The Institute of Chartered Accountants of Nepal

Compilation of Suggested Answers

Cost Accounting

CAP II Examination

2010 -2015
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Cost Accounting
CAP II Examination

Table of Content

Chapter Head Page No

Chapter 1 Cost Concept and Costing Methods 3
Chapter 2 Material Control 7
Chapter 3 Labor Control 25
Chapter 4 Overhead Control 40
Chapter 5 Unit Costing 57
Chapter 6 Cost Account System and Cost Control 66
Chapter 7 Method Of Costing 74
Chapter 8 Cost Concept for Decision Making 124
Chapter 9 Costing and Inter Firm Comparision 178
Chapter 10 Control and Cost Reduction 181

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Chapter 1:

Cost Concepts and Costing Methods

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CAP II Examination

Question No 1
Distinguish between
a. Product costs and period costs (June 2010)(2.5 Marks)
Answer
Product costs are costs which can be identified with goods produced for resale. They vary with
production because these costs are directly affected by the production volume. If there is no
production, these costs will not be incurred. Raw materials and direct labour costs are the
examples of product costs.
Period costs are costs which are matched against the revenue of the current period. These costs
vary with the passage of time and not with the volume of production. Therefore, even if there is
no production, these costs have to be incurred. Rent, insurance, salary etc are the examples of
period costs.

b. Controllable Cost and Uncontrollable Cost (December 2012) (December, 2014)(2.5

Marks)
Answer
Controllable cost and uncontrollable cost
Controllable cost Uncontrollable cost

i. Controllable cost are the costs which can be i. Uncontrollable cost are the costs which can not
influenced by action be influenced by action
ii.
ii. Controllable cost are influenced by specifiediii. Uncontrollable cost are not influenced by
member of an undertaking specified member of an undertaking
iii. iv.
iv. Can be influenced by the action of executive v. Can not be influenced by the action of
of each responsibility centers executive of each responsibility but could
avoid with initial decision
v. vi.
Can be minimized for cost control purpose vii. Can not be minimized for cost control purpose
vi. viii.
vii. Generally variable cost and semi variable costix. Generally Fixed cost are in the nature of
are in the nature of controllable cost uncontrollable cost

c. Running Charges and Maintenance Charges (December 2012)(2.5 Marks)

Answer
Running charges and maintenance charges both are the parts of total costs in operating costing.
These are used to prepare a cost statement in an industry where services are rendered and goods
are not produced.

Running charges are variable costs relating to rendering of services, where as maintenance
charges are generally in the nature of semi-variable or semi-fixed costs. The items to be included
in running charges and maintenance charges depend on the nature of the operation. For example,
cost of fuel in transport sector, cost of food items in restaurant are running charges; besides the
cost of repairs and spares in transport sector and the cost of lighting, consumable stores etc. in
hotels are maintenance charges. To find out per unit cost of services rendered, the costs are
required to be segregated into variable and fixed costs. Therefore, the maintenance charges
require to be segregated into variable and fixed costs
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Question No 2:
Write short note on
a. Functions of management accounting system (June 2011)(2.5 Marks)
Answer
Management accounting systems provide information to assist managers in their planning and
control activities. Management accounting activities include collecting, classifying, processing,
analyzing, and reporting information to managers. It is so designed that its information help
decision making within the firm. Its scope include information on sales backlogs, unit quantities,
prices, demands on capacity resources, and extensive performance measures based on physical or
non-financial measures. The challenge is to develop management accounting practices that
support the basic managerial tasks of organizing, planning, and controlling operations to achieve
excellence throughout the organization.

b. Value Analysis (December 2013) (July, 2015) (2.5 Marks)

Answer
Value analysis is a technique applied to analyze all aspect of an existing product or component
to determine in minimum cost necessary for specific function requirement. It is also known as
value engineering. This may result in various alterations being made to the product with object
of reducing costs. Value analysis looks at the function that the product fulfils and inquiries into
the possibility of performing the same function more cheaply, even though this may mean
completely redesigning the product or developing an entirely different items. Value analysis a
multi-disciplinary method of enhancing product value by improving the relationship of worth to
cost through the study of function.The primary advantage of value analysis is reduction in
product cost. It improves sale and customer satisfaction as it determines the exact requirements
of customer and product designing is done accordingly. Steps involved in value analysis are:
 Collecting relevant information
 Deciding alternatives
 Approval of the accepted alternative
 Execution
 Follow-up

c. Replacement price method (July, 2015)(2.5 Marks)

Answer
Replacement price method is defined as "the price at which it is possible to purchase an item,
identical to that which is being replaced/revalued'. It is also referred to as market price method.
Under this method, materials issued are valued at the replacement cost of the items. This
method pre-supposes that determination of the replacement cost of material at the time of each
issue, i.e. the cost at which identical materials could be currently purchased. The product cost
under this method is at current price, which is the main objective of the replacement price
method. This method is based on view that cost should reflect current market conditions. When
this method is used, profit is made during rising prices and loss is incurred during falling prices.

d. Period costs (July, 2015)(2.5 Marks)

Answer
The costs which are not associated with production are called period costs. They are treated as
an expense of the period in which they are incurred. They may be fixed or variable. They are
charged against the revenue of the relevant period. Differences between opinions exist whether
certain costs should be considered as product or period costs. There is an opinion that variable
manufacturing costs are product costs whereas fixed manufacturing and other costs are period
costs as they are closely related to the passage of time than to manufacturing of product.
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e. Sunk costs (December, 2015)(2.5 Marks)

Answer
These costs are the costs of resources already acquired which will be unaffected by choices
between various alternatives. These are historical costs, which are incurred in the past and not
relevant to the particular decision making problem, being considered. While considering the
replacement of plant, the depreciated book value of the old asset is irrelevant as the amount is
a sunk cost, which is to be written off at the time of replacement. Another example of Sunk
cost is that of development cost already incurred..

Question No 3
Discuss the treatment of research and development expenditures in cost accounting.
(December, 2014)(2.5 Marks)
Answer
If research is conducted in the methods of production, the expenses should be charged to
production overhead. If the research relates to administration, the expenses arecharged to
administration overheads. If it is related to market research, the expenses are charged to S & D
overheads. Development costs incurred in connection with a particular product should be
charged directly to that product. Such expenses are usually treated as deferred revenue
expenditure and recovered as cost per unit of the product when production is fully established.
Routine nature research expenses are charged to general overheads.

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Chapter 2:

Material Control

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Question No 1:
Write short note on
a. Treatment of spoilage and defectives (June 2010)(2.5 Marks)
Answer
Spoilage occurs when materials are so damaged in manufacturing operations that they are taken
out of the process and disposed off without further work.
Normal spoilage is included in cost either by charging the loss to the production order or
charging it to production overhead. The cost of abnormal spoilage is charged to costing profit
and loss account.
Defectives represent unit of output which fail to comply with a set quality standard. These can be
subsequently rectified, sold as 'seconds' or disposed off as scrap.
Normal defectives can be recovered; charged to good production: charged to general overhead;
or charged to department. If defectives are abnormal and are due to causes beyond the control of
organization, they should be charged to profit and loss account.

b. Pareto Inventory Analysis (June 2012)(2.5 Marks)

Answer
Unit cost commonly affects the degree of control that should be maintained over an inventory
item. As unit cost increases, internal controls (such as inventory access) are typically tightened
and perpetual inventory system is more often used. Recognition of cost-benefit relationships
may result in a Pareto Inventory Analysis, which separates inventory into three groups based on
annual cost-to-volume usage.
Items having the highest value are referred to as A items; C items represent the lowest value;
and all other items are categorized as B items. Once this categorization is done, management
can determine the best inventory control method for items in each category.

c. Explain Economic Ordering Quantity. (December 2012)(4 Marks)

Answer
a) Economic Order Quantity (EOQ): Purchase department in manufacturing concerns is usually
faced with the problem of deciding the „quantity of various items‟ which they should purchase.
If purchases of material are made in bulk then inventory carrying cost will be high. On the other
hand if order size is small each time, then the ordering cost will be high. In order to minimise
ordering and carrying costs it is necessary to determine the order quantity which minimises these
two costs. The size of the order for which both ordering and carrying cost are minimum is
known as economic order quantity.

Calculation of EOQ made as follows:

EOQ = √2AO/C
Where;
A= Annual requirement
O= Ordering cost per order
C= Carrying cost per unit per annum

At EOQ level total cost of material including ordering and holding cost will be minimal.

d. Continuous stock taking is complementary to the perpetual inventory system

(December, 2015)(2.5 Marks)
Answer

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Under Perpetual Inventory system, a continuous record of receipt and issue of material is
maintained by the stores department. In other words, in this system, stock control cards or bin
cards and the stores ledger show clearly the receipts, issues and balance of all items in stock at
all times. This system facilitates planning of production and ensures that production is not
interrupted for want of materials and stores.
Continuous Stock taking means physical verification of stores items on a continuous basis to
reveal the position of actual balances. Such a verification is conducted round the year, thus
covering each item of store twice or thrice. Any discrepancies, irregularities or shortages
brought to the notice, as a result of continuous stock verification are reported to the
appropriate authorities for initiating necessary rectification measures. This system works as a
moral check as stores staff and acts as a deterrent to dishonesty.
A perpetual inventory system is usually supported by a programme of continuous stock taking.
That is continuous stock taking is complementary to the perpetual inventory system.
Sometimes the two terms are considered synonymous but it is not so. The success of the
perpetual inventory system depends upon the maintenance and upto date writing up of (i) the
stores ledger and (ii) bincards/stock control cards, Continuous stock taking, ensures the
veracity of figures shown by the above records.

Question No 2:
Distinguish between
a. Waste and Scrap. (June 2011)(2.5 Marks)
Answer
Waste represents the portion of basic raw materials lost in production process having no
recoverable value. Waste may be visible – remnants of basic raw materials or invisible e.g.
disappearance of basic raw materials through evaporation, smoke etc. Shrinkage of material due
to natural causes may also be a form of a material wastage. In the production process, waste of
material does occur, such waste has no recoverable scheme, hence there is no chance of recovery
from it.

Scrap is the incidental material residue coming out of certain types of manufacturing processes,
usually of small amount and low value, recoverable without further processing. Scrap is visible
and do have recoverable value. Material defective goods may be sold as scrap.

b. Bin cards and Store ledger (June 2012)(2.5 Marks)

Answer
Bin cards Store ledger
Bin Cards maintained by Store Keeper Store ledger is maintained by cost accounting
department
It is the store recording documents It is an accounting record
It contains information as records to quantities; It contains both quantitative and value
receipt, issue and balance information of receipt, issue and balance
Entries in bin cards are made when transaction Entries are made only after the transaction has
take place; i.e. entities made and movement of taken place
goods are made.
Bin Card records each transaction Store ledger records the same information in a
summarized form
Inter Departmental transfer of materials does Inter Departmental transfer of materials appear
not appear here.

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c. Bill of material and Material requisition note (December, 2014)(2.5 Marks)

Answer

Bill of material Material requisition note

It is a comprehensive list of materials with exact It is a formal written demand or request,
description and specifications, required for a job or usually from the production department to
other production units. This also provides store for the supply of specified materials,
information about required quantities so that if stores etc. It authorises the storekeeper to
there is any deviation from the standards, it can issue the requisitioned materials and
easily be detected. It is prepared by the Engineering record the same on bin card.
or Planning Department in a standard form.
The purpose of bill of material is to act as a single The purpose of material requisition note is
authorisation for the issue of all materials and to draw material from the store by
stores items mentioned in it. It provides an advance concerned departments.
intimation to store department about the
requirements of materials. It reduces paper work. It
serves as a work order to the production department
and a document for computing the cost of material
for a particular job or work order to the cost
department.

Question No 3:
Jagger Products Ltd. manufactures toy dolls in a moulding process. The management accountant
has been taken ill and you have been requested to assist in identifying the usual monthly
adjustments to measure output and cost of output.
Opening work-in-progress amounted to 8000 dolls, with costs attached of materials Rs. 398,400
and labour/conversion of Rs. 384,000. Materials are added at the beginning of the moulding
process. Opening work-in-progress is 50% complete in terms of labour/conversion costs.

During the month, a further 40000 dolls have been input to the process, incurring material costs
of Rs. 2,400,000 and labour/conversion costs of Rs. 3,993,600. Completed dolls totaled 42000 in
the month, leaving 6000 in work-in-progress, 60% complete in terms of labour/conversion costs.
The company operates a FIFO approach to accounting for stock movements.
You are required to compute/prepare:
i) Equivalent unit statement and cost per equivalent unit;
ii) Costs attached to closing work-in-progress;
iii) Costs attached to units started and completed;
iv) Costs attached to completion of opening work-in-progress.

(June 2010)(10 Marks)

Answer

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Equivalent unit statement

Particulars Materials Labour/ Remarks
Conversion
Units Units
Opening work-in-progress 0 4000 (8000 units 50% complete in
terms of labour/ conversion)
Units started and completed 34000 34000 (40000 units less closing WIP of
6000 units on FIFO basis)
Closing work-in-progress 6000 3600 (6000 units 60% complete in
terms of labour/ conversion)
Equivalent units 40000 41600
Rs. Rs. Total (Rs.)
Costs to be accounted for 2,400,000 3,993,600 6,393,600
incurred in the month
Costs per equivalent unit 60 96 156

(ii)
Costs attached to closing work-in-progress
Particulars of costs Equivalent Rate per Total costs (Rs.)
Unit Unit (Rs.)
Materials 6000 60 360,000
Labour/ conversion 3600 96 345,600
Total 705,600

(iii)
Costs attached to unit started and completed
Particulars of costs Equivalent Rate per Total costs (Rs.)
Unit Unit (Rs.)
Total costs 34000 156 5,304,000

(iv)
Costs attached to completion of opening work-in-progress
Particulars of costs Equivalent Rate per Total costs (Rs.)
Unit Unit (Rs.)
Materials (already complete) 0
Labour/ conversion 4000 96 384,000
Total 384,000
Note:
In completing opening work-in-progress, costs incurred last month and brought forward
(Materials Rs.398,400 and Labour/ conversion Rs.384,000) will also be transferred to finished
goods.

Question No 4:
SV Limited which has established its product K furnishes the following forecast of sales in units
for 2009.

I Quarter II Quarter III Quarter IV Quarter

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Units 12,000 15,000 13,500 9,000

The opening stock on 1.1.2009 is expected to be 10,000 units and the company proposes to
maintain a closing stock of 4,500 units on 31.12.2009. The rejection in the process of
manufacture of product K is 12% and the production will be spread out uniformly throughout the
year.

Two raw materials C and D are used for the manufacture of product K. At present the company
orders inventory of the two raw materials in quantities equivalent to 13 weeks‟ consumption. The
management of the company has been advised that considerable economies in provisioning of
raw materials can be effected by changing over to the ordering system based on economic order
quantities. The Materials Manager has complied the following data:

C D
Raw material quantity required per unit of output of K (kg) 2.4 4.2
Raw material usage rate/week (kg) 2,300 4,000
Price per kg (Rs.) 2.00 4.00
Lead time to obtain deliveries (weeks) 5 3
Order costs per order (Rs.) 10.00 10.00
Carrying Costs 20% 25%

You are required to:

i) Prepare a Production and Raw Material Requirement Budget for the year 2009.
ii) Calculate the Economic Order Quantity for raw materials C & D using Tabular Method
assuming order sizes of 1,200, 1,800, 2,400 and 3,000.
iii) The company feels that a safety stock should be built up to cover a lead time of 8 weeks
and 5 weeks respectively for C and D and increase in the usage of raw materials up to
3,000 kg and 5,000 kg respectively for C and D per week. Calculate the ordering level to
meet the above requirement.
iv) Based on the ordering level calculate at (iii) above, find the saving arising from switching
over to the new ordering system. (June 2010)(15 Marks)
Answer
Annual Production budget (quantitative)
Units
Total annual sales (12,000 +15,000 + 13,000 + 9,000) 49,500
Add: desired closing Stock 4,500
54,000
Less: Expected Opening Stock 10,000
Production of good units 44,000
Rejection 12%
Units to be produced 44,000 x (100/88) 50,000

(b) Material Budget (Quantitative)

C D
Quantity per unit 2.4 kg 4.2 kg
Material requirement per annum (kg) 120,000 210,000

ii) Computation of Economic Order Quantity (EOQ)

EOQ for C
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Lot Size No of Average Ordering Inventory Total

Orders Inventory Costs Carrying Costs
Rs. Cost Rs.
Rs.
1,200 100 600 1,000 240 1,240
1,800 67 900 670 360 1,030
2,400 50
1,200 500 480 980
3,000 40
1,500 400 600 1,000
EOQ for D
1,200 175 600 1,750 600 2,350
1,800 117 900 1,170 900 2,070
2,400 88 1,200 880 1,200 2,080
3,000 70 1,500 700 1,500 2,200
Thus, EOQ for Material C is 2,400 units while for Material D it is 1,800 units.

iii) Computation of Revised Ordering Level

C D
Kg kg
Normal Ordering Level = Lead Time x Inventory Usage (2,300 x 5) (4,000 x 3)
= 11,500 = 12,000
Usage over increased lead time
C : 2,300 x 3 6,900
D : 4,000 x 2 8,000
Usage increase per week
C : (3,000 – 2,300) x 8 5,600
D : (5,000 – 4,000) x 5 5,000
Revised ordering level 24,000 25,000

iv) Computation of Savings due to change in system

Rs. Rs.
(a) Present : No. of orders p.a. 4 4
Average Inventory (once in 13 weeks) (120,000/4 x ½) (210,000/4 x ½)
= 15,000 = 26,250
Ordering cost 40 40
Carrying cost (15,000 x 2 x 20%) (26,250 x 4 x 25%)
= 6,000 = 26,250
Total cost 6,040 26,290
(b) Proposed : Total cost (See (ii) above) 980 2,070
(c) Saving : (a) – (b) 5,060 24,220

Question No 5:
What is maximum and minimum stock level? Explain how these are calculated.
(December 2010)(6 Marks)
Answer
Maximum level of stock indicates the maximum quantity of an item of material which should be
held in stock at any time. The stock in hand is regulated in such a way that normally, it does not
exceed this level.
While fixing the maximum level, following factors needs to be considered:
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i) Maximum requirement of the material for production purpose,

ii) Rate of consumption and time lag between the date of order and receipt of material (lead
time),
iii) Nature and properties of the material, e.g. this level is kept low for materials which are
liable to quick deterioration.
iv) Cost of storage and insurance,
v) Economy in prices: Maximum levels for items which are available at discount in bulk
purchase are generally high.
vi) Financial considerations: Available of funds and price of the items.
Minimum level of stock indicates the lowest quantity of an item of material which must be
maintained in hand at all times so that there is no stoppage of production due to the
unavailability of material.
While fixing the minimum level, following factors are considered:
i) Nature of the item: No minimum level is necessary for special materials purchased against
the specific orders of a customer.
ii) Rate of consumption of the material.
iii) Lead time.
Calculation of Maximum and Minimum Stock Level:
Maximum and minimum level is calculated in the following manner:
Maximum Level = Reorder level + Reordering Quantity – Minimum consumption during the
period required to obtain delivery
Minimum Level = Reorder level – (Normal usage per period x Average Delivery Time)

Question No 6:
X Ltd. is reviewing its stock policy, and has the following alternatives available for the
evaluation of stock:
i) Purchase stock twice in a month, 400 units.
ii) Purchase monthly, 800 units
iii) Purchase every three months, 2,400 units
iv) Purchase every six month, 4,800 units
v) Purchase annually, 9,600 units
It is ascertained that the purchase price per unit is Rs. 40 for deliveries up to 2,000 units. A 5%
discount is offered by the supplier on the whole order where deliveries are 2,001 to 4,000 units
and 10% reduction on the total order for deliveries in excess of 4,000 units. Each purchase order
incurs administration costs of Rs. 250. Interest on capital and other storage costs are Rs. 12.50
per unit of average stock quantity held.
Calculate the optimum order size. (June 2011)(4 Marks)
Answer
The purchase cost is not constant per unit. It is therefore, not possible to use the EOQ formula.
For optimum order size statement of cost is prepared as follows:
Annual Purchase Cost Storage Admin Total
Order size No. of Order
Rs. Rate/unit Cost (Rs) Cost (Rs) Cost (Rs)
9,600 1 345,600 36 60,000 250 405,850
4,800 2 345,600 36 30,000 500 376,100
2,400 4 364,800 38 15,000 1,000 380,800
800 12 384,000 40 5,000 3,000 392,000
400 24 384,000 40 2,500 6,000 392,500
The optimum order size is 4,800 units which cost Rs. 376,100 in total.

Working Notes:
(i) Order size up to 2,000 units, Purchase price is Rs. 40
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Order size 2,001 – 4,000 units, Purchase price is Rs. 40 – 5% Discount = Rs. 38.
Order size greater than 4,000 units, Purchase price is Rs. 40 – 10% Discount = Rs. 36.
(ii) Storage cost: Rs. 12.50 per unit of average stock
For order size 400 units, Average stock 200 units × Rs. 12.50 = Rs. 2,500 and so on.

Question No 7:
During Poush 2067, a company purchased 1,200 kg. of raw materials. The following particulars
relate to the purchase:

i) Lot prices quoted by supplier and accepted by the company for placing
the purchase order:
(a) Lot up to 1000 kg. @ Rs.22/ kg.
(b) Between 1000 – 1500 kg. @ Rs.20/ kg.
(c) Between 1500 – 2000 kg. @ Rs.18/ kg.

ii) Trade discount 20%.

iii) VAT at 13% extra; credit is to be taken.
iv) Freight paid Rs. 240.
v) Insurance paid at 2.5% on Invoice Value.
vi) Stores overhead applied at 5% on total purchase cost of material.
The entire quantity was received and issued to production.
Required:
Prepare a statement showing total cost of material purchased and unit cost of material issued to
production. (December 2011)(5 Marks)
Answer

Statement of total and per unit cost of materials

Particulars Total Amount Per unit Amount
(Rs.) (Rs.)
Raw material 1200 kg @ Rs.20/ kg 24,000.00 20.0
Less: Trade discount @ 20% 4,800.00 4.0
19,200.00 16.0
Add: VAT @13% 2,496.00 2.0
Invoice Value 21,696.00 18.0
Freight paid 240.00 0.2
Insurance @2.5% on Rs.21,696.00 542.40 0.4
22,478.40 18.7
Add: Stores overhead @5% 1,123.92 0.9
Less: VAT credit 2,496.00 2.0
` 21,106.32 17.5

Question No 8:
A company prepared the following budgeted income statement for next financial year:

Particulars Amount Amount

(Rs.) (Rs.)
Sales (52,000 units @ Rs.850 each) 44,200,000
Cost of goods sold:
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Opening stock (2,000 units @ Rs.650 each) 1,300,000

Purchases (52,000 units @ Rs.700 each) 36,400,000
Closing stock (2,000 units @ Rs.700 each) (1,400,000) 36,300,000
Gross profit 7,900,000
Expenditures:
Purchasing cost- variable (@Rs.30,000 per order) 240,000
Purchasing cost- fixed 840,000
Transportation cost (@Rs.55,000 per order) 440,000
(charged by the supplier of goods)
Stock insurance cost (5,500 units @ Rs.40 each) 220,000
(based on average stockholding)
Fixed warehouse costs 2,300,000 4,040,000
Net profit before tax 3,860,000

At present, sales occur evenly throughout the year and a buffer stock of 2,000 units is
maintained. Recently, the company has contracted with supplier to buy 52,000 units of goods,
the payment of which shall be made in equal monthly installment throughout the year
irrespective of the order size. As per the contract, transportation costs are to be paid at the
beginning of the year.
The supplier has offered Rs.10,000 discount in transportation cost per order if the company
increase the order size from 6,500 units to a minimum of 10,000 units per order.
The cost of capital of the company is 20% per annum.
Required:
i. Assuming that the buffer stock level of 2,000 units is maintained; calculate the optimal
order size for the company.
ii. Show the improvement in net profit before tax with the implementation of the optimal
order size. (June 2012)(12 Marks)
Answer
i) Calculation of Optimal Order Size
To calculate optimal order size, we have to find out EOQ
EOQ =√(2 x A x O/ C)
Where,
EOQ= Economic Order Quantity
A = Annual Usage
O = Ordering Cost
C = Carrying Cost

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Now,
EOQ = √ (2 x 52,000 x 85,000 / 40) = 14,866 units

At this EOQ level, the company will be eligible to get concession of Rs.10,000 on
transportation cost from supplier. Therefore, the ordering cost should be taken as
Rs. 75,000 for calculating EOQ. Hence, new EOQ is

EOQ = √ (2 x 52,000 x 75,000 / 40) = 13,964 units

The buffer stock level of 2,000 units are covered in above 13,964 units of order size,
therefore, the optimal order size for the company is 13,964 units per order.

ii)

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Statement showing improvement in net profit before tax

with implementation of optimal order size
Particulars Amount (Rs.) Amount (Rs.)
Sales (52,000 units @ Rs.850 each) 44,200,000
Less Cost of goods sold:
Opening stock (2,000 units @ Rs.650 each) 1,300,000
Purchases (52,000 units @ Rs.700 each) 36,400,000
Closing stock (2,000 units @ Rs.700 each) (1,400,000) 36,300,000
Gross profit 7,900,000
Less Expenditures:
Purchasing cost- variable (WN 1) 120,000
Purchasing cost- fixed 840,000
Transportation cost (WN 2) 180,000
Stock insurance cost (WN 3) 359,280
Fixed warehouse costs 2,300,000 3,799,280
Revised net profit before tax 4,100,720
Original net profit before tax 3,860,000
Improvement in net profit before tax 240,720

WN 1) Calculation of variable purchasing cost

Annual requirement (units) 52,000
Order size (units) 13,964
No. of orders (Annual requirement/ order size) 4
Variable purchasing cost per order (Rs.) 30,000
Total variable purchasing cost (Rs.) 120,000

WN 2) Calculation of transportation cost

No. of orders 4
Transportation cost per order (Rs.) 45,000
Total transportation cost (Rs.) 180,000

WN 3) Calculation of stock insurance cost

Buffer stock level (units) 2,000
Average stock (13964/2) (units) 6,982
Total average stockholding 8,982
Insurance cost per unit (Rs.) 40
Total stock insurance cost (Rs.) 359,280

Question No 9:
Discuss ABC analysis as a technique of inventory control. (December 2012)(2.5 Marks)
Answer
It is a system of inventory control. It exercises discriminating control over different items of
stores classified on the basis of investment involved. Usually they are divided into three
categories according to their importance, namely, their value and frequency of replenishment
during a period.

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„A‟ category of items consists of only a small percentage i.e. about 10% of total items handles
by the stores but require heavy investment about 70% of inventory value, because of their high
price or heavy requirement or both.
„B‟ category of items are relatively less important – 20% of the total items of material handled
by stores and % of investment required is about 20% of total investment in inventories.
„C‟ category – 70% of total items handled and 10% of value.

For „A‟ category items, stocks levels and EOQ are used and effective monitoring is done.
For „B‟ category same tools as in „A‟ category are applied.
For „C‟ category of items, there is no need of exercising constant control. Orders for items in
this group may be placed after 6 months or once in a year, after ascertaining consumption
requirement.

Question No 10:
What is the Advantages of ABC analysis (June 2013)(2.5 Marks)
Answer
Followings are the advantages of ABC analysis system:
(i) It ensures that, without there being any danger of interruption of production for want of
materials or stores, minimum investment will be made in inventories of stocks of materials
or stocks to be carried.
(ii) The cost of placing orders, receiving goods and maintaining stocks is minimized especially
if the system is coupled with the determination of proper economic order quantities.
(iii)Management time is saved since attention need be paid only to some of the items rather than
all the items as would be the case if the ABC system was not in operation.
(iv) With the introduction of the ABC system much of the work connected with purchases can
be systematized on a routine basis to be handled by subordinate staff.

Question No 11:
Sambriddhi Coffee Ltd. is the supplier of high quality coffee with gift packaging for export.
Company is newly establishes and very conscious about the cost control. To be competitive in
the market; company maintain definite level of stock as well. The following are the details of
their operating during 2012:

Average monthly market demand for coffee 2,500 Packet

Ordering cost Rs. 100 per order
Inventory carrying cost 20% per annum
Cost of high quality material Rs. 500 per Kg.
Normal usage of material 100 Kg. per week
Minimum usage 50 Kg. per week
Maximum usage 300 Kg. per week
Lead time 4-6 weeks
Using the above data and information compute:
i) Economic Order Quantity
ii) Reorder Level
iii) Maximum Level of Stock
iv) Minimum Level of Stock
v) If the supplier is willing to supply quarterly 1,500 Kg. in one lot at a discount of 5%, is it
worth accepting? (December 2013)(6 Marks)
Answer
Computing EOQ
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Let A= annual usage = Normal usage per week ×52 Weeks

= 100×52
=5,200 Kg
O = ordering cost per order =Rs. 100
Cost per unit =Rs. 500/Kg
C= stock holding rate p.a. = 20% p.a.
Q=Re-order quantity
# CS= Carrying cost per unit p.a. = 500×20% = Rs 100

EOQ=√2AO/C
=√2×5,200×100/100
=102 units

i. Reorder Level = Max. Usage × Maximum Lead Time

=300 Kg/week × 6 weeks
= 1,800 Kg

ii. Maximum Level = Reorder Level + Reorder Qty - (Minimum Usage × Minimum Lead
Time)
= 1,800 +102 ( W.N.1) - (50 Kg per week × 4 weeks)
=1,702 Kg

iii. Minimum level = Reorder Level – (Avg or Normal Usage × Average Lead Time)
=1,800 – ((100 × (4+6/2))
= 1,300 Kg

iv. Evaluation of price discount offer:

The price discount offer can be decided upon only after comparing the total annual
inventory cost at EOQ & total annual inventory cost at 1500 units of order size.

Total annual inventory cost = Total Purchase Cost + Total Ordering Cost + Total
Carrying cost of Average Inventory.
= (A×C) + (A\Q×O) + 1\2×Q×CS
At Q= 102 units (i.e. EOQ) = (5,200 ×500) + (5200\102×100) + (1\2×102×100)
= 26, 00,000 + 5098+5100
= Rs 26,10,198 (approx.)

At Q= 1500 units = (5,200 × (500-5%)) + (5,200\1500×100) + (1\2×1500 × (500-

5%×20%))
=24,70,000 + 347 + 71250
= Rs 25,41,597 (approx.)

If the re-order quantity is fixed at 1500 Kg, the total annual inventory cost will be lower. So the
discount offer should be accepted.

Assumption:
Since, there is no specification about re order quantity, it has been assumed to be equal to EOQ
units i.e. 102 Kg/order.

Question No 12:

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Write short note on

What is the Advantages of Bin Cards (December 2013)(2.5 Marks)
Answer
i. There would be fewer chances of mistakes being made as entries will be made at
the same time as goods are received or issued by the person actually handling the
materials.
ii. Control over stock can be more effective, in as much as comparison of the actual
quantity in hand at any time with the book balance is possible.
iii. Identification of the different items of materials is facilitated by reference to the
Bin Card the bin or storage receptacle.

Question No 13:
Explain Economic Ordering Quantity. What are the implications of Economic Order Quantity in
proper inventory management? (June, 2014)(5 Marks)
Answer
Economic Order Quantity (EOQ): Purchase department in manufacturing concerns is usually
faced with the problem of deciding the „quantity of various items‟ which they should purchase.
If purchases of material are made in bulk then inventory carrying cost will be high. On the other
hand, if order size is small each time, then the ordering cost will be high. In order to minimize
ordering and carrying costs it is necessary to determine the order quantity, which minimizes
these two costs. The size of the order for which both ordering and carrying costs are minimum
is known as economic order quantity.
The prime objective of inventory management is to find out and maintain optimum level of
investment in inventory to minimize the total costs associated with it. Economic Order Quantity
is the size of the order for which both ordering and carrying costs are minimum. Economic
Order Quantity forms the very basis of inventory management. It refers to the size of each
purchase order quantity for each item, which gives the maximum economy in purchase of that
raw material or finished goods or stores materials.
While placing any order for purchase of any item, it must be ensured that the order quantity is
neither too large nor too small. A large order, no doubt, shall also mean the lower ordering cost
but it shall mean a higher and sometimes prohibitive carrying costs. On the other hand, a small
order may reduce the inventory carrying cost but the ordering costs would increase as the
company may have to place a new order every now and then, besides, it may result in
occasional production halts also.
Therefore, a proper balance has to be struck between these two factors and the Economic Order
Quantity shall be fixed at a point, where the aggregate cost of the two is minimum i.e., the total
cost associated with the inventory management is minimum.

Question No 14:
What do you mean by perpetual inventory system? State its advantages.
(June, 2014)(2.5 Marks)
Answer
Perpetual Inventory System means continuous stock taking. CIMA defines Perpetual Inventory
System as „the recording as they occur of receipts, issues and resulting balances of individual
items of stock in either quantity or quantity and value‟.
Under this system, a continuous record of receipt and issue of materials is maintained by the
stores department & the information about the stock of materials is always available. Entries in
the bin card and stores ledger are made after every receipt and issue and the balance is
reconciled on regular basis with the physical stock.

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The main advantages are:

i) Physical stock can be counted and book balances adjusted as and when desired without
waiting for the entire stock taking to be done.
ii) Quick compilation of profit and loss account (for interim period) due to prompt availability
of stock figures.
iii) Discrepancies are easily located and thus corrective action can be promptly taken to avoid
the recurrence.
iv) A systematic review of perpetual inventory reveals the existence of surplus, dormant,
obsolete and slow-moving materials, so that remedial measures may be taken in time.
v) Fixation of various stock level and checking of actual balances in hand with these levels
assist the storekeeper in maintaining stocks within limits and in initiating purchase
requisitions for correct quantity at proper time.

Question No 15:
MTC Limited uses chemical X in one of its finished products. The chemical-X is purchased
from a vendor outside Nepal. MTC Limited purchases 36,000 Ltr. of chemical X per year at the
rate of Rs. 900 per Ltr plus import duty @10% on such purchases.
The chemical X is used evenly throughout the year in the production process on a 360 day per
year basis. The Company incurs Rs. 1,75,000 on one year agreement for material supply with
the vendor and it estimates that Rs. 35,000 will be incurred to place a single purchase order. The
chemical X is needed to be kept in a very carefully controlled temperature and humidity
conditions. MTC Ltd. Incurs 1.5% and 0.2676% of the value of inventory as storage cost and as
insurance cost respectively.
Delivery from the vendor generally takes 12 days, but it can take as much as 16 days. The days
of delivery time and percentage of their occurrence are shown in the following tabulation:

Delivery time (days) : 12 13 14 15 16

Percentage of occurrence : 70 10 10 5 5
Required:
i) Compute the economic order quantity (EOQ).
ii) Assume the company is willing to assume a 10% risk of being out of stock. What would be
the safety stock? The re-order point?
iii) Assume 5% stock-out risk. What would be the total cost of ordering and carrying inventory
for one year? (December, 2014)(10 Marks)
Answer
(i) Economic Order Quantity (E.O.Q)
= √2AO = √2x36,000 Ltrs. xRs 35000 = 12,000 litres
C Rs 17.50
(ii) Safety Stock at 10% risk of being out of stock
Safety Stock required for two days i.e. for 13th and 14th day

Safety stock = 36,000ltr x 2days = 200 litres

360 days
Re-order Point = Minimum Stock level + Average lead time x Average consumption
= 200+12 x 100
= 1400 litres
(iii) At 5% risk of being out stock, safety stock will be safety stock for three days
100 ltr x 3 days =300 ltr.

Total Ordering Cost =36,000ltr x Rs 35,000 = Rs 1,05,000

12,000ltr
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Total Carrying cost of inventory = (Safety Stock + Average inventory) Carrying Cost
per litre per annum
= (300 + 1/2 x 12,000 ltr.) Rs 17.50
= Rs 1,10,250
Total cost of ordering & carrying inventory = 1,05,000 + 1,10,250 = Rs 2,15,250

Working Notes
Risk of being out of stock

Delivery Time Percentage of Cumulative percentage Risk of non Occurrence

Occurrence (%) of Occurrence (%) (%)

12 days 70 70 30

13 days 10 80 20

14 days 10 90 10

15 days 5 95 5

16 days 5 100 0

2 Ordering Cost per order (O)- Rs 35,000

Cost per litre of chemical-X
Rate per litre Rs 900
Add: Import duty @10% Rs 90
Rs 990
Carrying cost per litre per annum of chemical-X (C)
1.7676% (1.5%+0.2676%) of Rs 990= Rs17.50
(Note: Amount of Rs. 175,000 incurred on making agreement for material supply will be
apportioned over the entire quantity of 36,000 ltr and included with cost of chemical X.
However for the purpose of calculating carrying cost i.e storage cost and insurance cost only
invoice cost of material is taken. Invoice cost consist of cost per litre of chemical X plus import
duty.)

Question No 16:
Discuss the accounting treatment for spoilage and defectives in cost-accounts
(December, 2014)(2.5 Marks)
Answer
Normal spoilage (i.e. which is inherent in the operation) costs are included in cost either by
charging the loss due to spoilage to the production order or by charging it to production
overhead so that it is spread over all the products. Any value realized from the sale of spoilage is
credited to production order or production overhead account, as the case may be. The cost of
abnormal spoilage are charged to Costing Profit & Loss Account.
Defectives that are considered inherent in the process and are identified as normal can be
recovered by using any one of the following method.
 Charged to good products
 Charged to general overheads
 Charged to departmental overheads.
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If defectives are abnormal, they are to be debited to Costing Profit & Loss Account.

Question No 17:
From the following data for the year ended 31st December, 2014 calculate the inventory
turnover ratio of the two items and put forward your comment on them,
Material P Material Q
Opening Stock 1/1/2014 Rs. 20,000 Rs. 9,000
Purchase during the year 104,000 54,000
Closing Stock 31/12/2014 12,000 22,000

(July, 2015)(4 Marks)

Answer
First of all it is necessary to find out the cost of material consumed.
Cost of material consumed Materials P Materials Q
Opening stock Rs. 20,000 Rs. 9,000
Add:Purchases 1,04,000 54,000
1,24,000 63,000
Less: Closing stock 12,000 22,000
Material consumed 1,12,000 41,000
Average inventory(Op. Stock+Cl. Stock) ÷2 16,000 15,500

Inventory Turnover ratio( Consumption÷Avg. inventory) 7 times 2.64 times

Inventory Turnover (No. of days ): (No of days in a year 52 days 146 days
÷ I.T.Ratio)
Comments: Material P is more fast moving than Material Q.

Question No 18:
What is Just in time (JIT) purchases? What are the advantages of such purchases?
(July, 2015)(2 Marks)
Answer
Just in time (JIT) purchases means the purchase of goods or materials such that delivery
immediately precedes their use.
Advantages of JIT purchases:
Main advantages of JIT purchases are as follows;
i) The suppliers of goods or materials cooperate with the company and supply requisite
quantity of goods or materials for which order is placed before the start of
production.
ii) JIT purchases result in cost savings for example, the cost of stock out, inventory
carrying, materials handling are reduced.
iii) Due to frequent purchases of raw materials, its issue price is likely to be very close to
the replacement price. Consequently the method of pricing to be followed for valuing
material issues becomes less important for companies using JIT purchasing.
JIT purchasing are now attempting to extend daily deliveries to as many areas as possible so that
the goods spend less time in warehouses or on store shelves before they are exhausted.

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Chapter 3:

Labor Control

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Question No 1:
Calculate the earnings of workers A and B from the following particulars for a month and
allocate the labour cost to each job X, Y and Z:
A B
(i) Basic Wages (Rs.) 100 160
(ii) Dearness Allowance 50% 50%
(iii) Contribution to Provident Fund (on basic wages) 8% 8%
(iv) Contribution to Employees‟ Life Insurance (on basic wages) 2% 2%
(v) Overtime Hours 10 -

The Normal working hours for the month are 200. Overtime is paid at double the total of normal
wages and dearness allowance. Employer‟s contribution to life Insurance and Provident Fund are
made at the rates equal to employees‟ contributions. The two workers were employed on jobs X,
Y and Z in the following proportions:

Jobs
X Y Z
Workers A 40% 30% 30%
Worker B 50% 20% 30%
Overtime was done on job Y.
(June 2010)(10 Marks)

Answer
Statement Showing Earnings of Workers A and B
Workers: A B
Rs. Rs.
Basic Wages 100 160
Dearness Allowance (50% of Basic Wages) 50 80
Overtime Wages (Refer to Working Note 1) 15 -
Gross Wages earned 165 240
Less: - Provident Fund – 8% of Basic wages and ELI – 10 16
2% of Basic wages
Net Wages paid 155 224
Statement of Labour Cost: Rs. Rs.
Gross Wages (excluding overtime) 150 240
Employer‟s Contribution to P.F. and E.L.I. 10 16
Ordinary wages 160 256
Labour Rate per hour 0.80 1.28
(Rs. 160/200) (Rs. 256/200)

Statement showing allocation of Wages to Jobs

Jobs
Total Wages: X Y Z
Rs. Rs. Rs. Rs.
Worker A:
Ordinary Wages: (4 : 3 :3) 160 64 48 48
Overtime 15 - 15 -
Workers B:
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Ordinary Wages: (5: 2 : 3) 256 128 51.20 76.8

431 192 114.2 124.8
Working Notes:
Normal Wages are considered as basic wages
Overtime = 2 x (Basic wage + D.A.)
200
= 2 × (Rs. 150/200) × 10 hours = Rs. 15/-.

Question No 2:
Write short note on
Shift Premium and Overtime Premium (June 2010)(2.5 Marks)
Answer
Shift premium/differential refers to the payment of higher hourly rates for working in less
desirable shifts of job, such as evening or night shift. It is charged to factory overhead control
rather than work-in-process, and spread over all units produced because they are not caused by
specific units. For example, if day time rate per hour is Rs.50 and night time rate is Rs.60 per
hour, the shift premium per hour is Rs. 10 only, which is charged to factory overhead.
Overtime work is caused due to random scheduling of jobs, requirement of a specific job and
poor workmanship or negligence. It may be paid at the regular rate or higher rate as required. If
higher rate is paid for the overtime hours, the differential is termed as overtime premium. If it is
caused by random scheduling of jobs, it is treated as shift premium; if it is caused by requirement
of specific job, it is charged to that specific job; and if it is caused by poor workmanship or
negligence, it is charged to profit and loss account.

Question No 3:
Two workmen BED and DEB, produce the same product using the same material. Their normal
wage rate is also the same. BED is paid bonus according to the Rowan system, while DEB is
paid bonus according to the Halsey System. The time allowed to make the product is 100 hours.
BED takes 60 hours while DEB takes 80 hours to complete the product. The factory overhead
rate is Rs.10 per man-hour actually worked. The factory cost for the product for BED is Rs.
7,280 and for DEB it is Rs. 7,600.
You are required to find the normal rate of wages of BED and DEB.
(December 2010)(6 Marks)
Answer
Let x be the cost of material and y be the normal rate of wage per hour.
Factory cost of workman BED:
Material cost Rs. x
Wages 60 y
Bonus under Rowan System: Time saved x Hours Worked x Rate per Hour
Time allowed
Overhead (60 x 10) = Rs. 600
Factory cost = x + 60 y + 24 y + Rs. 600 = Rs. 7,280, Or x + 84 y = Rs. 6,680 … (i)

Factory cost of workman DEB:

Material Rs. x
Wages 80 y

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Bonus under Halsey Premium Plan = (Hours Saved x 50)/ 100 x Rate per Hour
= 20 x ½ y = 10 y
Overhead (80 x 10) = Rs. 800
Factory cost = x + 80y + 10 y + Rs. 800 = 7,600, Or x + 90 y = Rs. 6,800 … … (ii)
Deducting equations (i) from (ii), 6 y = 120, Or, y = 120/6 = 20
The normal rate of wages is therefore Rs. 20 per Hour.

