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Foundations in Accountancy MA2

Managing Costs and Finances
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Managing Costs and Finances

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 Contents
Chapter

1. Introduction to Cost Accounting

2. Cost Behaviour
3. Costing for Materials
4. Costing for labours
5. Costing for Overhead
6. Activity Base Costing (ABC)
7. Marginal and Absorption system
8. Cost Accounting System
9. Process Costing, Joint and By Product Costing
10. Cost Volume Profit Analysis
11. Short-term decision making
12. Investment Appraisals
13. Budgeting
14. Stadard costing

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 Chapter (1)
Introduction to Cost Accounting
1. Definition of Cost Accounting
The establishment of budgets, standard costs and actual costs of operations, processes,
activities or product and the analysis of variances, profitability or the social use of funds.

ujo 2. Cost Centre aprirog mymjos18h

A cost centre is a production or service location, function, activity or item of equipment for
which costs are accumulated.

unjon 3. Cost Unit adada mimjocedor

A cost unit is a unit of product or service in relation to which costs are ascertained.
- -

4. Classification of Costs snismis Direct

(a) Classification by element -58
$ Indirect
Direct Material xx
Direct Labour xx
Direct Expenses xx
Prime Cost xx
Production overhead
Indirect Material xx
Indirect Labour xx
Indirect Expenses xx xx
Production Cost xx
Administration Selling and
Distribution overhead xx
Total Cost xx

(b) Classification by function

- Production overhead
- Administration overhead
- Selling overhead
- Distribution overhead

(c) Classification by normality

- Normal costs
- Abnormal costs

(d) Classification by variability or behaviour

- Variable costs (Variances with a measure of activity)
- Fixed costs (incurred for a period)
- Semi-variable, semi fixed or mixed (containing both fixed & variable components)

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1 Cost classifications in a cost accounting system

The total cost of making a product or providing a service consists of material costs, labour costs and
other expenses such as rent and rates.

The total cost of making a product or providing a service consists of the following.
(a) Cost of materials
(b) Cost of the wages and salaries (labour costs)
(c) Cost of other expenses
 Rent and rates
 Electricity and gas bills
 Depreciation

1 Direct costs and indirect costs

 A direct cost is a cost that can be traced in full to the product or service being costed.
 An indirect cost (or overhead) is a cost that is incurred in the course of making a product or
providing a service, but which cannot be traced directly and in full to the product or service.
 Prime cost = direct material cost + direct labour cost + direct expenses

Materials, labour costs and other expenses can be classified as either direct costs or indirect costs.
total expenditure may therefore be analysed as follows.

Materials cost = Direct materials cost + Indirect materials cost

+ + +
Labour cost = Direct labour cost + Indirect labour cost
+ + +
Expenses = Direct expenses + Indirect expenses
Total cost = Direct cost/prime cost + Overhead cost

1.1 Direct costs

A direct cost is a cost that can be traced in full to saleable cost units (products or services) that are
being costed. The sum of the direct costs is known as the prime cost.
Direct costs are therefore directly attributable to cost units.
(a) Direct material costs are the costs of materials that are known to have been used in making and
selling a product (or providing a service).
(b) Direct labour costs are the specific costs of the workforce used to make a product or provide a
service. Direct labour costs are established by measuring the time taken for a job, or the time
taken in 'direct production work'.
(c) Direct expenses are those expenses that have been incurred in full as a direct consequence of
making a product, or providing a service.

1.2 Indirect costs/overhead

An indirect cost or overhead is a cost that is incurred in the course of making a product or providing a
service, but which cannot be traced directly and in full to the product or service.
Indirect costs are therefore not directly attributable to the product or service.
Examples of indirect costs might be the cost of supervisors' wages on a production line, cleaning
materials and buildings insurance for a factory.

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 1.2.1 Production overhead
Production (or factory) overhead includes all indirect material cost, indirect wages and indirect expenses
incurred in the factory from receipt of an order for a product until the product’s completion, including:
(a) Indirect materials which cannot be traced in the finished product.
Consumable stores, eg material used in negligible amounts
(b) Indirect wages, meaning all wages not charged directly to a product.
Salaries of non-productive personnel in the production department, eg supervisor
(c) Indirect expenses (other than material and labour) not charged directly to production
(i) Rent, rates and insurance of a factory
(ii) Depreciation, fuel, power and maintenance of plant and buildings

2 Classification by function

Classification by function involves classifying costs as production/manufacturing costs, administration

costs or marketing/selling and distribution costs.

Production costs
Direct materials A
Direct wages B
Direct expenses C
Prime cost A+B+C
Production overheads D
Full production cost A+B+C+D
Administration costs E
Selling and distribution costs F
Full cost of sales A+B+C+D+E+F

2.2.2 Administration overhead

Administration overhead is all indirect material costs, wages and expenses incurred in the
administration of an undertaking, including:
 Depreciation of office equipment
 Office salaries, including the salaries of secretaries and accountants
 Rent, rates, insurance, telephone, heat and light cost of general offices

2.2.3 Selling overhead

Selling overhead is all indirect materials costs, wages and expenses incurred in promoting sales and
retaining customers, including:
 Printing and stationery, such as catalogues and price lists
 Salaries and commission of sales representatives
 Advertising and sales promotion, market research
 Rent, rates and insurance for sales offices and showrooms

2.2.4 Distribution overhead

Distribution overhead is all indirect material costs, wages and expenses incurred in making the packed
product ready for despatch and delivering it to the customer, including:
 Cost of packing cases
 Wages of packers, drivers and despatch clerks
 Depreciation and running expenses of delivery vehicles

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QUESTION Cost classification
Within the costing system of a manufacturing company the following types of expense are incurred.
Reference number
1 Cost of oils used to lubricate production machinery
2 Motor vehicle licences for lorries
3 Depreciation of factory plant and equipment
4 Cost of chemicals used in the laboratory
5 Commission paid to sales representatives
6 Salary of the secretary to the finance director
7 Trade discount given to customers
8 Holiday pay of machine operatives
9 Salary of security guard in raw material warehouse
10 Fees to advertising agency
11 Rent of finished goods warehouse
12 Salary of scientist in laboratory
13 Insurance of the company's premises
14 Salary of supervisor working in the factory
15 Cost of typewriter ribbons in the general office
16 Protective clothing for machine operatives
Required
Complete each expense in the correct cost classification.

4 Classification by behaviour

A different way of analysing and classifying costs is into fixed costs and variable costs. Many items of
expenditure are part-fixed and part-variable and hence are termed semi-fixed or semi-variable. This is
also known as classification by behaviour.

Costs can be classified according to how they vary in relation to the level of activity. This is known as
classification by behaviour.

 A fixed cost is a cost which is incurred for a particular period of time and which, within certain
activity levels, is unaffected by changes in the level of activity.
 A variable cost is a cost which tends to vary with the level of activity.
Examples of fixed and variable costs are as follows.
(a) Direct material costs are variable costs because they rise as more units of a product are
manufactured.
(b) Sales commission is often a fixed percentage of sales turnover, and so is a variable cost that
varies with the level of sales.
(c) Telephone call charges are likely to increase if the volume of business expands, and so they are a
variable overhead cost.
(d) The rental cost of business premises is a constant amount, at least within a stated time period,
and so it is a fixed cost.
Some items of expenditure are part-fixed and part-variable. In cost accounting, semi-fixed or semi-
variable costs may be divided into their fixed and variable elements.

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Question (1)
Willis Ltd manufactures and distributes 2 products XL4 and DP2. The company has existed for 3 years, and
sales have risen steadily. Financial accounts have been produced at the end of each year. However it has now
been decided that a cost accounting system is also needed. This is a plan of the company:
supplier -> RM Purchase

(1) (5) (S) (7)

Raw Material Maintenance Materials Administrative
Store Department Handling Offices

Machining Dept. Main

Finishing Dept.(3) (4) Entrance
(2)
Heat
Lathes Treat Packing Road
ment Paint Way
Bay and
Plaining Ovens Despatch
Drilling
Machines Machines
custome
·

RM -- 52 - a
Required packing
- 82
List the cost centres in Willis Ltd, giving reasons for your choice. P
packing
service
p
Question (2)
Prod
State which cost unit would be applicable to each of the following:
1. Goldmining costper grom/ounce
2. Restaurants cost per meal/curry/ table / person
3. Heavy goods transport cost perton/mile
4. Oil refining cost per litter/gallon
5. Nursing wards of a hospital cost per hr/night/day
6. Supply of gas costper litter/Lb/viss
7. Manufacture of ready mixed concrete costper cube metre
8. Consultant management accountant cost per hrl
contract
9. Sales invoicing costper invoice
10. Personnel and welfare cost per person
-

Question (3) v

Required
State suitable cost units to be used in the following business activities:
1 per
A college student / subject / course.
2 A house builder Lost per house room, building, squire feet.
3 A carpet manufacturer costper carpet/yard / feet.
-

4 A coal mine ost per ton

month
5 An accountant in practice cost per hr/cost per
6 A hospital cost per patient
7 A water treatment plant cost per bottle.
8 A Wine-maker cost per bottle/cup/litter.

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Question (4)
Cathcart Limited, is a company which makes wooden toys.
Required
Classify each of the following costs into (a) direct / indirect (b) prime cost / overhead (c) function.
1. Wood, purchased to make toys. --
2. Paint and varnish, purchased for finishing the assembled toys.
3. Salary paid to the manager of the wood cutting department.
4. Petrol for a delivery lorry belonging to the company and used to deliver finished toys to cus-
tomers.
5. Power for operating wood-cutting machinery
6. Bank charges.
-

7. Moulded plastic box into which each toy is packed.

8. Telephone rental and charges.
9. Materials used to repair production machine.
10. Advertisement in a trade journal.

Question (5)
Aruwithit Ltd makes knitted garments for a variety of customers. Although the output level of the knitting
department changes frequently, it is the policy of the company to employ a constant number of knitters and
mechanics at all output levels.
The following expenses occur:
Reference No. Item
1. Depreciation of knitting machine used on a straight-line basis
2. Yarns and threads
3. Accountant's salary
-

4. Licences and insurance for delivery lorries

-

5. Sewing machinists wages paid on piecework

6. Holiday pay to all direct workers
7. Salesmen's salaries and commission
8. Repairs to knitting machines
9. Accounts department computer costs
10. Import duties on yarn from abroad.
--
11. Repairs to salesmen's cars
12. Knitting machine mechanics' wages
13. Delivery lorry drivers' wages
-

14. Agents' commission

15.
16.
- -
Works manager's car expenses
Buttons and zips stitched on some garments
- -

17. Design room salaries

-

18. Packing cartoons used in the warehouse

-

19. Foremen's salaries

-

20. Knitters' wages paid on a time rate basis

Required: Using the above reference number to identify the item, classify each one:
under one of the following headings:
(i) Prime cost Prudi cost
(ii) Production overhead >
(iii) Administration overhead
(iv) Selling and Distribution overhead & Nan
Prode cost

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 Chapter (2)
Cost Behaviour
1. Introduction
The cost can be classified according to its behavioural characteristic as follows:
(i) Fixed Cost
(ii) Variable Cost
(iii) Semi Variable cost
(iv) Step fixed cost

2. Fixed Cost
- A cost which remain unchanged regardless of the level of activity within the relevant range.
- More in relation to time; Period cost.
- Example; Rent, Insurances, time based Depreciation etc.
- Chart showing total Fixed Cost (Factory Rent per month $2,000)

Cost($)

2000
* * * * * * *
Activity Level (Production Unit)
0 100 200 300 400 500 600

3. Variable Cost
- A cost which varies in direct proportion to the level of activity,
- Incurred per unit.
- Example; Direct material cost, Direct Labour cost, Direct expense etc.
- Chart showing total variable cost (direct material cost per unit $5)

Cost($)
2500
*
2000
*
1500
*
1000
*
500
* Activity Level (Production Unit)
0 100 200 300 400 500

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4. Semi Variable Cost
- Semi-fixed cost, semi-variable cost, mixed cost
- Combination of fixed and variable cost
- Example; Internet charges, Electricity charges
- Chart showing Mixed Costs

(a) Internet charges $

Rent per month 1,000 (Fixed)
Call charges (500x$1) 500 (Variable)
1,500
Cost($)
1500
*
1400
*
1300
*
1200
*
1100
*
1000
* * * * * Activity Level (Production Unit)
0 100 200 300 400 500

(b) Machine hire agreement

- Minimum monthly charges $100
- Charges per unit produce $5
- Maximum monthly charges $1000
Cost($)

1000
* * * *
500
*
100
*
Activity Level (Production Unit)
0 100 200 300 400 500

(c) Cost per service $5 per unit maximum $1000 per year.
Cost($)

1000
* * * *
500
*
Activity Level (Production Unit)
0 100 200 300 400 500

10 / 113
 (d) Car Hire Charges $500 up to 300 mile. Additional charges $2 per mile over 300 miles.
Cost($)
1000

900

800

700
*
600

500
* Activity Level (Mile)
0 100 200 300 400 500

5. Step Fixed Cost

- Fixed over a range of output volumes
- Outside which they increase / decrease by a lump-sum amount (or step)
- Chart showing step cost

Output 0 1000 Unit one supervisor $ 1000

1001 2000 Unit two supervisor $ 2000
2001 3000 Unit three supervisor $ 3000
3001 4000 Unit four supervisor $ 4000
Cost($)

4000

3000

2000

1000

Activity Level
0 1000 2000 3000 4000 (Production Unit)

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Question (1)

Production unit per month 1000 2000 3000 4000

Production cost per month $ $ $ $

Factory Rent 5000 5000 5000 5000

Factory Supervision 3000 3000 4200 4200
Utilites 2000 4000 6000 8000
Consumable 3000 6000 9000 12000
Power 2000 3000 4000 5000
Repairs 1000 1500 2000 2500

Required
(a) Analyse the six cost elements above into the following Four categories:
Variable
Fixed
Semi-variable
Step-Fixed
(b) Using the high-low method, analyse the semi-variable costs into variable and fixed components.
(c) Forecast the total manufacturing costs that would be incurred at an output of 2950 units.

Question (2)

Representative manufacturing costs for a company, for four different levels of output in a period, are as follows:

Production units 10,000 12,000 15,000 19,000

Costs per month: $ $ $ $
Direct materials 18,400 22,080 27,600 34,960
Direct labour 13,500 16,200 20,250 25,650
General services 3,500 3,900 4,500 5,300
Machine maintenance 5,660 6,260 7,160 8,360
Building related costs 7,200 7,200 7,200 7,200
Depreciation 7,000 7,200 7,500 7,900
Management 3,000 3,000 3,400 3,400

Required
(a) Analyse the seven cost elements above into the following Four categories:
Variable
Fixed
Semi-variable
Step-Fixed
(b) Using the high-low method, analyse the semi-variable costs into variable and fixed components.

(c) Forecast the total manufacturing costs that would be incurred at an output of 13,800 units.

12 / 113
Question (3)
Company A, which makes a single product, has the following data for the past four operating periods.
Period 6 Period 7 Period 8 Period 9
Production and sales (units) 14,500 12,400 16,800 15,250
Total operating costs $196,350 $187,500 $241,500 $251,850
General price-level index 110 125 138 146

Required
(a) Use the high-low method to:
(i) Analyse the total operating costs into a variable cost per unit and total fixed costs per period at
the Period 6 general price-level index. (5 marks)
(ii) Estimate the total operating costs expected in Period 10 if 18,120 units are produced and sold
the general price-level index is 155. (3 marks)

Question (4)
Alpha Limited has the following data for the maintenance of its plant for the past four operating periods:
Period 3 Period 4 Period 5 Period 6
Plant operation (hours) 8,500 7,750 10,250 9,800
Total plant maintenance costs $131,560 $127,050 $163,680 $160,440
Average price-level index 115 121 132 140
Required
(a) Use the high-low method to:
(i) analyse the total plant maintenance costs into a variable cost per hour and total fixed costs per
period at the Period 3 average price-level index. (5 marks)
(ii) estimate the total plant maintenance costs in Period 7, if the plant is operated for 10500 hours
and the average price-level index is 148. (3 marks)

13 / 113
Question (5)

Bosingwa Limited manufactures a single product, and has prepared the following budget for the next period:

Production and sales in units 9,450

Costs ($s)
Direct materials 37,800
Direct labour 28,350
Production overheads 33,075
Selling, distribution and admin costs 28,965
Total costs 128,190
Cost per unit

The following information should also be taken into account:

(1) The above budget is based on a 90% utilisation of the maximum operating capacity
(2) The direct costs are proportionally variable with activity
(3) The production overhead is a semi variable cost. At the maximum capacity (10,500 units) the budgeted
overhead would be $35,175
(4) The selling, distribution and administration costs are semi variable costs and include a fixed element of
$7,230

(i) 80% utilisation of operating capacity – 8,400 units

(ii) 100% utilisation of operating capacity – 10,500 units (8 marks)
(b) Total variable cost per unit 80%,90%,and 100% Capacity (6 marks)
(c) Total cost per unit 80%,90%,and 100% Capacity
(2 marks)
Required
(a) Prepare budgets (similar to the above) using the high low method if appropriate based on:

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 Chapter (3)
Costing for Materials

The basic aim of inventory control is to minimise the cost associated with a firm’s investment in
inventory. These cost are as follows. -

(A) Cost of holding inventory / carrying cost / storage cost

BC D
(a)
(b)
Space cost
Personal cost
eye: .
E#
(c) Equipment cost

951494
(d) Interest charges
(e) Clerical cost
(f) Insurance & Security cost
(g) Evaporation & damage etc.

