined on the basis of the production
more equitable than time wage system. Since the workers are paid for the quantity of units
The workers are induced to work hard with the produced irrespective of the time they have spent,
result that production is enhanced with reduced they take no precaution to improve the quality of
cost of production products.
The total labour cost per unit or job is accurately Rough use of tools and machine at the workplace by
ascertained if this system is employed. workers.
Speedy and excessive work, in a bid to earn more,
proves injurious to the health of the worker
Factors before Introducing Incentive Plans
Stringent Quality Stringent Quantity Fixation of Performance No Cost

Control Measures Measurement Standards Discrimination Benefit
Techniques Analysis
Taylor’s This plan was developed by the father of scientific management, F.W. Taylor.
Plan This plan is based on time and motion study and the wages is paid according to the capacity of
workers
Below 100% Capacity-80 % of Normal Rate
100% or More capacity-120% of Normal Rate
Simple to understand and operate Quite harsh to workers.
Good and attractive for efficient workers This system is no longer in use in its original form.
31
It has a beneficial effect where overheads are high As light reduction in output may result in a large
as increased production has the effect of reducing reduction in the wages of the workers.
the incidence per unit of production
Halsey’s This plan was developed by F.A. Halsey an American Engineer in 1891.
Plan If there is no saving on this standard time allowance, the worker is paid only his day rate
He gets his time rate even if he exceeds the standard time limit, since his day rate is guaranteed
If he does the job in less than the standard time, he gets a bonus ranging from 30% to 70%
percent of wages for time saved by workers.
Total Wages = (Actual Hour worked X Rate per Hour) + (Time saved X Rate per hour X 50/100)
Time rate is guaranteed while there is opportunity for Incentive is not that much strong as with piece rate
increasing earnings by increasing production system. In fact the harder the worker works, the
The system is equitable in as much as the employer lesser he gets per piece.
gets a direct return
Merrick’s This is a updated form of Taylor's plan. Taylor's plan gives two rates while Merrick's plan gives
Plan three rates.
Upto 83.33% -Ordinary piece rate
83.33% to 100% -110% of piece rate
Above 100% -120% of piece rate
Rowan’s In 1901, this plan was developed by James David Rowan
Plan This plan is similar to Halsey Premium Plan. But, the calculation of bonus is made on the
proportion of time taken and time allowed to him. In this plan the bonus is calculated as
Actual Time / Standard Time x Time saved x Rate per Hour
Total Wage=(Actual Time x Rate)+ (Actual Time / Standard Time x Time saved x Rate per Hour)
Emerson’s This plan was developed by Emerson.
Plan Under this plan, minimum wages is guaranteed but, bonus is paid on the efficiency of workers.
There are several slabs for efficient workers
Up-to 2/3rd of efficiency-No bonus
Between 2/3 and 100% of efficiency-20% bonus
Above 100% of efficiency- 20% Bonus + 1% bonus for each increase of 1% in efficiency
Gantt’s Provides a combination of time and piece work system.
Plan In this incentive plan, guaranteed payment will be made according to the time and if the
standards are achieved or exceeded, the payment to the concerned worker is made at a higher
piece rate.
Output below standard-Guaranteed time rate
Output at standard- Time rate + bonus of 20% (usually) of time rate.
Output above standard- High piece rate on worker’s whole output. It is so fixed so as to include
a bonus of 20% of the time rate.
Illustration 1
When standard output in 40 units per hour and standard rate Rs. 4 per hour.
The details of output of different workers in a day of 8 hours are Ram- 240 units, Shyam- 360 unit and Mohan-
400 units.
Calculate the wages under Taylor’s Differential Piece Rate System
Solutions:
Taylors gave two rate of 80% and 120% of normal piece rate for workers those output are below 100% and
those output are 100% or more respectively.
When Standard output in an hour is 40 then the standard output of a day will be 40x8= 320.
Piece rate is 4/40=.10
Now the efficiency
Ram 240/320= 75%, Shyam 360/320=112.5% and Mohan 400/320=125%
32
Accordingly the differential piece rates will be
Ram = .10x80% =0.08, Shyam and Mohan= .10X120%=0.12
So the wages will be Ram 240 x.08=19.2, Shaym 360 x 0.12=43.2 and Mohan 400 x .12=48
Illustration 2
Calculate the amount of total wages under Halsey Premium Plan from the following information:
Standard Output in 10 hours : 120 units
Actual Output in 8 hours : 132 units
Wages Rate per hour : Rs. 15
Solution
As per Halsey plan
Total Wages = (Actual Hour worked X Rate per Hour) + (Time saved X Rate per hour X 50/100)
= (8 x 15) +[ (10-8) x 15 x 50/100)= 120 + (2 x 15 x 50/100)= 120+15= 135
Illustration 3
Standard Output: 150 units per day of 8 hours
Piece rate= 0.50 per unit
Output of A 100 units, B 135 units and C 180 units.
Calculate the wages under Merrick’s Differential Plan
Solution
Meerick gave three different piece rate according to the efficiency of the worker
Upto 83.33% -Ordinary piece rate
83.33% to 100% -110% of piece rate
Above 100% -120% of piece rate
Efficiency of the workers are
100 135 180
A= x100=66.67%, B= x100=90% and C= x100=120%
150 150 150
So, the wages will
A=100x0.5 (100% of 0.5)= 50, B= 135x.55 (110% of 0.5) =74.25 and C=180x0.6 (120% of 0.5)=108.
Illustration 4
Calculate the amount of total wages under Rowan Plan from the following information:
Standard Output in 10 hours : 120 units
Actual Output in 8 hours : 132 units
Wages Rate per hour : Rs. 15
Solution
As per Rowan’s plan
Total Wage=(Actual Time x Rate)+ (Actual Time / Standard Time x Time saved x Rate per Hour)
8
= (8 x 15) + (10x2x15) =120+24 =144
Illustration 5
Calculate the amount of bonus and total wages under Emerson plan with the help of following information:
Standard Output in 10 Hours : 120 units
Actual Output in 10 hours : A- 75 units B- 110 units and C- 132 units
Wages Rate: Rs 15 per hour
Solutions:
As per Emerson’s plan
Up-to 2/3rd of efficiency-No bonus
Between 2/3 and 100% of efficiency-20% bonus
Above 100% of efficiency- 20% Bonus + 1% bonus for each increase of 1% in efficiency
33
So the efficiencies of worker determined are
75 110 132
A- 120 𝑥100 =62.5% (below 66.7%), B-120 𝑥100 =91.67% (between 66.7 and 100%), C-120 𝑥100= 110%
Now wages will
A-10x15= 150, B-10 x15 + 20% as bonus= 150+30 = 180, C-10x15 + Bonus [20%+ 10% (110%-100%)]=
150+30%= 150+45= 195
Illustration 6
In a factory the standard time allowed for completing a given task (50units), is 8hours.
The guaranteed time wages are 20 per hour.
If a task is completed in less than the standard time, the high rate of 4 per unit is payable. Calculate the wages
of a worker, under the Gantt system, if he completes the task in
(i) 10 hours (ii) 8 hours and (iii) in 6 hours.
Solution
As per Gantt’s Plan
Output below standard-Guaranteed time rate
Output at standard- Time rate + bonus of 20% (usually) of time rate.
Output above standard- High piece rate on worker’s whole output. It is so fixed so as to include a bonus of
20% of the time rate.
In given the workers who completes the task in 10 hours is below standard so will be paid only the guaranteed
time wage i.e. 10 x 20= 200 (20 per hour)
The worker who completes the task in 8 hours is at standard so will be paid the guaranteed time wage for
actual hours taken plus a bonus of 20% of time rate i.e. (8 x 20)+20%= 160+32= 192 (24 per hour)
The worker who completes the task in 6 hours exceeds standard fixed so will be paid with piece rate which
is higher the time rate and applicable bonus i.e. 50X4= 200 (33.33 per hour)
LABOUR TURNOVER
Labour Turnover may be defined as "the rate of changes in labour force, i.e., the percentage of
changes in the labour force of an organization during a specific period. Frequent and higher labour turnover
rate will affect the efficiency of the workers and operational efficiency of the firm as well. In case of high
labour turnover rate cost of recruitment and training will increase and at end will impact to the overall
profitability of the firm. The determinant result of labour turnover is expressed in terms of percentage
CAUSES OF LABOUR TURNOVER

Reasons related to Employer Reasons related to Employee Casual Reasons
unhealthy environment nature and efficiency of permanent disability of employees
employees
law wages Retrenchment due to domestic problems and family
inefficiency responsibilities
lack of changes for promotion disciplinary action retirement due to ill health or old age
wrong behaviour of employer change for betterment marriage of employee, pregnancy
towards employees. etc.
Avoidable Causes Unavoidable Causes

Problem in the work environment. Exit of employee due to death or retirement
Workers’ dissatisfaction with the job or the boss Employees left the job because of relocation
Dissatisfaction with salary and incentives Dismal or discharged due to
inefficiency/disciplinary
Lack of proper appraisal system. Employees’ personal reasons.
Biased attitude of the supervisors. Better option available outside to the employees.
34
Bad Effect of Labour Turnover
High labour turnover leads to increase in the cost of production and declines productivity by the following
ways:
Cost of selection and training Leads to more wastage of Due to lower productivity of new
increase which result in the materials, scrap, defective work recruits who may not have the
increment of cost and monitoring cost similar experience as a workman
who left.
leads to less production because leads to reduction in sales Regular flow of production gets
of the time lack between because of loss of contribution disturbed because of frequent
separation and recruitment of and goodwill. changes in labour force.
new employees
LABOUR TURNOVER RATES

Separation shows number of worker who separated from factory during a particular period
Method 𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑠𝑒𝑝𝑎𝑟𝑎𝑡𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑
Calculation 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑 x100
Average No. of worker is
𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑖𝑛 𝑏𝑒𝑔𝑖𝑛𝑛𝑖𝑛𝑔+𝑁𝑜.𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑎𝑡 𝑡ℎ𝑒 𝑒𝑛𝑑 𝑜𝑓 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑
2
Replacement labour turnover will be measured by taking into consideration the number of employees
Method replaced during a period over average workers during the period
𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑟𝑒𝑝𝑙𝑎𝑐𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑
Calculation 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑 x100
Flux Method labour turnover will be measured by taking into consideration both the number of
employees separated and replaced during a period over average workers during the
period.
𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑠𝑒𝑝𝑎𝑟𝑎𝑡𝑒𝑑+𝑁𝑜.𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑟𝑒𝑝𝑙𝑎𝑐𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑
Calculation x100
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑
Illustration
Calculate the labour turnover rate and equivalent annual rate under the different methods on the basis of
the following information relates to the personnel department of a factory for the Year 2017-18
Number of employees on 1st April 2017: 950

Number of employees on 31st March 2018: 1,050
Number of workers who quit the factory in September 2017: 10
Number of workers discharged in January 2018: 30
Number of workers engaged in December 2017(Including 120 on account of expansion scheme): 140
Solution
𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑠𝑒𝑝𝑎𝑟𝑎𝑡𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑 10+30
Separation Method= 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑 x100 = 1000
x100 = 4%
𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑟𝑒𝑝𝑙𝑎𝑐𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑 20