Question No 4:
The existing incentive system of Beta Ltd. is as under:

Normal working week : 5 days of 8 hours each plus 3 late

shifts of
3 hours each.
Rate of payment : Day work: Rs. 160 per hour
: Late shift: Rs. 225 per hour
Average output per operator for 49 hours
week i.e. including 3 late shifts : 120 articles.

In order to increase output and eliminate overtime, it was decided to switch on to a system of
payment by results. The following information is obtained:

Time-rate (as usual) : Rs. 160 per hour

Basic time allowed for 15 articles : 5 hours
Piece-work rate : Add 20% to basic
piece-rate
Premium Bonus : Add 50% to time.

Required:
Prepare a statement showing hours worked, weekly earnings, number of articles produced and
labour cost per article for one operator under the following systems:
i) Existing time-rate
ii) Straight piece-work
iii) Rowan system
iv) Halsey premium system
Assume that 135 articles are produced in a 40 hour week under straight piece work, Rowan
premium system, and Halsey premium system above and worker earns half the time saved under
Halsey premium system. (June 2011)(8 Marks)
Answer
Table showing Labour cost per article:

Method of payment Hours Weekly Number of Labour

cost
Worked earnings articles per article
Rs. produced Rs.
Existing time rate 49 8,425.00 120 70.21
Straight piece rate system 40 8,640.00 135 64.00
Rowan Premium system 40 9,007.41 135 66.72
Halsey Premium system 40 8,600.00 135 63.70

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Working notes:

Existing time rate Rs.

Weekly wages 40 hours @ Rs. 160 per hour 6,400
9 hours @ Rs. 225 per hour __2,025
8,425
Piece Rate system:
Basic time: 5 hours for 15 articles (120/40hour=3hr/Article)
Cost of 15 articles at hourly rate of Rs. 160/hr. 800
Add 20% __160
960

Rate per article = Rs. 960/15 = Rs. 64

Earning for the week = 135 articles ×Rs. 64 = Rs. 8,640

Rowan Premium system:

Basic Time : 5 hours for 15 articles
Add : 50% to time
7.5 hours for 15 articles
Or 30 minutes per article
Time allowed for 135 articles = 67.5 hours
Actual time taken for 135 articles = 40 hours

 TA  HW 
Earnings = (HW ×RH) +   HW  RH 
 TA 
 67.5  40 
= (40 hrs. ×Rs. 160) +   40  Rs.160
 67.5 
= Rs. 9,007.41

Halsey Premium System:

50
Earnings = HW ×RH + (TA –HW) ×RH
100
= 40× Rs. 160+ ½ (67.5 -40) ×Rs. 160
= Rs. 8,600

Question No 5:
Rolland Limited operates a group incentive scheme in one of its department. A minimum
hourly rate is guaranteed to each of the six employees in the group if actual output for the week
is less than the standard output. If actual output is greater than the standard output, the hourly
rate of each employee is increased by 4% for each additional 600 units of output produced. The
standard output for the group is 12,000 units for a 40 hour week.
During the week ended 31st December, 2010, each employee in the group worked 40 hours;
actual output and minimum hourly rates were as follows:

Employee Actual output (units) Minimum hourly rate

(Rs.)
Lal 2,500 60
Hari 2,700 100
Mohan 2,400 60
Shyam 2,500 80
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Hanuman 2,460 60
Krishna 2,440 40

You are required to:

i) Calculate the earnings of each employee;
ii) Appraise the effectiveness to the company of this group incentive scheme.
(December 2011)(7 Marks)
Answer

Statement showing the earning of each employee in the group during the
week ended 31st December 2010.
Employee Minimum Hourly Total rate (Rs.) Total wages for
hourly rate (Rs.) premium rate the week 40
(Rs.)(20%of Hours (Rs.)
minimum
Wages W.N (a)
Lal 60 12 72 2,880
Hari 100 20 120 4,800
Mohan 60 12 72 2,880
Shyam 80 16 96 3,840
Hanuman 60 12 72 2,880
Krishna 40 8 48 1,920
Total 19,200

Working notes:
a) Calculation of the percentage increase in the hourly rate due to higher efficiency:
(Output for 40 hour week)
Standard 12,000 units
Actual 15000 units
Additional production 3,000 units
Increase in wage rate is 4% for each additional 600 units. Hence total increase;
= (3000/600) * 4% = 20%

b) Hourly rate for all employee (60+100+60+80+60+40) =Rs.400.

Std production per hour 12000/40×6= 50units.
Hence Std. wages cost of actual production =Rs. 400×50units =Rs. 20000.
Actual wages paid Rs. 19,200.
Therefore, there is a saving of Rs. 800. The gain on account of efficiency of the worker
has thus been shared by the employer and the employee.

Question No 6:
A company uses an old method of machining a part manufactured for sale. The estimate of
operating details for the year 2011 – 12 are as under:
Number of parts to be manufactured and sold 30,000
Raw materials required per part 10 kg @ Rs. 2 per kg
Average wage rate per worker Rs. 40 per day of 8 hours
Average labour efficiency 60%
Standard time required for manufacturing one part 2 hours
Overhead rate Rs. 10 per clock hour
Material handling expenses 2% of the value of raw materials

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The company has a suggestion box scheme and an award equivalent to three months saving in
labour cost is passed on to the employee whose suggestion is accepted. In response to this
scheme suggestion has been received from an employee to use a special Jig in the manufacture
of aforesaid part. The cost of Jig which has life of one year is Rs. 31,500 and the use of the Jig
will reduce the standard time by 20 minutes and labour efficiency will increase by 20%.
Required:
i) Compute the amount of award payable to the employee who has given the suggestion.
ii) Prepare a statement showing the annual cost of production before and after the
implementation of the suggestion to use the Jig and indicate the annual savings.
(June 2012)(10 Marks)
Answer
Computation of amount of award payable to employee:
Total labour cost under existing condition:
Standard time required for one part 2 hours or 120 minutes
Average efficiency 60%
Direct labour hours required for one part 120 × 100 / 60 = 200 minutes
Time required for 30,000 components 30,000 × 200 / 60 = 100,000 hours
Labour cost @ Rs. 5 per hour [A] Rs. 500,000
Total labour cost under suggested condition:
Standard time required for one part (120 – 20) = 100 minutes
Average efficiency of labour 80%
Direct labour hours required for one part 100 × 100 / 80 = 125 minutes
Time required for 30,000 components 30,000 × 125 / 60 = 62,500 hours
Labour cost @ Rs. 5 per hour [B] Rs. 312,500
Labour cost saved in a year [A] – [B] Rs. 187,500
Award equivalent to 3 months cost saving Rs. 187,500×(3/12) = 46,875

(ii) Annual cost of production to the company under both the condition and savings made:

Before After
Particulars
Rs. Rs.
Raw materials [30,000 × 10 × Rs. 2] 600,000 600,000
Direct wages @ Rs. 5 per hour
For 100,000 hours 500,000 -
For 62,500 hours - 312,500
Overhead absorbed @ Rs. 10 per hour 1,000,000 625,000
Material handling charges @ 2% 12,000 12,000
Cost of Jigs - 31,500
Total costs 2,112,000 1,581,000
Saving in costs [Rs. 2,112,000 – Rs. 1,581,000] 531,000
Less: Award to employee 46,875
Net cost saving 484,125

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Question No 7:
Distinguish between
Job evaluation and Merit rating(June 2012)(2.5 Marks)
Answer
The term job evaluation may be defined as the process of analysis and assessment of jobs to
ascertain reliably their relative worth and to provide management with a reasonably sound basis
for determining the basic internal wage and salary structure for the various job positions. In
other words, job evaluation provides a rationale for differential wages and salaries for different
group of employees and ensures that these differentials are consistent and equitable.
On the other hand merit rating is a systematic evaluation of the personality and performance of
each employee by his supervisor or some other qualified person.
The main distinctions between the two are as follows:
1. Job evaluation is the assessment of the relative worth of jobs within a company and merit
rating is the assessment of the relative worth of the man behind a job. In other words, merit
rating rates employees on their jobs while job evaluation rates the jobs.
2. Job evaluation and its accomplishment are means to set up a rational wage and salary
structure whereas merit rating provides a scientific basis for determining fair wages for
each worker based on his ability and performance.
3. Job evaluation simplifies wage administration by bringing uniformity in wage rates. On the
other hand merit rating is used to determine fair rate of pay for different workers on the
basis of their performance.

Question No 8:
In a manufacturing concern 20 workmen work in a group. The concern follows a group incentive
bonus system whereby each workman belonging to the group is paid a bonus on the excess
output over the hourly production standard of 250 pieces, in addition to his normal wages at
hourly rate. The excess of production over the standard is expressed as a percentage and two-
thirds of this percentage is considered to be the share of the workman and is applied on the
notional hourly rate of Rs. 60 (considered only for the purpose of computation of bonus). The
output data for a week are stated below:

Days Man hours worked Output in pieces

Monday 160 48,000
Tuesday 172 53,000
Wednesday 164 40,000
Thursday 168 52,000
Friday 160 46,000
Saturday 160 42,000
Total 984 281,000

Required:
i) Workout the amount of bonus for the week and the average rate at which each workman is
to be paid.
ii) Compute the total wages including bonus payable to Ram who worked for 48 hours at an
hourly rate of Rs. 25 and to Shyam who worked for 52 hours at an hourly rate of Rs. 30.
(December 2012)(8 Marks)
Answer
(i)Computation of group incentive bonus

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% of 2/3% of
Man Standard Actual Excess Bonus
excess excess
Days hours output (pcs) output output (Rs.)
output output for
worked (W.N.1) (pcs) (pcs) (W.N. 3)
(W.N.2) bonus
Monday 160 40,000 48,000 8,000 20.00 13.33 1,279.68
Tuesday 172 43,000 53,000 10,000 23.26 15.51 1,600.63
Wednesday 164 41,000 40,000 - - - -
Thursday 168 42,000 52,000 10,000 23.81 15.87 1,599.70
Friday 160 40,000 46,000 6,000 15.00 10.00 960.00
Saturday 160 40,000 42,000 2,000 5.00 3.33 319.68
984 5,759.69

Share of each individual workman: Rs. 5,759.69 / 984 = Rs. 5.85 per hour worked.

(ii)
Computation of wages to individual workmen
Ram Shyam
(a) Hours worked 48 52
(b) Hourly rate of payment Rs. 25 30
(c) Total wages at hourly rate (a) × (b) Rs. 1,200.00 1,560.00
(d) Incentive bonus (a) × Rs. 5.85 Rs. 280.80 304.20
(e) Total wages payable (c) + (d) Rs. 1,480.80 1,864.20

Working notes:
(1) Standard output for Monday (160 × 250) = 40,000 pieces and so on for other days.
(2) % of excess output for Monday (8,000 / 40,000 × 100) = 20% and so on for other days.
(3) Bonus for Monday (160 × 60 × 13.33%) = Rs. 1,279.68 and so on for other days.

Question No 9:
Both direct and indirect labor of a department in a factory is entitled to production bonus in
accordance with a Group Incentive Scheme, the outlines of which are as follows:
i) For any production in excess of the standard rate fixed at 10,000 tons per month (of 25 days)
a general incentive of Rs. 10 per ton is paid in aggregate. The total amount payable to each
separate group is determined on the basis of an assumed percentage of such excess
production being contributed by it, namely @ 70% by direct labor, @ 10% by inspection
staff, @ 12% by maintenance staff and @ 8% by supervisory staff.
ii) If the excess production is more than 20% above the standard, direct labor also gets a
special bonus @ Rs. 5 per ton for all production in excess of 120% of standard.
iii) Inspection staff is penalized @ Rs. 20 per ton for rejection by customer in excess of 10% of
production
iv) Maintenance staff is penalized @ Rs. 20 per hour of breakdown.
From the following particulars for a month work out the production bonus earned by each
group:

(i) Actual working days : 20

(ii) Production : 11,000 tons
(iii) Rejection by customers : 200 tons
(iv) Machine breakdown : 40 hours (June 2013)(8 Marks)
Answer

(i) No. of working days during month : 20

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(ii) Standard production for 20 days @ 10,000 tons per month of 25 days
= 10,000 x 20/25 = 8,000 tons
(iii)Actual production during the month = 11,000 tons
(iv) Excess production during the month = 11,000 – 8,000 = 3,000 ton
(v) Excess production above 20% of standard : 3,000 – 20% of 8,000
= 3,000 – 1,600 = 1,400 tons

Statement showing Bonus earned by each category of staff:

Category General Incentive @ Rs. Special Incentive Penalty Bonus
10 per ton @ Rs. 5 per ton earned
% Tons Amount Tons Amount Rs Rs
(a) Direct labor 70 2,100 21,000 1,400 7,000 - 28,000
(b) Inspection Staff 10 300 3,000 - - -* 3,000
(c) Maintenance staff 12 360 3,600 - - 800** 2,800
(d) Supervisory staff 8 240 2,400 - - - 2,400
Total 100 3,000 30,000 1,400 7,000 800 36,200
* Penalty for rejection: Not applicable (Actual rejection is less than allowed level)
** Penalty for machine breakdown for 40 hours @ Rs. 20 per hour.

Question No 10:
Raman Garment Company employs 70 direct workers. Each worker is paid wages Rs. 400 per
week of 40 hours. When necessary, overtime worked up to a maximum of 16 hours per week per
worker is paid at time rate plus one –half as premium. The current output on an average is 6 units
per person-hour, which may be regarded as standard output. If bonus scheme is introduced, it is
expected that the output will increase to 8 units per person-hour. The worker will, if necessary,
continue to work overtime up to the specified limit although no premium no incentives will be
paid.
The company is considering introduction of either Halsey scheme or Rowan scheme of wage
incentive system. The budgeted weekly output is 20,000 units. The selling price is Rs. 15 per unit
and the direct material cost is Rs. 10 per unit. The variable overhead amount to Rs. 0.5 per direct
labor hour and the fixed overhead is Rs. 10,000 per week.

Prepare a statement to show the effect on the company‟s weekly profit of the proposal to
introduced (i) Halsey scheme, and (ii) Rowan scheme. (December 2013)(8 Marks)
Answer
b) Statement of company‟s weekly profit
Present Scheme Halsey Scheme Rowan Scheme
Output (units) 20,000 20,000 20,000
Selling price Rs. Per unit 15.00 15.00 15.00
Direct Material Cost Rs. 10.00 10.00 10.00
Per unit
Direct Labour Rs. Per unit 36,000/20,000 = 1.80 29,167/20,000 = 1.46 31,250/20,000 = 1.56
Variable Overhead Rs. Per (3,333*0.5)/20,000 = (2,500×0.5)/20000= (2,500×0.5)/20000=
unit (0.5 per direct labour 0.08 0.06 0.06
hour)
Total Variable costs Rs. 11.88 11.52 11.62
Per unit
Contribution Rs. Per unit 3.12 3.48 3.38
Total Contribution Rs. 62,400 69,600 67,600
Less: Fixed Overhead Rs. 10,000 10,000 10,000

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Net Profit Rs. 52,400 59,600 57,600

Working Notes:
Wage rate per hour per workers = Rs400\Rs40 = Rs 10 per hour
Overtime rate per hours per workers = normal rate per hour + 50%
= Rs 15 per hour
Overtime premium = Rs. 15- Rs. 10 = Rs. 5
Average current output/hour = 6 units

Hours to be worked for budgeted weekly output of 20,000 units

=20,000\6 units =3333.33 hours

Total normal hours available per week = No. of workers ×hour per week
= 70 workers × 40 hours
= 2,800 hours
Maximum overtime hours per week for all workers = 70 x 16
= 1120
Overtime hour required
= Total hour to be worked - total normal hrs available
= 3333.33 hrs. – 2800 hrs.
= 533.33 hrs.
Hence, all overtime hours worked are eligible for bonus.

Total wages under the proposed scheme:

Normal wages for total hrs worked (3333.33 hrs ×10) 33,333
Add: overtime premium (5 × 533.33) 2,667
36,000
Time saved
Time allowed = 1 hour for 6 units
For 20,000 units = 20,000\6 units = 3,333.33 hrs

Time taken: = 1 hour for 8 units

20,000 units need = 20,000/8 = 2,500 hours

Time saved = Time allowed – Time taken

= 3,333.33 hrs – 2,500 hrs
= 833.33 hrs

Under Halsey Scheme:

Total wages = (Time taken × Standard wage rate) + (50% × Time saved × Standard wage
rate)
= (2,500×10) + (50%×833.33×10)
= 25,000+4,167
=29,167

Under Rowan Scheme:

Total wages = Normal wages + Bonus
= (Time taken × Standard wage rate) + [Time saved × Time taken\ Time allowed
× Standard wage rate]
= (2,500 x10) + (833.33 x 2,500/3,333.33 x 10)
= 25,000+6,250
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= 31,250

Question No 11:
Discuss briefly the treatment of overtime in cost accounting. (June, 2014)(2.5 Marks)
Answer
If overtime is restored to at the desire of the customer, then overtime premium may be charged
to the job directly. If overtime is required to cope with general production program or for
meeting urgent orders, the overtime premium should be treated as overhead cost of the
particular department or cost center, which works overtime.
If overtime is worked in a department due to the fault of another department, the overtime
premium should be charged to the latter department‟s cost.
Overtime worked on account of abnormal conditions such as flood, earthquake etc. should not
be charged to cost but to costing profit and loss account.

Question No 12
Bonus paid under the Halsey Plan with bonus at 50% for the time saved equals the bonus paid
under the Rowan System. When will this statement hold good? Your answer should contain the
proof. (June, 2014)(2.5 Marks)
Answer
a) Bonus under Halsey Plan:

 Time saved .......... ..... i 

50
S tan dard rate 
100
Bonus under Rowan Plan:

 Time saved .......... ...... ii 

Time taken
S tan dard rate 
Time allowed
Now,
50
S tan dard rate   Time saved =
100
Time taken
S tan dard rate   Time saved
Time allowed
50 Time taken
Or , 
100 Time allowed
Or, Time taken = 50% of time allowed.
Therefore, when the time taken to perform a job is 50% of the time
allowed, the bonus under Halsey and Rowan Plan is equal.

Question No 13:
Two fitters, a labourer and a boy undertake a job on piece rate for Rs. 1,290. The time spent by
each of them is 220 ordinary working hours. The rates of pay on time-rate basis are Rs. 1.50 per
hour for each of the two fitters, Re. 1 per hour for the labourer and Re. 0.50 per hour for the
boy.
Required:
i) The amount of piece-work premium and the share of each worker, when the piece-work
premium is divided proportionately to the time wages paid.

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ii) The selling price of the above job on the basis of the following additional data:
Cost of direct material Rs. 2,010
Works Overhead at 20% of Prime Cost
Selling Overhead at 10% of Work Cost and
Profit at 25% on Cost of Sales. (December, 2014)(8 Marks)
Answer
(i) Calculation of wages:
2 Fitters @ Rs. 1.50 per hour for 220 hours each Rs. 660
1 Labourers @ Re. 1 per hour for 220 hours Rs. 220
1 Boy @ Re. 0.50 per hour for 220 hours Rs. 110
Total Rs. 990

Piece Work Premium

Total Wages agreed on piece-rate basis Rs. 1,290
Less: Wages calculated on time basis Rs. 990
Piece Work Premium Rs. 300

Amount of premium will be paid to workers in the ratio of 660:220:110 (or 6:2:1) as
follows:
2 Fitters Rs.200.00
1 Labourer Rs. 66.67
1 Boy Rs. 33.33
Total Rs. 300.00
(ii) Computation of Selling Price: Rs.
Direct Material 2,010
Direct Wages 1,290
Prime Cost 3,300
Work Overheads at 20% in Prime Cost 660
Work Cost 3,960
Selling Expenses at 10% in Work Cost 396
Cost of Sales 4,356
Add: Profit at 25% on Cost of Sales 1,089
Selling Price 5,445

Question No 14:
Write short notes on the advantages of time rate remuneration plans.
(December, 2014)(2 Marks)
Answer
The advantages of time rate remuneration plans are as follows:
(i) It is commonly recognized by all trade unions as well as worker .
(ii) It is a guaranteed income assured to the worker.
(iii) It is very easy to understand and simple to calculate the earnings of worker.
(iv) It involves less clerical work and detailed records are not necessary.
(v) Since the production is not the criteria for calculation of wages, tools and
materials are handled carefully. Wastage is also minimized.

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Question No 15:
Enumerate the remedial steps to be taken to minimize the labour turnover.
(December, 2014)(2.5 Marks)
Answer
The following steps are useful for minimizing labour turnover:
 Exit interview: An interview be arranged with each outgoing employee to ascertain the
reasons of his leaving the organization.
 Job analysis and evaluation: to ascertain the requirement of each job.
 Organisation should make use of a scientific system of recruitment, placement and
promotion for employees.
 Organisation should create healthy atmosphere, providing education, medical and
housing facilities for workers.
 Committee for settling workers grievances.

Question No 16:
In a factory bonus system, bonus hours are credited to the employees in the proportion of time
taken, which time saved bears to time allowed. Jobs are carried forward from one week to
another. No overtime is worked and payment is made in full for all units worked on, including
those subsequently rejected. From the following information you are required to calculate for
each employee:
i) The bonus hours and amount of bonus earned;
ii) The total wage costs; and
iii) The wages cost of each good unit produced.
Particulars Worker A Worker B Worker C
Basic rate per hour Rs. 10 Rs. 16 Rs. 12
Units produced 2,600 2,200 3,600
Time allowed for 100 2 hours 30 1 hour 30
units minutes 3 hours minutes
Time taken 52 hours 75 hours 48 hours
Rejects 100 units 40 units 400 units

(December, 2015)(10 Marks)

Answer
The computation is shown in the following table:
Statement showing Bonus and Wage cost per unit

Particulars Worker A Worker B Worker C

Units produced 2,600 2,200 3,600
Rejects 100 units 40 units 400 units
Good units 2,500 units 2,160 units 3,200 units
Time allowed for 100 units 2 hrs 30 3 hrs 1 hrs 30
minutes minutes
Total time allowed 65 hours 66 hours 54 hours
Time taken 52 hours 75 hours 48 hours
Time saved [Time allowed- 13 hours - 6 hours
Time taken]
Basic rate per hour Rs. 10 Rs. 16 Rs. 12
Statement showing Bonus and Cost per unit
Particulars Worker A Worker B Worker C
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Basic wages Rs. 520 Rs. 1,200 Rs. 576

Bonus* Rs. 104 - Rs. 64
Total wage cost Rs. 624 Rs.1,200 Rs. 640
Wages cost per unit of good Rs. 0.25 Rs. 0.56 Rs. 0.20
units produced#

#Wages cost per unit of good unit is computed by dividing the total wages cost by the good
units.

*Bonus is computed as follows:

The Bonus is to be paid in the proportion of time taken which the time saved bears to the
time allowed. For A, the time saved is 13 hours while the time allowed is 65 hours. This
means that the proportion of time saved to time allowed is 13/65=1/5 hours and hence the
bonus is 1/5th of the basic wages i.e. `104.
For B, there is no time saved and hence he is not entitled for any bonus.
For C, time saved is 6 hours while the time allowed is 54 hours which means that the time
saved is 1/9th.
Question No 17:
There is no difference between idle capacity and excess capacity. Do you agree? How idle
capacity costs are treated in cost accounting? (December, 2015)(2.5 Marks)
Answer
Idle capacity is different from excess capacity. Idle capacity is a part of the capacity of a
plant, machine or equipment which cannot be effectively utilized in production. It is the
difference between the practical or normal capacity and capacity utilization based on sales.
Idle Capacity refers to temporary idleness of available resources due to irregular interruptions.
Excess capacity results either from managerial decision to retain larger production capacity or
from unbalanced equipment or machinery within departments. Excess capacity refers to that
portion of practical capacity which is available but no attempt is made for its utilization for
strategic or other reasons.
Idle capacity costs can be treated in product costing in following ways:
a. if idle capacity is due to avoidable reasons, it should be charged to Profit and Loss
Account.
b. if idle capacity is due to unavoidable reasons, as supplementary overhead rate may be
used to recover the costs and charges to the production capacity utilized.
c. if idle capacity is due to seasonal factor, it should be charged to the cost of production
by inflating overhead rates.

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Chapter 4:

Overhead Control

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Question No 1
A factory has three production departments P1, P2 and P3 and two service departments S1 and S2.
Budgeted overheads for the next fiscal year have been allocated/apportioned by the cost
department among the five departments. The secondary distribution of service department
overheads is pending and the following details are given to you:
Department Overheads apportioned/allocated Estimated level of activity
P1 Rs. 48,000 5,000 machine hours
P2 Rs. 112,000 12,000 machine hours
P3 Rs. 52,000 6,000 machine hours
Apportionment of service departments costs
S1 Rs. 16,000 P1 (20%), P2 (40%) P3 (20%), S2 (20%)
S2 Rs. 24,000 P1 (10%), P2 (60%), P3 (20%), S1 (10%)
You are required to calculate the overhead rate per machine hour of each production department
after completing the distribution of service department costs. (December 2010)(20 Marks)
Answer
It is given in the question that the secondary distribution of service department overhead is
pending. The same is thus attempted by the use of simultaneous equation method.
Let the total overheads of department S1 = x and
Let total overheads of department S2 = y
Based on the given information and applying simultaneous equation, we get:
x = 16,000 + 0.1 y (i)
y = 24,000 + 0.2 x (ii)
Multiplying equation (ii) by 5, we get:
5 y = 120,000 + x, Or x = 5y – 120,000
By deducting equation (i) from equation (iii), we get:
y = 27,755
x = 18,775
With these figures, the secondary distribution of service departments' overhead would be as
given in the following table.

Production Departments P1 (Rs.) P2 (Rs.) P3 (Rs.) Total (Rs.)

Direct Allocation: 48,000 112,000 52,000 212,000

Department S1 (80% of Rs. 18,775) 3,755 7,510 3,755 15,020
Department S2 (90% of Rs. 27,755) 2,776 16,653 5,551 24,980

Total: 54,531 136,163 61,306 252,000

Budgeted capacity (machine hours) 5,000 12,000 6,000

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Overhead rate per machine hour Rs. 10.91 Rs. 11.35 Rs. 10.22

Question No 2:
Explain briefly the conditions when supplementary rates are used.
(December 2010)(2.5 Marks)
Answer
When the amount of under absorbed and over absorbed overhead is significant or large, because
of differences due to wrong estimation, then the cost of product needs to be adjusted by using
supplementary rates (under and over absorption/actual overhead) to avoid misleading
impression.

Question No 3:
Mega Company has just completed its first year of operations. The unit costs on a normal
costing basis are as under:
Rs.
Direct material 4 kg @ Rs.4 16.00
Direct labour 3 hrs @ Rs.18 54.00
Variable overhead 3 hrs @ Rs.4 12.00
Fixed overhead 3 hrs @ Rs.6 _18.00
100.00
Selling and administrative costs:
Variable Rs.20 per unit
Fixed Rs.7,60,000

During the year the company has the following activity:

Units produced 24,000
Units sold 21,500
Unit selling price Rs.168
Direct labour hours worked 72,000

Actual fixed overhead was Rs.48,000 less than the budgeted fixed overhead. Budgeted variable
overhead was Rs.20,000 less than the actual variable overhead. The company used an expected
actual activity level of 72,000 direct labour hours to compute the predetermine overhead rates.
Required:
i) Calculate under or over absorption of overhead.
ii) Compute the unit cost and total income under:
a) Absorption costing
b) Marginal costing
i) Reconcile the difference between the total income under absorption and marginal costing.
(June 2011)(12 Marks)
Answer
Under or over absorption of overhead: Rs.
Budgeted Fixed Overhead 72,000 Hrs. × Rs.6 4,32,000
Less: Actual Overhead less than Budgeted Fixed Overhead __ 48,000
Actual Fixed Overhead 3,84,000
Budgeted Variable Overhead (72,000 Hrs. × Rs.4) 2,88,000
Add: Actual Overhead higher than Budgeted 20,000
Actual Variable Overhead 3,08,000

Fixed & Variable Overhead applied 72,000 Hrs × Rs.10 7,20,000

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Actual Overhead (3,84,000 + 3,08,000) 6,92,000

Over Absorption __28,000

Computation of Unit Cost & Total Income

Unit Cost Absorption Costing Marginal Costing
(Rs.) (Rs.)

Direct Material 16.00 16.00

Direct Labour 54.00 54.00
Variable Overhead 12.00 12.00
Fixed Overhead 18.00 ____-
Unit Cost 100.00 82.00

Income Statements
Absorption Costing
Sales (21500 × Rs.168) 36,12,000
Less: Cost of goods sold (21500 × 100) 21,50,000
Less: Over Absorption ___28,000 __21,22,000
14,90,000
Less: Selling & Distribution Expenses (2,500×20=760,000) 11,90,000
Profit 3,00,000

Marginal Costing
Sales 36,12,000
Less: Cost of goods sold (21500×82) 17,63,000
Add: Under Absorption 20,000 17,83,000
18,29,000
Less: Selling & Distribution Expenses (Variable only) 4,30,000
Contribution 13,99,000
Less: Fixed Factory and Selling & Distribution
Overhead (3,84,000 + 7,60,000) 11,44,000
Profit 2,55,000

(iii) Reconciliation of Profit

Difference in Profit: = Rs.3,00,000 – 2,55,000
= Rs.45,000

Due to Fixed Factory Overhead being included in Closing Stock in Absorption Costing but not
in Marginal Costing such difference arises. Therefore, difference in Profit:
= Fixed Overhead Rate (Production – Sale)
= 18× (24,000 – 21,500)
= 45,000

Question No 4:
Write short note on
Volume-based and non-volume-based cost drivers (June 2011)(2.5 Marks)
Answer
Cost drivers are the factors, forces or events that influence and determine the cost of a particular
activity and help in assigning the cost to production unit. Direct costs are traced to cost and they
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themselves are cost drivers. When indirect costs are assigned or allocated to product or services
the factors, such as number of production run, number of machine set up, number of purchase
order etc. are used which are known as cost drivers. Cost drivers are unique physical aspects of
the production process which can be viewed as causing the cost pools to be incurred.

Volume-based cost drivers assume that a product‟s consumption of overhead resources is

directly related or highly correlated to production volume or unit. Some examples of volume-
based cost drivers are units of output, direct labour hours, machine hours, etc. There are some
activities performed which are not directly related to volume of production such as production
run, machine set up, purchase order etc. The cost of these activities are allocated to the product
on the basis of non-volume-based cost drivers, such as number of production run, number of
machine set up, number of purchase order etc.

costs derivers are meant for cost control. Volume-based cost drivers facilitate to control cost
directly in proportion to production output. Non volume-based cost drivers facilitate to control
cost through parameters not directly linked to production volume.

Question No 5:
In a factory, the expenses of factory are charged on a fixed percentage basis on wages and office
overhead expenses are calculated on the basis of percentage of works cost.
Following information is supplied to you:

Order I (Rs.) Order II (Rs.)

Materials 12,500 18,000
Wages 10,000 14,000
Selling Price 44,850 61,880
Percentage of profit on cost 15% 12%

Find out percentage for factory overhead and office overhead. Justify with verification.
(December 2011)(7 Marks)
Answer
Order I
Selling price = Rs. 44,850 including 15% profit on cost.
Cost of production is therefore, 44,850* (100/115) = Rs. 39,000

Order II
Selling price = Rs. 61,880 including 12% profit on cost.
Cost of production is therefore, 61,880 *(100/112) = Rs. 55,250
Cost of production = Direct material (DM) + Direct Wages (DW) + Factory Overhead (FO) +
Office Overhead (OH)

According to the problem factory expenses is charged at a fixed percentage on wages while OH
is charged at a percentage of Works cost (WC). Both these figures are unknown. Hence we have
to solve it algebraically.
Let FO be x% of wages and OH be y% of works cost.
Then in the Order I the equation will be:
39,000 = 12,500 + 10,000 + (x% * 10,000) + y% (22500 + 100x)
39,000 = 22,500 +100x + 225y + y% (22500 + 100x)
16,500 = 100x + 225y + xy ……………………………….(i)

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And in the Order II the equation will be :

55,250 = 18,000+14,000 +(x% *14,000) + y% (32,000+140x)
Or, 23,250 = 140x + 320y +1.4xy ………………………………………………………(ii)

On multiplying equation (i) by 1.4 and equation (ii) by 1.0 we get

23.100 = 140x + 315y +1.4xy ………………………………………………...(iii)
23,250 = 140x +320y + 1.4xy ………………………………………………… (iv)

Bu subtracting (iii) from (iv) we get

150 = 5y or y = 30
On putting the value of y in (i) we get
16,500 = 100x + 6750 + 30x
Or, 9750 = 130x
Or, x = 75
Factory overhead is therefore 75% of wages and office overhead is 30% on works cost.
Verification
Order I (Rs.) Order II (Rs.)
Material 12,500 18,000
Wages 10,000 14,000
Factory Overhead (75% on wages) 7,500 10,500
Works cost 30,000 42,500
Office overhead (30% on works cost) 9,000 12,750
Cost of production 39,000 55,250
Add: Profit 15% and 12% respectively for I & 2 order 5,850 6,630
Selling price 44,850 61,880

Question No 6:
Distinguished between
Cost allocation and cost apportionment (December 2011) (December 2013)(2.5 Marks)
Answer

Cost allocation is the process of charging the full amount of an individual item of cost directly to
a cost centre for which this item of cost was incurred. For example, where separate electric
meters are installed in each of the department, the electricity charges on the basis of electricity
bill can be allocated to the respective departments. Similarly, salary and wages paid to indirect
workers of each department can be allocated to the respective departments.
Cost apportionment on the other hand, is the process of charging the proportion of common
items of cost to two or more cost centres on some reasonable and equitable basis. For example,
where only one electric meter is installed in a factory, the common electricity charges should be
apportioned to all the departments on the basis of number of light points or floor area. Similarly,
if factory rent is incurred for the factory as a whole and benefits all the departments in the
factory, it should be apportioned to all the departments on the basis of floor area occupied by
each department.

Question no 7:
Write short note on
a. Reciprocal method of cost allocation (December 2011)(2.5 Marks)
Answer
The reciprocal method allocates support department costs to operating departments by fully
recognizing the mutual services provided among all support departments. For example, the Plant
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Maintenance department maintains all the computer equipments in Information System

department. Similarly, Information System department provides database support for Plant
Maintenance. The reciprocal method fully incorporates interdepartmental relationships into the
support department cost allocations.

b. Capacity Cost (June 2012)(2.5 Marks)

Answer
Capacity cost is an alternative term used for fixed cost. It represents cost of providing facilities
of a system for a particular period. Capacity cost can be classified further into standby cost and
enabling cost. Standby cost is that cost which continues to be incurred even if operations or
facilities are shutdown temporarily. Examples are depreciation, property taxes, management
salaries etc. Enabling cost is the cost which can be avoided by a temporary shutdown, but it
must be incurred if production is resumed.

Question No 9
ABC Ltd. manufactures a single product and absorbs the production overheads at a pre-
determined rate of Rs. 10 per machine hour.
At the end of the financial year 2011-12, it has been found that actual production overheads
incurred were Rs. 600,000. It included Rs. 45,000 on account of written off obsolete stores and
Rs. 30,000 being the wages paid for the strike period.
The production and sales data for the year 2011-12 is as under:
Production:
Finished goods 20,000 units
Work-in-progress (50% complete in all respect) 8,000 units
Sales:
Finished goods 18,000 units.
The actual machine hours worked during the period were 48,000 hours. It has been found that
one-third of the under-absorption of production overheads was due to lack of production
planning and the rest was attributable to normal increase in costs.

Required:
i) Calculate the amount of under-absorption of production overheads during the year 2011-12
and;
ii) Show the accounting treatment of under-absorption of production overheads
iii) Calculate the apportionment of under-absorption overheads over WIP, finished goods and
cost of sales. (December 2012)(10 Marks)
Answer
(i) Amount of under-absorption of production overheads during the year 2011-12:

Particulars Rs. Rs.

Total production overheads actually incurred 600,000
Less: Obsolete stores written off 45,000
Wages paid for strike period 30,000 75,000
Net production overheads actually incurred 525,000
Production overheads actually absorbed by 48,000 machine
480,000
hours @ Rs. 10
Amount of under-absorption of production overheads 45,000

(ii) Accounting treatment of under absorption of production overheads:

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It is given in the question that one third of the under absorbed overheads were due to lack of
production planning and the rest were attributable to normal increase in costs. So accounting
treatment of under absorbed overheads will be as follows:
1. Under absorbed overheads due to lack of production planning being abnormal should be
debited to the Profit & Loss Account. Therefore, the amount to be debited to Profit & Loss
Account is Rs. 45,000 × 1 / 3 = Rs. 15,000.
2. Under absorbed overheads attributable to normal increase in costs should be distributed
over work-in-progress, finished goods and cost of sales by using supplementary rate. The
amount to be so distributed is Rs. 45,000 × 2 / 3 = Rs. 30,000.
(iii) Similarly as per question 20,000 units were completely finished and 8,000 units were 50%
complete, apportionment of unabsorbed overheads over work-in-progress, finished goods and
cost of sales will be as follows:
Equivalent completed Supplementary
Particulars Rs.
units rate
Work-in-progress 4,000 1.25 5,000
Finished goods 2,000 (20,000-8000) 1.25 2,500
Cost of sales 18,000 1.25 22,500
24,000 30,000
Working notes:
Rs. 30,000
Supplementary rate per unit   Rs. 1.25
24,000

Question No 10
What do you mean by cost driver? Explain with example. (December 2012)(2.5 Marks)
Answer
A cost driver is a variable, such as the level of activity or volume, which causally affects costs
over a given time span. That is, there is a cause-and-effect relationship between a change in the
level of activity or volume and a change in the level of total costs. Cost drivers signify factors,
forces or events that determine the costs of activities. Costs drivers are the links and they can
link a pool of costs in an activity center to the product. For example, if product design costs
change with the number of parts in a product, the number of parts is a cost driver of product
design costs. Similarly, miles driven are often a cost driver of distribution costs.

The cost driver of a variable cost is the level of activity or volume whose change causes
proportionate changes in the variable cost. For example, the number of vehicles assembled is the
cost driver of the total cost of steering wheels. If setup workers are paid an hourly wage, the
number of setup hours is the cost driver of total (variable) setup costs.

Costs that are fixed in the short run have no cost driver in the short run but may have a cost
driver in the long run. Consider the cost of testing quality of paints in a paint manufacturing
company. These costs consists of testing department equipment and staff costs that are difficult
to change and, hence, are fixed in the short run with respect to changes in the volume of
production. In this case, volume of production is not a cost driver of testing costs in the short
run. In the long run, however, the paint manufacturing company will increase or decrease the
testing department's equipment and staff to the levels needed to support future production
volumes. In the long run, volume of production is a cost driver of quality testing costs.

Question No 11:
A manufacturing company has pre-determined overhead recovery rates at 200% of the direct
wages for works expense, 10% of works cost as management expenses and 20% on cost of
production towards selling and distribution expenses. At the year-end it is found that works
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overhead stand under- absorbed to the extent of 20% of direct wages, management expenses
show under-recovery of 10% of the absorbed amount and selling and distribution expenses
recovery resulted in over absorption of 30% of the absorbed amount.

Direct cost and selling price of the job X, Y and Z is given below.
Job X Job Y Job Z
Direct materials (Rs.) 50 40 30
Direct wages (Rs.) 30 25 20
Selling price (Rs.) 200 160 120

Find the profit or loss on the respective selling price both on the pre-determined cost and on the
basis of full absorption of overheads. (June 2013)(10 Marks)
Answer
Statement of Cost of Production and Profit or Loss
Under Pre-determined Cost Basis
(Amount in Rs.)
Job X Job Y Job Z
Direct materials 50.00 40.00 30.00
Direct wages 30.00 25.00 20.00
Prime cost 80.00 65.00 50.00
Works expenses [200% of direct wages] 60.00 50.00 40.00
Works cost 140.00 115.00 90.00
Management expenses [10% of works cost] 14.00 11.50 9.00
Cost of production 154.00 126.50 99.00
Selling & distribution expenses [20% of cost of production] 30.80 25.30 19.80
Total costs 184.80 151.80 118.80
Profit (Balancing figure) 15.20 8.20 1.20
Selling price 200.00 160.00 120.00

Statement of Cost of Production and Profit or Loss

Under Full Absorption of Overheads Basis
(Amount in Rs.)
Job X Job Y Job Z
Direct materials 50.00 40.00 30.00
Direct wages 30.00 25.00 20.00
Prime cost 80.00 65.00 50.00
Works expenses [220% of direct wages] 66.00 55.00 44.00
Works cost 146.00 120.00 94.00
Management expenses [Working note 1] 15.40 12.65 9.90
Cost of production 161.40 132.65 103.90
Selling & distribution expenses [Working note 2] 21.56 17.71 13.86
Total costs 182.96 150.36 117.76
Profit (Balancing figure) 17.04 9.64 2.24
Selling price 200.00 160.00 120.00

Working notes:
1. Management expenses:
Job X Job Y Job Z
Rs. Rs. Rs.
Amount on pre-determined basis 14.00 11.50 9.00
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Add: 10% for under absorption 1.40 1.15 0.90

Actual expenses 15.40 12.65 9.90
2. Selling & distribution expenses:
Job X Job Y Job Z
Rs. Rs. Rs.
Amount on pre-determined basis 30.80 25.30 19.80
Less: 30% for over absorption 9.24 7.59 5.94
Actual expenses 21.56 17.71 13.86

Question No 12:
A company has three production departments (M1, M2 and A1) and three service departments,
one of which “Engineering service department” is servicing the M1 and M2 only. The relevant
information are as follows:
Product X Product Y
M1 10 Machine hours 6 Machine hours
M2 4 Machine hours 14 Machine hours
A1 14 Direct Labour hours 18 Direct Labour hours

The Annual budgeted overhead costs for the year are:

Indirect Wages Consumable supplies
Rs. Rs.
M1 46,520 12,600
M2 41,340 18,200
A1 16,220 4,200
Stores 8,200 2,800
Engineering Services 5,340 4,200
General Service 7,520 3,200

Depreciation on Machinery 39,600

Insurance on Machinery 7,200
Insurance on Building 3,240
(Total building insurance cost for M1 is one third of annual premium)
Power 6,480
Light 5,400
Rent 12,675
(The general service dept. is located in a building owned by the company. It is valued at Rs.
6,000 and is charged into cost at notional value of 8% per annum. This cost is additional to the
rent shown above.)
The value of materials issued to the production departments are in the same proportion as
shown above for the consumable supplies.

