The document provides an overview of cost accounting including: 1. Definitions of cost accounting and elements of cost accounting such as cost concepts, material costs, labor costs, overhead costs, and process costing. 2. Descriptions of different costing techniques including standard costing, variance analysis, and cost ledger accounting. 3. Explanations of key cost accounting terms like cost centers, cost units, and classifications of costs according to elements, functions, nature, controllability, and relevance to decision making.

1. Cost Accounting
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2. Syllabus
Paper 3.3 Cost Accounting
Cost Accounting – Elements of Cost + Cost Concepts
Accounting and Control of Material Cost.
Labour – Wage payment and incentive – Labour Cost Control – Labour Turnover.
Overhead – Classification – Allocation, Appointment and Absorption of overhead
Process Costing – Process losses – inter-process profits.
Standard costing – Variance analysis
Cost Ledgers- Reconciliation of cost and financial profits – Integral Accounting
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3. Contents
Lesson: 1 Introduction of Cost Accounting
Definition – Cost Concepts – Element of Cost – Installation of Costing System
Lesson: 2 Material Cost
Nature – Purchasing Functions – Stores Control – Stock Levels – EOQ – Pricing or Material Issues –
ABC-Analysis – Material houses.
Lesson: 3 Labour Cost
Nature – Wage Policy – Wage Payment methods – Incentive schemes, Leson turnmen.
Lesson: 4 Overhead Cost
Nature - Classification – Allocation – Apportionment of overhead cost – Absorption of overhead:
methods, Machine Hom Rate method.
Lesson: 5 Job Costing and Batch Costing
Nature – features – Cost Sheet preparation – Utilities – Limitations.
Lesson: 6 Contract Costing
Features – Types or Contract
Lesson: 7 Process Costing
Simple Process Costing – Process with Normal and abnormal causes – Inter process profit
Lesson: 8 Standard Costing and Variance Analysis
Definition – Uses and Limitations – Material Cost Variance – Labour Cost Variance – Overhead Cost
Variance and Sales Variance
Lesson: 9 Cost Ledger Accounting
Nature – Control Accounts and its Uses – Preparation of Cost Ledger Account
Lesson: 10 Integral Accounting
Nature – Uses – Preparation of Integral Accounts
Lesson: 11 Reconciliation of Cost and Financial Accounts – Need for Reconciliation – Steps in reconciliation –
Preparation of Reconciliation Statement.
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4. Lesson: 1
INTRODUCTION OF COST ACCOUNTING
Cost Accountancy
“It is the application of costing and cost accounting principle, method and techniques to the
science, art and practice of cost control and the ascertainment of profitability. It includes the
presentation of information derived there from for the purpose of managerial decision – making”.
The term ‘Cost Accountancy’ includes Costing and Cost accounting. Its purposes are Cost-
control and Profitability – ascertainment. It serves as an essential tool of the management for decision –
making.
Cost Accounting
“The process of accounting for cost from the point at which expenditure is incurred or
committed to the establishment of its ultimate relationship with cost centres and cost units. In its widest
usage it embraces the preparation of statistical data, the application of cost control methods and the
ascertainment of the profitability of activities carried out or planned” Cost accounting means such
as analysis of accounting and other information as to enable management to know the cost involved in
each activity together with its significant constituent elements in order to arrive at proper decisions.Cost
accounting provides management with cost data relating to products, processes, jobs and different
operations in order to control the costs and maximize the earnings. It play a vital role in all the business
activities.
Definition of Cost Accounting
The application of costing and cost accounting principles, methods and techniques to the
science, art and practice of cost control and the ascertainment of profitability. It includes the
presentation of information derived these from for the purpose of managerial decision making.
Objects of Cost Accounting
1. To serve as a guide to price fixing of products.
2. To disclose sources to wastage in various operations of manufacture.
3. To reveal sources of economy in production process.
4. To provide for an effective system of stores and material.
5. To measure the degree of efficiency of the various departments or units of production.
6. To provide suitable means and information to the top management to control and guide the
operations of the business organisation.
7. To exercise effective control on the costs, time and efforts of labour, machines and other
factors of production.
8. To compare actual costs with the standard costs and analyse the causes of variation.
9. To provide necessary information to develop cost standards and to introduce the system of
budgetary control.
10. It enables the management to know where to economize on costs, how to fix prices, how to
maximize profit and so on.
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5. TECHNIQUES AND METHOD OF COSTING
The types and techniques of costing are as follows:
1. Historial Costing:
‘The ascertainment of costs after they have been incurred’ Historical costs are, therefore, ‘postmortem’
costs as under this method all the expenses incurred on the production are first incurred and them the costs are
ascertained.
2. Standard Costing:
‘The preparation and use of standard costs, their comparison with actual costs and the analysis of
variance to their causes and points of incidence’.
Here the standards are first set and then they are compared with actual performances. The difference
between the standard and the actual is known as the variance. The variances are analyzed to find out their causes
and also the points or locations at which they occur.
3. Marginal Costing:
‘The ascertainment of marginal costs and of the effects on profit of changes in volumes or type of
output by differentiating between fixed costs and variable costs’.
The fixed costs are those which do not change but remain the same, with the increase or decrease in the
quantum of production. The variables costs are those which do change proportionately with the change in
quantum of production.
The marginal costing takes into account only the variable costs to find out ‘marginal costs’. The
difference between Sales and Marginal costs is known as ‘Contribution’ and contribution is an aggregate of
Fixed costs and Profit/Loss. So the fixed costs are deducted from the contribution to find out the profits.
Marginal costing is a technique to ascertain the effect on profits. Marginal costing is a technique to ascertain the
effect on profit by the change in the volume of output or by the change in the type of output.
4. Direct Costing:
The practice of charging all direct cost to operations, process or products, leaving all the indirect costs to be
written off against profits in the period in which they arise
5. Absorption Costing
‘The practice of charging all costs, both variables and fixed, to operations, processes or products.
This is the traditional technique as opposed to Marginal or Direct costing techniques. Here both the fixed
and variables cost are charged in the same manner.
Methods of Costing
The methods of costing can be divided into three main groups:
1. Job Costing;
2. Process Costing; and
3. Farm Costing.
1. Job Costing: The job costing methods are applicable where the unit of manufacture is one and
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6. complete in itself. They include printers, job foundries, tool manufactures, contractors, etc. the
following methods are included in Job Costing:
(i) Contract Costing: This method if applied in undertakings erecting buildings or carrying out
constructional works, e.g., House buildings, ship building, Civil Engineering contracts. Here the
cost unit is one and completed in itself. The cost unit is a contract which may continue for over
more than a year. It is also known as the Terminal Costing, since the works are to be completed
within a specified period as per terms of contract or agreement executed by the contractor and
contractee.
Contracts can be differentiated from fobs in as much as the contracts jobs are carried out outside
the factory and generally are of a long-term while jobs are carried out inside the factory and are
of a short duration. If an order complete in itself and meant only for the person who has placed
the order, this job-order is executed inside the press and the completion of the order takes a
short time as against the contract which may take years.
(ii) Batch Costing: In this method, a batch of similar or identical products is treated as a job. Here
the unit of cost is a batch of group of products, costs are collected and analyzed according to
batch numbers and the costs are ascertained batch wise. This method is applied in
pharmaceutical industries where medicines or injections are manufactures batch wise or in
general engineering factories producing components in convenient batches.
1. Process Costing: Process costing method is applicable to those industries manufacturing an number of
units of output requiring processing. Here an article has to undergo two or more processes for reaching
the stage of finished goods and succeeding process till completion.
Classification of Cost
The cost-classification is the process of grouping costs according to their characteristics. The cost can
be classified into the following:
1. According to elements;
2. According to Functions or Operations;
3. According to Nature or Behaviour,
4. Accounting to Controllability,
5. According to Normality,
6. According to Relevance to decision-making and Control.
• According to Elements: The cost is classified into i) Direct Cost, and ii) Indirect Cost according to
elements, viz., Materials, Labour and Expenses, the description of which occurs in the earlier pages of
this chapter.
• According to Functions: the cost is classified into the following:
i) Production Cost or Manufacturing Cost,
ii) Administration Cost,
iii) Selling Cost, and
iv) Distribution Cost,
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7. A brief description of each these items are given below:
i) Production Cost is ‘The cost of sequence of operation which begins with supplying materials,
labour and services and ends with primary packing of the product’.
It is also known as Manufacturing of Factory Cost.
ii) Administration Cost is “The Cost of formulating the policy, directing the organisation and
controlling the operations of an undertaking, which is not related directly to a production, selling,
distribution, research or development activity or function.” Administration Cost comprise office and
Administration expenses.
iii) Selling Cost is “The cost of seeking to create and stimulate demand (sometimes termed ‘marketing’)
and of securing order.”
It is also known as Selling expenses or Selling overheads which include all the expenses of Selling
Department.
iv) Distribution Cost is “The cost of sequence of operations which begins with making the packed
product available for dispatch and ends with making the re-conditioned returned empty package, if
any, available for re-use”.
It is known as Distribution expenses or overheads which include expenses like packing, warehouse
expenses, cost of freight, shipping charges and also the expenses of re-conditioning the returning
empty packages for using them again.
• According to Nature or Behaviour: Cost can be classified into
i) Fixed Cost ii) Variable Cost, and iii) Semi-Fixed for Semi-variable Cost.
