76534A Cost Accounting May 06

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PAPER 4 : COST ACCOUNTING AND FINANCIAL MANAGEMENT

Section A : Cost Accounting

QUESTIONS

1. (a) "Costs may be classified in a variety of ways according to their nature and the informationneeds of the management." Explain.

(b) "Relevant cost analysis helps in drawing the attention of managers to those elements of costwhich are relevant for the decision." Comment.

2. The Stock Control Policy of a company is that, each stock is ordered twice a year. The quantumof each order being one-half of the year's forecast demand

The materials manager, however, wishes to introduce a policy in which for each item of stock,reorder levels and EOQ is calculated

For one of the items X; the following information is available:

Forecast annual demand 3,600 units

Cost / unit Rs. 100

Cost of placing an order Rs.40

Stock holding cost 20% of average stock value

Lead time 1 month

It is estimated by the materials manager that for item X, a buffer stock of additional 100 Unitsshould be provided to cover fluctuations in demand.

If the new policy is adopted, calculate for stock item X:

(i) the reorder level that should be set by the material manager;

(ii) the anticipated reduction in the value of the average stock investment;

(iii) the anticipated reduction in total inventory costs in the first and subsequent years.

3. (a) What is activity based costing?

(b) Explain the concept of cost drivers

Indicate what you will consider as cost drivers for the following business functions:

(i) Research and development;

(ii) Customer service.

4. You are required to calculate a suggested fare per passenger/km from the following informationfor a Mini Bus:

(i) Length of route: 30 km.

(ii) Purchase price: Rs. 4,00,000

(iii) Part of above cost met by loan, annual interest of which is Rs. 10,000/ p.a.

(iv) Other annual charges: Insurance Rs. 15,000, Garage rent Rs. 9,000, Road tax Rs. 3,000,Repairs & maintenance Rs. 15,000, Administrative charges Rs. 5,000.

(v) Running Expenses: Driver & Conductor Rs. 5,000/p.m., Repairs/ Replacement of tyre tubeRs. 3,600 p.a., Diesel and oil cost per km. Rs. 5.(vi) Effective life of vehicle is estimatedat 5 years at the end of which it will have a scrap value of Rs. 10,000.

(vii) Mini bus has 20 seats and is planned to make Six no. two-way trips for 25 days/p.m.

(viii) Provide profit @ 20% of total revenue.


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5. (i) What is normal and abnormal wastage? How are they dealt in cost accounts?

(ii) Jupiter Manufacturing uses a weighted-average process costing system at its satellite plant.Goods pass from the Major Assembly Department to the Finishing Department to finishedgoods inventory. The goods are inspected twice in the Finishing Department. The firstinspection occurs when the goods are 30% complete, and second inspection occurs at theend of production. The following data pertain to the Finishing Department for the month ofJuly.

Units

Good units started and completed during July 65,000

Normal spoilage first inspection 2,000

Abnormal spoilage second inspection 150

Ending work-in-process inventory, 60% complete 15,000

There was no beginning work-in-progress inventory in July. Juniper recognizes spoiled unitsto make the cost of all spoilage visible in their management reporting. What would be theEquivalent units for assigning costs for July ?

6. The profits of cost accounts may be different from those projected by financial accounts and insuch cases a memorandum reconciliation statement is needed In the context of this statement,discuss the possible reasons of differences between the two sets of accounts and the need ofreconciliation.

7. ABC Ltd operates a historical job costing system, which is not integrated with financial accounts.The company manufactures engines, the technology of which is frequently bought from inventorsto whom royalty is needed to be paid. The following are details of the opening balances in theCost Ledger for the month of May 2004 ,

Rs

Stores ledger control account 85,400

Work in progress control account 1,67,350

Finished goods control account 49,250

Cost ledger control account 3,02,000

The following transactions took place during the month:

Rs

Material:

Purchases 42,700

Issues to production 63,400

Issues to general maintenance 1,450

Issues to construction of manufacturing equipment 7,650

Factory wages

Total gross wages paid 1,24,000

Rs 75,750 of the above wages are direct wages while Rs 12,500 has been expended on theconstruction of manufacturing equipment; the balance being the amount paid as indirect wages.

The actual amount of p roduction overhead incurred excluding the items shown above amountedto Rs 1,52,350 out of which Rs 30,000 was absorbed by the manufacturing equipment underconstruction and Rs 7,550 was under absorbed. As per the policy of ABC Ltd, the under absorbedoverhead needed to be written off at the month end. The company shall also pay Rs 2,150 asroyalty for the relevant months production to an inventor from whom technology had been bought.


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Selling overheads : Rs. 22,000

Sales : Rs. 4,10,000

The companys gross profit margin is 25% on factory cost.

At the end of the month stocks of work in progress had increased by Rs 12,000. Themanufacturing equipment under construction was completed within the month , and transferredout of the cost ledger at the end of the month.

You are required to prepare the relevant control accounts, costing profit and loss account and anyother accounts you consider necessary to record the above transactions in the cost ledger for theconcerned month.

8. A company has three production departments and two service departments. Following detailsrelating to overheads analysed to production and service departments is made available to you.

Rs

Production department X 48,000

Y 42,000

Z 30,000

Service department 1 14,040

2 18,000

The expenses of service department are apportioned as follows:

Production departments Service departments

X Y Z 1 2

Service department 1 20% 40% 30% 10%

Service department 2 40% 20% 20% 20%

You are required to allocate the service department costs over the production departments usingthe simultaneous equation method.