The following data are also available:

Department Book value Area Effective Production Capacity
Machinery (sq. ft.) H.P. Direct Labour
Machine
Rs. Hours % Hours Hours

M1 120,000 5,000 50 200,000 40,000

M2 90,000 6,000 35 150,000 50,000
A1 30,000 8,000 05 300,000

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Stores 12,000 2,000 -

Engg. Service 36,000 2,500 10
General Service 12,000 1,500 -

Required:
i) Prepare an overhead analysis sheet, showing the bases of apportionment of overhead to
departments.
ii) Allocate service department overheads to production department ignoring the apportionment
of service department costs among service departments.
iii) Calculate suitable overhead absorption rate for the production departments.
iv) Calculate the overheads to be absorbed by two products, X and Y.
(December 2013)(12 Marks)
Answer
Summary of Apportionment of Overheads
Items Basis of Total Production Deptt. Service deptt.
Apportionment amount M1 M2 A1 Store Engineering General
Service Service
Service
Indirect Given 1,25,140 46,520 41,340 16,220 8,200 5,340 7,520
Wages
Consumable
Stores Given 45,200 12,600 18,200 4,200 2,800 4,200 3,200

Depreciation Machine value 39,600 15,840 11,880 3,960 1,584 4,752 1,584
(20:15:5:2:6:2)
Insurance of Machine value 7,200 2,880 2,160 720 288 864 288
Machine (20:15:5:2:6:2)
Insurance on 1/3 to M1 & 3,240 1,080 648 864 216 270 162
On building balance area
basis 12:16:4:5:3)
Power HP Hr. % 6,480 3,240 2,268 324 -- 648 --
(50:35:5:0:10:0)
Light Area 5,400 1,080 1,296 1,728 432 540 324
(10:12:16:4:5:3)
Rent Area 12,675 2,535 3,042 4,056 1,014 1,268 760
(10:12:16:4:5:3)
Rent of Direct 480 -- -- -- -- -- 480
General (8% of 6,000)
Service _______ _______ ______ _______________ _________ _________
Total 2,45,415 85,775 80,834 32,072 14,534 17,882 14,318

(ii) Allocation of service department overheads

Service Basis of Production dept Service dept.
Dept. Apportionment M1 M2 A1 Store Engineering
General

Store Consumable value

(126:182:42) 5,232 7,558 1,744 (14,534) -- --
Engineering Machine Hrs
(4:5) 7,948 9,934 -- -- (17,882) --
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General LHR basis

(20:15:30) 4,406 3,304 6,608 -- -- (14,318)

Production Department Allocated in (i)

85,775 80,834 32,072
Total 2,45,415 1,03,361 1,01,630 40,424

(iii) Overhead Absorption rate

M1 M2 A1
Total overhead allocated 1,03,361 1,01,630 40,424
Machine hours 40,000 50,000 --
Labour hours -- -- 3,00,000
Rate per MHR 2.584 2.033 --
Rate per Direct labour -- -- 0.135

(iv) Statement showing overhead absorption for Product X and Y

Machine Absorption Product X Product Y
Deptt.Rate Hours Rs. Hours Rs.
M1 2.584 10 25.84 6 15.50
M2 2.033 4 8.13 14 28.46
A1 0.135 14 __1.89 18 __2.43
35.87 46.39

Question No 13
From the details furnished below you are required to compute a comprehensive
machine hours rate:
Original purchase price of the machine Rs. 324,000
(Subject to depreciation at 10% p.a. on original cost)
Normal working hours for the month 200 hours
(The machine works to only 75% of capacity)
Wages of machine man Rs. 125 per day (of 8 hours)
Wages for a helper (machine attendant) Rs. 75 per day (of 8 hours)
Power cost for the month for the time worked Rs. 15,000
Supervision charges apportioned for the machine centre
for the month Rs. 3,000
Electricity & lighting for the month Rs. 7,500
Repairs & maintenance (machine) including consumable
stores per month Rs. 17,500
Insurance of plant & building (apportioned) for the year Rs. 16,250
Other general expenses per annum Rs. 27,500

The workers are paid a fixed dearness allowance of Rs. 1,575 per month. Production bonus
payable to workers in terms of an award is equal to 33.33% of basic wages and dearness
allowance. Add 10% of the basic wages and dearness allowance against leave wages and
holiday with pay to arrive at a comprehensive labour wage for debit to production.
(June, 2014)(10 Marks)
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Answer
Computation of comprehensive machine hour rate
Per month Per hour
Rs. Rs.
Fixed cost:
Supervision charges 3,000.00
Electricity and lighting 7,500.00
Insurance of plant & building (Rs. 16,250 × 1 / 12) 1,354.17
Other general expenses (Rs. 27,500 × 1 / 12) 2,291.67
Depreciation (Rs. 32,400 × 1 / 12) 2,700.00
16,845.84 112.31
Variable cost:
Repairs & maintenance 17,500.00 116.67
Power 15,000.00 100.00
Wages of machine man 6,737.00 44.91
Wages of helper 4,945.00 32.97
Machine hour rate (comprehensive) 406.86

Effective machine working hours per month = 200 hours × 75% = 150 hrs.
Working note:
Wages for machine man and helper
Machine man Helper
Rs. Rs.
Wages for 200 hours (Rs. 125 × 25) 3,125 -
(Rs. 75 × 25) - 1,875
Dearness allowances 1,575 1,575
Total of wages & dearness allowances 4,700 3,450
Production bonus (1/3 of above) 1,567 1,150
6,267 4,600
Leave wages – 10% of wages & dearness allowances 470 345
Total wages 6,737 4,945
Wages rate per machine hour (total 150 hrs) 44.91 32.97

Question No 14:
Aryan Ltd. has three production department M, N and O and the two service department P and
Q.
The following particulars are available for the month of September 2013:
(Rs.)
Lease rental 35,000
Power and Fuel 4,20,000
Wages to factory supervisor 6,400
Electricity 5,600
Depreciation on machinery 16,100
Depreciation on building 18,000
Payroll expenses 21,000
Canteen expenses 28,000
Provident fund contribution 58,000

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Following are the further details available:

Particulars M N O P Q
Floor space (Sq. M) 1,200 1,000 1,600 400 800
Light Points(Nos) 42 52 32 18 16
Cost Of machine (Rs.) 12,00,000 10,00,000 14,00,000 4,00,000 6,00,000
No of Employees 48 52 45 15 25
(Nos)
Direct wages (Rs.) 1,72,800 1,66,400 1,53,000 36,000 53,000
HP of Machines 150 180 120 - -
Working Hours 1,240 1,600 1,200 1,440 1,440
(hours)

The Expenses of service department are to be allocated in the following manner:

M N O P Q
P 30% 35% 25% - 10%
Q 40% 25% 20% 15% -

You are required to calculate the overhead absorption rate per hour in respect of the three
production departments. (December, 2014)(10 Marks)
Answer

Item of cost Basis of apportion Total Production Department Service

ment (Rs) Department
M N O P Q
(Rs) (Rs) (Rs) (Rs) (Rs)
Lease Floor space 35,000 8,400 7,000 11,200 2,800 5,600
Rental (6:5:8:2:4)
Power & HP of machines x 4,20,000 1,26,408 1,95,728 97,864 - -
Fuel Working hours
(93:144:72)
Supervisor‟s Working hours 6,400 1,964 2,535 1,901 - -
wages* (31:40:30)
Electricity Light points 5,600 1,470 1,820 1,120 630 560
(21:26:16:9:8)
Depreciation Value of machinery 16,100 4,200 3,500 4,900 1,400 2,100
On (6:5:7:2:3)
Machinery
Depreciation Floor space 18,000 4,320 3,600 5,760 1,440 2,880
on building (6:5:8:2:4)
Payroll No Of Employes 21,000 5,448 5,903 5,108 1,703 2,838
Expenses (48:52:45:15:25)
Canteen No Of Employes 28,000 7,625 7,870 6,811 2,270 3,784
expenses (48:52:45:15:25)
PF Direct wages 58,000 17,244 16,606 15,268 3,593 5,289
contribution (864:832:765:180:265)
Total 608,100 176,719 244,562 149,932 13,836 23,051

*wages to supervisor is to be distributed to production departments only.

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Since the service department has incurred direct wages, it has also to be allocated to the
production department. Therefore , the process of allocation is as under.

P Q
Apportioned Overhead 13,836 23,051
Add: Allocated direct wages 36,000 53,000
49,836 76,051

P = 49,836+ 0.15 Q …………..(I)

Q = 76,051+ 0.10 P……………(II)
Substituting the value of Q in (I) we get
P = 49,836 + 0.15 (76,051+ 0.10 P)
P = 49,836 + 1140Q +0.015 P
P = 61244/0985
P = Rs 62177
And Q = 76,051+0.10 x 62,177
=Rs 82,269
Secondary Distribution summary
Particulars Total M N O
Allocated and apportioned 5,71,213 1,76,719 2,44,562 1,49,932
overheads as per primary
distribution
Add: 90% of P(30%,35% & 25%) 55,959 18,653 21,762 15,544
Add: 85% of Q(40%,25% & 20%) 69,928 32,907 20,567 16,454
2,28,279 2,86,891 1,81,930
Overhead rate per hour
M N O
Total Overhead cost (Rs.) 2,28,279 2,86,891 1,81,930
Workings hours 1,240 1,600 1,200
Rate per hour (Rs.) 184.09 179.31 151.61

Question No 15:
The machine shop of Siddhababa Metal Industries Ltd. has 8 identical Drilling Machines
manned by 6 skilled operators. The machines cannot be worked without an operator wholly
engaged on it. The original cost of all these 8 machines works out to Rs. 9.5 lakhs. Following
particulars are gathered as on Chaitra end 2071 (First nine months of the financial year
2071/72).

Normal available hours per month 208

Absenteeism (without pay) – hours per month 18
Leave (with pay) – hours per month 20
Normal idle time unavoidable – hours per month 10
Average rate of wages per day of 8 hours Rs. 200
Production bonus estimated 15% on wages
Value of power consumed Rs. 12,075
Supervision and indirect labour Rs. 4,950
Lighting and electricity Rs. 1,800

In addition to the above, following annual costs are associated with the machine shop:

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Repairs and maintenance including consumables 3% on value of machines. Insurance Rs .40,

000. Depreciation 10% on original cost. Other sundry works expenses Rs. 12,000 General
Management expenses allocated Rs. 54,500.
Required:
To work out a comprehensive machine hour rate for the Machine Shop.
(July, 2015)(8 Marks)
Answer
Working note
1) Total Machine hours utilized
Normal available hours p.m. per operator 208 hours
Less: Unutilised hours due to:
Absenteeism 18 hours
Leave 20 hours
Idle time 10 hours 48 hours
Total hours utilized p.m. per operator 160 hours
It is given in the question that the machines cannot work without an
operator wholly engaged on it.
Therefore, hours utilized for 6 operators (160 hours × 6 × 9 mths) 8,640 hours

2) Total wages paid to the operators

Average rate of wages per hour = Rs. 200/8 hrs = Rs.25
Normal hours for which wages are to be paid = 208 hrs – 18 hrs = 190 hrs.
Wages for 9 months for 6 operators @ Rs. 25/hr. = 190 × 9 × 6 × 25 =Rs. 2,56,500
Computation of Comprehensive Machine hour rate for the Machine Shop
Particulars Rs.
Operators wages (as above) 2,56,500
Production Bonus (15% of wages) 38,475
Power consumed 12,075
Supervision and indirect labour 4,950
Lighting and electricity 1,800
Repairs and maintenance (3% of Rs.9.5 lakhs) ×3/4 21,375
Insurance (given for 12 months; reduced to 3/4th for 9 months) 30,000
Depreciation for 9 months (9.5 lakhs × 10% × 3/4) 71,250
Other sundry works expenses for 9 months 9,000
General management expenses for 9 months 40,875
Total overheads for 9 months 4,86,300
Comprehensive Machine Hour Rate = (Rs.4,86,300 / 8,640 hrs.) Rs. 56.28 per hr.

Question No 16:
Write short note on
Idle capacity (July, 2015)(2.5 Marks)
Answer
Idle capacity is that part of the capacity of a planet, machine or equipment which cannot be
effectively utilized in production. In other words, it is the difference between the practical or
normal capacity and capacity utilization based on expected sales. For example, if the practical
capacity of production of a machine is to the tune of 10,000 units in a month, but is used only ot
produce 8,000 units, because of public demand of the product, then in such a case 2,000 will be
treated as idle capacity of the machine. Generally, it is due to lack of demand, non-availability

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of raw material, shortage of skilled labor, absenteeism, shortage of power, fuel or supplies,
seasonal nature of product etc.

Question No 17:
The production department of factory furnishes the following information for the month of
March 2015:
Amount in
(Rs.)
Materials used 54,000
Direct wages 45,000
Overheads 36,000

Labour hours worked 36,000

Hours of machine operation 30,000

For an order executed by the department during a particular period, the relevant information
was as under:

Materials used 6,00,000

Direct wages 3,20,000
Labour hours worked 3,200
Machine hours worked 2,400
Calculate the overhead charges chargeable to the job by the following methods:
i) Direct materials cost percentage rate
ii) Labour hour rate; and
iii) Machine hour rate (December, 2015)(10 Marks)
Answer
(i) Direct material cost percentage rate= (overheads/ direct material) x 100
=(Rs. 36,000/54,000) x100 =66.67%
Materials used on the order Rs. 6,00,000, so overhead will be @ 66.67% = R4,00,000.

(ii) Labour hour rate=Overhead/Direct labour hours

=36,000/36,000 = Rs.1
Overheads will be @ Rs. 1= 3,200 hrs x 1= Rs.3,200

(iii) Machine hour rate=Overhead/Machine hours

= Rs. 36,000/30,000 = Rs.1.2
Overheads will be Rs.1.2 per hour x 2,400 hours = Rs. 2,880

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Chapter 5:

Unit Costing

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Question No 1:
State the appropriate „cost unit‟ for the following industries:
i) Steel
ii) Bricks making
iii) Sugar
iv) Power (June 2010)(2 Marks)
Answer
Industry Cost Unit
i) Steel : Per ton
ii) Bricks making : Per 1000 bricks
iii) Sugar : Per quintal or 100 kg.
iv) Power : Kilo-watt hour

Question No 2:
In a factory, works overheads are absorbed at 60% of labour cost and office overheads are 20 %
of works cost.
You are required to prepare the following if total expenditure consists of material Rs. 200,000;
wages Rs. 150,000; factory expenses Rs. 100,000 and office expenses is Rs. 85,000. 10% of the
output is in stock at the end and sales are Rs. 520,000.
i) Cost sheet,
ii) Trading and Profit and Loss Account, and
iii) Reconciliation Statement (December 2010)(8 Marks)
Answer
i) Cost Sheet
Particulars Amount
Rs.
Material 2,00,000
Wages 1,50,000
Prime Cost 3,50,000
Factory Overhead (60% of Rs. 1,50,000) 90,000
Works Cost 4,40,000
Office Overheads (20% of works cost) 88,000
Cost of Production 5,28,000

Cost of goods sold Rs.

4,75,200
Profit 44,800
Sales 5,20,000
Profit as per accounts= Rs. 44,800

ii) Trading and Profit and Loss Account

Dr. Cr.
Particulars Amount Particulars Amount
Rs. Rs.
To Material 2,00,000 By Sales 5,20,000
To Wages 1,50,000 By Closing Stock

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To Gross profit c/d 2,22,800 52,800

5,72,800 5,72,800
To Factory Expenses 1,00,000 By Gross Profit b/d 2,22,800
To Office Expenses 85,000
To Net Profit c/d 37,800
2,22,800 2,22,800

iii) Reconciliation Statement

Rs.
Profit as per cost accounts 44,800
Add: Overcharged in Cost accounts: Office overheads 3,000

47,800
Less: Undercharged in Cost accounts: Factory Overhead 10,000
Profit as per financial records 37,800

Question No 3:
Distinguish between
Cost center and cost unit (December 2010)(June 2013) (2.5 Marks)
Answer
Cost centre is defined as a location, person or item or group of equipment for which cost may be
ascertained and used for the purpose of cost control.
In a manufacturing entity, the cost centres generally follow the pattern or layout of the
departments or sections of the factory. As a result, the cost centres are either production cost
centres or service cost centres.
The number of cost centres and the size of each vary from one organization to another. These
depend on the expenditure involved and the requirements of the management for the purpose of
cost control. Keeping the number of cost centres high will be expensive while having very few
cost centres may defeat the very purpose of cost control.
Cost unit is a device for the purpose of breaking up or separting costs into small sub-divisions
attributable to products or services. It is the unit of quantity of product, service, or time in
relation to which costs may be determined or expressed.
Thus, cost may be ascertained per tonne of steel, per tonne-kilometre of a transport service or
cost per machine hour.

Question No 4
Your company operates for 300 days a year on average. It is facing severe problem of electric
power cut in its day to day operation. The electricity supply is not available for nearly 4 hours
per day in average during total working hours of 7 hours per day for whole the year. This
situation is expected to prevail for nearly five more years. To cope with this situation, you are
considering the alternative sources of power generation, i.e. 140 KVA Generator Set and you
desire to know the cost per unit of electricity generated.
The following estimations are available:
ii) Number of units to be generated per month is 10,000.
iii) Cost of Gen Set with installation charges is Rs.5 million. It is to be fully depreciated within 5
years, after that period, it can be disposed off for Rs.250,000.
iv) Regular cleaning and repair and maintenance cost per month is Rs.20,000.
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v) The Gen Set will consume 22 Ltrs. of diesel per hour. The cost of diesel per liter is Rs.65.
Other fuel charge is Rs.65 per hour.
vi) Two staffs are directly involved in operation and maintenance of the Gen Set, who are paid
salary at the rate of Rs.10,000 per month each.
vii) Share of administrative charges is Rs.10,000 per month. (June 2011)(5 Marks)
Answer
Calculation of the cost per unit of electricity generated
Units generated: 10000/ month
SN Particulars Cost per month Cost per unit Working Remarks
(Rs.) (Rs.)
a. Cost of diesel 143,000 14.30 (22 Ltr. x 4 hrs. x 300/ 12 days x Rs.65)
b. Other fuel charges 6,500 0.65 (Rs. 65x 4 hrs. x 300/ 12 days)
c. Repair & maintenance 20,000 2.00
d. Staff salary 20,000 2.00 (Rs.10000 x 2)
e. Depreciation charge 79,167 7.92 (Rs.5,000,000-250000/5/12)
f. Shared administrative charge 10,000 1.00
Total 278,667 27.87

Question No 5:
A telecom company in Nepal has total GSM prepaid active subscriber base of around 5 million.
Its Average Revenue Per User (ARPU) is Rs.238.50 per month. Assuming that its variable cost
and profit are 35% and 40% respectively of total revenue in this segment of operation, you are
required to calculate the number of subscriber to be added to justify the 20% reduction in
average call tariff which is currently Rs.1.50 per minute. Also assume that the proposed
reduction in tariff will increase call duration by 20% (June 2011)(7 Marks)
Answer
Computation Table to find out additional number of subscriber to justify tariff reduction
SN Particulars Total Per User Working Remarks
a. No. of Active Prepaid GSM Subscribers 5,000,000
b. ARPU/ month (Rs.) 238.50
c. Total Revenue/ month (Rs.) 1,192,500,000 (a x b)
d. Variable Expenses/ month (Rs.) 417,375,000 35% of Total Revenue
e. Profit/ month (Rs.) 477,000,000 40% of Total Revenue
f. Fixed Costs/ month (Rs.) 298,125,000 (c-d-e)
g. Contribution/ month (Rs.) 775,125,000 155.03
h. Current call tariff/ minute (Rs.) 1.50
i. Average call duration per user/ month 159 (b/h)
j. New call tariff/ minute (Rs.) 1.2 20% less than current
k. New avg. call duration/ user/ month 191 20% more than current
l. New ARPU/ month (Rs.) 229 (j x k)
m. New contribution/ user/ month (Rs.) 149 65% of New ARPU(100-35)
n. Required profit/ month (Rs.) 477,000,000
o. Required no. of total active subscribers = (298125000+477000000)/ 149 (Fixed Cost+Reqd. Profit)/ CMPU
= 5,208,333
p. No. of additional subscribers required to
justify the 20% tariff reduction 208,333 (o-a)

Question No 6:
Metalica Trading Ltd. makes and sells a single product. The company‟s trading results for the
year 2010 are as follows :
Rs. ‟000
Sales 3,000
Direct materials 900
Direct labour 600
Overheads 900
Total cost 2,400

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Profit 600

For the year 2011, the following are expected:

iv) Reduction in the selling price by 10%
v) Increasing in the quantity sold by 50%
vi) Inflation of direct material cost by 8%
vii) Price inflation in variable overhead by 6%
viii) Reduction of fixed overhead expenses by 25%.

It is also known that;

i) In 2009, overhead expenditure totaled to Rs. 800,000.
ii) Total overhead cost inflation for 2010 has been 5% more than in 2009.
iii) Production and sales volumes have been 25% higher in 2010 than in 2009.

Required:
i) Prepare a statement showing the estimated trading results for 2011.
ii) Calculate the break-even point for 2010 and 2011.
iii) Comment on the BEP and profits of the 2010 and 2011. (December 2012)(11 Marks)
Answer
Statement showing trading results

Particulars 2010 2011

A. Sales: 3,000 4,050 (3,000 × 150% × 90%)
B. Less: Variable Costs: Direct material 900 1,458 (900 × 150% × 108%)
Direct labour 600 900 (600 × 150%)
Variable overhead (W.N.1) 300 477 (300 × 150% × 106%)
Total variable cost 1,800 2,835
C. Contribution [A – B] 1,200 1,215
D. Less: Fixed overheads 600 450 (600 × 0.75)
E. Profit [C – D] 600 765

(ii)
P/V Ratio = Contribution /Sales *100 = 1200/3000*100 1215/4050*100
= 40% = 30%
BEP = Fixed Cost / P/V Ratio = 600/40% = 450/30%
= Rs.1500 = Rs. 1500
(iii)
Particulars 2010 2011 % change
BEP 1500 1500 No Change
Fixed overheads 600 450 150/650*100 = 25%
P/V Ratio 40% 30% 10%/40%*100= 25%
Profit 600 765 -165/600*100=- 27.5%

Both fixed cost and P/V ratio have declined by 25% equally. So, BEP sales remain the same.
The contribution is only Rs. 1,215 in 2011 though quantity is increased by 50%. This is due to
increase in production cost and decrease in selling price. This is more than made up by decrease
in fixed cost so that overall profit has increased by 27.5%.

Working notes:
1. Calculation of variable overheads and fixed overheads
Total overheads for same production in 2010 = 800 × 105% = 840
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Variable overheads for 2010 = (900-840)/ (125-100) *125 = 300

Fixed overheads for 2010 = 900 – 300 = 600

Question No 7:
The cost structure of an article the selling price of which is Rs. 45,000 is as follows:
Direct Material 50%
Direct Labour 20%
Overheads 30%
An increase of 15% in the cost of direct materials and of 25% in the cost of direct labour is
anticipated. These increased costs in relation to the present selling price would cause a 25%
decrease in the amount of present profit per article.
Required:
i) Prepare a statement of profit per article at present, and
ii) Calculate the revised selling price to produce the same percentage of profit to sales as before.
(June 2013)(8 Marks)
Answer
Let the total cost of the article be "X".
Now,
Present condition Revised condition
Direct Material 0.5x 0.575x
Direct Labour 0.2x 0.250x
Overheads 0.3x 0.300x
Total 1.0x 1.125x
Selling Price Rs. 45,000 Rs. 45,000
Profit (Rs. 45,000 – x) (Rs. 45,000 – 1.125x)

From the above exercise, following equation can be made:

(Rs. 45,000 – x) – (Rs. 45,000 – 1.125x) = 25% of (Rs. 45,000 – x)
Or, -x + 1.125x = Rs. 11,250 – 0.25x
Or, 0.375x = Rs. 11,250
Or, x = Rs. 30,000.

Statement of profit per article under present condition

Rs.
Direct Material Rs. 30,000 × 0.5 15,000
Direct Labour Rs. 30,000 × 0.2 6,000
Overheads Rs. 30,000 × 0.3 9,000
Total Cost 30,000
Profit (balancing figure) 15,000
Selling Price 45,000
Percentage of profit to cost [Rs. 15,000 / Rs. 30,000 × 100] 50%
Percentage of profit to selling price [Rs. 15,000 / Rs. 45,000 × 100] 33.33%

Statement of profit per article under revised condition

Rs.
Direct Material Rs. 30,000 × 0.575 17,250
Direct Labour Rs. 30,000 × 0.250 7,500
Overheads Rs. 30,000 × 0.300 9,000
Total Cost 33,750
Profit (50% of cost or 33.33% of selling price) 16,875
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Selling Price 50,625

Question No 8:
Write short note on
a. Objectives of Uniform Costing (June 2013)(2.5 Marks)
Answer
Objectives of Uniform Costing
(i) To facilitate the comparison of costs and performance of different units in the same
industry; it provides objective basis.
(ii) To eliminate unhealthy competition among the different units of an industry.
(iii)To improve production capacity level and labour efficiency by comparing the production
costs of different units with each other.
(iv) To provide relevant cost information or data to the government for fixing and regulating
prices of the products.
(v) To bring standardization and uniformity in the operation of participating units.
(vi) To reduce production, administration, selling & distribution costs, and to exercise control on
fixed costs.

b. Limitations of Uniform Costing (December 2013)(2.5 Marks)

Answer
(i) Sometimes it is not possible to adopt uniform standards, methods and procedures of costing
in different firms due to differing circumstances in which they operate. Hence, the adoption
of uniform costing becomes difficult in such firms.
(ii) Disclosure of cost information and other data is an essential requirement of a uniform
costing system. Many firms do not wish to share such information with their competitors in
the same industry.
(iii)Small firms in an industry believe that uniform costing system is only meant for big and
medium size firms, because they can't afford it.
(iv) It induces monopolistic trend in the business, due to which prices may be increased
artificially and supplies withheld.

Question No 9:
The following information is available from the financial books of a company having a normal
production capacity of 60,000 units for the year ended 31st March, 2014:
 Sales Rs. 10,00,000 ( 50,000 units)
 There was no opening and closing stock of finished units.
 Direct Material and direct wages cost were Rs. 5,00,000 and Rs. 2,50,000 respectively.
 Actual factory expenses were Rs. 1,50,000 of which 60% are fixed.
 Actual administrative expenses were Rs. 45,000 which are completely fixed.
 Actual selling and distribution expenses were Rs. 30,000 of which 40% are fixed.
 Interest and dividends received Rs. 15,000.
You are required to:
i) Find out profit as per financial books for the year ended 31st March, 2014.
ii) Prepare the cost sheet and ascertain the profit as per cost accounts for the year ended 31st
March 2014 assuming that the indirect expenses are absorbed on the basis of normal
production capacity; and
iii) Prepare a statement reconciling profit shown by financial and cost books.
(December, 2014)(10 Marks)
Answer
As per Financial Books
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Profit and Loss Account

( for the year ended 31st March 2014)

To Direct Material Rs. 5,00,000 By Sales ( 50,000 units) Rs. 10,00,000

To Direct Wages 2,50,000 By Interest and dividend 15,000
To Factory Expenses ( Actual) 1,50,000
To Admn. Exenses 45,000
To Selling and Distribution 30,000
To Profit 40,000 _____________
10,15,000 10,15,000
As per above account, profit is Rs. 40,000 for the year ended 31st March, 2014.

Cost Sheet
( for the year ended 31st March, 2014)
__________________________________________________________________________
Normal Production capacity ( units) 60,000
Sales/ Production ( units) 50,000

Direct material Rs. 5,00,000

Direct wages 2,50,000
Prime cost 7,50,000
Factory overhead - Variable Rs. 60,000
- Fixed Rs. 90,000 X 5/6 75,000 1,35,000
Works cost 8,85,000
Administrative expenses Rs. 45,000 X 5/6 37,500
Total cost of production 9,22,500
Selling and distribution expenses
- Variable Rs. 18,000
- Fixed Rs. 12,000 X 5/6 10000 28,000
Cost of Sales 9,50,500
Profit ( balance) 49,500
Sales 10,00,000

Reconciliation Statement
Profit as per Cost Accounts Rs. 49,500
Add: Income from dividend ( not considered in Cost Accounts) 15,000 64,500

Less: Expenses undercharged in Cost Accounts:

i) Factory expenses ( 1,50,000-1,35,000) 15,000
ii) Adm. Expenses ( 45,000-37,500) 7,500
iii) Selling & Distribution ( 30,000-28,000) 2,000 24500
Profit as per financial accounts 40,000

Question No 10:
Interest should not be included in cost accounts since it is not an item of cost and
would vary with different methods of financing. (July, 2015)(2.5 Marks)
Answer
Treatment of interest as part of cost has always been controversial. However, the
arguments for not including interest as part of cost is as follows:
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Payment of interest depends entirely on the financing policies and financing pattern. A firm
working with proprietor‟s capital only will have no interest to pay whereas a firm working with
borrowed capital will have to pay a large amount of interest. In reality, whether a firm raises a
certain sum of money from the proprietor or borrows from the outside does not make difference
as far as production efficiencies are concerned. Hence, the cost where production is being made
with proprietor‟s fund will have favorable results resulting wrong conclusions. Even if notional
interest on proprietor‟s capital is included in the cost of production, this would result in as
adding profit component since the closing stock will be valued at a higher figure.

Another difficulty is to work out the amount of capital on which interest is to be worked out.
While a fixed capital is readily ascertainable, the working capital keeps on changing and may be
used by different departments or projects not related to production at different points of time.

Though it is not practical to include interest in cost of production, excluding altogether may lead
to wrong managerial decisions which may not be desirable. Therefore, the way forward would
be excluding interest from regular cost sheet and cost calculations but for other purpose of
decision making, notional interest should be included as part of cost where interest is material.

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Chapter 6:

Cost Accounts System, Cost Control

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Question No 1
What is integral accounting? Briefly describe its main features. (June 2010)(5 Marks)
Answer
Under integral accounting, financial and costing transactions are recorded in one self contained
ledger called integral ledger. When integral accounting is used, there will be no need for
reconciliation of costing and financial results.
The principal features of integral accounting are as follows:
i) Records are maintained to undertake complete analysis of cost and sales.
ii) Complete details regarding all receipts and payments are kept.
iii) Records to show all the details of assets and liabilities are kept. This system does not use a
notional account to represent all impersonal accounts.
In non-integral system, a cost control account or general ledger adjustment account is used in
cost ledger. In integral accounting system, this adjustment account is not used. Instead, detailed
accounts for assets and liabilities are maintained.
In integral system, all accounts necessary for the classification of cost is used. The use of
following accounts replaces the general ledger adjustment account as used in non-integral
accounting system:
(i) Bank account
(ii) Debtors account
(iii) Creditors account
(iv) Provision for depreciation account
(v) Discount account
(vi) Fixed assets account
(vii) Share Capital account, etc.

Question No 2:
A company is producing three types of products, A,B,C. The sales territory of the company is
divided into three areas X,Y and Z. The estimated sales for the year are as under:
Territories
X Y Z
Product Rs. Rs. Rs.
A 50,000 20,000
B 30,000 - 80,000
C - 70,000 40,000

Budgeted advertising cost is as under:

Territories
X Y Z Total
Rs. Rs. Rs.
Local cost 3,200 4,500 4,200 11,900
General - - - 5,800

You are required to find the advertising cost per cent on sales for each product and territory
showing how you will present the statement to management. (June 2010)(10 Marks)
Answer
General advertising cost of Rs. 5,800 is allocated to territories on the basis of sales value, as
follows:
Sales Value General advertising
cost
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Territory X: Product A 50,000 1,000

Product B 30,000 80,000 600 1,600
Territory Y: Product A 20,000 400
Product C 70,000 90,000 1,400 1,800
Territory Z: Product B 80,000 1,600
Product C 40,000 120,000 800 2,400
Total : 5,800
Local costs allocated to territories are apportioned to products on the basis of sales value:
Territory X: Product A 50,000 2,000
Product B 30,000 80,000 1,200 3,200
Territory Y: Product A 20,000 1,000
Product C 70,000 90,000 3,500 4,500
Territory Z: Product B 80,000 2,800
Product C 40,000 120,000 1,400 4,200
Total: 11,900

Presentation of advertisement cost to the management will be made in the following statement:
Territories
X Y Z Total % on Sales
Product A 3,000 1,400 - 4,400 6.28
Product B 1,800 - 4,400 6,200 5.64
Product C - 4,900 2,200 7,100 6.45
Total 4,800 6,300 6,600 17,700 6.10
% on Sales 6.00 7.00 5.50 6.10

Question No 3:
What items are generally included in good uniform costing manual? (June 2010)(2 Marks)
Answer
Uniform costing manual includes essential information and instructions to implement accounting
procedures.
(i) Introduction: It includes objects and scope of the planning.
(ii) Accounting procedure and planning includes rules, and general principle to be followed.
(iii) Cost accounting planning includes methods of costing, relation between cost and financial
accounts and methods of integration.

Question No 4:
The manufacturing cost of a work order is Rs. 1,000. 8% of the production against that order is
spoiled and the rejection is estimated to have a realizable value of Rs. 20 only. The normal rate
of spoilage is 2%.
You are required to record this in the costing journal. (December 2010)(4 Marks)
Answer
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Actual loss is Rs.60, i.e. Rs. 80 less Rs. 20 recoverable as materials. Of this net loss, Rs. 15 is
normal and Rs. 45 is the abnormal loss to be debited to the Costing profit and Loss account. The
accounting entries necessary for recording the above facts would be:
Rs. Rs.
Materials Control Account Dr. 20
Overhead Control account Dr. 15
Costing Profit and Loss Account Dr. 45

To Work-in Progress Control Account 80

In the case of defectives, being inherent in the manufacturing process, the rectification cost may
be charged to the specific jobs in which they have arisen. In case defectives cannot be identified
with jobs, the cost of rectification may be treated as factory overheads. Abnormal defectives
should be written off to the costing Profit and Loss Account.

Question No 5:
Explain briefly the factors to be considered before establishing an integrated cost accounting
system. (December 2011)(4 Marks)
Answer
The following factors should be considered before establishing an integrated cost
accounting system:
i) Degree of integration: The degree of integration should be determined. Some business
firms may integrate up to the stage of prime cost or factory cost. On the other hand,
many undertakings integrate the whole of the records.
ii) Control accounts: In place of classifying expenditure according to its nature, control
accounts may be prepared for each of the elements of cost, such as:
Material Control Account
Direct Labor Control Account
Factory Overhead Control Account
Administrative Overhead Control Account
Selling and Distribution Overhead Control Account
Some of the above control accounts should be separated into fixed and variable
depending on the circumstances.
iii) Cost accumulation purposes: Full details about the cost data are provided in the cost
accounting department so as achieve the following objectives;
a. To provide the necessary costing data
b. To form the basis of journal entries so that the control accounts can be cleared to
suitable revenue accounts resulting into a cost of sales accounts
iv) Provision for accrued expenses, prepayments and stocks should be dealt with by transfers to
suitable suspense accounts, so that the balance remaining in each control account represents
the charges for the period

Question No 6:
Distinguish between
Integrated accounting system and Uniform costing (June 2012)(2.5 Marks)
Answer
Integrated accounting system is the one which contains both financial and cost accounts in a
single book-keeping system. Thus, it discards the concept of requirement of separate profit and
loss account for financial and costing purpose. For implementation of integrated accounting
system, factors such as degree of integration of records, preparation of control accounts for

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various elements of costs, details of cost data to be provided to cost accounting department, and
need for creation of suspense accounts should be considered.
Uniform costing is defined as the use by several undertakings of the same costing principles and/
or practices. It is not a separate method of cost accounting; it only points to a situation where a
number of business firms are applying similar costing principles and practices. The designing
and applications of uniform costing require that a uniform cost manual containing instructions,
clarifications, rules and guidelines about cost determination, cost analysis and cost control,
should be developed and circulated among the undertakings deciding to use uniform costing.

Question No 7:
Shyam Enterprises operating an integral system of accounting. The following
transactions incurred for the year end 2012.

Transaction Amount (Rs.)

Raw material Purchased (40% in cash) 10, 00,000
Material issued to production 6, 00,000
Wages paid (50% Direct) 2, 00,000
Wages charged to production 1, 20,000
Factory Overhead paid 1, 20,000
Factory Overhead charged to Production 110,000
Selling and distribution overhead paid 30,000
Finished goods finalized at cost 6, 50,000
Sales (70% in credit) 11, 00,000
Closing stock of finished goods -
Payment received from Customer 3, 00,000
Paid to supplier 5, 00,000

You are required to pass journal Entries in the books of Shyam Enterprises under integrated
system of accounting for the period ended 2012. (June 2013)(5 Marks)
Answer
Journal Entries in the books of Shyam Enterprises under integrated system of accounting for the
period ended 2012.

Store Ledger Control A/C Rs.10,00,000

To Sundry Creditors A/C Rs.6,00,000
To Cash/Bank A/C Rs.400,000
(Material purchased)
.............

Work-in-Progress Control A/C Rs.6,00,000

To Store Ledger Control A/C Rs.6,00,000
( Material issued to production)
.............

Wages Control A/C Rs.200,000

To Cash/Bank A/C Rs.200,000
(Wages Paid)
.............

Work-in-Progress Control A/C Rs.1,20,000

To Wages Control A/C Rs.1,20,000
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(Wages charged to production)

.............

Factory Overhead Control A/C Rs.120,000

To Cash/Bank A/C Rs.120,000
( Factory overhead paid)
.............

Work –in Progress Control A/C Rs.110,000

To Factory Overhead Control A/C Rs.110,000
(Factory overhead charged to production)
.............

Selling and Distribution Overhead Control A/C Rs.30,000

To cash/Bank A/C Rs.30,000
(Selling/distribution overhead paid)
.............

Finished Stock Ledger Control A/C Rs.650,000

To Work-in-progress Control A/C Rs.650,000
(Cost of finished goods transferred from work in progress)
.............

Cost of Sales A/C Rs.6,80,000

To Finished Stock Ledger Control A/C Rs.650,000
To Selling and Distribution control A/C Rs.30,000
.............

Sundry Debtors Account Rs.770,000

Cash/Bank A/C Rs.330,000
To Sales Control Account Rs.11,00,000
(Finished stock sold)
.............

Cash/Bank Account Rs.300,000

To Sundry Debtors A/C Rs.300,000
( Amount received from customer)
.............

Sundry Creditors A/C Rs.500,000

To Cash/Bank A/C Rs.500,000
( Payment made to creditors)
.............

Question No 8:
Distinguished between
Production account and Cost Sheet (December, 2014)(2.5 Marks)
Answer
The following are the points of difference between a Production Account and a Cost Sheet.

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i. Production Account is based on double entry system whereas cost sheet is not based on
double entry system.
ii. Production Account consists of two parts. The first part shows cost of the components
and total production cost. The second part shows the cost of sales and profit for the
period. Cost sheet presents the elements of costs in a classified manner and the cost is
ascertained at different stages such as prime cost; works cost of production; cost of
goods sold; cost of sales and total cost.
iii. Production account shows the cost in aggregate and thus facilitates comparison with
other financial accounts. Cost sheet shows the cost in detail and analytical manner which
facilitates comparison of cost for the purpose of cost control.
Production account is not useful for preparing tenders or quotations. Estimated cost sheets can
be prepared on the basis of actual costs sheets and these are useful for preparing tenders or
quotations.

Question No 9:
The following information has been extracted from the cost records of a
manufacturing company during 2070/71.
Rs.
Stores
Opening balance 9,000
Purchases 48,000
Transfer from WIP 24,000
Issue to work-in –progress 48,000
Issue for repairs 6,000
Deficiency found in stock 1,800
Work-in-progress
Opening balance 18,000
Direct wages applied 18,000
Overhead charged 72,000
Closing balance 12,000
The entire production of the year 2070/71 is sold at a profit of 10% on cost from work-in-
progress. The total amount of wages paid and overhead incurred during the year was Rs. 21,000
and Rs. 75,000 respectively.

Required:
Draw General Ledger Adjustment account, Stores Ledger Control account, Work-in –progress
Control account, Overheads Control Account and Costing Profit and Loss account.
(July, 2015)(10 Marks)
Answer
General Ledger Adjustment Account
Particulars Rs. Particulars Rs.
To Costing P&L A/c 1,32,000 By Balance b/d 27,000
To Balance c/d 51,000 By Stores Ledger Control A/c 48,000
By Wages Control A/c 21,000
By Overheads Control A/c 75,000
By Costing P&L A/c 12,000
(Profit)
1,83,000 1,83,000

Stores Ledger control Account

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Particulars Rs. Particulars Rs.

To Balance b/d 9,000 By Work-in-progress 48,000
To General Ledger Adjustment A/c 48,000 By Overheads Control A/c 6,000
To Work-in-progress Control A/c 24,000 By Overheads Control A/c 1,800*
(Deficiency)
By Balance c/d 25,200
81,000 81,000
*Deficiency is treated as normal loss (Alternatively can be treated as abnormal Loss)

Work-in-process control Account

Particulars Rs. Particulars Rs.
To Balance b/d 18,000 By Stores Ledger Control A/c 24,000
To Stores Ledger Control A/c 48,000 By Costing P& L A/c 1,20,000
(Balancing figures being cost
of finished goods)
To Wages Control A/c 18,000 By Balance c/d 12,000
To Overheads Control A/c 72,000
1,56,000 1,56,000

Overheads control Account

Particulars Rs. Particulars Rs.
To Stores Ledger Control A/c 6,000 By Work-in-progress Control A/c 72,000
To Stores Ledger Control A/c 1,800 By Balance c/d 13,800
(Under-absorption)
To Wages Control A/c 3,000
(21,000-18,000)
To General Ledger Adjustment A/c 75,000
85,800 85,800

Costing Profit & loss Account

Particulars Rs. Particulars Rs.
To Work-in-progress Control A/c 1,20,000 By General Ledger Adjustment A/c 1,32,000
(Sales: 1,20,000+12,000)
To General Ledger Adjustment A/c 12,000
(Profit)
1,32,000 1,32,000

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Chapter 7:

Methods of Costing

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Question No 1:
Component CT is made entirely in a machine shop. Material cost is Rs. 15 per component. Each
component requires 4 minutes to produce and the machine operator is paid Rs. 90 per hour.
Machine hour rate is Rs. 360 per hour.
It takes 2 hours for the operator to set up the machine before the production of components can
take place.
You are required to prepare cost sheet showing the setting up costs and production costs, both in
total for the batch and per component, assuming a batch size of 500 components.
(June 2010)(5 Marks)
Answer

A. Setting up cost: Total Batch Cost per

Cost Component
Wages (2 hours @ Rs. 90) Rs. 180
Machine Expenses (2 hours @ Rs. 360 per hour) 720
Total Setting up cost: 900 1.80
B. Production cost
Material (500 X Rs. 15) 7,500
Wages (500 X 4 minutes X Rs. 90/60) 3,000
Machine Expenses (500 X 4 minutes X 360/60) 12000
Total Production Cost 22,500 45.00
Total Setting up and Production Cost 23,400 46.80

Question No 2
Nepal Travels runs 20 buses in various routes of Kathmandu and Dhulikhel which are 25
kilometer apart. Seating capacity of each bus is 40 passengers. The expenses for the month of
Chaitra 2066 were as follows:
Salaries of the drivers and conductors : Rs. 2,60,000
Salaries of mechanical staff : Rs. 30,000
Diesel oil and lubricants : Rs. 4,80,000
Taxes and Insurance : Rs. 28,000
Repairs and Maintenance : Rs. 1,04,000
Depreciation : Rs. 4,18,000
Seating capacity utilized was 60%. All the buses ran 25 days of the month. Each bus made four
round-trips.
You are required to find:
Cost per passenger kilometer and cost per round trip per passenger. (June 2010)(5 Marks)
Answer
Calculation of Cost per Passenger Km. & Cost per round trip
Since the two destinations are 25 kms. apart, a round trip will cover 50 kms.
Four round trips are made for 25 days
Total running in a month = 50 kms. X 4 trips X 25 days X 20 buses = 100,000 Kms
Seating Capacity utilized = 60% or 24 passengers
Therefore, passenger kilometer run = 24 X 100,000 = 2,400,000
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Total cost per month = Rs. (260,000 + 30,000 + 480,000 + 28,000 + 104,000 +
418,000)
= Rs. 1,320,000
Cost per passenger kilometer = Rs. 1,320,000/Rs. 2,400,000 = Rs. 0.55
Cost per round trip per passenger = 50 X Rs. 0.55 = Rs. 27.50

Question No 3:
Describe what do you understand by engineered costs? (June 2010)(2 Marks)
Answer
Engineered costs are built into the product or output and an organization cannot avoid incurring
them. For example, direct material, direct labor and directly related overhead are designed into
the product and simply must be incurred if output is to be achieved.
Engineered costs should be contrasted with discretionary costs, the level of which is determined
solely by management. For example, the level of R & D, marketing and selling, and maintenance
expenditures are determined by management and are not necessarily related to the level of
productive output.