(B) Ordering Cost

(a) Clerical cost
(b) Transportation
(c) Material handling

(C) Stock-out cost

(a) Costs of interruption to production
(b) Loss of existing and prospective future sales
(c) Loss of Profit
(d) Extra cost associated with urgent replenishment order.

(D) Purchase Cost

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1 Types of material

Materials can be classified according to the substances that make them up, how they are measured, or
their physical properties.

1.1 Raw materials

Raw materials are goods purchased for incorporation into products for sale. Raw materials are a direct
cost.

Raw materials is a term which you are likely to come across often, both in your studies and your
workplace. But what are raw materials?
Examples of raw materials are as follows:
 Clay for making terracotta garden pots
 Timber for making dining room tables
 Paper for making books
Raw materials are a direct cost of production as they are easily identifiable with a unit of production.

1.2 Work in progress

Work in progress is a term used to represent an intermediate stage between the manufacturer
purchasing the materials that go to make up the finished product and the finished product.

Work in progress means that some work has been done on the materials purchased as part of the
process of producing the finished product, but the production process is not complete. Examples of
work in progress are as follows.
(a) Terracotta pots which have been shaped, but which have not been fired, and are therefore
unfinished.
(b) Dining room tables which have been assembled, but have not been polished, and are therefore
not ready for sale.
(c) Paper which has been used to print books, but which has not yet been bound. The books are
therefore not yet assembled, and not yet ready for sale.

1.3 Finished goods

A finished good is a product ready for sale or despatch.
examples of finished goods are as follows.

 Terracotta pots ready for sale or despatch

 Dining room tables ready for sale or despatch
 Books ready for sale or despatch

1.5 Direct and indirect materials costs

Materials are either a direct or indirect cost, depending upon how easily they can be traced to a specific
unit of production.
 Direct materials are materials that are easily identifiable with a specific unit of production, such
as raw materials.
 Indirect materials are materials that are not easily identifiable with a specific unit of production.

16 / 113
2 Buying materials

Procedures and documentation are required for material purchases.

2.1 Purchasing procedures

2.2 Purchasing documentation

2.2.1 Purchase requisition form

The first stage will be that the department requiring the goods will complete a purchase requisition form
asking the purchasing department to carry out the necessary transaction.

2.2.2 Order form

Once a purchase requisition is received in the purchasing department, the first task is to identify the
most suitable supplier, an order form is then completed by the purchasing department (again, it may have to
be authorised by the finance department to ensure that budgets are not being over-stepped) and this is sent to
the supplier

2.2.3 Despatch note

Certain other documents may arise before the goods are actually received. A despatch note may be
sent to warn that the goods are on their way.

2.2.4 Delivery note

We now move to the stores department. When the goods are delivered, goods inwards will be presented
with a delivery note or advice note (although bear in mind that smaller suppliers may not go to these
lengths). This is the supplier's document (a copy is signed by the person receiving the goods and
returned to the supplier) and, as such, there is no guarantee that its details are correct. If the actual
goods cannot be inspected immediately, the delivery note should be signed 'subject to inspection'.

2.2.5 Goods received note

Once the goods have been delivered they should be inspected as soon as possible. A goods received
note (GRN) will be completed by goods inwards on the basis of a physical check, which involves
counting the items received and seeing that they are not damaged.

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3 Valuing materials issues and inventories

Materials issued from inventory can be valued using FIFO, LIFO and weighted average methods.

3.1 Just-in-time inventory policy

The implicit assumption in the Amy Alexander example above was that materials were bought
specifically for individual jobs and therefore that each order could be identified with a particular job. This
is possible in practice. Certainly, keeping large quantities of inventory is something to be avoided in the
business environment of the new millennium. Holding inventory means that you have to have
somewhere to put it and so it takes up space that could be used for other purposes. Often it means
employing somebody to look after it, perhaps 24 hours a day if it is very valuable.
Ideally, you should receive an order for so many items of the product in question, buy exactly the right
quantity of materials to make that many items and be left with no inventories of finished goods, work in
progress or raw materials. This is known as the just-in-time (JIT) approach, that is, the just-in-time
purchasing of inventories to meet just-in-time production of goods ordered. From the point of view of costing,
there is very little difficulty with the JIT approach. The materials costs of each production run are known
because the materials used were bought specially for that run. There was no inventory to start with and there
is none left over.

3.2 Buffer inventory

However the approach more common in practice is to keep a certain amount of inventory in reserve to
cope with fluctuations in demand and with suppliers who cannot be relied upon to deliver the right
quality and quantity of materials at the right time. This reserve of inventory is known as buffer inventory

3.3 Inventory valuation

3.3.1 The inventory valuation problem
3.3.2 Inventory valuation methods
There are a number of different methods of valuing inventory.
(a) FIFO – First in, first out

(b) LIFO - Last in, first out

(c) Weighted average pricing methods
There are two main weighted average pricing methods: cumulative and periodic.
(i) Cumulative weighted average pricing
With this method we calculate an average cost of all the litres in inventory whenever a
new delivery is received.
(ii) Periodic weighted average pricing
The periodic weighted average pricing method involves calculating a new inventory value
at the end of a given period.
(d) Standard cost
Under the standard costing method, all issues are at a predetermined standard price.

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4 Inventory control levels
Inventory control levels can be calculated in order to maintain inventories at the optimum level. The
three critical control levels are reorder level, minimum level and maximum level.

4.1 Reorder level

When inventories reach the reorder level, an order should be placed to replenish inventories. The reorder
level is determined by considering:
Reorder level = maximum usage  maximum lead time

4.2 Minimum level

The minimum level is a warning level to draw management attention to the fact that inventories are
approaching a dangerously low level and that stockouts are possible.
Minimum level = reorder level – (average usage  average lead time)

4.3 Maximum level

The maximum level also acts as a warning level to signal to management that inventories are reaching a
potentially wasteful level.

Maximum level = reorder level + reorder quantity – (minimum usage  minimum lead time)

4.4 Reorder quantity

This is the quantity of inventory which is to be ordered when inventory reaches the reorder level. If it is
set so as to minimise the total costs associated with holding and ordering inventory, then it is known as
the economic order quantity.

4.5 Average inventory

The formula for the average inventory level assumes that inventory levels fluctuate evenly between the
minimum (or safety) inventory level and the highest possible inventory level (the amount of inventory
immediately after an order is received, ie safety inventory + reorder quantity).
Average inventory = safety inventory + ½ reorder quantity

QUESTION -1 Maximum inventory level

A large retailer with multiple outlets maintains a central warehouse from which the outlets are supplied.
The following information is available for Part Number SF525.
Average usage 350 per day
Minimum usage 180 per day
Maximum usage 420 per day
Lead time for replenishment 11-15 days
Re-order quantity 6,500 units
Re-order level 6,300 units
(a) Based on the data above, what is the maximum level of inventory?
A 5,250 B 6,500 C 10,820 D 12,800
(b) Based on the data above, what is the approximate number of Part Number SF525 carried as
buffer inventory?
A 200 B 720 C 1,680 D 1,750

QUESTION-2 Average inventory

A component has a safety inventory of 500, a re-order quantity of 3,000 and a rate of demand which
varies between 200 and 700 per week. What is the approximate average inventory?
A 2,000 B 2,300 19 / 113C 2,500 D 3,500
4.6 Economic order quantity (EOQ)
The economic order quantity (EOQ) is the order quantity which minimises inventory costs. The EOQ can
be calculated using a table, graph or formula.

2C D
EOQ = 0

CH

where CH = cost of holding one unit of inventory for one time period
C0 = cost of ordering a consignment from a supplier
D = demand during the time period

QUESTION-3 EOQ and holding costs

A manufacturing company uses 25,000 components at an even rate during a year. Each order placed
with the supplier of the components is for 2,000 components, which is the economic order quantity.
The company holds a buffer inventory of 500 components. The annual cost of holding one component in
inventory is $2.
What is the total annual cost of holding inventory of the component?
A $2,000 B $2,500 C $3,000 D $4,000

Material account

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Question (4)

(a) State two examples of each of the following:

(i) Inventory holding costs
(ii) Stock-out costs (4 marks)

The following information is available regarding Material P15:

prie?a obsess
Cost of material $5.00 per kg
demonsare
Order quantity (R&) 1,000 kgs
Annual inventory holding costs 12% of average inventory holding value

min Max mit

The lead time for delivery can vary between 6 days and 12 days and rate of usage varies between 20 kgs and
- - -

30 kgs per day. maxi oinis. Level

micuminorigam sji:
-

Required

~
Calculate for material P15:
(i) the reorder level in kg to ensure no inventory-outs occur
-

(ii) the minimum and maximum inventory control levels in kg

(iii) the average inventory contron level in kg (8 mark)
(2008 Series 2)

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Question (5) ( April 2019 )

Halimede Ltd uses Material TX47 in its production.

The following information is available.
Monthly Order Price Minimum
usage quantity inventory

Material TX47 3 000 kg 6 000 kg $8.40 kg 4 500 kg

The annual holding costs are estimated to be $1.25 per kg.
Ordering costs are estimated to be $1 200 per order.
(a) Give two examples of inventory holding costs. (2)
(b) Calculate the ordering costs for Material TX47 for one year. (2)
(c) Calculate the holding costs for Material TX47 for one year. (2)

The supplier of Material TX47 has offered a 5% discount if Halimede Ltd increases the
size of its orders to 18 000 kg per order.
(d) Complete the table showing the costs of ordering in quantities of 3 000 kg and
18 000 kg.
(7)

Order size 3 000 kg 18 000 kg

$ $

Purchasing costs

Ordering costs

Holding costs

Total costs

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Question (6)
A company has budgeted to use 2,400 units of component C10 in its production department during the
forthcoming year. Production will be distributed uniformly throughout the year.
The following information is available regarding component C10:
Cost of component P $25 each (before discount)
Ordering costs Co $100 per order
Inventory holding costs 29% 12% of the component cost per annum
-

The component can be purchased in order sizes of 200, 400, 800, 1,200 or 2,400 and it can be assumed that
the company carries no buffer (safety) inventory. ⑳
Required
(a) Produce a table showing the total annual ordering costs and the total annual inventory holding costs of the
component for each order size assuming no discount is received from the basic price. Identify the optimum
order size.
(b) Use the EOQ formula to verify your answer.

Assume that the supplier has offered the following quantity discounts:
Order size Discount from the basic $25 unit price
0 – 799 No discount
800 - 2,399 5% discount
2,400 and over 7% discount
Required
(c) Advise the company on the order size that minimise the total annual cost if the quantity discounts are
available. Support your advice with calculations.
(2008 Series 2)

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Question(7)
D
Mbokani Ltd is budgeting to use 6 000 units of material LM55 during the year.

Production will be distributed evenly throughout the year.

The company does not carry any safety- (buffer) levels of inventory.
The following additional information is available:
Cost of material LM55 P -

Ordering costs Co $500 per order

--

Inventory holding costs 8% of the average inventory value per annum

-

Order sizes available POS 500, 1 000, 1 500, 2 000 and 3 000 units
(a) (i) Complete the table to show the total annual ordering and inventory holding costs of material LM55
for each order size.

Annual ordering Average inventory Average inventory Total cost

Order size NO of orders
DIPOS
cost (unit) POS/RC holding cost $
COXN:Olordemin+-8xx(unilxP)
2
ovdY ($)

(6,000 = 12 )
500) (500x xil 500/2
+ =
(250x60] x 8%
500 12 times $6,000 250 unit $1200 $7200
1000 stimes $3,000 500 unit $2400 $5400

1500 4 times $2,000 750 unit $3600 $5500

2000 stimes $1500 1,000 unit $4800$6300

3000 <times $1,000 1500 unit $7200$8200

(ii) Identify the optimum order size that would minimise total cost. (1)
The supplier is now proposing to supply material LM55 only in quantities of 1 000, 2 000 or 3 000 units,
and is willing to offer the following quantity discounts.
Order size Discount
1 000 2.5% 97.5%
2 000 - 5% 95%
3 000 - 7.5% 92.5%
(b) (i) Complete the following table to show the annual costs for Mbokani Ltd if the above quantity
discounts are available.
Order quantity 1000 2000
600X 60x97.5;3,000x50x 95%)
3000
6,000x 60x92.5%
Purchase cost$(DXPrice) 351,000 342000333,000 S

Ordering cost$COX NoicLord 3,000 1500 1,000

Inventory holding cost $ 2340 4560 5660

Total $ 353,340348060340,360

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Question (8)
Metis uses Material GX10 in its production processes.
The following information is available.
Monthly Current Order Current Minimum
Usage (B) Quantity RI Price P Inventory
Material GX10 12X10 000 kg 20 000 kg $7.00 kg 5 000 kg
12,000 kg
-

The holding costs are estimated to be $0.70 per kg. per unit
The ordering costs are estimated to be $500 per order. Co
-
(a) Calculate the current ordering costs for Material GX10 for one year.
-
(b) Calculate the current holding costs for Material GX10 for one year.
The current supplier of Material GX10 has offered a 2.5% discount if Metis increases the size of its orders to
60 000 kg.
(c) Complete the table to show the costs if Metis were to order in quantities of 20 000 kg and 60 000 kg.

Costs 20 000 kg 60 000 kg

(120,000x 1) C120,000x7x9)
Purchasing $840,000 819,000
$)
Ordering $3,000 $1,000
Holding 10500
$ $24500S

Total $853,500$844500 $9000 I

(d) Advise Metis as to which order size it should use. Give one
- -
reason for your answer.
(e) Calculate the Economic
--
Order Quantity, showing clearly the formula used.
The accountant is concerned that if inventory is ordered in quantities of 60 000 kg, the insurance policy (which
only covers an average inventory holding of $250 000) might not provide enough cover.
(f ) (i) Calculate the average inventory values if orders are in quantities of:
• 20 000 kg
• 60 000 kg.

Pg(19)/8(4)

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 Chapter (4)
Costing for Labours

1 Labour costs

Labour costs can be determined according to some prior agreement, the amount of time worked or the
quantity or quality of work done.

1.1 What are labour costs?

Labour costs could be said to include any or all of the following items:
 The gross amount due to an employee
 Employer benefit contributions (payments made by an employer towards employees’ pensions
and other benefits)
 Amounts paid to recruit labour
 Amounts paid for staff welfare
 Training costs
 The costs of benefits like company cars
Labour costs are the amounts paid to any employee, including supervisors, office staff, managers and
tea ladies. We shall distinguish between direct labour and indirect labour.

2 The payroll accounting system

Labour attendance time is recorded on an attendance record or a clockcard. Job time may be recorded
on daily time sheets, weekly time sheets, jobcards or route cards depending on the circumstances.

Records of labour costs fall into three categories.

 Records of agreed basic wages and salaries
 Records of time spent working
 Records of work done
There are a number of ways in which this can be organised, but basically the information flow will be as
follows.

Human Resources

Timekeeping Production
department department

Hours Work
Basic pay
worked performed

Amount Amount
due to Payroll Costing chargeable
employee department department to
PAYE, NI product
etc

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2.1 Basic pay
Levels of basic pay are ultimately decided by senior management who will take into account what other
employers are paying for similar work, what they consider the work to be worth, how easy it is to recruit
labour and any agreements with trade unions.
The basic pay due to an individual worker will be mentioned in his or her letter of appointment and
included in his or her contract of employment. The main on-going record, however, will probably be
kept on an employee record card held in the personnel department. This will also show subsequent
increases in the wage rate or salary level and much other information. An example of an employee
record card is shown below.

Example: Employee record card

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Much of the information on the employee record card is confidential and there is no need for staff in the
payroll department or the costing department to know about it.
Ideally, therefore, details of basic pay for all employees are compiled on separate lists which are given to
payroll and costing. A fresh list should be issued whenever the pay rates are revised.
In a computerised wage system, the basic rates are usually part of a database, and payroll and costing
are only able to access information that is relevant to their tasks. Costing, for example, does not need to
know the names of individual employees: in fact it is more efficient for workers to be coded according to
the department they work in and the type of work that they do.

2.2 Attendance time

The bare minimum record of employees' time is a simple attendance record showing days absent
because of holiday, sickness or other reason. Such a system is usually used when it is assumed that all
of the employees' time is taken up doing one job and no further analysis is required. A typical record of
attendance is shown below.

It is also necessary to have a record of the following.

 Time of arrival  Time of departure
 Time of breaks
These may be recorded as follows.
 In a signing-in book
 By using a time recording clock which stamps the time on a clock card
 By using swipe cards (which make a computer record)
An example of a clock card is shown as follows.

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If an employee is paid on the basis of the amount of time spent working, as opposed to the amount of
work done or the quality of that work, the attendance time information will be used by the payroll
department to work out how much to pay the employee.

2.3 Job time

The costing department needs more information than just attendance time in order to work out costs.
The hours spent at work need to be analysed according to what was done during those hours. The
method adopted depends upon the size of the organisation and the nature of the work. Additionally, if
employees are paid on the basis of the amount of work done or the quality of work done, the payroll
department will also require an analysis of the work done in order to work out how much to pay the
employee.

2.3.1 Continuous production

Where routine, repetitive work is carried out it might not be practical to record the precise details. For
example if a worker stands at a conveyor belt for seven hours his work can be measured by keeping a
note of the number of units that pass through his part of the process during that time. If a group of
employees all contribute to the same process, the total units processed per day (or week or whatever)
can be divided by the number of employees. How the work is measured will also be influenced by how
the employees are remunerated for their work. If they are paid on the basis of how much each individual
employee produces, then the output of each individual employee will need to be accurately measured.