i) Fixed Cost is “A cost which tends to be unaffected by variations in volume of output. Fixed costs
depend mainly on the effluxion of time and do not vary directly with volume of rate of output.
Fixed Costs are sometimes referred to as period costs in systems of direct costing.” Fixed costs or
Fixed expenses are those expenses which do not change with the increase or decrease in the
quantum of production but remain stable. They are period costs, e.g., Rent of Building, Salaries etc.
ii) Variable Cost is “A cost which tends to vary directly with volume of output, Variable costs are
sometimes referred to as direct costs in systems of direct costing.” Variable costs or expenses are
those which increase in direct proportion with the increase in production or which decrease in direct
proportion with the decrease in production, e.g., Direct Materials, Direct Labour, Power, Fuel etc.
iii) Semi-fixed or Semi-variable cost is “A cost which is partly variable.” This is a cost with changes
but not in direct proportion to the increase or decrease in the production-output, e.g., Repairs and
Maintenance, Salary of supervisors etc.
• According to controllability: The cost can be divided into:
i) Controllable Cost, ii) Uncontrollable Cost.
i) Controllable Cost: This is a cost which can be influenced by the action of a specified member of an
undertaking. The organisation is divided into departments or responsibility centres each managed by
a Head. The costs of a particular department or centre re guided by the person-in-charge of the
department. The costs which can be controlled by a ‘specified member’ who is generally an
important link in the management are the controllable costs. they Head of a cost-centre or a
department ahs control over variable costs only which include Prime cost and other variable
overheads. So the controllable costs are the variable costs.
v) Uncontrollable Costs: it is a cost which cannot be influenced by the action of a specified
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8. member of an undertaking. Uncontrollable costs are generally the Fixed costs, the control of
which does nto lie within the province of a member of the undertaking. The change in Fixed
costs is a mater to be decided at the top level of the management depending upon the policy of
the undertaking. Another example of he uncomtrollable cost is where the cost of one department
is shared by the other department for reason that the other department is taking the benefit of
services of the department. Suppose, the cost of Power departments is shared by the Machine
Department, the cost of this share is uncontrollable as it has no control over the cost of the other
department, viz., the Power Department.
• According to Normality:
The cost is classified into i) Normal cost, and ii) Abnormal cost
i) Normal Cost: It is the cost at a given level of output in the condition at which that level of output is
normally attained.
ii) Abnormal cost: it is a cost which is beyond normal cost.
• According to relevance to decision-making and Control:
The costs classified on this basis are the following
i) Shut-down Cost: A cost which will still be required to be incurred even though a plant is closed or
shut-down for a temporary period, e.g., the cost of rent, rates, depreciation, maintenance etc., is
known as shut-down cost.
ii) Shun Cost: A cost which has been incurred in the past or sunk in the past and is not relevant to the
particular decision-making is a sunk cost. If it is decided to replace the existing plant; the written
down book value of the plant less the sale value of the existing plant, is a Sunk a Irrevocable cost.
iii) Opportunity Cost: “The net selling price, rental value or transfer value which could be obtained at a
point in time if a particular asset or group of assets were to be sold, hired, or put to some alternative
use available to the owner at that time” is the opportunity cost. The cost which are related to the
sacrifice made or the benefits foregone are opportunity costs. to take an example, if a part of the
factory building has been let out on rent and now we want to use that portion for installing a plant,
we would naturally lose the rent that we used to get. So the loss of rent is the opportunity which
would arise due to putting the part of that factory building to an alternative use available to the
owner, and this cost should be kept in view while installing the plant.
iv) Imputed cost: it is hypothetical cost required to be considered to make costs comparable. If the
owner of the factory charges rent of the factory to the cost of production to make cost comparable
with that of those undertakings which run production in rented factories, it is an Imputed cost as the
rent has actually not been paid. Some is the case with charging Interest on one’s own capital.
COST-CENTRE AND COST-UNIT
Cost are ascertained according to Cost Centres or Cost Units.
Cost-centre
A Cost-Centre is a very wide term and includes the Productions. Department Processes, Work orders, Service
Department, Operations, Machine Centers, Area or regions of sales, Warehouses, Persons, etc., of which the
cost is to be ascertained.A Cost-Centre can be classified into the following four types:
1. Impersonal, 2. Personal, 3. Operation, 4. Process.
For manufacturing operations, the cost centres may be Production cost centers, i.e., the Production Departments
engaged in producing, or the Service cost-centres, i.e., the Service Departments which help the production work
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9. e.g., Store, Power Dept. Internal Transport Dept., Repairs and Maintenance Dept., etc.,
For sales operations, the cost-centres, all the machine or the persons operating those machines are brought
together under one cost-centre for determination and control of costs. where the work is carried on through
processes, each process is a cost centre. A machine or a group of machines can also be cost-centre. The Cost
Centres are very useful for analysis, ascertainment and control of costs.
Cost Unit
A Cost Unit is a unit of quality of product, service, or time (or a combination of these) in relation to which costs
may be ascertained or expressed.
Job is a cost unit which consists of a single order (or contract).
Batch is a cost unit which consists of a group of identical items which maintains its identity throughout one or
more stages of production.
Product Group is a cost unit which consists of a group of similar products.
Thus, cost unit is a sub-division into proper nomenclatures attributable to a unit of measurements of cost. Cost
Units are of two types: 1) Single. 2) Composite. The examples of Single Cost unit are-per tone, per meter, per
kilogram etc., and the examples of composite units are-per passenger-kilometer, per tone-kilometer etc.
INSTALLATION OF COSTING SYSTEM
The need and importance of the installation and the organisation of a good system of cost accounting are being
increasingly realized presently all over the business versatility. The common experience of enthusiastic youths
climbing the business – tree and falling mid-way without even collecting the leaves owes to the ignorance of he
use installation and organisatoin of accosting system, and to the infatuation that the profits could be earned
without it. A good system is the key-point governing, the mechanism of an enterprise in the field of cost
control, ascertainment of profitability, and managerial decision-making.
Installation of a cost system is not an expense but an investment as the rewards are much greater than the
expenses incurred. The cost system is for the business and not the business for a system of cost. Therefore, the
system has to be so designed as to meet the specific needs of the enterprise.
A) General Consideration for installing Costing System
The general considerations to be observed in installing a costing system are as follows:
• The Objective: Whether the objective of installing the costing system is limited to a specific area, e.g.
material management, or fixing selling price. Or to arrive at a certain managerial decision; or the object
is to install the system for covering all the aspects of cost affecting the business. The approach to install
the system will be dependent on its objectives.
• The Area of Operation: Having decided the objective, the areas of operation of the system are to be
studied, by which the management can be best benefited. If production is slack, attention will have to be
paid to increase it; if production is good but the sales are receding, study will be made to increase the
sales and action taken according to the results of study and analysis. Such areas which require
immediate attention are to be carved out on priority basis to be handled by the cost system,
• The Organisation of the Business: No system of cost installation would succeed until the organisation
structure of the business is taken into account. The organizational part would help to determine the
scope of working and improvement. If the interests of management call for certain minor changes in the
organizational structure, to its advantage, the same may have to be done.
• The Conception & Reception of the Idea: The idea of the installation of the cost system is to be placed
before the staff and the workers in a manner that it is well received and not objected to on flimsy
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10. grounds. The success of the system would depend on the cooperation of he persons engaged in the
enterprise, and the cooperation will be forth coming only if the idea and plans are well conceived and
received. The benefits of introducing the system to all the sections should be well explained.
• Collection of Data & Prompt Information: The cost data works as a base for decision-making. There
should be evolved a proper system for the collection of the required cost data and information promptly.
Secondly, there should be a system to verify the correctness of the data supplied, otherwise the
conclusions drawn would be wrong and time spent in its working would go waste.
• Cost Records & Cost Books: The maintenance of cost records and cost books depends on the size and
nature of the business, but the basic requirements. The manner in which the financial accounts could be
interlocked into an integral accounting system has to be studied and worked out. Decision has to be
taken if two separate set of books-one for financial accounts and other for cost accounts-have to be
maintained and thereafter the results are to be reconcile. Proper books and records are to be kept and
maintained to meet the requirements of either of the two situations mentioned above.
• Control system for the Elements of Cost: System would have to be devised for recording and controlling
costs of materials, labour and overheads, in accordance with costing principles and procedures.
• Type and Method of Costing: The choice of method of costing would depend on the nature of
production, e.g., Job Cost method or the Process Cost method. For cost control, standard costing along
with Budgetary control may have to be selected and applied. Similarly, for decision making, Marginal
and Differential costing techniques may be found useful. Preparations for the application of the
particular method and technique/type should be made initially.
• Responsibility Accounting: Responsibility accounting is a technique of cost control by delegating, etc.,
known as responsibility centres. Its has to be judged whether a particular official who had been assigned
a particular function, has implemented the same or not within the time’ allotted to him, or not, and thus
the responsibility has got to be fixed for failure-action on individual persons, for the sake of control of
cost. For this purpose, a system of responsibility accounting should be evolved.