Question No 4:
A farm incurred Rs. 65,000 of production cost in a joint process to grow a crop with two joint
products, A and B. The following are data related to the operations:
Joint Tons of Sales Price per Per Ton Separate Per Ton Separate Per Ton
Products Production Ton at Split-off costs if sold at costs if processed Final Sales
(Rs.) Split-off (Rs.) further (Rs.) Price (Rs.)
A 45 950 50 236 1,450
B 20 1200 110 200 1,600
You are required to allocate the joint process cost to A and B using:
i) Sales value at split-off.
ii) Net realizable value at split-off.
iii) Approximated net realizable after split-off. (December 2010)(8 Marks)
Answer
(i) Allocation of the joint process cost using the sales value at split-off

Joint Tons of Sales Price Sales Ratio of Joint Allocated

Products Production per Ton at Value Allocation Cost Joint
Split-off (Rs.) (Rs.) Cost
(Rs.) (Rs.)
A 45 950 42,750 64% 65,000 41,600
B 20 1200 24,000 36% 65,000 23,400
Total 65 66,750 65,000

Working note 1:
Ratio of Allocation = Sales Value of Each Product/ Total Sales Value
A= 42750/66750 =0.64 =64%
B= 24000/66750 =0.36 =36%

(ii) Allocation of the joint process cost using the net realizable value at split-off
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Joint Tons of NRP per Net Ratio of Joint Allocated

Products Production Ton at Realizable Allocation Cost Joint
Split-off Value (Rs.) Cost
(Rs.) (Rs.) (Rs.)
A 45 900 40,500 65% 65,000 42,250
B 20 1,090 21,800 35% 65,000 22,750
Total 65 62,300 65,000

Working note 2:
NRP at split-off = SP at split-off – sales cost at split off
A= Rs.950-Rs.50=Rs.900
B= Rs.1,200-Rs.110= Rs.1,090

Ratio of Allocation = NRV of Each Product/ Total NRV

A= 40500/62300 =0.65 =65%
B= 21800/62300 =0.35 =35%

(iii) Allocation of the joint process cost using the approximated net realizable value
after split-off

Joint Tons of Approx. Approx. Ratio of Joint Allocated

Products Production NRP per Net Allocation Cost Joint
Ton after Realizable (Rs.) Cost
Split-off Value (Rs.)
(Rs.) (Rs.)
A 45 1,164 52,380 67% 65,000 43,550
B 20 1,290 25,800 33% 65,000 21,450
Total 65 78,180 65,000

Working note 3:
NRP at split-off = Final SP – sales cost at split off – further processing cost
A= Rs.1,450-Rs.50-Rs.236=Rs.1,164
B= Rs.1,600-Rs.110-Rs.200= Rs.1,290

Ratio of Allocation = Approx. NRV of Each Product/ Total NRV

A= 52380/78180 =0.67 =67%
B= 25800/78180 =0.33 =33%

Question No 5:
Sharma Engineering Company undertakes long-term contracts which involve the fabrications of
pre-stressed concrete blocks and the erection of the same on consumer‟s site.
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The following information is supplied regarding the contract which is incomplete on 32 Ashadh
2067:
Rs.
Cost incurred:
Fabrication costs to date:
Direct materials 280,000
Direct labour 90,000
Overheads 75,000
445,000
Erection cost to date 15,000
Total: 460,000
Contract price 819,000
Cash received on account 600,000
Technical estimate of work completed to date:
Fabrication 80%
Direct labour and overheads 75%
Erection 25%
You are required to prepare a statement for submission to the management indicating therein
the:
i) Estimated profit on the completion of the contract, and
ii) Estimated profit to-date on the contract. (December 2010)(9 Marks)

Answer
Statement showing the Estimated Profit to date and on Completion of Contract
Cost to Date
% % Further Total
Cost Elements Completion (Amount in Completion Cost Rs. Cost Rs.
Rs.)
Fabrication Cost:
Direct materials 80 280,000 20 70,000 350,000
Direct labour 75 90,000 25 30,000 120,000
Overheads 75 75,000 25 25,000 100,000
Sub-total: Fabrication Cost 445,000 125,000 570,000
Erection cost 25 15,000 75 45,000 60,000
Total Rs. 460,000 170,000 630,000
Estimated profit 138,000 51,000 189,000
(See Working Note 1) 598,000 221,000 819,000

Working Notes:
1. Estimated profit to date has been calculated as follows:
Profit on the whole contract x Costs incurred so far = 189,000 x 460,000 = Rs. 138,000
Total contract costs 630,000
The amount of profit to date can also alternatively be calculated on the following basis:

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Estimated profit on the whole contract x Cash received/Contract price

= 189,000 x 600,000 = Rs. 138,462.
819,000
It has been presumed that further costs will be incurred on the same pattern as they
have been incurred until now. There are no chances of increase in costs due to
inflation or any other reason.

Question No 6:
Moon Paints Ltd. has an annual demand from a single customer for 50,000 liters of a paint
product. The total demand can be made up of a range of colour will be produced in a continuous
production run after which a set-up of the machinery will be required to accommodate the colour
change. The total output of each colour will be stored and then delivered to the customer as a
single load immediately before production of the next colour commences.
The set-up costs are Rs. 100 per set-up. This service is supplied by an outside company as
required.
The holding costs are incurred on rented storage space which costs Rs. 50 per sq. meter per
annum. Each square meter can hold 250 liters suitably stacked.
You are required to:
i) Calculate the total cost per year where batches may range from 4,000 to 10,000 liters in
multiples of 2,000 liters and choose the production batch size which will minimize total cost.
ii) Use the economic batch size formula to calculate the batch size which will minimize total
cost. (December 2010)(7 Marks)
Answer
Production batch size which minimizes the total cost
_____________________________________________________________________________
______________________________________________________________________
Production Set-up costs Holding costs Total Costs
Batch size (lit.) per annum (Rs.) per annum (Rs.) per annum (Rs.)
_____________________________________________________________________________
______________________________________________________________________
4,000 1,250 400 1,650
6,000 833 600 1,433
8,000 625 800 1,425
10,000 500 1,000 1,500
_____________________________________________________________________________
_______________________________________________________________________
Working Notes:
For a production batch size of 6,000 liters:
1. Number of set-up per year = 50,000/6,000 = 8.33
Hence annual set-up cost per year = 8.33 x Rs. 100 = Rs. 833
2. Average quantity in stock = 6,000/2 = 3,000 liters
This assumes a constant rate of production. At the start of a batch, stock is zero. At the end, the
stock equals the batch size. Hence, on an average, 50% of the batch is on stock at any point of
time.
Holding cost = 3,000 liters x Rs. 50/250 = Rs. 600.

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The above table clearly reveals that the total cost is minimum at Rs. 1,425 when the production
batch size is 8,000 liters.

(i) Batch Size which minimizes total cost as per Economic Batch Size Formula

Economic production batch size = √ = √ = 7,071.

Question No 7:
Mention the main advantage of cost plus contracts. (December 2010)(2.5 Marks)
Answer
 Contractor is protected from risk of fluctuation in market price of material, labour and
services.
 Contractee can insure a fair price of the market.
 It is useful specially when the work to be done is not definitely fixed at the time of making
the estimate.
 Contractee can ensure himself about „the cost of the contract‟ as he is empowered to
examine the books and documents of the contractor to ascertain the veracity of the cost of
the contract.

Question No 8:
A Company produces two joint products P and Q in 70 : 30 ratio from basic raw materials in
department A. The input output ratio of department A is 100 : 85. Product P can be sold at the
split of stage or can be processed further at department B and sold as product AR. The input
output ratio is 100 : 90 of department B. The department B is created to process product A only
and to make it product AR.

The selling prices per kg. are as under:

Product P Rs. 85
Product Q Rs. 290
Product AR Rs. 115
The production will be taken up in the next month.
Raw Materials 8,00,000 kgs.
Purchase price Rs. 80 per kg.

Monthly expenses:
Dept. A Dept. B
Rs. in lakhs Rs. in lakhs

Direct Materials 35.00 5.00

Direct Labour 30.00 9.00
Variable overheads 45.00 18.00
Fixed overheads _40.00 _32.00
Total 150.00 64.00

Selling Expenses:
Rs. in lakhs
Product P 24.60
Product Q 21.60
Product AR 16.80

Required:
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i) Prepare a statement showing the apportionment of joint costs.

ii) State whether it is advisable to produce product AR or not. (June 2011)(8 Marks)
Answer
Input in Dept. „A‟ 800,000 kgs.
Yield 85%
Therefore output = 85% of 8,00,000 = 6,80,000 kgs.
Ratio of output for P and Q = 70 : 30
Product of P = 70% of 6,80,000 = 4,76,000 kgs.
Product of Q = 30% of 6,80,000 = 2,04,000 kgs.

(i) Statement showing apportionment of Joint cost

P Q Total
Product Kgs. 4,76,000 2,04,000
Selling price per kg. Rs. 85.00 290.00
Rs. Lakhs Rs. Lakhs Rs. Lakhs
Sales 404.60 591.60 996.20
Less: Selling expenses __24.60 __21.60 __46.20
Net Sales _380 __570 _950
Ratio 40% 60% 100%

Rs. In lakhs
Raw materials (8,00,000 kgs. ×Rs. 80) 640
Process cost of department „A‟ __150
__790
Apportionment of Joint Cost
(In the ratio of Net Sales i.e. P : Q, 40% : 60%)
joint cost of „P‟ = Rs. 316 lakhs
Joint cost of „Q‟ = Rs. 474 lakhs

(ii) Profitability statement of further processing of product „P‟ and converting it into
product „AR‟

Output = 90% of 4,76,000 kgs. = 4,28,400 kgs. Rs. in lakhs

Joint costs (As above) 316.00
Cost of department B 64.00
Selling expenses _16.80

396.80
Sales value (Rs. 115×4,28,400) 492.66
Profit (492.66-396.80) __95.86

If „P‟ is not processed profitability is as under:

Rs. in lakhs
Sales 380.00
Less: joint expenses 316.00
Profit __64.00

Further processing of product „P‟ and converting it into product „AR‟ is beneficial to the
company because the profit is increased by Rs. 31.86 lakhs (95.86-64.00).

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Question No 9:
At the end of first year on 31st March, 2011 in the books of ABC Constructions Ltd. the Bridge
Contract Account stands debited with the cost of material issued, labour, overheads expended
and plant issued and it stands credited with material at site Rs. 25,000; material returned Rs.
15,000 and plant at site Rs. 476,000 after charging depreciation at 15 percent. The material
issued, labour, overheads and plant issued debited to the contract account, are in the ratio of 5: 4:
2: 4. The contractee's architect had certified 75 percent of the contract as completed at the end of
the year and 90 percent of the certified work value had been received in cash Rs. 1,620,000. The
accounts department informs that 2/3 of the profit on cash basis credited to Profit and Loss
account on the contract is Rs. 213,600
You are required to prepare the Bridge Contract Account showing the cost of work done but
uncertified. (June 2011)(8 Marks)
Answer
Bridge Contract Account for the year ended 31st March, 2011
Particulars Rs. Particulars Rs.
To Material issued 700,000 By Material at site 25,000
To Labour 560,000 By Material returned 15,000
To Overheads 280,000 By Plant at site 476,000
To Plant issued 560,000 By Work-in-Progress A/c:
To Notional Profit [W.N. 2] 356,000 Work certified 1,800,000
Work uncertified 140,000* 1,940,000
2,456,000 2,456,000
To P/L A/c 213,600 By Notional Profit b/d 356,000
To Reserve A/c 142,400
356,000 356,000
* Balancing figure.

Working Notes:
1. Calculation of the amount of Material issued, Labour, Overheads and Plant
issued:
(i) Cost of Plant issued = Rs. 476,000 × 100/85 = Rs. 560,000. [Depreciation @ 15%]

(ii) The ratio of Material issued, Labour, Overheads and Plant issued
had been given 5 : 4 : 2 : 4. So, the element wise amount would be:

Material issued Rs. 560,000 × 5/4 = Rs. 700,000

Labour Rs. 560,000 × 4/4 = Rs. 560,000
Overheads Rs. 560,000 × 2/4 = Rs. 280,000
2. Calculation of amount of Notional Profit:
Profit taken to P/L A/c = Notional Profit × 2/3 × Cash Received/Work Certified.
Rs. 213,600 = Notional Profit × 2/3 × 90/100.
Notional Profit = Rs. 213,600 × 3/2 × 100/90
= Rs. 356,000.
3. Value of Work certified: Cash received being 90% of Work certified.
Cash Received × 100/90
= Rs. 1,620,000 × 100/90 = Rs. 1,800,000

Question No 10:
Distinguish between
Job costing and Process costing (June 2011) (December 2013)(2.5 Marks)
Answer
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Job costing relates to a costing system where each unit or batch of output of products or services
is unique. This creates the need for the cost of each unit or batch to be calculated separately.
Direct costs and factory overheads are allocated to individual units of production and the
finished goods stock consists of stock of unlike units. In contrast, a process costing system
relates to the situation where masses of identical units or batches are produced thus making is
unnecessary to assign costs to individual units or batches of output. Instead, the average cost per
unit or batch of output is calculated by dividing the total costs assigned to a product or services
of the period by the number of units or batches of output for that period. Direct costs and
factory overhead costs are allocated to processes. When units are completed, they are
transferred to finished goods stock at average unit cost. Therefore, the finished goods stock
consists of stock of like units valued at average unit cost of production.

The main difference between the two is the cost object used for cost accumulation. Job costing
is when for example a tradesman comes to give you a quote for how much he is willing to do
the job/repair that you want to be done, whereas process costing are what a business has to
spend in order to keep functioning, overheads etc.

Question No 11:
Write short note on
Limitations of uniform costing (June 2011)(2.5 Marks)
Answer
The following are the limitations of uniform costing:
(i) Sometimes it is not possible to adopt uniform standards, methods and procedures of
costing in different firms due to differing circumstances in which they operate. Hence, the
adoption of uniform costing becomes difficult in such firms.
(ii) Disclosure of cost information and other data is an essential requirement of a uniform
costing system. Many firms do not wish to share such information with their competitors
in the same industry.
(iii) Small firms in an industry believe that uniform costing system is only meant for big and
medium size firms, because they can't afford it.
(iv) It induces monopolistic trend in the business, due to which prices may be increased
artificially and supplies withheld.

Question No 12:
In a chemical manufacturing company, three products A, B and C emerges at a single split off
stage in department P. Product A is further processed in department Q, Product B in department
R and Product C in department S. There is no loss in further processing of any of the three
products. The cost data for a particular month are as under:
Rs.
Cost of raw materials introduced in department P 1,268,800
Direct Wages: Department P 384,000
Department Q 96,000
Department R 64,000
Department S 36,000
Factory overheads of Rs. 464,000 are to be apportioned to the departments on direct wages
basis. During the month under reference, the company sold all three products after processing
them further as under:
A B C

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Output sold in kg. 44,000 40,000 20,000

Selling Price per kg. (Rs.) 32 24 16
There is no Opening or Closing Stocks. If these products were sold at the split off stage i.e.
without further processing, the selling prices would have been Rs. 20, Rs. 22 and Rs. 10 per kg.
for A, B and C respectively.
Required:
i) Prepare a statement showing the apportionment of joint costs to three products.
ii) Prepare a statement showing product-wise and total profit for the month under reference as
per the company's current processing policy.
iii) What processing decision should have been taken to improve the profitability?
iv) Calculate the product-wise and total profit arising from your recommendation in (iii).
(December 2011)(10 Marks)
Answer
i) Statement showing the apportionment of joint costs to joint products:
Particulars A B C Total
Output sold in kg. 44,000 40,000 20,000
Selling price per kg. at split off (Rs.) 20 22 10
Sales value at split off (Rs.) 880,000 880,000 200,000 1,960,000
Ratio 22 22 5
Joint costs apportioned(W.N. a) 880,000 880,000 200,000 1,960,000

Working Note (a)

Computation of joint cost:

Cost of raw materials 1,268,800
Direct wages 384,000
Factory overhead (464000/580000×384000) 307,200
(Apportioned on direct wages basis.) 1,960,000

(ii) Statement showing product-wise and total profit for the month under reference as
per company's current processing policy:
Particulars A B C Total
Output sold in kg. 44,000 40,000 20,000
Selling price per kg. (Rs.) 32 24 16
Sales value (Rs.) 1,408,000 960,000 320,000 2,688,000
Joint costs (Rs.) 880,000 880,000 200,000 1,960,000
Further processing costs (Rs.)
172,800 115,200 64,800 352,800
W.N. (b)
Total costs (Rs.) 1,052,800 995,200 264,800 2,312,800
Profit / (Loss) (Rs.) 355,200 (35,200) 55,200 375,200

Working Note (b) Q R

S

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Direct wages 96,000 64,000

36,000

Factory Overhead (464,000/580,000×96,000) (464,000/580,000×64,000)

(464,000/580,000×36,000)
(Apportioned on direct wages basis) =76,800 =51,200
=28,800
172,800 115,200
64,800

(iii) Statement of incremental profit on further processing:

Particulars A B C
Output sold in kg. 44,000 40,000 20,000
Incremental selling price per kg (Rs.) 12 2 6
Incremental sales value (Rs.) 528,000 80,000 120,000
Further processing costs (Rs.) 172,800 115,200 64,800
Profit / (Loss) (Rs.) 355,200 (35,200) 55,200

Processing decision:
44,000 kg of product A and 20,000 kg of product C should be further processed because the
incremental sales revenue generated after further processing is more than the further
processing costs incurred. 40,000 kg of product B should be sold at the point of split off
because the incremental revenue generated after further processing is less than the further
processing costs incurred.

(iv) Product-wise and total profit arising from the recommendation in (iii) is as follows:

Profit for A 355,200

Profit for C 55,200
Profit for B (At split -off)
Sales- (as per i above) 880,000
Less: Joint cost (W.N.a) 880,000
Profit /Loss Nil
Total Profit 410,400

W.N (C): Costs incurred in the department P are joint costs of products A, B and C. Similarly
costs incurred in the departments Q, R and S are further processing costs of products A, B and
C respectively.
Question No 13:
Siddhartha Transport Pvt. Ltd. has been given a route of 300 km. long to run bus. The bus costs
Rs. 4,000,000. It has been insured at 3% p.a. and the annual tax will amount to Rs. 2,000. Garage
rent is Rs. 800 per month. Annual repairs will be Rs. 30,000 and the bus is likely to last for 8
years. The driver and the conductor‟s salary will be Rs. 15,000 and Rs. 10,000 per month
respectively in addition to 10% of takings as commission, to be shared equally. Office expenses
including stationery will be Rs. 1,600 per month. A manager cum accountant is employed for a
monthly salary for Rs. 20,000. The bus gives mileage of 3 km. per liter of fuel, which costs Rs.

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85 per liter. The bus will make one round trip in 2 days carrying on an average 40 passengers on
each single way trip. The bus will run on an average 28 days in a month.
Required:
Assuming 20% profit on takings, calculate the bus fare to be charged from each passenger for a
single way trip, and bus fare per passenger km. (December 2011)(8 Marks)

Answer
Statement showing charge per passenger for single way trip
Particulars Annual Amount Monthly Amoun
(Rs.) (Rs.)
Standing charges:
Insurance premium @3% on Rs.4,000,000 120,000.00 10,000.0
Tax 2,000.00 166.6
Garage rent 800.0
Driver's salary 15,000.0
Conductor's salary 10,000.0
Office expenses 1,600.0
Manager cum accountant's salary 20,000.0
Total standing charges 57,566.6
Running expenses:
Depreciation 500,000.00 41,666.6
Repairs 30,000.00 2,500.0
Fuel 238,000.0
Total running charges excluding commission 282,166.6
Total cost without commission 339,733.3
Commission (WN1) 48,533.3
Total Cost 388,266.6
Profit 97066.
Total Takings 485,333.3
Fare per passenger per single way trip (485,333.33/1120) 433.3
Fare per passenger km (485,333.33/336000) 1.4

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Working Note:1
Let total taking be x
Commission = 10% of x = x/10
Profit = 20% of x = x/5
Now,
x = 339733.33+x/10+x/5
x-x/10-x/5 = 339733.33
(10x-x-2x)/10 =339733.33
7x = 3397333.30
x = 3397333.30/7
x = 485333.33
Now,
Commission = 10% of 485,333.33 = Rs.48,533.33
Profit = 20% of 48533.33 = Rs.97,066.67
Working Note:2
Average no.of passengers carried during the month (28/2×2×40) 1120
Average passenger km(28/2×2×40×300) 336000

Cost of fuel
Total distance (km) covered 300× 28 = 8,400
Fuel required = 8,400/3 = 2800 Litre.
Cost per liter = Rs. 85
Total cost = Rs. 85 × 2,800 = Rs. 228,000

Question No 14:
Alcon Construction Company Ltd. commenced its business of construction on 1 st April, 2010.
The Trial Balance as on 31st March, 2011 showed the following balances:
Debit Credit
Particulars
Rs. Rs.
Share capital 1,000,000
Cash received on account of contract - 80% of work certified 1,200,000
Land and Buildings 300,000
Machinery at cost (75% at site) 400,000
Bank balances 40,000
Material at site 400,000
Direct Wages 550,000
Expenses at site 20,000
Lorries and Vehicles 300,000
Furniture 10,000
Office Equipment 100,000
Office Expenses 5,000
Postage and Telegrams 20,000
Rate and Taxes 30,000
Fuel and Power 25,000

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2,200,000 2,200,000
The contract price is Rs. 3,000,000 and work certified is Rs. 1,500,000. The work
completed since certification is estimated at Rs. 10,000 (at cost). Machinery costing Rs. 20,000
was returned to stores at the end of the year. Stock of material at site on 31st March, 2011 was of
the value of Rs. 50,000. Wages outstanding were Rs. 2,000. Depreciation on machinery is at
10% per annum.
Prepare Contract Account showing the profit from the contract and also show how the work-in-
progress will appear in the Balance Sheet as at 31st March, 2011. (December 2011)(9 Marks)
Answer
Contract Account
For the year ending 31st March, 2011
Particulars Rs. Rs. Particulars Rs. Rs.
By Work-in-
To Materials 400,000
progress:
To Machinery (400,000 × 75%) 300,000 Work Certified 1,500,000
Work
To Wages 550,000 10,000 1,510,000
Uncertified
Add: By Machinery
2,000 552,000 20,000
Outstanding returned
To Expenses at Less:
20,000 2,000 18,000
site Depreciation
To Notional Profit c/d 558,000 By Machinery at site 280,000
Less:
28,000 252,000
Depreciation
By Material at site 50,000
1,830,000 1,830,000
To Profit & Loss By Notional Profit
297,600 558,000
A/c (W.N. i) b/d
To WIP – Reserve (balancing
260,400
figure)
558,000 558,000

Extracts from Balance Sheet as at 31st March, 2011

Liabilities Rs. Rs. Assets Rs. Rs.
Work-in-progress:
Work Certified 1,500,000
Work Uncertified 10,000
1,510,000
Less: Reserve 260,400
1,249,600
Less: Cash received 1,200,000 49,600

Working Notes:
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(i) Profit taken to Profit & Loss Account:

(Rs. 558,000 × 2 / 3 × 80 / 100) = Rs. 297,600
(ii)Postage and Telegrams, Office Expenses, Rates and Taxes, Fuel and Power,
Depreciation on Machinery Costing Rs. 100,000 (25%) will be charged to Profit and
Loss Account of the company

Question No 15:
Distinguish between
Methods of costing and techniques of costing (December 2011)(2.5 Marks)
Answer
Method of costing refers to the techniques and processes of determining costs of a product
manufactured or a service rendered. Broadly there are two methods of costing, i.e. Job costing
and Process costing. All other methods of costing are only variants of the two.
Techniques of costing refer to the manner of ascertaining costs of a product, job or activity. It
indicates what types of costs are being ascertained such as historical cost, standard cost, full
cost, marginal cost etc. The general techniques of costing are historical costing, standard
costing, full or absorption costing, marginal or variable costing etc

Question No 16:
Write short note on
Multiple costing (December 2011)(2.5 Marks)
Answer
Multiple costing involves the application of two or more methods of costing in respect of same
product. This costing method is used in industries where a number of components are
separately produced and then assembled into a final product. Suppose a firm manufactures
bicycles including its components, the component parts will be costed by the system of job or
batch costing but the cost of assembling the bicycle will be computed by the single or output
costing method. The whole system of costing is known as multiple or composite costing.

Question No 17:
Exclusive Cable Ltd. manufactures plastic pipes (Normal) from a material which gets
completed in two processes; Fabrication and Finishing. The details of material used and
expenses for production of the Normal Product for the month of Chaitra 2068 were as below:

Fabrication Process:
15,000 kgs of material were used during the month and out of the same, 13,500 kgs were
fabricated and transferred to Finishing Process and 1,500 kgs remained as work- in- progress.
The closing work-in-progress was 1/3rd completed in respect of labour and overheads. There
was no work-in-progress at the beginning of the month. The cost of material used was
Rs.1,800,000 and cost of labour and overheads incurred in the process was Rs. 414,000.

Finishing Process:
There were 900 kgs of product in work-in-progress at the beginning of the month. The opening
work-in-progress was 1/3rd completed in respect of labour and overheads. The cost of work-in-
progress was Rs. 141,000. At the end of the month there were 600 kgs of product as work-in-
progress. The closing work-in-progress was 25% complete in respect of labour and overheads.
The company incurred Rs. 273,000 for labour and overheads in this process during the month.

The finished product (Normal) produced after completion of Finishing Process is sold at Rs.
200 per kg.
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Seeing the demand for durable products to be used in buildings, the management of the
company is considering production of more durable and better plastic pipes (Advanced) by
further treatment of the finished product (Normal) of Finishing Process. This Advanced product
could be sold at Rs. 235 per kg in the market. The treatment plant installation costs Rs.
8,000,000 and the cost for treating the quantity produced by Finishing Process in the month is
estimated to be Rs. 345,000. For the implementation of this plan, the management desires a
minimum return on investment of 25% per annum.

Required:
a) Prepare equivalent unit statement for both processes and show the cost of closing stock and
completed units.
b) Prepare process accounts.
c) Prepare profitability statement of the Normal Product.
d) Determine whether the implementation of the management's plan to produce Advanced
Product is acceptable. (June 2012)(20 Marks)
Answer
Equivalent Unit Statement for Fabrication Process
Particulars Material Completion Labour & Completion
% Overheads %
Opening WIP (kgs) (work done in this period) - - - -
Completed Unit (kgs) (Input - Closing Stock) 13,500 100 13,500 100
Closing WIP (kgs) (work done in this period) 1,500 100 500 33.33
Total Equivalent Units (kgs) (work done in this period) 15,000 14,000
Cost incurred (Rs.) 1,800,000 414,000
Cost per equivalent unit (Rs.) 120 29.57

Cost of Closing Stock of WIP Rs.

Material Cost (1500 kgs x Rs.120) 180,000
Labour cost (500 kgs x Rs.29.57) 14,785
Total 194,785

Cost of completed stock (transferred to next process) Rs.

Cost of Opening stock of WIP -
Material Cost of input 1,800,000
Labour cost incurred 414,000
Less: cost of closing stock of WIP 194,785
Total 2,019,215

Equivalent Unit Statement for Finishing Process

Particulars Material Completion Labour & Completion
% Overheads %
Opening WIP (kgs) (work done in this period) - - 600 66.67
Completed Unit (kgs) (Input - Closing Stock) 12,900 100 12,900 100
Closing WIP (kgs) (work done in this period) 600 100 150 25
Total Equivalent Units (kgs) (work done in this period) 13,500 13,650
Cost incurred (Rs.) 2,019,215 273,000
Cost per equivalent unit (Rs.) 149.57 20

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Cost of Closing Stock of WIP Rs.

Material Cost (600 kgs x 149.57) 89,742
Labour Cost (150 kgs x 20) 3,000
Total 92,742

Cost of completed stock Rs.

Cost of Opening stock of WIP 141,000
Material Cost of input 2,019,215
Labour cost incurred 273,000
Less: cost of closing stock of WIP 92,742
Total 2,340,473
Assumption: FIFO method of inventory issue for production process.

a)
Fabrication Process A/c
Particulars Unit (Kg) Amount (Rs.) Particulars Unit (Kg) Amount (Rs.)
To materials a/c 15,000 1,800,000 By Finishing Process a/c 13,500 2,019,215
To labour & overheads a/c 414,000 By closing stock (WIP) a/c 1,500 194,785
15,000 2,214,000 15,000 2,214,000

Finishing Process A/c

Particulars Unit (Kg) Amount (Rs.) Particulars Unit (Kg) Amount (Rs.)
To opening stock (WIP) a/c 900 141,000 By Finished stock a/c 13,800 2,340,473
To Fabrication process a/c 13,500 2,019,215 By closing stock (WIP) a/c 600 92,742
To labour & overheads a/c 273,000
14,400 2,433,215 14,400 2,433,215

b)
Profitability Statement of Normal Product
Particulars Amount (Rs.)
Sales (13800 kgs @ Rs.200 per kg.) 2,760,000
Less: cost of production (from finishing process) 2,340,473
Profit for the month 419,527

c)
Statement of evaluation of management's plan of further treatment of Normal Product
Particulars Amount (Rs.) Amount (Rs.)
Sales after further treatment (13800 kgs @ Rs.235/kg) 3,243,000
Less: Cost of Production
Cost of Normal Product from Finishing Process 2,340,473
Further treatment cost incurred 345,000 2,685,473
Profit per month 557,527
Less: Profit per month without further treatment 419,527
Additional profit per month due to further treatment 138,000

Return on Investment (%) 20.70% per annum

(138000 x 12 x 100/ 8,000,000)

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Recommendation:
Considering the management's desired rate of return on investment of 25%,
the plan of further treatment is not acceptable becasue it gives only 20.70%
of return on investment.

Question No 18:
From the following information relating to a hotel, calculate the room rent to be charged to give
a profit of 25% on cost excluding interest.
i) Salary to staffs – Rs. 1,022,000 per annum.
ii) Wages of the room attendant – Rs. 40 per day. There is a room attendant for each room. He
is paid wages only when the room is occupied.
iii) Lighting and Heating power per month:
(a) Lighting expenses for each room are Rs. 1,000 when
occupied.
(b) Heating power is used only in winter and the charges are Rs.
400 for a room when occupied.
iv) Repairs to buildings – Rs. 100,000 per annum.
v) License – Rs. 48,000 per annum.
vi) Sundries – Rs. 66,000 per annum.
vii) Interior decoration and furnishing – Rs. 100,000 per annum.
viii) Depreciation @ 5% is to be charged on building costing Rs. 4,000,000 and @ 10% on
equipment.
ix) Interest to be charged @ 20% on investment on buildings and equipment amounting to
Rs. 5,000,000.
x) There are 100 rooms in the hotel. 80% of the rooms are generally occupied in summer and
30% in winter. The period of summer and winter may be considered to be of 6 months in
each case and a month may be assumed of 30 days. (June 2012)(8 Marks)
Answer
Operating Cost Statement showing Room Rent per Day
(Room days 19,800)
Particulars Rs. Rs.
Staff salaries 1,022,000
Room attendant's wages [Working note 2] 792,000
Lighting and heating power [Working note 3] 732,000
Repairs to buildings 100,000
Licence etc. 48,000
Sundries 66,000
Interior decoration and furnishing 100,000
Depreciation on:
Buildings (5% of Rs. 4,000,000) 200,000
Equipments [10% of Rs. (5,000,000 – 4,000,000)] 100,000 300,000
Total cost before charging interest 3,160,000
Interest on investment @ 20% 1,000,000
Total cost 4,160,000
Profit @ 25% on Rs. 3,160,000 790,000

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Total rent to be charged for all rooms 4,950,000

Room – days [Working note 1] 19,800
Room rent per day 250

Working notes:
1. Calculation of Room Days:
Summer: (100 × 80 / 100 × 6 × 30) 14,400
Winter: (100 × 30 / 100 × 6 × 30) 5,400
Total 19,800
2. Calculation of Room Attendant's Wages:
Rs.
Summer: (Rs. 40 × 100 × 80 / 100 × 6 × 30) 576,000
Winter: (Rs. 40 × 100 × 30 / 100 × 6 × 30) 216,000
Total 792,000
3. Calculation of charges of Lighting and Heating Power:
Rs.
Lighting: Summer (Rs. 1,000 × 100 × 80 / 100 × 6) 480,000
Winter (Rs. 1,000 × 100 × 30 / 100 × 6) 180,000
Heating Power: Winter (Rs. 400 × 100 × 30 / 100 × 6) 72,000
Total 732,000

Question No 19:
Rajat Chemicals Ltd., a company within the chemical industry, mixes powdered ingredients in
two different processes to produce one product. The output of Process 1 becomes the input of
Process 2 and the output of Process 2 is transferred to the packing department.
Following are the information pertaining to the week ended 11th June 2012;
Process 1
Input:
Material A: 6,000 kilograms at Rs. 1 per kilogram
Material B: 4,000 kilograms at Rs. 2 per kilogram
Mixing Labour: 430 hours at Rs. 4 per hour
Normal Loss: 5% of weight input, disposed off at 32 paisa per kilogram
Output: 9,200 kilograms
There is no work-in-process at the beginning or end of the week.

Process 2
Input:
Material C: 6,600 kilograms at Rs. 2.50 per kilogram
Material D: 4,200 kilograms at Rs. 1.50 per kilogram
Flavoring Essence: Rs. 600
Mixing Labour: 370 hours at Rs. 4 per hour
Normal Waste: 5% of weight input with no disposal value
Output: 18,000 kilograms.

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There is no work-in-process at the beginning of the week but 1,000 kilograms are in process at
the end of the week and estimated to be only 50% complete so far as labour and overhead were
concerned.
Overhead of Rs. 6,400 incurred by the two processes is to be absorbed on the basis of mixing
labour hours.
Required:
i. Prepare Process 1 and 2 Account.
ii. Prepare Abnormal Loss Account and Packing Department Account.
iii. Calculate equivalent units produced. (December 2012)(16 Marks)
Answer

Dr. Process 1 Cr.

Per Kg. Per Kg.
Particulars Kg Rs. Rs. Particulars Kg Rs. Rs.
By Normal 0.3
To Material A 6,000 1.00 6,000 Loss 500 2 160
By Abnormal 2.0
To Material B 4,000 2.00 8,000 Loss (W.N. 2) 300 0 600
To Mixing Labor
(430 hours @ Rs.4) 1,720 By Transfer to
To Overhead(W.N. 1) 3,440 Process 2 9,200 2 18,400
Total 10,000 19,160 Total 10,000 19,160
Dr. Process 2 Cr.
Per Kg. Per Kg.
Particulars Kg Rs. Rs. Particulars Kg Rs. Rs.
By Normal
To Process 1 9,200 2.00 18,400 Loss 1,000 - -
To Material C 6,600 2.50 16,500 By Work-in-
To Material D 4,200 1.50 6,300 progress
To Flavoring Essence 600 (W.N.3) 1,000 - 2,320
To Mixing Labour
(370 hours @ Rs.4) 1,480
By Packing
To Overhead (W.N.1) 2,960 Department 18,000 2.44 43,920
Total 20,000 46,240 Total 20,000 46,240

ii.
Abnormal Loss Account
Dr. Cr.
Per Kg. Per Kg.
Particulars Kg Rs. Rs. Particulars Kg Rs. Rs.
By Normal Loss 300 0.32 96

To Process 1 300 2.00 600 By Balance to P/L A/C 504

Total 300 600 Total 300 600

Packing Department Account

Dr. Cr.
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Per Kg. Per Kg.

Particulars Kg Rs. Rs. Particulars Kg Rs. Rs.
To Process 2 18,000 2.44 43,920 By Balance C/D 18,000 2.44 43,920
Total 18,000 43,920 Total 18,000 43,920

iii. Statement of equivalent unit

Output Equivalent Units
Particulars Unit Material Labour Overhead

Completed 18,000 18,000 18,000 18,000

WIP (100% Material, 50%
Labour and Overhead) 1,000 1,000 500 500
Labour and Overhead - - - -
Normal Waste 1,000 - - -
Total 20,000 19,000 18,500 18,500
Working Notes:
1. Total overhead expenses : Rs. 6,400
Total labour hours in Process 1 and 2 = 800
Overhead absorption rate = Rs. 6,400/800 hours = Rs. 8 per labour hour
Overhead under Process 1 = 430 × Rs. 8 = Rs. 3,440
Overhead under Process 2 = 370 × Rs. 8 = Rs. 2,960

2. Cost of 9,500 Kg. of output is = ( Rs.19,160 – Rs. 160) i.e., Rs. 19,000
Hence cost per kg. of output is Re. 2.00

3. Cost per Equivalent Unit and WIP

Material = Rs. 41,800 / 19,000 = Rs. 2.20
Labour = Rs. 1,480 / 18,500 = Rs. 0.08
Overhead = Rs. 2,960 / 18,500 = Rs. 0.16

W.I.P.
Material = 1,000 × Rs. 2.20 = Rs. 2,200
Labour = 500 × 0.08 P = Rs. 40
Overhead = 500 × 0.16 P = Rs. 80
Rs. 2,320
Question No 20:
The Acme shelving Co. Ltd. manufactures shelving brackets in batches of 300. During May,
Batch No. 23 was machined at a rate of 15 per hour. Sixty of the brackets failed to pass
inspection, but of these, 40 were thought to be rectifiable. The remaining 20 were scrapped, and
the scrap value was credited to the batch cost account. Rectification work took nine hours. The
following details are available for Batch No. 23:
Rs.
Raw materials per bracket 160
Scrap value per bracket 86
Machinists' hourly rate 420
Machine hour overhead rate (running time only) 360
Setting up of machine:
Normal machining 2,100
Rectification 1,800
Required:
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i) Calculate the cost of Batch No. 23 in total and per unit, if all units pass inspection.
ii) Calculate the actual cost of Batch No. 23 in total and per unit, after crediting the recovery
value of the scrapped components, and including the rectification costs.
iii) Calculate the loss incurred because of defective work.
(December 2012)(12 Marks)
Answer
i. Calculation of the cost of Batch No. 23 in total and per unit, if all units pass inspection:
Batch No. 23
Particulars Rs.
Raw materials (300 X Rs.160) 48,000
Direct Labour:
Machinists' Cost (300/ 15 X Rs.420) 8,400
Setting up of machine:
Normal machining 2,100
Overhead (300/ 15 X Rs.360) 7,200
Total Cost 65,700
Per unit cost = Rs. 65,700/ 300 = Rs.219

ii. Calculation of the actual cost of Batch No. 23 in total and per unit, after crediting the recovery
value of the scrapped components, and including the rectification costs
Batch No. 23
Particulars Rs. Rs.
Raw materials (300 X Rs.160) 48,000
Less: Recovery value of scrap (20 X Rs.86) 1,720
46,280
Direct Labour:
Normal- Machinists' Cost (300/ 15 X Rs.420) 8,400
Rectification (9 hours X Rs.420) 3,780
12,180
Setting up of machine:
Normal machining 2,100
Rectification 1,800
3,900
Overhead:
Normal (300/ 15 X Rs.360) 7,200
Rectification (9 hours X Rs.360) 3,240
10,440
Total Cost 72,800
Per unit cost = Rs. 72,800/ 280 = Rs.260

iii. Calculation of the loss incurred because of defective work

Batch No. 23
Particulars Rs.
Loss because of additional costs (Rs.72,800- Rs.65,700) 7,100
Loss because of faulty products (Rs.219 X 20 units) 4,380
Total loss incurred because of defective work 11,480

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Question No 21:
Deluxe Ltd. undertook a contract for Rs. 500,000 as on 1st July 2011. On 30th June 2012, when
the accounts were closed, the following details about the contract were gathered.
Rs.
Materials purchased 100,000
Wages paid 45,000
General expenses 10,000
Plant purchased 50,000
th
Materials on hand on 30 June 2012 25,000
Wages accrued on 30th June 2012 5,000
Work certified 200,000
Cash received 150,000
Work uncertified 15,000
Depreciation of plant 5,000

The above contract contained an escalation clause which read as follows.

In the event of materials and rates of wages increase by more than 5% the contract price would
be increased accordingly by 25% of the rise in the cost of materials and wages beyond 5% in
each case.
It was found that since the date of signing the agreement, the prices of materials and wage rates
increased by 25%. The value of work certified does not take into account the effects of the above
clause.
Prepare Contract Account. (December 2012)(10 Marks)
Answer

Contract A/c for the Year Ended 30th June 2012

Dr. Cr.
Particulars Rs. Particulars Rs.
To Materials 1,00,000 By Work-in-progress A/c:
To Wages paid 45, 000 Work certified 2,00, 000
To Wages outstanding 5, 000 Work uncertified 15, 000
To General expenses 10, 000 Materials on hand 25, 000
To Depreciation of Plant 5, 000 Contract escalation * 5, 000
To Balance c/d – notional profit 80, 000
Total 2,45, 000 Total 2,45, 000

To Profit and Loss A/c # 20, 000 By Balance b/d 80, 000
To Transfer to Reserve 60, 000
Total 80, 000 Total 80, 000

* Escalation:
Materials /wages increased by 25%
[a] Increase in material price [Rs.100000 – Rs.25000] 25/125 = Rs.15,000
[b] Increase in wages Rs.50,000 x 25/125 = Rs.10,000
Total Increase = [a] + [b] = Rs.25,000
This increase is 5% of the contract price, hence escalation clause apply. Escalation is 25% of the
rise in the cost of materials and wages beyond 5% in each case.