2.3.2 Job costing

When the work is not of a repetitive nature, a more detailed record of what work was done is required
by the costing department, and by the payroll department if employees are paid on the basis of quantity
or quality of work done. The following could be used to record the work done.
(a) Daily time sheets. The time sheet will be filled in by the employee, for hours worked on each job
(job code) or area of work (cost code). The total time on the time sheet should correspond with
the time shown on the attendance record. Times are recorded daily and so there is less risk that
they will be forgotten. This system does produce considerable paperwork. The cost of the hours
worked will be entered at a later stage in the accounting department.
(b) Weekly time sheets. These are similar to daily time sheets but are passed to the cost office at the
end of the week. Paperwork is reduced and weekly time sheets are particularly suitable where
there are few job changes in a week. An example of a weekly time sheet is shown below.

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(c) Job cards. Cards are prepared for each job or batch. When an employee works on a job he or she
records on the job card the time spent on that job. Job cards are therefore likely to contain
entries relating to numerous employees. On completion of the job it will contain a full record of
the times and quantities involved in the job or batch. A typical job card is shown as follows.

A job card will be given to the employee, showing the work to be done and the expected time it
should take. The employee will record the time started and time finished for each job. Breaks for
tea and lunch may be noted on the card, as standard times, by the production planning
department. The hours actually worked on each job and the cost of those hours will be calculated
by the accounting department.
(d) Piecework ticket/operation card. The wages of pieceworkers and the labour cost of work done by
them is determined from what is known as a piecework ticket or an operation card. The card
records the total number of items (or 'pieces') produced and the number of rejects. Because
workers are only paid for each item of ‘good’ production, independent of the number of hours
they have worked, it is crucial that they complete an operations card in order to get paid.

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 The attendance record of a pieceworker is required for calculations of holidays, sick pay and so
on.
(e) Route cards. These are similar to job cards, except that they follow the product through the
works and carry details of all operations to be carried out. They thus carry the cost of all
operations involved in a job and are very useful for control purposes.
The manual recording of times on time sheets or job cards is, however, liable to error or even deliberate
deception, and may be unreliable. A time clock or automated time recording system is more accurate.
Time sheets and job or route cards can take many different forms, some of which involve computerised
systems of time recording.

2.3.3 Salaried labour

Salaried staff are paid a set amount per month. The amount of the salary is usually set out in a contract
of employment, along with the expected working hours. This is in contrast to receiving a wage, where
the employee is paid on the basis of an hourly rate or a rate per item produced. Even though salaried
staff are paid a set amount per month, they may be required to prepare time sheets. The reasons are as
follows.
(a) Time sheets provide management with information (eg product costs).
(b) Time sheet information may provide a basis for billing for services provided (eg service firms
where clients are billed based on the number of hours work done).
(c) Time sheets are used to record hours spent and so support claims for overtime payments by
salaried staff.
An example of a time sheet (as used in the service sector) is shown as follows.

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Service firms are chiefly in the business of selling the time and expertise of their employees to clients.
This means that if an employee spends an hour working for a particular client, the client will be billed
for one hour of the employee's time. A time sheet is necessary so that clients will be charged for the
correct amount of time that has been spent doing their work.

2.3.4 Idle time

In many jobs there are times when, through no fault of their own, employees cannot get on with their
work. A machine may break down or there may simply be a temporary shortage of work.
Idle time has a cost because employees will still be paid their basic wage or salary for these
unproductive hours and so there should be a record of idle time. This may simply comprise an entry on
time sheets coded to 'idle time' generally, or separate idle time cards may be prepared. A supervisor
might enter the time of a stoppage, its cause, its duration and the employees made idle on an idle time
record card. Each stoppage should have a separate reference number which can be entered on time
sheets or job cards as appropriate.

2.4 Coding of job costs

By now you will appreciate that to analyse labour costs effectively it is necessary to be able to link up
different pieces of information in various ways. Most organisations therefore develop a series of codes to
facilitate analysis for each of the following.
(a) Employee number and perhaps a team number
(b) Pay rate, for example 'A' for $5 per hour, 'B' for $6 per hour and so on
(c) Department and/or location if the organisation has different branches or offices
(d) Job or batch type, for example different codes for audit, accounts preparation and tax in a firm of
accountants, or for bodywork and mechanical repairs in a garage
(e) Job or batch number to enable each successive example of the same type of work to be allocated
the next number in sequence
(f) Client number so that all work done for the same client or customer can be coded to the same
number
You might like to think of different ways in which different pieces of information could be grouped
together. For example, combining (b), (c) and (d) would show you whether the workers in one location
could do a certain type of work more cheaply than the workers in another location.

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QUESTION-1 Labour costs of jobs
Below are shown some extracts from the files of Penny Lane Co. You are required to calculate the labour
cost of jobs 249 and 250.
Personnel files
George Paul Ringo John
Grade A B C D
Payroll - Master file
Grade Basic rate per hour
A $8.20
B $7.40
C $6.50
D $5.30
Production report - labour
Job Employee Hours
249 George 14
249 Paul 49

250 George 2
250 John 107
250 Ringo 74

2.5 Overtime
If an employee works for more hours than the basic daily requirement many organisations pay an extra
amount.
The overtime payment may simply be at the basic rate.
Usually, however, overtime is paid at a premium rate.

2.5.1 Example: Overtime premium

Pootings Co pays overtime at time and a quarter. Jo's basic hours are 9 to 5 with an hour for lunch, but
one particular Friday she worked until six o'clock. She is paid a basic wage of $5 per hour. How much
did she earn on the Friday in question, and how much of this is overtime premium?

Solution
The most obvious way of calculating the amount earned is as follows.
$
Basic time (7  $5) 35.00
Overtime (11/4  $5) 6.25
Total pay 41.25

It is wrong, however, to say that the overtime premium is $6.25. For costing purposes all of the hours
worked, whether in basic time or outside it, are costed at the basic rate. The premium is the extra
amount paid on top of the basic rate for the hours worked over and above the basic hours.
$
Basic pay (8  $5) 40.00
Overtime premium (1/4  $5) 1.25
41.25

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2.6 Incentives and bonuses
There are five main types of incentive scheme, piecework, time-saved bonus, discretionary bonus, group
bonus scheme and profit-sharing scheme.

Overtime premiums are paid to encourage staff to work longer hours than normal (or at least to
recognise and reward the personal sacrifice of doing so). Incentives and bonuses are paid to encourage
staff to work harder whatever the time of day.
Incentive schemes include the following:
 Piecework
 Time-saved bonus
 Discretionary bonus
 Group bonus scheme
 Profit-sharing scheme

Piecework
Pieceworking can be seen as an incentive scheme since the more output you produce the more you are
paid.
Example: Piecework
An employee is paid $5 per piecework hour produced. In a 35 hour week he produces the following
output.
Piecework time allowed
per unit
3 units of product A 2.5 hours
5 units of product B 8.0 hours
Required
Calculate the employee's pay for the week.

Time-saved bonus
Example: time-saved bonus
In the garage example above, the bonus is 50c for every minute saved. During one afternoon the
engineer completes three MOTs in 48 minutes, 35 minutes, and 40 minutes respectively.
Required
Calculate the engineer's time-saved bonus.

2.7 Absence from work

An employee may be absent from work for a variety of reasons, the most usual being as follows.
 Holidays
 Sickness
 Maternity/paternity/adoption leave
 Training
The costs relating to absence through sickness, maternity/paternity/adoption leave and training are
usually treated as an overhead rather than a direct cost of production.
Time absent because of holidays is paid at the normal basic rate, as is absence on training courses as a
rule.

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3 Direct and indirect labour

Direct labour costs are the specific costs of the workforce used to make a unit of product or provide a
service. Indirect labour costs are all other labour costs: these are not directly attributable to the product
or service.

Remember that direct labour costs are the specific costs of the workforce used to make a unit of product
or provide a service. Indirect labour costs are all other labour costs that are not directly attributable to
the product or service.

QUESTION Labour costs

Classify the following labour costs as either direct or indirect.
(a) The basic pay of direct workers (cash paid, tax and other deductions)
(b) The basic pay of indirect workers
(c) Overtime premium
(d) Bonus payments
(e) Employer benefit contributions
(f) Idle time of direct workers
(g) Work on installation of equipment

4 Labour turnover

Labour turnover is the rate at which employees leave a company and this rate should be kept as low as
possible. The cost of labour turnover can be divided into preventative and replacement costs.

4.1 The reasons for labour turnover

There are many reasons why employees will leave their job. It may be because they wish to go to work
for another company or organisation. Alternatively it may be for one of the following unavoidable
reasons.
 Illness or accidents
 A family move away from the locality
 Marriage, pregnancy or difficulties with child care provision
 Retirement or death

4.2 Measuring labour turnover

 Labour turnover is a measure of the number of employees leaving/being recruited in a period of
time (say one year) expressed as a percentage of the total labour force.
Replacements × 100
 Labour turnover rate =
Average number of employees in period

The cost of labour turnover may be divided into the following.

 Preventative costs
 Replacement costs

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5 Measuring labour efficiency and utilisation

Labour efficiency and utilisation can be measured using ratios.

Expectedhours to make actual output

 Efficiency ratio = × 100
Actualhours taken
Actualhours worked
 Capacity utilisation ratio = × 100
Hours budgeted

Expectedhours to make actual output

 Production volume ratio = × 100
Hours budgeted

Idle time
We considered idle time earlier. A useful ratio for the control of idle time is the idle time ratio.
Idle hours
Idle time ratio = × 100
Total hours

Labour account

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 Chapter (5)
Costing for Overhead PC S.C

I
I 2 3
Ol products
Absorption costing is a method of sharing overheads between a number of different or
100 50 services
on a fair basis. It involves allocation, apportionment and absorption.. 30 20

Re:app. 18 2 (20)
1. Fig – Overview of costing treatment on overhead

Production Overhead
Incurred
- -

I A
Indirect : Allocation & Apportion Production Absorption Cost
Material Department OAR Unit
Labour
Expenses Service S P
-

Department Re-apportion I
agood on days
be is mys lis
-8 $0 -

ins 2. Allocation – is the charging of a whole item of cost to one cost center.
·Good mom mje
unbr3. Apportionment – is the sharing of overhead cost between two or more cost center.

4. Re-apportionment of service department costs

The cost of service department will have to be apportionment to the benefiting costs centers. In the end,
all overhead cost must be recorded against the production cost centers.

5. Re-apportionment of reciprocal services

The inter-servicing arrangements are termed reciprocal services. Following method may be used for this
process. Direct Method, Step-down Method,Repeated Distribution method,

6. Overhead Absorption
The means of attributing overhead to a product or services (cost unit) using appropriate absorption rate.

7. Overhead absorption rate (OAR)

- A rate charged to a cost unit
- In general term OAR can be stated as:

Overhead Cost (per period) Budget

=
Some measure of activity (per period) Budget
- The following formula may be used for calculating OARs:

(a) Direct material cost % OAR

Production overhead cost per period

= X 100 = .... % on direct material cost
Direct material cost per period

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 (b) Direct labour cost % OAR

Production overhead cost per period

= X 100 = .... % on direct labour cost
Direct labour cost per period

(c) Prime cost % OAR

Production overhead cost per period

= X 100 = .... % on prime cost
Prime cost per period

(d) Direct labour hour OAR

Production overhead cost per period

= = $ ..... per direct labour hour
Direct labour hour per period

(e) Machine hour OAR

Production overhead cost per period

= = $ ..... per machine hour
Machine hour per period

(f) Production unit OAR

Production overhead cost per period = $ ..... per unit

=
Production unit per period

8. Actual or Predetermine (Budgeted) absorption rates

An actual OAR – calculated using actual overhead cost and actual activity
A Predetermine (Budgeted) OAR – uses estimated (budgeted) cost and estimated (budgeted) activity

9. Blanket and departmental absorption rates

A Blanket OAR – for the whole factory or business
A Departmental OAR – is based on individual production cost center’s estimated overhead cost and
estimated activity measure.

10. Over and under absorption of overhead

$
Absorbed Overhead XXXXX
(Actual Activity x Budgeted OAR)

Actual Overhead (XXXXX)

Over / (Under) Absorption of overhead XXXXX

Absorbed overhead > Actual overhead Over Absorption

Absorbed overhead < Actual overhead Under Absorption

38 / 113
Question (1)
CK Ltd is a manufacturing company. It has the following cost centres and manufacturing overhead costs.
Decide whether each overhead cost can be allocated or needs to be apportioned by ticking appropriate box.
Cost centres are: assembly, finishing, internal transport; machining; production scheduling, supervision.
Manufacturing Overhead Costs Allocated Apportioned
Depreciation of transport equipment
Factory rates
Coolant for machining lathes
Salary of production supervisor
Salaries of cost centre manager I 23
Cleaning materials eg. 8H
100 -
40 40 20
Protective clothings
20 30
50
Question (2) Basic of apportionment
OHCost Basis of Apportionment
Rent, rates Floor area / space occupied
Light, heat Floor area / space occupied
Power Kilowatt hours / capacity of machinery
Employee relate costs Number of employees / wages cost
Depreciation of plant and machineryNCA
-
NCA / age of machinery
Value of machinery
-

Insurance of plant and machinery NCA Value of machinery NCA

Canteen costs Number of employees

Question (3)
The following information is given related to overhead costs:
$
Machining Dept. 2,900
Finishing Dept. 4,800
Power 4,000
Rent 8,000
Canteen meal 4,000
The following additional information are given:
Area occupied Machining Dept. 2,500
-
sq.m
~yesemgu53no: Finishing Dept. 1,000
-
sq.m x
Canteen 500
-
sq.m -> S
Horsepower of machinery Machining Dept. 3,000
-
-
kh
&mins5sen: Finishing Dept. 1,000
-
- kh
Number of employees Machining Dept. 50
-

ooods: on Finishing Dept. 150

Apportion.
-

Required: Prepare an overhead analysis statement. =Allocation |

I. Reapportion.
39 / 113
Question (4)
The following information relates to QD Ltd:
Production Cost Centres
-
Services Cost Centres
Preparation
-
Finishing
-
Maintenance
Floor area (square meter) 30,000 112,500 7,500
No. of employees 10 35 5
Value of machinery ($'000) 200 1,800 -
The company wishes to allocates and apportion the following manufacturing overhead costs to its three cost
centres:
$'000 Allocated Apportioned
Maintenance manager's salary 16 M

Factory rent and rates 300 M

Preparation supervisor's salary 18 A

Finishing supervisor's salary 18 M

Factory manager's salary 25 1

-

Insurance
-
of:
Factory premises 5 M
-

Machinery 2 -
-

Required:
(i) To determine which costs can be allocated to cost centres and which need to be apportioned.
(ii) To prepare an overhead analysis statement in order to determined departmental overhead costs.

Question (5)
OS Ltd has four cost centres. The company wishes to allocate and apportion its manufacturing overhead costs
to these cost centres. The following information is available:
Grinding Polishing Stores Purchasing
Material requisitions raised 1,105 510 -- 85
No. of employees 40 50 7 3
Kg material transported 10,000 15,000 - -
Floor area (square meters) 4,500 3,000 2,000 500
Original cost of assets ($'000) 500 420 50 30
The following are the overhead costs which need to be allocated and apportioned:
$'000
Internal transport 50
Heat and light 20
General production management costs 40
Rent, rates and insurance 90
Supervisory salaries:
grinding department 20
polishing department 24
store 14
purchasing 17
Depreciation 45
Using appropriate apportionment bases (where relevant), prepare overhead analysis sheet for OS Ltd show-
ing the allocation and apportionment of overhead costs to cost centres.
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Question (6)

MT Ltd is a knitwear manufacturer. The following information is supplied.

Cost centres Knitting Stitching Finishing Maintenance Stores

Direct wages costs ($) 114,000 168,000 135,000 - -
Number of employees 30 35 25 5 5
Machine hours 3,000 6,000 3,000 - -
Number of machine set-ups 164 - - - -
Volume of output (units) 28,000 24,000 20,000 - -
Number of stores requisitions 300I 150I 100I 50
I -
Floor area (square meters) 15,000 -
12,000-
10,000 - 500
-
2,500
-

Number of maintenance call-outs

-
150 100 120 - 30

The following overhead costs need to be allocated and apportioned.

$
Direct wages-related costs 150,000
Production manager's salary 30,000
Machine power costs 60,000
Machine cleaning costs 40,000
Set-up costs of knitting machinery 52,000
Heating and lighting 44,000
Supervisory salaries:
Knitting 20,000
stitching 23,000
finishing 22,000
maintenance 24,000
stores 20,000

Required

1. Prepare an overhead analysis sheet which allocates and apportions the above overheads to the various
cost centres, using appropriate apportionment bases where relevant.
Re-apportion the service department overhead costs to the production departments
2.
using the repeated distribution method, again using appropriate bases. Start your
reapportionment with the maintenance department.

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Question (7)
Barlow & Dickinson Limited has 4 production departments (P1,P2,P3 and P4) and 2 service departments (S1
and S2).
An overhead distribution sheet has been started for the year ended 31 December Year 12 and after all
overhead has been allocated and apportioned, the results are:

P1 P2 P3 P4 S1 S2 Total
$ $ $ $ $ $ $
Alloc. & App. 183,146 94,025 72,334 210,496 40,000 30,000 630,000

The benefit given by each service department during the year has been analysed and found to be:
P1 P2 P3 P4 S1 S2
By S1 35% 10% 40% 10% - ↓ 5%
By S2 40% 5% 25% 15% 15% -
S

Required
Reapportionment on service department overhead to production departments using repeated distribution method.