Replacement Method= 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑 x100 = 1000 x100 = 2%
Worker replaced is total worker engaged- worked engaged under expansion= 140-120=20

Flux Method= 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑
x100
(10+30)+20 60
= 1000 x100 = 1000 x100 = 6%
365
If the above given data pertain to a month, the annual turnover will be multiplying the result by 30
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OVERHEADS
Overheads, also termed as indirect or supplementary costs, are those costs which cannot be
identified with a particular cost centre or cost unit. Overheads are the aggregate of indirect material, indirect
labour and indirect expenses. These indirect costs are incurred not for one product unit or cost centre, but
for multiple cost units or cost centres. The cost of overheads should be appropriately apportioned to these
multiple cost units or cost centres at the time of determination of the total cost of different products
Steps in accounting of overheads
Classification and Collection of overheads Distribution of overheads using

codification of overheads (i) Allocation (ii) Apportionment (iii) Absorption
CLASSIFICATION OF OVERHEADS
Nature Normality Controllability Variability Function

Indirect Material Normal Controllable Fixed Factory
Indirect Labour Abnormal Uncontrollable Semi-variable Office & Administration
Indirect Expense Variable Selling & Distribution
SOURCES OF OVERHEAD INFORMATION

Store requisition Invoices Cash Book Wages Analysis Sheet Journal Entry Misc. reports
& Job cards
Indirect Other material which is ancillary in the production of any finished product and cannot
Material be conveniently assigned to specific physical units is called indirect material.
For example printing in stationery, scissors used in cutting cloth for shirt, nails in shoes
or furniture
Indirect Employees who do not directly take part in the manufacturing process and whose cost
Labour cannot be identified with the individual cost centre are included under indirect labour.
Such labour does not alter the construction, composition or condition of the product
Salary of foreman, salesmen and director are some examples of indirect labour.
Indirect All expenses other than direct expenses are indirect in nature.
Expenses Rent, rates, insurance, power of factory, Rent of office, lighting, heating, printing,
stationery, expenses incurred for marketing of a commodity, for securing orders for the
articles, despatching goods sold, and for making efforts to find and retain customers. Etc.
Normal Overheads which are expected to be incurred in attaining a given level of output in the
Overhead normal course of business, and are thus, included in the cost of production.
These are expected to be incurred in attaining a given output and are unavoidable in
nature.
They are included in production cost.
Abnormal Generally not expected to be incurred in attaining a given level of output in the normal
Overhead course of business.
These arise due to some abnormal reasons e.g. cost of abnormal idle time.
They are charged to costing profit and loss account
Controllable Indirect costs which can be controlled by executive action at the point of their
Overhead incurrence.
Normally variable overheads are controllable overheads
For example fuel and power, packing charges freight, selling commission etc.
Uncontrollable Indirect costs, which cannot be controlled by executive action at the point of their
Overhead incurrence.
Normally fixed overheads come under this category.
Factory rent, rates, insurance, staff salary etc. are fixed in nature irrespective of the level
of capacity utilized or units produced.
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Fixed Indirect costs which tend to remain unaffected by changes in the volume of production
Overhead or sale are known as fixed overheads.
Factory rent, rates, insurance, staff salary etc. are fixed in nature irrespective of the level
of capacity utilized or units produced.
Fixed costs are not absolutely fixed for all times. If there is a change in the capacity of
production or sale these costs also tend to change
Since the amount of this type of cost is fixed over a period of time, fixed cost per unit
decreases as production increases and per unit fixed cost increases as production
decreases
These overheads are also termed as shut down overheads or period cost.
Variable Indirect cost which vary in direct proportion to changes in the volume of production or
Overheads sale are known as variable overheads
Since the amount varies in relation to volume, the cost per unit tends to remain constant
For example, fuel and power, packing charges freight, selling commission etc.
Semi-Variable The overhead costs tend to vary with changes in output or sales but not in direct
Overheads proportion to the change
They are neither perfectly variable nor absolutely fixed in relation to changes in volume.
These costs remain constant over a relatively short range of variation in output and then
change to a new level with an increase or decrease in the volume of activity
These costs are partly fixed and partly variable.
For examples repairs and maintenance cost of supervision, depreciation of plant etc.
FACTORY OVERHEADS
also called as ‘manufacturing overhead’ or ‘production overhead’, or ‘factory on cost’ or ‘works overhead’
Indirect Material Indirect Labour Indirect Expenses
Consumable stores like Salary of works manager and Rent And Insurance of Factory
lubricating oil, cotton waste, etc. other principal officers at factory Building
Stationery used in factory Holiday and sick leave pay Insurance of plant and machinery
Salary of store keeper Insurance of stock of material
Contribution to social security Depreciation and maintenance of
schemes like ESIC, Contribution factory building and plant &
to PF of factory employees machinery
Overtime wages Municipal taxes for factory
building
Welfare expenses at factory
Experimental and research work,
designing for production, drawing
office expenses
Power & fuel Lighting and heating
of factory
Carriage inwards, if not included
in cost of material
Work's telephone expenses
Some important points on overheads
Value of assets In case an asset’s depreciation value ceases to exist even if the asset is in good working
and condition, it is advisable to charge a reasonable amount of depreciation in cost
depreciation accounts and this charge should be transferred to costing profit and loss account like
other abnormal profit or loss
If a machine is discarded before the expiry of its useful life because of its premature
obsolescence, then the difference between book value and value realized on sale
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should be considered as abnormal loss and transferred to costing profit and loss
account.
Factory Building When a factory building is owned by the company, financial accounts do not record any
owned by the amount as rent while in cost accounts, a reasonable charge should be included in works
company overhead so as to facilitate comparison.
Interest on Considering the associated practical difficulties, interest on capital whether actually
capital paid or not should be excluded from costing records
Pre-production The pre-production costs are incurred in making trial production run before formal
cost production, generally when a new product line is taken up or factory is new and in
process of setting up.
Such costs are treated as deferred revenue expenditure and charged to future cost of
production (except those which have been capitalized) as no formal or established
production exists.
Idle Facilities The idle facility refers to idle plants, machines or services while the idle capacity refers
and Idle to that part of the capacity of the plant or equipment which is not actually or effectively
Capacities utilized for production purposes, because of unavoidable reasons like lack of demand,
non-availability of resources or avoidable faulty planning.
Idle facilities or capacities do not reduce the fixed cost burden like rent, insurance, etc.
The treatment of such costs can be done as follows
due to unavoidable reasons- works overheads
due to abnormal reasons like trade depression etc.- costing profit and loss account
due to avoidable reason-costing profit and loss account
Royalty And To be included in expenses.
Patent Fees If they are based on quantity of output- part of manufacturing cost as a direct charge
If they are based on sales- part of selling expenses.
This is applicable on excise duty as well
Insurance Insurance of plant and machinery, buildings and equipment should be allocated to
particular departments or cost centres as items of overhead costs.
Insurance expenses on warehouse stock-Distribution overhead
Insurance premium at the time of purchase-Raw material or assets purchased
Insurance expenses on stock of raw materials- Manufacturing overhead
Insurance premium paid for safeguarding from burglary etc.-Administrative overhead
Insurance premium paid on the fixed assets should be directly allocated. If not, then it
may be apportioned on the basis of number or area or values or cubic capacity
Accident insurance expenses should be apportioned on the basis of total wages, by
assigning appropriate weights to cost centres which are more prone to accidents
Incentives To Incentives given to indirect workers, i.e. those who are not directly engaged in
Indirect production process are charged to Factory overhead
Workers
Carriage And specifically for certain raw materials-Direct charge
Cartage If cannot be conveniently identified to specific raw materials-works overheads.
Expenses For indirect material-Work overhead
For distribution of finished goods-Distribution overhead
For abnormal situations- Costing profit and loss account.
Annual bonus The amount of payment of bonus under legal provisions is considered as cost of
production
if paid voluntarily by the company, the it is charged to costing profit and loss account
Fringe Benefits Fringe benefits are payments in addition to normal wages and other allowances to
increase employees’ morale, loyalty and stability
Such cost cannot be allocated direct to the cost units but may be allocated to the
particular department or cost centre in which the employees are working.
38
If cost of fringe benefits is substantial, they should be charged to production by way of
a supplementary wage rate in case of direct workers. Else, they are taken as part of
overheads.
Training Training costs are apportioned to different cost centres on the basis of number of
Expenses trainees or direct wages.
Cost of Patterns Cost of patterns and dyes are treated as direct charge if they are incurred for a
And Dyes particular job/order.
In other cases, the annual depreciation is calculated and the same is included in factory
overheads.
Fines Realised Fines realised from workers cannot be treated as income for the concern and should
From Workers be credited to a separate account as per provisions of the Payment of Wages Act to be
utilised for the welfare of the workers.
The receipt and expenditure from this fund are excluded from cost accounts
Some methods of charging Depreciation
Fixed Installment A fixed amount of depreciation, calculated using original cost, scrap value and
Method expected life, is charged year after year
Machine Hour The life of the asset is estimated in terms of hours. The rest is same as the previous
Rate Method method. The original cost less scrap value is divided by the life of the asset to calculate
the amount of depreciation
Diminishing Depreciation at a fixed rate on the reducing balance (i.e. cost less depreciation) every
Balance Method year.
Higher amount of depreciation is charged in initial years
Revaluation calculates depreciation by comparing the value of the asset at the beginning of the
Method year with that at the end of the year
It is usually used in case of livestock, loose tools etc.
Replacement charges depreciation at affixed rate on the replacement value of the asset so as to
Cost Method provide for market value of asset on expiry of useful life and consider the current
costs of production
Research and Development Costs

Research cost is the cost of seeking new or improved products, applications of materials or methods.
Development cost is the cost of the process which begins with the implementation of the decision to
produce a new or improved product or to employ a new or improved method, and ends with the
commencement of formal production of that product or by that method.
Types of research-Fundamental and Applied
Fundamental to investigate possibilities of technological developments and improving stock of basic

knowledge in the know-how of technical process.
It aims at increasing the knowledge of the technicians.
Costs involved in basic research are recurring in nature. Expenses incurred on such
fundamental researches are treated as manufacturing overheads
Applied concerned with application of basic research knowledge for introduction for the
introduction or improvement of products, production methods or techniques.
If for Improvement in the existing products and/or methods of production
For a particular period-Manufacturing overhead
For a particular product-directly to the product concerned
If for searching new products or new methods of production
Directly to specific research project/product
39
If a failure- Costing Profit and Loss Account
If a success-Development Cost
Development may be charged to specific products as revenue expenditure of the period in which they
Cost are incurred
In case of heavy costs, they can be charged as deferred revenue expenditure over a period,
generally not exceeding three years
If product is abandoned at a later stage, the balance not written off may be charged to
costing profit and loss account.
SELLING & ADMINISTRATIVE OVERHEADS
Office and administration overheads refer to costs relating to formulating the policy, directing the
organisation and controlling operations
Indirect Material Indirect Labour Indirect Expenses
Duster, brushes Salary and allowances of office Office rent & rates
staff
Contingent item such as Directors' Fees Insurance, Depreciation and
computer, Printer, Stationery etc. repairs of office buildings.
Salary of legal advisor, public Furniture and fixtures, Lighting
relation officer, auditors, etc. and heating of office
Legal charges, Bank charges
Trade subscription
Sundry Office Expenses
Selling Overhead Distribution Overhead