B) Specific considerations for installing costing system
The specific considerations as distinct from general considerations to be kept in view while installing a cost
system are as follows:
• Size and Nature of Business: In a business of big size, a detailed cost system is necessary while in a
small business, the system should be within the requirements so that the expenses on the installation and
its working may not out-weigh the utility.
• The cost system is good for business engaged in manufacturing or in service-rendering concerns but for
others. Even in production enterprise like colliery where the production costs are all direct costs, the
financial where the production costs are all direct costs, the financial accounts may be so designed as to
obviate the need of any cost system, unless otherwise called for.
• Products: the nature of product determines the method of costing to be applied. If the material content of
the product is more valuable, the material cost records need be kept in comparatively more elaborate
manner so as to make material cost control effective. Same is the position with regard to labour and
overhead.
• Organisatoin: The organizational set up for a costing system should be modeled that the control part is
exercised by the Cost Accountant, as such, the present organizational set up of the costing department
need close study to suggest necessary changes.
• Functional study: The functional divisions of an undertaking based on cost are a) Manufacturing, b)
Administration, and c) Selling & Distribution. A study of the present working of the different
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11. departments in necessary to suggest improvements.
C) Principles for Smooth Working
The following principles should be kept in mind while introducing the cost system:
• The system should be simple and easy to operate.
• The system should be flexible, so that it may be expanded or contracted per needs of the business.
• The existing pattern should be disturbed only as little as may be considered desirable.
• The desired changes be introduced gradually and not in haste.
• Confidence be created by the Cost accountant in the minds of management and
• Executives regarding the utility of the system, so as to avoid unnecessary criticism
• And to obviate obstacles.
D) Line of Action
The following line of action is recommended for the installation of cost system.
• Determination of the type of costing and the method of costing, as may be suitable for the undertaking.
• To prepare forms, card, report-performs, books etc., for keeping records of all the elements of cost, viz.,
material, labour and overheads.
• To decide issues regarding material cost control, i.e., purchase, storing, issue and valuation.
• To decide matters regarding labor cost control, i.e., job evaluation, merit rating, appointment, time
recording, division of work, remuneration of labour and other allied problems like idle time, overtime,
labour turnover, casual workings, etc.
• Where the work is carried on more by machines, proper records be kept for the machines.
• To suggest a suitable system for the collection, classification and analysis of all.
• Types of everheads, i.e., manufacturing, administrative, and selling & distributive.
• To decide the methods of allocation and apportionment of overheads among the production departments
and Service departments which should be earlier clearly demarcated, and to decide the method of
absorption of overheads.
• To decide normal capacity of production and prepare budgets and standards.
• To maintain books of cost control based on double-entry principle.
• To devise information system by which the costing department may communicate to other departments
and receive reports and other necessary informations promptly .
Merit of Cost Accounting
Helpful in Planning and Decision Making: Cost information brings to light the profitable activities of the
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12. organisation. It provided the sound and rational basis for planning, the changes in products, plants, processes
and techniques of production. The information provided by cost accounting is also useful in evaluating the
various alternatives involved in a situation before taking any final decision.
Inventory Control: As an efficient stores accounting system is essential to an adequate system of cost accounts,
in effective check is provided on all materials and stores.
Ascertainment of Costs: Cost accounting is very helpful in calculating the cost of an article being produced by
the enterprise. It helps in fixing the selling price of the product.
Standard Costs: It helps the production manger not only to find what various jobs and processes have cost but
also what they should have cost. The pre-planned standard costs are used for comparison of the cost of the
products.
Assistance in Manufacturing: Cost accounting pinpoints lapses in purchases of raw materials and other
articles, their utilization. It indicates where wastages are occurring long before the production is finished. It
helps to take immediate steps to avoid such losses and wastes.
Promotion of Sales: Cost accounting is also very helpful in the promotion of sales by adopting an appropriate
price policy. The technique of break even analysis serves as constant remember to increase the sales to the break
even point. It also seeks to control the selling and distribution coasts.
Evaluation of Profitability: It helps in elimination unprofitable activities and operations.
Profit can be Maximised: Cost accounting helps the management in maximizing profits by eliminating all
wastes and uneconomical processes. This cost accounts help in increasing points and minimizing loses.
COST SHEET
Cost Sheets are statements setting out the costs of a product giving details of all the costs. Presentation of
costing information depends upon the method of costing. A cost sheet can be prepared weekly, monthly,
quarterly or annually.
In a cost sheet besides total expenditure incurred, cost per unit of output in case of each element of cost can be
shown in a separate column. The cost sheet should give cost per unit in the previous period for the purposes of
comparison.
Advantages of Cost Sheet
1. It is a simple and useful medium of communication which gives information about costs to all levels of
management in a simple and lucid form.
2. It helps in comparative study of the various elements of costs with the past results and standard cost.
Thus it helps the management in control process.
3. It helps the management in fixing up the selling price more accurately.
4. If acts as a guide to the manufacturer and helps him in formulating a definite and profitable production
policy.
5. It enables a producer keep a close watch and control over the cost of production.
6. It shows the total cost and the per unit of the units produced during the given period.
Problem 1
The following particulars have been extracted from the costing records of a manufacturing co., for the year
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13. ended 30th June, 1991.
Rs.
Raw material purchase 1,00,000
Wages
Direct 60,000
Indirect 10,000
Office Salaries 22,000
Finished Goods stock 10,000
Advertising 6,000
Agent’s Commission 10,000
Rent, rates & taxes etc (9/10 for works , 1/10 for 2,000
office)
Works 4,000
Building-repairs 2,000
Salaries-plant 4,000
Depreciation Rs.
Plant Machinery 4,000
Building 2,000
Carriage inward 2,000
Carriage Outward 6,000
Sales 4,00,000
Opening Stock-
Raw material 40,000
Travelling expenses 2,000
Power 2,000
Plant Maintenance 8,000
Miscellaneous expenses
Plant 2,000
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14. Office 2,000
Closing Stock
Raw Materials 40,000
Finished goods 6,000
Building is occupied 9/10 by factory and 1/10 by office. Production 20,000 (Units)
You are required to prepare a detailed cost statement showing
i) Materials consumed
ii) Prime cost
iii) Works on cost.
iv) Cost of production
v) Cost of sales and
vi) Profit earned
Solution
Cost statement of the year ended 30th June, 1991.
Particular Total Cost Cost per unit
Opening Stock of raw 40,000
material
Add Purchases 1,00,000
Add Carriage inward 2,000
1,42,000
Less Closing stock or raw 40,000
materials
i) Materials consumed 1,02,000 5.10
Direct labour 60,000 3,00
ii) Prime Cost 1,62,000 8.10
Add: Factory overheads
Indirect Wages 10,000 0.50
Power 2,000 0.10
Plant Maintenance 8,000 0.40
Rent, rates and taxes (9/10) 1,800 0.09
Misc. Expenses 2,000 0.10
Repairs – Building (9/10)0.20 1,800 0.20
Salaries – Plant 4000 0.20
Depreciation – Plant 4,000 0.09
-Building (9/10) 1,800 34,000 1.77
iii) Works cost 1,97,400 9.87
Add: Office Overheads
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15. Office Salaries 22,000 1.10
Rents, Rates and Taxes (1/10) 200 0.01
Misc. expenses 4,000 0.20
Repairs – Building (1/10) 200 0.01
Depreciation- Building (1/10) 200 26,600 0.01 1.33
iv) Cost of Production 2,24,000 11.20
Add: Opening Stock of 10,000
finished product
2,34,000
Less: Closing stock of 6,000
finished goods
Cost of goods sold 2,28,000
Add: Selling and distribution
overheads
Carriage outwards 6,000
Travelling expenses 2,000
Advertising 6,000
Agent’s Commission 10,000 24,000
Cost of Sales 2,52,000
Add Profit margin 1,48,000
v) Sales value 4,00,000
Problem 2
The cost of Sale of Product A is made up as follows:
Materials used in 55000 Direct Expenses 5000
Manufacturing
Materials used in Primary 10000 Indirect Expenses (factory) 1000
packing
Materials used in selling 1500 Administration expenses 1250
product
Materials used in Factory 750 Depreciation of office building 750
& equipments
Materials used in office 1250 Dep. On factory buildings 1750
Labour required in Producting 10000 Selling expenses 3500
Labour required for factory 2000 Freight on material purchased 5000
supervision
Advertising 1250
Assuming that all products are manufactured are sold, what should be the selling price to be obtained as a profit
of 20% on selling price?
Solution
COST SHEET
STATEMENT OF COST AND PROFIT
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16. Direct material Rs. Rs.
Materials used in manufacturing 55000 100000
Materials used in primary packing 10000
Freight on material purchased 5000 70000
Direct labour 10000
Direct expenses-factory 5000
Direct expenses-factory 85000
PRIME COST
Factory overheads 750
Labour required for factory supervision 2000
Indirect expenses – factory 1000
Dept. on factory building 1750 5500
WORKS COST 90500
Administration O-H
Materials used in OH10 1250
Administration expenses 1250
Dept. on office building equipment 750 3250
COST OF PRODUCTION 93750
Sellings Distribution O-H
Materials used in selling the product 1500
Selling expenses 3500
Advertising 1250 6250
COST OF SALES 100000
Profit (20% on selling price or 25% on cost) 25000
SELLING PRICE 125000
Problem 3
From the following data prepare a cost & profit statement of Vijay stoves manufacturing company for the year 1990.
Stock of materials as on 35000 Establishment expense 10000
1.1.1990
Stock of materials as on 49000 Completed stock in hand -
31.12.1990 1.1.90
Purchase of materials 52500 Completed stock in hand 35000
31.12.90
Direct wages 95000
Factory expenses 17500 Sales 189000
The number of stoves manufacturing during the year 1990 was 1000. The company wants to quote for the contract for
the stoves to be quoted are of uniform quality and make similar to those manufacturing in the previous year. But cost of
materials has increased 15% and cost of factory labour by 10%. Prepare a statement of net profit to be quoted to give the
same percentage of net profit of turnover as was realized during the year 1990 assuming that the cost per unit of O.H.
charges will be the same as the previous year.
BSPATIL 16