Question (8)
Archer Limited makes a range of products in its machine shop.
A budget has been prepared for Year 12 like this:
$
Direct material DL rete 70,000
Direct labour at $5 per hour 80,000 C
Production overhead 112,000
Total Production cost 262,000
Budgeted direct labour hours 16,000
Budgeted machine hours 17,500
Budgeted Production units 675 unit

Required
(a) Calculate 6 different budgeted absorption rates for production overhead for Year 12.
-

(b) Calculate the production cost of job A & B which will be made in Year 12, using each of the absorption
rates.
The job details are: per unit Job A Job B
Materials $105 $200
Direct labour $120 $300
Direct labour hours 24 50
Machine hours 26.25 40

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Question (9)

Rickaby Limited makes only 2 products, P and Q. The company has one production cost centre, X. Budgeted
production for Year 15 is to make 800 units of P and 1,200 units of Q. The following product information is
available:
P Q
Material cost per unit $250 $616.5
Direct labour hours per unit in cost centre X - Grade A 2 2
Grade B 8 16
Machine hours per unit in cost centre X -
8 14.25

The direct labour rates per hour in cost centre X will be $8.00 for Grade A labour and $10.50 for Grade B
labour.
Budgeted production overhead for Year 15 is $375,920 for cost centre X.

Required
(a) Calculate production overhead absorptions rates for Year 15 using the following alternative methods of
absorption:
1 Percentage on material cost
2 Percentage on direct labour cost
3 Percentage on prime cost
4 Direct labour hour rate
5 Machine hour rate
6 Production unit rate

QUESTION-10 Overhead absorption rate

(a) If production overheads in total are expected to be $108,000 and direct labour hours are
planned to be 90,000 hours costing $5 per hour, what is the overhead absorption rate per direct
labour hour?
(b) If production overheads in total are expected to be $720,000 and direct machine hours are
planned to be 50,000 hours, what is the overhead absorption rate per machine hour?

QUESTION-11 Overhead absorption

The actual total production overhead expenditure of Nuthatch Co, was $176,533. Its actual activity,
and the predetermined overhead absorption rates were as follows.
Machine shop A Machine shop B Assembly
Direct labour hours 8,200 6,500 21,900
Machine usage hours 7,300 18,700 –
Predetermined overhead absorption rates $7.94 per $3.50 per $2.24 per
machine hr machine hr direct labour hr
Required
Calculate the under or over absorption of overheads.

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Question (12) ( Jan 2020 )
Ferdinand Ltd has two production departments (Manufacturing and Packing) and
two service departments (Stores and Administration). Information for December 2019
is available.
$
Rent and rates 8 000
Machine depreciation 12 600
Stores salaries 4 700
Administration salaries 3 500
Heat, light and power 2 900
Other overheads 11 100
Information for each of the departments is available.
Manufacturing Packing Stores Administration
Floor area (square metres) 400 200 300 100
Machine value ($000) 775 185 40 -
Electricity usage (%) 45 20 10 25
Stores requisitions (number) 240 160 - -
Machine hours 1 500 300 - -
Direct labour hours 900 1 600 - -
Other overheads (allocated) 4 420 2 780 1 785 2 115
The company policy is to reapportion service department overheads to the
production departments, using the direct method, on the following bases.
Stores – number of stores requisitions.
Administration – 50% to each production department.
All calculations should be rounded to the nearest $.
(a) Complete the Overhead Distribution Table for Ferdinand Ltd.

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 Overhead Distribution Table

Departments
Total $
Expense Basis
$
Manufacturing Packing Stores Administration

Rent and rates 8 000

Machine depreciation 12 600

Store salaries 4 700

Administration salaries 3 500

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Heat, light and power 2 900

Other overheads Allocation 11 100 4 420 2 780 1 785 2 115

Sub-total

Reapportionment

Stores overheads

Administration overheads

Total
(b) Calculate the overhead absorption rates for each of the Manufacturing and
Packing departments using an appropriate basis, giving each answer to the

(2)
The actual overheads and the number of machine and direct labour hours worked in
December 2019 were:
Manufacturing Packing
Actual overheads $30 300 $14 630
Machine hours 1 685 412
Labour hours 970 1 643
(c) Calculate the over absorption or under absorption of overheads for Ferdinand Ltd
for each of the Manufacturing and Packing departments.
(4)

Question (13)
Yewtree had already apportioned and allocated its overheads for March 2017 to its two production and two
service departments.
The following information is available for the four departments.

Cutting Finishing Stores Human

Resources
Number of material requisitions 500 300 – –
Number of employees 10 20 3 2
Machine hours 2 400 200 – –
Direct labour hours 1 600 3 200 – –

(a) Complete the table below:

• re-apportion the Human Resources and Stores overheads
• calculate the Overhead Absorption Rates for the Cutting and Finishing departments using the
appropriate methods of absorption. If necessary,round your answers to the nearest $0.01

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 Human
Cutting Finishing Stores
Basis Resources
$ $ $
$

Overheads 89000 53000 65100 42900

Reapportionment of No of employees 13000 26000 3900 (42900)

Human Resources 10:20:3=33
Reapportionment of No of store req; 25875 (69000)
43125
Stores 5:3=8

Total 145125 104875

Direct Labour Hours/ 2400 m hr 3200 lab hr

Machine Hours
Overhead Absorption
$60.47 per m hr $32.77 per lab hr
Rate ($)
-

The actual overheads and the number of machine and direct labour hours worked during March 2017 were as
follows:
Cutting Finishing
Actual overheads $147 600 $105 200
Machine hours 2 610 195
Labour hours 1 645 3 420

(b) Calculate the over or under absorption of overheads for each of the Cutting and Finishing departments.
(Round your answers to the nearest $.) (4)

(c) Explain the following terms:

(i) allocation of overheads (2)
(ii) apportionment of overheads (2)

Yewtree uses a cost-plus approach when setting selling prices.

(d) Evaluate for Yewtree the over or under absorption of overheads that you have calculated in part (b).
(6)

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 Non-production overheads

For internal reporting purposes and for organisations which base the selling prices of their products on
estimates of total cost, a total cost per unit of output may be required.

For external reporting (eg statutory accounts) it is not necessary to allocate non-production overheads to
products.
For internal reporting purposes and for organisations which base the selling price of their product on
estimates of total cost or even actual cost (such industries usually use a job costing system), a total cost
per unit of output may be required. Builders, law firms and garages often charge for their services by
adding a percentage profit margin to actual cost. For product pricing purposes and for internal
management reports it may therefore be appropriate to allocate non-production overheads to units of
output.

3. Bases for apportioning

Two possible methods of allocating such non-production overheads are as follows.
(a) Choose a basis for the overhead absorption rate which most closely matches the non-production
overhead. However, allocation bases that are widely used by traditional costing systems such as
direct labour hours and direct machine hours are not necessarily those that are closely related to
non-manufacturing overheads.
(b) Use the production cost as the basis for allocating non-production costs to products.
The overhead absorption rate is calculated as follows.

Estimated non-production overheads

Overhead absorption rate =
Estimated production costs

Types of overhead Possible absorption base

Selling and marketing Sales value

Research and development Consumer cost (= production cost minus cost of direct materials) or
added value (= sales value of product minus cost of bought in
materials and services)
Distribution Sales value

Administration Full production cost

8.4 Example: product costs

Continuing the previous example of the Powertool Co and the cost of the Powerpuff product. This
product has a full production cost of $50.90 per unit.
Budgeted costs and revenue for the year were:
Production costs for all products $600,000
Administration overheads $120,000
Sales and distribution overheads $400,000
Budgeted sales in total (all products) $1,600,000
Sales price of the Powerpuff: $100 per unit
Administration overheads are absorbed as a percentage of production cost and sales and distribution
costs are absorbed as a percentage of sales revenue.
What is the full unit cost of sales of the Powerpuff?
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 Chapter (6)
Activity Base Costing (ABC)
Question (1)

Triple Products Ltd manufactures three products Hay, Bee and Cee. At present the company uses a traditional
absorption costing system to establish the costs of production. Budgeted production data for the next period is
as follows:

Hay Bee Cee

Production output (units) 1,000 800 400
Material per unit at $5 per kg 5kg 10kg 7.5kg
Labour per unit at $9 per hour 2hrs 2hrs 3hrs
Machine time per unit 2hrs 1.5hrs 2hrs

Variable production overheads are budgeted to be absorbed at $3.50 per labour hour.
Fixed production overheads for the period are budgeted to be $66,000, absorbed on a machine hour basis.

The company is considering the introduction of an activity based costing system.

Further investigation has revealed the following activities and related overhead costs:

Activities Costs ($)

Product inspection 24,000
Machine set-up 16,000
Machine maintenance 12,000
Packing and despatch 6,000
Material handling 8,000
66,000
Other information:
1. Budgeted orders for next period: Hay 10 orders; Bee and Cee 5 orders each. Each order is expected
to require one machine set up and two inspections.
2. Machine maintenance is carried out regularly based on a predetermined number of machine running
hours.
3. Each product is packed and despatched in crates containing the following number of products per
crate: Hay 50 units, Bee 25 units and Cee 50 units. The number of crates used influences product
despatch costs.
4. Material handling costs are influenced by the quantity of material used.

Required
(a) Calculate the production cost of one unit of each product using:
(i) Traditional absorption costing
(ii) Activity based costing.

(b) Explain the meaning of the term cost driver. Your explanation should include two examples to illustrate
your answer.

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Question (2)
Campbell and Martin Ltd makes three products.
At present, the company uses a traditional absorption costing system to establish the
costs of production.
The budget for the three products for Period 10 is shown below.

Alpha Beta Delta

Production units 4 800 4 000 2 000
Per unit
Direct material at $5 per kg 5 kg 10 kg 8 kg
Direct labour hours at $9 per hour 2 hours 2 hours 3 hours
Machine time 2 hours 1.5 hours 2 hours
Production overhead costs for the period were $370 800 and were absorbed on a
machine hours basis.
(a) Calculate the production overhead cost (to two decimal places) for one unit of
each product, using absorption costing.

The company is now considering using activity based costing (ABC) to calculate
the production overhead costs of each product.
The following information for the production overhead costs for Period 10 is
shown below.
Activity Cost ($)
Machine set up 150 000
Product inspection 80 000
Machine maintenance 58 800
Product packaging 42 000
Material handling 40 000
You are given the following additional information for the period.
• Machine set up costs will be based on the number of orders:
Alpha 12 orders Beta 8 orders Delta 5 orders.
• Product inspection costs will be based on the number of production runs:
Alpha 24 Beta 16 Delta 10
• Machine maintenance will be based on the number of machine hours used.
• The packaging costs will be based on the number of crates per product.
Each product is packed in crates containing the following number of products
per crate:
Alpha 40 units Beta 50 units Delta 25 units.
• Material handling costs will be based on the total quantity of materials used.
(b) Calculate the production overhead cost (to two decimal places) for one unit of
each product, using activity based costing (ABC). (13)
(c) Explain two advantages of using activity based costing (ABC). (4)
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 Chapter (7)

Marginal Costing and Absorption Costing

Question (1)
Ash owns a business that manufactures dresses. The information relating to production in October
2018 was as follows.
Inventory on 1 October 2018 was 1 300 dresses.
The value of the inventory on 1 October 2018 was $8.00 per dress (marginal cost)
or $15.00 per dress (absorption cost).
• Direct materials were $8.40 per dress.
• There were 24 workers who were contracted to work 175 hours per month.
• The wage rate paid to these workers is $6.00 per hour.
• Bonuses were paid to workers at a rate of $1.25 per dress.
• Production overheads were $42 400
• Dresses were sold for $20.00 each.
• During October 2018, 8 000 dresses were produced and 7 600 were sold.
• The business uses the First In First Out (FIFO) method of inventory valuation.
(a) Define the following terms:
(i) marginal cost
(ii) absorption cost.
(b) Calculate the cost of producing one dress in October 2018 using:
(i) marginal costing
(ii) absorption costing.

(c) (i) Prepare a statement showing the profit for October 2018, in columnar format,using:

• marginal costing

(ii) • absorption costing.

(d) Explain why there is a difference between the marginal costing and absorption costing profit or loss

calculated in (c).

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Question (2)
Sao Ltd owns a business that manufactures hats.
The information relating to production in March was as follows.
• Inventory on 1 March was 16 400 hats that were valued at:
$5.95 each using absorption costing or
$2.30 each using marginal costing.
• Direct materials were $2.25 per hat.
• Labourers are employed on a permanent basis.
• There were 32 labourers who each worked 175 hours in the month at a rate of
$10.00 per hour.
• Bonuses were also paid to labourers at $0.20 for every hat produced in the
factory.
• Production overheads were $84 000 in March.
• Hats were sold for $7.50 each.
• During March, 35 000 hats were produced and 31 800 were sold.
• The business uses the First In First Out (FIFO) method of inventory valuation.
(a) Define the following terms.
(i) Marginal cost

(ii) Absorption cost

(b) Calculate, for March, the:

• marginal cost of producing one hat
• absorption cost of producing one hat.

(c) Prepare a statement, for March, of profit or loss, in columnar format, using:
• marginal costing
• absorption costing.
(d) Explain why the profit using marginal costing is different from the profit using
absorption costing.

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Question (3)
Tafazolli manufactures a single product.
The budgeted information for Period 4, based on producing and selling 24 000 units,
is shown below.
$
Direct materials 216 000
Direct labour 96 000
Production overheads – variable 38 400
Production overheads – fixed 182 400
Selling and administrative overheads – variable 14 400
Selling and administrative overheads – fixed 57 600
During Period 4 the actual production was 25 000 units and 22 000 units were sold at
$27 per unit.
Production overheads are absorbed using predetermined rates per unit.
The opening inventory was 3 250 units and the closing inventory was 6 250 units.
Actual variable costs per unit and fixed costs are as budget, both valued at the
budgeted unit cost for Period 4
(a) Prepare a profit statement for Period 4 based on:
(i) marginal costing
(ii) absorption costing.

(b) Explain why the profit figure using marginal costing is different to the profit figure
using absorption costing.

(c) Prepare a statement reconsiting the profit Calculated using absorption costing with
the profit Calculated using marginal costing.

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Question (4)

Bowen and Pugh manufactures a single product that is sold for $180 per unit.
Details of the costs and revenues for Period 4 are shown below.
Variable costs (per unit) $
Direct material 40
Direct labour 30
Production overhead 18
Selling and distribution overhead 6
These variable costs have been the same for the previous two periods.
Fixed costs (per period) $
Production overheads 48 000
Selling and distribution overheads 30 000
Fixed production overheads are absorbed on the basis of 2 000 budgeted units of
production per period.
The actual activity for Period 4 was as follows:
Sales 2 000 units
Production 2 200 units
The opening inventory was 500 units.

(a) Prepare for Period 4:

(i) a Profit Statement, using absorption costing
(ii) a Profit Statement, using marginal costing.
(b) Prepare a statement reconciling the profit calculated using absorption costing
with the profit calculated using marginal costing.

(c) Explain the reason for the difference in the reported profit figure calculated using
absorption costing and the reported profit figure calculated using marginal
costing.

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 Chapter (8)
Cost Accounting System

1. Two types of Cost Accounting System:

(a) Integrated system

- Combine cost ledger A/cs and financial ledger A/cs in one double entry system

(b) Non-Integrated (Inter Locking) System

- Separate cost ledger A/cs and Financial Ledger’s A/cs in separate double entry system

2. Financial ledger Cost Ledger

- Statement of P&L items A/cs - Material, Labour, Overhead A/cs
- Statement of Financial Position items - Finish goods, WIP A/cs

3. Double entry for Integrated system.

Transaction Debit Credit

1. Purchase of Material Material Inventory A/c Trade Payable / Cash

2. Issued Direct Material for Production WIP A/c Material Inventory A/c
3. Issued Indirect Material for Production Production OH A/c Material Inventory A/c
4. Wages Paid Wages A/c Cash A/c (Paid)
5. Direct Wages WIP A/c Wages A/c
6. Indirect Wages Production OH A/c Wages A/c
7. Production OH incurred Production OH A/c Cash/Trade Payable
8. Depreciation Production OH A/c Provision for Depn:
9. Production OH Absorbed WIP A/c Production OH A/c
10. Over Absorbed Production OH A/c Statement of P&L
11. Under Absorbed Statement of P&L Production OH A/c
12. Completed (F.G) Transfer F.G Inventory A/c WIP A/c
13. Cost of Goods sold Transfer Cost of Sale A/c F.G Inventory A/c

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4. Non-Integrated System (Inter Locking)
Financial Ledger Cost Ledger
Cash CLC A/c Cost Control Mat Inventory
x Pur: x Mat: Inventory x x
Wages x
OH x
Wages
Revenue x Wages x x

OH
OH x x
Costing Prft x

Revenue
x

Double Entry for Non Integrated System

Transaction Debit Credit

1. Material Purchase Mat Inventory A/c Financial Ledger control A/c
2. Wages Paid Wages A/c Financial Ledger control A/c
3. OH Paid / Depn: OH A/c Financial Ledger control A/c
4. Revenue Financial Ledger control A/c Revenue
5. Costing Profit P&L Financial Ledger control A/c

Trial Balance in Non-Integrated System in the cost Ledger

Mat Inventory A/c x
F.G Inventory A/c x
WIP Inventory A/c x
Production OH A/c x (under) x (over)
Cost control x
xx xx

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Question (1)
The trial balance taken from the integrated ledger of Hillerest Limited on 1 April Year 7 showed:
$000 $000
Non Current Assets at cost 240
Accumulated depreciation 54
Raw material inventory 58
Work-in-progress inventory 17
Finished inventory 19
Trade Receivable and Trade Payable 130 65
Bank 8
Called up share capital 300
Profit and loss account 53
472 472

The following transactions occurred in the month of April Year 7

$000
1 Sales on credit 65
2 Payments made by customers 47
3 Purchases of raw material on credit 26
4 Purchases of production overhead on credit 11
5 Purchases of Admin S&D overhead on credit 6
6 Payments made to suppliers 38
7 Direct materials issued to production 14
8 Indirect material issue to production 5
9 Gross wages and salaries paid 18
10 Gross wages and salaries analysis
Production direct 12
Production indirect 4
Administration selling and distribution indirect 2
11 Production overhead absorbed 15

$000
At the end of the month:
1 Depreciation of Non Current Assets should be provided 2
(50% production, 50% administration, selling and distribution)
2 Inventory, valued at cost were
Work-in-progress 13
Finished inventory 16

Required
Open the accounts listed in the trial balance of Hillerest Limited at 1 April Year 7, insert the balance at that date,
post the transactions for the month of April and take out a trial balance at 30 April.