Indirect Material: catalogues, price lists, printing Indirect Material: packing cases, oil, grease, spare
and stationery for sales parts of delivery vehicles
Indirect Labour: salaries, commission, etc. of sales Indirect Labour: Wages of packers, van drivers,
staff, technical representatives, etc. despatch clerks, etc.
Indirect Expenses: advertising, bad debts, rent and Indirect Expenses: Rent and insurance of godown,
insurance of showroom, collection charges, sales carriage outwards, other transport charges, running
office expenses, etc. expenses of delivery vans, etc.
Some selling & distribution overheads:

Catalogues The cost of printing catalogues and price lists should be transferred to a separate account
And Price Lists and charged evenly over the period during which they are used.
Bad Debts Expected bad debts up-to a certain extent- selling overheads.
Abnormal and substantially large bad debts-costing profit and loss account.
Periodical Such expenses are treated as selling overheads and in case the befit accruing from such
exhibitions expenses spans the period between two exhibitions, then it should be treated as
expenses deferred revenue expenditure and apportioned over the expected life of benefit.
Market Cost of market research done for a specific product is included in the cost of that product
Research and treat it as deferred revenue expenditure over the years during which its benefit is
expected to accrue.
If expense has been incurred to study market conditions and identify potential of market,
it should be apportioned over different products on the basis of sales.
Packaging The cost of container without which the product cannot be sold is included in direct
Cost material cost. For example, without bottle, perfume cannot be sold.
If packaging has been done for attractiveness, they are treated as advertising and thus
included in selling overheads while if the same has been done for safe delivery of goods,
it is distribution overheads
Discount & Trade discount is deducted from the cost of purchase or sales, as the case may be.
rebates Cash discount being purely financial in nature is excluded from cost accounts.
40
Rebate is generally given for early payment and is thus included in cash discounts.
Subscription & Subscriptions are normally done to welfare schemes or institutions while donations
Charity generally refer to charity.
Subscription is treated as works overhead I f it is for welfare agencies from which workers
derive benefit
Trade subscription or subscription to mercantile agencies helping in finding the financial
position of prospective customers are treated as selling overheads
After Sales These costs should be charged to different products on the basis of sales achieved.
Service Costs
OVERHEAD DISTRIBUTION
Office overheads should form a part of total cost of production. But they are not directly connected
with production or service activities. It is therefore necessary that they should be charged to cost units on
suitable basis.
The process of allocation and apportionment of different overheads to various departments or cost
centres is called Departmentalisation of overhead.
Departments majorly are divided in two types namely production and services.
DIFFERENCE BETWEEN ALLOCATION AND APPORTIONMENT
ALLOCATION APPORTIONMENT
Assignment of particular cost to a particular These costs are common to various departments
department or cost centre is called as allocation and cannot be charged to a particular department
or cost centre.
Deals with whole items of costs Deals with proportions of items of costs.
It is a direct process, hence no base is required An equitable base is required for apportionment of
cost to the concerned department.
Absorption of overhead
After knowing the departmental overheads of each production department, the next step is to search
for an appropriate basis for absorbing these overheads on different jobs, so that each job or cost unit may
be reasonably charged with that overheads and the cost of production or sale of the unit or job can be
ascertained.
Principles of Apportionment
Potential benefit taken Ability to pay method Direct or specific criteria Survey method
by the department method
Basis of Apportionment
Overhead Cost Basis of Overhead Cost Basis of

Apportionment Apportionment
Rent Floor Area or Volume Fringe Benefits No. of Workers
Lighting and heating of the department Labour welfare expense
Fire precaution service Time keeping
Air conditioning Personnel office
Compensation to workers Direct wages Supervision
Holiday Pay Depreciation of P&M Capital Value
ESI and PF Contribution
41
Power/ steam consumption Technical advice by Repair & Maintenance
Managerial salaries the experts Insurance
Electric power Horse power of machine/number of machine hours/value of machines
Re-Apportionment Of Service Department Costs (Secondary Distribution)
Once overheads are allocated and apportioned to the production and service department then
totalled overheads allocated to the service department should be allocated to the cost centre or production
department. Ultimately costs is to be charged to the production department only, this process of distributing
overheads of services department in the production department is called Re-apportionment
Some of the important bases of apportionment of service department costs to production

departments are as follows
Service Department Basis of Apportionment

Store keeping department Number of material requisitions, or value/quantity of materials consumed
in each department
Purchase department Value of materials purchased for each department, or number of purchase
orders placed
Time-keeping department Number of employees, or total labour or machine hours
payroll department
Canteen, welfare and Number of employees, or total wages
recreation services
Maintenance department Number of hours worked in each department
Internal transport service Value or weight of goods transported, or distance covered.
Inspection department Direct labour hours or machine operating hours
Drawing office No. of drawings made or man hours worked
Apportionment to Production as well as Service Departments

Apportionment of expenses of service departments only to production departments is not sufficient
because in reality services departments also provide services to the other service departments. For example;
electricity department provides power not only to the production departments but also to services
department like canteen, maintenance department and to other non-production departments.
Apportionment can be done on the reciprocal as well as nonreciprocal basis
Non-reciprocal When a department is only providing services to the other departments but not receiving
Basis any kind of services from the service provider department or when services are not inter-
dependent.
Reciprocal Basis When a department is not only providing services to the other departments but also
receiving services from the service provider department or when services are inter-
dependent on each other
For apportionment on reciprocal basis three methods are available:
1. Simultaneous equation method 2. Repeated distribution method 3. Trial and error
method
ABSORPTION OF OVERHEADS
Once the overheads are allocated and apportioned to a particular department, then cost will be
absorbed by the products produced in the department. Absorption refers to the process of recovering
allocated cost to a particular cost centre by the units produced in that cost centre.
42
In order to determine the absorption of overhead in costs of jobs, products or process, a rate is
calculated and it is called as "Overhead Absorption Rate" or "Overhead Rate." The overhead rate can be
calculated as below:
Overhead Expenses
Overhead Absorption Rate = 𝑇𝑜𝑡𝑎𝑙 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑜𝑟 𝑉𝑎𝑙𝑢𝑒
Methods of Absorption of Production Overheads

Direct Material Cost It is a percentage of overheads over direct material cost
Percentage Rate Total Overhead
Calculation- x 100
𝐷𝑖𝑟𝑒𝑐𝑡 𝑀𝑎𝑡𝑒𝑟𝑖𝑎𝑙 𝐶𝑜𝑠𝑡
Direct Labour Cost It is a percentage of overheads over direct labour cost

Percentage Rate Total Overhead
Calculation- 𝐷𝑖𝑟𝑒𝑐𝑡 𝐿𝑎𝑏𝑜𝑢𝑟 𝐶𝑜𝑠𝑡x 100
Prime Cost Percentage It is a percentage of overheads over prime cost
Rate Total Overhead
Calculation- x 100
𝑃𝑟𝑖𝑚𝑒 𝐶𝑜𝑠𝑡
Direct Labour Hour Rate This is a rate per hour and not a percentage rate
Production Overhead
Calculation- 𝐷𝑖𝑟𝑒𝑐𝑡 𝐿𝑎𝑏𝑜𝑢𝑟 𝐻𝑜𝑢𝑟
Machine Hour Rate Machine hour rate is the overhead cost of running a machine for one hour
Total Overhead
Calculation-
𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑚𝑎𝑐ℎ𝑖𝑛𝑒 ℎ𝑜𝑢𝑟𝑠
Rate Per Unit of Output This is the simply the total overheads of a department over number of units
produced.
Total Overhead
Calculation- 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑢𝑛𝑖𝑡 𝑝𝑟𝑜𝑑𝑢𝑐𝑒𝑑
Types of Overhead Rates

Actual Overheads can be calculated only when expenses actually incurred.
Actual Overheads Rate = Actual Overheads
Actual base
Pre-determined when rate or overhead is based on the estimated overheads is called
predetermined overhead rate
Pre-determined Overheads Rate = Budgeted Overheads for the period
Budgeted base for the period
Blanket Rate A common rate for the entire factory.
Blanket Overhead Rate = Total Overheads for the Factory
Total Number of Units of Base for the Factory
Multiple Rate Multiple overhead rate refers to the calculation of various rates for different
departments or cost centre etc.
Over and Under Absorption of Overheads
The problem of under or over absorption arises when predetermined rates are used. Since there are
seasonal differences, so the difference between the budgeted overhead and actual overhead incurred is
bound to happen.
If the actual overhead is more than the overhead absorbed, then this excess is termed as under
absorption as this portion remains uncharged to production.
If the overhead absorbed is more than the actual overhead, this difference is called as ‘over
absorption’ as the amount charged to production has not been incurred
Reason for Over or under absorption of overheads
43
Wrong computation of overhead Seasonal fluctuations in the Unforeseen changes in the
absorption rate overhead costs capacity of production.
Treatment of under or over absorption