17. Solution
COST AND PROFIT STATEMENT OF STOVES 1990
Amount Rs. Amount Rs.
Opening Stock of Materials 35000
Purchase of Materials 52500
87500
Closing stock of Materials 4900
VOLUME OF MATERIAL CONSUMED 82600 20.65
Direct wages 95000 23.75
PRIME COST 177600 44.40
Factory expenses 17500 4.37
WORK COST 195100 48.77
Establishment expenses 10000 2.50
COST OF PRODUCTION 205100 51.27
Opening completed stock -
Cost of production during the prd 205100
Closing completed stock 35000
COST OF SALES 170100
PROFIT 18900
SELLING PRICE 189000
STATEMENT SHOWING QUOTATION PRICE FOR 1000 STOVES
Materials consumed 20650
15% increase 3098
23748
Factory wages 23750
10%a increase 2375
PRIME COST 26125
Factory expenses 49873
4370
WORK COST 54243
Establishment expenses 2500
TOTAL COST 56743
(profit 10% of selling price of 1/9 of cost) 6305
SELLING PRICE 63058
BSPATIL 17

18. Lesson 2
Material Cost
The term ‘materials’ refers to such commodities which are supplied to the manufacturing industry in their crude
or original forms. They are raw in nature of have to be processed further. Broadly, these may be classified in the
following groups: Raw materials, components, consumable stores, Maintenance Materials, Tools etc.
Since the underlying purpose of cost accounting is to minimize the cost of production, it is important that an
effective control is exercised over them. The storage space and storage costs re reduce thereby. Control over materials is
also necessary to prevent extra-expenses on their unnecessary purchase and improper use. A regular supply of materials
greatly helps the production schedule. It is necessary, therefore, that statements are prepared to accurately record the
value of materials consumed by each department of job.
Material Cost Control envisages a proper organisatoin for the efficient purchasing and storing of the materials,
and for making them issued to the departments or the cost-centres in appropriate quantities. At the proper times and
valued at the right prices.
The materials cost control aims at keeping the material cost within reasonable limits, budgets or standards.
This control is exercised beginnings from the point the orders are prepared for being placed with the suppliers,
and ending at the point the materials are effectively utilized in production or are disposed off otherwise.
The following factors contribute to purchase control:
i) Determination of Quantity to be purchased
Quantities purchased in excessive number or weight block the working capital and the quantities purchased below
the reasonable limit endanger the continuous working of the factory.
ii) Determination of the Ordering Point
The ordering point of the ordering level is one at which the order for purchase of materials is to be placed with the
suppliers when the stock of that material is reduced to that point by consumption or otherwise.
iii) Determination of Price at which to be purchased
The selection of right suppliers and the best terms available out of the quotations received helps this factor.
The Purchase cycle constitutes the following:
1. Initiating the purchase;
2. Receiving of the Purchase Requisitions;
3. Deciding important factors relating to purchase;
4. Selecting the suppliers;
5. Placing purchase-orders and follow-up
6. Receiving the supply and returning unwarranted suppliers;
7. Inspecting the material received; and
8. Passing invoices for payment.
The important factors to be decided are:
a) What to purchase;
b) When to purchase; and
c) How much to purchase.
After receiving the Purchase Requisitions, the next step is to select the suppliers to whom the orders may be sent for
the supply. This is done by inviting tenders or quotations from different suppliers.
While inviting the tenders, the supplying firms should be requested to state their terms and conditions of supply,
delivery time, mode of payment, etc., clearly and to send the tenders in sealed covers.
Having accepted the tenders, the orders are place by the Purchase Department with the firms selected fro the
purchase of requisitioned materials.
The purchaser order should be prepared on the printed form and should contain all the necessary details, so as to
BSPATIL 18