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Question (2) ( Jan 2019 )
Irvine Hector Manufacturing Ltd operates an integrated accounting system and the
following information is available for Period 6.
Opening inventories

Raw materials 86 250

Work-in-progress 52 020

Finished goods 61 350

The following transactions took place during Period 6:

Purchases of raw materials (on credit) 551 700

Production overheads absorbed 129 375

Direct wages incurred 112 125

Materials transferred to production 500 100

Indirect materials issued to production overheads 29 700

Indirect wages and salaries incurred 41 100

Factory cost of goods completed 732 435

Other production overheads incurred 24 375

Materials written off 11 250

Depreciation on production machinery 33 720

Cost of sales 662 345

Administration overheads incurred 54 200

Selling and distribution overheads incurred 32 600

Sales 694 500

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 (a) Prepare the following for Period 6:
(i) raw materials account
(3)

Details $ Details $

(ii) work-in-progress account

(3)

Details $ Details $

(iii) finished goods account

(2)

Details $ Details $

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 (iv) production overheads account
(4)

Details $ Details $

(v) profit and loss account.

(4)

Details $ Details $

(b) Explain two reasons for using control accounts when operating a non-integrated
accounting system.
(4)

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Question (3) ( June 2019 )

Elphick de Wijs Manufacturing Ltd operates a non-integrated accounting system.

Any balance remaining on the production overhead account in the cost ledger is
carried forward to the next accounting period.
The following balances were in the cost ledger at the beginning of Period 3:

$
Raw materials control 86 500
Work-in-progress 50 800
Finished goods control 58 520
Production overhead control (under absorbed) 5 360
Financial ledger control 201 180
The following transactions occurred during Period 3:
$
Purchases of raw materials 367 800
Direct materials issued 341 180
Indirect materials issued 19 540
Direct wages incurred 74 720
Indirect factory wages and salaries incurred 37 600
Other indirect manufacturing expenses 25 430
Production overheads absorbed 86 450
Finished goods completed 512 300
Production cost of sales 516 640
Sales 674 200

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(a) Prepare the following cost ledger control accounts, balancing all accounts at the
end of Period 3.
(Use the space on page 5 for your workings.)
(i) Raw Materials Control Account
(2)

Details $ Details $

(ii) Wages Control Account

(2)

Details $ Details $

(iii) Production Overhead Control Account

(3)

Details $ Details $

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 (iv) Work-in-progress Control Account.
(3)

Details $ Details $

(v) Finished Goods Control Account

(2)

Details $ Details $

(vi) Financial Ledger Control Account

(4)

Details $ Details $

(b) Explain two features of a non-integrated accounting system.

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 Chapter (9)
Process Costing, Joint and by product costing
1. Definition (CIMA)
The costing method applicable where goods or services result from a sequence of continuous or
repetitive operations or process.
2. Examplec uban
Raw Material Output (FG)
Process 1 Process 2 Process 3
1,000 kg
Raw (1000kg) 5,000 Input (P1) 10,000 Input(P2) 20,000
Lab + OH Added Mat 5,000 Added Mat 10,000
(Conversion Conversion 5,000 Conversion 10,000
Cost) 5,000
10,000 20,000 40,000 -1,000 s

=$40 per kg
Cost Per Output 1 kg = $40,000 = $40 per kg
1,000 kg
3. Losses (Normal Loss, Abnormal Loss, Abnormal Gain)
Normal Loss - Expected Loss base input
Abnormal Loss - Actual Loss > Normal Loss
Abnormal Gain " - Actual Loss < Normal Loss
4. Equivalent Unit
Notional whole units representing uncompleted work. Used to apportion cost between work in pro-
cess and completed output, and in performance assessment.
Input. Expectedtoupt
Question (1) Normal (99 15% 85%
100
A limited manufactures a product whereby the initial raw material passes through two processes (Process One
and Process Two).
The output of Process One is passed to Process Two, where further raw material is added.
Direct costs and output for the month just ended were:
Process One
Initial raw material 3,800 kgs costing $200,000
Direct labour $ 145,210

Normal/Expected
Expected output 85% of input loss 15%an
Transfer to Process Two coutput) 3,150 kgs
impot
Process Two
Transfer from Process One - 3,150 kgs
Raw materials added -
2,850 kgs costing $287,500

Expected loss
Direct labour $ 89,690
inan
-

Expected output 90% of total input Normal

input.
-

Actual output (I.G) 5,520 kgs

There was no
-
work in progress at either the beginning or end of the month.

Pa
Overheads for the month totalled $ 420,800.

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The overheads are apportioned between the two processes as follows:
Process One 55%
Process Two 45%
Losses that arise from the processes are sold for scrap. Losses that occur from Process One are sold for $ 20
per kg, whilst the losses that occur from Process Two are sold for $ 18 per kg.
Required
Prepare for the month just ended:
(a) Process One Account (6 marks)
(b) Process Two Account (6 marks)
(c) Normal Loss Account (4 marks)
(d) Abnormal Loss/Gain Account (4 marks)
(Specimen Paper)

Question (2) ( Jan 2020 )

Caliban Ltd manufactures a product, CAL32, and uses process costing. Information
relating to the inputs used in December 2019 was available.
Material X 12 000 kg costing $6.50 per kg
Material Y
Material Z
7 200 kg costing
4 800 kg costing E $4.25 per kg
$5.65 per kg
Direct labour 1 500 hours costing X $10.80 per hour
- -

Overheads Absorbed at a rate of $16.26 per direct labour hour

The expected output is 92.5% of material inputs.
WAR
Normalloss 75% on Input
Any losses can be sold at a value of $1.75 per kg. S. Y
During December 2019, the amount of good output produced was 22 760 kg.
-

(a) Prepare the process account for Caliban Ltd for December 2019
(b) Prepare the following ledger accounts:
is Normal loss aK (ii)
(c) Explain two differences between joint products and by-products.
Abnomelgaip All

Caliban Ltd is considering apportioning costs to its joint products based on kg of

output.
(d) Advise the management of the business of one disadvantage of apportioning
costs to its joint products based on kg of output.
(e) Explain two reasons why a business might use process costing.

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 Question (3) 2. 19.22 video
Larch manufactures chemicals and uses process costing. Information relating to the
inputs used in March 2017 was as follows:
Material A 1 300 litres costing X $8.00 per litre
Material B 700 litres costing $6.40 per litre
Material C 1 000 litres costing $7.50 per litre
ormal
10%
Direct labour 400 hours costing $9.30 per hour
Overheads Absorbed at a rate of $15.00 per direct labour [Link] expected output is 90% of material inputs.
Any losses can be sold at a value of $3.50 per litre. During March 2017, the amount of good output obtained
- -

was 2 820 litres. (3) V

-

(a) Calculate the cost per litre of the good output of chemicals.
-

(b) Prepare the Chemical Process Account for March 2017.

(c) Complete the entries in the following ledger accounts:
• Normal Loss Account
• Abnormal Loss Account or Abnormal Gain Account.
↑12186 (d) Explain which type of business may benefit from using process costing, giving reasons for your answer.

Joint Product and By Product Costing

1. By Product

A by-product is a product incidentally produced in the process of producing main products. It has a relatively
low sale value compared with main products.

2. Joint Product

Joint products are two or more products separated in processing, each having a sufficiently high
saleable value to merit recognition as a main product.

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Question(4)
Prometheus Ltd manufactures three products – Aye, Bee and Cee – using a process costing system. A by-
product, Dee, is also produced by this process.
The inputs used in production in February 2019 were as follows:
Material Wye 9 000 kg at $7.50 per kg
Material Zed 7 000 kg at $5.75 per kg
Direct labour product)
(Main 1 250 hours at $8.00 per hour
Overheads are absorbed at a rate of $15.20 per labour hour.
The outputs from production in February 2019 were as follows:
Quantity Selling price
Product Aye 6 500 kg $40.00
Product Bee 3 200 kg $35.00
Product Cee 4 700 kg $20.00
Product Dee 1 000 kg $6.50
All waste material has no value but does need to be disposed of at a cost of $3.00 per kg.
Joint costs are apportioned between the main products on the basis of sales revenue.
(a) Prepare the Process Account for February 2019
(b) State two methods, other than sales revenue, that could have been used to apportion joint costs.
! " in
-

-
-

"I ->

C C 3

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Question (5)
Triple Products Ltd uses a process system to jointly produce its three main products, (Product A,B and C)
Byproduct D is also produced during the process.
Information regarding the joint process for the last period is as follows:

Output

Product Quantity Selling price per kg

Product A 8,000 kg $22.50
Product B 6,000 kg $20.00
Product C 5,000 kg $16.00
By-product D 2,000 kg $4.00
Process losses (scrap), which are as expected, are disposed of at a cost of $2.00 per kg.
Input
Raw material X 10,000 kg at $4 per kg
Raw material Y 12,000 kg at $5 per kg
Direct labour 4,000 hours at $8 per hour
Overheads are absorbed at $12 per direct labour hour
Further processing:
Product B requires an additional 0.25 direct labour hours per kg of output for finishing.
Product C is packed in containers which hold 5 kg of the product and cost $1 each.
20 containers can be filled in one direct labour hour.
Products A and D can be sold without any further operations.
There was no work in progress or finished goods inventory at the beginning or the end of the period.
Joint processing costs are apportioned on the basis of net sales value.
Required

(a) Prepare the joint process account for the last period.
(b) Prepare the profit statement for the last period.
(c) Explain the meaning of:
(i) joint products
(ii) by-product.

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Question (6)

A company uses a process system to jointly produce its three main products, Product A, B and C. By-product
D is also produced during the process. Each product contains two materials P and Q which are processed
together in the weight ratio of 3:2 respectfully.
Information regarding the joint process for the month of May is as follows:
-

Input

Direct material P 6,000 kg at $8.00 per kg

Direct material Q 4,000 kg at $5.75 per kg
Direct labour 5,000 hrs at $8.00 per hour

Overheads are absorbed at $12.00 per direct labour hour

A normal loss of 10% is expected.

Output Quantity Selling Price per kg

Product A 4,000 kg $31

Product B 2,600 kg $50
Product C 2,100 kg $43
By-product D 500 kg $12 RY

Joint processing costs are apportioned on a basis of physical quantity.

All process losses (waste) are disposed of at a cost of $5 per kg.
Prior to sale, Product B requires a finishing operation and Product C is required to be packed into containers.
Products A and D can be sold without any further operations.
Product B requires an additional one direct labour hour per 10kg of output for its finishing operation. Containers
for Product C hold 4kg of the product and cost $16.00 each; 20 containers can be filled in one direct labour
hour. -- 1
Required: looks - ?
(a)is Prepare the process account for the month of May.

&
(ii) Assuming that all production was sold, prepare a profit statement for each of the main products, for the
month of May.
(b) Explain the difference between abnormal loss and abnormal gain.

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Question (7)

Ingram and Bowler Ltd uses a process costing system to produce three main
products: Aye, Bee and Cee.
As a result of this process, a by-product Dee is also produced.
The production inputs for Month 6 are shown below.
Direct materials 4 500 kg at $8.50 per kg
Direct labour 4 125 hours at $7.60 per hour
Overheads are absorbed at a rate of $11.40 per direct labour hour.
Normal process losses (scrap) are 10% of inputs and are disposed of at a cost to the
company of $1.00 per kg.
The outputs arising from production in Month 6 are shown below.

Product Quantity Selling price per kg

Product Aye 1 875 kg $39.00
Product Bee 1 125 kg $48.00
Product Cee 750 kg $66.00
By-product Dee 300 kg $4.00
(a) Prepare the Process Account for Month 6, using kg of output as the method of
apportioning joint costs to products.

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 Chapter (10)
Cost-Volume-Profit (CVP) Analysis

1 CVP analysis and breakeven point

Cost-volume-profit (CVP) analysis is the study of the interrelationships between costs, volume and profit
at various levels of activity.

1.1 Introduction
The management of an organisation usually wishes to know the profit likely to be made if the aimed-for
production and sales for the year are achieved. Management may also be interested to know the
following.
(a) The breakeven point which is the activity level at which there is neither profit nor loss.
(b) The amount by which actual sales can fall below anticipated sales, without a loss being
incurred.

The breakeven point (BEP) can be calculated arithmetically.

Total fixed cos ts Contributionrequired to break even
Breakeven point = =
Contributionper unit Contributionper unit

= Number of units of sale required to break even.

Fixed costs
Sales revenue at breakeven point =
C / S ratio

2 The contribution/sales (C/S) ratio

The C/S ratio is a measure of how much contribution is earned from each $1 of sales.

The C/S ratio is calculated as follows.

Contribution
C/S ratio =  100%
Sales

3 The margin of safety

The margin of safety is the difference in units between the expected sales volume and the breakeven
sales volume and it is sometimes expressed as a percentage of the expected sales volume.

The margin of safety may also be expressed as the difference between the expected/actual sales revenue
and breakeven sales revenue, expressed as a percentage of the expected/actual sales revenue.

4 Breakeven arithmetic and target profits

At the breakeven point, sales revenue = total costs and there is no profit. At the breakeven point, total
contribution = fixed costs.

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Question (1)
Budgeted Profit Statement for a Period $
Revenue ($5 × 20,000 units) 100,000
Less: Total variable cost ($ 3 × 20,000 units) 60,000
Contribution per period 40,000
Less: Total fixed cost per period (20,000)
Profit per period 20,000
Required: Calculate
(1) Contribution per unit (CPU) (4) To get Target Profit $ 40, 000
(2) Contribution to sales ratio (C/S ratio) (a) Sale unit @ $5
(3) Break even point in (b) Sale value ($) @ $5
(a) Sale unit @ $5 (c) Selling price (at 20,000 unit sold)
(b) Sale value ($) @ $5 (5) Margin of safety
(c) Selling price (at 20,000 unit sold) (a) in unit
(b) in value ($)
(c) as a percentage of sales

Question (2)

Budgeted Profit Statement for a Period $

Revenue ($20 × 6000 units) 120,000
Less: Total variable cost ($ 12 × 6,000 units) (72,000)
Contribution per period 48,000
Less: Total fixed cost per period (36,000)
Profit per period 12,000
Required: Calculate
(1) Contribution per unit (CPU) (4) To get Target Profit $ 24, 000
(2) Contribution to sales ratio (C/S ratio) (a) Sale unit @ $20
(3) Break even point in (b) Sale value ($) @ $20
(a) Sale unit @ $20 (c) Selling price (at 6,000 unit sold)
(b) Sale value ($)@ $20 (5) Margin of safety
(c) Selling price (at 6,000 unit sold) (a) in unit
(b) in value ($)
(c) as a percentage of sales

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 ↑

Question (3)
S. P
Sole Ltd manufactures and distributes a single product. The product sells for $ 160 per unit and the company

([Link])
expects total sales revenue in this current year of $ 800,000.
-

The variable costs per unit are as follows :

Direct materials $ 60.00
Direct labour $ 40.00
Variable overhead $ 12.00 ⑫ Told v.a per unil
Fixed overheads are forecasted at $ 96,000 for the year.
-

Required
(a) Calculate for the current year the :
(i) break-even point in units
(ii) contribution/sales ratio
(iii) margin of safety as a percentage of sales
(iv) expected profit
-

The following changes in cost are expected in the following year:

Raw material prices to increase by 8% 2100+8) 108
Direct wages rate to increase by 4%
Variable overheads to rise by 5% per unit of product
Fixed overheads to increase by $10,600.
Required
(b) Calculate for the following year : target
(i) C
the new selling price that maintains the current year’s contribution/sales ratio 3
(ii) the sales volume required to maintain the current year’s margin of safety if the selling
price remains at $ 160 To sel TP $144,88
(iii) the sales volume required to maintain the current year’s profit if the selling price remain at $160
(iv) the expected profit if both the sales volume and the contribution to sale ratio for the current
year are maintained
und cisration 30%$130X
⑰
current Following
un
sole, uni 5,000 uni 5,000
%
cis ratio 30%
5)168 D $178
S. P
-

profl 144,000 -

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Question (4)
Makit, a Family-owned business, manufactures and sells its single product at $16 per unit .The company ,
which currently has a monthly production capacity of 19,000 units, has orders for , and plans to sell,18,000
units in the next month .
The following information is a available:
Monthly costs for 16,000 units are estimated at $136,000
Monthly costs for 18,000 units are estimated at $148,000
The company only manufactures to sales orders received and keeps no inventory.
(a) Calculate for next month ,showing your workings, the estimated :
(i) variable cost per unit
(ii) contribution sales ratio
(iii) break-even revenue
(iv) net profit for the planned sales of 18000 units.
A mail-order company has approached Makit with the following two options:
1. 1,000 units at a price of $15 each. (or)
2. 2,000 units at a price of $14 each.