 Escalation = (25%-5%)25000=5,000

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# Amount of profit to be credited to Profit and Loss A/c: As the contract is less than 50%
complete, the following formula will have to be used for computing the amount of profit to be
credited to the Profit and Loss A/c:-
= 1/3 ×(Cash Received/Work Certified)  Notional Profit
= 1/3 × (Rs.1, 50, 000/2,00,000)  Rs.80,000
= Rs.20,000

Question No 22:
PQ Limited plans to start a lodging house at a tourist center with a capacity of 32 single
occupancy rooms. Cost per day has been estimated as under:
Cost per day per room
(Rs.)
When occupied:
(i) Electricity and utilities 4
(ii) Linen, laundry and sanitary supplies 9
When unoccupied:
(iii) Dusting, sweeping and cleaning 2
15
Over and above these costs, the following expenses represent the estimate of
fixed charges per annum (365 days)
Staff expenses Rs. 3,20,000
Other office expenses` Rs. 64,000
Taxes, insurance, maintenance and depreciation Rs. 42,320

PQ Limited defines 100% occupancy to mean all the 32 rooms to fetch revenue
for all 365 days.
You are required to answer the following, using a planning period of one year:
(a) What would be the tariff per day per room in order to reach break-even at an occupancy
level of 50%?
(b) What would be the profits, if the occupancy level reaches (i) 60% (ii) 70% and (iii) 80%
respectively?
(c) What would be the profits, if the tariff per day is reduced by 10% from the answer in (a)
above and the occupancy level is 100%? (June 2013)(10 Marks)
Answer
Tariff to break-even at 50% occupancy level
Fixed cost Rs. 4,26,320
Expenses when unoccupied Rs. 2 x 11,680 23,360
Expenses when occupied Rs. 13 x 5,840 75,920
5,25,600
Tariff per day to break-even: Rs. 5,25,600 /5,840 = Rs. 90

(a) Profit at various occupancy level

Contribution margin = (Rs. 90 – Rs. 13)= Rs. 77
Profit= (Man-days occupied – BEP man-days) x Contribution margin
Therefore,

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Profit at 60% occupancy level =(7,008-5,840) x Rs. 77 = Rs. 89,936

Profit at 70% occupancy level =(8,176-5,840) x Rs. 77 = Rs. 179,872
Profit at 80% occupancy level =(9,344-5,840) x Rs. 77 = Rs. 269,808

(b) Contribution margin at reduced tariff = (0.90 x 90-13) = Rs. 68

Profit at 100% occupancy level = Contribution- Fixed Costs
= 11680 x Rs. 68- Rs, 426,320
= Rs. 367,920

Working Note:
100% occupancy = 32 x 365 days =11,680 room-days
50% occupancy = 0.5 x 11680 = 5840 room-days
60% occupancy = 0.6 x 11680 = 7008 room days
70% occupancy = 0.7 x 11680 = 8176 room-days
80% occupancy =0.8 x 11680 = 9344 room-days

Question No 23:
From the following information for the month of October 2012, prepare Process III cost account:

Opening WIP in Process III : 1,800 units at Rs. 27,000

Transfer from Process II : 47,700 units at Rs. 536,625
Transferred to warehouse : 43,200 units
Closing WIP of Process III : 4,500 units
Units scrapped : 1,800 units
Direct material added in Process III : Rs. 177,840
Direct Wages : Rs. 87,840
Production Overheads : Rs. 43,920

Degree of Completion:
Opening Stock Closing Stock Scrap
Material 80% 70% 100%
Labour 60% 50% 70%
Overheads 60% 50% 70%

The normal loss in the process was 5% of the production and scrap was sold
at Rs. 6.75 per unit. (June 2013)(15 Marks)
Answer
Statement of Equivalent Production
(Process III)
Equivalent production
Input Output Material Material Labour and
Received from added in overheads
Process II Process III
Details Quantity Quantity Quantity % Quantity % Quantity %
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Units units units units units

Op WIP 1800 Work on Op. WIP 1,,800 - - 360 20 720 40
Process II 47700 Introduced and 41400 41,400 100 41,400 100 41,400 100
Transfer completed during the
month (Bal. fig.)
Normal Loss (5% of 2,250 - - - - - -
45,000 units)
Closing WIP 4,500 4,500 100 3,150 70 2,250 50
49,950 45,900 44,910 44,370
Abnormal gain -450 -450 100 -450 100 -450 100
Total 49,520 49,500 45,450 44,460 43,920

Working Note
(i) Production units = Opening units + Units transferred from Process II – Closing
Units
= 1800 units + 47,700 units -4500 units
= 45000 units
(ii) Abnormal gain(units) = Production-Normal Loss-Transfer to warehouse
= 45,000-(5% of 45,000)-43,200
= 450
Statement of Cost
Cost Rs. Equivalent units Cost per equivalent unit Rs.
Material Received from Process II 536,625
Less: Scrap value of normal loss 15,187.50
(2,250 units x Rs. 6.75)
521,437.50 45,450 11.4728
Material added in Process III 177,840 44,460 4.0000
Labour 87,840 43,920 2.0000
Overheads 43,920 43,920 1.0000
8,31,037.50 18.4728

Statement of Apportionment of Process Cost

Rs.
Opening WIP Material From Process II 27,000
Completed opening WIP - Material added in Process III 360 units x Rs. 4=Rs. 1440
1,800 units
Wages 720 units x Rs. 2= Rs. 1440
Overheads 720 units x Rs. 1= Rs. 720 3,600
Introduced and completed 41400 units x Rs. 18.4728 7,64,773
41,400 units
Total cost of 43,200 finished 7,95,373
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goods units
Closing WIP -4,500 units Material from Process II 4,500 units x Rs. 11.4728 51,628
Material in process III 3,150 units x Rs. 4 12,600
Wages 2,250 units x Rs.2 4,500
Overheads 2,250 units x Re.1 2,250
70,978
Abnormal gain -450 units 450 units x Rs. 18.4728 8,313

Process III A/c

Units Rs. Units Rs.
To Balance b/d 1800 27,000 By Normal Loss 2250 15,187
To Process II a/c 47700 5,36,625 By Finished goods stock 43200 7,95,373
To Direct Material 1,77,840
To Direct Wages 87,840
To Production overheads 43,920 By Closing WIP 4500 70,978
To Abnormal gain 450 8,313
49,950 881,538 49,950 881,538

Question No 24:
Discuss briefly the principles to be followed while taking credit for profit on incomplete
contracts. (June 2013)(4 Marks)
Answer
Under Contract Accounting it may be noticed that certain contracts are completed, while others
are still in progress at the end of a financial year. These incomplete contracts may require a few
more years for their completion. The figures of profit made (the excess of credit over the debit
items in a contract) on completed contracts can be safely taken to the credit of Profit and Loss
Account, but this practice is not being followed in the case of incomplete contracts.

In the case of incomplete contracts the entire profit is not being credited to Profit and Loss
Account because some provision is to be made for meeting contingencies and unforeseen losses.
There are no hard and fast rules regarding the calculation of figure of profit to be taken to the
credit of profit and loss account. However, the following principles may be followed:–

i. Profit should be considered in respect of work certified and uncertified work should be
valued at cost.
ii. If the amount of work certified is less than 1/4th of the contract price, no profit should be
taken to Profit and Loss Account. The entire amount in such contracts should be kept as
reserve for meeting out contingencies.
iii. If the amount of work certified is 1/4th or more but less than 1/2 of the contract price,
then 1/3rd of the profit disclosed as reduced by the percentage of cash received from the
contractee should be taken to the Profit and Loss Account. The balance should be
allowed to remain as a reserve.
iv. If the amount of work certified is 1/2 or more of the contract price, then 2/3rd of the
profit disclosed as reduced by the percentage of cash received from the contractee, should
be taken to the Profit and Loss Account. The balance should be treated as reserve.
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v. If the contract is near completion, the total cost of completing the contract may be
estimated if possible. By deducting the total estimated cost from the contract price, the
estimated total profit of the contract should be calculated. The proportion of total
estimated profit on cash basis, which the work certified bears to the total contract price
should be credited to profit and loss account.
vi. The entire loss, if any, should be transferred to the Profit and Loss Account.

Question No 25:
Distinguish between
Job Costing and Batch Costing (June 2013)(2.5 Marks)
Answer
Job Costing :The system of job costing is used where production is not highly repetitive and in
addition consists of distinct jobs so that the material and labor costs can be identified by order
number. This method of costing is very common in commercial foundries and drop forging
shops and in plants making specialized industrial equipment. In all these cases, an account is
opened for each job and all appropriate expenditure is charged thereto.

Batch Costing: This method is employed where orders or jobs are arranged in different batches
after taking into account the convenience of producing articles. The unit of cost is a batch or a
group of identical products instead of a single job order or contract. This method is particularly
suitable for general engineering factories which produce components in convenient economic
batches and pharmaceutical industries.

Question No 26:
Chemicals Ltd. produces two joint products 'J' and 'K' in Department A from a basic raw
material. The input-output ratio of Department A is 100:90. Product 'J' which becomes the input
of Department B can be further processed in Department B to make one of the most popular
industrial product 'N'. The input-output ratio of Department B is 100:95. Alternatively, product
'J' can also be sold at the split off stage. The selling prices of the products are:
Product Selling price per Kg. (Rs.)
J 29.40
K 26.00
N 31.50
The raw material cost, departmental expenses, production data and selling expenses envisaged
in the budget are as under:
i. Raw material cost is Rs. 16 per Kg.
ii. Departmental expenses:
Particulars Department A (Rs. lakhs) Department B (Rs. lakhs)
Direct materials 10.00 3.00
Direct wages 15.00 5.00
Variable overheads 20.00 7.00
Fixed overheads 25.00 10.00
iii. Production data and selling expenses:
Product Production (Kg.) Selling expenses (Rs.)
J - 100,000
K 850,000 200,000
N 475,000 200,000

Required:
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i. Prepare a statement showing the apportionment of joint costs between products 'J' and
'K'.
ii. Advise whether the company should process product 'J' further into product 'N' or not.
Show your workings.
iii. Prepare a statement of profitability based on your decision in (ii) above.
(December 2013)(15 Marks)
Answer
i. Statement showing the apportionment of joint costs between Products 'J' and 'K'
Particulars Product 'J' Product 'K' Total
Output (kgs) (WN: 1) 500,000 850,000 -
Selling price (Rs.) 29.40 26.00 -
Sales value (Rs.) 14,700,000 22,100,000 36,800,000
Less: Selling expenses (Rs.) 100,000 200,000 300,000
Market value at spilt off stage (Rs.) 14,600,000 21,900,000 36,500,000
Ratio (146:219) or (40:60) 40 60 100
Joint cost apportioned (Rs.) 12,400,000 18,600,000 31,000,000

Working notes:
1) Output of product 'J':
Production of product 'N' in department B: 475,000 kgs.
Process loss in department B is 5% of input.
Hence, input into department B: 475,000 × 100/95 = 500,000 kgs.
Output of product 'J' is equal to input into department B. Hence, output of 'J' =
500,000 kgs.

2) Input of raw materials into department A:

Total output of department A: 500,000 kgs. + 850,000 kgs = 1,350,000 kgs.
Process loss in department A is 10% of input
Hence, input into department A: 1,350,000 × 100/90 = 1,500,000 kgs.

3) Joint costs in department A:

Rs.
Raw material costs [1,500,000 × Rs. 16] 24,000,000
Direct materials 1,000,000
Direct wages 1,500,000
Variable overheads 2,000,000
Fixed overheads 2,500,000
Total joint costs 31,000,000

ii. Statement showing Profit or (Loss) when product 'J' is processed further into 'N'
Particulars Rs. Rs.
Sales value [475,000 × Rs. 31.50] 14,962,500
Less: Joint cost of product 'J' 12,400,000
Department B costs: Direct materials 300,000
Direct wages 500,000
Variable overheads 700,000
Fixed overheads 1,000,000
Selling expenses 200,000 15,100,000
Loss from further processing 137,500

Statement showing Profit or (Loss) when product 'J' is not processed further into 'N'
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Particulars Rs. Rs.

Sales value [500,000 × Rs. 29.40] 14,700,000
Less: Joint cost of product 'J' 12,400,000
Selling expenses 100,000 12,500,000
Profit 2,200,000
Less: Under recovery of fixed overheads 1,000,000
Net Profit 1,200,000
The above statements show that there is a profit of Rs. 1,200,000 in case 'J' is not further
processed as compared to loss of Rs. 137,500 if 'J' is processed into N. Hence, further
processing of 'J' should not be undertaken. It should rather be sold at the split-off points.
Moreover, if it is assumed that fixed overheads to department B amounting to Rs. 10 lakhs
can be avoided, if 'J' is not further processed, the amount of profit of would be Rs. 22 lakhs.

iii. Statement of profitability as per decision given in (b) above

Particulars Product 'J' Product 'K' Total
Output & Sales (kgs) 500,000 850,000 -
Selling price (Rs.) 29.40 26.00 -
Sales value (Rs.) 14,700,000 22,100,000 36,800,000
Joint cost (Rs.) 12,400,000 18,600,000 31,000,000
Selling expenses (Rs.) 100,000 200,000 300,000
Total costs (Rs.) 12,500,000 18,800,000 31,300,000
Profit (Rs.) 2,200,000 3,300,000 5,500,000
Less : Under recovery of fixed overheads
1,000,000
(Rs.)
Net Profit (Rs.) 4,500,000

Question No 27:
A contractor commenced a contract on 1-1-2013. The costing records concerning the said
contract reveal the following information as on 30-9-2013:
Rs.
Material sent to site 774,300
Labour paid 1,079,000
Labour outstanding as on 30-9-2013 102,500
Salary to engineer 20,500 per month
Cost of plant sent to site (1-1-2013) 771,000
Salary to supervisor – 3/4th time devoted to contract 9,000 per month
Administration and other expenses 460,000
Prepaid administration expenses 10,000
Material in hand at site as on 30-9-2013 75,800
Plant used for the contract has an estimated life of 7 years with residual value at the end of life
Rs. 50,000. Some of materials costing Rs. 13,500 was found unsuitable and sold for Rs. 10,000.
Contract price was Rs. 4,500,000. On 30-9-2013 two third of the contract was completed. The
architect issued certificate covering 50% of the contract price and contractor has been paid
Rs. 2,000,000 on account. Depreciation on plant is charged on straight line basis.
Prepare Contract Account. (December 2013)(8 Marks)
Answer
Contract Account
For the period 1-1-2013 to 30-9-2013
Particulars Rs. Particulars Rs.
To Materials issued 774,300 By Bank – Materials sold 10,000
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To Labour 1,079,000 By P/L A/c – Loss 3,500

Add: Outstanding 102,500 1,181,500 By Material in hand 75,800
To Salary to engineer (20,500 × 9) 184,500 By Cost of contract c/d 2,639,000
To Salary to supervisor (9,000 × 9 ×
(balancing figure)
¾) 60,750
To Admn. expenses 460,000
Less: Prepaid 10,000 450,000
To Depreciation on plant (WN:1) 77,250
2,728,300 2,728,300
To Cost of contract b/d 2,639,000 By Work-in-Progress:
To Notional Profit c/d 270,750 Work certified
(balancing figure) 50% of
Rs. 4,500,000 2,250,000
Work uncertified
659,750
(WN:2)
2,909,750 2,909,750
To P/L A/c (WN:3) 160,444 By Notional Profit b/d 270,750
To Reserve
110,306
(balancing figure)
270,750 270,750
Working Notes:
1. Calculation of depreciation on plant:
Rs.
Cost of plant 771,000
Less: Residual value 50,000
Depreciable amount 721,000
Estimated life 7 years
Depreciation per annum 103,000
Depreciation for 9 months [Rs. 103,000 × 9 / 12] 77,250

2. Cost of work uncertified

Cost of contract completed is Rs. 2,639,000 which represent 2/3rd of the contract. Hence,
cost of 100% of the contract will be (Rs. 2,639,000 / 2 × 3) = Rs. 39,58,500.
Therefore cost of 50% of the contract certified is 19,79,250. Hence, cost of works uncertified
= 2,639,000 - 19,79,250 = 6,59,750

3. Calculation of Profit to be transferred:

2 Cash Re ceived
Notional Pr ofit  
3 Work Certified
=Rs. 270,750× (2/3)×(2,000,000/2,250,000)
=Rs. 160,444

Question No 28:
Dokomo makes and sells a single product, Product "X". It is currently producing 112,000 units
per month, and is operating at 80% of full capacity. Total monthly costs at the current level of
capacity are Rs. 611,000. At 100% capacity, total monthly costs would be Rs. 695,000. Fixed
costs would be the same per month at all levels of capacity between 80% and 100%. At the
normal selling price for Product X, the contribution/sales ratio is 60%. A new customer has
offered to buy 25,000 units of Product X each month, at 20% below the normal selling price.

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Dokomo estimates that for every five units that it sells to this customer, it will lose one unit of its
current monthly sales to other customers.

Required:
i) Calculate the variable cost per unit of Product X and total fixed costs per month.
ii) Calculate the current normal sales price per unit, and the contribution per unit at this price.
iii) Calculate the effect on total profit each month of accepting the new customer‟s offer, and
selling 25,000 units per month to this customer. Recommend whether the customer‟s offer
should be accepted. (June, 2014)(8 Marks)
Answer
i) Units that can be produced per month at 100% capacity level are 112,000 / 0.80 =
140,000 units.
High Low Difference
Units produced 140,000 112,000 28,000
Total costs (Rs.) 695,000 611,000 84,000
Variable cost per unit = Rs. 84,000 / 28,000 units = Rs. 3.00

Computation of Fixed Cost:

112,000 units 140,000 units
Total costs (Rs.) 611,000 695,000

Variable costs @ Rs. 3 per unit 336,000 420,000

Fixed costs per month (Rs.) 275,000 275,000

Note: Calculation of fixed cost for any one activity level is good enough to
award full marks.

ii) Contribution/sales ratio = 60%

Therefore, variable cost/sales ratio = 40%
The normal sales price per unit = Rs. 3 / 0.40 = Rs. 7.50
The contribution per unit at the normal selling price is Rs. 7.50 – Rs. 3.00 =
Rs. 4.50

iii) If the customer‟s offer is accepted, the sales price for the 25,000 units will be
Rs. 7.50 × 80% = Rs. 6 per unit.
The contribution per unit for these units will be Rs. 6 – Rs. 3 = Rs. 3
The reduction in monthly sales at the normal price will be 1/5 × 25,000 =
5,000 units.
Therefore,
Increase in contribution from 25,000 units sold (25,000 × Rs. 3) Rs. 75,000
Loss of contribution from fall in other sales (5,000 × Rs. 4.50) Rs. 22,500
Net increase in profit each month Rs. 52,500
By accepting the new customer‟s offer, the profit would increase by Rs. 52,500 each month. The
offer should therefore, be accepted.

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Question No 29:
Super Builder Constructions are engaged in building contracts. One of their contracts
commenced 15 months ago remains unfinished. The following information relating to the
contract has been prepared for the year just ended:

Particulars Rs. ‟000

Contract price 2,750
Value of work certified at the end of the year 2,420
Cost of work not yet certified at the end of year 44
Opening balances:
Cost of work completed 330
Materials on site (physical stock) 11
During the year:
Materials delivered to site 671
Wages 638
Hire of plant 121
Other expenses 99
Closing balance : Materials on site (physical stock) 22

As soon as materials are delivered to the site, they are charged to the contract account. A record
is also kept of materials as they are actually used on the contract. Periodically a stock check is
made and any discrepancy between book stock and physical stock is transferred to a general
“Contract Material Discrepancy” account. This is absorbed back to each contract, currently at
the rate of 0.5% of materials booked. The stock check at the year-end revealed a stock shortage
of Rs. 5,500.
In addition to direct charges listed above, general overhead are charged to contracts at 5% of
value of work certified. General overhead of Rs. 16,500 had been absorbed into the cost of work
completed at the beginning of the year. It has been estimated that further costs to compete the
contract will be Rs. 242,000. This estimate included the cost of materials on site at the end of
the year just finished and also a provision for rectification.
Required:
i) Determine the profitability of the above contract and recommend how much profit should be
taken for the year just ended 2013.
ii) State how your recommendation in above would be affected if the Contract Price was Rs. 44
lakhs (rather than Rs. 27.50 lakhs) and if no estimate has been made of costs to completion.
Assume retention money = 20%. (June, 2014)(10 Marks)
Answer
i) Super Builder Constructions
Contract Account for the year ended 2013
Particulars Rs.'000 Particulars Rs.'000
To Work-in-progress b/d 330.00 By Work-in-progress a/c:
To Materials b/d 11.00 Work certified 2,420.00
To Materials issued 671.00 Work uncertified 44.00
To Wages 638.00 By Material discrepancy A/c 5.50
To Plant hire charges 121.00 By Materials on site 22.00
To Other expenses 99.00
To Material discrepancy A/c 3.30
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[Rs. (11 + 671 - 22) × 0.5%]

To General overheads 104.50
(Rs. 2,420 × 5% – Rs. 16.50)
To Notional profit c/d 513.70
2,491.50 2,491.50
To Profit and Loss A/c – transfer 490.78 By Notional profit b/d 513.70
To Reserve c/d 22.92
513.70 513.70

Working notes (Amount in '000):

(1) Calculation of estimated profit:
Cost incurred to date = Rs. (2,491.50 – 513.70 – 5.50 – 22.00)
= Rs. 1,950.30
Estimated total costs = Cost to date + Further estimated costs
= Rs. 1,950.30 + Rs. 242.00
= Rs. 2,192.30
Estimated total profit = Contract Price – Estimated total costs
= Rs. 2,750.00 – Rs. 2,192.30
= Rs. 557.70
(2) Profit to be taken to profit & loss A/c:
Percentage of completion = (Work certified / Contract price) × 100
= (Rs. 2,420 / Rs. 2,750) × 100
= 88%
Profit to be recognized = Estimated profit × Work certified / Contract
price
= Rs. 557.70 × Rs. 2,420 / Rs. 2,750
= Rs. 490.78

ii) If contract price were Rs. 44 lakhs and no cost estimation has been made:
Percentage of completion = (Rs. 2,420 / Rs. 4,400) ×100 = 55%
Therefore, profit recognition will be based on notional profit
Cash received = Rs. 2,420 × 80% = Rs. 1,936
Profit to be recognized = 2 / 3 × Notional profit × Cash received / Work
certified
= 2 / 3 × Rs. 513.70 × Rs. 1,936 / Rs. 2,420
= Rs. 273.97
Question No 30:
C Ltd. operates a process which produces three joint products. In the period just ended costs of
production totaled Rs. 509,640. Output from the process during the period was:

Product - W 276,000 kilos

Product - X 334,000 kilos
Product - Y 134,000 kilos
There were no opening stocks of the three products. Products W and X are sold in this state.
Product Y is subjected to further processing. Sales of products W and X during the period was:
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Product - W 255,000 kilos at Rs. 0.945 per kilo

Product - X 312,000 kilos at Rs. 0.890 per kilo
128,000 kilos of product Y were further processed during the period. The balance of the period
production of the three products W, X and Y remained in stock at the end of the period. The
value of closing stock of individual products is calculated by apportioning costs according to
weight of output.

The additional costs in the period of further processing product Y, which is converted into
product Z were:
Direct labour Rs. 10,850
Production overhead Rs. 7,070
96,000 kilos of product Z were produced from the 128,000 kilos of product Y. A by-product BP
is also produced which can be sold for Rs. 0.12 per kilo. 8,000 kilos of BP were produced and
sold during the period.
Sales of product Z during the period were 94,000 kilos, with total revenue of Rs. 100,110.
Opening stock of product Z was 8,000 kilos, valued at Rs. 8,640. The FIFO method is used for
pricing transfers of product Z to cost of sales.
Selling and administration costs are charged to all main products when sold, at 10% of revenue.

Required:
i) Prepare a profit and loss account for the period, identifying separately the profitability of
each of the three main products (W, X and Z).
ii) C Ltd has now received an offer from another company to purchase the total output of
product Y (i.e. before further processing) for Rs. 0.62 per kilo. Calculate the viability of this
alternative. (June, 2014)(15 Marks)
Answer
Profit and loss account
Product W Product X Product Z Total
Rs. Rs. Rs. Rs.
Opening stock - - 8,640 8,640
Production cost 189,060 228,790 108,750 526,600
Closing stock (14,385) (15,070) (15,010) (44,465)
Cost of sales 174,675 213,720 102,380 490,775
Selling and administration costs 24,098 27,768 10,011 61,877
Total costs 198,773 241 488 112,391 552,652
Sales 240,975 277,680 100,110 618,765
Profit / (loss) 42,202 36,192 (12,281) 66,113

Workings notes:
(1) Joint process cost per kilo of output = (Rs. 509,640 / 744,000) = Rs. 0.685
(2) Production cost for products W, X and Y:
Rs.
Product W (276,000 kg × Rs. 0.685) 189,060
Product X (334,000 kg × Rs. 0.685) 228,790
Product Y (134,000 kg × Rs. 0.685) 91,790
(3) Closing stocks of products W and X:
Rs.
Product W (21,000 kg × Rs. 0.685) 14,385
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Product X (22,000 kg × Rs. 0.685) 15,070

(4) Cost per kilo of product Z:
Rs.
Product Y (128,000 kg × Rs. 0.685) 87,680
Further processing costs 17,920
Less: by-product sales (8,000 kg × Rs. 0.12) 960
104,640

Cost per kilo (Rs.104,640 / 96,000) Rs. 1.09

(5) Closing stock relating to product Z:
Rs.
Closing stock of product Z (10,000 kg × Rs. 1.09) 10,900
Add closing stock of input Y (6,000 kg × Rs. 0.685) 4,110
Closing stock relating to product Z 15,010
(6) Production cost relating to final product Z:
Rs.
Product Y (134,000 kg × Rs. 0.685) 91,790
Further processing costs 17,920
Less: by-product sales 960
108,750
(7) Sales revenue of product W and X:
Product W: 255,000 kg @ Rs. 0.945 per kg Rs. 240,975
Product X: 312,000 kg @ Rs. 0.890 per kg Rs. 277,680

i) The joint costs are common and unavoidable to both alternatives, and are therefore not
relevant for the decision under consideration. Further processing from an input of 128,000
kg of Y has resulted in an output of 96,000 kg of Z. Thus it requires 1.33 kg of Y to
produce 1 kg of Z (128,000 / 96,000)
Rs.
Revenue per kilo for product Z (Rs.100,110 / 94,000) 1.065
Sale proceeds at split-off point (1.33 × Rs. 0.62) 0.823
Incremental revenue per kg from further processing 0.242
Incremental costs of further processing [(Rs. 17,920 – Rs. 960) / 96 000] 0.177
Incremental profit from further processing 0.065

It is assumed that selling and administration costs are fixed and will be unaffected by which
alternative is selected. The company should therefore process Y further into product Z and
not accept the offer from the other company to purchase the entire output of product Y.

Question No 31:
Distinguish between
a. Abnormal Loss and Abnormal Gain in Process Costing(June, 2014)(2.5 Marks)
Answer
Abnormal process loss is defined as the loss in excess of the pre-determined loss. This type of
loss may occur due to the carelessness of workers, a bad plant design or operation etc. The cost
of an abnormal process loss unit is equal to the cost of a good unit. The total cost of abnormal
process loss is credited to the process account from which is arises and it is debited to costing
profit and loss account.

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Cost of abnormal loss = {(Total cost - Value of normal loss) ÷ Normal output (in units)} ×
Abnormal losses units

Abnormal gain is the reverse of the abnormal loss. Sometimes, loss under a process is less than
the anticipated normal figure. Under such a situation the difference between actual and expected
loss is known as abnormal gain. The process account under which abnormal gain arises is
debited with the abnormal gain and it is credited to costing profit and loss account. The amount
of abnormal gain is computed based on cost of each good unit.

b. Job Costing and Contract Costing (June, 2014)(2.5 Marks)

Answer
In job costing, job work is carried in the premises. An order, a unit, lot or batch of product may
be taken as cost unit. Cost is first allocated to cost centers and then charged to individual jobs. It
is a system of costing in which the elements of cost are accumulated separately for each job or
work undertaken by an organization. The prices of the jobs are fixed based on the nature of
costs and policy of the firm.
In contract costing, contract work is carried on at site. Each contract is cost unit. Most of the
expenses are of direct nature and are directly charged to respective contract accounts. Only
general overheads and head office expenses are apportioned to individual contracts. The pricing
is generally through bidding and external forces have major influence in fixing the offer price.

Question No 32:
Shakti Engineers are engaged in construction and erection of a bridge under a long-term
contract. The cost incurred up to 31.03.2014 was as under:

Fabrication Rs. In Lakhs

Direct Material 280
Direct Labour 100
Overheads 60
440
Erection cost to date 110
550
The contract price is Rs. 11 crores and the cash received on account till 31.03.2014 was Rs. 6
crores.
The technical estimate of the contract indicates the following degree of completion of
work. Fabrication: Direct Material, 70%, Direct Labour and Overheads 60% Erection
40%.
You are required to estimate the profit that could be taken to Profit and Loss Account against
this partly completed contract as at 31.03.2014. (December, 2014)(10 Marks)
Answer
Estimation of Profit to be taken to Profit and Loss Account against partly completed contract
as at 31.03.2014.
Profit to be taken to P/L Account= 2/3 X Notional profit X Cash received
Work certified
(Refer to working notes 1,2,3,&4)
= 2/3 X Rs. 92.48 lakhs X Rs. 600 lakhs
Rs. 642.48 lakhs
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= Rs. 57.576 lakhs

Working Notes:
1. Statement showing estimated profit to date and future profit on the completion of contract
Particulars Cost to date Further Cost Total Cost
% Amount % Amount
Completion Rs. Completion Rs. Rs.
To date (a) to be done (b) (a)+(b)
Direct Material 70 280.00 30 120.00 400.00
Direct labour 60 100.00 40 66.67 166.67
Overheads 60 60.00 40 40.00 100.00
Total Fabrication cost (A) 440.00 226.67 666.67
Erection cost: (B) 40 110.00 60 165.00 275.00
Total estimated costs: (A+B) 550.00 391.67 941.67
Profit(Refer to working note 2) 92.48 65.85 158.33
642.48 457.52 1,100.00

2. Profit to date (notional profit) and future are calculated as below:

Profit to date (notional profit) = Estimated profit on whole contract X cost to date
Total Cost
= Rs. 158.33 X Rs. 550
Rs. 941.67
= Rs. 92.48 ( Lakhs)

Future Profit = Rs. 158- Rs. 92.48

= Rs. 65.85
3. Work certified
= cost of the contract to date + profit to date
= Rs. 550 + Rs. 92.49 = Rs. 642.48 lakhs

4. Degree of completion of contract to date

= Cost of the contract to date X 100
Contract Price
= Rs. 642.48 lakhs X 100
Rs. 1,100 lakhs
= 58.40%

Question No 33:
Pawanputra Air owns single jet aircraft and operates between Kathmandu and Delhi only. Flights
leave Kathmandu on Mondays and Thursdays and depart from Delhi on Wednesdays and
Saturdays. Pawanputra Air cannot afford any more flights between Kathmandu and Delhi. Only
tourist class seats are available on its flights and all tickets are booked by travel agents. The
following informations are collected.
Seating capacity per plane 360
Average passengers per flight 200
Flights per week 4
Flights per year 208
Average one way fare Rs. 5,000

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Variable fuel cost Rs. 1,40,000 per flight

Food service to passengers (not charged to Passengers) Rs. 200 per passenger
Commission to travel agents 8% of fare
Fixed annual lease cost allocated to each flight Rs. 5,30,000 per flight
Fixed ground services (maintenance, check in,
Baggage handling cost) allocated to each flight Rs. 70,000 per flight
Fixed salaries of flight crew allocated to each flight Rs. 40,000 per flight
For the sake of simplicity assume that fuel cost are unaffected by the
actual number of passengers on a flight.

Required:
i) What is the operating income that Pawanputra Air makes on each way flight between
Kathmandu and Delhi?
ii) The market research department of Pawanputra Air indicates that lowering the average one
way fare to Rs. 4,800 will increase the average number of passenger per flight to 212.
Should Pawanputra Air lower its fare?
iii) Gem Travels, a tour operator approaches Pawanputra Air to charter its jet aircraft twice each
month, first to take Gem‟s international tourists from Kathmandu to Delhi and then bring
the tourists back from Delhi to Kathmandu. If Pawanputra Air accepts the offer, it will be
able to offer only 184 (208 less 24) of its own flights each year. The terms of the charter are:
(a) For each one-way flight Gem will pay Pawanputra Rs. 7,50,000 to charter the plane and to
use its flight crew and ground service staff.
(b) Gem will pay for fuel costs.
(c) Gem will pay for all food costs.
On purely financial considerations, should Pawanputra Air accept the offer from Gem
Travels? (December, 2014)(10 Marks)
Answer
Statement of operating income of Pawanputra Air for Kathmandu-Delhi flight (one way)

Fare received (per flight): 200 passengers x Rs. 5,000 Rs.10,00,000

Variable costs (per flight)
Fuel cost Rs. 1,40,000
Food (200 x Rs. 200) 40,000
Commission to Travel Agents (8% of Rs. 10,00,000) 80,000 Rs. 2,60,000
Contribution per flight Rs.7,40,000
Fixed cost (per flight)
Annual lease cost Rs. 5,30,000
Fixed ground service costs 70,000
Salaries of flight crew 40,000 Rs. 6,40,000
Operating income per flight 1,00,000

ii) Fare received (per flight): 212 passengers x Rs. 4,800 Rs.10,17,600
Variable costs (per flight)
Fuel cost Rs. 1,40,000
Food (212 x Rs. 200) 42,400
Commission to Travel Agents (8% of Rs. 10,17,600) 81,408 Rs. 2,63,808
Contribution per flight Rs.7,53,792

Excess contribution due to lowering of fare (Rs. 7,53,792 – Rs. 7,40,000) = Rs. 13,792
Pawanputra Air should lower its fare as it would increase its contribution by Rs. 13,792

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iii) For financial considerations to decide whether Pawanputra Air should charter its plane to
Gem Travels most profitable option i.e. option (b) should be used.

Contribution of Pawanputra Air under option (b) Rs. 7,53,792

Pawanputra Air would get (per flight) for charter of plane Rs. 7,50,000

As there is a loss of Rs. 3,792 per flight Pawanputra Air should not accept the offer.

Question No 34:
The more kilometers you travel with your own vehicle, the cheaper it becomes. “Comment
briefly on this statement”. (December, 2014)(2.5 Marks)
Answer
The cost per kilometre, (if one travels in his own vehicle) will decline when he travels more
kilometers. This is because the majority of costs for running and maintaining vehicles are of
fixed and the component of fixed cost per kilometre goes on decreasing with an increase in
kilometre travel. Hence, the given statement is true.

Question No 35:
Following data refer to the month of December 2014:
Job 410 Job 411 Total
i) Opening balance of job on 2014:
1st December (Rs.) (Rs.) (Rs.)
Direct material 80 420 500
Direct labour 150 450 600
Factory overheads 200 400 600
430 1,270 1,700

ii) Direct material requisition during the month of December, 2014:

Job No. (Rs.)
410 120
411 280
412 225
413 300
925

iii) Direct Labour Distribution Job No Hours (Rs.)

410 400 600
411 200 450
412 300 675
413 100 225
1,000 1,950

iv) Factory overheads are applied to jobs on production according to

direct labour hour rate which is Rs. 2.

v) Factory overhead incurred in December, 2014 Rs. 2,100

vi) Job Nos. 411 & 412 were completed during the month. They were
billed to customer at a price which included 15% of the price of the
job for selling and distribution expenses and another 10% of price for
the profit.
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Required:
(a) Job cost sheet for Job Nos. 411 and 412
(b) Determine the price for the job;
(c) Calculate the value of work in progress; and
(d) Prepare an income statement showing gross profit for the month of December.
2014. (July, 2015)(12 Marks)
Answer
Job Cost Sheet
Job No. 411 Job No 412
Opening balance on 1.12.2014 Rs 1,270 Nil
Direct material during month 280 225
Direct labour 450 675
Factory Overhead @ Rs. 2 per hour 400 600
Factory cost 2400 1,500
Selling and distribution expenses (Note 1) 480 300
Cost of sales 2,880 1,800
Profit (Note1) 320 200
Billing Price of job 3,200 2,000

Work in progress
Opening balance Rs 1,700
Cost incurred during the month
Material 925
Labour 1,950
Overhead (1000×Rs 2) 2,000
6,575
Less: Jobs completed
Job No. 411 Rs 2,400
Job No. 412 1,500 3,900
Balance of W.I.P 2,675
Income statement
Selling Price (Rs. 3,200+Rs. 2,000) Rs.5,200
Less: Factory cost (2,400+Rs. 1,500) 3,900
Gross Profit 1,300
Note.1
Suppose Price Rs. 100
Less Selling exp. 15
Profit 10 25
Factory Cost 75
For job No 411:
1) If factory cost is 75,selling expenses = 15
If factory cost is 2,400 selling expenses=(15÷75)×2,400=480
2) If factory cost is 75, profit=Rs.10
If factory cost is 2,400 profit=(10÷75)×2400=Rs. 320

For job No 412:

1) If factory cost is 75, selling expenses=15
If factory cost is 1,500 selling expenses=(15÷75)×1500=Rs. 300
2) If factory cost is 75, profit=Rs. 10
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If factory cost is 1,500 profit=(10÷75)×1500=Rs. 200

Question No 36:
ABC Ltd is a construction company, which has undertaken three contracts. Information for the
previous year along with other details is provided to you below;

Contract A Contract B Contract C

(Rs. 000) (Rs. 000) (Rs. 000)
Contract price 1,760 1,485 2,420
Balances brought forward at the
beginning of the year:
Material on site 20 30
Written down value of plant and machinery 77 374
Wages accrued 5 10
Transactions during previous year:
Profit previously transferred to profit and loss a/c 35
Cost of work certified (cost of sales) 418 814
Transactions during current year:
Material delivered to site 88 220 396
Wages paid 45 100 220
Salaries and other cost 15 40 50
Written down value of plant issued to site 190 35
Head office expenses apportioned during the 10 20 50
Year
Balances c/fwd at the end of the year:
Material on site 20
Written down value of plant and machinery 150 20 230
Wages accrued 5 10 15
Value of work certified at the end of the year 200 8 60 2,100
Cost of work not certified at the end of the year 55

The agreed retention rate is 10% of the value of work certified by the contractee‟s architect.
Contract C is scheduled to be handed over to the contractee in the near future. It is estimated that
Rs. 305,000 shall be needed to be spent in addition to what has been tabulated above to complete
this particular contract. This amount includes an allowance for plant depreciation, construction
services and for contingencies.

Required:
Prepare contract accounts for each of the three contracts and recommend how much profit or
loss should be taken up for the year. (July, 2015)(10 Marks)
Answer
Contract Accounts
(in Rs. „000)
A B C A B C
Material on site 20 30 Wages accrued 5 10
b/fwd b/fwd
Plant on site b/fwd 77 374 Material on site 20
c/fwd
Material control a/c 88 220 396 Plant on site c/fwd 150 20 230
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Wages control a/c 45 100 220 Cost of work not 55

certified c/fwd
Salaries 15 40 50 Cost of sales – 183 497 840
current period
(balance) c/fwd
Plant control a/c 190 35
Apportionment of 10 20 50
HO expenses
Wages accrued 5 10 15
c/fwd

353 522 1,135 353 522 1,135

Cost of sales b/fwd 183 497 840 Attributable sales 183 442 1,122
revenue (current
period)*
Loss
Profit taken this 282 taken 55
period

183497 1,122 183 497 1,122

Wage Accrue
Cost of work not certified 55 s d 5 10 15
b/fwd b/fwd
Materi
al on site 20
b/fwd
Plant on site
b/fwd 150 20 230

* Profit taken plus cost of sales for the current period or cost of sales less loss to date
Note
Profit/loss on the three contracts are calculated by deducting the cost of sales (both previous
years and current year) from the value of work certified

(Rs 000)
Contract A 17 (Rs 200 – Rs 183)
Contract B (55) (Rs 860 – Rs 915)
(Rs 2,100 – Rs
Contract C 446 1,654)
Recommendation
Computation of profit taken for Contract C is as follows
(Rs 000)
Cost of work certified(cost of sales to date = 814 + 840) 1,654
Cost of work not certified 55
Estimated costs to complete 305

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Estimated cost of contract 2,014

Contract price 2,420
Anticipated profit 406

Profit taken =(0.90 transferred

Rs 2,420

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

No profit has been taken for Contract A as it is in very early stages of completion
Prudence concept has been utilized for Contract B. All loss has been taken.

Question No 37:
A shop floor supervisor of a small factory presented the following cost for Job no. 421 to
determine selling price.

Per unit (Rs.)

Material 70
Direct Wages 18 hrs. @ Rs. 2.50 (Dept. X 8 hours; Dept. Y6
hours; Dept. Z 4 hours) 45
Chargeable Expenses (Special stores items) 5
120
Add: 33 1/3% for Overheads 40
Total Cost 160
Analysis of the Profit/Loss Account for 2014 shows the following:
(Amount in Rs.)