9. A factory with two production processes. Normal loss in each process is 10% and scrapped unitssell for Rs. 0.50 each from process 1 and Rs. 3 each from process 2. Relevant information forcosting purposes relating to period 5 is as follows.

Direct materials added: Process 1 Process 2

Units 2,000 1,250

Cost Rs. 8,100 Rs. 1,900

Direct labour Rs. 4,000 Rs. 10,000

Production overhead 150% of direct labourcost

120% of directlabour cost

Output to process 2/finishedgoods

1,750 units 2,800 units

Actual production overhead Rs. 17,800

Required

Prepare the accounts for process 1, process 2, scrap, abnormal loss or gain and productionoverhead.


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10. Your company uses an integrated accounting system and applies overheads on the basis of pre-determined rates. The following are the figures from the Trial Balance as at 31-3-2005:

Rs.

Manufacturing overheads 4,26,544 Dr.

Manufacturing overheads applied 3,65,904 Cr.

Work-in-progress 1,41,480 Dr.

Finished goods stock 2,30,732 Dr.

Cost of goods sold 8,40,588 Dr.

You are required to show the profit implications under the following two methods,

(i) Write off to profit and loss account.

(ii) Adjustment to cost of sales and inventories of WIP and finished goods.

11. (a) Pane Company uses a job costing system and applies overhead to products on the basis ofdirect labour cost. Job No. 75, the only job in process on January 1, had the following costsassigned as of that date: direct materials, Rs. 40,000; direct labor, Rs. 80,000; and factoryoverhead, Rs. 120,000. The following selected costs were incurred during the year.

Traceable to jobs:

Direct materials Rs. 1,78,000

Direct labor 3,45,000 Rs. 523,000

Not traceable to jobs:

Factory materials and supplies 46,000

Indirect labor 2,35,000

Plant maintenance 73,000

Depreciation on factory equipment 29,000

Other factory costs 76,000 4,59,000

Panes profit plan for the year included budgeted direct labor of Rs. 3,20,000 and factory

overhead of Rs. 4,48,000. There was no work-in-process on December 31. What werePanes overhead for the year?

(b) Define the following terms:

(i) Cost Driver

(ii) Activity Cost Pool.

12. A transport service company is running five buses between two towns which are 50 kms apart.Seating capacity of each bus is 50 passengers. The following particulars were obtained from theirbooks for April 2005:

Rs.

Wages of drivers, conductors and cleaners 24,000

Salaries of office staff 10,000

Diesel oil and other oil 35,000

Repairs & maintenance 8,000

Taxation, insurance etc. 16,000

Depreciation 26,000

Interest and other expenses 20,000

1,39,000


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Actually passengers carried were 75% of seating capacity. All buses ran all 30 days of themonth. Each bus made one round trip per day.

Find out the cost per passenger kilometer.

13. ABC Ltd has received a request for a price quotation from one of its regular customers for anorder of 500 units with the following characteristics,

Direct labour per unit produced 2 hours

Direct material per unit produced Rs 22

Machine hours per unit produced 1 hour

Number of component and material purchases 6

Number of production runs for the component prior to the assembly 4

Average set up time per production run 3 hours

Number of deliveries 1

Number of customer visits 2

Engineering design and support 50 hours

Customer support 50 hours

Details of the activities required for the order are as follows:Direct labour processing and assembly activities Rs 10 per labour hour

Machine processing Rs 30 per machine hour

Purchasing and receiving materials and components Rs 100 per purchase order

Scheduling production Rs 250 per production run

Setting up machines Rs 120 per set up hour

Packaging and delivering orders to customers Rs 400 per delivery

Invoicing and account administration Rs 120 per customer order

Marketing and order negotiation Rs 300 per customer visit

Customer support activities including after sales

service

Rs 50 per customer service hour

Engineering design and support Rs 80 per engineering hour

You are required to estimate the full cost of the order under an activity based setup classifyingexpenses as

Unit level expenses

Batch level expenses

Product sustaining expenses

Customer sustaining expenses

14. The following particulars extracted from the books of Mr. Colin. Calculate cost per unit under (i)

Traditional volume based costing and (ii) Activity based costingMachinehrs. perunit

Direct labourhour per unit

Annualoutput(units)

Totalmachine

hours

Totaldirect

labour

No. ofpurchase

order

No. ofset ups

Product A 2 4 1,000 2,000 4,000 80 40

Product B 2 4 10,000 20,000 40,000 160 60

22,000 44,000 240 100


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The cost of activities is as follows:

Rs

Volume related 1,10,000

Purchasing related 1,20,000

Set-up related 2,10,000

4,40,00015. ABC Ltd is a construction company, which has undertaken three contracts. Information for the

previous year along with other details is provided to you below;

Contract A Contract B Contract C

(Rs.000). (Rs.000). (Rs.000)

Contract price 1,760 1,485 2,420

Balances brought forward at the beginning of theyear:

Material on site 20 30

Written down value of plant and machinery 77 374

Wages accrued 5 10

Transactions during previous year:

Profit previously transferred to profit and loss a/c 35

Cost of work certified (cost of sales) 418 814

Transactions during current year:

Material delivered to site 88 220 396

Wages paid 45 100 220

Salaries and other cost 15 40 50

Written down value of plant issued to site 190 35

Head office expenses apportioned during the year 10 20 50

Balances c/fwd at the end of the year:

Material on site 20

Written down value of plant and machinery 150 20 230

Wages accrued 5 10 15

Value of work certified at the end of the year 200 860 2100

Cost of work not certified at the end of the year 55

The agreed retention rate is 10% of the value of work certified by the contractees architect.Contract C is scheduled to be handed over to the contractee in the near future. It is estimated thatRs 3,05,000 shall be needed to be spent in addition to what has been tabulated above tocomplete this particular contract. This amount includes an allowance for plant depreciation,

construction services and for contingencies.