This order would be in additional to the sales orders already received by Makit and must be completed
during next month’s production.
S.P
Makit can increase its monthly manufacturing capacity to 2200 units by hirin;g additional equipment at a cost
of $ 10 000 per [Link] changes in variable costs are expected.
Semi-x)
(b) Explain ,showing supporting calculations for each option should be accepted. BSU
CUS↓ peramit
(c) One assumption in cost-volume-profit (CVP) analysis is that the variable cost per unit constant unit
3. isa per
$8.5
period
-

across the range of activity . Explain why this may not always apply.
-> $8.22
4.9C per

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Question (5)

Lupus Ltd had reported its results for product Exe for August 2019.

$ $
Sales 502 200
Material costs (172 800)
Labour costs (212 400)
Overhead costs (148 200) (533 400)
Loss (31 200)

Additional information is also available.

• 36 000 units were made and sold.
• Material costs were variable.
• Labour costs contained a fixed element of $189 000
• Overhead costs contained a fixed element of $141 000
(a) Calculate, for August 2019, the:
• selling price per unit
• absorption cost per unit
• marginal cost per unit.

The company has been approached by a new overseas customer who is willing to
purchase 6 000 units per month at a price of $9.95 per unit.
This would be in addition to the 36 000 units currently being produced and sold.
(b) Calculate the total profit or loss that Lupus Ltd would make if the offer from the
new overseas customer to buy 6 000 units per month was accepted.

(c) Explain, giving one reason, whether Lupus Ltd should accept the offer from the
overseas customer.

All costs are expected to remain unchanged for the foreseeable future.
(d) Evaluate whether Lupus Ltd should continue producing product Exe.

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Question (6)
$
Revenue (5000 x $10) 50,000
(-) Variable Cost (5000 x $5) 25,000
Contribution 25,000
Less: Fixed Cost (15,000)
Net Profit 10,000
Required: Prepare : (a) Traditional / conventional Break even chart
(b) Contribution Break even chart
(c) Profit Volume chart

Question ( 7)
$
Revenue (1000 x $5) 5,000
(-) Variable Cost (1000 x $2) (2,000)
Contribution 3,000
Less: Fixed Cost (1,000)
Net Profit 2,000
Required: Prepare : (a) Traditional / conventional Break even chart
(b) Contribution Break even chart
(c) Profit Volume chart

3 -
-

-
a
BPU/BS

.
X

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Question (8) ( Jan 2020 )
Prospero Ltd produces a range of products including the JT44. Two budgets had been
produced for December 2019.
Budget 1 Budget 2
Units produced and sold 65 000 80 000
$ $
Revenue 611 000 752 000
Costs
Materials 182 000 224 000
Labour (note 1) 74 250 75 000
Heat, light and power (note 2) 22 500 24 000
Machine hire (note 3) 14 400 14 400
Production overheads (note 4) 162 600 166 350
Non-production overheads 223 450 223 450
Total costs 679 200 727 200
Net profit/(loss) (68 200) 24 800
Notes
1. Labour is a semi-variable cost. Employees are paid an output-related bonus of
$0.05 per unit and the rest is a fixed cost.
2. Heat, light and power is a semi-variable cost where the fixed element is $16 000
3. The company hires machines, each of which has a capacity of 30 000 units per
month.
4. Production overheads is a semi-variable cost.
(a) Calculate the:
(i) labour fixed cost
(ii) heat, light and power variable cost per unit
(iii) cost of hiring one machine
(iv) fixed and variable elements of the production overheads.

In December 2019, Prospero Ltd produced and sold 80 000 units of JT44
(b) Calculate, for December 2019, the break-even point in units and $.

(c) Calculate, for December 2019, the margin of safety in units and as a percentage
of sales. (2)
The directors of Prospero Ltd are considering replacing the JT44 with the FL26
Information about the FL26 is available.
110 000 units will be sold for $13.50 per unit.
Variable costs will be $5.30 per unit.
Fixed costs will be $767 520 per month.

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(d) Prepare a break-even chart for the FL26 (on the graph paper provided) that shows:
• output from 0 to 110 000 units (6)
-

• the break-even point in units

H
• the margin of safety in units
• the profit/loss that will be made each month if 110 000 units were sold.
(e) Evaluate whether Prospero Ltd should produce the JT44 or the FL26, using the
information provided and your answers in (b), (c) and (d).

- YY

$20

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 Chapter (11)
Short-term Decision Making

1 Relevant costs

Relevant costs are future cash flows arising as a direct consequence of a decision.
Relevant costs are future costs, cashflows and incremental costs.

1.1 Relevant costs

A relevant cost is a cost that is incurred incrementally as a result of a possible future course of action
that would not be incurred if the course of action is not chosen.

An opportunity cost The value of the benefit sacrificed when one course of action is chosen, in
preference to an alternative.

Costs that have been incurred include not only costs that have already been paid, but also costs
that have been committed. A committed cost is a future cash flow that will be incurred anyway,
regardless of the decision taken now.

Costs that have been incurred in the past are totally irrelevant to any decision that is being
made 'now'. Such costs are past costs or sunk costs.

Suppose for example that there are three options, A, B and C, only one of which can be chosen. The net
profit from each would be $80, $100 and $70 respectively.
Since only one option can be selected option B would be chosen because it offers the biggest benefit.
$
Profit from option B 100
Less opportunity cost (ie the benefit from the most
profitable alternative, A) 80
Differential benefit of option B 20

The decision to choose option B would not be taken simply because it offers a profit of $100, but
because it offers a differential profit of $20 in excess of the next best alternative.

EXAM FOCUS POINT

Unless you are given an indication to the contrary, you should assume the following.
 Variable costs will be relevant costs
 Fixed costs are irrelevant to a decision
This need not be the case, however, and you should analyse variable and fixed cost data carefully. Do
not forget that 'fixed' costs may only be fixed in the short term.

1.2 Non-relevant variable costs

There might be occasions when a variable cost is in fact a sunk cost (and therefore a non-relevant
variable cost). For example, suppose that a company has some units of raw material in inventory. They
have been paid for already, and originally cost $2,000. They are now obsolete and are no longer used in
regular production, and they have no scrap value. However, they could be used in a special job which
the company is trying to decide whether to undertake. The special job is a 'one-off' customer order, and
would use up all these materials in inventory.
(a) In deciding whether the job should be undertaken, the relevant cost of the materials to the
special job is nil. Their original cost of $2,000 is a sunk cost, and should be ignored in the
decision.
(b) However, if the materials did have a scrap value of, say, $300, then their relevant cost to the job
would be the opportunity cost of being unable to sell them for scrap, ie $300.
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1.3 Attributable fixed costs
There might be occasions when a fixed cost is a relevant cost, and you must be aware of the distinction
between 'specific' or 'directly attributable' fixed costs, and general fixed overheads.
Directly attributable fixed costs are those costs which, although fixed within a relevant range of activity
level are relevant to a decision for either of the following reasons.
(a) They could increase if certain extra activities were undertaken. For example, it may be necessary
to employ an extra supervisor if a particular order is accepted. The extra salary would be an
attributable fixed cost.
(b) They would decrease or be eliminated entirely if a decision were taken either to reduce the scale
of operations or shut down entirely.
General fixed overheads are those fixed overheads which will be unaffected by decisions to increase or
decrease the scale of operations, perhaps because they are an apportioned share of the fixed costs of
items which would be completely unaffected by the decisions. General fixed overheads are unlikely to be
relevant in decision making.

1.4 Absorbed overhead

Absorbed overhead is a notional accounting cost and hence should be ignored for decision-making
purposes. It is overhead incurred which may be relevant to a decision.

1.5 The relevant cost of materials

The relevant cost of raw materials is generally their current replacement cost, unless the materials have
already been purchased and would not be replaced once used. In this case the relevant cost of using
them is the higher of the following.
 Their current resale value
 The value they would obtain if they were put to an alternative use
If the materials have no resale value and no other possible use, then the relevant cost of using them for
the opportunity under consideration would be nil.

QUESTION-1 Relevant cost of materials

O'Reilly Co has been approached by a customer who would like a special job to be done for him, and
who is willing to pay $22,000 for it. The job would require the following materials.
Total units Units already Book value of Realisable Replacement
Material required in inventory units in value cost
inventory
$/unit $/unit $/unit
A 1,000 0 – – 6
B 1,000 600 2 2.50 5
C 1,000 700 3 2.50 4
D 200 200 4 6.00 9
Material B is used regularly by O'Reilly Co, and if units of B are required for this job, they would need to
be replaced to meet other production demand.
Materials C and D are in inventory as the result of previous over-buying, and they have a restricted use.
No other use could be found for material C, but the units of material D could be used in another job as
substitute for 300 units of material E, which currently costs $5 per unit (of which the company has no
units in inventory at the moment).
Required
Calculate the relevant costs of material for deciding whether or not to accept the contract.

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1.6 The relevant cost of labour
The relevant cost of labour, in different situations, is best explained by means of an example.

1.6.1 Example: Relevant cost of labour

LW Co is currently deciding whether to undertake a new contract. 15 hours of labour will be required for
the contract. LW Co currently produces product L, the standard cost details of which are shown below.
STANDARD COST CARD
PRODUCT L
$/unit
Direct materials (10kg @ $2) 20
Direct labour (5 hrs @ $6) 30
50
Selling price 72
Contribution 22

(a) What is the relevant cost of labour if the labour must be hired from outside the organisation?
(b) What is the relevant cost of labour if LW Co expects to have 5 hours spare capacity?
(c) What is the relevant cost of labour if labour is in short supply?

2 Limiting factors

A limiting factor is a factor which limits the organisation's activities. In a limiting factor situation,
contribution will be maximised by earning the biggest possible contribution per unit of limiting factor.

One of the more common decision-making problems is a situation where there are not enough resources
to meet the potential sales demand, and so a decision has to be made about what mix of products to
produce, using what resources there are as effectively as possible.
A limiting factor is a factor which limits the organisation's activities.

QUESTION-2 Limiting factor

LF Co makes a single product for which the cost details are as follows.
$ per unit
Direct material ($3 per kg) 12
Direct labour ($8 per hour) 72
Production overhead 18
Total production cost 102

Demand for next period will be 20,000 units. No inventories are held and only 75,000 kg of material
and 190,000 hours of labour will be available. What will be the limiting factor next period?
A Material only
B Labour only
C Material and labour
D There will be no limiting factor next period

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Question (3)
A company has three products (Product A, Product B and Product C). Selling price and variable costs of the
products are as follows :
Product A Product B Product C
$ per unit $ per unit $ per unit
Selling price 6.00 9.00 4.60
Direct materials :
Material X 1.20 2.40 0.48
Other materials 0.60 1.00 0.52
Direct labour 1.50 2.40 1.20
Total fixed cost perperiod $ 12000
Maximum available supplies of Material X (costing $ 6.40 per kg) and hours of direct labour (paid at $ 8.00 per
hour) are expected to be 4,500 kg and 3,780 hours respectively in the following period. Other materials are freely
available.
Sales demand in the following period is expected to be :
Product A 8,000 units
Product B 6,000 units
Product C 5,400 units
Required
For the following period :
(a) Determine the limiting factor. Show calculations clearly and fully justify your conclusion. (7 marks)
(b) Prepare a production schedule with the objective of maximising profit. (9 marks)
(c) Calculate the each product, the total contribution and profit if the production schedule in your answer to
part (b) above is followed.

Question (4) ( Jan 2019 )

Henrikson Kingsley manufactures and sells four products that all use
raw material XYZ.
The company is currently preparing its production schedule for the next period.
The details for these four products are as follows:

Product Aye Bee Cee Dee

Selling price per unit $250 $340 $420 $480

Raw material per unit 2kg 3kg 4kg 4kg

Contribution per unit $50 $90 $140 $160

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 Fixed overhead is $35 per unit and is calculated on the basis of the total sales
demand.
The sales demand, in units, for the forthcoming period is expected to be:

Product Aye Bee Cee Dee

Units 800 700 700 800

The raw material is in short supply and will be limited to 8 100 kg for the next period.
For the next period:
(a) (i) calculate the order of priority for production with the objective of
maximising contribution
(ii) prepare the optimum production schedule that will enable the company to
maximise profit
(iii) calculate the profit resulting from the production schedule you prepared
in a(ii)
(iv) calculate the break even in sales revenue assuming the product mix calculated
in part a(ii) above.

Qustion (5)
Maloney Weir Ltd manufactures and sells four products: Q , R , S , and T. The company is preparation its
production schedule for the next [Link] availability of direct labour will be limited to 32,000 hours for the
period.
The details for the four product are as follows:
Product Q Product R Product S Product T
Per unit $ $ $ $
Selling price 128 74 240 192
Direct material 24 18 42 30
Direct labour ($10 per hour) 40 20 80 60
Variable overheads 32 16 30 48
Fixed overheads 20 10 40 30
Sales demand ( units) 1500 2250 1875 1750

The fixed overhead per unit has been calculated on the basis of the sales demand for each product.
( a ) Calculate the order of priority for production in the period with the objective of maximising
contribution.
( b ) Prepare the optimum production schedule that will enable the company to maximise profit.
( c ) Calculate the profit resulting from the production schedule in ( b )
( d ) Explain the meaning of the following terms, giving an example of each
( i ) sunk cost
( ii ) differential / incremental costs.

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3 Make/buy-in problems

In a make/buy-in problem with no limiting factors, the relevant costs for the decision are the differential
costs between the two options.

3.1 Introduction
A make/buy-in problem involves a decision by an organisation about whether it should make a
product/carry out an activity with its own internal resources, or whether it should pay another
organisation to make the product/carry out the activity. Examples of make/buy-in problems would be as
follows.
(a) Whether a company should manufacture its own components, or buy the components from an
outside supplier.
(b) Whether a construction company should do some work with its own employees, or whether it
should subcontract the work to another company.

3.1.1 Example: Make/buy-in problem

Buster Co makes four components, W, X, Y and Z, for which costs in the forthcoming year are expected
to be as follows.
W X Y Z
Production (units) 1,000 2,000 4,000 3,000
Unit marginal costs $ $ $ $
Direct materials 4 5 2 4
Direct labour 8 9 4 6
Variable production overheads 2 3 1 2
14 17 7 12

Directly attributable fixed costs per annum and committed fixed costs are as follows.
$
Incurred as a direct consequence of making W 1,000
Incurred as a direct consequence of making X 5,000
Incurred as a direct consequence of making Y 6,000
Incurred as a direct consequence of making Z 8,000
Other fixed costs (committed) 30,000
50,000
A subcontractor has offered to supply units of W, X, Y and Z for $12, $21, $10 and $14 respectively.
Required
Decide whether Buster Co should make or buy-in the components.

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 Chapter (12)
Long-term Decision Making: Investment Appraisal

1. Long-term Decision are often:

- Whether to invest in more Non current assets
- Whether to replace existing Non current assets
- Whether to introduce new product
- For this type of decision
 Manager have to look ahead for several year.
 Try to forecast what might happen.
- Management accountant use “Project appraisal technique”
- Project appraisal technique are method of examining investment proposal.
- To find out whether they will benefit
- If so by how much

2. Cash flow and relevant Cost

- Cash Inflow (Receive) Cash Outflow (Payment)

Project sales Initial Investment
Cost Save Working Capital Investment
Scrap Value of Assets Variable cost of Project
Working Capital (Recover) Direct Attributable Cost of Project
Opportunity Cost

- Cash Inflow - Cash Outflow = Net Cash Flow

- Following cost are not included in Cash flow

 Depreciation
 Sunk Cost
 Common / Apportioned Fixed Cost

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1 Introduction to capital investment appraisal

Long term investments include the purchase of buildings, machinery and equipment. Management will
need to have estimates of the initial investment and future costs and revenues of a project in order to
make any long term decisions.

Long term decisions generally involve looking at the options available when a company (or an
individual) puts money into an investment.
If a company invests in a project, it will expect some sort of financial return (or more money) at some
point in the future. If the project runs for a number of years then whether or not to invest in the project
will involve taking a long term decision.
One of the things companies will need to consider when investing in long term projects is the time value
of money.
Think about the following question.
'If I have $5 in my pocket now, how much will it be worth in four years' time?'
This is a difficult question to answer, but we will be looking at ways in which companies use the
concept of the time value of money when they are appraising projects and making long term decisions.

2 Interest

Interest is the amount of money which an investment earns over time. Simple interest is interest which
is earned in equal amounts every year assuming no change in the interest rate. If interest earned also
earns interest itself in later periods, this is known as compound interest.

2.1 Simple interest

 Interest is the amount of money which an investment earns over time.
 Simple interest is interest which is earned in equal amounts every year (or month), assuming no
change in the interest rate, and which is a given proportion of the original investment (the
principal).

If a sum of money is invested for a period of time, then the amount of simple interest which accrues is
equal to the number of periods  the interest rate  the amount invested. We can write this as a
formula.
The formula for simple interest is as follows.
S = P + nrP
where P = the original sum invested
r = the interest rate (expressed as a proportion, so 10% = 0.1)
n = the number of periods (normally years)
S = the sum invested after n periods, consisting of the original capital (P) plus interest
earned (future value)

2.1.1 Example: Simple interest

Fred invests $1,000 at 10% simple interest per annum.
Required
Calculate how much Fred will have after five years.