Material used 150,000 Sales less

Direct Wages: Returns 250,000
Dept. X 10,000
Dept. Y 12,000
Dept. Z 8,000 30,000
Special stores items 4,000
Overheads:
Dept. X 5,000
Dept. Y 9,000
Dept. Z 2,000 16,000
Total Cost 200,000
Gross Profit c/d 50,000
250,000 250,000
Selling Expenses 20,000
Net Profit 30,000 Gross Profit b/c 50,000
50,000 50,000

It is also noted that average hourly rates for the three departments X, Y, Z are similar.
Required:
i) Draw up a job cost sheet.
ii) Calculate the entire revised cost using 2014 actual figures as basis.
iii) Add 20% to total cost to determine selling price.
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(December, 2015)(7 Marks)

Answer
In order to prepare the job cost sheet, the overhead rates of different departments will have to
be first determined on the basis of previous year's figures. The rates are as follows:
Factory overhead rates
Dept
ts. X Y Z
(i
) Overheads Rs. 5,000 Rs. 9,000 Rs. 2,000
(ii) direct labour hours = total wages/hourly rates 4,000 4,800 3,200
(i
ii
) Rate per hour (i) ÷ (ii) 1.25 1.875 .625

Cost sheet of job no421

Particulars Rate Hrs. Amount
Material `70.00
`
Direct wages: deptt. X 2.50 8hrs. 20.00
Deptt. Y 2.50 6 hrs. 15.00
Deptt. Z 2.50 4 hrs 10.00
Chargeable expenses 5.00
Prime cost 120.00
1.25
Overheads deptt. X 0 8 hrs. 10.00
1.87
Deptt. Y 5 6 hrs 11.25
Deptt. Z .625 4 hrs 2.50

Total cost .
Add: profit 20% of total cost 143.75
Selling price 28.75
172.50

Question No 38:
Xinhau Petrochemicals Nepal Ltd. purchases crude oil from China and processes it into more
refined products Such as Liquefied Petroleum Gas (LPG), Fuel oil and Gasoline commonly
known as Petrol. For the month of December 2015, the company purchased crude oil for Rs.
800,000, conversion costs incurred were Rs. 1,200,000 upto the split–off point, at which
time two salable products were produced, LPG and Fuel oil. Fuel oil could be further
processed into Gasoline.
Production and other relevant information for the month of December 2015 are as follows.
Production Sales Sales price per ton
LPG 2,400 tons 2,400 tons Rs. 1,000
Fuel oil 1,600 tons ------ -------
Gasoline 1,000 tons 1,000 tons Rs. 4,000

The full production of Fuel oil was further processed at an incremental cost of Rs. 400,000 to
yield 1,000 tons of Gasoline. There were no by-product or scrap from this further processing

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of Fuel oil. The company did not have any opening and closing stocks of any of above
products for December 2015.
As there is very active market for Fuel oil, the company could have sold its entire production
for December 2015 at Rs. 1,500 per ton.
You are required to calculate:
a) How the joint cost of Rs. 2,000,000 would be allocated between LPG and Fuel oil under
each of the methods viz. (i) sales value at split off (ii) physical measure (tons) and (iii)
estimated net realizable value?
b) The gross margin percentage of (i) LPG and (ii) Gasoline under the three methods given in
(a) above.
c) Indo Petro Ltd. offers to purchase 1,600 tons of Fuel oil in January 2016 at Rs 1,500 per
ton. This would mean that no Gasoline would be produced in that month. Will the
acceptance of the offer affect the operating income of Xinhau Petrochemicals Nepal Ltd.
for January 2016? (December, 2015)(10 Marks)
Answer
Xinhau Petrochemicals Nepal Ltd.
Statement of allocation of joint cost
LPG Fuel oil
(i) On the basis of sales value at split off:
Units (tons) 2,400 1,600
Price per unit (Rs.) 1,000 1,500
Sales value at split off stage 24,00,000 24,00,000
Allocation of Joint processing cost (1:1) 10,00,000 10,00,000

(ii) On the basis of Physical measure:

Units (tons) 2,400 1,600
Allocation of Joint processing cost (3:2) 12,00,000 8,00,000

(ii) On the basis of Net realizable value:

Units (tons) 2,400 1,000
Price per unit (Rs.) 1,000 4,000
Sales value 24,00,000 40,00,000
Further processing cost -------- (4,00,000)
Net realizable value 24,00,000 36,00,000
Allocation of Joint processing cost (2:3) 8,00,000 12,00,000

(b) Statement of Gross profit margin

LPG Gasoline
Sales (tons) 2,400 1,000
Price per unit (Rs.) 1,000 4,000
Sales value(A) 24,00,000 40,00,000

(i) On the basis of sales value at split off

Allocation of Joint processing cost 10,00,000 10,00,000
Further processing cost -------- 4,00,000
10,00,000 14,00,000
Gross Profit (B) 14,00,000 26,00,000
Gross profit margin (B/A x 100) 58.33% 65%

(ii) On the basis of Physical measure:

Allocation of Joint processing cost 12,00,000 8,00,000
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Further processing cost -------- 4,00,000

12,00,000 12,00,000
Gross Profit (B) 12,00,000 28,00,000
Gross profit margin (B/A x 100) 50% 70%

(iii) On the basis of Net realizable value:

Allocation of Joint processing cost 8,00,000 12,00,000
Further processing cost -------- 4,00,000
8,00,000 16,00,000
Gross Profit (B) 16,00,000 24,00,000
Gross profit margin (B/A x 100) 66.67% 60%

(c) Statement of evaluation of Indo Petro Ltd.'s offer.

Incremental gain:
Saving in further processing cost Rs. 4,00,000
Incremental loss:
Loss of sales (Rs. 40,00,000 – Rs. 24,00,000) (Rs. 16,00,000)
Net incremental loss (Rs. 12,00,000)

Acceptance of the offer will reduce the operating income of Xinhau Petrochemicals Nepal Ltd.
for January 2016 by Rs. 12,00,000.

Question No 39:
Trisha Construction Ltd., who prepares its account on 31st December each year, commenced a
contract on 1st April 2014. The costing records concerning the said contract reveal the
following information on 31st December, 2014;
Rs.
Materials charged to site 258,100
Labour engaged 560,500
Foremen‟s salary 79,300

Plants costing Rs. 260,000 had been on site for 146 days. Their working life is estimated at 7
years and their final scrap value at Rs. 15,000. A supervisor, who is paid Rs. 4,000 p.m., has
devoted approximately three-fourths of his time to this contract. The administrative and other
expenses amount to Rs. 140,000. Materials in hand at site on 31st December, 2014 cost Rs.
25,400. Some of the material costing Rs. 4,500 was found unsuitable and was sold for Rs.
4,000 and a part of the plant costing Rs. 5,500 (on 31.12.2014) unsuited to the contract was
sold at a profit of Rs. 1,000.

The contract price as originally negotiated was Rs. 2,200,000 but it was accepted by the
contractor for Rs. 2,000,000. On 31st December, 2014, two thirds of the contract was
completed. Architect‟s certificate had been issued covering 50% of the contract price and Rs.
750,000 had so far been paid on account.

Prepare contract account and state how much profit or loss should be included in the financial
accounts to 31st December, 2014. Workings should be clearly given. Depreciation is charged
on time basis.
Also prepare the Contractee‟s account and show how these accounts should appear in the
balance sheet as on 31st December, 2014. (December, 2015)(10 Marks)
Answer

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Trisha Construction Ltd.

Contract Account
(For the period of 9 months: between 1st April and 31st Dec. 2014)
Dr. Cr.
Particulars Amount Particulars Amount
Rs. Rs.
To Materials 2,58,100 By Materials at site 25,400
To Labour engaged 5,60,500 By Materials sold 4,000
To Foremen‟s salary 79,300 By Profit & Loss A/c 500
To Supervisor‟s salary (W.N. 1) 27,000 (Loss on material sale)
To Depreciation of plant 14,000 By Cost of work done 10,49,000
(W.N.2) c/d
To Administrative and other 1,40,000
expenses

10,78,900 10,78,900
To Cost of work done b/d 10,49,000 By Work-in-Progress
To Notional Profit c/d 2,13,250 Work certified 10,00,000
Work uncertified 2,62,250
(W.N.3)
12,62,250 12,62,250
To Profit & Loss A/c (W.N.4) 1,06,625 By Notional Profit b/d 2,13,250
To Profit Reserve 1,06,625
2,13,250 2,13,250

Profit transferred to P & L A/c = 2/3 × Rs. 2,13,250 × Cash received / Work Certified
= 2/3 × Rs. 2,13,250 × Rs. 7,50,000/Rs. 10,00,000
= Rs. 1,06,625

Contractee‟s Account
Dr. Cr.
Particulars Amount Particulars Amount
Rs. Rs.
To Balance c/d 7,50,000 By Cash 7,50,000

Balance Sheet
As on 31st December, 2014 (extracts)
Liabilities Amount Assets Amount Amount
Rs. Rs. Rs.
Profit & Loss A/c 1,07,125* Work-in-Progress
(W.N.4) Work Certified 10,00,000
Work Uncertified 2,62,250
12,62,250
Less : Reserve 1,06,625
11,55,625
Less: Cash 7,50,000 4,05,625
Received Material 25,400
at site 2,40,500*
Plant at site
(W.N.5)

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Working Notes :
1. Supervisor‟s Salary = ¾ × (9 months × Rs. 4,000) = Rs. 27,000
2. Depreciation of Plant = Rs. 2,60,000 Rs.15,000 × 146 = Rs.14,000
7 Years 365
3. Cost of Work Uncertified:
Cost of 2/3rd of the Contract is Rs. 10,49,000
Hence the Cost of the Contract is Rs. 10,49,000 × 3/2 = Rs. 15,73,500.
The cost of 50% of the Contract, which has been completed and certified by the
Architect is Rs. 7,86,750 (Rs. 15,73,500 ÷ 2).
The Cost of Work Uncertified = Cost of work done - Cost of Work Certified is
= Rs. 10,49,000 – Rs. 7,86,750
= Rs. 2,62,250

4. Profit & Loss Acccount

Particulars Amount Particulars Amount
Rs. Rs.
To Contract A/c 500 By Contract A/c 1,06,625
(Loss on the sale of (Profit transferred)
material) To Balance c/d 1,07,125* By Profit on the Sale of Plant 1,000
1,07,625 1,07,625

5. Plant Account
Dr. Cr.
Particulars Amount Particulars Amount
Rs. Rs.
To Balance b/d 2,60,000 By Current A/c (Depreciation) 14,000
To P & L A/c 1,000 By Cash Sale 6,500
(Profit on Sale of Plant) By Balance c/d 2,40,500*
2,61,000 2,61,000

Note : Plant A/c can also form part of Contract A/c.

Note: If ledger is not prepared but figure correct then ok.

Question No 40:
Write short note on
Operation costing (December, 2015)(2.5 Marks)
Answer
It is defined as the refinement of process costing. It is concerned with the determination of the
cost of each operation rather than the process. In those industries where a process consists of
distinct operations, the method of costing applied or used is called operation costing. Operation
costing offers better scope for control. It facilitate the computation of unit operation cost at the
end of each operation by dividing the total operation cost by total input units. It is the category of
the basic costing method, applicable, where standardized goods or services result from a
sequence of repetitive and more or less continuous operations, or processes to which costs are
charged before being averaged over the units produced during the period. The two costing
methods included under this head are process costing and service costing.

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Chapter 8:

Cost Concept for Decision Making

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Question No 1
HB Ltd. is a small manufacturing company which produces a range of three special cashmere
sweaters under the brand-names of Alpine, Border and Island.
For the month of Shrawan, the management accountant has prepared the following forecast of
trading results:
Alpine Border Island Total
Rs. Rs. Rs. Rs.
Sales 1,000,000 960,000 320,000 2,280,000
Variable costs
Direct materials 350,000 300,000 100,000 750,000
Direct labour 50,000 80,000 30,000 160,000
Works overhead 200,000 180,000 110,000 490,000
Fixed overhead 300,000 270,000 100,000 670,000
(Apportioned)
Net profit/ (Loss) 100,000 130,000 (20,000) 210,000

The following information is also available:

 Although there are other materials which are required for the manufacture of sweaters,
the major material is cashmere, purchased directly from China. Unfortunately, due to
delays in shipment from China, production for the month of Shrawan will be limited by
the availability of cashmere supplies. The purchasing manager believes that he will be
able to increase the current stockholding of 61,000 kg by a delivery of 31,000 kg in mid-
Shrawan. There are no substitute suppliers in the short term.
 The production manager advises that the different products absorb different quantities of
cashmere: Alpine- 8 kg per unit, Border- 4 kg per unit and Island- 1 kg per unit.
 The sales manager confirms that the current unit prices of the products are: Alpine-
Rs.100, Border- Rs.120 and Island- Rs.80. He is convinced that sales of the Border
product could be substantially increased beyond the current forecast, although he is
unable to quantify the effect. Extra advertising of Rs. 80,000 would be required to
achieve this increase, together with a 10% reduction in the price of the Alpine product.
The current forecast of trading results does not include the view.
 The managing director has reviewed the forecast for Shrawan and believes that results
can be improved immediately through stopping the manufacture of the Island product.
Neither the sales manager nor the production manager agrees with his view, but they are
not certain why they disagree.
 Fixed overhead is apportioned over the product lines on the basis of an allocation by
space occupied on the factory floor.

The managing director is confused by the different proposals being put forward and he
seeks your services as the company‟s external financial consultant to assist him in
drawing up a sensible plan of action.
You are required to do the following:
a) Assuming that the full sales forecast for Shrawan can be achieved, assess the impact of
the managing director‟s proposal to drop the entire Island range and advise on its
desirability.

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b) In view of the shortage of cashmere, assist the company by preparing an optimal

production plan and a revised forecast of trading results for Shrawan.
c) In light of (b) above, assess the viability and effects of the sales manager‟s plans to
increase sales of the Border range through extra advertising expenditure.
d) What other points of commercial interest would you wish to draw to the attention of the
managing director? (June 2010)( 20 Marks)
Answer
The managing director believes that the act of dropping the Island range of products will increase
profits by Rs.20,000; since it seems that the loss forecast would be avoided.
Unfortunately, it is necessary to appraise him (as tactfully as possible) that his thinking is being
unduly influenced by the arbitrary allocation of Rs.100,000 of fixed overheads to the Island
range. If the Island range was stopped, then Rs.100,000 of fixed overhead would not be saved,
but merely reallocated to the other two lines.
The correct approach is to assess the contribution to fixed overheads arising from the Island
product, as follows:

Statement of contribution of Island

Particulars Rs. Rs.
Sales 320,000
Less: Variable Costs
Direct materials 100,000
Direct labour 30,000
Works overhead 110,000 240,000
Contribution 80,000

In fact, therefore, if this proposal had been adopted, the forecast trading profit of Rs.210,000
would have fallen to Rs.130,000 (i.e. Rs.210,000-Rs.80,000) due to above lost contribution.
Hence, this proposal should be soundly rejected.

Since the shortage of cashmere constitutes a limiting factor on Shrawan‟s output, it is necessary
to deploy the available cashmere over the three products in a manner which will optimize overall
profit. In the first instance, it is necessary to identify the ranking of the products, in terms of the
contribution they generate from use of per kg of cashmere:

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Statement of contribution per kg of cashmere used

Particulars Alpine Border Island
Rs. Rs. Rs. Rs. Rs. Rs.
Sales 1,000,000 960,000 320,000
Less: Variable Costs
Direct materials 350,000 300,000 100,000
Direct labour 50,000 80,000 30,000
Works overhead 200,000 600,000 180,000 560,000 110,000 240,000
Contribution 400,000 400,000 80,000
Unit Selling Price (Rs.) 100 120 80
Therefore, no. of units 10,000 8,000 4,000
Contribution per unit (Rs.) 40 50 20
Cashmere Used per unit (kg) 8 4 1
Contribution per kg of 5 12.50 20
cashmere (Rs.)
Ranking III II I

The ranking exercise indicates that the Island product (contrary to the managing director‟ belief)
is the best product in the current situation of limited supplies of cashmere.
As a result, the optimal production plan is:

Statement showing Revised optimal production plan for Shrawan

Product as Maximum Cashmere Cashmere Remaining Revised Contribution Total
per ranking forcasted required to to be used quantity of optimal per unit (Rs.)
sales unit meet (kgs) from cashmere production (Rs.)
maximum 92000 kgs (kgs) and sales
forcasted available unit
sales unit
(kgs)
Island 4000 4000 4000 88000 4000 20 80000
Border 8000 32000 32000 56000 8000 50 400000
Alpine 10000 80000 56000 0 7000 40 280000
Total revised contribution 760000
Total Fixed costs 670000
Total revised profit 90000

Note: As the third-ranked product, Alpine received only the residual balance of the available
cashmere, i.e.56,000 kgs. This means that only 7,000 units can be manufactured, leaving an
unsatisfied demand for 3000 units in Shrawan.

Assessment of the effect of Sales Manager's Plan

The sales manager is not clear about the extent to which the sales of Border could be increased.
In any case, production/sales of Border can be increased at the expense of Alpine which has the
lowest contribution per kg. of cashmere of Rs. 5 keeping the sales units of Island intact at the
level of revised production plan as found out under (b) above. As per the conditions given, the
sales unit of Border will have to be accompanied by a 10% reduction in the price of Alpine, the
contribution per unit of Alpine will be reduced to Rs. 30 per unit.
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Considering the additional advertisement cost of Rs. 80,000 to increase the sales of Border, a
total contribution of at least Rs. 840,000 (Contribution as per revised plan of Rs. 760,000 +
Advertisement cost of Rs. 80,000) is needed to make the sales manager's plan financially
justifiable.
Let x be the increase in the sales units of Border from the units of revised optimum level derived
in (b). Based on this, the total contribution generated by the respective products is computed in
the table given below.
Cashmere Contribution
Product Sales Units
Required (kg.) Per Unit (Rs.) Total (Rs.)
Island 4,000 4,000 20 80,000
Border 8,000 + x 32,000 + 4x 50 400,000 + 50 x
Alpine 7,000 – ½ x** 56,000 – 4 x* 30 210,000 – 15 x
Total: 43,000 + ½ x 92,000 690,000 + 35 x

In order to ensure that the sales manager's plan is financially viable, the contribution derived in
the above table should be greater than Rs. 840,000.
Therefore, Rs. 690,000 + 35 x > 840,000, Or, 35 x > 840,000 – 690,000
Or, x > 150,000/35 Or, x > 4,285.71, say, 4,286 units.

Thus, the sales units of Border should be 12,286 (8,000 + 4,286) or 53.575% more than sales
units derived under option (b) for the sales manager's plan to yield at least the same level of
profit as obtained under that option. Any increase in the sales units of Border in excess of that
level by reducing the sales units of Alpine will make the sales manager's proposal financially
better as compared to the revised optimum production/sales plan.

Other possible points of commercial interest are:

 What can be done to increase the sales of the Island range since it is the best performing
product?
 Is it possible to increase the selling prices of all the products as a means to restrict demand
to attainable levels?
 Is there any impact on sales caused by the restricted availability of any one range of
product?
 Would any customers be prepared to wait for deliveries until cashmere is in greater supply?

Question No 2
Electronic Equipments Limited manufactures CD players. The management accountant of the
company has prepared the following provisional operating statement for a period:
Rs. Rs.
Sales (30,000 CD players) 375,000
Less: Other Costs (32,000 CD players)
Direct materials 128,000
Direct labour 96,000
Production overhead (64% variable and 36% fixed) 50,000
S & D overhead (75% variable with sales and 25% fixed) 20,000 294,000
Net profit for the year (prior to stock adjustment) 81,000
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The following additional information was also available:

a. Fixed production overhead contained Rs. 2,500 of depreciation relating to plant &
equipment which is surplus to current requirements.
b. Over the period, 32,000 units were manufactured.
c. There was no opening stock for current period. In the preparation of the provisional
operating statement, no account has been taken of the closing stock at the end of current
period. For the purposes of internal management accounting, stocks of finished goods are
valued at variable manufacturing cost only.
The management is currently beginning to prepare the budget for the next period. There are
several factors to be considered:
(i) To make better use of the surplus plant & equipment, the company‟s technical manager
has suggested commencing manufacture of disk drives and modems for personal
computers. Disk drives will absorb Rs. 1,500 of the depreciation charge with modems
allocated the remaining Rs. 1,000.
(ii) The manufacturing and sales managers have estimated that the surplus plant &
equipment will be sufficient to produce 5,000 disk drives and 10,000 modems; and
these quantities can be sold in the current market. However, the sales manager has
insisted that, by the end of the period, the company should be carrying minimum buffer
stocks of 10% of annual production for both disk drives and modems.
(iii) Stock levels of CD players should be unchanged, but production levels are expected to
remain at the same as in the current period. The sales manager believes that the
demand for CD players will continue to grow.
(iv) The purchasing manager has forecasted that the direct materials costs of CD players
will increase by Re.1 per unit. All other variable costs of CD players will remain at the
unit cost levels incurred in the current period.
(v) For the new products, the following estimates have been made and assembled at the
projected manufacturing volume levels:
Disk Drives (Rs.) Modems (Rs.)
Total variable costs:
Direct materials 15,000 10,000
Direct labour 10,000 25,000
Factory overhead 2,500 15,000
Additional fixed overhead, excluding depreciation:
Factory overhead 8,000 13,500
Selling & distribution overhead 2,250 6,750
(vi) The production manager has projected a 60% increase in the fixed element of selling &
distribution overheads (for CD players only) in the budget period. Variable selling and
distribution overheads will be incurred at 2% of sales value for both disk drives and
modems.
(vii) The market will sustain the following prices for the products for the next period:
CD Players: Rs. 15.00 /unit, Disk Drives: Rs. 12.00 /unit, and
Modems Rs. 10.00 /unit
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(viii) The management accountant has estimated that the investment in fixed assets and
working capital for next period in the three product lines will be as follows:
CD Players: Rs. 325,000; Disk Drives: Rs. 80,000; and Modems: Rs. 60,000.
You are required to:
a) Compute the break-even number of CD players for the current period.
b) Prepare a budgeted Profit and Loss Account for the next period incorporating the impact
of the introduction of the new products and identifying product profitability.
c) Compute the return on investment for each product for the next period.
(December 2010)(20 Marks)
Answer

Computation of the break-even number of CD players for the current period

Particulars Rs.
Sales 375,000
Less: Variable Costs (Notes)
Direct materials (100% variable) (a) 120,000
Direct labour (100% variable) (a) 90,000
Production overhead (64% variable) (b) 30,000
S & D overhead (75% variable) (c) 15,000 255,000
Contribution margin 120,000
Less: Fixed Costs
Production overhead (36% fixed) (b) 18,000
S & D overhead (25% fixed) (c) 5,000 23,000
Net profit for the year 97,000

Breakeven point
Contribution margin per unit = Rs.120,000/ 30,000 units = Rs.4
BEP= Fixed Costs/ CM per unit= Rs.23,000/ Rs.4 = 5,750 units
Notes:
(a) Direct materials & Direct labour are both given as costs of production of 32,000
units. Therefore, they require both to be scaled downwards to 30,000 units sales
for a variable costing format profit & loss account.
(b) Total factory overhead of Rs.50,000 splits into 64% variable (Rs.32,000) and
36% fixed (Rs.18,000). The variable element relates to the manufacture of 32,000
units. Again, it has to be scaled down for 30,000 units.
(c) Total selling & distribution overhead of Rs.20,000 splits into 75% variable
(Rs.15,000) and 25% fixed (Rs.5,000). The variable element is already in line
with sales and hence, there is no requirement to adjust.

Preparation of budgeted Profit and Loss Account for the next period incorporating the impact
of the introduction of the new products and identifying product profitability
CD Disk
Players Drives Modems Notes
Sales Volumes (unit) 32,000 4,500 9,000
Selling Price per unit (Rs.) 15 12 10
Sales Revenue (Rs.) 480,000 54,000 90,000 (a)
Variable costs (Rs.):
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Direct materials 160,000 13,500 9,000 (b & c)

Direct labour 96,000 9,000 22,500 (b & c)
Variable production overhead 32,000 2,250 13,500 (b & c)
Variable selling & distribution 16,000 1,080 1,800 (d)
304,000 25,830 46,800
Fixed costs (Rs.):
Factory overhead 18,000 8,000 13,500
Depreciation adjustment -2,500 1,500 1,000 (e)
Selling & distribution(+60%) 8,000 2,250 6,750
Total costs (Rs.) 327,500 37,580 68,050
Net Profit (Rs.) 152,500 16,420 21,950

Notes:
(a) The quantity of CD players produced is identical to 2000 – namely 32 000 units. Production
and stocks have not changed, and therefore, the number of units sold is identical to the units
produced – namely 32 000 units.
(b) The variable costs of direct materials, direct labour and factory overhead are increased in the
budget in proportion to increase in volume of CD players (32 000/30 000).
(c) The variable costs for disk drives and modems have been scaled down to the actual sales
levels from the production cost data provided.
(d) Variable selling & distribution costs are computed as per the additional notes.
(e) Depreciation adjustment represents a re-allocation of the depreciation on the surplus
equipment to the new product lines.

Computation of the Return on Investment for each product for the next period.
CD Disk Modems
Players Drives
ROI= Net Profit/ Investment= 152,500 16,420 21,950
325,000 80,000 60,000
46.9% 20.5% 36.6%

Question No 3:
In a certain factory, Type A and Type B machines have been designed to produce the same
product but Type A is less automatic than type B and requires somewhat more labour to operate.
Pertinent costs are as follows.
Type A Type B
Set up cost Rs. 400 Rs. 600
Variable cost per unit 4.90 4.40
You are required to suggest which type of machine should be used to process various sized
orders and verify your answer by calculating total costs for the chosen levels of production.
(December 2010)(6 Marks)
Answer
Difference in set up (fixed) cost = Rs. 600 – Rs. 400 = Rs. 200
Difference in variable cost per unit = Rs. 4.90 – Rs. 4.40 = Re 0.50

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Break Even Point = Difference in set-up cost = Rs. 200/Re 0.50 = 400 units
Difference in variable cost
Type A Type B
Set-up (fixed) costs Rs. 400 Rs. 600
Variable costs Rs. 1,960 Rs. 1,760
Rs. 2,360 Rs. 2,360
Hence, machine A should be used for less than 400 units as its set-up cost is lower. Similarly,
Machine B should be used for order of more than 400 units as its variable cost per unit is lower,
which will offset the higher set-up costs.

These points are made clear by verification of total costs at production levels of 399 units and
401 units, as follows:
_____________________________________________________________________________
____________________________________________________________________
Particulars 399 units 401 units
Type A Type B Type A Type B
Set-up costs Rs. 400.00 Rs. 600.00 Rs. 400.00 Rs. 600.00
Variable costs 1,955.10 1,755.60 1,964.90 1,764.40
2,355.10 2,355.60 2,364.90 2,364.40

Question No 4:
Briefly describe the methods of constructing flexible budget. (December 2010)(5 Marks)
Answer
Following methods are generally followed in preparing a flexible budget.
(i) Segregating the items of cost into fixed, variable and semi-variable components and
presenting the figures for different levels in a tabular form
At the start of preparing flexible budget, the unit in terms of which different levels of activities
are to be expressed is first selected. It is necessary to set the budget cost allowance for the
budget centres.
(ii) Express the budget cost allowance under the heading fixed, variable and semi-variable.
Fixed cost remains the same for all levels of operations. The fixed cost per unit will change
depending upon the actual level of activity. Variable cost per unit remains the same. Semi-
variable cost is segregated into fixed and variable component and is then shown under the
respective categories.
(iii) One budget for normal production
One budget is prepared for normal level of activity by making estimates of cost at that level.
Each type of fixed and variable cost is then indicated as a ratio or a rate per unit of output. The
rate per unit of output may be expressed in terms of units, labour hours or machine hours.
(iv) Flexible Budget for Other Level of Activities
Flexible budget for other level of activities is then determined by applying the rate per unit of
output to different output levels for which the flexible budgets are desired.

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Method of graphic presentation: Flexible budget is also prepared by graphic method. Under this
method, an estimate is made of the fixed and variable expenses at various levels of activity. The
figures are then plotted on a graph to get the curves for these levels. The budget cost allowance
for a particular levels of activities can be found through this method.

Question No 5:
A company is considering three alternative proposals for conveyance facilities for its sales
executive who has to do considerable travelling, approximately 20,000 kilometers every year.
The proposals are as follows:
Proposal I: Purchase and maintain its own fleet of cars. The average cost of a car is Rs.
1,500,000.
Proposal II: Allow the executive to use his own car and reimburse expenses at the rate
of Rs. 16.00 per kilometer and also bear insurance costs.
Proposal III: Hire car from an agency at Rs. 200,000 per year per car. The company will
have to bear costs of petrol, taxes and tyres.
The following further particulars are also available:
Petrol: Rs. 6 per km. Repairs and maintenance: Rs. 2.00 per km.
Tyre: Rs. 1.20 per km. Insurance: Rs. 12,000 per car per annum
Taxes: Rs. 8,000 per car Life of the car: 5 years with annual mileage of 20,000
kms. per annum
Resale value of the car: Rs. 300,000 at the end of the 5th year.
You are required to work out the relative costs of the three proposals and rank them.
(December 2010)(8 Marks)
Answer

Alternative Proposals _
I. Use of Company's Car II. Use of Own Car III. Use of Hired Car
Rs. Per annum Rs. per km. Rs. per km. Rs. Per km.
Reimbursement (A) 16.00 10.00*
Fixed Cost (B)
Insurance 12,000 0.60** 
Taxes 8,000 
Depreciation 240,000 
Total: 260,000
Fixed cost per km. (Rs. 260,000/20,000 km.)13.00 0.40
Running and Maintenance Cost
Per car per km.
Petrol 6.00  6.00
Repairs and Maintenance 2.00  
Tyre 1.20  1.20
Total cost per km. (A + B + C) 22.20 16.60 17.60
Cost for 20,000 kms. 444,000 332,000 352,000
Ranking of Alternative Proposals: III I II

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Decision: Alternative II is the best alternative among the available three alternatives.

Question No 6:
Distinguish between:
a. Fixed and flexible budgeting (December 2010)(2.5 Marks)
Answer
A fixed budget is one which is designed for a specific planned level of output and is not adjusted
to the level of activity attained at the time of comparison between the budgeted and actual costs.
Thus, fixed budgets are established only for a small period of time when the actual output is not
anticipated to differ much from the budgeted output. Although not adjusted to the actual volume
attained, a fixed budget is liable to revision in case actual operations differ significantly from
those planned.
A fixed budget is ineffective as a tool for cost control. It is because the difference can not be
explained while comparing the actual cost with a fixed budget.
Flexible budget is a budget which is designed to change based on the fluctuations in output or
turnover. Thus, the flexible budget provides budgeted costs for any level of activity actually
attained.
Flexible budgets may also be used for adjusting budgets to suit current conditions which may
arise due to seasonal variations or changes in the length of the working period.
Flexible budget is useful for the purpose of control since it takes into consideration the changes
in the actual circumstances than previously anticipated.

b. Absorption costing and marginal costing (December 2010)(2.5 Marks)

Answer
Absorption costing does not recognize the difference between fixed costs and variable costs.
The statements prepared under this costing method explain in depth the past profits, past losses
and past costs but do not help in predicting the future results.
Marginal costing is the costing system in which variable costs are charged to the cost units and
fixed cost of the period are written off in full against the aggregate contribution.
The difference between absorption costing and marginal costing is summarized as follows:

Absorption costing Marginal costing

1. Both fixed cost and variable costs are 1. Only variable cost is considered for these
considered for product costing and inventory purposes.
valuation.
2. Fixed cost is charged to the production. 2. Fixed overhead is treated as period cost and
profitability of products is judged in terms of
P/V ratio.
3. Net profit of each product is derived after 3. Data is presented to highlight the total
deducting fixed overheads. contribution and contribution of individual
products.
4. Due to the impact of fixed overheads, unit 4. Unit cost of production is not affected by the
cost of production is affected due to the difference in the level of opening and closing
difference in the level of opening and closing stock.;
stock.
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* This was missing in the question set.

c. Opportunity cost and Imputed cost (June 2011)(2.5 Marks)

Answer
Opportunity cost refers to the value of sacrifice made or benefit of opportunity forgone in
accepting an alternative course of action. For example, a firm financing its expansion plan by
withdrawing money from its bank deposits. In such a case the loss of interest on the bank
deposit is the opportunity cost for carrying out the expansion plan. It is the cost of any activity
measured in terms of the best alternative forgone. It is the sacrifice related to the second best
choice available to someone who has picked among several mutually exclusive choices. The
notion of opportunity cost plays a crucial part in ensuring that scarce resources are used
efficiently. Thus opportunity costs are not restricted to monetary or financial costs: the real
cost of output forgone, lost time, pleasure or any other benefit that provides utility should also
be considered opportunity costs.

Imputed cost is a cost that is incurred by virtue of using an asset instead of investing it
or undertaking an alternative course of action. An imputed cost is an invisible cost that is not
incurred directly, as opposed to an explicit cost, which is incurred directly. It is also known as
notional cost. Imputed cost is a hypothetical cost and it does not appear in financial records. But
it is relevant for decision making. Interest on capital is a common type of imputed cost.
Financial accountancy accords recognition to interest on capital only if it is actually paid or
constitutes a legal liability. If desirability of a project is being evaluated, failure to consider
interest cost may result in an erroneous decision. For all practical purpose there is no difference
in opportunity costs and imputed costs.

Question No 7:
Briefly explain your understanding of the term 'rolling budget'. (December 2010)(2.5 Marks)
Answer
It is the budget continuously updated by adding a further period, say a month, quarter or year
and deducting the earliest period. This type of budget is beneficial where future costs and
activities can not be forecast on a reliable manner.
In the preparation of rolling budget, the budgeting is a continuous process. As the month, quarter
or year passes, forecast for that period is dropped and a forecast for a further month, quarter or
year is added in such a way that there is always a forecast of a fixed period say, a year or 2-year,
or 3-year is available.
The preparation of a rolling budget is always a costly affair. However, the use of such a budget
always reduces the operational variances.

Question No 8:
Explain the reasons why some companies normally prepare the sales budget first among all
functional budgets while the other companies start with the labour or other budget first in the
budgetary planning process. (December 2010)(2.5 Marks)
Answer
The budgetary planning process usually starts with sales budget because a company is usually
restricted from making and selling more of its products. Under this assumption, sales demand is
the principal budget factor, in which it restricts the performance or level of activity of a
company.

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The other limiting factors could be machine capacity, distribution and selling resources, the
availability of key raw materials or labour. However, if the principal budget factor is the
availability of labour, the first functional budget to prepare is the labour budget, in which a
company needs to consider how the limited labour hours are assigned to the optimal mix of
products to maximise its profit.

Question No 9:
Alpha Limited has prepared the following budget estimates for the coming year:
Product A Product B
Sales (in units) 6,000 16,000
Rs./Unit Rs./Unit
Selling Price 400 640
Direct Materials 120 220
Direct Wages @ Rs. 10 per hour 80 120
Variable Overheads 40 60
Fixed Overhead 80 120
Total Cost 320 520
Profit 80 120
After finalisation of the above budget estimates, it is observed that 1/3rd of the production
capacity are still idle. In order to improve the performance, the following proposals are under
consideration:
(a) Product A will be discontinued and the capacity so released will be used for product B. The
selling price of product B will, however, have to be reduced by Rs. 20 per unit in order to
increase the volume of sales.
(b) Product B will be discontinued and the capacity so released will be diverted to the
production of product C. The particulars relating to per unit of product C are as under:
a. Selling Price b. Rs. c. Direct Wages d. Rs.
520 100
e. Direct Materials f. Rs. g. Variable Overheads h. Rs.
150 50
(c) The idle capacity will be utilised for meeting an export demand for product D. The
particulars relating to per unit of product D are as under:
a. Selling Price b. Rs. c. Direct Wages d. Rs.
720 200
e. Direct Materials f. Rs. g. Variable Overheads h. Rs.
400 100
(d) The idle capacity will be hired out by fixing a price in such a way that the same rate of profit
per direct labour hour as obtained in the budget estimates is achieved.
Required:
i) Prepare a statement showing the profitability of the products A & B as envisaged in the
budget estimates.
ii) Evaluate each of the above four proposals separately showing the profitability under each
proposal.
iii) Recommend most profitable proposal for Alpha Limited.
(June 2011)(20 Marks)
Answer

Alpha Ltd.
(i) Budgeted Profitability Statement
Product A Product B
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Sales units 6,000 16,000

Rs./Unit Rs./Unit
Sales price per unit 400 640
Variable cost per unit:
Direct Material 120 220
Direct Wages 80 120
Variable Overheads 40 60
240 400
Contribution per unit 160 240
Total Contribution A = Rs. 160 × 6,000 Rs. 960,000
B = Rs. 240 × 16,000 Rs. 3,840,000
Rs. 4,800,000
Less: Fixed Cost Rs. 2,400,000
Profit Rs. 2,400,000

(ii) Evaluation of proposals

Proposal (a): Discontinue Product A and use the capacity for Product B

Spare capacity because of discontinuing Product A (8 × 6000) 48,000 hours

Additional units of Product B produced = 48,000/12 4,000 units
Total production of Product B = (16,000 + 4,000) units 20,000 units

Statement of profitability
Sales unit 20,000
Rs./Unit
Selling Price per unit Rs. (640 – 20) 620
Variable cost: Direct Materials 220
Direct Wages 120
Variable Overheads 60
400
Contribution per unit 220

Total Contribution (Rs. 220 × 20,000) Rs. 4,400,000

Less: Fixed Cost Rs. 2,400,000
Profit Rs. 2,000,000

Proposal (b): Discontinue Product B and use the capacity for new Product C

Spare capacity because of discontinuing Product B (12 × 16,000) 192,000 hrs

Units of Product C produced = 192,000/(100/10) 19,200 units

Statement of Profitability
Product A Product C
Sales units 6,000 19,200
Rs./Unit Rs./Unit
Sales price per unit 400 520
Variable cost per unit:
Direct Material 120 150
Direct Wages 80 100
Variable Overheads 40 50
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240 300
Contribution per unit 160 220

Total Contribution A = Rs. 160 × 6,000 Rs. 960,000

C = Rs. 220 × 19,200 Rs. 4,224,000
Rs. 5,184,000
Less: Fixed Cost Rs. 2,400,000
Profit Rs. 2,784,000

Proposal (c): Use idle capacity for export demand of Product D

Idle production capacity (labour hours) 120,000 hrs

Units of Product D produced = 120,000/(200/10) 6,000 units

Statement of Profitability
Product A Product B Product D
Sales units 6,000 16,000 6,000
Rs./Unit Rs./Unit Rs./Unit
Sales price per unit 400 640 720
Variable cost per unit:
Direct Material 120 220 400
Direct Wages 80 120 200
Variable Overheads 40 60 100
240 400 700
Contribution per unit 160 240 20

Total Contribution A = Rs. 160 × 6,000 Rs. 960,000

B = Rs. 240 × 16,000 Rs. 3,840,000
D = Rs. 20 × 6,000 Rs. 120,000
Rs. 4,920,000
Less: Fixed Cost Rs. 2,400,000
Profit Rs. 2,520,000

Proposal (d): Hire out idle capacity

Statement of Profitability
Rs.
Profit as per Budget Estimates (I) 2,400,000
Budgeted Direct Labour Hours 240,000
Profit per Direct Labour Hour 10
Idle Capacity (Direct Labour Hour) 120,000
Additional profit by hiring out the idle capacity (II) 1,200,000
Total Profit [(I) + (II)] 3,600,000

(iii) Recommendation:
Since proposal (d) gives highest profit i.e. Rs. 3,600,000 compared to
the all other proposals, it is recommended to go for Proposal (d).

Working Notes:
(i) Idle Production Capacity (Labour Hour)
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Product A Product B Total

Direct Labour Hour per unit 80/10 = 8 120/10 = 12
Number of units 6,000 16,000
Direct Labour Hours utilised 48,000 192,000 240,000
The above utilised hours is only 2/3rd. Hence Total Capacity
hours =240000/ 2/3rd
360,000
Idle Capacity
120,000

(ii) Fixed Cost

Rs.
Product A = Rs. 80 × 6,000 480,000
Product B = Rs. 120 × 16,000 1,920,000
Total 2,400,000

Question No 10:
A company is engaged in manufacturing two products A and B. Product A uses one unit of
component X and two units of component Y. product B uses two units of component X and one
unit of component Y and two units of component Z. component Z which is assembled in the
factory uses one unit of component Y.
components X and Y are purchased from the market. The company has prepared the following
forecast of sales and inventory for the next year:
Product A B
(units) (units)
Sales 80,000 1,50,000
Stock at the end of the year 10,000 20,000
Stock at the beginning of the year 30,000 50,000
The production of both the products and the assembling of the component Z will be spread out
uniformly throughout the year. The company at present orders its inventory of X and Y in
quantities equivalent to 3 months production. The company has complied the following data
related with the two components:
X Y
Price per unit (Rs.) 20 8
Order placing cost per order (Rs.) 1,500 1,500
Carrying cost per annum 20% 20%

Prepare production budget, component budget and calculate EOQ of components X & Y.
(June 2011)(8 Marks)
Answer
Production Budget
Product “A” Product “B”
Sales 80,000 1,50,000
Add: Closing stock 10,000 20,000
Less: Opening stock 30,000 50,000
Production Budget 60,000 1,20,000
Budget of Component
Component X Y Z
Product A: Production 60,000 units 60,000 1,20,000
Product B: Production 1,20,000 units 2,40,000 1,20,000 2,40,000
Component Z: 2,40,000 units 2,40,000
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Total 3,00,000 4,80,000 2,40,000

Optimal order quantity of components X & Y

Component X Y
Order placing costs Rs. 1,500 1,500
Price of the component Rs. 20 8
Carrying cost @ 20% Rs. 4 1.60

X Y
(2  3,00,000  1,500) (2  4,80,0001,500)
EOQ =
4 1.60

= 15,000 = 30,000
Question No 11:
Z Ltd. makes a range of five products to which the following standard apply:

Per unit
Particulars A B C D E
Rs. Rs. Rs. Rs. Rs.
Selling Price 500 600 700 800 900
Direct Materials 90 100 170 120 210
Direct Wages 160 200 240 280 320
Variable Production Overheads 80 100 120 140 160
Variable Selling & Distribution Overheads 50 60 70 80 90
Fixed Overheads 40 50 60 70 80
Total Cost 420 510 660 690 860
The direct
labour wage rate is Rs. 40 per hour. Fixed overheads have been allocated on the basis of direct
labour hours. The company has commitments to produce a minimum of 400 units of each
product per month. Direct labour hours cannot exceed 13,000 hours per month due to restriction
of space.
The Board is now considering an offer of a new three year contract to produce an additional 400
units of product B per month at a selling price of Rs. 580 per unit. The contract would involve
an outlay of Rs. 1,000,000 on the lease of additional factory premises and purchase of new plant
and equipment. There would be no residual value at the end of the contract. Variable production
costs would be in accordance with existing standards and variable selling & distribution costs
would be one-half of the existing rate and cash outflows on fixed costs would be Rs. 200,000
per annum. There would be no changes to existing production arrangements.
An outside supplier has offered to supply 400 units of product B per month at a price of Rs. 480
per unit. If purchased externally cash outflows on additional fixed costs will be Rs. 250,000 per
annum.
Required:
a) Give recommendations, supported by calculations, to show how direct labour hours in the
existing factory should be utilised in order to maximise profits.

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b) Calculate budgeted trading results on the basis of your recommendation in (a).

c) Determine whether or not the proposed contract for product B should be accepted and, if so,
whether it should be purchased externally or manufactured in the new premises. The
company's cost of capital is 10%. You may take the present value of an annuity of Rs. 1 for
three years at 10% as Rs. 2.49. Ignore taxation and inflation.
(December 2011)(20 Marks)
Answer
Since availability of direct labour hours is a constraint, 13,000 direct labour hours per month
should be utilised as shown by the following statement to maximise contribution per labour hour:
Statement showing contribution per labour hour
Rs. per unit
Particulars
A B C D E
Selling Price 500 600 700 800 900
Variable Costs:
Direct Materials 90 100 170 120 210
Direct Wages 160 200 240 280 320
Production
80 100 120 140 160
Overheads
Selling &
50 60 70 80 90
Distribution OHs.
Total Variable Costs 380 460 600 620 780
Contribution per unit 120 140 100 180 120
Labour hours per unit (160/40)=4 (200/40)=5 (240/40)=6 (280/40)=7 (320/40)=8
Contribution per labour
30.00 28.00 16.67 25. 71 15.00
hour
Ranking I II IV III V

Since the company has commitments to produce minimum of 400 units of each product,
production should be planned in such a way that product B, C, D & E each are produced to
the extent of 400 units only and balance labour hours should be utilised to produce product
A. Therefore, production should be in the following pattern:
Labour hour Total labour Balance labour
Product Units produced
per unit hours used hours
B 400 5 2,000 11,000
C 400 6 2,400 8,600
D 400 7 2,800 5,800
E 400 8 3,200 2,600
A 650* 4 2,600 -
(b) *2600/4=650
Budgeted trading result as per recommendation in (a) above
Products
Particulars
A B C D E Total

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Units 650 400 400 400 400 2,250

Rs. Rs. Rs. Rs. Rs. Rs.
Selling Price/unit 500 600 700 800 900 -
Sales 325,000 240,000 280,000 320,000 360,000 1,525,000
Direct Materials 58,500 40,000 68,000 48,000 84,000 298,500
Direct Wages 104,000 80,000 96,000 112,000 128,000 520,000
Variable Production Ohs. 52,000 40,000 48,000 56,000 64,000 260,000
Variable Selling Ohs. 32,500 24,000 28,000 32,000 36,000 152,500
Variable Costs 247,000 184,000 240,000 248,000 312,000 1,231,000
Contribution 78,000 56,000 40,000 72,000 48,000 294,000
Fixed Overheads* 26,000 20,000 24,000 28,000 32,000 130,000
Net Profit 52,000 36,000 16,000 44,000 16,000 164,000
* Allocated on the basis of direct labour hour – given in the question.