You are required to prepare contract accounts for each of the three contracts and recommendhow much profit or loss should be taken up for the year.

16. (a) Discuss briefly the Step method and Reciprocal Service method of secondary distribution ofoverheads.

(b) Differentiate between Job costing and Batch costing.

17. (a) What is the purpose of Cost Audit?. Discuss

(b) What is Cost reduction. Explain its Advantages. .


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18. (a) Discuss briefly the treatment of overtime in cost accounting.

(b) Discuss briefly the Gantt Task and Bonus system

19. (a) Briefly explain the concept of 'Opportunity Cost'.

(b) Distinguish between 'Cost control' and 'Cost reduction '.

20. (a) What is 'Defective Work'? How it is accounted for in cost accounts?

(b) Distinguish between 'Committed Fixed Costs' and 'Discretionary Fixed Costs'.

(c) How will you treat the research and development costs in connection with

(i) job undertaken on behalf of a customer; and

(ii) improvement in existing products ?

SUGGESTED ANSWERS/HINTS

1. (a) Cost classification is the process of grouping costs according to their characteristics. Costsare classified or grouped according to their common characteristics. Costs may be classifiedaccording to elements, according to functions or operations, according to their behaviour,according to controllability or according to normality.

The break up of the aggregate costs into relevant types, is an essential pre-requisite ofdecision making as well as of controlling costs. Classification of costs on different bases isthus necessary for various purposes. For the purpose of decision-making and control, costsare distinguished on the basis of their relevance to different type of decisions and controlfunctions. The importance of distinguishing costs as direct or indirect lies in the fact thatdirect costs of a product or an activity can be accurately allocated while indirect costs haveto be apportioned on the basis of certain assumptions. This is so because direct costs arecontrollable at the operational level whereas indirect costs are not amenable to such control.

(b) Relevant costs are pertinent or valid costs for a decision. These bear upon or influencedecision' and are directly related to the decisions to be made. These are critical to thedecision, and have significance for it. These are the costs which generally respond tomanagerial decision making, and have significance in arriving at correct conclusions. These

costs are capable of making a difference in user-decisions and enter into a choice betweenalternative courses of action. In specific terms, relevant costs for decisions are defined as"expected future costs that will differ under alternatives".

Relevant costs are futuristic in nature. These are the costs that are expected to occur duringthe time period covered by the decision. These costs are different between alternativesbeing considered. Only costs that differ among decision alternatives are relevant to adecision.

2. (i) Reorder level (to be set by the material manager)

= Safety stock + lead time consumption

= 100 units + 3,600 units /12 = 400 units

EOQ = 100.Rsx2.0

40.Rsxunits600,3x2

= 120 units

(ii) Anticipated reduction in the value of average stock investment

The average of total stock held under new system:

= Safety stock + EOQ/2= 100 units + 60 units = 160 units

The average stock investment under new system = 160 units x Rs.I00 = Rs. 16,000

The average of total stock held under old system

Previously, 1,800 units were ordered at a time and so the average stock held was 900 units.


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The average stock investment under old system Rs. 90,000 (900 units x Rs.100).

Therefore, anticipated reduction in the value of the average stock investment

= Rs. (90,000 - 16,000) =Rs. 74,000

(iii) Anticipated reduction in total inventory costs (in the first and subsequent years)

Under new system: Rs.

Annual ordering cost (3, 600 units x Rs.40 / 120units) 1,200

Stock holding cost (0.20 x Rs.16,000) 3,200

Total inventory cost 4,400

Under old system:

Annual ordering cost (2 orders x Rs. 40) 80

Stock holding cost (0.20 x Rs. 90, 000) 18,000

Total inventory cost 18,080

Thus, anticipated reduction in total inventory costs is Rs. 13,680 (Rs.18,080 - Rs.4,400)

However, in the first year, the safety stock of 100 units is to be purchased at a cost of Rs.10,000 (100 units x Rs.100). Therefore, while the saving would be of Rs. 13,680, the cost

reduction in the system would be only Rs.3,680. In subsequent years, however, the costreduction will be of Rs. 13,680.

3. (a) It focuses on activities as the fundamental cost objects and uses the costs of these activitiesas building blocks for compiling the costs of other objects.

Activity Based Costing can be defined as "Cost attribution to cost units on the basis ofbenefits received from indirect activities i.e. ordering, setting-up, assuring quality etc."

Under activity based costing costs are accumulated for each activity as a separate costobject. The collected costs are applied to products based on the benefits received fromvarious activities. The final product cost are built up from the costs of the specific activitiesundergone. In the first stage the activity driven overhead cost is charged to activity basedcost pools and in the second stage cost driver based rates are derived to charge cost toproduct lines. The cost driver based rates are based on activities.

Activity based costing can be used for;

(a) Pricing of products;

(b) Design and development of new products

(b) A cost driver is any factor whose change causes a change in the total cost of a related costobject. In other words, a change in the level of cost driver will cause a change in the level ofthe total cost of a related cost object.