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2.2 Compound interest
Interest is normally calculated by means of compounding.
If a sum of money is invested and the interest earned each period is added to the investment, then the
interest earned in earlier periods will also earn interest in later periods.

2.2.1 Example: Compound interest

Suppose that Fred invests $2,000 at 10% interest per annum. After one year, the original principal plus
interest will amount to $2,200.
$
Original investment 2,000
Interest in the first year (10%) 200
Total investment at the end of one year 2,200

(a) After two years the total investment will be $2,420.

$
Investment at end of one year 2,200
Interest in the second year (10%) 220
Total investment at the end of two years 2,420

The second year interest of $220 represents 10% of the original investment, and 10% of the
interest earned in the first year.
(b) Similarly, after three years, the total investment will be $2,662.
$
Investment at the end of two years 2,420
Interest in the third year (10%) 242
Total investment at the end of three years 2,662

Instead of performing the calculations shown above, we could have used the following formula.
n
The basic formula for compound interest is S = P(1 + r)
where P = the original sum invested
r = the interest rate, expressed as a proportion (so 5% = 0.05)
n = the number of periods (normally years)
S = the sum invested after n periods (future value)
You will need a scientific calculator with a power button ( x , y x or x y )
n
Using the formula for compound interest, S = P(1 + r)
where P = $2,000
r = 10% = 0.1
n = 3 3
S = $2,000  1.10
= $2,000  1.331
= $2,662
The interest earned over three years is $662, which is the same answer that was calculated in the
example above.
If today's date is 31 May 20X3, note the following timings of cash flows.
 Time 0 = now (31 May 20X3)
 Time 1 = one year's time (31 May 20X4)
 Time 2 = two year's time (31 May 20X5)

QUESTION Compound interest

If Fred invests $5,000 now (28 February 20X3) how much will his investment be worth:
(a) On 28 February 20X6, if the interest rate is 20% per annum?
(b) On 28 February 20X7, if the interest rate is 15% per annum?
(c) On 28 February 20X6, if the interest rate is 6% per annum?

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Question (1) ( January 2019 )
Evandro Toral is considering whether to invest in one of two capital projects for a
period of four years.
The net cash flows for the two projects are as follows:

Project Exe Project Whye

$000 $000
Year 0 (580) (920)

Year 1 160 250

Year 2 350 440

Year 3 210 320

Year 4 120 180

Cost of capital is 15% per annum.

Discount factors: Year 12% 15% 20%

1 0.893 0.870 0.833

2 0.797 0.756 0.694

3 0.712 0.658 0.579

4 0.636 0.572 0.482

(a) Calculate for each of Project Exe and Project Whye the:
(i) Payback period
(ii) net present value
(iii) internal rate of return.
(iv) Discounted payback period

(b) Evaluate which project should be undertaken.

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Question (2)
A Company is considering investing in a new machine to increase its capacity in order to manufacture a new
product. The machine would cost $1,600,000 with a residual value of $120,000 after its expected useful life
of five years.
The forecast for net operating cash inflows, for the product is as follows:
Year $000
1 600
2 840
3 1,220
4 900
5 330
The operation of the new machine will require an immediate additional investment in working capital of $360,000.
The working capital will be released at the end of the useful life of the machine.
If the new product is manufactured, the company will have to discontinue an existing product which makes an
annual contribution of $250,000.
The company’s cost of capital is 12% per annum.
Discount factors: Year 10% 12% 15% 18% 20%
1 0.909 0.893 0.870 0.847 0.833
2 0.826 0.797 0.756 0.718 0.694
3 0.751 0.712 0.658 0.609 0.579
4 0.683 0.636 0.572 0.516 0.482
5 0.621 0.567 0.497 0.437 0.402
Required
(a) Calculate in relation to the investment in the new machine, the:
(i) net present value (10 marks)
(ii) internal rate of return (3 marks)
(iii) discounted payback period. (4 marks)
(iv) Accounting rate of return (2011 Series 4)

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Question (3)

A company is evaluating an investment project requiring an outlay of $1.4million on new machines (Year 0). The
machines would be expected to have a useful working life of six years, with a residual value of $80,000 (Year 6),
and would be depreciated on a straight line basis.
Estimates of cost savings (net of depreciation of the new machines) arising from the investment are:
Year $’000
1 20
2 50
3 to 6 80 per annum
The company’s cost of capital 5% per annum.
Required
(a) Calculate in relation to the investment project the:
(i) annual accounting rate of return;
(ii) payback period
(iii) net present value
(iv) discounted cash flow internal rate of return.
Discount factors:
Year 5% 10% 15%
1 0.952 0.909 0.870
2 0.907 0.826 0.756
3 0.864 0.751 0.658
4 0.823 0.683 0.572
5 0.784 0.621 0.497
6 0.746 0.564 0.432
(V) Profitability Index

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Question (4)

A company is considering investing in new plant and equipment to introduce a new product with an estimated
lifespan of 5 years. The plant and equipment is expected to cost $2,150,000 with a residual value of $250,000
after five years.

The revenue forecast for the product is as follows:

Year $000
1 1,200
2 1,680
3 3,040
4 2,560
5 1,920

The product is expected to have a constant contribution/sales ratio of 37.5% and budgeted annual incremental
fixed costs of $160,000 (excluding straight-line depreciation of new plant and equipment).

Assume that net cash inflows occur at the end of the years to which they relate.

The company’s cost of capital is 10% per annum.

Discount factors: Year 10% 12% 15% 18% 20%

1 0.909 0.893 0.870 0.847 0.833
2 0.826 0.797 0.756 0.718 0.694
3 0.751 0.712 0.658 0.609 0.579
4 0.683 0.636 0.572 0.516 0.482
5 0.621 0.567 0.497 0.437 0.402

Required
(a) Calculate in relation to the investment in new plant and equipment, the:
(i) accounting rate of return (using the average investment value); (8 marks)
(ii) net present value; (6 marks)
(iii) internal rate of return. (3 marks)
(iv) Discounted Paybak Period.

(b) Advise the company on whether the investment in new plant and equipment is worthwhile, on the
basis of the net present value and internal rate of return in part (a). (3 marks)
(2010 Series 4)

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 Chapter (13)
Budgeting
Purpose of Preparing Budget
- It is vital that business develop plans for the future.
- Whatever a business is trying to achieve, it is unlikely to come about unless its managemers are clear
what the future direction of the business is going to be.
- The development of plans involves five key steps.

(1) Establish mission and objectives.

(2) Undertake a position analysis.
(3) Identify and assess the strategic options.
(4) Select strategic options and formulate plans.
- cash receipts and payments-cash budget ch(q)
- sales volumes and revenues.
-
-

- products or services.
-
-

- detailed inventories requirements.

-

- detailed labour requirements

-

- specific material requirements

(5) Perform, review and control

How budgets help managers-benefits

- Budgets tend to promote forward thinking and the possible identification of short-terms problems.
- Budgets can be used to help co-ordination between the varous sections of the business.
- Budgets can motivate managers to better performance.
- Budgets can provide a basis for system of control.
- Budgets can provide a system of authorisation for managers to spend up to a particular limit.

2ce Principle Budgets Factor (Limiting Factor)

The principle budgets factor is the factor which restict the activities of and organisation during the
budget period. This budget must be prepared first and all other budgets will be derived from it.C

Example of principal budget factors include

w - Sale

v - Skilled labour
v - Production / Machine capacity
v - Working capital

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 Material Usage Material
 Budget  Purchase
Production Budget
Sales Budget  Budget 
Labour hour Labour
 Budget  Employment
Budget

1. Production Budget
(Unit)
Budgeted Sales Unit xx
(+) Closing Inventory of finished goods xx
(-) Opening Inventory of finished goods xx
Budgeted Production Unit xx
Production Cost Budget
( Budgeted prodn unit x Prodn cost per $x unit ) $xxx

2. Material Usage budget

= Budgeted Production unit x Direct Material usage per unit

3. Labour hour budget

= Budgeted Production unit x Direct Labour hr per unit

4. Material Purchase budget

(Unit)
Budgeted Material usage x x-
(+) Closing Inventory of material x x-
(-) Opening Inventory of material (x x)
Budgeted Material Purchase (Unit) x x-
Material Purchase Cost
(Material Purchase Unit x Material Price) $xxx-

5. Labour Employment Budget

=
Budgeted Labour Hour per period
Worked hour per employee per period

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Question (1)

A company manufactures and sells two products (Product P1 and Product P2). Budgeted costs for the next
period are:
Product P1 Product P2
$ per unit $ per unit
Raw materials
Material X 3.00 3.00 (at $ 6.00 per kg)
Material Y 2.72 4.76 (at $ 13.60 per kg)
---
Direct labour:
Grade 1 1.05 1.05 (at $ 10.50 per hour)
Grade 2 1.64 2.05 (at $ 8.20 per hour)
Production overheads 4.49 5.94
wat
Total production cost 12.90 16.80 Inventor

I ↑
The sales and inventory budgets for the next period have been agreed as follows:

Product P1 Product P2
Sales BSU 16,400 units 27,500 units

Finished goods inventory:

start of budget period $ 27,090
-
$105,000
end of budget period $ 32,508 $ 80,640
. . .

Raw materials inventory: Material X Material Y

start of budget period $ 5,160
--
$ 6,936
end of budget period $ 4,440
-
$ 7,616

Inventory valuations are at budgeted cost

Required
Prepare the following budgets for the next period:
(a) Production (units of each product); (5 marks)
(b) Direct labour (hours and cost of each grade); (5 marks)
(c) Raw material usage (kgs of each material); (5 marks)
(d) Raw material purchases (kgs and cost of each material) (5 marks)
(2007 Series 4)

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Question (2)

Dual Products Ltd manufactures and sells two products (Product Tee and Product Pee). The standard production
costs and selling prices, for the two products for Year 9, are as follows:

Product Tee Product Pee

($ per unit) ($ per unit)
Selling Price 40.00 50.00
Direct material ($ 15 per kg) 6.00 9.00
Direct Labour ($ 12 per hr) 14.40 18.00
Production Overheads ($ 8 per direct labour hour) 9.60 12.00

Budgeted production output for Year 9 is 15,000 units and 12,000 units for products Tee and Pee respectively.

Budgeted inventory of production units (valued at standard production cost) and inventory of direct materials
(kg) for Year 9 are as follows:

Opening InventoryClosing Inventory

Product Tee $45,000 $30,000
Product Pee $23,400 $31,200
Material 1,600 kg 2,000 kg

Direct operatives are on holiday for 4 out of the 52 weeks in the year. The basic normal working week is 40
hours but overtime is regularly worked by each operative. 20% of the total hours worked are budgeted as
overtime and paid for at a premium of 25% over the basic rate. Holiday pay and overtime premium costs are
included in production overheads.

Required

Prepare the following budgets for Year 9 :

(a) Sales (in units and value) (6 marks)

(b) Direct materials purchases (in kg and value) (6 marks)

(c) Direct labour (in hours and number of operatives) (4 marks)

(d) Holiday pay and overtime premium (relating to direct labour) (4 marks)

(Total 20 marks)

( 2008 series 3 )

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Question (3) ( September 2017 )
Tymon McGuire Ltd manufactures and sells three products, using two types of raw
material and two grades of labour.
The company is preparing its budgets for Period 3 and has provided the following
information.
Product Aye Product Bee Product Cee
Sales (units) 3 000 2 000 3 600
Direct materials per unit
Material Exe ($16.50 per kg) 2.5 kg 2.0 kg 3.0 kg
Material Whye ($24.50 per kg) 1.5 kg 2.1 kg 1.4 kg
Direct labour per unit
Skilled ($17.25 per hour) 1.2 hours 3.5 hours 2.5 hours
Unskilled ($12.50 per hour) 0.8 hours 1.5 hours 0.8 hours
Inventory holding Product Aye Product Bee Product Cee
Start of Period 575 units 550 units 680 units
End of Period 725 units 360 units 480 units
Inventory holding – materials Material Exe Material Whye
Start of period 3 400 kg 4 000 kg
End of period 4 450 kg 4 575 kg
(a) Prepare the following budgets for Period 3:
(i) production (units of each product)

(ii) purchases of Material Exe (quantity in kg and total cost)

(iii) unskilled direct labour (quantity in hours and total cost).

(b) Explain two benefits, apart from dealing with overdrafts or cash surpluses, that a
company might obtain from preparing budgets.

(c) Identify two factors that might influence the company’s choice of budget period. (2)

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Question (4)
Dual Products Ltd manufactures and sells two products (Product Tee and Pee). The sales budget for the next
period as follows :
Tee Pee
BSC 10,000 units 24,000 units
Inventory of finished goods, for both products, at the beginning of the budgeted period are expected to be
25% of the budgeted sales. Production is to be budgeted to increase the finished products, inventory by 10%
over the period.
Three raw materials (Material X, Y and Z) are used by the company in the manufacture of the two products,
in the following combinations:
unit ->JG.
Tee Pee DM usage per
Material X 0.20 kg 0.12 kg
Material Y 0.16 kg 0.18 kg
Material Z 0.24 kg 0.25 kg
A 20% weight loss of Material Y is expected during the manufacturing process. No weight loss is expected
with Material X or Z.
Inventory of raw materials at the beginning of the period are expected to be :
Material X 1,022 kg
Material Y 585 kg
Material Z 610 kg
Purchases of Material X are budgeted so that the inventory at the end of the period is expected to be sufficient
to manufacture 2,500 units of Product Tee and 6,000 units of Product Pee. No changes in the level of inventory
of Material Y or Z are to be budgeted.
Standard product costs are budgeted to be :

Raw material :
Material X $ 4 per kg
Material Y $ 3 per kg
Material Z $ 2 per kg
Direct labour :
Product Tee 0.50 hrs per unit at $ 8.00 per hour
Product Pee 0.25 hrs per unit at $ 8.00 per hour
Variable production overheads $ 2 per direct labour hour
Fixed production overheads for the period $ 25,000

Required
Prepare the following budgets for the next period:
(a) Production (units of each product) (4 marks)
(b) Material purchases of each material (kg) (11 marks)
(c) Production cost by cost element and in total (5 marks)
(Total 20 marks)
( 2009 series 4 )
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Cash Budget
Question(1)
Ganymede Ltd is planning its cash flow for the three months April to June 2018, and the following budgeted
information is available.
• The company will have a bank overdraft of $14 360 on 1 April 2018.
• Sales and purchases will be as follows:
February March April May June
($) ($) ($) ($) ($)
Sales 27 100 29 400 30 300 28 600 26 200
Purchases 15 310 16 230 17 190 15 870 14 420
• 35% of the sales income will be received in the month following the sale and 62% will be received two
months after the sale. The remainder will be written off as an irrecoverable debt.
• Purchases will be on one month’s credit.
• Wages and salaries will be $2 720 per month, payable in the month in which they are incurred.
• Drawings of $1 800 will be taken out by the owner each month.
• Heat, light and power will be $390 per month and will be paid quarterly in February, May, August and
November.
• Other costs will be $1 200 per month plus a commission of 5% of sales. These will be payable in the
month in which they are incurred. Other costs do not include any depreciation.
• The company has non-current assets that cost $180 000 in August 2014, and are expected to have a
residual value of $30 000 at the end of their five-year useful life.
• Bank charges are 2.5% per month on any overdraft. These are applied to any overdrawn balance and
are charged in the following month.

(a) Prepare the cash budget for each of the three months April to June 2018. The budget should be in
columnar format and all figures should be calculated to the nearest $. (12)

(b) Explain two reasons why it is important for Ganymede Ltd to manage its cash flow efficiently. (4)

(c) Evaluate Ganymede Ltd’s cash flow position. (5)

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Question (2)
Sole Products Ltd, which buys and sells a single product, has prepared the following summarised budgeted
statement of profit & loss for the period January to April, Year 11.
January February March April
$’s $’s $’s $’s
Revenue 160,000 170,000 180,000 190,000
Cost of sales 96,000 102,000 108,000 114,000
Gross profit 64,000 68,000 72,000 76,000
Wages 17,600 19,800 22,000 24,200
Depreciation 6,000 6,000 6,000 6,000
Other overheads 22,000 22,500 23,000 24,000
Net Profit 18,400 19,700 21,000 21,800
The following additional information for the period is available:
(i) 10% of the sales are for cash; credit sales are paid in month after sales
(ii) Product purchases are paid for in the month following purchase
(iii) Inventory of product (at cost) is expected to be:
End of January $21,000
End of February $24,000
End of March $26,000
End of April $27,000
(iv) Wages are made up of a basic piece rate plus a 10% bonus. The basic piece rate wage is paid in the
month incurred and the bonus is paid the following month
(v) 60% of the other overheads are paid in the month they are incurred the remainder being paid
the following month
(vi) Capital expenditure of $35,000 and $20,000 is forecast for January and April
(vii) The following balances are expected at the beginning of January year 11.
Inventory of products $19,000
Trade Receivable $140,000
Trade Payable $80,000
Wages accrued $1,000
Overheads accrued $8,000
Bank $10,000 overdrawn
Required:
(a) Prepare the cash budget for each of the four months January to April, year 11. (16 marks)
(b) State two advantages of having a cash budget. (4 marks)
(Total 20 marks)
(2011/Series2)

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Question (3) ( Dec 2020 )
Haisheng is planning his cash flow for the three months January to March 2021.
Information about his revenues and costs is available.
• Haisheng will have a bank balance of $5 284 on 1 January 2021.
• Sales and purchases will be as follows:
November December January February March
2020 2020 2021 2021 2021
$ $ $ $ $
Sales 51 200 58 300 56 100 48 700 46 300
Purchases 23 040 26 235 25 245 21 915 20 835
• 40% of the sales income will be received in the month following the sale and
58% will be received two months after the sale. The remainder will be written off
as an irrecoverable debt.
• Purchases will be made on one month’s credit.
• Inventory on 1 January 2021 will be $30 180 and on 31 March 2021 $32 630
• Wages and salaries will be $11 340 per month and other costs will be $1 875 per
month, both payable in the month in which they are incurred.
• Drawings of $4 500 will be taken each month.
• Heat, light and power will be $720 per month and will be paid quarterly in
February, May, August and November.
• Haisheng will buy a delivery van for $40 000 in January 2021 and will pay for it
immediately.
• Haisheng has non-current assets that were bought in October 2018 at a cost of
$57 000. These have a useful life of 5 years. Haisheng uses the straight line
method of depreciation.
• Bank charges are 2% per month when the business is overdrawn and are
calculated on the balance at the end of the previous month.
(a) Prepare the cash budget for each of the three months January to March 2021.
The budget should be in columnar format and all figures should be calculated to
the nearest $.
(b) State two internal actions that Haisheng could take to improve his cash flow
during the three months January to March 2021.
If a business does not manage its cash flow efficiently, it may have a bank balance
that is overdrawn.
(c) Explain two reasons why it is important for a business to manage its cash flow
efficiently.