Statement showing additional contribution if contract is accepted and product B is

manufactured in new premises
Per unit 4,800 units**
Particulars
(Rs.) (Rs.)
Selling Price 580 2,784,000
Direct Materials 100 480,000
Direct Wages 200 960,000
Variable Production Overheads 100 480,000
Variable Selling Overheads – 50% of Rs. 60 30 144,000
Variable Cost 430 2,064,000
Contribution 150 720,000
Additional Fixed Overheads 200,000
Increase in Annual Cash Flow 520,000
** Unit for one year.
The present value of cash inflows for 3 years at 10% = Rs. 520,000 × 2.49 = Rs. 1,294,800
Initial capital outlay being Rs. 1,000,000, NPV of the proposal = Rs. 294,800. Hence
the proposal should be accepted.
[c] (ii)

Statement showing additional contribution if contract is accepted and product B is

purchased externally
Per unit 4,800 units**
Particulars
(Rs.) (Rs.)
Selling Price 580 2,784,000
Purchase Price 480 2,304,000
Contribution 100 480,000

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Additional Fixed Overheads 250,000

Increase in Annual Cash Flow 230,000
** Units for one year.
The present value of cash inflows for 3 years at 10% = Rs. 230,000 × 2.49 = Rs. 572,700
Initial capital outlay being zero, NPV of the proposal = Rs. 572,700
Conclusion / Recommendation:
Both 'Make Internally' and 'Purchase Externally' options give a positive NPV. Hence, the
contract should be accepted. However, the 'Purchase' option gives a greater NPV hence product
B should therefore be purchased externally. This option has added advantages of minimising
risk, since in the circumstances, it appears unnecessary to make any capital investment to cope
with the contract.

Question No 12
The direct labor hour requirements of three of the product manufactured in a factory, each
involving more than one labor operation is estimated as follows:

Direct labor hours per unit (in minutes)

Operation Product
1 2 3
A 18 42 30
B - 12 24
C 9 6 -

The factory works 8 hours per day, 6 days in a week. The budget quarter is taken as 13 weeks
and during a quarter, lost hours due to leave and holidays and other causes is estimated to be 124
hours.
The hourly budgeted rates for the workers manning the operation A, B and C are Rs. 2.00; Rs.
2.50 and Rs. 3.00 respectively.
The sales of the products during the quarter are:

Product 1 9,000 units

2 15,000 units
3 12,000 units

There is a carryover of 5,000 units of product 2 and 4,000 units of product 3 and it is proposed
to build up a stock at the end of the budget quarter as follows:

Product 1 1,000 units

3 2,000 units

Prepare a man-power budget for the quarter showing for each operation (i) direct labor hours (ii)
direct labor cost, and (iii) the number of workers. (December 2011)(10 Marks)
Answer
Quarterly man-power
Operatio Hourl Product 1 Product 2 Product 3 Total No. of
n y rate worker
s
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Rs. DL Cost DL Cost DL Cost DL Cost

Hrs Rs. Hrs Rs. Hrs Rs. Hrs Rs.
A 2.00 3,00 6,000 7,000 14,00 5,00 10,00 15,00 30,00 30
0 0 0 0 0 0
B 2.50 - - 2,000 5,000 4,00 10,00 6,000 15,00 12
0 0 0
C 3.00 1,50 4,500 1,000 3,000 - - 2,500 7,500 5
0
Total 4,50 10,50 10,00 22,00 9,00 20,00 23,50 52,50 47
0 0 0 0 0 0 0 0

Working Notes
1. Production budget
Product 1 2 3
Units Units Units
Sales 9,000 15,000 12,000
Add: Closing Stock 1,000 - 2,000
Less: Opening - 5,000 4,000
Stock
Production Budget 10,000 10,000 10,000

2. Total available hours in a quarter per worker

Total hours = 8 * 6 * 13 = 624
Less: hours lost due to leave etc. = 124
Total available hours per man = 500

3. The calculation of direct labor hours, direct labor cost and number of men has been made
as follows (illustrated for product 1):

Direct labor hours = (18*10,000)/60 = 3,000 Hours

Direct labor cost = 3,000 hours * Rs. 2 = Rs. 6,000
Number of men required = (Direct labor hours required/Total available hours per
man)
= 15,000/500
= 30 men.
Similarly, calculations have been made for the other products.
Question No 13
Cello Pen Company established a separate ball pen unit in year 2010 with normal capacity of
240,000 units per year. The company is selling ball pen for Rs. 35 per unit. Following data and
information are available for the year 2011:

Opening stock 52,000 unit

Unit produced 234,000 unit
Units sold 240,000 unit
Direct material cost Rs.6 per unit
Direct Labour cost Rs.6 per unit
Variable manufacturing overhead Rs.3 per unit
Fixed manufacturing overhead Rs.1,200,000
Variable Administrative overhead Rs. 0.80 per unit
Fixed Administrative overhead Rs.120,000
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Variable selling and administrative overhead Rs.2 per unit

Fixed selling and administrative overhead Rs.240,000

Required:
i) Prepare profitability statement under marginal costing and absorption costing method.
ii) Prepare reconciliation statement of profitability under marginal costing and absorption
costing method.
iii) Suggest the level of sales volume and sales unit where company will make neither profit
nor loss from the ball pen unit.
iv) How many units are to be sold to earn a profit of 25% on cost? (June 2012)(15 Marks)
Answer
i) Statement of Profitability under Marginal costing
Particulars Rs.
A. Total Sales (240,000 units × Rs. 35 p. u.) 84,00,000

Less: Variable Cost

Direct Material(234,000 units × Rs. 6 p. u.) 14,04,000
Direct Labour(234,000 units × Rs. 6 p. u.) 14,04,000
Variable manufacturing cost (234,000 units × Rs. 3 p. u.) 702,000
Add : Opening Stock ( 52,000 × Rs. 15) 7,80,000
Less: Closing Stock (46,000× Rs. 15) (6,90,000)
Variable cost of goods sold 36,00,000
Add : Variable Administrative Overhead ( 0.8×2,40,000) 1,92,000
Variable selling and distribution overhead (2×240000) 4,80,000
B. Total Variable Cost 42,72,000
C. Contribution 41,28,000
D. Less: Fixed Cost:
Manufacturing (12,00,000)
Administrative (1,20,000)
Selling and Distribution (2,40,000)
Profit under marginal costing 25,68,000

Statement of Profitability under absorption costing

Particulars Rs.
A. Total Sales 84,00,000

Less: Manufacturing cost of Goods Sold

Direct Material 14,04,000
Direct Labour 14,04,000
Variable manufacturing cost 702,000
Fixed Production Overhead (12,00,000/2,40,000×234,000) 11,70,000
B. Manufacturing cost of Goods Produced (46,80,000)
Add : Opening Stock ( 52,000 units × Rs. 20) (W.N. 1) 10,40,000
Less: Closing Stock ( 46,000 × Rs. 20) (9,20,000)
Adjusted cost of Goods Sold 48,00,000
Add: Under-absorption of overhead ( 5×6,000) 30,000
a. Cost of goods Sold 48,30,000
D. Gross Profit (A-C) 35,70,000
Less: Variable Administrative Overhead ( 0.8×2,40,000) (192,000)
Fixed Administrative Overhead (120,000)
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Variable selling and distribution overhead (2×240000) (4,80,000)

Fixed Selling and distribution overhead (2,40,000)
Profit under absorption costing 25,38,000
W.N. 1:
Total Manufacturing cost of goods produced Rs. 46,80,000
No. of units manufactured 234,000
Cost per unit Rs. 20

ii)Reconciliation of profit under Marginal costing and absorption costing

Particulars Rs.
Profit under marginal costing 25,68,000

Add: Fixed Manufacturing overhead in closing stock ( 46,000×5) 230,000

Less: Fixed Manufacturing overhead in Opening stock ( 52,000×5) (2,60,000)

Profit under absorption costing 25,38,000

i) Calculation of break-even-point
P/V ratio = contribution/sales ×100
= 41,28,000/84,00,000×100 =49.142%

Contribution per unit = Sales price per unit – Variable cost per unit
=Rs.35-Rs.17.80
= Rs.17.20
Break-even point =Fixed cost/ P/V ratio
= 15,60,000/49.142%
= Rs.31,74,474
Break-even-point ( units) = Fixed cost/contribution per unit
=15,60,000/17.20
= 90,698 unit

ii) Sales unit to earn 25% profit on cost; i.e. 20% on sales
Sales = (Fixed cost + Desired Profit)/ P/V Ratio
Let sales be X
Than X = (15,60,000 +20% of X)/49.142%
Or, 49.142% X = 15,60,000 +0.2X
X = Rs.1,560,000/0.29142
= Rs. 5,353,099

Sales in unit = 5,353,099/35 = 152,946 units

Question No 14:
Prepare a budget for year 2012 for direct labour costs and overhead expenses of a production
department at the activity levels of 80%, 90% and 100%, using the information listed below:
i) Direct labour hourly rate is expected to be Rs.3.75
ii) 100% activity represents 60,000 direct labour hours.
iii) Variable cost:
Indirect labour Rs.0.75 per direct labour hour
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Consumable supplies Rs.0.375 per direct labour hour

Canteen and other expenses 6% of direct and indirect labour cost
iv) Semi-variable costs are expected to relate to the direct labour
hours in the same manner as for the last five years
Years Direct labour hrs. Semi variable costs (Rs.)
2007 64,000 20,800
2008 59,000 19,800
2009 53,000 18,600
2010 49,000 17,800
2011 40,000 16,000
v) Fixed overhead per labour hour at 100% activity are:
Overheads Rs.
Depreciation 0.30
Maintenance 0.20
Insurance 0.10
Fee and Taxes 0.25
Management salaries 0.40
vi) Inflation is to be ignored. (June 2012)(10 Marks)
Answer
Flexible Budget for the year 2012
( Rs. in „000)
Particulars 80% level 90% level 100% level
48,000 hrs 54,000 hrs 60,000 hrs

Direct Labour 180.00 202.5 225.00

Other variable costs:
Indirect labour 36.00 40.50 45.00
Consumable supplies 18.00 20.25 22.50
Canteen etc. 12.96 14.58 16.20
Total Variable Cost 246.96 277.83 308.70
Semi Variable cost (W.N.1) 17.60 18.80 20.00
Fixed cost
Depreciation (60×0.3) 18.00 18.00 18.00
Maintenance (60×0.2) 12.00 12.00 12.00
Insurance (60×0.1) 6.00 6.00 6.00
Fee and Taxes (60×0.25) 15.00 15.00 15.00
Management salaries ( 60×0.4) 24.00 24.00 24.00
Budgeted cost 339.56 371.63 403.70

Working Note 1:
Segregation of semi variable cost using high/low method:
Rs.
Total cost of 64,000 hours 20,800
Total cost of 40,000 hours 16,000
Variable cost of 24,000 hours 4,800

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Variable cost per hour ( 4,800/24,000) 0.20

Total cost of 64,000 hours 20,800

Variable cost of 64,000 hours × 0.2 12,800
Fixed costs 8,000

Semi-variable costs are calculated as follows:

60,000 hours (60,000×0.20)+8,000 = 20,000
54,000 hours (54,000×0.20)+8,000 = 18,800
48,000 hours (48,000×0.20)+8,000 = 17,600

Question No 15:
Distinguish between
Absorption costing and Variable costing (June 2012)(2.5 Marks)
Answer
Absorption costing treats the costs of all manufacturing components (direct material, direct
labour, variable overhead and fixed overhead) as inventoriable or product costs. Costs incurred
in the non-manufacturing areas are considered as period costs.
In contrast, variable costing is a cost accumulation method that includes only variable
production costs (direct material, direct labour, and variable overhead) as inventoriable or
product costs. Fixed manufacturing overhead is treated as period costs.
Two basic differences can be seen between absorption costing and variable costing. The first
difference is the way fixed overhead (FOH) is treated for product costing purposes. Under
absorption costing, FOH is considered a product cost because it advocates that products cannot
be made without the capacity provided by fixed manufacturing costs; under variable costing, it
is considered a period cost because it advocates that fixed manufacturing costs would be
incurred whether or not production occurs. The second difference is in the presentation of costs
on the income statement. Absorption costing classifies expenses by function, whereas variable
costing categorizes expenses first by behavior and then may further classify them by fuction.

Question No 16:
Write short note on
Control Ratios (June 2012)(2.5 Marks)
Answer
Control ratios are the tools used to monitor and control performance of the organization. This is
determined by comparing the planned values (budgets) with the actual values as they
occur/achieved during a period. Under budgetary control system certain ratios are used to
determine the effective use of the resources. Such ratios are used by the management to know
whether the deviations of the actual performance from the budgeted performance are favourable
or not. There are three major control ratios, activity ratio, capacity ratio and efficiency ratio.

Question No 17:
The following information is the extracted from the financial accounts of a manufacturing
company for the last financial year:
Rs.'000
Raw material consumed 5,000
Direct wages 3,000
Works overhead 1,600
Office overhead 700
Selling overhead 960
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Bad debts 120

Legal charges 10
Interest received 120
Sales (120,000 units @ Rs.100) 12,000
Closing inventory of WIP 240
Closing inventory of Finished goods (4,000 units) 320

The following information is extracted from the cost accounts for the same financial year:
Raw material consumed- Rs. 5,600,000
Recovery of works overhead- @ 20% on prime cost
Recovery of office overhead- @ Rs. 6 per unit of output
Recovery of selling overhead- @ Rs. 8 per unit sold.

Required:
i) Prepare financial profit and loss account and Cost sheet for the financial year.
ii) Reconcile the difference in profit under the two sets of accounts.
(December 2012)(9 Marks)
Answer
Financial Profit & Loss Account
Particulars Rs.'000 Particulars Rs.'000
To Raw material consumed 5,000 By Sales 12,000
To Direct wages 3,000 By Closing inventory:
To Works overhead 1,600 WIP 240
To Office overhead 700 Finished goods 320
To Selling overhead 960 By Interest received 120
To Bad debts 120
To Legal charges 10
To Net profit 1,290
12,680 12,680

Cost Sheet
For the financial year
Particulars Rs.'000 Rs.'000
Raw material consumed 5,600
Direct wages 3,000
Prime Cost 8,600
Works overhead (20% on Prime cost) 1,720
10320
Less: Closing WIP (240)
Works Cost 10,080
Office overhead (Rs.6 *124,000) 744
Cost of production 10,824
Less: Closing Finished goods (10,824*4000/124000) (349)
Cost of goods sold 10,475
Selling overhead (Rs.8 * 120,000) 960
Cost of sales 11,435
Net profit 565
Sales 12,000
Note: Unit produced = Sold unit + closing inventory

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ii.
Reconciliation Statement
Particulars Rs.'000 Rs.'000
Profit as per financial accounts 1,290
Add:
Closing inventory of finished goods overvalued in cost 29
accounts
Bad debts not charged in cost accounts 120
Legal charges not charged in cost accounts 10 159
1449
Less:
Raw material overcharged in cost accounts 600
Works overhead over absorbed in cost accounts 120
Office overhead over absorbed in cost accounts 44
Interest received not included in cost accounts 120 884
Profit as per cost accounts 565

Question No 18:
Briefly explain the circumstances that warrant the need for preparation of Flexible budget.
(December 2012)(2.5 Marks)
Answer
A 'Flexible Budget' is defined as 'a budget which, by recognizing the difference between fixed,
semi-variable and variable costs is designed to change in relation to the level of activity
attained'. In a fixed budgetary control, budgets are prepared for one level of activity whereas in a
flexible budgetary control system, a series of budgets are prepared for a number of alternative
production levels or volumes. Flexible budgets represent the amount of expenses that is
reasonably necessary to achieve each level of output specified. In other words, the allowances
given under flexible budgetary control system serve as standards of what costs should be at each
level of output.

The need for the preparation of the flexible budgets arises in the following circumstances:
(i) Seasonal fluctuations in sales and/or production, for example in soft drink industry;
(ii) A company which keeps on introducing new products or makes changes in the design of its
products frequently;
(iii)Industries engaged in make-to- order business like ship building;
(iv) An industry which is influenced by changes in fashion; and
(v) General changes in sales

Question No 19
Bridgewater Tyre Company‟s budgeted unit sales for the year 2013 were:
Bike tyres 60,000
Bus tyres 12,500

The budgeted selling price for Bus tyres was Rs. 15,000 per tyre and for Bike tyres was Rs.
4,500 per tyre. The beginning finished goods inventories were expected to be 2,500 Bus tyres
and 6,000 Bike tyres, for a total cost of Rs. 2,00,25,500, with desired ending inventories at 2,000
and 5,000, respectively, with a total cost of Rs. 1,63,23,900. There was no anticipated beginning
or ending work-in-process inventory for either type of tyres. The standard material quantities for
each type of tyre were as follows:
Bus Bike
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Rubber 35 Kgs 15 Kgs

Steel Belts 4.5 Kgs 2.0 Kgs

The purchase prices of rubber and steel were Rs. 150 and Rs. 100 per Kg, respectively. The
desired ending inventories for rubber and steel were 60,000 and 6,000 Kgs, respectively. The
estimated beginning inventories for rubber and steel were 75,000 and 7,500 Kgs respectively.

The direct labor hours required for each type of tyre were as follows:
Molding Department Finishing Department
Bus tyre 0.20 0.10
Bike tyre 0.10 0.05

The direct labor rate for each department is as follows:

Molding Department Rs. 650 per hour
Finishing Department Rs. 750 per hour

Budgeted factory overhead costs for 2013 were as follows:

Particulars Rs.
Indirect Material 85,28,000
Indirect Labour 79,40,000
Depreciation of Building and Equipment 49,16,000
Power and Light 63,00,000
Total 2,76,84,000

Required:
Prepare each of the following budgets for the year ended 2013:
a) Sales budget
b) Production budget
c) Direct material budget
d) Direct labor budget
e) Cost of goods sold budget. (June 2013)(20 Marks)
Answer
Bridgewater Tyre Company
Sales Budget
For the year ended December 31, 2013

Product Unit Sales Unit Selling Price Total Sales

Volume Rs. Rs.
Bike Tyres 60,000 4,500 27,00,00,000
Bus Tyres 12,500 15,000 18,75,00,000
Total 72,500 45,75,00,000

a)
Production Budget
For the year ended December 31, 2013
Units
Bike tyres Bus tyres
Sales (from sales budget) 60,000 12,500
Add: Desired ending inventory, Dec. 31 5,000 2,000
Total 65,000 14,500
Less estimated beginning inventory, Jan. 1 6,000 2,500
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Total production 59,000 12,000

b)
Direct Materials Budget
For the year ended December 31, 2013
Direct Materials Total
Rubber (Kgs.) Steel Belts (Kgs.)
Quantities required for production:
Bike tyres:
59,000 × 15 Kgs. 8,85,000
59,000 × 2.0 Kgs. 1,18,000
Bus tyres:
12,000 × 35 Kgs. 4,20,000
12,000 × 4.5 Kgs. 54,000
Add: Desired ending inventory, Dec. 31 60,000 6,000
Total 13,65,000 1,78,000
Less: Estimated beginning inventory, Jan. 1 (75,000) (7,500)
Total quantity to be purchased 12,90,000 1,70,500
Unit price Rs. 150 Rs. 100

Total direct materials purchased Rs. 19,35,00,000 Rs. 1,70,50,000 Rs.

21,05,50,000

c)
Direct Labor Budget
for the year ended December 31, 2013
Department Total
Molding Finishing
Hours required for production:
Bike tyres:
59,000 × .10 5,900
59,000 × .05 2,950
Bus tyres:
12,000 × .20 2,400
12,000 × .10 1,200
Total 8,300 4,150

Hourly rate Rs. 650 Rs. 750

Total direct labor cost Rs. 53,95,000 Rs. 31,12,500 Rs.
85,07,500

d)
Cost of Goods Sold Budget
for the year ended December 31, 2013
Rs.
Direct materials inventory Jan. 1(W. N. 1) 1,20,00,000
Direct materials purchases 21,05,50,000
Total direct materials available 22,25,50,000
Less: Direct materials inventory, Dec. 31 (W. N. 1) 96,00,000
Cost of direct materials used 21,29,50,000
Direct labor 85,07,500
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Factory overhead 2,76,84,000

Cost of goods manufactured 24,91,41,500
Add: Finished goods inventory, Jan.1 2,00,25,500
Cost of goods available for sale 26,91,67,000
Less: Finished goods inventory, Dec. 31 1,63,23,900
Cost of goods sold 25,28,43,100

Working notes

W.N.: Direct material inventory (beginning)

Rubber 75,000 Kgs. × 150 Rs. 1,12,50,000

Steel belts 7,500 Kgs. × 100 7,50,000
Rs. 1,20,00,000

W.N.2 Direct material inventory (ending)

Rubber 60,000 Kgs. × 150 Rs. 90,00,000
Steel belts 6,000 Kgs. × 100 6,00,000
Rs. 96,00,000

Question No 20
Distinguish between
a. Forecast and Budget (June 2013)(2.5 Marks)
Answer
Difference between Forecast and Budget
Forecast Budget
i. Forecast is merely an estimate of what is i. Budget shows the policy and
likely to happen. It is a statement of programme to be followed in a period
probable events which are likely to under planned conditions.
happen under anticipated conditions ii. A budget is a tool of control since it
during a specified period of time. represents actions which can be shaped
ii. Forecasts, being statements of future according to will so that it can be suited
events, do not connote any sense of to the conditions which may or may not
control. happen.
iii. Forecasting is a preliminary step for iii. It begins when forecasting ends.
budgeting. It ends with the forecast of Forecasts are converted into budget.
likely events. iv. Budgets have limited scope. It can be
iv. Forecasts are wider in scope and it can be made of phenomenon capable of being
made in those spheres, also where expressed quantitatively.
budgets cannot interfere.

b. Opportunity Cost and Sunk Cost (June 2013)(2.5 Marks)

Answer
Opportunity cost refers to the value of sacrifice made or benefit of opportunity forgone
in accepting an alternative course of action. For example, a firm financing its expansion
project by withdrawing money from its bank deposits. In such a case the loss of interest
on the bank deposit is the opportunity cost for carrying out the expansion project.
Historical costs incurred in the past are known as sunk costs. They play no role in
decision making in the current period. For example, in the case of a decision relating to

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the replacement of a machine, the written down value of the existing machine is a sunk
cost and therefore not considered.

c. Contribution and Profit (December 2013)(2.5 Marks)

Answer
Contribution Profit
It includes fixed cost and profit. It does not include Fixed cost.
Marginal Costing technique uses the concept of Profit is the accounting concept to
contribution. determine profit or loss of a business
concern.
At break-even point, contribution equals to Only the sales in excess of break-even
Fixed cost. points results in profit.
Contribution concept is used in managerial Profit is computed to determine the
decision making. profitability of product and the concern.

d. Indifference point and Break-even Point (December, 2014)(2.5 Marks)

Answer
Particulars Indifference Point Break-Even Point
Definition Indifference Point is the level of BEP is the level of sales at which
Sales at which Total costs and there is neither a Profit nor a Loss
Profits of two options are equal. to the firm. At BEP,
the total Contribution equals
Fixed Cost.
Formula Indifference Point (in Rs.) = Break Even Point (in Rs.) =
Difference in Fixed Cost Fixed Cost
Difference in Var. Cost PV ratio
ratio or PV ratio

Significance It is the activity level at which It is the activity level at which the
Total Cost under two alternatives Total Revenue
are equal. from a product mix is equal to its
Total cost.
Purpose Used to choose between two Used for profit planning.
alternative
options for achieving the same
objective.

Question No 21:
Write short note on
Budgetary control (June 2013)(2.5 Marks)
Answer
Budgetary control is a methodical control of an organization‟s operations through
establishments of standards and targets regarding income and expenditure and a
continuous monitoring and adjustment of performance against them. Budgetary control is
the establishment of budgets relating the responsibilities of executives to the
requirements of a policy, and the continuous comparison of actual with budgeted results,
either to secure by individual action the objectives of that policy or to provide a firm
basis of its revision.

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The objectives of budgetary control are:

 Definition of Goals: Portraying with precision, the overall aims of the business
and determining targets of performance for each section or department of the
business.
 Defining Responsibilities: Laying down the responsibilities of each individual so
that everyone knows what is expected of him and how he will be judged.
 Basis for Performance Evaluation: Providing basis for the comparison of actual
performance with the predetermined targets and investigation of deviation, if any,
of actual performance and expenses from the budgeted figures. It helps to take
timely corrective measures.
 Optimum use of Resources: Ensuring the best use of all available resources to
maximize profit or production, subject to the limiting factors.
 Co-ordination: Coordinating various activities of the business and centralizing
control, and also facilitating for the management to decentralize responsibility
and delegate authority.
 Planned action: Engendering a spirit of careful forethought, assessment of what is
possible and an attempt at it. It leads to dynamism without recklessness. It also
helps to draw up long range plans with a fair measure of accuracy.
 Basis for policy: Providing a basis for revision of current and future policies.

Disadvantages / Limitation
 Estimates: Budgets may or may not be true, as they are based on estimates. The
assumptions about future events may or may not actually happen.
 Rigidity: Budgets are considered as rigid document. Too much emphasis on
budgets may affect day-to-day operations and ignores the dynamic state of
organizational functioning.
 False Sense of Security: Mere budgeting cannot lead to profitability. Budgets
cannot beexecuted automatically. It may create a false sense of security that
everything has been taken care of in the budgets.
 Lack of co-ordination: Staff co-operation is usually not available during
budgetary control exercise.
 Time and Cost: The introduction and implementation of the budgetary control
system may be expensive.

Question No 22:
A company having its head office in Centown has three factories situated at Uptown,
Middletown and Downtown. The operations of Middletown have been unprofitable for a
number of years. The leasehold of Middletown will also expire by the end of current year. In
view of continued losses the management has decided to close down the said factory rather than
renew the lease. The factory's plant and machinery can be sold at a price higher than the written
down value and the surplus funds will be sufficient to cover all termination costs.
Projected profitability of the factories for the next year is as under:
(Rs. in lakhs)
Uptown Middletown Downtown Total
Particulars
Rs. Rs. Rs. Rs.
Sales 400 100 300 800
Variable costs 220 75 195 490
Fixed costs:
Factory 80 30 40 150

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Selling & administration 30 5 15 50

Head office expenses apportioned 25 15 25 65
Profit 45 (25) 25 45
The company however would like to continue to serve the customers now being served by the
Middletown factory if it could do so economically. Accordingly following proposals were put
forward for consideration based on a selling price of Rs. 250 per unit.
a) Close down Middletown factory and expand the operations of Downtown factory for which
surplus capacity exists. This proposal will involve the following changes:
i) Sales revenue of Downtown factory will increase by 25%.
ii) Factory fixed costs of Downtown factory will increase by 10%.
iii) Fixed selling and administration cost of Downtown factory will increase by 5%.
iv) Variable distribution costs of additional output will increase by Rs. 4 per unit.
b) Close down Middletown factory and expand the operations of Uptown factory subject to the
following changes in case of later:
i) Sales revenue will increase by Rs. 80 lakhs.
ii) Factory fixed costs will increase by 20%.
iii) Fixed selling and administration cost will increase by 10%.
iv) Variable distribution costs in respect of the additional units will increase by Rs. 5 per
unit.
c) Close down Middletown factory and enter into a long term contract with an independent
manufacturer to serve the customers of Middletown factory. The manufacturer will pay a
royalty of Rs. 5 per unit to the company. In that event the sales of the area served by the
Middletown factory will fall by 25%.
d) Close down Middletown factory and discontinue serving the present customers of that area.
You are required to evaluate each of these proposals and advise the management of the action to
be taken in the interest of improving profitability of the company.
(December 2013)(20 Marks)
Answer
Evaluation of Proposal (i)
Closing of Middletown factory and expanding Downtown factory
Statement of Profit
(Rs. in lakhs)
Uptown Downtown Total
Particulars
Rs. Rs. Rs.
Sales 400.00 375.00 775.00
Variable costs:
Factory [WN 1] 220.00 243.75 463.75
Additional distribution [WN 2] - 1.20 1.20
Total variable costs 220.00 244.95 464.95
Contribution 180.00 130.05 310.05
Fixed costs:
Factory 80.00 44.00 124.00
Selling & administration [WN 3] 30.00 15.75 45.75
Total fixed costs 110.00 59.75 169.75
Factory contribution 70.00 70.30 140.30
Head office expenses apportioned 65.00
Profit 75.30
Working Notes:
1. Variable factory cost of Downtown factory = (Rs. 195 lakhs × 1.25) = Rs. 243.75 lakhs.
2. Present sales at Downtown Rs. 300.00 lakhs.
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Selling price per unit = Rs. 250.00

Number of units sold = Rs. 300.00 lakhs / Rs. 250.00 = 120,000 units.
Additional sales as per proposal (i) = 120,000 × 25% = 30,000 units.
Additional variable distribution costs = 30,000 × Rs. 4 = Rs. 120,000
3. Fixed selling and administration costs in Downtown = Rs. 15.00 lakhs × 1.05
= Rs. 15.75 lakhs.

Evaluation of Proposal (ii)

Closing of Middletown factory and expanding Uptown factory
Statement of Profit
(Rs. in lakhs)
Uptown Downtown Total
Particulars
Rs. Rs. Rs.
Sales 480.00 300.00 780.00
Variable costs:
Factory [WN 1] 264.00 195.00 459.00
Additional distribution [WN 2] 1.60 - 1.60
Total variable costs 265.60 195.00 460.60
Contribution 214.40 105.00 319.40
Fixed costs:
Factory 96.00 40.00 136.00
Selling & administration 33.00 15.00 48.00
Total fixed costs 129.00 55.00 184.00
Factory contribution 85.40 50.00 135.40
Head office expenses apportioned 65.00
Profit 70.40
Working Notes:
1. Variable costs at Uptown = Rs. (220 × 480 / 400) = Rs. 264.00 lakhs.
2. Additional sales in units at Uptown = Rs. 80.00 lakhs / Rs. 250.00 = 32,000 units.
Variable distribution costs = Rs. 5 × 32,000 = Rs. 160,000

Evaluation of Proposal (iii)

Closing of Middletown factory and subcontracting production
Statement of Profit
(Rs. in lakhs)
Uptown Downtown Total
Particulars
Rs. Rs. Rs.
Sales 400.00 300.00 700.00
Variable costs 220.00 195.00 415.00
Contribution 180.00 105.00 285.00
Fixed costs:
Factory 80.00 40.00 120.00
Selling & administration 30.00 15.00 45.00
Total fixed costs 110.00 55.00 165.00
Factory contribution 70.00 50.00 120.00
Add: Royalty for Middletown factory 1.50
121.50
Head office expenses apportioned 65.00
Profit 56.50
Working Notes:
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Present sales of Middletown factory = Rs. 100.00 lakhs.

Sales under new arrangement = Rs. 100 lakhs × 75% = Rs. 75 lakhs.
Number of units = Rs. 75 lakhs / Rs. 250 = 30,000 units.
Royalty = Rs. 5.00 × 30,000 = Rs. 150,000

Evaluation of Proposal (iv)

Closing of Middletown factory
Statement of Profit
(Rs. in lakhs)
Uptown Downtown Total
Particulars
Rs. Rs. Rs.
Factory contribution [See (iii) above] 70.00 50.00 120.00
Head office expenses apportioned 65.00
Profit 55.00
Conclusion / Recommendation:
The above calculations show that the company will make the highest profit under
proposal (i) i.e. "Closing of Middletown factory and expanding the operations of
Downtown factory". Hence, this proposal should be preferred over other
proposals.

Question No 23:
A company is at present working at 90% of its capacity and producing 13,500
units per annum. It operates a Flexible Budgetary Control System. The following
figures are obtained from its budget:
Capacity utilization 90% 100%
Sales Rs. 1,500,000 Rs. 1,600,000
Fixed expenses 300,500 300,600
Semi fixed expenses 97,500 100,500
Variable expenses 145,000 149,500
Units manufactured 13,500 15,000
Material and labour costs per unit are constant under the present conditions. Current profit
margin is 10% on sales.

Required:
i) Determine the differential cost of producing 1,500 units by increasing capacity utilization to
100 percent.
ii) What would you recommend as an export price per unit for these 1,500 units after
considering that overseas prices are much lower than inland prices?
(December 2013)(5 Marks)
Answer
(i) Differential cost of producing 1,500 units:
Existing Proposed Differences
Capacity levels 90% 100% 10%
Output (in units) 13,500 15,000 1,500
Costs: Rs. Rs. Rs.
Materials and Labour (WN:1) 807,000 896,667 89,667
Variable expenses 145,000 149,500 4,500
Semi-fixed expenses 97,500 100,500 3,000
Fixed expenses 300,500 300,600 100
1,350,000 1,447,267 97,267
Hence, differential cost for producing 1,500 units is Rs. 97,267
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(ii) Minimum price for export = Rs. 97,267/1,500 = Rs. 64.84

At the minimum price of Rs. 64.84 per unit, there will be no additional profit to the company.
A price below this may be considered if there is a possibility of getting some benefits because
of export e.g. exports incentives or subsidy from the government.
It has been presumed in the above case that utilization of full capacity would not require any
additional capital investment.

Working notes:
1. Computation of cost of Material and Labour:
Rs. Rs.
Sales at 90% Capacity 1,500,000
Less: Profit @ 10% 150,000
Total cost 1,350,000
Less other expenses:
Fixed 300,500
Semi-fixed 97,500
Variable 145,000 543,000
Material & Labour cost: At 90% capacity 807,000
Material & Labour cost: At 100% capacity (Rs. 807,000 ×
896,667
100/90)

Question No 24:
A company wants to buy a new machine to replace one, which is having frequent breakdown. It
received offers for two models, M1 and M2. Further details regarding these two models are
given below.

Particulars M1 M2
Installed Capacity [Units] 10,000 10,000
Fixed overheads per annum Rs. 240,000 Rs. 100,000
Estimated profit at the above Rs. 160,000 Rs. 100,000
capacity

The product manufactured using this type of machine, M1 or M2, is sold at Rs. 100 per unit.
Required:
i) Determine the break-even level of sales for each model.
ii) Calculate the level of sales at which both the models will earn the same profit.
(December 2013)(6 Marks)
Answer
i. Computation of break-even level for both the machines
 Machine M1: Fixed cost Rs.2, 40,000; The variable cost and contribution per unit will
be:

Particulars Amount Rs.

Installed capacity – 10000 units
Fixed overheads 2,40,000
Estimated profits 1,60,000
Total contribution [Fixed overheads + Estimated profits] 4,00,000
Sales value: 10000 units X Rs.100 10,00,000
Variable cost [Sales – Contribution 6,00,000

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Variable cost per unit 60

Contribution per unit 40
Profit/Volume ratio: Contribution/Sales X 100 40%

Break Even Sales = Fixed Cost / P/V Ratio = Rs.2, 40, 000 / 40%
= Rs.6, 00,000
Break Even Sales = 6,000 units

 Break Even Sales: M2

c)
Particulars Amount (Rs.)
Installed capacity – 10000 units
Fixed overheads 1,00,000
Estimated profits 1,00,000
Total contribution [Fixed overheads + Estimated profits] 2,00,000
Sales value: 10000 units X Rs.100 10,00,000
Variable cost [Sales – Contribution] 8,00,000
Variable cost per unit 80
Contribution per unit 20
Profit/Volume ratio: Contribution/Sales X 100 20%

Break Even Sales: Fixed Cost/Profit/Volume Ratio = Rs.1, 00,000 /20% = Rs.5, 00,000
Break Even Units = 5, 000

ii. The level of sales at which both the machines will earn the same profit
Level of sales at which both machines will earn the same profit will be the difference in
fixed cost/difference in variable cost
= (Rs.2, 40,000 – Rs.1, 00,000) / (Rs.80 – Rs.60)
= Rs.1, 40,000 /Rs.20
= 7000 units

Thus, at 7000 units, the total costs of both the machines will be same and hence they
will earn the same amount of profits.

Question No 25:
Citizen Ltd. manufactures three products X, Y and Z. Standard selling prices and costs per unit
have been established for the year 2071 as follows:
(Amount in Rs.)
X Y Z
Selling price 280 600 1,250
Direct materials 80 150 200
Direct wages 100 200 500
Variable overheads 50 100 250

Direct wages are paid at the rate of Rs. 20 per hour in each case. Fixed overheads are budgeted
at Rs. 250,000 for the coming year. In short run, the company cannot increase its direct labour
strength and as a result, only 35,000 direct labour hours will be available in the coming year.
The company has commitments to produce 500 units of each product. It has been suggested that

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after meeting the minimum requirements for X, Y and Z, the balance of available direct labour
hours should be used to produce product Z.

Required:
a) Prepare an income statement showing the expected results if the proposal is adopted.
b) Comment on the statement you have produced in (a) above and prepare an income statement
for any alternative policy which you consider would be more profitable.
c) Based on your calculations in (b) above, show the company's break-even points in terms of
units and sales value.
d) Show the sales value which is required to produce an after tax return of 10% on capital
employed of Rs. 900,000 assuming tax rate of 50%. (June, 2014)(20 Marks)
Answer
a) Statement showing the Income of Citizen Limited for the year 2071
X Y Z
Selling price per unit (Rs.) 280 600 1,250
Variable cost per unit: (Rs.)
Direct materials 80 150 200
Direct wages 100 200 500
Variable overheads 50 100 250
Total variable costs (Rs.) 230 450 950
Contribution margin per unit (Rs.) 50 150 300
Units produced 500 500 1,100
Total contribution (Rs.) 25,000 75,000 330,000

Total contribution (Rs.) 430,000

Less: Fixed costs (Rs.) 250,000
Net Profit (Rs.) 180,000
Working Notes:
Total direct labour hours available 35,000
Labour hours used for 500 units of X [Rs. 100 / Rs. 20 × 500] 2,500
Labour hours used for 500 units of Y [Rs. 200 / Rs. 20 × 500] 5,000
Labour hours used for 500 units of Z [Rs. 500 / Rs. 20 × 500] 12,500 20,000
Remaining direct labour hours 15,000

As given in the question, the remaining 15,000 direct labour hours as calculated
above will be used to produce product Z. Therefore, the units of product Z
produced will be as follows:
Minimum committed units 500
Units produced from remaining labour hours [15,000 / 25] 600
Total units 1,100

b) In the given question the limiting factor is direct labour hours. So, the remaining 15,000
direct labour hours should be used for the product which gives maximum contribution per
direct labour hour. The contribution per direct labour hour is calculated as follows:

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X Y Z
Contribution margin per unit as above (Rs.) 50 150 300
Direct labour hours per unit (Wages / Rs. 20) 5 10 25
Contribution margin per direct labour hour (Rs.) 10 15 12
Ranking III I II

As product Y gives the maximum contribution per direct labour hour, the remaining
15,000 direct labour hours should be utilized to produce product Y. Therefore, the production
of product Y will be as follows:

Minimum committed units 500

Units produced from remaining labour hours [15,000 / 10] 1,500
Total units 2,000

Statement of income of Citizen Limited under alternative policy for the year 2071
X Y Z
Contribution margin per unit as per (a) above (Rs.) 50 150 300
Units produced 500 2,000 500
Total contribution (Rs.) 25,000 300,000 150,000

Total contribution (Rs.) 475,000

Less: Fixed costs (Rs.) 250,000
Net Profit (Rs.) 225,000

c) Citizen Ltd's break-even point in terms of sales units and value:

It is given in the question that the company has to produce 500 units of each product. At
break-even point, the contribution is just sufficient to meet the fixed costs. The contribution
from the minimum committed units of three products is as follows:
X Y Z
Contribution margin per unit as per (a) above (Rs.) 50 150 300
Units produced 500 500 500
Total contribution (Rs.) 25,000 75,000 150,000

Total contribution from minimum committed units is Rs. 250,000 and fixed costs of the
company is also Rs. 250,000. Therefore, the break-even point in terms of sales unit is 500 units
of each product. Similarly break-even point in terms of sales value is [(Rs. 280 × 500) + (Rs.
600 × 500) + (Rs. 1,250 × 500)] = Rs. 1,065,000

OR,

Can be calculated through overall PV ratio as below

PVR=
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=0.234742

Overall BEP sales =

BEP unit product of each product

d) Computation of sales value to produce an after tax return of 10% on capital
employed:
Rs.
Capital employed 900,000
Required return after tax @10% 90,000
Tax @ 50% 90,000
Total required return 180,000
As per (c) above, the company has to produce 500 units of each product to break-even. The
remaining 15,000 direct labour hours must be utilized to produce product Y, which gives highest
contribution per labour hour. Therefore, for finding the sales value to produce a 10% return on
capital employed, the gross return should be divided by contribution per unit of product Y as
follows:
Desired gross return (Rs.) 180,000
Contribution margin per unit of Y (Rs.) 150
Number of additional units to be produced 1,200
Now, total sales value will be:
Rs.
Product X : 500 units @ Rs. 280 140,000
Product Y : 1,700 units @ Rs. 600 1,020,000
Product Z : 500 units @ Rs. 1,250 625,000
Total 1,785,000

Question No 27:
Nits Ltd. specializes in seasonal novelty products and is considering the manufacture of a new
range of items to coincide with a major sporting event of Cricket in the city. The range will
initially comprise of 2 products, Flags and Bunting. To assist with budgeting, Nits Ltd has
collected the following projected information for the month of July 2014:
Projected sales: Quantity Sales revenue per item (Rs.)
Flags 4,000 18
Bunting 2,000 50

Production requirements: Cost per meter Flags Bunting

Material A Rs. 4.00 0.5 m 4m
Material B Rs. 2.00 1.0 m 3m
Finished goods inventory: Flags Bunting
1st July 200 -
31st July 950 1,325

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There is no opening or closing work in progress, however due to inefficiencies in the production
process, management expect that 5% of output will not pass quality control and therefore cannot
be sold.
Materials inventory: A B
1st July 6,000 m 20,000 m
31st July 10,200 m 14,000 m
(m denotes the measurement of cloths in meter)

Labour & Overhead:

The standard direct labour required to produce each Flag unit is 30 minutes and a Bunting unit
takes 1 hour to produce. Labour is paid at Rs. 10 per hour. Variable overheads (which will be
incurred evenly over the year) are projected at Rs. 360,000 per annum and these are to be
absorbed into production on the basis of direct labour hours.