19. leave no room for any ambiguity or doubt and so as to avoid legal complications.
Follow-up of the Purchase order if essential to keep the schedule of supply by the specified date so that
production work may not suffer.
The Receiving Department checks the supply from the copy of the Purchaser order and prepares his report of the
goods received.
The Inspection Department makes an inspection of the goods received regarding the quality and specifications.
Stores Records
1. Bin Card
A Bin card, also known as Bin Tag or Stock card, is a card showing quantitative record of the receipts, issues and
closing balances of the material kept in the corresponding bin. The Bin card is placed in the bin or shelf or is hung
over the almirah or the rack otherwise known as ‘Bin’. Separate Bin cards are prepared for each item of stores and if
two different materials are kept in one almirah, two Bin cards, one for each, are prepared, treating the almirah as two
bins.
2. Stores Ledger
Stores Ledger is a record of stores, both in quantity and value and is maintained by the stores Accountant. It
is similar to Bin card but with the main difference that value of material is shown in the Stores ledger. Stores Ledger
is an important book and the account of each item of stores is maintained separately. While Bin cards are maintained
by store-keeper in the store, Store Ledger is maintained in the accounting department by the Stores Accountant.
Material Control and its Requirements
“ ‘Material Control’ may be defined as the regulation of the procedures for requisitioning, buying, receiving,
storing, handling and usage of materials”.
The main requirements of a system of material control are:
• Planning and fixation of definite responsibility for each function of material.
• Co-ordination between departments responsible for requisitioning, purchasing, receiving, inspecting, storing
and utilizing the materials,
• Centralization on purchases.
• Use of material purchase budget and material requirement budget.
• Use of standard and uniform forms, and
• Proper system of stock control.
For proper application of the material control the following steps are necessary.
1. Purchasing of materials
2. Receiving and inspecting of materials
3. Storing of materials
4. Pricing material Issues
5. Accounting materials losses.
6. Keeping physical and perpetual inventory
Purchasing of Materials
In a large manufacturing concern, a separate purchase department is set up with the object of effecting all purchases.
The top management lays down the purchase department. It is the function of the purchaser department to decide: i)
What to purchaser; ii) When to purchase; iii) form where to purchase; iv) how much to purchase, and v) finally at
what price the material should be purchased.
BSPATIL 19

20. Maintenance of Stock Levels
The next important point after determination of EOQ is to decide as to when the order for purchase should be
placed. The answer is simple. The order for purchase should be placed when the stock is reduced by usage to the Order
Point. The Order Point is one where the order should be placed for the economic order quantity. For deciding Order
Point, two things, viz., (1) Lead time and (2) Usage during Lead time, are the determining factors. Lead time is the
supply time, or to be more specific, Lead Time is “the time interval between placing an order and having materials on
the factory floor ready for production…”
Usage means the sue of materials by consumptions for productions, or the stock of finished goods sold.
Sometimes purchase are made in large bulk in a season if the goods are seasonal, i.e., available in one season
only, or at a time when it is feared that the goods may not be found available in the near future due to some reason.
Special items for which no limit or order-points are fixed may be purchased as and when needed.
To avoid over-stocking and under stocking each items of the inventory has the Maximum Level. Minimum
Level and an Order point.
Order Point
It is also known; ‘Ordering Level’; or ‘ Recorder Point’, or ‘Reordering Level or ‘Ordering Limit’, it has been
stated earlier that Order Point is at which order for supply of materials or goods is placed. To decide the Order
Point, three factors are considered, viz., (1) Lead time (2) Usage during Lead time, and (3) Minimum Limit, or
the Safety stock.
In order to ensure that the optimum quantity of material is purchased and stocked, neither less nor more, the
storekeeper applies scientific techniques of materials management. Fixing of certain levels for each items of
materials is one of such techniques.
The following levels are generally fixed.
1. Maximum level
2. Minimum level
3. Order level
4. Danger level
1. Maximum level
The maximum stock level indicates the maximum quantity of an item of material which can be held in stock at any
time.
The maximum stock can be calculated by applying the following formula.
Maximum level – Re-order level + re-order quantity – (minimum consumption X minimum re-order period)
2. Minimum level
Minimum level represents the quantity below which the inventory of any items should not allowed to fall; in other
words, an enterprise must maintain minimum quantity of stock so that the production is not hampered due to non-
availability of materials. If some buffer inventory is acting as a cushion against reasonable expected maximum
usage.
Formula:
Minimum level = Re-order level – (Normal consumption x normal re-order period)
3. Re-ordering Level Point
Re-ordering stock level in relation to an items of stock is the point at which it becomes essential to initiate purchase
orders for its fresh supplies. Normally, re-ordering level is a point between the maximum and the minimum levels.
Fresh orders must be placed before the actual stocks touch the minimum level.
Reorder level = maximum re-order period x maximum usage.
4. Danger level
The danger level is below the minimum level and represents a stage where immediate steps are taken for getting
BSPATIL 20

21. stock replenished. When the stock reaches danger level it is indicative that if no emergency steps are taken to
restock the material, the stores will be completely exhausted and normal production stopped. Generally the danger
level of stock is fixed above the minimum level but below the re-ordering level.
Economic Order Quantity Analysis
Economic Order Quantity
This represents the normal quantity to be placed on order when the stock has reached its re-order level. Re-
ordering quantity is to be fixed taking into account the maximum and minimum stock levels. The quantity ordered must
be that which, when added to the minimum stock, will not exceed the maximum stock to be carried at any point of time.
The following factors govern the re-ordering quantity.
1. Average consumption
2. Cost of pacing order
3. Cost of storage
4. Interest on capital etc.,
Carrying cost of inventory consists of
i) The costs of physical storage, such as cost of space, handling and upkeep expenses, insurance, cost of
obsolescence etc.
ii) Interest on capital invested (the opportunity cost of the capital blocked up) and
iii) Cost of placing the order each time.
Economic order quantity or economic lot size (if it relates to production) refers to the number ordered in a single
purchase or number of units should be manufactured in a single run so that the total costs-ordering or set up costs and
inventory carrying costs are at the minimum level. In other words, it is the quantity that should be ordered at one time so
as to minimize the total of
i) Cost of placing orders and receiving the goods, and
ii) Cost of storing the goods as well as interest on the capital invested. The economic order quantity can be
determined by the following simple formula.
EOQ = Economic order quantity or number of units in one lot.
A = Annual usage in units
S = Ordering costs for one order (or set-up costs for one set-up)
I = Inventory carrying costs per unit per year.
This formula is based in three assumptions:
i) Price will remain constant throughout the year and quantity discount is not involved.
ii) Pattern of consumption, variable ordering costs per order and variable inventory carrying charge per unit per
annum will remain the same throughout, and
iii) EOQ will be delivered each time the stock balance, excluding safety stock, is just reduced to nil.
Problem 1
Suppose the annual consumption is 675 units, 10% is the interest and cost of storing an article costing Rs. 30 per
unit, cost of placing and order is Rs. 18. Calculate the E.O.Q.
Solution:
BSPATIL 21

22. Where A = Annual usage
S = Ordering cost for one order
I = Inventory carrying costs per unit per year.
Problem 2
Two components A and B are used as follows:
Normal usage 50 units per week each
Minimum usage25 units per week each
Maximum usage 75 units per week each
Re-order quantity A:300 units B:500 units
Re-order period A:4 to 6 weeks B:2 to 4 weeks
Calculate for each component:
a) Re-order level b) Minimum level
c) Maximum level d) Average stock level
Solution
Re-order level = Maximum consumption * maximum re-order period
Component A = 75*6 = 450 units
Component B = 75*4 = 300 units
Minimum level = Re-order level – (Normal consumption * Normal re-order period)
Component A = 450-(50*5) = 200 units
Component B = 300-(50*3) = 150 units
Maximum level = Re-order level + Reorder Quantity –
(Minimum consumption * Minimum re-order period)
Component A = 450 + 300 – (25*4) = 650 units
Component B = 300 + 500 – (26*2) = 750 units
Average Stock level = ½ (Minimum level + Maximum level)
Component A =½(200+650) = 425 units
Component B = ½(150+750) = 450 units
Need for Inventory Control
BSPATIL 22