Use of Supplementary Rate If the difference is considerable then supplementary rate is calculated.
Transfer to Costing Profit If difference is due to abnormal reasons which are beyond the control of
and Loss Account management
Transfer to Overhead if the difference is seasonal for which it is possible that by the end of the
Suspense Account accounting period it will wipe out.
MARGINAL COSTING
Introduction Marginal costing is not a method of cost ascertainment like job costing or contract
costing. Marginal costing is a technique of costing which may be used with other
methods of costing, viz., job or process
For decision making, it is more helpful to the management
The other names for marginal costing are direct costing, differential costing,
incremental costing and comparative costing
In marginal costing, only variable items of costs are taken into account. These variable
costs will change in direct relation to the change in the volume of production or change
in the production by one unit
As such, variable costs are called product costs and are charged to production
Fixed costs are not allocated to cost unit; and these are charged directly to profit and
loss account during the period and are called as period costs or capacity costs.
Ascertaining To ascertain the marginal cost, the following elements of cost are needed
(i) Direct Materials (ii) Direct Labour (iii) Other direct expenses and (iv) Total variable
overheads
Formula Marginal cost = Prime cost + Total Variable Overheads OR
Marginal Cost = Total cost-Fixed cost
Features a technique or working of costing, which is used in conjunction with other methods of
costing (process or job
Fixed and variable costs are kept separate at every stage. Semi-variable costs are also
separated into fixed and variable
Only variable costs are considered as the cost of the product excluding fixed cost.
When evaluation of finished goods and work-in-progress are taken into account, they
will be only variable costs
As fixed costs are period costs, they are charged to PL account during the period in
which they are incurred. They are not carried forward to the next year's income
Marginal income or marginal contribution is known as the income or the profit.
The difference between the contribution and fixed costs is the net profit or loss
Fixed costs remain constant irrespective of the level of output/activity.
Sales price and variable cost per unit remain the same.
Cost-Volume-Profit relationship is fully employed to reveal the state of profitability at
various levels of activity.
Advantages
Constant in nature Better Result Effective Cost control Treatment of overhead
simplified
Uniform and Helpful to Helpful in production Fixation of selling price
Realistic Valuation management planning
Helpful in Helpful in preparing Helpful in ‘Make or Buy' Better Presentation
budgetary control tender Decision
Disadvantages
44
Difficulty to Analyse Difficulty to Analyse Unrealistic Assumption: Difficulty in the Fixation of
Overhead Overhead Price
Problem of Variable Sales Oriented Unreliable Stock Valuation Claim for Loss of Stock
Overheads
Automation Significance Lost- In capital intensive industries, fixed cost occupies major portions
reason for increase in the total
in production or
sales.
Cost-Volume-Profit It is the analysis of three variables, viz. cost, volume and profit.
Analysis In CVP analysis, an attempt is made to measure variations of costs and profit with
volume
The cost-volume-profit analysis helps or assists the management in profit
planning. In order to increase the profit, a concern must increase the output
When volume of output increases, unit cost of production decreases, and vice
versa; because the fixed cost remains unaffected, when the output increases, the
fixed cost per unit decreases.
Therefore, profit will be more, when sales price remains constant. Generally, costs
may not change in direct proportion to the volume. Thus, a small change in the
volume will affect the profit.
Marginal cost Sales = Variable cost + Fixed Cost + Profit or minus loss
equations Sales - Variable cost = Fixed Cost + Profit or minus loss
Sales - Variable cost = Contribution
Contribution = Fixed cost + Profit
In order to earn profit, the contribution must be more than the fixed cost. To avoid
any loss, the contribution must be equal to fixed cost.
Contribution Contribution is the difference between sales and marginal cost of sales.
Contribution is also known as gross margin.
Fixed costs are covered by the contribution and the balance amount is an addition
to the net profit.
Contribution Marginal Cost = Prime Cost + Variable Overhead
Equation Contribution = Sales - Marginal Cost/Variable Cost
Contribution = Fixed Cost + Profit or minus Loss
Profit = Contribution - Fixed Cost
Sale - Variable Cost = Fixed Cost + Profit Or
C= S - VC = FC + P
Break-even The break-even point and break-even chart are two by-products of break-even
Analysis analysis
Break-even analysis is also known as cost volume profit analysis.
The analysis is a tool of financial analysis whereby the impact on profit of the
changes in volume, price, costs and mix can be estimated with reasonable
accuracy
Break-even-point is equilibrium point or balancing point of no-profit no loss.
This is a point at which loss ceases and profit begins. This is a point where income
is exactly equal to expenditure.
B.E.P= Total Fixed Cost OR Total Fixed Cost
Contribution per unit Selling Price per unit-Variable cost per unit
B.E.P. (in Units) = (Fixed Cost X Sales)/ Contribution
Profit Volume Profit volume ratio, which is popularly known as P/V ratio, expresses the
Ratio (P/V Ratio relationship of contribution to sales
It is also called contribution sales ratio or marginal income ratio or variable profit
ratio
The ratio, expressed as a percentage, indicated the relative profitability of
different products
45
𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝐹𝑖𝑥𝑒𝑑 𝐶𝑜𝑠𝑡+𝑃𝑟𝑜𝑓𝑖𝑡 𝑆𝑎𝑙𝑒𝑠−𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡
P/V Ratio= 𝑆𝑎𝑙𝑒𝑠
OR 𝑆𝑎𝑙𝑒𝑠
OR 𝑆𝑎𝑙𝑒𝑠
𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑝𝑟𝑜𝑓𝑖𝑡
When two periods Sales and Profit is given then P/V ratio= x 100
𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑆𝑎𝑙𝑒𝑠
When we know the P/V ratio, B.E.P. can be calculated
𝐹𝑖𝑥𝑒𝑑 𝐶𝑜𝑠𝑡
B.E.P. (Sales volume)=
𝑃𝑉 𝑅𝑎𝑡𝑖𝑜
The profit of a business can be increased by improving P/V ratio. A higher ratio
means a greater profitability and vice versa.
Management increases the P/V ratio:
a. By increasing sales price per unit b. By decreasing variable costs c. By increasing
the production of products which is having a high P/V ratio and vice-versa.
Some Equation on Fixed Cost = B.E.P. x P/V ratio
P/V ratio Sales required in units to maintain a desired profit
𝐹𝑖𝑥𝑒𝑑 𝐶𝑜𝑠𝑡+𝐷𝑒𝑠𝑖𝑟𝑒𝑑 𝑃𝑟𝑜𝑓𝑖𝑡 𝑅𝑒𝑞𝑢𝑖𝑟𝑒𝑑 𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛
= =
𝑃𝑉 𝑅𝑎𝑡𝑖𝑜 𝑁𝑒𝑤 𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡
Contribution = Sales x P/V ratio
Variable costs = Sales (1 - P/V ratio)
Sale X P/V ratio = Fixed cost + Profit
Margin of Safety Total sales minus the sales at break-even point are known as the margin of safety
(MOS).
In other words, sales over and above breakeven sales are known as Margin of
Safety.
The Margin of Safety refers to the amount by which sales revenue can fall before
a loss is incurred.
That is, it is the difference between the actual sales and sales at the break-even
point. Break-even-point can be compared to a Red signal point.
If margin of safety is large, it is sign of soundness of the business and vice versa
Margin of safety can be expressed in absolute sales amount or in percentage
High margin of safety indicates the soundness of a business because even with
substantial fall in sale or fall in production, some profit shall be made
Small margin of safety on the other hand is an indicator of the weak position of
the business and even a small reduction in sale or production will adversely affect
the profit position of the business
Increase of Margin Margin of safety can be increased by:
of safety Increasing the selling price and Increasing the output and sales
Decreasing the fixed cost and Decreasing the variable cost.
Changing to product mix that improves P/V ratio
Margin of safety- Actual Sales - Sales at B.E.P.
𝑃𝑟𝑜𝑓𝑖𝑡 𝑃𝑟𝑜𝑓𝑖𝑡
OR 𝑃𝑉 𝑅𝑎𝑡𝑖𝑜 OR 𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛
𝑀𝑎𝑟𝑔𝑖𝑛 𝑜𝑓 𝑆𝑎𝑓𝑒𝑡𝑦
As a percentage= 𝑥100
𝑇𝑜𝑡𝑎𝑙 𝑆𝑎𝑙𝑒𝑠
Illustration 1
From the following information, find out the amount of profit earned during the year using marginal costing
technique:
Fixed cost - Rs.500000, Variable Cost- Rs. 10 per unit, Selling Price- Rs. 15 per unit, Output level 150000 units.
Solution
Contribution = Selling Price - Marginal Cost
= Rs. 2250000 (15*150000) - Rs. 15000,00 (10*150000) = Rs. 750000
Contribution = Fixed Cost + Profit = Rs. 750000 = Rs. 500000 + Profit
Profit is Rs. 750000-Rs. 250000
Illustration 2
46
From the following information, you are required to compute break-even point
Variable cost per unit - Rs. 12, Fixed cost- Rs. 60000, Selling price per unit- Rs. 18.
Solution
Contribution = Selling Price - Variable Cost = Rs. 18 - Rs. 12 = Rs. 6
B.E.P. in Units = Fixed Cost/ Contribution per Unit = Rs. 60000/Rs. 6 = 10000 Units
Break Even Point Sales = Rs. 18 X 10000 Units = Rs. 180000
Illustration 3
A company estimates that next year it will earn a profit of Rs. 50000. The budgeted fixed costs and sales are
Rs. 250000 and 993000 respectively. Find out the break-even point for the company.
Solution
Contribution = Fixed Cost + Profit = Rs. 250000 + Rs. 50000 = Rs. 300000
B.E.P. (in Units) = (Fixed Cost X Sales)/ Contribution = (Rs. 250000 X Rs. 993000)/Rs. 300000 = Rs. 827500
Illustration 4
From the given data, compute Profit Volume Ratio.
Marginal Cost- Rs. 2400; Selling Price- Rs. 3000
Solution
Contribution = Selling Price - Marginal Cost = Rs. 3000 - Rs. 2400 = Rs. 600
P/V Ratio = (Contribution/ Sales) X 100 = (Rs. 600/ Rs. 3000) X 100 = 20%
Illustration 5
Calculate P/V Ratio from the sales turnover and profits during two periods are as under:
Period I: Sales Rs. 20 lakhs; Profit- Rs. 2 lakhs
Period II: Sales Rs. 30 lakhs; Profit Rs. 4 lakhs
Solution
P/V Ratio = (Change in Profit/Change in Sales) X 100
= (Rs. 4 lakhs - Rs. 2 lakhs/ Rs. 30 lakhs - Rs. 20 lakhs) X 100 = (200000/1000000) X 100 = 20%
Illustration 6
From the following details find out i) Profit Volume Ratio ii) B.E.P. and iii) Margin of safety.
Sales- Rs. 1,00,000; Total Cost- Rs. 80,000; Fixed Cost- Rs. 20,000 and Net Profit- Rs. 20,000
Solution
i) P/V ratio = Contribution/Sales X 100 = (100000 - 60000)/100000 X 100 = 40%
ii) B.E.P. = Fixed Cost/ Profit volume ratio = Rs. 20000/40% = Rs. 50000
iii) Margin of safety = Profit/ Profit Volume ratio = Rs. 20000/ 40% = Rs. 50000
Or Margin of Safety = Actual Sales - Sales at BEP = Rs. 100000 - Rs. 50000 = Rs. 50000
Illustration 7
From the following data, calculate: i) P/V Ratio ii) Profit when sales are Rs. 20000 iii) New Break Even Point if
selling price is reduced by 20%; Fixed Expenses- Rs. 4000; Break-Even Point- Rs. 10000
Solution
i) Break Even Sales = Fixed Expenses/ Profit Volume Ratio
Profit Volume Ratio = Fixed Expenses/Break Even
Sales = (Rs. 4000/Rs. 10000) X 100 = 40%
ii) When sales are Rs.20000, the profit is
= Sales X Profit Volume Ratio - Fixed Expenses
= Rs. 20000 X 40% - Rs. 4000 = Rs. 4000
47
iii) If selling price is reduced by 20%, the new break-even point would be Rs. 80 (say Rs.100 - Rs. 20).
Variable Cost per Unit = 100 - 40% = Rs. 60
New P/V Ratio = (80 - 60)/80 X 100 = 25%
New Break Even Point = (4000 X 100)/25 = Rs. 16000
PROCESS COSTING
Meaning Process costing is a method of costing used mainly in manufacturing where units are
continuously mass-produced through one or more processes.
Examples of this include the manufacture of erasers, chemicals or processed food etc.
In process costing it is the process that is costed (unlike job costing where each job is
costed separately).
The method used is to take the total cost of the process and average it over the units of
production.
Cost per unit = Cost of inputs
Expected output in units
Principles The whole factory operation is divided into several operations or production centres, each
performing standard operations
All the items of process costing i.e. materials, labour and overheads are collected in
process wise
The records are maintained in process wise as the number of units produced, the total
costs incurred and the cost per unit
The total cost of one process is transferred to next process along with the number of units
transferred to next process for further processing
The cost per unit is calculated by dividing the number of units produced in a process into
the total costs incurred for processing the same number of units in a specified period
Likewise, the cost of finished product is calculated by dividing the total production cost
into the number of units produced
Features The production is carried on continuously and passing two or more processes
Only homogeneous products are produced
The production will be stopped if the plant and machinery is shut down for repairs
The management has clearly defined process cost centres and the accumulation of costs
such as cost of material, cost of labour and overheads by the cost centre
The accurate accounting records are maintained in process wise as the number of units
produced completely, the number of units partly produced and total costs incurred
The finished product of one process becomes the raw material of the next process or
operation and so on until the final product is obtained.
Some losses may arise in all the processes due to avoidable and unavoidable reasons. Such
losses may be normal and/or abnormal
Sometimes, abnormal gain is also available in certain processes
Accounting treatment of normal losses and abnormal profit and losses are studied in this
method of costing
Sometimes, goods are transferred from the process to next process at transfer
price instead of cost price
The transfer price is compared with market price to know the level of efficiency or losses
occurring in a particular process
Sometimes, more than one product is produced. All the products are having equal value
and importance. If so, these products are called joint produce
All the input units cannot be converted into finished products in all the processes for a
specified period. Some may be in process
In certain cases, more than one product is produced. One product has more value and
gets more important than others. If so, more value product is main product and less value
product is by-product
48
Main product may not require any further processing. But, by-products may require
further processing before they can be sold
Joint cost is apportioned to both main product and by-products on suitable basis
A main product of one firm may be a by-product of another firm
Output is uniform. Hence, the cost per unit of production can be ascertained only by
averaging the expenditure incurred during a particular period
Work in progress is converted into finished products through the cost of equivalent
production
Objectives To determine the unit cost
To determine the method of allocation of manufacturing costs incurred during a given
period
To allocate the accumulated materials, labour and factory overhead costs to process cost
centres
To express incomplete units in terms of completed units
To give accounting treatment to process losses such as waste, scrap, defective goods and
spoiled goods
To differentiate the main product from by-product and joint product
To give accounting treatment to joint product and by-product
To calculate the cost of main product accurately
Examples Chemical works, Steel, Soap making, Oil refining, Box making, Textiles, Distillation process,
Rubber, Paper mills, Paints, Beer, Coke works, Ink and Varnishing, Meat products factory,
Milk diary, Biscuit works, Food products, Canning factory
Treatment of The cost of normal process loss in practice is absorbed by good units produced under the
Normal process.
Process Loss, The amount realised by the sale of normal process loss units should be credited to the
Abnormal process account
Process Loss The cost of an abnormal process loss unit is equal to the cost of a good unit.
and The total cost of abnormal process loss is credited to the process account from which it
Abnormal arise.
Gain Cost of abnormal process loss is not treated as a part of the cost of the product and so
debited to costing profit and loss account
The process account under which abnormal gain arises is debited with the abnormal gain
and credited to abnormal gain account which will be closed by transferring to the Costing
Profit and loss account.
The cost of abnormal gain is computed on the basis of normal production.
Illustration
A product passes through three processes. The output of each process is treated as the raw material of the
next process to which it is transferred and output of the third process is transferred to finished stock.
1st Process 2nd Process 3rd Process
Material Issued Rs. 40000 Rs. 20000 Rs. 10000
Labour Rs. 6000 Rs. 4000 Rs. 1000
Manufacturing overhead Rs. 10000 Rs. 10000 Rs. 15000
10,000 units have been issued to the 1st process and after processing, the output of each process is as under:
Output Normal Loss
Process No. 1 9750 units 2%
No stock of materials or of work-in-progress was left at the end. Calculate the cost of the finished articles.
Solution
Process No. 1
49
Elements Unit Amount Elements Unit Amount
(Rs.) (Rs.)
To Material 10000 40000 By Normal Loss (2% of 10000) 200
To Labour 6000 By abnormal loss (50*5.72) 50 286
To Indirect expense 10000 By Process No. 2 (56000/9800) 9800 55714
Unit cost 5.714
10000 56000 10000 56000
Process No. 2
(Rs.) (Rs.)
To Process No. 1 9750 55714 By Normal Loss (5% of 9750) 488
To Material 20000 By Process No. 2 (89714/9262) 9400 91051
Unit cost 9.686
To Labour 4000
To Indirect expense 10000
Total 89714
Abnormal Gain (9750- 138 1337
488=9262) 9400-9262=138
Process total 9888 91051 9888 91051
Process No. 3
(Rs.) (Rs.)
To Process No. 2 9400 91051 By Normal Loss (10% of 9400) 940
To Material 10000 By abnormal loss (460*13.835) 460 6364
9400-940=8460-8000=460
To Labour 1000 By finished product 8000 110687
(117051/8460) unit cost-13.835
To Indirect expense 15000
Process total 9400 117051 9400 117051
Joint Products and By-Products
Joint Joint products represent “two or more products separated in the course of the same
Products processing operation usually requiring further processing, each product being in such
proportion that no single product can be designated as a major product
For example, in the oil industry, gasoline, fuel oil, lubricants, paraffin, coal tar, asphalt and
kerosene are all produced from crude petroleum. These are known as joint products
Co-products Co-products may be defined as two or more products which are contemporary but do not
emerge necessarily from the same material in the same process
For instance, wheat and gram produced in two separate farms with separate processing
of cultivation are the co-products. Similarly timber boards made from different trees are
co-products.
By Product These are defined as “products recovered from material discarded in a main process, or
from the production of some major products, where the material value is to be considered
at the time of severance from the main product.”
Thus by-products emerge as a result of processing operation of another product or they
are produced from the scrap or waste of materials of a process.
In short a by-product is a secondary or subsidiary product which emanates as a result of
manufacture of the main product.
The point at which they are separated from the main product or products is known as split-
off point. The expenses of processing are joint till the split-off point.
Joint products are of equal importance whereas by-products are of small economic value
50
Distinction Joint products are produced simultaneously but the by-products are produced incidentally
between in addition to the main products.
Joint and By
Products
Method of apportioning joint cost over joint products
Proper apportionment of joint cost over the Joint Products is of considerable importance, as this
affects (a) Valuation of closing inventory; (b) Pricing of products; and (c) Profit or loss on the sale of different
products.
Physical Unit The basis used for apportioning joint cost over the joint products is the physical volume of
Method material present in the joint products at the point of separation such as weight, gallons,
tonnes, unit etc.
Any loss arising during the stage of processing is also apportioned over the products on
the same basis.
This method cannot be applied if the physical units of the two joint products are different.
The main defect of this method is that it gives equal importance and value to all the joint
products.
Average Unit Under this method, total process cost (up-to the point of separation) is divided by total
Cost Method units of joint products produced. On division average cost per unit of production is
obtained.
The effect of application of this method is that all joint products will have uniform cost per
unit.
If this method is used as the basis for price fixation, then all the products may have more
or less the same price
Survey Under this method joint cost are apportioned over the joint products, on the basis of
method percentage/point values, assigned to the products according to their relative, importance
This method is also known as point value method
The percentage or points used for the purpose are usually computed by management with
the help of technical advisers.
This method is considered to be more equitable than other methods
Contribution According to this method, joint costs are segregated into two parts - variable and fixed.
Margin The variable costs are apportioned over the joint products on the basis of units produced
Method (average method) or physical quantities
In case the products are further processed after the point of separation, then all variable
cost incurred be added to the variable costs determined earlier
In this way total variable cost is arrived which is deducted from their respective sales values
to ascertain their contribution.
The fixed costs are then apportioned over the joint products on the basis of the
contribution ratios.
Market This is the most popular and convenient method because it makes use of a realistic basis
Value for apportioning joint costs.
Method Under this method joint costs are apportioned after ascertaining “what the traffic can
bear”. In other words, the products are made to bear a proportion of the joint cost on the
basis of their ability to absorb the same.
Market value means weighted market value i.e. units produced price of a unit of joint
product
It can used at three different stages- (i) at the point of separation (ii) after further
processing and (iii) net realisable value.
PRODUCTION ACCOUNTS AND COST SHEET
51
Cost Sheet A cost sheet is an analytical statement of expenses relating to production of an article
which provides information about total cost, per unit and quantity of production.
Cost Sheet may be prepared in two format i.e. (i) Simple Cost Sheet and (ii) Detailed Cost
Sheet
In simple cost sheet only final item of different types of cost is shown and details of each
item is shown separately
In the detailed cost sheet calculation of raw material consumed, work-in-progress and
adjustments opening & closing stock has been included and a detailed list regarding each
element of cost is given
Cost Cost sheet and statement of cost are prepared in a same manner.
Statement When cost per unit of production is not necessary to calculate then a statement of cost
is prepared to ascertain total cost and profit or loss on production.
Difference between Cost Sheet and Statement of Cost
Cost Sheet Cost Statement
Total quantity, total cost and per unit cost is only total cost is presented
presented
Normally profit is not shown cost, selling price and profit is shown
prepared to calculate actual cost of units produced in prepared to estimate cost for a future period for
a period determination of tender price
prepared only when production quantity is given prepared when quantity of production has not
been given
Comparative study of cost of two types of articles or Comparative study of cost of two types of articles
two periods may be studied or two periods not feasible.
Valuation of Direct Material + Direct Labour+ Direct Expenses
Work-in- Add-Opening stock of Work in Progress
Progress at Less-Closing stock of Work-in-Progress
Prime Cost Prime Cost
Valuation of Prime Cost
Work-in- Add- Factory Overhead
Progress at Add-Opening stock of Work in Progress
Work Cost Less-Closing stock of Work-in-Progress
Work Cost
Valuation and Cost of production shows cost of all produced units during a certain period.
Adjustment of Opening and closing stocks of finished goods are adjusted before calculating production
OB & CB of cost of goods sold
Finished If quantities of opening and closing stocks of finished goods are given but the values of
Goods stocks are not given they are valued at current cost per unit.
Cost of production
Add- Opening stock of finished goods
Less-Closing stock of finished goods
Cost of goods sold
Comparative For comparative study of cost of two periods a comparative cost sheet is to be prepared
Cost Sheet of to find out total cost and cost per unit of both the period
Two Periods If any increase or decrease is found out in it, causes are searched by analytical study..
While preparing such cost sheets data of current period are shown on right hand side
and cost data related with the previous period are shown on left side of the cost sheet
Absorption of Factory, office & administrative overheads, selling and distribution overheads are
overheads included in overheads.
Generally, factory overheads are absorbed as a percentage of direct wages
office and administrative overheads as a percentage of work cost and
selling & distribution overheads as a percentage of work cost or on basis of per unit sold
Treatment of Produced unit which are not according to predetermined standard are termed as
Defective or spoilage or defective.
52
Scrap If these units can be improved and sold after incurring additional expenses then such
Materials additional expenses are added to factory overheads
If there is no chance of improvement, then it is sold and factory overhead will be realized
from the realized amount.
Part of material which is left at the end of production process and cannot be used next
process is known as scrap. It’s quantity and value is quite ignorable
If it is related to raw material then amount realised from its sale will be reduced from the
amount of cost of material.
It is due to production process then its sale value will be reduced from factory cost.
Abnormal loss will be transferred to profit and Loss Account
Determination The price to be quoted before receiving any sale order or prior to complete a job is known
of Selling Price as “Tender Price
or Tender As the receipts of orders greatly depend upon the tender price, it is suggested that a
Price tender should be made very carefully. Experience of preceding periods is required to
determine tender price
While preparing the tender, change in material cost, labour cost and in-other overheads
should be considered, the time of preparation of tender, the past percentage of factory
overhead generally on wages, office, selling and distribution overheads on factory cost
should be considered.
Production Cost statement may be presented m the form of ledger account termed as “production
Accounts account”.
Production account presents information of production cost in an analytical manner
according to double entry system. Cost of production and profit can be computed in this
ledger.
It is prepared in two parts
Debit side of first part reveals cost of production under different headings after adjusting
opening and closing stock of work-in-progress. Such cost of production is carried over to
debit side of second part of production account. Opening stock of finished goods is
shown in debit side while closing stock appears in credit side.
Amount of sales is also shown in credit side thereafter amount of difference is computed.
If the total of credit side is more than debit side the amount of difference will be recorded
as profit or vice versa it will be loss
Separate Production Account will be prepared for two or more products.
Difference between Cost Sheet and Production Account
Basis of difference Cost Sheet Production Account
Form Prepared in the form of a It is prepared like an account.
statement
Double entry No Yes
Period It is prepared with a view ascertain It is prepared after completion of
total-cost as well as per unit cost of production.
production.
Comparative study Feasible Not feasible
Comparison with results of Not comparable Comparable
Financial accounts Results
Cost analysis Detailed analysis of cost is made to Different items of cost are shown as
control different elements of cost, totals and are not analysed
viz. material labour and exp.
SOME QUESTIONS
53
State whether the following statements are True or False:
1. There is no difference between costing and cost accounting