Prepare the following Budget Statements:

i) Sales Budget
ii) Production Budget
iii) Material Purchasing Budget
iv) Labour Budget
v) Overhead Absorption Budget (June, 2014)(12 Marks)
Answer
i) Sales Budget:
Particulars Flags Bunting Total
Sales units 4,000 2,000 -
Sales price per unit (Rs.) 18 50 -
Sales value (Rs.) 72,000 100,000 172,000

ii) Production Budget (units):

Particulars Flags Bunting
Sales 4,000 2,000
Add: Closing stock
1,325
950
4,950 3,325
Less: Opening stock
200 -
Net production 4,750 3,325
Normal loss (%) 5 5
Total production (Net production / 95%) 5,000 3,500

iii) Materials Purchasing Budget:

Particulars Materials Total
A (in
B (in meters)
meters)
Flag (5,000 units) 2,500 5,000 -
Bunting (3,500 units) 14,000 10,500 -
16,500 15,500 -
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Add: Closing stock 10,200 14,000 -

26,700 29,500 -
Less: Opening stock 20,000 -
6,000
Purchases 20,700 9,500 -
Price per meter Rs. 4.00 Rs. 2.00 -
Total purchases Rs. 82,800 Rs. 19,000 Rs. 101,800

iv) Labor Budget:

Particulars Flags Bunting Total
Production units 5,000 3,500 -
Labor hour per unit 0.5 1.0 -
Total labor hour 2,500 3,500 -
Rate per hour Rs. 10 Rs. 10 -
Rs. Rs.
Total labor cost Rs. 25,000
35,000 60,000

v) Variable Overhead Absorption Budget:

Particulars Amt. in Rs.
Variable overheads for the year 360,000
Variable overheads for the month 30,000
Direct labor hour (2,500 + 3,500) 6,000 hour
Overhead rate per hour 5
Overhead absorption:
Flags (2,500 × Rs. 5) 12,500
Bunting (3,500 × Rs. 5) 17,500

Question No 28
Explain the concept of key factor. (June, 2014)(2.5 Marks)
Answer
Under marginal costing, profitability is ascertained as aggregate of contribution from all
products sold. With an objective to maximize profit, those products which yield highest
contribution are produced/sold in maximum quantities. It is generally assumed that there will be
no limitation which may create restriction in increasing quantities of one or more products. But
in practice, there may be number of factors which may create limitations. These may be
shortage of material, labor, plant capacity or sales. These are called key factors or limiting
factors. Hence, this will prevail:
Contribution per unit = contribution/key factor

Question No 29:
A company markets products X and Y which it makes by using its capacity to the extent of 50%
on X and 30% on Y. Budget for 2014 is as given below:
X Y
Production units 5,000 4,500
Direct materials/unit Rs. 300 Rs. 200
Conversion cost/unit
Variable Rs. 100 Rs. 80
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Fixed Rs. 50 Rs. 40

Selling price per unit Rs. 500 Rs. 350

Profit per unit Rs. 50 Rs. 30

For the next year's budget, the following factors are relevant:
 Direct Material cost will go up by 6%
 Variable conversion cost will increase by 10%
 Selling price of: X will be increased by 4% and Y will be increased by 6%

To utilize the idle capacity of 20%, three proposals as under were put forth:
a) Produce X and sell the output at the revised price. Production of X from the idle however
will be less by 10%
b) Produce Y but the increased production will be sold at the existing price
c) Utilize the idle capacity to produce a new product Z whose details are as under:
 Production form idle capacity: 2,000 units
 Direct Materials: Rs. 400 per unit
 Variable conversion cost: Rs. 200 per unit
 Selling price: Rs. 700 per unit
 Special publicity Expense: Rs. 20,000
 The present allocation of 50% and 30% respectively on products X
and Y cannot be changed.
You are required to prepare Statements of Profitability for 2014 and 2015.
(December, 2014)(20 Marks)
Answer
Statement showing the profitability of the products for 2014 as per
budget production (units) X= 5,000 and Y=4,500
Details Per unit Total Total
X Y X Y
1.Selling Price 500 350 2,500,000 1,575,000 4,075,000
2.Costs:
Direct Material 300 200 1,500,000 900,000 2,400,000
Conversion Cost:
Variable 100 80 500,000 360,000 860,000
Fixed 50 40 250,000 180,000 430,000
3.Total of 2 450 320 2,250,000 1,440,000 3,690,000
4.Profit (1-3) 50 30 250,000 135,000 385,000

a) Total contribution if Product X is produced

Production of X at 50% Capacity 5,000 units

Production of X at 20% Capacity 2,000 units
Less: 10% of this production 2,00 units
Net production of X if idle capacity is utilized 1800 units

Existing Increase Revised

(%) (Per unit)
Selling price 500 4% 520
Direct Materials 300 6% 318
Conversion Costs –variable 100 10% 110
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Total Variable Cost 428

Contribution per unit 92
Total Contribution (1,800* Rs.92) Rs.165,600

b) Total contribution if Product Y is produced

Production of Y at 30% Capacity 4,500 units

Production of Y at 20% Capacity 3,000 units

Existing Increase Revised

(%) (Per unit)
Selling price 350 350
Direct Materials 200 6% 212
Conversion Costs –variable 80 10% 88
Total Variable Cost 300
Contribution per unit 50
Total Contribution (3,000* Rs.50) Rs.150,000

c) Total contribution if a new product Z is produced

( Per unit)
Selling price Rs.700
Direct Materials Rs.400
Variable conversion cost Rs.200
Total Variable Cost Rs.600

Contribution per unit Rs.100

Total contribution ( 2,000 units * Rs.100) Rs.200,000

Less: Special publicity expense Rs.20,000

Net Total Contribution Rs.180,000

This proposal should be accepted as the total contribution is highest when

product Z is produced.

It is given in the proposal ( b) above that if product Y is produced in the idle time,
then additional production will be sold at the existing prices. Since proposal (c) is
recommended, the revised selling price of product Y will be :

Existing selling price per unit Rs. 350

Add: 6% increase in price Rs. 21
Revised price of product Y Rs. 371

Statement showing the profitability of three products for 2015 as per revised
budget
production (units) X= 5,000, Y=4,500 and Z=2,000
Details Per unit Total Total
X Y Z X Y Z
1.Selling Price 520 371 700 2,600,00 1,669,500 1,400,00 5,669,500
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0 0
Direct Material 318 212 400 1,590,00 954,000 800,000 3,344,000
0
Conversion Cost- 110 88 200 550,000 396,000 400,000 1,346,000
variable
Total V. costs 428 300 600 2,140,00 1,350,000 1,200,00 4,690,000
0 0
Contribution 92 71 100 460,000 319,500 200,000
Total Contribution 979,500
Less: Fixed Cost 430,000
Publicity for Z 20,000
Net Profit 529,500

Question No 30:
Maharjan Industries is feeling the effects of a general recession in the industry. Its budget for
the coming year is based on an output of only 500 tonnes of castings a month, which is less than
half of its capacity. The prices of castings vary with the composition of the metal and the shape
of the mould, but they average Rs. 175 a tonne. The following details are from the monthly
production cost budget at the 500 tonne level:

Particulars Core Melting and Moulding Clearing &

making pouring grinding
(Rs.) (Rs.) (Rs.) (Rs.)
Labour 10,000 16,000 6,000 4,500
Variable overhead 3,000 1,000 1,000 1,000
Fixed overhead 5,000 9,000 2,000 1,000
Total 18,000 26,000 9,000 6,500
Labour & overhead
Per direct labour hour 9.00 6.50 6.00 5.20

Operating at this level has brought the company to the brink of break-even. It is feared that if
the lack of work continues, the company may have to lay-off some of the most highly skilled
workers whom it would be difficult to get back when the volume picks up later on. No wonder,
the works Manager at his juncture, welcomes an order for 90,000 castings. To be delivered on a
regular schedule during the next six months. As the immediate concern of the works Manager is
to keep his work force together, occupied, he does not want to lose the order and is ready to
recommend a quote on a no profit on loss basis. Materials required would cost Re. 1 per casting
after deducting scrap credits. The direct labour hours per casting required for each department
would be:

Core making 0.09

Melting & pouring 0.15
Moulding 0.06
Cleaning & grinding 0.06

Variable overhead would bear a normal relationship to labour cost in the melting and pouring
department and in the moulding department. In core making, cleaning and grinding however,
the extra labour requirements would not be accompanied by proportionate increases in variable
overhead. Variable overhead would increase by Rs. 1.20 for every additional labour hour in core
making and by 30 paise for every additional labour hour in cleaning and grinding. Standard

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wage rates are in operation in each department and no labour variances are anticipated. To
handle an order as large as this, certain increases in fixed factory overhead would be necessary
amounting to Rs. 1,000 a month for all departments put together. Production for this order
would be spread evenly over the six months period.
Required:
a) Prepare a revised monthly labour and overhead cost budget, reflecting the addition of this
order.
b) Determine the lowest price at which quotation can be given for 90,000 casting without
incurring a loss. (July, 2015)(20 Marks)
Answer
Maharjan Industries
Revised monthly Labour & overhead cost budget
(After the acceptance of an order for 90,000 castings)

Core Melting Moulding Clearing & Total

Making and grinding
pouring
Rs. Rs. Rs. Rs.
Labour 16,750 25,000 9,600 59,090 7,740
Variable overhead 4,620 1,563 1,600 9,053 1,270
Fixed overhead 5,000 9,000 2,000 17,000 1,000
Total 26,370 35,563 13,200 85,143 10,010
Incremental fixed factory cost 1,000
Total labour and overhead cost 86,143
Working Notes:
(i) Current labour hours per month in each department are obtained by dividing the total
labour and overheads by the figure of labour and overheads per direct labour hour as
follows:
Core Making Melting and pouring Moulding Clearing & grinding

Rs. 18,000/9 hrs Rs. 26,000/6.50hrs Rs.9000/6hrs Rs. 6,500/5.2hrs

= 2,000 hrs =4,000 hrs =1,500 hrs =1,250hrs

(ii) 90,000 castings spread over 6 months give a production of 15,000 castings per month.
Incremental labour hours per month are got by multiplying the 15,000 castings by direct
labour hours per casting as under:

Core Making Melting and pouring Moulding Clearing & grinding

Rs. Rs. 15,000×0.15 Rs. 15,000×0.06 Rs. 15,000×0.09

15,000×0.09 = = 2,250 hrs = 900 hrs = 900 hrs
1,350 hrs

(iii) Wages rate per hour is found by dividing labour cost by direct labour hours as under:
Core Making Melting and pouring Moulding Clearing & grinding

Rs. 10,000/2,000hrs Rs. 16,000/4,000hrs Rs.6,000/1,500 hrs Rs. 4,500/1,250 hrs

= Rs.5 = Rs.4 = Rs.4 = Rs.3.60

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(iv) Revised monthly labour cost:

In Core making: Rs. 10,000 + (1,350×Rs. 5) = Rs. 16,750
In Melting & pouring: Rs. 16,000 + (2,250×Rs. 4) = Rs. 25,000
In Moulding: Rs. 6,000 + (900×Rs. 4) = Rs. 9,600
In cleaning & grinding: Rs. 4,500 + (900×Rs. 3.60) = Rs. 7,740

(v) Revised monthly variable overhead cost:

In core making,
Existing charges Rs. 3,000 + Rs. 1.20×1,350 (incremental hours)
= Rs. 3,000 + Rs. 1,620
= Rs. 4,620

In the Melting and pouring department,

It is 1/16 of labour cost. Hence revised variable overhead cost.
= Rs. 25,000×1/16
= Rs. 1,563

In moulding department
It is 1/6 of labour cost. Hence revised variable overhead
cost =9600×1/6
=1600
In clearing & grinding Department,
Existing charges Rs. 1,000 plus Rs. 0.30×900 (incremental hours)
= Rs. 1,000+ Rs. 270
= Rs. 1,270

(b) Determination of the lowest price at which quotation can be given for 90,000
castings without incurring a loss:
Rs. Rs.
Materials cost (15,000 casting per month @ Re. 1 each) 15,000
Labour and overhead cost:
Revised budget (above) 86,143
Less: Current budget (Rs.18,000 +Rs. 26,000 +Rs. 9,000+Rs. 6,500) 59,500 26,643

Total incremental cost for 15,000 castings 41,643

Lowest price at which quotation can be given for 90,000 castings:

Rs.41,643 × 90,000 casting
15,000 hrs
= Rs. 249,858

Question No 31
Mr X has Rs. 200,000 investment in his business firm. He wants a 15 percent return on his
money. From an analysis of recent cost figures, he finds that his variable cost of operating is
60% of sales; his fixed costs are Rs. 80,000 per year. Show computation to answer the
following question:
i) What sales volume must be obtained to break even?
ii) What sales volume must be obtained to get 15 percent return on investment?

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iii) Mr. X estimates that even if the closed the doors of his business, he would incur Rs.
25,000 as expenses per year. At what sales would he be better off by locking his business
up. (July, 2015)(4 Marks)
Answer
Suppose sales Rs.100
Variable cost 60
-------------
Contribution 40
-------------
P\V Ratio 40%
Fixed cost Rs. 80,000
i) B.E Point = Fixed cost÷P/V Ratio=80,000÷40% = Rs. 2,00,000
ii) 15% return on Rs. 200,000 Rs. 30,000
Fixed cost 80,000
-------------
Contribution required 1,10,000
Sales volume required=Rs.110,000÷40% or Rs. 275,000
iii) Fixed cost even if business is locked up=Rs. 25,000
Minimum sales required to meet this cost: Rs. 25,000÷40% or Rs 62,500
Mr X will be better off if the sale is more than Rs. 62,500

Question No 32:
Action Plan Manufacturers normally produce 8,000 units of their product in a month, in their
Machine Shop. For the month of January, they had planned for a production of 10,000 units.
Owing to a sudden cancellation of a contract in the middle of January, they could only produce
6,000 units in January.

Indirect manufacturing costs are carefully planned and monitored in the Machine Shop and the
Foreman of the shop is paid a 10% of the savings as bonus when in any month the indirect
manufacturing cost incurred is less than the budgeted provision.

Expenses for Planned for Actual in

Indirect Manufacturing January January costs
Normal month (Rs.) (Rs.) (Rs.)
Salary of foreman 1,000 1,000 1,000
Indirect labour 720 900 600
Indirect material 800 1,000 700
Repairs and maintenance 600 650 600
Power 800 875 740
Tools consumed 320 400 300
Rates and taxes 150 150 150
Depreciation 800 800 800
Insurance 100 100 100

5,290 5,875 4,990

Do you agree with the Works Manager? Is the Foreman entitled to any bonus for the
performance in January? Substantiate your answer with facts and figures.
(July, 2015)(10 Marks)

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Answer
Flexible Budget of “Action Plan Manufactures”
(for the month of January)

Indirect
manufacturing Nature of Expenses for Planned Expenses as Actual Difference
Cost cost a normal expenses for per flexibleexpenses for Increased
month January budget forthe month of (decreased)
January January
Rs. Rs. Rs. Rs.
(6) = (5) –
(1) (2) (3) (4) (5) (4)
Salary of foreman Fixed 1,000 1,000 1,000 1,000 Nil
Indirect labour Variable 720 900 540 600 60
(Refer to Working
note 1)
Indirect material Variable 800 1,000 600 700 100
(Refer to Working
note 2)
Repair and
maintenance Semi-variable 600 650 550 600 50
(Refer to Working
note 3)
Power Semi-variable 800 875 725 740 15
(Refer to Working
note 4)
Tools consumed Variable 320 400 240 300 60
(Refer to Working
note 5)
Rates and taxes Fixed 150 150 150 150 Nil
Depreciation Fixed 800 800 800 800 Nil
Insurance Fixed 100 100 100 100 Nil

5,290 5,875 4,705 4,990 285

Conclusion : The above statement of flexible budget clearly shows that the concern‟sexpenses
in the month of January have increased from Rs. 4,705 to Rs. 4,990. Under such circumstances
the Foreman of the company is not at all entitled for any performance bonus in January.
Working Notes:
Working notes :
1. Indirect labour cost per unit Rs 720 =0.09P.
8,000
= 6,000 × 0.09P = Rs.
Indirect labour for 6,000 units 540.
2. Indirect material cost per unit Rs 800 = 0.10P
8,000
Indirect material for 6,000 units = 6,000 × 0.10P = Rs. 600

3. According to high and low point method of segregating semi-variable cost into fixed and
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variable components, following formulae may be used.

Variable cost of repair and maintenance per unit

Rs 650 - Rs = 0.025
= Change in expense level= 600 P.
Change in output level 2,000

For 8,000 units

Total Variable cost of repair and maintenance = Rs. 200
Fixed repair & maintenance cost = Rs. 400

Hence at 6,000 units output level, total cost of repair and maintenance should be
= Rs. 400 + Rs. 0.025 × 6,000 units

= Rs. 400 + Rs. 150 = Rs. 550

4. Variable cost of power per unit = Rs 875 - Rs 800 = 2,000

0.0375 unit

For 8,000 units

Total variable cost of power = Rs. 300 Fixed

cost = Rs. 500
Hence, at 6,000 units output level, total cost of power should be

= Rs. 500 + Rs. 0.0375 × 6,000 units

= Rs. 500 + Rs. 225 = Rs. 725

5. Tools consumed cost for 8,000 units = Rs. 320

Hence, tools consumed cost for 6,000 = (Rs. 320/8,000 units) × 6,000
units units
= Rs. 240

Question No 33:
Caltech Co. is experiencing a shortage of the highly skilled labour that it uses to produce its
only product, the “Olsen”. It wishes to prepare budgets for the year ending 31st December
2015. The standard cost card for the Olsen for 2015 and other relevant information are given
below.
Cost per unit
(Rs.)
Direct material A (6 kg Rs. 2 per kg) 12.00
Skilled labour (2 hours Rs. 25 per hour) 50.00
Unskilled labour (4 hours Rs. 15 per hour) 60.00
Prime cost 122.00
Variable production overhead (6 hours Rs. 5 per hour) 30.00
Fixed production overhead (6 hours Rs. 4 per hour) 24.00
Standard full cost of production 176.00

Notes relevant to budget preparation:

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 Direct material A is freely available.

 20 skilled workers are employed. Each is contracted to work for 40 hours per week for
48 weeks per year and in addition will work overtime, up to a maximum of 8 hours per
week, for a premium of 50% per hour.
 There is no shortage of unskilled labour and all of their hours will be paid at basic rate.
 The standard fixed overhead absorption rate was set based upon 150,000 standard
labour hours per year.
 The Olsen will be sold at Rs. 250 per unit, and demand at this price is estimated to be
30,000 units per annum.
 Caltech Co. carries no inventory of raw materials or finished goods at any time.

Required:
a) Construct a budget for skilled labour for the year ending 31st December 2015,
assuming that the maximum amount of overtime is worked. Your budget should show
basic hours, overtime hours, basic pay and overtime premium paid.
b) Assuming that the principal budget factor for Caltech Co. is 46,080 skilled labour
hours, and that the company wishes to maximize its profits, calculate the following
budgeted figures for the year ending 31st December 2015:
i) Production in units;
ii) Unskilled labour (in hours and Rs.);
iii) Direct material usage (in kg and Rs.);
iv) Sales (in units and Rs.).
c) Prepare a budgeted income statement for the year ending 31st December 2015.
d) Suggest four ways by which a company could overcome shortages of skilled labour.
(December, 2015)(20 Marks)
Answer
(a) Skilled labour budget:

Basic hours (20 workers x 40 hours per week x 48 weeks per year) 38,400 hours
Overtime hours (20 workers x 48 weeks per year x 8 hours) 7,680 hours
Total hours 46,080 hours

Rs.
Basic pay (46,080 hours x Rs.25 per hour) 1,152,000
Overtime premium (7,680 hours x Rs.25 per hour x 50%) 96,000
Total Rs.1,248,000

(b) Budgets for the year ending 31st December 2015

(i) Production budget

Production (46,080 hours ÷ 2 skilled hours per unit) 23,040 units

(ii) Unskilled labour budget

Basic hours (23,040 units x 4 hours per unit) 92,160 hours

Basic pay (92,160 hours x Rs.15 per hour) Rs.1,382,400

(iii) Direct material

Material usage (23,040 units x 6 kg per unit) 138,240 kg

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Material cost (138,240 kg x Rs.2 per unit) Rs.276,480

(iv) Sales budget

Units (from above) 23,040 units

Revenue (23,040 units x Rs.250 per unit) Rs.5,760,000

(c) Income statement

Rs.
Sales revenue (from (iv) above) 5,760,000
Direct labour
Skilled (from (a) above) (1,248,000)
Unskilled (from (ii) above) (1,382,400)
Direct material (from (iii) above) (276,480)
Variable overhead (w1) (691,200)
Fixed overhead absorbed (w2) (552,960)
Under absorbed fixed overhead (w3) (47,040)
Profit Rs.1,561,920

Working 1 46,080 skilled hours ÷ 2 hours x 6 hours x Rs.5 per hour

Working 2 46,080 skilled hours ÷ 2 hours x 6 hours x Rs.4 per hour
Working 3 (150,000 hours – 138,240 hours) x Rs.4 per hour = Rs.47,040

(d) Overcoming labour shortages:

Labour shortages could be overcome by
– Recruiting more skilled labour, possibly by offering higher wages
– Training more skilled workers
– Investing in equipment to improve the productivity of skilled employees
– Using unskilled labour to perform the simpler elements of the skilled labour‟s work
– Subcontracting (outsourcing) some of the work to other manufacturers.

Question No 34:
A Pharmaceuticals company produces formulations having a shelf life of one year The company
has an opening stock of 15,000 boxes on 1st January , 2015 and expects to produce 65,000 boxes
as was in the just ended year of 2014 .Expected sale would be 75,000 boxes. Costing department
has worked out escalation in cost by 25% on variable cost and 10% on fixed cost for the year
2015. Fixed costs are estimated at Rs. 1,430,000. New price announced for 2015 is Rs. 50 per
box. Variable cost of the opening stock is Rs. 20 per box.
Required:
i) To find out break -even volume for the year 2015, and
ii) To estimate the profits that would be realised on the sale during 2015.
(December, 2015)(10 Marks)
Answer
(i) This product has a shelf life of one year hence the company will first dispose of the opening
stock as on 1st January 2015. This would give a contribution of Rs 4.50 lakhs {i,e
15,000×(Rs.50-Rs 20)}.
The fixed cost for the year is estimated to Rs. 14.30 lakhs. Hence, the balance fixed cost to be
recovered amount to Rs 9.80 lakhs (i,e , Rs 14,30,000-Rs 4,50,000).

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Variable cost would go up by 25% in 2015. The variable cost for the year 2015 would
therefore be Rs 20×1.25=Rs.25. Thus , new contribution from selling price of Rs.50 would
amount to Rs. 25 per box.
The sales volume(in units) required to recover the balance of fixed costs would therefore be :
9,80,000÷25=39,200 boxes
The Break- even point for the year would therefore be at a production of:
15,000+39,200=54,200 Boxes.

(ii) Total fixed Cost =Rs 14.30 lakhs

Production =65,000 boxes
Fixed Cost per Box =Rs. 22

This is higher by 10% compared to 2014.The element of fixed cost per box included in
opening stock on Jan 1, 2015 would therefore be Rs 20.
The price break -up per box is as follows:
Opening stock Current
production
Variable Cost 20 25
Fixed Cost 20 22
Profit Margin 10 3
Selling Price 50 50

Profit on sale of 75,000 boxes during 2015 would be as follows :-

For 15,000 boxes @Rs 10 Rs 1,50,000
For 60,000 boxes @Rs 3 Rs 1,80,000
For 75,000 boxes Rs 3,30,000

Question No 35:
Sales Managers of two companies compare notes and find that their sales turnover for last year
was the same viz, Rs. 10 lakhs and the profits they made also were the same being 10% of
turnover. In one company the fixed cost were double the variable costs while in the other, it
was quite opposite -the variable costs were double the fixed costs. As an accountant, do you
think that they are equally profitable? If not, discuss their relative vulnerability to market
conditions. (December, 2015)(10 Marks)
Answer
STATEMENT OF PROFITABILITY
(Rs in lakhs)
Company x Company y
Sales 10 10
Less: Variable Costs 3 6
Contribution 7 4
Less: Fixed Costs 6 3
Profits 1 1

P/V Ratio 70% 40%

Break -even point 8.57 7.5
Margin of Safety 14.3% 25%

It is clear from the above analysis that the Company X and Company Y are not equally
profitable. Company X has a higher P/V Ratio as compared to company Y. But at the same
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time ,its fixed costs are also high .As a result company X is more vulnerable to market
fluctuations as compared to company Y. For example if the sales fall by 20% the company X
will suffer a loss of Rs 40,000 while company Y will still make a profit of Rs 20,000. This
shows that a company with a low fixed cost and high variable cost is less vulnerable to market
fluctuations as compared to a company with low variable costs and high fixed costs.
Working Notes:
(i) Computation of Variable Cost for Company X
Let the variable costs for company X be 'X'
Fixed costs for company X will be 2X
Total costs=9 lakhs
Hence X+2X=9 lakhs
or X=3 lakhs.
The Fixed costs in company X will therefore be Rs. 6 lakhs.
(ii) Computation of Variable Costs for company Y
Let the variable costs of Y be 'Y'
The fixed Cost will be 0.5 Y
Total Costs= 9 lakhs.
Hence, Y+0.5Y= 9lakhs.
or Y=6 lakhs.
In Company Y, the Variable Costs are therefore Rs. 6 lakhs and Fixed Costs are Rs. 3 lakhs.

Question No 36
What are the limitations of break-even chart? (December, 2015)(2.5 Marks)
Answer
The break –even charge is a graphical representation of cost-volume profit relationship.
Limitations of break-even chart is as follows:
a. The variable cost line need not necessarily be a straight line because of the poosibility of
operation of law of increasing returns or law of decreasing returns.
b. The selling price will not be constant factor. Any increase or decrease in output is likely to
have an influence on the selling price
c. When a number of products are produced, separate break-even charts will be have to be
calculated. This poses a problem of apportionment of fixed expenses to each product.
d. Break –even charts ignore the capital employed in business which is one of the important
guiding factors in the determination of profitability.

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Chapter 9:

Costing and Inter-Firm Comparison

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Question No 1
Briefly discuss the main purpose of inter-firm comparison. (December 2010)(5 Marks)
Answer
The main purpose of inter-firm comparison is to motivate the management to improve the
efficiency by showing the present level of achievements and possible weakness areas. Such a
comparison can be instrumental in overcoming following types of problems/weaknesses facing a
business entity.
i) Profit adequacy:
Profit is the principal factor to motivate any commercial venture or organization. The relation of
profit to capital employed is the general norm employed to assess the efficiency or return of
commercial firms. If the return on capital employed is less than that of other efficient firms
within the industry, it is an indicator to show that some factors are not operating efficiently
within the firm in question. These can be isolated by means of the various ratios computed for
the firm and other competitors. Suitable corrective and follow up actions is then initiated to
improve the profitability situation of the concerned firm.
ii) Efficiency in selling:
The operating profit to total sales and to capital employed are vital ratios to indicate the profit-
earning capacity of a firm. The first ratio indicates the total margin earned by the sales expressed
as a percentage. On the other hand, the sales to capital employed indicates how much is sold per
rupee invested. A comparison of these ratios with efficient firms and subsequent analysis of the
reasons could throw out areas where the firm needs improvement for improving the efficiency.
iii) Production efficiency:
In order that the firm earns reasonable return, it is necessary that the production departments
produce required volume of output at reasonable costs. For this purpose, the factory cost of sales
is broken down into direct material, direct wages and production overhead costs. A comparison
of these figures with other firms of the industry may point out the sources of inefficiencies. For
instances, production efficiency of a firm as compared to efficient firms within an industry may
have been affected by lower labour untilization or lower labour utilization.

Question No 2:
Write short note on
Write short notes on the following (June 2012)(3×2.5=7.5 Marks)
Answer
Activity Ratio: It is a measure of the level of activity attained over a period of time. It is obtained
by expressing the number of standard hours equivalent to the work produced as a percentage of
the budgeted hours. Higher the ratio better is the performance. Mathematically it is expressed as
follows:

Activity Ratio = Standard hours of actual production x 100

Budgeted hours

Level of activity is arrived by comparing the actual production with the anticipated production as
shown in the budget.

Calendar Ratio: Actual activity gets affected if the budgeted number of days could not be
worked. Hence, calendar ratio is calculated to control the number of days actually available for
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work. This ratio indicates whether all budgeted working days have been actually available for
working in the budgeted period.

Calendar Ratio = Actual working days x 100

Budgeted working days

Capacity Usage Ratio: It indicates the relationship between the budgeted number of working
hours and the maximum possible number of working hours in a budgeted period.

Capacity Usage Ratio = Budgeted number of working hours x 100

Maximum number of working hours

Standard Capacity Employed Ratio: It indicates the extent to which facilities were actually
utilized during the budgeted period. Higher ratio indicate that higher capacity were used in actual
compare to budget.

Standard Capacity Employed Ratio = Actual hours worked x 100

Budgeted hours
Efficiency Ratio: This indicates the efficiency attained in production during the budgeted period.
It is calculated as follows:

Efficiency Ratio = Standard hours of actual production x 100

Actual hours worked

Question No 3:
Explain the role of uniform costing in inter-firm comparison. (December 2012)(2.5 Marks)
Answer
When several undertakings in an industry, group and association use same costing principles and
practices, it is known as uniform costing. The application of uniform costing in an industry
provides the means whereby relevant information can be obtained and it helps in comparing the
production efficiency of two firms at the time of merger.

Inter-firm comparison is the technique of evaluating the performance efficiencies, costs and
profits of firms in an industry. The application of uniform costing greatly facilitates inter-firm
comparison by providing information relating to costs, profits, prices, efficiency etc. Inter-firm
comparison will not be possible if uniform costing is not in existence.

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Chapter 10:

Control and Cost Reduction

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Question No 1:
Distinguish between
a. Cost control and cost reduction (June 2010)(December 2010) (June 2011)
(December 2011) (December 2012) (June, 2014)(2.5 Marks)
Answer
Cost control process involves setting standards, ascertaining actual performance, comparing
actual with standards, investigating variances, and taking corrective actions finally resulting to
cost reduction. Cost control aims at achieving standards where as cost reduction aims at
improving the standards. Cost reduction assumes existence of concealed potential savings in the
standards. It is dynamic and always looks for measures of reducing cost.
Cost control is preventive. It attempts to optimize costs before they are incurred. Cost reduction
is corrective and attempts to find scope of reducing incurred costs under controlled conditions.
Cost control requires existence of standards and management guidelines; but cost reduction is
applicable to every activity of the business. It does not require standard and provides guidelines
to management.

b. Protective purpose and constructive purpose of cost audit (December 2011)(2.5 Marks)
Answer
Protective purpose of Cost Audit: Under this, cost audit aims at examining that there is no
undue wastage or losses and the costing system brings out the correct and realistic cost of
production or processing. The benefit of this protective function is derived by the organization,
its owners and consumers.
Constructive purpose of Cost Audit: Cost audit has a constructive purpose as well. Cost auditor
plays a constructive role by providing management of the company with information useful in
regulating production; choosing economical methods of operation, reducing operations costs
and re-formulating plans etc. on the basis of his findings during the course of cost audit

c. Efficiency Audit and Propriety Audit (December 2012) (December 2013)( (2.5 Marks)
Answer
Cost audit, apart from having all the normal ingredients of audit, i.e. vouching, verification etc.,
has within its domain elements of efficiency audit and propriety audit. Efficiency audit is
directed towards the measurement of whether corporate plans have been effectively executed. It
is concerned with the utilisation of the resources in economical and most remunerative manner
to achieve the objectives of the concerns. It comprises of studying the plans of the organization,
comparing actual performance with plans and investigating the reasons for variances to take
remedial action. For example, the effective utilization of capital in an organization can be
gauged by determining the return on capital employed.
On the other hand propriety audit is concerned with the executive actions and plans bearing on
the finances and expenditure of the company. The cost auditor has to judge:
1. Whether the planned expenditure is designed to give optimum results;
2. Whether the size and channels of expenditure were designed to produce the best results;
and
3. Whether the return from expenditure on capital as well as current operations could be
bettered by some other alternative plan of action.

d. Cost Audit and Statutory Audit (June, 2014)(2.5 Marks)

Answer

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Cost audit offers valuable assistance to the management in its decision-making process by
examining the reliability of cost accounting data and information. Due to the assistance
provided by cost audit, management is in a position to know what price is to be fixed for a
product, whether the wastages are avoidable whether to reorganize sales or inventory system to
make work more efficient and effective. Cost audit, apart from having all the normal ingredients
of audits i.e. vouching, verification etc has been within its domain elements of efficiency audit
and proprietary audit.
Statutory audit is the examination of books and records to form an opinion on whether profit &
loss account and balance sheet of a company or business concern provides a true and fair view
of profits (in the relevant financial period) and financial position on a particular date. Statutory
audit is related with only historical figures and data. It is performed after the expenditures have
been incurred and accounts have been prepared.

e. Information required for preparation of cost audit (June 2011)(2.5 Marks)

Answer
Preparation for cost audit of an organization requires the knowledge and gathering of following
information and data:
 Cost accounting system used in the organization,
 Production methods and manufacturing processes,
 Raw materials and components used in production,
 Cost records and documents,
 Cost accounting rules or cost accounting manual used in the organization,
 Important information mentioned about the costing requirement in Memorandum and
Articles of Association, etc.

f. Efficiency audit (December 2011)(2.5 Marks)

Answer
Efficiency audit is directed towards the measurement of whether corporate plans have been
effectively executed. It is concerned with the utilisation of the resources in economic and most
remunerative manner to achieve the objective of the concern. It comprises of studying the plans
of organisation, comparing actual performance with plans and investigating the reasons for
variances to take remedial action. For example, the effective utilisation of capital in an
organisation can be gauged by determining the return on capital employed.

g. Synergetic effect in cost reduction (December 2011)(2.5 Marks)

Answer
Synergy is the interaction of two or more agents or forces so that their combined effect is
greater than the sum of their individual effects. Business interaction among groups, especially
among the acquired subsidiaries or merged parts of a corporation that creates an enhanced
combined effect is known as synergy effect. When the presence of one unit enhances the effects
of the second it is call synergistic effect. The word synergy means that the sum of parts is
greater than the total value of each part. The result of two or more people, groups, processes or
organizations working together enhanced the combined effect of individual people, process or
organization. In other words, one and one equals three! The word is used quite often to mean
that combining forces produces a better product.

In the field of costing, synergy is the result of combined process or unit or organization that
result in cost reduction due to minimization of waste, shortening processes, division of labour
and enhancing productivity, sharing common cost etc. Synergy affects cost control and
ultimately reduction. Synergy is usually accomplished by combining functions (such as
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production or customer service) or facilities (such as warehousing) eliminating some

duplication. Synergetic effect normally helps cost reduction as follows:
 It increases business volume, so the fixed cost per unit gets reduced.
 It eliminates duplication process or function.
 Labour productivity increases and the cost of labour per unit get reduced.
 Minimizes material waste due to process combination.
 Indirect cost e.g. administration, selling and distribution expenses minimizes due
combination of function

h. Scope of Cost Reduction (December 2013)(2.5 Marks)

Answer
Cost reduction is attainable in almost all areas of business activities. There is perhaps no
situation which cannot be improved. It covers a wide range like new layout, product design,
production methods, material substitution, improved tool design, better utilization of men,
materials and machines in factories as well as in offices, innovation in marketing etc. It also
extends to specified activities like purchasing, handling, packaging, shipping, warehousing,
marketing, use of administrative facilities and even utilization of financial resources. Excessive
cost may result in every organization from:
a. Lack of information about raw materials, processes, products, components etc.
b. Lack of utilization of ideas generated from performance and economic analysis.
c. Honest but wrong beliefs that certain things are impossible of achievement.
d. Temporary circumstances like features developed under pressure or modifications made
to meet certain circumstances.
e. Habits and attitudes confining one to conventional methods.

It is not necessary for management to proceed in any specific sequence in considering the
various aspects of cost reduction and it may be necessary to start the campaign in more than one
direction at the same time.

Question No 2:
What are the assumptions involved in the definition of cost reduction? (June 2010)(2 Marks)
Answer
The threefold assumption involved in the definition of cost reduction may be
summarized as under:
(i) There is a saving in unit cost.
(ii) Such saving is of permanent nature.
(iii) The utility and quality of goods and services remain unaffected, if not improved.

Question No 3:
Briefly explain the benefits of cost audit to the management.
(June 2010)(2 Marks)
Answer
Benefits of Cost Audit to the management
i) Cost audit assists in the detection of errors and frauds. Continuous cost audit prevents
manipulation and frauds.
ii) Cost data becomes more reliable. Inventory valuation certified by the cost auditor ensures
the correctness and integrity.
iii) Cost audit facilitates improved cost accounting methods and better internal control.
iv) Disclosures made in the cost audit reports create cost consciousness in the management.

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v) Cost audit helps to improve the effectiveness of cost control and cost presentation. This is
achieved when the cost auditor points out avoidable wasteful routines and procedures and
recommends the introduction of cost efficient routines and procedures.
vi) Cost audit assists the management to take action for economic and efficient use of labour
material and other resources. This will contribute towards achieving higher productivity
and higher utilization of capacity.
vii) Cost audited data could be helpful in comparing inter-firm performance.
viii) Cost audit could be instrumental in identifying the symptoms of sickness in a unit. This
will help the management to initiate timely remedial actions to prevent the sickness.

Question No 4:
What are the advantages of cost audit to the management? Explain in brief.
(December 2010)(2.5 Marks)
Answer
i) Cost audit assists in the detection of errors and frauds.
ii) Cost audited data is more reliable for the preparation of accurate cost reports and returns
for presentation to the parties interested. The inventory valuation certified by the cost
auditor is considered correct and reliable.
iii) Cost audit contributes towards the improved cost accounting methods and thus ensures
better internal control.
iv) The disclosures made in the cost audit reports create cost consciousness in the
management.
v) The cost auditor points out avoidable wasteful routine and procedures and recommends for
the introduction of an efficient cost routine. Thus it will help to reduce expenditure in cost
accounts and at the same time, ensures promptness in its preparation.
vi) Cost audit aids the management to initiate action for economic and efficient usage of
labour, material and other resources. This will lead to higher productivity and better
utilization of resources.
vii) Audited cost data is useful for the purpose of inter-firm comparison.
viii) Cost audit may be useful in identifying the symptoms of sickness in an enterprise. Suitable
remedial measures could be initiated in such situations.

Question No 5:
One of your friends established a vehicle-repairing workshop and was worried about the
increasing cost of operation and decreasing margin. He was from engineering background so
have little knowledge of accounting. He wishes to appoint a cost auditor for review of his
existing system but he is confused about the purpose of cost audit. Describe the purpose of cost
audit and suggest your friend. (June 2012)(5 Marks)
Answer

The purpose of cost audit is to examine whether the methods used for ascertaining cost and
other decisions are being properly implemented and whether cost accounting plan has been
adhered to or not.
Mainly we could classify purpose of cost auditing as; i) Protective and ii) constructive

Protective purpose of cost audit: Cost audit aims at examining that there is no undue wastage or
loss and costing system brings out the correct and realistic cost of production or processing.

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Constructive purpose of cost audit: cost audit can provide information useful in regulating
production; choosing economical methods of operation, reducing operating cost and
reformulating plans etc. on the basis of findings during the course of cost audit.

So I will suggest my friend to hire cost auditor having knowledge of vehicle repairing
workshop, who can help him using protective and constructive module of cost audit

Question No 6:
You joined a manufacturing company with very good profitability record. Staff and owners
were happy with the profit margin. Do you think there may be still some room for cost
reduction to increase profit margin? Justify your answer. (June 2012)(2.5 Marks)
Answer
Even though industry is making good profit margin and running at good profit; there should be
cost reduction attainable in almost areas of business activities. There is perhaps no situation
which cannot be improved for cost reduction. We can review new layout, product design,
production methods, material used, labour efficiency, machines used, office layout, innovation
in marketing, packaging, warehousing, handling, purchasing, use of administrative facilities and
even utilization of financial resources.
Cost may be additionally incurred because of:
i. Lack of information about raw materials, processes, products and components
etc.
ii. Lack of utilization of ideas generated from performance and economic analysis
iii. Hones but wrong beliefs that certain things are impossible for achievement
iv. Temporary circumstances like features developed under pressure or
modifications made to meet certain circumstances.
v. Habits and attitudes of confining to one conventional method

Considering all factors we can review all of the cost factors and analyze the probability of cost
reduction in all areas at a same time or one by one considering the size of operation and cost
involved.
After making such detailed study, cost reduction areas could be identify in one or more areas of
operation.

Question No 7:
Discuss the circumstances under which a Cost Audit is ordered along with the purpose of Cost
Audit. (June 2013)(2.5 Marks)
Answer
Circumstances under which Cost Audit is ordered
i. Price Fixation – The need for fixation of retention price in case of materials of national
importance like steel, cement etc., may cause a necessity for cost audit.
ii. Cost variation within an industry: Cost audit may be necessary to find reasons for such
differences.
iii. Inefficient Management – Where a factory is run inefficiently and uneconomically,
institution of cost audit may be necessary.
iv. Tax assessment – Where a duty or tax is levied on products based on cost of production, the
levying authorities may ask for cost audit to determine the correct cost of production.
v. Trade disputes: cost audit may be useful in settlement of trade disputes about claim for
higher wages, incentives etc.

Purposes of Cost Audit

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i. Protective purpose: To examine that there is no undue wastage or losses and the costing
system brings out the correct cost of production or processing.
ii. Constructive purpose – Cost Audit provides information to management useful in regulating
production, choosing economical methods of operation and reducing operations cost.

Question No 8:
Cost estimation and cost ascertainment are not inter-related. Do you agree?
(July, 2015)(2.5 Marks)
Answer
No. Cost ascertainment and cost estimation are actually inter-related.
Cost estimation is the process of pre-determining the cost of a certain product or job or order.
Such pre-determination may be required for several purposes. Some of the purposes are
Budgeting; Measurement of performance efficiency; Preparation of financial statements
(valuation of stocks etc); Make or buy decisions; Fixation of the sale prices or products
Cost ascertainment is the process of determining costs on the basis of actual data. Hence, the
computation of historical costs is cost ascertainment while the computation of future cost is cost
estimation.
Both cost estimation and cost ascertainment are inter-related and are of the immense use to the
management. In case a concern has a sound costing system, the ascertained costs will greatly
help the management in the process of estimation of rationale accurate costs which are
necessary for a variety of purposes stated above. Moreover, the ascertained cost may be
compared with the pre-determined costs on a continuing basis and proper and timely steps be
taken for controlling costs and maximizing profits.

Question No 9:
Write short note on
Circumstances under which cost audit is ordered (December, 2015)(2.5 Marks)
Answer
a) Price Fixation: The need for fixation of retention price in case of materials of national
importance like steel, cement, salt, sugar etc. may cause a necessity for cost audit.
b) Cost variation within an industry: Cost audit may be necessary to find the reasons for such
differences within the same industry.
c) Inefficient Management- Where a factory is run inefficiently and uneconomically, cost
auditmay be warranted to save the organisation.
d) Tax assessment- where a duty or tax is levied on products based on cost of production, the
levying authorities may ask for cost audit to determine the correct cost of production.

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