23. The term ‘Inventory’ is used to denote (i) goods awaiting sale (the stock items of a trading concern and the
finished stocks of a manufacturer); (ii) the goods in course of manufacture, known as work-in-progress, and (iii) goods
to be used directly or indirectly in production, i.e., raw materials and supplies.
In a manufacturing company, normally the cost of materials constitutes fifty percent of the production cost and
the cost of inventory (i.e., raw materials W.I.P., and finished good) represents about one-third of the total assets. As the
costs of materials and inventory are quite formidable but at the same time controllable, there is a great need felt for
proper planning, purchasing, handling and accounting for the same, and also to organize the system of inventory control
in a manner that it may provide the maximum profitably to the management.
Objectives of Inventory Control
The objectives of inventory control as listed below:
1. To exercise proper control on the purchases and issues of inventories; proper storing; elimination of wastage;
and regulating the proper supplies to works and to customers;
2. Pricing of the inventories on suitable basis;
3. Proper recording, and scientific inventory management
4. To have proper assessment of income through the process of matching appropriate costs against revenues.
5. To maintain inventory of sufficient size for the operations to go on uninterruptedly but the size should match
with the optimum financial involvement.
Techniques of Inventory Control
The techniques or the tools generally used to effect control over the inventory are the following:
1. Budgetary techniques for inventory planning;
2. A-B-C. System of inventory control;
3. Economic Order Quantity (E.O.Q.) i.e., how much to purchase at one time economically;
4. Maintenance of Stock levels to decide when to purchase;
5. Perpetual inventory system and the system of store verification;
6. Reduction of surplus stocks and review of slow-moving or stagnant items.
7. Control Ratios.
Budgetary Techniques
For the purchase of raw materials and stocks, what we required is a purchase Budged to be prepared in terms of
quantities and values involved. The sales stipulated as per sales Budget of the corresponding period generally works out
to be the key factor to decide the production quantum during the budget period, which ultimately decides the purchases
to be made and the inventories to be planned.
A-B-C Analysis
To exercise proper control on stores, it is essential that the store items should be classified according to values
so that the most valuable items may be paid greater and due a attention regarding their safety and care, as compared to
others. The stores are divided into three categories generally, viz., A, B, and C.
In the ABC system, greatest care and control is to be exercised on the items of ‘A’ list as any loss or breakage or
wastage of any items of this list may prove to be very costly; proper care need be exercised on ‘B’ list items and
comparatively less control is needed for ‘C’ list items. The rules relating to receipt maintenance issue and writing off
stores items should be formed in accordance with the utility and value of the items based on the above categorization.
Manufacturing organizations find it useful to divide materials into three categories for the purpose of exercising
selecting control on materials. An analysis of the material cost will show that a smaller percentage of items may
represent a smaller percentage of the value of items the percentage number of which is more or less equal to their value
of consumption. Items falling in the first category are treated as ‘A’ items, of the second category and ‘B’ items and
items of the third category are taken as ‘C’ items. Such an analysis of materials is known as ABC analysis. This
technique of stock control is also known as stock control according to value method or always Better Control method or
Proportional parts value. Analysis method. Thus, under this technique of material control, materials are listed in ‘A’, ‘B’
and ‘C’ categories in descending order based on money value of consumption.
ABC analysis measures the cost significance of each item of materials. It concentrated on important items, so it is also
BSPATIL 23

24. known as ‘Control by importance and Exception’.
Advantages:
1) A Strict Control is exercised on the items which represent a high percentage of the material costs.
2) Investment in inventory is reduced to the minimum possible level.
3) Storage cost is reduced as a reasonable quantity of materials, which account for high percentage of value of
consumption will be maintained in the stores.
VED Analysis:
VED – Vital, Essential, Desirable – analysis is used primarily for control of spare parts. The spare, parts can be
divided into three categories – vital, essential or desirable – keeping in view the critically to production.
Perpectual Inventory System
Perpectual Inventory is a system of records maintained by the controlling department, which reflects the
physical movement of stocks and their current balance. It aims at devising the system of records by which the receipts
and issues of stores may be recorded immediately at the time of each transaction and the balance may be brought out so
as to show the up-to-date position.
The records used for perpectual inventory are:
(1) Bin Cards;
(2) Store Ledger Accounts or Stores Record cards;
(3) The forms and documents used for receipt, issue and transfer of materials.
Advantages of Perpectual Inventory system
1. It keeps the record of stocks upto date.
2. The materials are kept within the Minimum and Maximum Limits. Non-observance of the limits fixed is
detected.
3. The materials going out of stock are easily detected and purchased at the appropriate time to avoid the risk of
closing down.
4. It acts as a moral check on the staff of the stores Department and so the possibilities of loss or theft of materials
are minimized.
5. The recording of stocks in Bin cards as well as Store Record cards minimizes the error in entering the receipts
and issues of stocks.
6. The discrepancies noted after physical counting are detected and corrective action is taken promptly to avoid
future occurrence.
7. The materials getting state or being wasted are detected and placed in right atmosphere.
8. The prompt balancing of closing stocks enables quick preparation of final accounts.
9. The slow moving inventories, obsolete or dormant stocks are brought to the notice of the Purchase Department
so that such stocks may purchased future in lesser quantities as required.
10. The availability of correct figures of stocks helps in the insurance of the stocks.
Control Ratios
The control ratios are mainly two –
(1) Inventory Turnover Ratio which we have studied and
(2) Input-output Ratio.
(1) Inventory Turnover
Inventory Turnover is a ratio of the value of the materials consumed during a period to the average value of
inventory held during that period.
Certain materials are slow moving. It means their consumption rate quite show and so capital remains locked up and
storing costs continue to be incurred in such materials if these materials are stored in excess of the requirement the
rate of consumptions in terms of value or in terms of days is indicated by Inventory Turnover ratio. The number of
days in which the average inventory is consumed can be ascertained by dividing the period by the Inventory
turnover ratio.
If the inventory turnover rate in terms of value of materials is high, or if the length of the inventory turnover
BSPATIL 24

25. period is short, the material is said to be fast moving. So if the rate of consumption is fast, or if the inventory
turnover rate is good, it is a healthy measure of efficiency of materials control, as the capital employed is properly
utilized.
2. Input-output Ratio
The Input-output Ratio is the ratio of the raw material put into manufacture and the standard raw materials content
of the actual output.
This ratio enables one to find out whether the usage of the materials is favourable or not. A standard ratio of
input of materials and output of material should be determined and the actual ratio should be compared with the
standard ratio.
Pricing of Material Issues
The pricing of issue of materials is not as simple as the pricing of receipts. As the issue are made out of the various
lots purchased at different prices, the questions arises as how to price the issues, there are several methods used for
pricing the issues and the selection of a proper method depends upon the following factors:
1. The type of work-job or process;
2. Range of price fluctuations and market trends;
3. The Inventory turnover period and the carrying or the non-carrying cost i.e., the frequency of purchases and
E.O.Q.
4. The need for maintenance of uniformity is costs of the products within the industry.
5. The nature and durability of the material – whether it evaporates or shrinks, or absorbs moisture, etc.
Method of Pricing
The various methods used for pricing of the materials are:
Cost Price Methods:
1. First in First out (FIFO)
2. Last in First out (LIFO)
3. Highest in First out (HIFO)
4. Base stock price
Average price Methods:
1. Simple Average
2. Weighted Simple Average
3. Periodic Weighted Average
4. Moving Simple Average
5. Moving Simple Average
6. Moving Weighted Average
First in First out Method (FIFO):
Under this method materials received first are issued first. After the first lot of the material purchased is over,
the next lot is taken up for issue. As such, the materials are issued in the order in which they are received in the stores.
The pricing of the issue of the first lot is done at the rate of purchase of the first lot. Similarly, the pricing pattern follows
for the subsequent lots. The closing stock in this method is valued at the latest purchase price and thus it represents the
current conditions as far as possible.
Merits
1. It is simple to operate
2. The materials are charged at costs only. So the purchase price is recovered in full without showing any
profit or loss on issue.
3. This method is good where
a. The prices are falling;
b. The consumption rates of the materials is slow
4. The Closing stock is shown at current rates.
Demerits
BSPATIL 25