2. Cost reduction is a temporary process carried out for a specific unit.
3. The results of financial and cost accounting are always same.
4. Cost accounting helps in fixation of price of the product manufactured or service rendered.
5. The process of cost accounting remains uniform for all companies across industries.
6. Cost accounting depends largely on financial statements.
7. Maintaining cost records is tedious and leads to duplication of work.
Answer
1 2 3 4 5 6 7
False False False True False True True
1. Anything for which a separate measurement of cost is desired may be defined as __________
2. __________ refers to an activity which generates cost.
3. __________ measures both the inputs and outputs in monetary terms.
4. The elements of cost include _________, _________, ________ and _________.
5. Certain items which are included in financial accounts but not in cost accounts can be broadly
categorized into _________, _________ and ________ .
6. A component of cost which includes all direct costs is ________ .
7. ________ summarises the components of cost in the form of a statement.
8. ________ are costs which can be influenced by the budget holder.
9. ________costs are irrelevant for decision making as they cannot be changed by any decision that will
be made in the future.
10. _______is the process of computing costs on the basis of actual data.
11. The quantity upon which cost can be conveniently ascertained is_______
12. Material which becomes an integral part of the finished product and can be conveniently assigned
to specific physical units is__________
13. Process of identification and prevention of waste within the existing environment is called___
14. The process of achieving real and permanent reduction in the unit cost without reduction in the
quality or suitability is called_____
Answer
1 2 3 4 5
Cost object Cost drive Profit centre Direct Material, Direct Appropriation of profits,
Labour, Direct Expense Matters of pure finance,
and Overhead Abnormal gains and losses
6 7 8 9 10
Prime Cost Cost Sheet Controllable Sunk Cost Ascertainment
Cost
11 12 13 14 15
Cost Unit Direct Cost Control Cost reduction
Material
1. The two main methods used to determine costs are