The cost drivers for business functions viz. Research & Development and Customer Serviceare as below:

Business functions:

Cost driversResearch & Development Number of research projects

Personnel hours on a project

Technical complexities of projects

Customer Service Number of service calls

Number of products serviced

Hours spent on servicing products


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4. Working notes:

1. Depreciation per annum:

=lifeEstimated

valueScrappricePurchase

=years5

)000,10.Rs000,00,4.Rs( = Rs.78,000

2. Total distance travelled by mini-bus in 25 days:

= Length of the route (two-sides) x No. of trips per day x No. of days

= 60 km x 6 trips x 25 days

= 9,000 km

3. Total passenger km

= Total distance travelled by mini-bus in 25 days x No. of seats

= 9,000 km 20 seats = 1,80,000 passenger - km

Statement suggesting fare per passenger km

Cost per annumRs.

Cost per monthRs.

Fixed expenses

Insurance 15,000

Garage rent 9,000

Road tax 3,000

Administrative charges 5,000

Depreciation 78,000

(Refer to working note 1)

Interest on loan 10,000

1,20,000 10,000

Running expenses:

Repair and maintenance 15,000 1,250

Replacement of tyre-tube 3,600 300

Diesel and oil cost

9,000 km x Rs. 5

-- 45,000

Driver and conductors salary -- 5,000

Total cost (per month) 61,550

Add: Profit 20% of total revenue or 25% of totalcost

15,387.50

Total revenue 76,937.50

Rate per passenger-km

(Rs. 76,937.50/1,80,000 passenger km = 0.4274305 or 0.43 paise)

(Refer to working note 3)

5. (i) Normal wastage: It is defined as the loss of material which is inherent in the nature of work.Such wastage can be estimated in advance on the basis of past experience or technicalspecifications. If the wastage is within the specified limit, it is considered as normal.Suppose a company states that the normal wastage in Process A will be 5% of input. In such


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a case wastage upto 5% of input will be considered as normal wastage of the process.

When the wastage fetches no value, the cost of normal wastage is absorbed by goodproduction units of the process and the cost per unit of good production is increasedaccordingly. If the normal wastage realises some value, the value is credited to the processaccount to arrive at normal cost of normal output.

Abnormal wastage: It is defined as the wastage which is not inherent to manufacturingoperations. This type of wastage may occur due to the carelessness of workers, a bad plant,

design etc. Such a wastage cannot be estimated in advance. In other words any wastageexcess of normal wastage is abnormal wastage.

The units representing abnormal wastage are valued like good units produced and debited tothe separate account which is known as abnormal wastage account. If the abnormal wastagefetches some value, the same is credited to abnormal wastage account. The balance ofabnormal wastage account i.e. difference between value of units representing abnormalwastage minus realisation value is transferred to Costing Profit and Loss account for theyear.

(ii) Physical units Equivalent units

Started and completed during month(100%) 65,000 65,000

Normal spoilage (30%) 2,000 600

Abnormal spoilage(100%) 150 150

Ending work in process inventory (60%) 15,000 9,000

82,150 74,750

6. Differences between the two sets of accounts arises when separate books are maintained forboth cost accounts and financial accounts.

The various reasons for disagreement of profits may be listed as below:

1. Items appearing only in financial accounts

The following items of income and expenditure are normally included in financial accounts and notin cost accounts. Their inclusion in cost accounts might lead to unwise managerial decisions.

These items are:(i) Income:

(a) Profit on sale of assets

(b) Interest received

(c) Dividend received

(d) Rent receivable

(e) Share transfer fees

(ii) Expenditure:

(a) Loss on sale of assets

(b) Uninsured destruction of assets(c) Loss due to scrapping of plant and machinery

(d) Preliminary expenses written off

(e) Goodwill written off

(f) Underwriting commission and debenture discount written off

(g) Interest on mortgage and loans

(h) Fines and penalties


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2. Items appearing only in cost accounts

There are some items which are included in cost accounts but not in financial accounts.These are:

(a) Notional interest on capital;

(b) Notional rent on premises owned

3. Under or over-absorption of overhead

In cost accounts overheads are charged to production at pre-determined rates whereas infinancial accounts actual amount of overhead is charged, the difference gives rise to under-or over-absorption; causing a difference in profits. When such under absorption or overabsorption is charged or credited respectively to the Costing Profit and Loss Account, thereshall be no need of reconciliation.

4. Different bases of stock valuation

In financial books, stocks are valued at cost or market price, whichever is lower. In costbooks, however, stock of materials may be valued on FIFO or LIFO basis and work-in-progress may be valued at prime cost or works cost. Differences in stock valuation may thuscause a difference between the two profits.

5. Depreciation

The amount of depreciation charged may be different in the two sets of books eitherbecause of the different methods of calculating depreciation or the rates adopted. In costaccounts, for instance, the straight line method may be adopted whereas in financialaccounts it may be the diminishing balance method.

7. Cost ledger control account

Rs Rs

Sales a/c 4,10,000 1.5.04 Balance b/f 3,02,000

Capital underconstruction a/c

50,150 Stores ledger a/c -Purchases

42,700

Balance c/f 2,37,500 Wages control a/c 1,24,000

Production overheada/c

1,52,350

WIP a/c - Royalty 2,150

Selling overhead a/c 22,000

Profit 52,450

6,97,650 6,97,650

Stores ledger control account

Rs Rs

1,5,04 Balance b/f 85,400 WIP A/C 63,400

Cost ledger control a/c-Purchases

42,700 Production overhead control a/c 1,450

Capital a/c 7,650

31.5.04 Balance 55,600

1,28,100 1,28,100


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Wages control a/c

Rs Rs

Cost ledger control a/c 1,24,000 Capital a/c 12,500

Production 35,750

WIP a/c 7,550

1,24,000 1,24,000

Production overhead control account

Rs Rs

Stores ledger a/c 1,450 Capital a/c 30,000

Wages control a/c 35,750 WIP a/c Absorption(balancing figure) 1,52,000

Cost ledger controla/c

1,52,350 Costing P/L a/c (under absorption) 7,550

1,89,550 1,89,550

Work in progress control accountRs Rs

1.5.04 Balance b/f 1,67,350 Finished goods controla/c(balancing figure)

2,81,300

Stores ledger a/c issues 63,400 31.5.04 Balance c/f 1,79,350

Wages control a/c 75,750

Production overhead absorbed 1,52,000

Cost ledger control a/c-Royalty 2,150

4,60,650 4,60,650

Finished goods control account

Rs Rs

1.5.04 Balance b/f 49,250 Cost sales a/c 3,28,000

WIP a/c 2,81,300 31.5.04 Balance c/f 2,550

3,30,550 3,30,550

Capital under construction account

Rs Rs

Stores ledger a/c 7,650 Cost ledger control a/c 50,150

Wages control a/c 12,500

Production overhead absorbed 30,000

50,150 50,150

Sales account

Rs Rs

Costing P/L a/c 4,10,000 Cost ledger control a/c 4,10,000

Cost of sales a/c

Rs Rs

Finished goods a/c 3,28,000 Costing P/L a/c 3,28,000


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Selling overhead account

Rs Rs

Cost ledger control a/c 22,000 Costing P/L a/c 22,000

Costing profit and loss account

Rs Rs

Selling overhead a/c 22,000 Sales a/c 4,10,000

Production overhead (under absorbed) 7,550

Cost of sales a/c 3,28,000

Profit Cost ledger control a/c 52,450

4,10,000 4,10,000

Notes :

1.

Closing balance of work in progress Rs 1,67,350(opening balance)

Rs 12,000 (increase as per question)

Rs 1,79,350

2. Transfer from finished goods stock to cost of sales account : Rs 4,10,000 sales multiplied by

100/125 = Rs. 3,28,000

8. Let

X = total overhead of service department 1

Y = total overhead of service department 2

The total overhead transferred into service departments 1 and 2 can be expressed as

X = 14,040 +0.2 Y

Y = 18,000 + 0.1 X

Rearranging the above equations:

X 0.2 Y =14,040 ..(1)

- 0.1X + Y=18,000 ..(2)

Multiplying equation (1) by 5 and equation (2) by 1, we get

5X Y =70,200

-0.1X + Y =18,000

Adding the above equations together we have

4.9X =88,200

or X =18,000

and hence Y =19,800

Apportioning the values of X and Y to the production departments in the agreed percentages, we

haveX Y Z Total

Allocation as per overheadanalysis

48,000 42,000 30,000 1,20,000

Allocation of service department 1 3,600(20%) 7,200(40%) 5,400(30%) 16,200

Allocation of service department 2 7,920(40%) 3,960(20%) 3,960(20%) 15,840

59,520 53,160 39,360 1,52,040


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9. Output and losses

Process 1 Process 2

Units Units

Output 1,750 2,800

Normal loss (10% of input) 200 300

Abnormal loss 50 -

Abnormal gain - (100)2,000 3,000*

* 1,750 units from Process 1 + 1,250 units input to process.

Cost per unit of output and losses

Process 1 Process 2

Rs. Rs.

Cost of input

- material 8,100 1,900

- from process 1 - (1,750Rs. 10) 17,500

-labour 4,000 10,000

-overhead (150%Rs. 4,000) 6,000 (120%Rs. 10,000) 12,000

18,100 41,400

Less scrap value ofnormal loss

(200 Rs 0.50) (100) (300 Rs 3) (900)

18,000 40,500

Expected output

90% of 2,000 1,800

90% of 3,000 2,700

Cost per unit

Rs. 18,0001,800 Rs. 10

Rs. 40,5002,700 Rs. 15

Total cost of output and lossesProcess 1 Process 2

Rs. Rs.

Output (1,750Rs. 10) 17,500 (2,800Rs. 15) 42,000

Normal loss (200Rs. 0.50)* 100 (300Rs. 3)* 900

Abnormal loss (50Rs. 10) 500 -

18,100 42,900

Abnormal gain - (100Rs. 15) (1,500)

18,100 41,400

* Normal loss is valued at scrap value only.

Complete accounts

PROCESS 1 ACCOUNT

Units Rs. Units Rs.Direct material 2,000 8,100 Scrap a/c (normal loss) 200 100Direct labour 4,000 Process 2 a/c 1,750 17,500Productionoverhead a/c

6,000 Abnormal loss a/c 50 500

2,000 18,100 2,000 18,100


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PROCESS 2 ACCOUNT

Units Rs. Units Rs.

Direct materials

From process 1 1,750 17,500 Scrap a/c (normal loss) 300 900

Added materials 1,250 1,900 Finished goods a/c 2,800 42,000

Direct labour 10,000

Production overhead 12,0003,000 41,400

Abnormal gain 100 1,500

3,100 42,900 3,100 42,900

ABNORMAL LOSS ACCOUNT

Rs. Rs.

Process 1 (50 units) 500 Scrap a/c: sale of scrap of extra loss (50 units) 25

Profit and loss a/c 475

500 500

ABNORMAL GAIN ACCOUNTRs. Rs.

Scrap a/c (loss of scrap revenue due

to abnormal gain, 100 units Rs. 3)

300 Process 2 abnormal gain(100 units)

1,500

Profit and loss a/c 1,200

1,500 1,500

SCRAP ACCOUNT

Rs. Rs.

Scrap value of normal loss Cash a/c cash received

Process 1 (200 units) 100 Loss in process 1(250 units) 125

Process 2 (300 units) 900 Loss in process 2 (200 units) 600

Abnormal loss a/c (process 1) 25 Abnormal gain a/c (process 2) 300

1,025 1,025

PRODUCTION OVERHEAD ACCOUNT

Rs. Rs.

Overhead incurred 17,800 Process 1 a/c 6,000

Over-absorbed overhead a/c Process 2 a/c 12,000

(or P & L a/c) 200

18,000 18,000

10. Rs.

Actual overheads

Less:Overhead recovered 4,26,544

Overhead under-absorbed 3,65,904

60,604

(i) Write off to profit and loss account.

(ii) Adjustment to cost of sales and inventories of WIP and finished goods.

Under the Write off to profit and loss account. Rs.60,640 will be debited to Costing Profit andLoss Account resulting in the reduction of figure of profit for the year by Rs.60,640.


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Under the Adjustment to cost of sales and inventories of WIP and finished goods methodunder-absorbed overhead should be distributed to three Control Accounts i.e. Work-in-Progress, Finished Goods Stock Account, and Cost of Goods Sold Account. This distributioncan be attempted as follows:

Balances Additional Overhead(under-absorbed)

Total

Rs. Rs. Rs.

Work-in-Progress 1,41,480 7,074* 1,48,554

Finished Goods A/c 2,30,732 11,537** 2,42,269

Cost of Sales A/c 8,40,588 42,029*** 8,82,617

12,12,800 60,640 12,73,440

Working Notes Rs.

*(1,41,480 12,12,800) 60,640 7,074

**(2,30,73212,12,800) 60,640 11,537

***(8,40588+12,12,800) 60,640 42,029

By using this method, profit for the year will be reduced by Rs. 23,418 i.e. Rs.42,029(7,074+11,537). Amount of Rs. 42,029 will be debited to Profit and Loss Account with

cost of sales. Amount of Rs. 18,611 i.e. Rs. 7,074 + Rs. 11,537 will get credited to Profit andLoss Account as value of closing stock. The amount of Rs. 18,611 will again get debited toProfit and Loss Account next year as value of opening stock.

11. (a) Applied overhead actual = amount over/under applied

Rs. 4,48,000/Rs 3,20,000 = budgeted application rate of 1.4

Rs. 3,45,000 direct labour actual 1.4 = Rs 4,83,000 applied

Rs. 4,83,000 applied Rs 4,59,000 total not traceable = Rs 24,000 over applied.

(b) (i) Cost Driver: A cost driver is a characteristic of an event or activity that results in theincrease of costs. In activity based costing the most significant cost drivers areidentified.

(ii) Activity cost pool: It is a measure of the frequency and intensity of demand placed onactivities by cost objects. It is used to assign activity cost to cost objects.

12. Calculation of passenger kilometer

No. of Buses DistanceTo and FroSeating capacityPercentage of seating capacity No. ofdays in a month

= 500,62,530100

75502505 = kms

Operating cost sheet

Standing charges:- Rs Rs

Wages of drives, conductors and cleaners 24,000

Salaries of office staff 10,000

Taxation, Insurance 16,000

Interest & other expenses 20,000

70,000

Running & Maintenance cost:-

Repairs and maintenance 8,000


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Diesel and other oil 35,000

Depreciation 26,000 69,000

1,39,000

Cost per passenger km = 2471.0500,62,5

000,39,1= .

13. Estimate of cost

Rs Rs

Unit level expenses

Direct materials (500 Rs 22) 11,000

Direct labour (500 2 hours Rs 10) 10,000

Machining (500 1 hour Rs 30) 15,000 36,000

Batch level expenses

Purchasing and receiving materials and components( 6 Rs 100) 600

Scheduling production (4 production runs Rs 250) 1,000

Setting up machines (4 production runs 3 hours Rs 120) 1,440

Packaging and delivering( 1 delivery at Rs 400) 400 3,440

Product sustaining expenses

Engineering design and support( 50 hours Rs 80) 4,000

Customer sustaining expenses

Marketing and order negotiating ( 2 visits Rs 300 per visit) 600

Customer support ( 50 support hours Rs 50) 2,500 3,100

Estimated Cost 46,540

14. Traditional volume based costing system

Rs.Total cost allocated to cost centre 4,40,000

Machine Hour Rate =

hoursMachineTotal

overheadsTotal

=20.Rs

000,22

000,40,4=

Labour Hour Rate =

hourslabourTotal

overheadsTotal

=10.Rs

000,44

000,40,4=

Cost per unit = Machine hour ratemachine hours perunit

202 = 40

= Labour hour rateLabour hours per unit

= 104 = 40


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Total cost changed to product = Annual output Cost per unit

A = 1, 00040 = 40,000

B = 10,00040 = 4,00,000

ABC System

Volume related cost =

000,22

000,10,1

= Rs, 5 per Machine Hour

Purchase related cost =

240

000,20,1

= Rs. 500 per order

Set-up related cost =

100

000,20,2

= Rs. 2,100 per set up

Cost charged to products:-

Product X

Volume related cost = 2,0005 = 10,000

Purchase related cost = 80500 = 40,000

Set up related cost = 402100 = 84,000

1,34,000

Product Y:-

Volume related cost = 20,0005 = 1,00,000

Purchase related cost = 160500 80,000

Set up related cost = 602,100 1,26,000

3,06,000

15. Contract Accounts

(in Rs 000)

A B C A B C

Material on site b/fwd 20 30 Wages accrued b/fwd 5 10

Plant on site b/fwd 77 374 Material on site c/fwd 20

Material control a/c 88 220 396 Plant on site c/fwd 150 20 230

Wages control a/c 45 100 220 Cost of work not certified c/fwd 55

Salaries 15 40 50 Cost of sales current period (balance) c/fwd 183 497 840

Plant control a/c 190 35

Apportionment of HO

expenses

10 20 50

Wages accrued c/fwd 5 10 15

353 522 1,135 353 522 1,135

Cost of sales b/fwd 183 497 840 Attributable sales revenue (current period)* 183 442 1,122

Profit taken this period 282 Loss taken 55

183 497 1,122 183 497 1,122

Cost of work not certified b/fwd 55 Wages accrued b/fwd 5 10 15

Material on site b/fwd 20

Plant on site b/fwd 150 20 230


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* Profit taken plus cost of sales for the current period or cost of sales less loss to date

Note

Profit/loss on the three contracts are calculated by deducting the cost of sales (both previousyears and current year) from the value of work certified

(Rs 000)

Contract A 17 (Rs 200 Rs 183)

Contract B (55) (Rs 860 Rs 915)

Contract C 446 (Rs 2,100 Rs 1,654)

Recommendation

Computation of profit taken for Contract C is as follows

(Rs000)

Cost of work certified(cost of sales to date = 814 + 840) 1,654

Cost of work not certified 55

Estimated costs to complete 305

Estimated cost of contract 2,014

Contract price 2,420

Anticipated profit 406

Profit taken = 406Rs420,2Rs

)100,2Rs90.0(

less profit previously transferred

= Rs 3,17,000 Rs 35,000 = Rs 2,82,000

No profit has been taken for Contract A as it is in very early stages of completion

Prudence concept has been utilized for Contract B. All loss has been taken.

16. (a) Step method: This method gives cognizance to the service rendered by service departmentto another service deptt, thus sequence of apportionments has to be selected. The sequencehere begins with the deptt that renders service to the max number of other service deptt.After this, the cost of service deptt serving the next largest number of deptt is apportioned.

Reciprocal service method: This method recognizes the fact that where there are two ormore service deptt they may render service to each other and, therefore, these inter depttservices are to be given due weight while re-distributing the expense of service deptt. Themethods available for dealing with reciprocal equation method are:

Simultaneous equation method

Repeated distribution method

Trial and error method

(b) Job Costing and batch costing

According to job costing, costs are collected and accumulated according to jobs. Each job orunit of production is treated as a separate entity for the purpose of costing. Job costing maybe employed when jobs are executed for different customers according to theirspecifications.

Batch costing is a form of job costing , a lot of similar units which comprises the batch maybe used as a cost unit for ascertaining job. Such a method of costing is used in case of


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pharmaceutical industry readymade garment s, industries manufacturing parts of TV, radiosets etc.

17. (a) Purpose of Cost Audit: The purpose of cost audit is to examine whether the methods laiddown for ascertaining cost and the decisions are being properly implemented and whetherthe Cost Accounting plan has been adhered to or not.

Broadly, the purposes of cost audit can be classified as : (i) protective, and (ii) constructive.

Protective purpose of Cost Audit:Under this, cost audit aims at examining that there is noundue wastage or losses and the costing system brings out the correct and realistic cost ofproduction or processing. The benefit of this protective function is derived by theorganisation, its owners and consumers.

Constructive purpose of Cost Audit: Cost audit has a constructive purpose as well. Costauditor plays a constructive role by providing management of the company with informationuseful in regulating production; choosing economical methods of operation, reducingoperations cost and re-formulating plans etc., on the basis of his findings during the courseof cost audit.

(b) Cost reduction may be defined as the achievement of real and permanent reduction in theunit cost of goods manufactured or services rendered without impairing their suitability forthe use intended or diminution in the quality of the product.

Advantages of Cost reduction

The advantages accruing from cost reduction programme can be discussed under followingthree heads:

(i) In so far as an individual company is concerned, cost reduction results in profitimprovement. The more the profits, the more stable the company becomes. Itenhances the share value, improves investment opportunities and facilitates collectionof capital.

(ii) Society will be benefitted by reduced prices which may be possible by savings fromcost reduction programmes. Competitive position will improve and the industry as awhole will strive to improve productivity and pass on the advantage of such

programmes to the society. Workers and staff of the industry may also be benefittedthroughout increased wages and improved welfare amenities.

(iii) The country also stands to gain immensely by cost reduction programme. Industry willbe able to maintain the international parity in prices of exportable commodities andconsequential increase in export will result in increased foreign exchange savings. Alsointernal revenue will increase through more tax revenues.

18. (a) Treatment of Overtime Premium in Cost Accounting

If overtime is restored to at the desire of the customer, then overtime premium may becharged to the job directly.

If overtime is required to cope with general production programme or for meeting urgentorders, the overtime premium should be treated as overhead cost of the particular

department or cost center, which works overtime.

If overtime is worked in a dept. Due to the fault of another dept, the overtime premiumshould be charged to the latter dept.

Overtime worked on account of abnormal conditions such as flood, earthquake etc shouldnot be charged to cost but to costing P/L A/C.

(b) Gantt Task and Bonus System

This system is a combination of time and piecework system. According to this system a highstandard or task is set and payment is made at time rate to a worker for production below


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the set standard.

Wages payable to workers under the plan are calculated as under:

Output Payment

(i) Output below standard Guaranteed time rate

(ii) Output at standard Time rate plus bonus of 20% (usually of time rate)

(iii) Output over standard High price rate on workers output. It is so fixed, so as toinclude a bonus of 20% of time rate.

19. (a) Opportunity cost is primarily an economic concept. In Economics, the opportunity cost of adesignated alternative is the greatest 'net benefit lost by selecting an alternative. It is thebenefit given by rejecting one alternative and, selecting another."

Accounting takes the same view and defines it as the benefits forgone by rejecting thesecond best alternative in favour of the best. Opportunity costs represent the measurablevalue of opportunity bypassed by rejecting an alternative use of resources. It is the value inits best alternative use - the profit that is lost by the diversion of an input factor from one useto another. It is defined as the maximum contribution that is forgone by using limitedresources for a particular purpose.

Opportunity cost concept is helpful to the management in making profitability calculationswhen one or more of the inputs required by one or more of the alternative courses of actionis already available.

(b) The main points of distinction between "Cost control' and 'Cost reduction' are as follows:

Cost Control Cost Reduction

1. It aims at achieving the establishedcost standards

It aims at achieving a reduction in cost byusing any suitable technique like valueanalysis engineering; work study;standardisation; simplification etc.,

2. It is 'operated through targets orestablished standards and comparingthem with actual performance. Identifyingdeviations from standards and takingcorrective actions. Thus it lacks dynamicapproach.

It is a continuous process of critical. costexamination,' analysis and challenging ofestablished standards. Each aspect of thebusiness. viz., products, process,procedures, methods, organisation,personnel, etc.-, is critically. examined andreviewed, with a view to improving- theefficiency and effectiveness and reducingthe costs.

3. It assumes existence of norms orstandards which are not challenged.

It assumes the existence of concealedpotential savings in norms or standards.

4. It is a preventive function. It is a corrective action.

20. (a) 'Defective Work' is the work output which does not meet out the prescribed laid downstandard specifications. Such a situation may arise due to various causes, such as use ofsub-standard materials, bad workmanship, carelessness in planning, laxity in inspection,etc. Defectives can be reworked or reconditioned by the application of additional material,labour and/or processing and may be brought to the point of either standard work/productsor sub-standard products. Reworked units of defectives may be sold through regularchannels as first or seconds as the case may be.

Cost Accounting treatment: It intact is concerned with the accounting for costs of theirrectification and their nature as - normal or abnormal. The possible ways of treatment are asbelow:


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1. When defectives are normal and it is not beneficial to try to identify them job wise, thefollowing methods are generally used:

(a) Charged to good products: The cost of rectification of normal defectives ischarged to good units. This method is used when defectives rectified are normal.

(b) Charged to general overheads: Where the department responsible for defectivecannot be correctly identified, because defectives caused in one department arereflected only on further processing, the rework costs are charged to generaloverheads.

(c) Charged to departmental overheads: If the department responsible for defectivescan be correctly identified, the rectification costs should be charged to thatdepartment.

2. Where normal defectives are easily identifiable with specific jobs, the rework costs aredebited to the jobs.

3. When defectives are abnormal and are due to causes within the control of theorganisation, the rework cost should be charged to the costing profit and loss account.

(b) Committed fixed costs, are those fixed costs that arise from the possession of: (i) a plant,building and equipment (e.g. depreciation, rent, taxes, insurance premium etc.) or (ii) a

functioning organisation (i.e. salaries of staff). These costs remain unaffected by any short-run actions. These costs are affected primarily by long-run sales forecasts that, in turnindicates the long-run capacity targets. Hence careful long range planning, rather than day-to-day monitoring, is the key to managing committed costs.

Discretionary fixed costs, (sometimes called managed costs or programmed costs). Thesecosts have two important features:

(i) they arise from periodic (usually yearly) decisions regarding the maximum outlay to beincurred, and

(ii) they are not tied to a clear cause-and-effect relationship between inputs and outputs.Examples of discretionary fixed costs includes - advertising, public relations, executivetraining, teaching, research, health care etc. These costs are controllable.

(c) (i) Cost of R & D project undertaken on behalf of a specific customer should not be treatedas manufacturing overhead. It should be regarded as a separate profit centre. Allexpenses to meet such costs should be debited to "Outside R & D Project Account".Receipts against such requests are to be credited against this account.

(ii) Where research and development of products are undertaken on continuous basis theexpenditure is treated as product costs. The cost of incomplete research project shouldbe carried out continuously in order to retain company's place in the industry, theexpenditure should be treated as general overhead. Some companies prefer to chargesuch costs of continuous research, to the Profit & Loss Account.

76534A Cost Accounting May 06

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