26. 1. It is not suitable in the situation when the prices show a rising trend, as it will charge the material at the
lower rate than the replacement rate.
2. The same type of materials issued to two jobs at two different prices will show different costs.
3. If the prices fluctuate to much, the clerical errors may be many.
Last in First Out (LIFO):
Under this method, the material received last is issued first LIFO method and as such, pricing of issues is done
in the reverse order of purchases. In times of rising prices, this method is considered best for application, as the current
cost of materials contributes to the cost of production.
Merits
1. The material cost represents current prices except when the purchases were made long ago,
2. It is simple to operate and the pricing is done on cost basis
3. It relates current cost to current sale price, and enables the management to make correct decisions.
4. It is more useful when purchases are not too many and the prices are either steady or are rising. It is more
suitable for bulky materials with high unit prices.
Demerits
1. With high fluctuations in rates, the calculations become more complicated, and give way to more clerical
errors.
2. The work of pricing is held up if the latest receipt rate is not readily available.
3. As in FIFO, costs of different batches of production are distorted and more than one price is adopted, in
some cases, for pricing a single requisition.
4. Closing stock is valued at a cost which does not represent current conditions.
Highest in First Out (HIFO):
Under this method the material received at the highest price in the stock is issued first. This method is good
when it is desired to keep the inventory value of the materials at the lowest possible price.
Base Stock Price Method
In this method a minimum quantity of stock is always held at a fixed price as reserve in the stock. This
minimum stock is known as base stock or the safety stock and is not used unless an emergency arises. This stock is
valued at long-run ‘normal’ price, while the stock in excess of this stock is priced on some other basis, usually are FIFO
or the LIFO basis. It is not an independent method in itself a it is conjoined with either FIFO or the LIFO method.
Simple Average Method
The issue is prices at an average price and not at the exact cost price as in the earlier methods. The simple
average is calculated by dividing the total of the rates of the materials in the stock from which the materials to be priced
could have been drawn, by the number of the rates of prices.
This method can be used with advantage if
(a) The purchase prices to not fluctuate considerably, and
(b) It is difficult to identify the different issues of the materials.
Weighted Average Method
Merits
1. This method irons out the wide fluctuations in the prices.
2. With every new issue, a new rate is not calculated.
3. The total value of the material issued does not behave up and down to the total value of the material received, as
is the case with Simple Average Method.
Demerits
1. Calculations are tedious. Prices are worked out in decimals to get correct results.
2. A lot of materials purchased at a very high price at one time continues to reflect its effect in the average, for a
considerable time after it is exhausted.
BSPATIL 26

27. Periodic Simple Average Method
This method is similar to Simple Average Method except that the average rate is calculated periodically, say
monthly or quarterly or once in the accounting period. If calculated monthly, the average of the unit prices of all the
receipts during the month is adopted as the rate for pricing issues during the subsequent month.
Periodic Weighted Average Method
This method is similar to Weighted Average Method except that the calculation is made periodically, say at an
interval or one month. The rate so arrived is used for the issues made in the next month.
Moving Simple Average Method
This represents a price which is obtained by dividing the total of the periodic simple average prices or a given
number of periods, the last of the periods being that for which the materials are to be issued, by the number of periods.
Moving Weighted Average Method
This is just similar to the Moving Simple Average Method except that the periodic average price, in this
system, is based on the weighted average.
Problem 3
1) Show the Store Ledger entries as they would appear when using
i) FIFO
ii) LIFO
iii) Weighted average method
iv) Simple average method
April 1. Balance 300 units Rs. 600/-
2. Purchase 200 units Rs. 440/-
4. Issued 150 units
6. Purchase 200 units Rs. 460/-
11. Issued 150 units
19. Issued 200 units
22. Purchase 200 units Rs. 480/-
27. Issued 250 units
Solution
1) Stores Ledger Account as per FIFO METHOD
Date Details Receipt Issued Balance
Qty Rate Amt Qty Rate Amt Qty Rate Amt
April Balance 300 2/- 600 - - - 300 2/- 600
1
2 Purchase 200 2.20 440 - - - 300 2.00 600
200 2.20 440
4 Issue 150 2.00 300 150 2.00 300
200 2.20 440
6 Purchase 200 2.30 460 150 2.00 300
200 2.20 440
200 2.30 460
11 Issue 150 2.00 300 200 2.20 440
200 2.30 460
19 Issue 200 2.20 440 200 2.30 460
22 Purchase 200 2.40 480 200 2.30 460
200 2.40 480
BSPATIL 27

28. 27 Issue 200 2.30 460 150 2.40 360
50 2.40 120
Value of Closing Stock : 150 units at the rate of Rs. 2.40 value Rs. 360/-
2) LIFO METHOD
Date Details Receipt Issued Balance
Unit Rate Amt Unit Rate Amt Unit Rate Amt
April Balance 300 2.00 600 - - - 300 2.00 600
1
2 Purchase 200 2.20 440 - - - 300 2.00 600
200 2.20 440
4 Issue 150 2.20 330 300 2.00 600
50 2.20 110
6 Purchase 200 2.30 460 300 2.00 600
50 2.20 110
200 2.30 460
11 Issue 150 2.30 345 300 2.00 600
50 2.20 600
50 2.30 115
19 Issue 50 2.30 115 200 2.00 400
50 2.20 110
100 2.00 200
22 Purchase 200 2.40 480 - - - 200 2.00 400
200 2.40 480
27 Issue 200 2.40 480 150 2.00 300
50 2.00 100
Value of Closing Stock : 150 units @ Rs. 2.00 value is Rs. 300/-
3) WEIGHTED AVERAGE METHOD
Date Details Receipt Issued Balance
Unit Rate Amt Unit Rate Amt Unit Rate Amt
April Balance 300 2.00 600 - - - 300 2.00 600
1
2 Purchase 200 2.20 440 - - - 500 2.08 1040
4 Issue - - - 150 2.08 312 350 2.08 728
6 Purchase 200 2.30 460 - - 550 2.16 1118
11 Issue - - - 150 2.16 324 400 2.16 864
19 Issue - - - 200 2.16 432 200 2.16 432
22 Purchase 200 2.40 480 - - - 400 2.28 912
27 Issue - - - 250 2.28 570 150 2.28 342
Value of Closing Stock : 150 units at the rate of Rs. 2.28 value Rs. 342.00/
4) SIMPLE AVERAGE METHOD
Date Details Receipt Issued Balance
Unit Rate Amt Unit Rate Amt Unit Rate Amt
BSPATIL 28

29. April Balance 300 2.00 600 - - - 300 2.00 600
1
2 Purchase 200 2.20 440 - - - 500 2.10 1050
4 Issue - - - 150 2.10 315 350 2.10 35
6 Purchase 200 2.30 460 - - 550 2.17 1193..50
11 Issue - - - 150 2.17 325.50 400 2.17 868
19 Issue - - - 200 2.17 434 200 2.17 434
22 Purchase 200 2.40 480 - - - 400 2.23 892
27 Issue - - - 250 2.23 557.50 150 2.23 334.50
Value of Closing Stock : 150 units at the rate of Rs. 2.23 value Rs. 334.50
Problem 4
The following is the record of receipts and issues a certain material in the factory during a week.
April 1997
1. Opening Balance 50 tonnes @ Rs. 10 per tone.
Issued 30 tonnes @ Rs. 10 per tones
2. Received 60 tonnes @ Rs. 10.20 per tone.
3. Issued 25 tonnes @ Rs. 10.20 per tone (stock verification reveals loss of tone)
4. Received back from orders 10 tonnes @ Rs. 10.20 per tone
(previously issued at Rs. 9.15 per tone)
5. Issued 40 tonnes @ Rs. 10.20 per tone.
6. Received 22 tonnes @ Rs. 10.30 per tone.
7. Issued 38 tonnes @ Rs. 10.30 per tone.
Solution
Stores Ledger Account Under LIFO
Date Receipts Issues Balance
Qty Rate Amt Qty Rate Amt Qty Rate Amt
1 30 50 10 500
1 30 10 300 20 10 200
2 60 10.20 612 - - - 20 10 200
60 10.20 612
3 - - - 25 10.20 255 20 10 200
1 10.20 10.20 35 10.20 357
20 10 200
4 10 9.15 91.5 34 10.20 346.80
- - - 20 10 200
34 10.20 346.80
10 9.15 91.50
5 - - - 10 9.15 31.50 20 10 200
3 10.20 306.0 4 10.20 40.80
6 22 10.30 226.6 20 10 200
4 10.20 40.80
7 - - - 22 10.30 226.6
4 10.20 40.80 8 10.00 80.00
12 10.00 120.0
BSPATIL 29