a. Job Cost Method and Process Cost Method. b. Unit costing and contract costing
c. Job costing and batch costing d. Process costing and contract costing
2. In case of building construction, ______ method of costing will be used.
a. Batch costing b. Job costing
c. Process costing d. Contract costing
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3. Unit costing is also known as_______.
a. Output costing b. Batch costing
4. ________ and operating costing are the same.

a. Job costing b. Process costing
c. Contract costing d. Service costing.
5. Cost of each department is ascertained under

a. Batch costing b. Departmental costing
6. ________ costing excludes fixed cost from consideration
a. Job costing b. Absorption costing
c. Contract costing d. Marginal costing.
Answer
1 2 3 4 5 6
A D A D B D
Questions
State whether each of the following statement is True or False
1. Material Control relates to Direct Material as well as to consumable stores.
2. Control on Materials has no effect on overhead cost.
3. Inefficiencies and frauds relating to Materials have no impact on organizational environment.
4. Material Control involves Control over entire material cycle.
5. Procedure, documentation and systems for Material Control may be different in different
organization.
6. Direct Material cost can be identified with a cost centre.
7. Cost of Indirect Material is to be treated as overheads.
8. Material Control helps in reconciling the conflicting objectives of purchase department and finance
department.
9. Material control does not work on material handling cost but only on the material purchase cost.
10. Material control is a matter of coordination of purchase, receiving, inspection, store keeping,
production control and stock control department.
Answer
1 2 3 4 5 6 7 8 9 10
True False False True True True True True False True
Questions
State whether each of the following statement is True or False:
1. At EOQ total storage cost is equal to the total ordering cost
2. With increase in ordering cost, EOQ will go up.
3. With decrease in storage cost, EOQ will come down.
4. Reorder will lie between minimum and Maximum level.
5. Larger the no. of orders, lower will be the storage cost.
6. Re-order level means the quantity to be ordered.
7. The Economic order quantity means the re order quantity.
8. Ordering Cost includes the cost of goods also.
9. Bill of Material and Material requisition are same.
10. Either of Material Received note or Material Inspection note is to be prepared.
Answer
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1 2 3 4 5 6 7 8 9 10
True True False True True False True False False False
Questions
Which of the following is “True” or “False”
1. Pricing of issue of materials is closely connected with the actual physical movements of units of material.
2. Issue prices have an impact on book profits of the firm.
3. Issue prices fluctuate more in the case of weighted price method than under LIFO and FIFO.
4. Method of pricing issues aims at charging material cost to production.
5. Pricing of issue of raw material do not have any impact on the valuation of stock.
6. Under FIFO book profits are higher than under LIFO of pricing under the period of rising prices.
7. FIFO does not generally give a good match between the cost incurred and cost charged to the product.
8. Under FIFO method, units purchased first are physically issued first.
9. LIFO gives higher value of closing stocks during Inflationary period than that FIFO method of pricing issues
is used.
10. Simple average may give higher, lower or equal value of closing stock when compared to the weighted
average method of valuing the closing stock.
11. FIFO is generally suitable for perishable products.
12. As per LIFO method of pricing, issues are close to current economic values.
13. Re- order level means the quantity to be ordered.
14. Purchase order is an order to a stores department to issue materials.
15. Valuation of stock under FIFO and LIFO are same.
Answer
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15
False True False True False False True False False False True True False False False
Questions
1. Labour is the cost of hiring the human resources.
2. Labour cost which is not specifically incurred for or cannot be readily charged to or identified with a specific
job, contract work order or any other unit of cost is called as direct labour.
3. Time for which employer pays to the labour but obtains no direct benefit is called as productive cost. 4.
Time keeping and time booking cannot be used interchangeably.
5. Rate of change in labour force due to resignation, retirement or retrenchment is called as labour turnover.
6. Payment to workers for holidays and payment for overtime can be used interchangeably.
Answers
1 2 3 4 5 6
True False False True True False
Questions
1. Under time wage system, wages are paid according to
a. Quantity of output b. Time spent in the organisation
c. Time and output both d. None of the above
2. Under piece wage system, wages are paid according to

a. Quantity of output b. Time spent in the organisation
c. Time and output both d. None of the above
3. Which of the following is not the advantage of piece wage system

a. Labours are self-motivated to work and complete the targets.
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b. Labours get flexible work environment as employers are concerned with the output than the time
consumed by the workers at work place.
c. Sometimes, under this method, labours compromise with the quality of product in the hurry of
completing the targets.
d. This method of wage payment increases the efficiency and productivity of the workers.
4. Piece wage system is suitable in which of the following situations

a. Piece wage system is suitable where close supervision is not possible.
b. This is also suitable in the highly demanding industries.
c. This method is also suitable in the industry where more emphasize is given on the quantity than
quality.
d. All of the above
5. Which of the following is the disadvantage of the time wage system
a. It is difficult to make distinction between efficient and inefficient workers.
b. Labour get flexible work environment as employers are concerned with the output than the time
consumed by the workers at work place.
c. Sometimes, under this method, labours compromise with the quality of product in the hurry of
completing the targets.
d. This method of wage payment increases the efficiency and productivity of the workers.
Answer
1 2 3 4 5
B A C D A
Questions
1. Labour turnover and labour retrenchment can be use used interchangeably.
2. Direct expenses can be directly associated with a particular product.
3. Direct expenses are not included under prime cost of a product or service.
4. Flux method only takes into consideration the number of employees separated.
5. Worker’s dissatisfaction with the job or the boss is the unavoidable cause of labour turnover.
Answer
1 2 3 4 5
False True False False False
Questions
Fill in the blanks with appropriate words:
1. Overheads are also termed as __________ or __________.
2. Overheads can be classified as ________ and _______ on the basis of normality.
3. ________, _______ and ________ overheads are included under functional classification.
4. Overheads incurred for creating demand, attracting potential customers and retaining old customers are
known as _________.
5. _________ are incurred for converting raw material into finished goods.
Answer
1 2 3 4 5
Indirect/ Normal & Abnormal Factory, Office & Admin Selling Factory
Supplementary Cost Overheads Selling & Distribution overheads overheads
overheads
Questions
57
1. Works overheads are indirect costs related to office that are incurred when a product is worked
upon.
2. In case of abnormal defectives, the cost their rectification should be transferred to the Costing Profit
and Loss Account.
3. Expenses on removal of machine are treated as cost of production.
4. The cost of idle facilities due to abnormal reasons costs should be charged to costing profit and loss
account.
5. Interest on capital should not be excluded from costing records
6. Cost of large tools is generally capitalized.
7. Fines realised from workers cannot be treated as income.
8. Auditors’ fees should be included in office and administration overheads.
9. Abnormal amount of bad debts should be included in selling overheads.
10. Cost of packaging is always included in advertising cost.
Answer
1 2 3 4 5 6 7 8 9 10
False True False True False True True True False False
Questions
1. Allocation and apportionment of overheads is one and the same thing.
2. Overheads are also known as indirect expenses
3. Overhead distribution means assigning the cost of indirect material, indirect labour and indirect
expenses to a production department or service department.
4. Apportionment is required when costs of production can be easily assigned to a particular
department.
5. Allocation of overheads to a particular department is a direct process.
6. Apportionment of overheads on reciprocal basis is known as step ladder method.
7. Assignment of whole items of overheads to cost centres is known as allocation.
8. A service department only provides services to the other services departments under reciprocal
method of apportionment.
9. Process of distributing overheads of services department in the production department is called Re-
apportionment.
10. Expenses of time-keeping department and payroll department should be apportioned according to
the number of employees.
Answer
1 2 3 4 5 6 7 8 9 10
False True True False True False True False True True
1. When the common rate for the entire factory is applicable it is called as
a. Unit overhead rate b. Machine hour rate
c. Multiple overhead rate d. Blanket overhead rate
2. Pre-determined rates are useful in
a. The preparation of tenders. b. Preparation of quotations.
c. Deciding the selling price of the products. d. All of the above
3. The most appropriate method to treat under-absorbed overhead in the light of following balances
appear in the books on 31st December, 2018
Under absorbed overheads- Rs. 450, Cost of Sales- Rs. 9,40,000,
Work-in-progress- Rs. 30,000 Finished stock - Rs. 25,000
a. Transfer it to costing P&L A/C
58
b. Pro-rata between work-in-progress and finished goods.
c. Pro-rata it between work-in-progress, finished goods and cost of sales
4. Absorption refers to
a. The process of recovering allocated cost to a particular cost centre by the units produced in that
cost centre.
b. The process of apportioning cost to production departments.
c. Absorption is the process of allocation and apportionment of cost to the services department.
d. All of the above
Answer
1 2 3 4
D D A A
Questions
1. Under absorption arises when
a. Budgeted overheads are more than the actual overheads.
b. Budgeted overheads are less than the actual overheads.
c. Budgeted overheads are equal to the actual overheads.
d. All of the above
2. Under absorption of overheads due to faulty management should be treated through
a. Supplementary rate b. Carry forward to the next year
c. Costing and P/L account d. None of the above
3. The supplementary rate is adopted when the amount of under or over absorbed overheads is
a. Small b. Negligible
c. Large d. None of the above
4. Amount of overheads should be written off to Costing Profit and Loss Account in case of
a) Small b. Large
c. Negligible d. Any of these
5. When the normal business cycle extends for more than one year which of following accounting
treatment of under or over absorbed overheads is suitable
a. Supplementary rate b. Carry forward to the next year
c. Costing and P/L account d. None of the above
6. Which of the following are the reasons for over-recovery or under-recovery of overheads
a. Faulty estimation of overheads.
b. Seasonal fluctuations in the amount of overheads in the certain industries.
c. Wrong estimation of units produced or number of hours worked.
d. All of the above
Answers
1 B 2 C 3 C 4 A 5 B 6 D
Questions
1. A schedule of materials needed for the job or a unit of production
a. Job Card b. Bill of Material
c. Material Requisition d. Cost Sheet
2. The card hung outside each bin recording the physical movement of inflows and outflows of material
and hence showing the balance of quantity after every transaction
a. Bin Card b. Job card
c. Store Ledger d. All of the above
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3. The Economic Order Quantity is most economical size of the order at which the
a. total cost of item and total ordering cost are equal and minimum
b. total cost of item and total carrying cost are equal and minimum
c. total ordering cost and total carrying cost are equal and minimum.
d. total cost of item, total ordering cost and total carrying cost are equal and minimum
4. A system that keeps a running, continuous record that tracks inventories and cost of goods sold on a
transaction to transaction basis.
a. Periodical Inventory System b. Perpetual Inventory System
c. Persistent Inventory System d. Dead Inventory System
5. A system which computes the stock periodically by relying on physical count without keeping daily
records of units sold or in hand.
a. Periodical Inventory System b. Perpetual Inventory System
c. Persistent Inventory System d. Dead Inventory System
6. It is the legal authorization to the supplier of the goods to deliver the goods as per the description
and terms and condition mentioned therein
a. Material Requisition b. Bill of Material
c. Purchase Order d. Notice Inviting Tender
7. It is the ledger of materials maintained by the store keeper showing the purchases, issue, and balance
after every transaction both in quantity and value
a. Job Card b. Bin Card
c. Work Order d. Store Ledger
8. Pick the incorrect one regarding trade discount