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Question (4)

Solar Products Ltd manufactures and sells a single product. The following information is also available for the
next 6 month period:

Revenue:
The budgeted sales, in units, are as follows:
Month July Aug Sept Oct Nov Dec
Sales (units) 240 260 270 280 280 270

The standard selling price is $50 per unit. 40% are expected to be cash sales with the remaining customers
allowed one month’s credit. It is estimated that 5% of credit customers will be bad debts.

Production:
The company manufactures 60% of the budgeted sales during the month before the sales and the remaining
40% in the month of sales.

Costs:
(i) Direct material will be $20 per unit of the finished product. Material will be purchased in the month
prior to their use in production and paid for in the following month.
(ii) Wages will be paid at the rate of $8 per unit of finished product, payable in the month of production.
A bonus payment of $4 per unit will be paid on all additional monthly production in excess of 250 units,
paid in the month following production.
(iii) Fixed production overheads of $18,000, including depreciation of $6,000, are budgeted for the year
ahead. These are budgeted to be the same each month and, apart from depreciation are payable in the
month they are incurred.
(iv) Variable selling expenses are expected to be $3 per unit payable in month they are incurred.
(v) Fixed administration overheads of $6,000 for the year ahead are budgeted to be same per month and
payable in the month they are incurred.

Cash:
The company expects to have a bank overdraft of $3,500 at the start of August.

Required:

Prepare the following budgets for each of the months August to October:
(a) Production (units) (3 marks)
(b) Material purchases ($’s) (2 marks)
(c) Labour cost (3 marks)
(d) Cash. (12 marks)
(Total 20 marks)
(2010/Series3)

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Question (5)

A company has prepared the following summarised budgeted statement of profit & loss (by month) for a four
month period.

($000) Month 1 Month 2 Month 3 Month 4

Revenue 164 188 140 192
Production cost of sales:
Direct materials 41 47 35 48
Direct labour 33 38 28 39
Overhead 49 52 46 53
123 137 109 140
Gross Profit 41 51 31 52
Non-production overhead 37 38 36 38
Net profit/(loss) 4 13 (5) 14

No inventory of finished goods is held. Budgeted beginning of month balances for current assets/liabilities
(excluding bank / cash) are:

Beginning Beginning Beginning Beginning Beginning

($000) Month 1 Month 2 Month 3 Month 4 Month 5
Inventory of raw materials 29 32 25 33 31
Trade Receivable 140 128 146 120 155
Trade Payable for raw materials 53 54 50 54 54
Accrued wages/overhead 16 18 14 18 17

The bank balance at the beginning of Month 1 is expected to be $16,000.

Overheads include depreciation of $22,000 per month. Capital expenditure of $105,000 is budgeted in
Month 2.

Required
(a) Prepare a cash budget for each of the four months (1, 2, 3 and 4)
(b) Describe any actions that you would recommend in response to the cash budget.
(2003 Series 2)

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 Flexible Budget

Question (1)
Singular Ltd, which manufactures a single product, has prepared the following budget for the next period:

Production /sales units 10,800

$ $
Sales revenue 172,800
Direct materials 43,200
Labour semi 39,000
Senni-v.C
Production overheads 44,500
Selling and distribution overhead 8,500
Administration overheads 10,000
Total costs 145,200
Profit 27,600
10800 und
90%
The following points have been revealed concerning the budget:
(1) The budget is based on 90% utilisation of maximum capacity. 100s??
(2) Direct material costs vary directly with output.
(3) Labour includes a fixed and a variable cost. The variable cost is $2.50 per unit.

(4) Production overheads include a fixed and variable cost. The variable cost varies directly with output
and the total overhead cost, at maximum capacity, is $46,900 unit
, (Iow
(5) Selling and distribution overheads include a fixed and variable cost. The variable cost varies direct with
output and the fixed element is $3,100. .
C?
(6) Administration overheads are fixed.
-

Required:
(a) Prepare flexed budgets for the period at:
(i) 100% utilisation of maximum capacity

(b)
(ii) 80% utilisation of maximum capacity.
cosso, 12,000 (15 marks)
Calculate for each of the three levels of output (i.e. 80%, 90% and 100% utilisation of maximum
capacity):
-

(i) variable cost per unit

- perum)
(ii) total cost per unit.
-
a per unit (5 marks)
(Total 20 marks)
(2012 Series2)

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Question (2) HW
Mono Products maufactures a single product for the motoring industry and has prepared the following budget
for the next period:
Production / sale units 11,700
$ $
Sales revenue 187,200
Direct materials 46,800
Direct Labour 41,250
Production overheads 45,400
Selling and distribution overheads 8,600
Administration overheads 10,000
Total Costs 152,050
Profit 35,150

The following information is also available

- The budget is based on a 90% untilisation of maximum capacity.
- Labour includes a direct and an indirect cost. The direct cost is $ 2.50 per unit.
- Production overheads include a fixed and variable element. Production overheads are obsorbed on a
cost per unit basis . This is based on the maximum capacity and a total cost of $ 48,000 at maximum
capacity.
- Selling and distribution overheads include a fixed element of $ 2,750
- Administration overheads are fixed.

(a) Prepare a flexible budget for the period based on an 80% untilisation of maximum capcity . (13).

(b) State three benefits that a business would expect to gain from the use of budgetary planning. (3)

(c) Explain one difference between a fixed budget and a flexible budget. (2)

(d) Explain one advantage of preparing a flexible budget (2)

(2015 November)

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Question (3) ( December 2019 )

Bowen and Campbell Ltd manufactures a single product.

The company has prepared the budgeted and actual costs for Period 8
Budget Actual
Production/sales in units 3 600 3 800
$ $
Direct material 72 000 74 500
Direct labour 54 000 59 000
Production overhead 95 000 98 500
Administration overhead 50 000 50 500
Selling and distribution overhead 110 000 117 500
Additional information
• Production overhead has a fixed element and a variable element.
• The variable element of the production overhead is absorbed on a per unit basis,
based on a maximum capacity of 4 000 units per period.
• At a maximum capacity of 4 000 units, total production overhead would
be $100 000
(a) Complete the table, showing the flexed budget for an output of 3 800 units, the
actual costs and all the variances for Period 8
Clearly label the variances as adverse or favourable.
(14)

Production/sales units 3 800 3 800

Flexed Actual Variance

budget
$ $ $

Direct material

Direct labour

Production overhead

Administration overhead

Selling and distribution overhead

(b) Explain one difference between a fixed budget and a flexible budget.
(2)
(c) Describe one benefit of using a flexible budget.
(2)

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Question (4) ( June 2019 )
Irvine Mazuch Ltd manufactures a single product.
The company produced an original budget for a period based on sales and
production being 7 500 units.
The original budget was revised as the company expected to increase the sales
volume by lowering the selling price.
The supplier of direct material agreed to offer a discount based on increased
purchase volumes.

The original budget, the revised budget and the actual results for the period were as
follows.
Original Revised Actual
budget budget results
Sales and production (units) 7 500 8 250 8 700
$ $ $
Sales revenue 712 500 763 125 780 825
Cost elements
Direct material 234 000 251 550 272 000
Direct labour 97 500 107 250 115 900
Production overheads 83 000 86 750 89 950
Administration overheads 80 500 87 250 89 450
Selling overheads 58 710 63 135 63 590
Total costs 553 710 595 935 630 890
The following budgeted information is also provided.
• Each unit requires 10 kg of direct material.
• A 25% quantity discount was received on purchases of direct material over
75 000 kg for the period.
• The direct labour cost per unit increased by 40% for each unit over 8 500 units for
the period.
• The production overhead is a semi-variable cost, which at the maximum capacity
of 9 000 units is $90 500
• Administration overheads include a variable element of $9 per unit.
• Selling overheads include a fixed element of $14 460 for the period.

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(a) Prepare the table showing the flexed budget for the actual output of 8 700 units,
and the relevant variances. You must state if the variance is favourable or adverse.
(Use the space below the table for your workings.)
(17)

Flexible budget Actual results Variance

Sales and production 8 700 units 8 700 units

$ $ $

Sales revenue

Direct material

Direct labour

Production overheads

Administration
overheads

Selling overheads

Total costs

(b) Explain the main difference between a fixed budget and a flexible budget. (2)

(c) Give two of the bases for flexing a budget. (2)

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 Chapter (14)
Standard Costing (Variances Analysis)
Question (1)
Messi Ltd operates a standard absorption costing system for its single product.
Budgeted data relating to the product for the period just ended was;

Standard Production cost $ per unit

Direct materials (3 kilos x $ 38.50 per killo) 115.50

Direct labour (2.5 hours x $ 19.20 per hour) 48.00
Fixed overheads (2.5 hours x $ 21.50 per hour) 53.75
Standard selling price $280 per unit
Ed cost un 217.25
Budgeted sale units 2500 units Bu/BSY
-
per
Actual results for the next period were as follows:
Production : 3,040 units -
PU
-
SuRevenue : 2,880 units sold for $ 781,200
I
Direct material (purchased and used): 9,630 kilos costing $360,485
Direct labour : 7,120 hours costing $ 149,520
C
Fixed overheads : $ 138,650
Required
(a) Calculate all variances as detail as possible.
(b) Preapre three reconciliation statement using the above variances in part (a).

Question (2)
Folan Ltd operates a standard absorption costing system for the single product it manufactures.
The standard selling price of this product is $132 per unit
production and sales of 6000 units are budgeted for period 10.
The total manufacturing cost standards set for period 10 are as follows.
$ per unit
Direct materials (2.5 kilos x $ 16.90 per killo) 42.25
Direct labour (1.25 hours x $ 18.80 per hour) 23.50
Fixed production overhead (1.25 direct labour hours x $ 13.40 per hour) 16.75
The fixed production overheads are absorbed on the basis of direct labour hours.
Actual results for Period 10 were as follows:
Production 6,380units
Revenue (5,640 units) $810,750
Direct material, purchased and used (14,730 kilos) $279,870
Direct labour (8,535 hours) $153,630
Fixed production overhead $89,740
Opening and closing inventory of finishied goods are valued at the standard total manufacturing cost per unit for
period 10.
Required
(a) Calculate all variances as detail as possible.
(b) Prepare three reconciliation statement using the above variances in part (a).
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Question (3)

Oak Ltd manufactures a single product using a standard absorption costing [Link] budgeted information
for June 2017 was as follows:
Bud/stal deter
7
Budgeted output 12 000 units BOU
Direct 45 000 kg at $3.80 per kg
Direct labour 16 800 hours at $9.00 per hour
Fixed production overheads $6.25 per unit
The actual results were as follows:

Actual output
Direct materials
Direct labour
-

-
10 760 units Pu -

41 200 kg costing $150 380

15 600 hours costing $143 520
Fixed production overheads $78 150
I Aclud dat

Additional information
Oak Ltd was unable to obtain the usual grade of material because the supplier went out of business in June
2017. Oak Ltd was forced to buy materials from an alternative supplier.
(a) Explain the:
(i) term ideal standard (2)
(ii) possible implications of using ideal standards when calculating variances.(2)
(b) Calculate the following variances for June 2017:
(i) material price (2)

(ii) material usage (2)

(iii) labour rate (2)

(iv) labour efficiency (2)

(v) fixed production overhead expenditure (2)

(vi) fixed production overhead volume. (2)

(c) Suggest one possible reason for each of thefollowingvariances, as calculated in (b):

(i) material price (1)

(ii) labour efficiency .(1)

=
(Total for Question 4= 18 marks)

July/2017

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Question (4) ( September 2019 )

Oberon Ltd had the following information relating to the production of the CX22 for
August 2019.

Budget Actual

Production 63 000 units 72 000 units

Materials 50 400 kg $438 480 54 120 kg $500 610

Direct labour 22 050 hours $264 600 22 540 hours $272 734

Fixed overheads $340 200 $385 200

Total cost $1 043 280 $1 158 544

• Material and direct labour are variable costs.

• Overheads are absorbed using units of output.
(a) Explain the meaning of the term ideal standard.

(b) Explain one disadvantage of using an ideal standard.

(c) Calculate the following variances for August 2019.
(i) Material price.
(ii) Material usage.

(iii) Labour rate.

(iv) Labour efficiency.

(v) Fixed overhead expenditure.
(vi) Fixed overhead volume.

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 Question (5)
Sole Products produces a single product and uses a standard absorption costing system. The production
department budgets for the next period include the following:
Production output 800 units BOU
Direct labour per unit 4 hours @ $12 per hour
- -

Fixed overheads $25,600

Fixed production overheads are absorbed on the basis of standard direct labour hours.
The actual results for the period were as follows:
Production output 840 units APU
Direct labour 3,600 hours, at a total cost $ 41,400
(includes 400 hours idle time caused by machine breakdown)
Fixed overheads $ 24,400
Required
(a) Calculate for the period, the following production ratios:
(i) Efficiency
(ii) Capacity
(iii) Volume (activity)
(b) Calculate for the period, the following variances:
(i) Direct labour rate
(ii) Idle time
(iii) Direct labour efficiency

(c) Calculate for the period, the following overhead variances:

-

(i) Expenditure
(ii) Volume
(iii) Volume capacity
(iv) Volume efficiency.

Budget Sid DLhr L

Question (6) HIM unit-> Ih peran
↑
One of the products made by Trinculo Ltd is the TZ25. luni-1? Y90: 0.025h -

Management sets a production target for its 28 production-line staff of 40 units per
labour hour. Each worker is contracted to work 175 hours per month. per unil
-
-
4900 nu

During March 2019, 221 280 units of TZ25 were produced and a total of 4 760 labour
talud Aclud DL h
-
hours were worked. APU
hr per perica 4900
(c) Calculate, for March, the: Badgeleit
(i) standard hours for actual production Stax Chr x BP4
unit
-

(ii) production efficiency ratio -S/A per

(iii) production capacity ratio C A/B
=

0.025hr ??
-

(iv) production volume (activity) ratio.

-
y S/B
=

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Question (6)
A company had budgeted to produce and sell 3,000 units of its single product at a selling
price of $210 per unit in a period. Details of the standard cost per unit are as follows:

Direct material 3 kilos x $22.6 per killo $67.80

Direct labor 2.4 hours x $15.75 per hour $37.80
Fixed production overhead 2.4 hours x $17.25 per hour $41.40

The following is a reconciliation of the budgeted gross profit with the actual gross profit for
the period:

$
Budgeted gross profit 189,000
Sales and cost variances: Favourable Adverse
$ $
Sales price 17,504
Sales volume profit 16,695
Direct material price 11,253
Direct material usage 7,232
Direct labour rate 4,707
Direct labour efficiency 4,536
Fixed overhead expenditure
Fixed overhead volume
2,503 Fav
Actual gross profit

There were no stocks of raw materials, work-in-progresses or finished united.

Repuired

(a) Calculate the following actual figures for the period:

(i) production and sales units (2 marks)
(ii) selling price per unit (2 marks)
(iii) direct materials purchased (2 marks)
(iv) direct material cost per kilo (2 marks)
(v) direct labour hours worked (2 marks)
(vi) direct labour rate per hour (2 marks)
(vii) fixed production overhead (2 marks)

(b) Prepare a profit statement showing the actual sales, cost of sales and gross profit
for the period. (3 marks)

(c) Explain the meaning of the standard hour of production.

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Question (7)

Retro Ltd makes a single product, using only one material. Standard costing is in operation and
the input to material stock records is at standard price as a result of calculating the material price
variance at the time of purchase.

The following production cost variances have been calculated for last month during which
7,500 units were produced and sold. Closing stock of raw material at the end of the month
was 50% up on the opening level.

$ $
Direct material -Price 2,355 Fav 875 Adv
Direct Labour -Rate 2,450 Adv E 3,200 Fav
Variable overhead -Expenditure 1,960 Adv E 960 Fav
Fixed overhead -Expenditure 1,350 Fav E 1,600 Fav
capacity 11,600 Adv

Additional information for last month is:

Total cost of material purchased - $260,145
Actual quantity to material used - 60,250 kg
Closing stock of direct material - 44,250 kg
Actual hour worked - 74,200 hr
Actual costs - Direct labour - $299,250
- Vari
Variable
able overheads
- Fixed overheads - $158,650

Required

Prepare the detailed standard production cost of a unit of product made of Retro Ltd.

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