30. Closing Stock 8 tonnes @ Rs. 10 = Rs. 80/-
Stores Ledger Under FIFO
Date Receipts Issues Balance
Qty Rate Amt Qty Rate Amt Qty Rate Amt
1 30 50 10 500
1 30 10 300 20 10 200
2 60 10.20 612 - - - 20 10 200
60 10.20 612
3 - - - 20 10 200
5 10.20 51 55 10.20 561
1(loss 10.20 10.20 54 10.20 550.80
)
4 10 9.15 91.5 - 54 10.20 550.80
- - 10 9.15 91.50
5 - - - 40 10.20 408 14 10.20 142.80
10 9.15 91.50
6 22 10.30 226.6 - 14 10.20 142.80
10 9.15 31.50
22 10.30 226.60
7 - - - 14 10.20 142.80
10 9.15 91.50 8 10.3 82.40
22 10.30 226.60
Closing stock 8 tonnes @ Rs. 10.30 = 82.40
BSPATIL 30

31. Chapter – 3
Labour Cost
“Labour Cost, representing the human contribution to production, is an important cost factor which requires constant
control, measurement and analysis.”
A rational approach to the problems of labour, fair maintenance of wage records for wage ascertainment, fair
wage policy, and the incentives for earning more wages go a long way in providing a sense of security and stability to
the workmen, in minimizing the labour turnover, and in exercising effective labour cost control.
Labour cost control aims at the control of the labour cost per unit of production and not at the reduction of the
wage rates of the workmen.
Efficiency of labour (a concept meaningless to material) has an important impact on the successful working of a
business.
Labour cost is second major element of cost. Proper control and accounting for labour cost is one of the most important
problems of a business enterprise. But control of labour cost presents certain practical difficulties unlike the control of
material cost.
Labour costs represent the various items of expenditure Such as:
Monetary Benefits:
i) Basic Wages;
ii) Dearness Allowance;
iii) Employer’s Contribution to Provident Fund;
iv) Employer’s Contribution to Employee’s State Insurance (ESI) Scheme;
v) Production Bonus;
vi) Profit Bonus;
vii) Old age Pension;
viii) Retirement Gratuity;
Fringe Benefits:
i) Subsidised Food;
ii) Subsidised Housing;
iii) Subsidised Education to the children of the workers;
iv) Medical facilities;
v) Holidays pay;
vi) Recreational facilities.
Economic utilization of labour is a need of the present day industry to reduce the cost of production of the products
manufactured or service rendered.
Control of labour costs is an important objective of management and the realization of this objectives depends upon the
cooperation of every member of the supervisory force from the top executive to foreman. From functional point of view,
control of labour cost is effected in large industrial concern by the coordinated efforts of the following six departments-
1) Personnel Department,
2) Engineering Department,
3) Rate or time and Motion Study department
4) Time-Keeper Department
5) Cost Accounting Department
6) Pay-roll Department
Factors Governing a Satisfactory system of Wage Payment
BSPATIL 31

32. The following factors should be considered while evolving a suitable and a successful system of wage payment.
a) The system should depend upon the nature of the worked and the efforts involved.
b) It should guarantee a minimum living wage to ensure a satisfactory standard of living.
c) It should be based upon a scientific time and motion study.
d) It should be capable of being understood by al the employees.
e) It should be flexible and capable of being adapted to changed circumstances.
f) Its incidence on the cost per unit should be such that it does not form a considerable proportion of the total cost
per unit to deprive the employer of a fair margin of profit, given the market price of the commodity produced by
concern.
g) It should reduce the labour turnover.
h) The cost of working the system should be the least.
i) It should boost employee morale.
j) It should be acceptable to trade unions.
k) It should be correlated to the capacity of the concern to pay.
For labour-cost-control, the following factors should also be kept in view while devising the system:
1. Production Planning:
Production should be so planned as to have the maximum and rational utilization of labour. The product and
process engineering, programming, routing, and direction constitute the production-planning.
2. Setting up of standards
With the help of work study, time study and motion study are set up for production operations. The standard
cost of labour so set is compared to the actual labour cost and the reasons for variations, if any, are looked into.
3. Use of labour budgets:
Labour budget is prepared on the basis of production budget. The number and type of workers needed for the
production are provided for along with the cost of labour in the Labour budget. This budget is a plan for labour
cost and is based on the past data considered in future perspective.
4. Study of the effectiveness of Wage-policy:
How far the remuneration paid on the basis of incentive plan fro the departments help the managerial control on
labour and exercise labour cost control.
Characteristics of Good Wage System
1. Fair to both the Parties:
The system should be such as may be acceptable gladly to the employer and the employees. for this purpose,
the employer should decide the system in consultation with the workers.
2. Easy to Calculate
The workers should be in a position to calculate their wages correctly and feel sure that they have been
correctly paid. Easy calculation will help the employer also in maintaining simple records.
3. Related to Efficiency
‘Fair remunerations for fair output’, should be the idea and remuneration should be related to the individual
efficiency of the workers.
4. Minimum wage guaranteed
There should be a guarantee of minimum wages to the workers to enable them to maintain their basic
BSPATIL 32

33. standards of life, and to do away with uncertainty-concept.
5. Incentive-oriented
The wage system should be such that the workers may feel encouraged to product more and earn more
wages.
6. Quality Improvement-oriented
In the race to earn more wages with an increase in production, the chances are that the quality of the output
may deteriorate. The system should, therefore, ensure ‘better wages for better quality’.
Definite wage-base
The basis or the method of wage payment should be clearly defined and announced in advanced to the workers,
and it should not be changed frequently to suit the interest of the employer, otherwise a sense of distrust may develop in
the workers towards the scheme. A change in the system should be effected only after taking the workers into
confidence.
Labour Turnover
Labour turnover is an index denoting change in the labour force for an organisatoin during a specified period. In
every industry, works leave their job a new workers have to be appointed to replace them. The ratio of the replaced
workers to the number of works is the Labour Turnover Ratio. If more workers leave the factory, the turnover would be
high, and vice versa. A high turnover is a costly affair and must be avoided.
Causes of Labour Turnover
The workers leave the factory either by
i) Resignation, or by
ii) Discharge by the employer, or
iii) Due to a cause not within one’s control.
Cause for resignation
The causes may be:
1. Low wages paid as compared to the wages paid in other factory which he is induced to join.
2. Ill health and bad working conditions;
3. Lack of safety measures;
4. Dissatisfactions due to various causes such as
a. Hours of work
b. Improper placement
c. Unfair method of promotion,
d. Bad relationship with Supervisor, or with fellow-workers in some cases.
Causes for Discharge
1. Incompetence;
2. Insubordination, disobedience, and disregard of the rules asn regulations;
3. Unpunctuality or lack of attention to duty;
4. Accidents or suffering from infectious disease;
5. Immoral character.
Causes not within control
1. Seasonal character of the industry where work is carried on during some part of the year only;
2. Death of the worker;
Measurement of Labour Turnover
Labour Turnover is measured by applying any one of the following three Methods:
1. Separation Method
BSPATIL 33