a. The allowance which is allowed by the seller to a buyer who has to resell the articles
b. The discount allowed by the supplier for the bulk purchases.
c. It is allowed as a matter of trade policy.
d. This is allowed to compensate cost of storage, breaking bulk and selling and delivering in small
quantities.
9. Larger orders give the economies of scale, which is passed on to the purchaser by means of
a. Cash discount b. Trade discount
c. Quantity discount d. All of the above
10. The method is particularly suitable in case of perishable materials and in the period of falling prices
a. Simple Average b. Average Weightage
c. LIFO d. FIFO
11. Pick the correct one regarding LIFO system of inventory management
a. The method is particularly useful in the case of rising prices.
b. The production is charged at the price of latest purchases while the closing stock at the earliest
prices which are lower.
c. This leads to higher book profit and hence less tax liability.
d. All of the above.
12. The costs methods are based on the assumptions that the material purchased in different lots are
stored together and their identity gets lost are
a. simple average b. weightage average
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c. LIFO d. FIFO
Answer
1 2 3 4 5 6 7 8 9 10 11 12
Questions
1. The cost which is to be incurred even when a business unit is closed is a
a. imputed cost b. historical cost
c. sunk cost d. shutdown cost
2. Indirect material used in production is classified as
a. office overhead b. selling overhead
c. distribution overhead d. factory overhead
3. Warehouse rent is a part of
a. prime cost b. factory cost
c. distribution cost d. production cost
4. Cost accounting concepts include all the following except
a. planning b. controlling
c. profit sharing d. product costing
5. The ascertainment of costs after they have been incurred is known as
a. marginal costing b. historical costing
c. sunk cost d. notional cost
6. Bonus under Rowan scheme is paid
a. as a proportion of standard time to actual time
b. as a proportion of actual time to standard time
c. as a proportion of time saved to standard time
d. as a proportion of standard time to time saved
7. In order to avoid the stoppage of production due to shortage of material
a. maximum stock level is maintained b. minimum stock level is maintained
c. re-order level is maintained d. average stock level is maintained
8. Discarded material substances having no value is called
a. waste b. scrap
c. defectives d. spoilage
9. Discarded material substances having some value is
a. waste b. scrap
c. defective d. spoilage
10. Idle capacity of a plant refers to the difference between
a. maximum capacity and practical capacity b. practical capacity and normal capacity
c. practical capacity and capacity based on sales expectancy
d. maximum capacity and actual capacity
11. Fixed cost per unit increases when

a. variable cost per unit increases b. variable cost per unit decreases
c. production volume increases d. production volume decreases
12. The process of grouping of costs according to some common characteristics
a. absorption b. primary distribution
c. secondary distribution d. classification
13. The type of loss that should not affect cost of inventories is
a. normal loss b. abnormal loss
c. seasonal loss d. standard loss
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14. The expenses relating to a particular process is
a. debited to that process a/c b. credited to that process a/c
c. debited to costing profit and loss a/c d. debited to profit and loss a/c
15. Normal loss in the manufacturing process leads to
a. reduction in unit price of other good units b. increase in unit price of other good units
c. reduction in costing profit d. increase in costing profit
16. Abnormal loss and its value are
a. debited to process a/c b. credited to process a/c
c. debited to costing profit and loss a/c d. debited to profit and loss a/c
17. Actual loss is more than the predetermined normal loss, it is
a. normal loss b. abnormal loss
c. seasonal loss d. standard loss
18. In goods transport service the cost unit is
a. cost per ton b. cost per hour
c. cost per ton kilo meters d. cost per vehicle
19. Difference between job time and attendance time is
a. job time b. actual time
c. over time d. idle time
20. Operating costing is suitable for
a. job order business b. contractors
c. sugar industries d. service industries
Answer
1 2 3 4 5 6 7 8 9 10
D D C C B B B A B D
11 12 13 14 15 16 17 18 19 20
D D A A B B B C D D
Questions
1. Multiple costing is a technique of using two or more costing methods for ascertainment of cost by
a. the same firm b. the several firms
c. the same industry d. D. the several industries
2. Depreciation of plant and machinery is a part of
a. administration overhead b. selling overhead
c. distribution overhead d. factory overhead
3. The most important element of cost in manufacturing industries is
a. material b. labour
c. direct costs d. indirect costs
4. Which of the following methods of stock control aims at concentrating efforts on selected items of
material?
a. Perpetual inventory system b. Material turnover ratio
c. Level setting d. ABC analysis
5. Labour turnover is
a. productivity of labour b. efficiency of the labour
c. change in labour force d. total cost of the labour
6. Differential piece wages means
a. different wages for different level of performance
b. different wages for different time consumed
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c. different wages for different level of output
d. different wages for different types of industries
7. Time and motion study is conducted by
a. Time keeping department b. engineering department
c. payroll department d. personnel department
8. Under Gantts task and bonus plan no bonus is payable to a worker if his efficiency is less than
a. 50% b. 66.67%
c. 83.33% d. 100%
9. Overhead can be classified according to function-wise as
a. fixed, variable and semi-variable b. controllable and uncontrollable
c. Normal and abnormal
d. factory, office & administrative and selling and distribution
10. Annual usage is 12000 units @ Rs 40 per unit Cost of placing an order is Rs 75 and annual carrying
cost of one unit is 10% of inventory value EOQ
a. 671 units b. 751 units
c. 4243 units d. 424 units
11. The method in which issue prices of material is computed by dividing total purchase cost of material
in stock with total quantity in stock
a. Simple average method b. weighted average method
c. periodical average method d. periodic simple average method
12. Bad debt is an example of
a. production overhead b. administrative overhead
c. selling overhead d. distribution overhead
13. The process of redistribution of service department costs to production departments is
a. departmentalization b. primary distribution
c. secondary distribution d. classification
14. Under which plan efficiency is shared by employee and employer equally?
a. Halsey plan b. Gantts task and bonus plan
c. Time Rate d. Rowan plan
Answer
1 2 3 4 5 6 7 8 9 10 11 12 13 14
A D A D C A B D D A B C C A
Q 1. The following figures have been extracted from the records of a manufacturing company for the year
ending 31st March 2018. You are required to prepare a statement of cost showing: (a) Cost of raw materials
consumed (b) Prime Cost (c) Factory Cost (d) Cost of production (e) Cost of goods sold (f) Total cost of goods
sold and profit on sales.
Opening stock of raw material on 01.04.2017 3000

Closing stock of raw material 31.3.2018 2400
Purchase of raw material 14000
Opening stock of work-in-progress on 01.04.2017 1000
Closing stock of work-in-progress 31.3.2018 800
Carriage inward 500
Manufacturing wages 4000
Other direct expenses 200
Indirect wages 1000
Experiment expenses 400
Wastage of material 50
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Factory overhead 7000
Establishment on cost 2000
Selling overhead 4000
Distribution overhead 1000
Opening stock of finished goods on 01.04.2017 1200
Closing stock of finished goods 31.3.2018 3000
Sale 40000
Answer

Add: Purchase 14000
Add: Carriage inward 500
Add: Direct wages on labour/Manufacturing wages 4000
Prime Cost 19300
Add: Factory Overhead 8450
Indirect Wages 1000
Experiment expenses 400
Wastage of Material 50
Factory Overhead 7000
Gross Work Cost 27750
Add: Opening Work-in-progress 1000
Less: Closing work-in-progress (-) 800
Factory cost of work 27950
Add: Office & Administration Overhead/Establishment Cost 2000
Add: Opening stock of finished goods 1200
Cost of goods available for sale 31150
Less: Closing Stock of finished goods (-) 3000
Cost of goods sold 28150
Add: Selling Overhead 4000
Distribution overhead 1000
Total Cost of sale 33150
Sale 40000
Profit 6850
Question 2: Two Components, A and B are used as follows:
Normal usage 50 per week each

Maximum usage 75 per week each
Minimum usage 25 per week each
Re-order quantity A : 300; B : 500
Re-Order period A : 4 to 6 Weeks, B: 2 to 4 weeks
Calculate for each component (a) Re-ordering level, (b) Minimum level,(C) Maximum level (d)
Average Stock level.
Answer: (a) Re-ordering level: Maximum usage per week x Maximum delivery period.
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Re-ordering level for component A = 75 units x 6 Weeks = 450 units
Re-ordering level for component B = 75 units x 4 Weeks = 300 units
(b) Minimum level : Re-order level – (Normal usage x average period)
Minimum level for component A = 450 units - 50 units x 5 weeks = 200 units
Minimum level for component B = 300 units - 50 units x 3 weeks = 150 units
(c) Maximum level : ROL + ROQ – (Min. Usage x Minimum period)
Maximum level for component A = (450 units + 300 units) – (25 units x 4weeks) = 650 units
Maximum level for component B = (300 units + 500 units) – (25 units x 2 weeks) = 750 units
(d) Average stock level : ½ (Minimum + maximum) Stock level
Average stock level or component A = ½ (200 units + 650 units) = 425 units.
Average stock level for component B = ½ (150 units + 750 units) = 450 units.
Ques 3. With the help of the following particulars, prepare stores account showing issue of materials on the
basis of Last in First out and First in First Out
Receipt in Kg Issue in kg
Date Quantity Rate Date Quantity
03.08.2018 750 2 19.08.2018 850
18.08.2018 350 2.1 26.08.2018 450
25.08.2018 600 2.2 29.08.2018 510
28.08.2018 500 2.3 30.08.2018 150
Answer:
Store Ledger card (LIFO Method)
03.08.2018 750 2 1500 750 2 1500
18.08.2018 350 2.1 735 350 2.1 735
19.08.2018 350 2.1 735
500 2 100 250 2 500
25.08.2018 600 2.2 1320 600 2.2 1320
26.08.2018 450 2.2 990 250 2 500
150 2.2 330
28.08.2018 500 2.3 1150 500 2.3 1150
29.08.2018 500 2.3 1150 250 2 500
10 2.2 22 140 2.2 308
30.08.2018 140 2.2 308
10 2 20 240 2 480
Store Ledger card (FIFO Method)

03.08.2018 750 2 1500 750 2 1500
18.08.2018 350 2.1 735 350 2.1 735
19.08.2018 750 2 1500
100 2.1 210 250 2.1 525
25.08.2018 600 2.2 1320 600 2.2 1320
26.08.2018 250 2.1 525
200 2.2 440 400 2.2 880
28.08.2018 500 2.3 1150 500 2.3 1150
29.08.2018 400 2.2 880
110 2.3 253 390 2.3 897
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30.08.2018 150 2.3 345 240 23. 552
Ques 4. In a factory, there are 1,000 employees in the beginning of the year while they were 1400 employees
at the end of the year. During the year 100 employees left and 500 employees joined out of which 80
employees joined to replace old employees, rest of employees joined in expansion programme. Find labour
turnover rates.
𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑠𝑒𝑝𝑎𝑟𝑎𝑡𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑

Answer: a. Separation Method= 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑
x100
100
= 1200 x100 =8.33%
𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑟𝑒𝑝𝑙𝑎𝑐𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑
b. Replacement Method= 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑 x100
80
= x100 =6.67%
1200
c. Flux Method = x100
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑜𝑒𝑟𝑖𝑜𝑑
100+80 180
= 1200 x100 = 1200
x100 = 15%
𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑖𝑛 𝑏𝑒𝑔𝑖𝑛𝑛𝑖𝑛𝑔+𝑁𝑜.𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑎𝑡 𝑡ℎ𝑒 𝑒𝑛𝑑 𝑜𝑓 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑

 Average number of worker= 2
1000+1400 2400
= = =1200
2 2
Ques 5. From the following details, calculate the direct labour hour rate of department P.
(i) The number of workers – 300 (ii) The department works for 325 days in a year. (iii) The department
works for one shift of 8 hours. (iv) 10% of the man – hours is expected to be lost in idle time and, (v) The total
factory overheads of department P are Rs. 105300.
Also find out the overhead amount absorbable on job number 55 if the net direct labour hours spent
on this job are 5000.
Answer: Number of working hours= 325 days x 8 hours a day =2600 hours
Less idle hours = 10% of 2600 hours = 260
So effective working hours = 2600-260 = 2340
Accordingly, total effective hours of the department= 2340 x 300 = 702000
𝑂𝑣𝑒𝑟ℎ𝑒𝑎𝑑 105300
So direct labour hour rate= 𝐸𝑓𝑓𝑒𝑐𝑡𝑖𝑣𝑒 𝑙𝑎𝑏𝑜𝑢𝑟 ℎ𝑜𝑢𝑟 = 702000 = 0.15
Absorption of factory overhead on job number 55

= Direct labour hours × rate per hour = 5000×.15 = Rs. 750
Question 6: Pepsi Company produces a single article. Following cost data is given about its product:‐
Selling price per unit: Rs.40
Marginal cost per unit: Rs.24
Fixed cost per annum: Rs. 16000
Calculate: (a)P/V ratio (b) break even sales (c) sales to earn a profit of Rs. 2,000 (d) Profit at sales of Rs.
60,000 (e) New break even sales, if price is reduced by 10%.
Answer: (A) P/V Ratio = Contribution/sales x 100

16
Contribution = selling price-marginal cost = 40‐24 = 16 = 40 x100= 40%
(B) Break even sales = Sale x P/V Ratio = Fixed Cost
(At break-even sales, contribution is equal to fixed cost)
40 16000𝑥100
So, Sale x 100
= 16,000 = Sale = 40
= 40,000 OR 1000 units
66
(C) The sales to earn a profit of Rs. 2,000 = Sale x P/V Ratio = F + P
40 18000
Sale x 100
= 16000 + 2000 = Sale = 40
Sale = Rs. 45,000 OR 1125 units
(D) Profit at sales of 60,000

40
Sale x P/V Ratio = Fixed cost + Profit = Rs. 60,000 x 100
= 16000 + P =24,000 = 16000 + P
Profit = 24,000 – 16,000 = 8,000
(E) New break even sales, if sale price is reduced by10%
New sales price = 40‐10% = 40‐4 = 36
Marginal cost = Rs. 24
Contribution = Rs. 12
P/V Ratio = Contribution/Sales = 12/36 x100 OR 33.33%
Now, s x P/V Ratio = Fixed cost (at B.E.P. contribution is equal to fixed cost)
S x 100/300 = Rs.16000 S = 16000 x 300/100 S= Rs.48,000.
Question 7 .From the following information's find out:

a. P/V Ratio b. Sales & c. Margin of Safety
Fixed Cost = Rs.40, 000 , Profit = Rs. 20,000, B.E.P. = Rs. 80,000
Answer: a. P/V Ratio.
Sale –variable cost = Fixed cost + Profit

OR Sale(Sale – Variable cost)/Sale = Fixed cost + Profit
B.E.S. x P/V Ratio = Fixed cost ( Profit is zero at BE Sales)
OR P/V Ratio = Fixed cost/Break-even-Sale
So, P/V Ratio = 40,000/80,000 = 50/100 OR 50%
b. Sales.
Sales x P/V Ratio = Fixed cost + Profit OR Sales x P/V Ratio = Contribution
OR Sales = Contribution/P/V Ratio So, = (40,000 + 20,000)/50/100
= (60,000 x 100)/50 =Rs.1, 20,000
c. Margin of Safety.
Margin of Safety = Sales – B.E.P Sales

So, MOS = 1, 20,000 – 80,000 MOS = Rs.40, 000
67

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COST ACCOUNTANCY

Topic Page No.

COST, COSTING, COST ACCOUNTING AND COST ACCOUNTANCY

OBJECTIVES OF COST ACCOUNTING

Classification of Costs Ascertainment of Determination of Selling Price Ascertainment of Profit

COST ACCOUNTING Vs FINANCIAL ACCOUNTING

Sl Basis of Comparison Cost Accounting Financial Accounting

Management Employees Creditors Economy

Sl Point of Objection Brief details

FUNDAMENTALS OF COST, ITS ELEMENTS AND CLASSIFICATION

Cost Object Examples

ITEMS EXCLUDED FROM COST ACCOUNTS

Appropriation of profits Matters of pure finance Abnormal gains and losses

COMPONENTS OF TOTAL COST

ADJUSTMENT FOR INVENTORIES

Direct Material Consumed Work Cost Cost of Production of goods sold

Change in Controllability Avoidability Functional Other

Historical cost The original cost at the time of a transaction.

COST REDUCTION AND COST CONTROL

Basis Cost Control Cost Reduction

Raw Material Semi-finished Finished

Continuous supply of Optimum investment in Economy in purchasing Strict quality control

Planning Purchasing Receiving Inspection Storage Issue

A separate purchasing department Selection ofJust in Time Purchasing (JIT) aims at

Impact of changes in ordering and storage cost

MAXIMUM LEVEL, MINIMUM LEVEL AND REORDER LEVEL

Maximum Level Re-Order Level + Re- Order Quantity-(Minimum Consumption × Minimum

Total ordering Cost = No. of orders × ordering cost per order.

Ascertainment of Slow and Non- moving Materials and Stock Items

VALUATION OF INCOMING MATERIALS

METHODS OF PRICING ISSUES

Normal Loss Abnormal Loss

2018 1st Jan Opening stock 200 pieces @Rs. 2 each

Store Ledger card (SIMPLE AVERAGE)

(1) 2+2.4/2= 2.2 (2) 2.4+2.6/2=2.5

Store Ledger card (WEIGHTED AVERAGE)

Difference between Direct Labour and Indirect Labour

Basis Direct Labour Indirect Labour

CONTROL OVER LABOUR COST

Personnel Engineering Time-Keeping Payroll Cost-Accounting

IDLE TIME, HOLIDAY PAY, OVERTIME ETC

LABOUR REMUNERATION SYSTEM

Normal Incentive System Group Bonus

Factors before Introducing Incentive Plans

Stringent Quality Stringent Quantity Fixation of Performance No Cost

CAUSES OF LABOUR TURNOVER

Avoidable Causes Unavoidable Causes

LABOUR TURNOVER RATES

Number of employees on 1st April 2017: 950

𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑟𝑒𝑝𝑙𝑎𝑐𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑 20

𝑁𝑜 𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑠𝑒𝑝𝑎𝑟𝑎𝑡𝑒𝑑+𝑁𝑜.𝑜𝑓 𝑤𝑜𝑟𝑘𝑒𝑟𝑠 𝑟𝑒𝑝𝑙𝑎𝑐𝑒𝑑 𝑑𝑢𝑟𝑖𝑛𝑔 𝑡ℎ𝑒 𝑦𝑒𝑎𝑟/𝑝𝑒𝑟𝑖𝑜𝑑

Steps in accounting of overheads

Classification and Collection of overheads Distribution of overheads using

Nature Normality Controllability Variability Function

SOURCES OF OVERHEAD INFORMATION

Some important points on overheads

Some methods of charging Depreciation

Research and Development Costs

Types of research-Fundamental and Applied

Fundamental to investigate possibilities of technological developments and improving stock of basic

SELLING & ADMINISTRATIVE OVERHEADS

Selling Overhead Distribution Overhead

Some selling & distribution overheads: