Test Bank for Cost Analysis for Engineers & Scientists-Manufacturing & Production Engineering 1E by

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COMPLETE Elaborated Test Bank for Cost Analysis for Engineers and Scientists-Manufacturing and Production Engineering 1st Edition Fariborz Tayyari 2022

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Cost Analysis for Engineers and ScientistsManufacturing and Production Engineering 1st Edition

by Fariborz Tayyari ISBN-10 113836228X ISBN-13 978-1138362284

Test bank for Cost Analysis for Engineers and Scientists-Manufacturing and Production Engineering 1st Edition by Fariborz Tayyari

ISBN-10 113836228X ISBN-13 978-1138362284

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TABLE OF CONTENTS 1. Accounting Informational Systems.

2. Manufacturing Costs.

3. Inventory Valuation and Cost of Goods Sold.

4. Methods of Product Costing.

5. Cost Estimating Methods.

6. Joint Cost Allocation.

7. Cost-Volume-Profit (CVP) Analysis – Short-Term.

8. Cost-Volume-Profit (CVP) Analysis – Long-Term.

9. Financial Analysis.

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R1.6. Current liabilities are obligations that are due within the following year of the balance sheet date. Therefore, the portion of long-term liabilities that is due with twelve months of the balance sheet date must be listed as a current liability. The following accounts must be reported on a balance sheet aa current liabilities: •

Accounts Payable. These are the amounts that are due to vendors who have supplied goods or services, but they have not yet been paid.

R1.6. (continued) •

Unearned Revenues. This account reflects the amounts that customers have prepaid in advance for the goods or services to receive in near future.

•

Accrued Compensation (or Wages Payable). Includes payroll related items such as the amounts due to employees and the payroll taxes and health insurance.

•

Accrued Expenses. These include the amounts that the company owes for items not recorded in accounts payable or accrued compensation. Examples are the interests on loans that a firm has incurred (but has not yet paid), the utility and phone bills for the reporting year that firm has received in the following fiscal period, and repair services that took place but the firm had not paid the invoices in the reporting period.

•

Short-Term Notes Payable. These include the loans from banks that will be due within one year of the balance sheet date.

•

Current Portion of Long-Term Debt. The portion of principals of long-term loans that are due within one year of the balance sheet date. Note that the incurred interests on the long-term loans are included in Accrued Expenses account.

•

Taxes Payable. These include the accrued income taxes and deferred income taxes.

R1.7. The formula for calculating COGS is: Beginning Inventory + Net Purchases - Ending Inventory = Cost of Goods Sold.

R1.8. For a merchandising firm, the COGS represents what the firm had paid for the inventory it has sold during a given fiscal period. It includes the purchasing costs, freight-in and storing costs of the goods that the firm sold during the period.

For a manufacturing firm, the COGS is the manufacturing cost of products sold (the cost includes raw materials, including the purchasing cost, freight-in and storing cost the items, direct labor costs for workers who produce the products and factory overhead costs).

R1.9. It includes things of value that a firm buys from another entities, or it has produced, and stored. Inventory includes materials and goods that a firm has stored to sell to its customers for some profit.

Chapter 1: Accounting and Cost Information Systems Problem Solutions P1.1 Solution a) John Smith Advertising Company General Journal Page 1 Date 20XX 2/01 02 02

03 03 04 05 06

12 13

14

Description Cash

Ref.

Dr.

Cr.

25,000

John Smith, Capital Prepaid Rent Cash Art Equipment Accounts Payable Purchase of art equipment from Zoran Art Supplies on credit Office Supplies Cash Prepaid Insurance Cash Accounts Payable Cash Accounts Receivable Fees Revenue Cash Unearned Fees Advance receipt from the car dealer John Smith, Withdrawals Cash Unearned Fees Accounts Receivable Fees Revenue Completion of service for the car dealer Salary Expense Cash TOTALS

P1.1: Part (b) Solution

25,000 2,000 2,000 6,000 6,000

300 300 650 650 1,000 1,000 900 900 500 500 300 300 500 700 1,200 500 500 38,350

38,350

Cash Dr. (1) (9)

John Smith, Capital Cr.

25,000 500

25,500 20,750

2,000 300 650 1,000 300 500 4,750

Dr. 25,000

Prepaid Rent Dr. (2)

Dr. (3)

2,000

1,000

6,000

1,000

6,000 5,000

(3)

Dr. (5)

Cr.

Cr. 300

Dr.

Cr.

650

900 1,200 2,100

500

500

500

500 0

(9)

Dr. (10)

Cr. 300

Salary Expense Cr.

900 700 1,600

(8) (11)

John Smith, Withdrawals Cr.

Accounts Receivable Dr. (8) (11)

6,000

Fees Revenue

Unearned Fees Dr. (11)

Cr.

Office Supplies Cr.

Prepaid Insurance Dr. (6)

(1)

Art Equipment Cr.

Accounts Payable Dr. (7)

Cr.

(2) (5) (6) (7) (10) (12)

Dr. (12)

Cr. 500

P1.2: Solution a) Bunyon Consulting Company Trial Balance As of June 30, 20XX Account Accounts Receivable Accounts Payable -Asset Accumulated Depreciation, Building -Asset Accumulated Depreciation, Equipment Asset Building Asset Cash Exp. Depreciation Expense, Building Exp. Depreciation Expense, Equipment Asset Equipment Asset Land Asset Marketable Secureties Liab Mortgage Payable Rev. Revenues Exp. Salary Expense Asset Supplies Exp. Supplies Expense Exp. Utilities Expense O.E. William Woody, Capital Asset Liab

Subtotals - O.E.

William Woody, Withdrawals TOTAL

Dr.

Cr.

$206,281 $145,895 171,200 162,702 856,000 350,150 34,240 40,675 406,750 222,000 256,734 545,000 765,435 210,653 12,789 8,662 3,238 892,940 $2,608,172

$2,683,172

$ 75,000 $2,683,172

$2,683,172

Note: The subtotals of the trial balance indicate that the debit (left) side is $75,000 less than the credit (right) side. This imbalance must be due the amount of Withdrawals.

P1.2 Solution (continued) b) Bunyon Consulting Company Income Statement For the six month period ended June 30, 20XX Revenues Less: Operating Expenses: Depreciation Expense, Building Depreciation Expense, Equipment

$765,435 $ 34,240 40,675

Salary Expense

210,653

Supplies Expense

8,662

Utilities Expense Total Operating Expenses

3,238 297,468

Net Income (Before Taxes)

$467,967

Less: Income Taxes (40%)

187,187

Net Income (After Taxes)

$280,780

P1.3 Solution a)

Adjusting Entries: Date Description 20XX 6/30 Office Supplies Used Office Supplies

Ref.

Debit

(1)

4,790

6/30 Insurance Expense Prepaid Insurance

(2)

6/30 Depreciation Expense, Equipment Accumulated Depreciation, Equip.

(3)

6/30 Depreciation Expense, Building Accumulated Depreciation, Building

(4)

6/30 Telephone Expense Accounts Payable

(5)

Credit

4,790 750 750 1,000 1,000 2,000 2,000 100 100

P.3 Solution (continued) Parts (b) & (c) Cash 21,742

Equipment 25,000

Accounts Receivable 15,986

Accumulated Depreciation, Equipment Building 1,000 60,000 1,000 (3) 2,000

Accounts Payable 1,200 100 (5) 1,300

Mortgage Payable 40,000

Revenues 250,000

Telephone Expense 450 (5) 100 550

Administrative Expenses 40,000

Prepaid Insurance 1,200 750 (2) 450

Interest Expense 20,000

Depreciation Expense, Depreciation Expense, Equipment Building (3) 1,000 (4) 2,000

Office Supplies 7,022 4,790 (1) 2,232 Accumulated Depreciation, Building 4,000 2,000 (4) 6,000

Ken Ramsey, Capital 35,000

Ken Ramsey, Withdrawals 36,900

Wages Expense 90,575

Utilities Expense 12,325

Office Supplies Used (Expense) (1) 4,790

Insurance Expense (2) 750

P1.3 Solution (continued) d) TBT Company Adjusted Trial Balance December 31, 20XX Account Debit Cash

Credit

$ 21,742

Accounts Receivable

15,986

Prepaid Insurance

450

Office Supplies

2,232

Equipment

25,000

Accumulated Depreciation, Equipment Building

$ 2,000 60,000

Accumulated Depreciation, Building

6,000

Accounts Payable

1,300

Mortgage Payable

40,000

Ken Ramsey, Capital

35,000

Ken Ramsey, Withdrawals

36,900

Revenue

250,000

Telephone Expense

550

Wage Expense

90,575

Utilities Expense

12,325

Administrative Expenses

40,000

Interest Expense

20,000

Office Supplies Used (Expense)

4,790

Insurance Expense

750

Depreciation Expense, Equipment

1,000

Depreciation Expense, Building

2,000

Totals

$334,300

$334,300

P1.3 Solution (continued) e) TBT Company Income Statement For the Year Ended December 31, 20XX Revenue Less: Operating Expenses:

$250,000

Telephone

$

Wages Expense

90,575

Utilities

12,325

Administrative Expenses

40,000

Office Supplies Used (Exp.)

4,790

Insurance Expense

550

750

Depreciation Expense, Equipment

1,000

Depreciation Expense, Building

2,000

Total Operating Expenses Operating Income

151,990 $ 98,010

Less: Non-operating Expenses: Interest Expense Net Income Before Tax

20,000 $ 78,010

Less: Income Taxes Net Income, After Tax

31,204 $ 46,806

P1.3 Solution (continued) f) TBT Company

Balance Sheet December 31, 20XX ASSETS Current Assets: Cash Accounts Receivable Prepaid Insurance Office Supplies Total Current Assets Fixed Assets: Equipment Less: Accumulated Depreciation Book Value of Equipment Building Less: Accumulated Depreciation Book Value of Building

$21,742 15,986 450 2,232 $40,410 $ 25,000 2,000 $23,000 $ 60,000 6,000 54,000

Net Fixed Assets

77,000

TOTAL ASSETS

$117,410

LIABILITIES Current Liabilities: Accounts Payable $ 1,300 Taxes Payable 31,204 Total Current Liabilities Long-Term Liabilities: Mortgage Payable Total Liabilities

$32,504

NET WORTH Ken Ramsey, Capital--Jan. 31, 1985 Add: Net Income $46,806 Less: Withdrawals 36,900 Excess of Net Income over Withdrawals Ken Ramsey, Capital, December 31, 20XX TOTAL LIABILITIES AND NET WORTH

40,000 $ 72,504 $35,000

9,906 44,906 $117,410

P1.4 Solution Satoosh Corporation

Income Statement For the Year ended December 31, 20XX Revenues Less: Operating Expenses: Office Supplies Used (Exp.) Selling & Administrative Exp. Power & Utilities Depreciation Exp., Equipment Depreciation Exp., Building Operating Income

$400,000 $ 7,000 232,800 38,500 12,500 4,500

Other (Non-operating) Expenses: Interest Expense

295,300 $104,700 18,000

Net Income before Taxes Less: Income Taxes (40%)

$ 86,700 34,680

Net Income (After Taxes)

$ 52,020

Note: The following calculation is not a part of the Income Statement.

Retained Earnings: Beginning Balance $30,000 Undivided Net Income 52,020 Ending Balance $82,020 So, the Retained Earnings (in Balance Sheet) will be $82,020.

P1.4. Solution (continued) Satoosh Corporation

Balance Sheet December 31, 20XX ASSETS Current Assets: Cash Accounts Receivable Prepaid Insurance Office Supplies Total Current Assets

$125,500 115,000 1,200 2,000 $243,700

Fixed Assets: Equipment Less: Accumulated Depreciation, Equip.

Equipment Book (Net) Value Building Less: Accumulated Depreciation, Build.

Building Book (Net) Value

$125,000 _ 37,500 $ 87,500 $135,000 _ 18,000 117,000

Total Net Fixed Assets

204,500

TOTAL ASSETS $448,200 ______________________________________________________________________ LIABILITIES Current Liabilities: Accounts Payable Taxes Payable Total Current Liabilities

$121,500 34,680 $156,180

Long-Term Liabilities: Mortgage Payable Total Liabilities Common Stocks Outstanding Retained Earnings Total Owner's Equity

120,000 $276,180 OWNER'S EQUITY $ 90,000 82,020

TOTAL LIABILITIES AND OWNER'S EQUITY

172,020 $448,200

P1.5. (TADJ Company) a) Date 20XX 02-01

02-02

Description

Ref.

Debit

Cash Office Equipment Land Preferred Stocks

30,000 20,000 150,000

Cash

800,000

200,000 800,000

Common Stocks 02-04

02-05 02-06 02-07

02-10

Credit

Building Cash Mortgages

500,000

Prepaid Insurance Cash

24,000

Advertising Expense Cash

1,000

50,000 450,000 24,000 1,000

Construction Equipment Cash Notes Payable

500,000

Commission Expense Accounts Payable

16,000

50,000 450,000 16,000

b) Cash (1) $ 30,000 (4) $50,000 (2) 800,000 (5) 24,000 (6) 1,000 (7) 50,000 $705,000

Prepaid Insurance (5) $24,000

Land (1) $150,000

Building (4) $500,000

Office Equipment (1) $20,000

Construction Equipment (7) $500,000

Accounts Payable (10) 16,000

Notes Payable (7) 450,000

Common Stocks (2) 800,000

Preferred Stocks (1) 200,000

Commission Expenses (10) 16,000

P1.6 Solution

Mortgages (4) 450,000 Advertising Expenses (6) 1,000

a)

Roofing Company Income Statement For the Year Ending December 31, 20XX Revenue (Sales) Cost of Goods Sold Gross Profit Less: Operating Expenses: Selling Administrative Total Operating Expenses Operating Income Less: Other Expenses: Interest Net Income before Taxes Income Taxes (50%) Net Income after Taxes

b)

$930,000 400,000 $530,000 $140,000 110,000 250,000 $280,000 40,000 $240,000 120,000 $120,000

Roofing Company Income Statement For the Year Ending December 31, 20XX ASSETS Current Assets: Cash Accounts Receivable Office Supplies Inventories Total Current Assets Fixed Assets: Equipment Less: Accumulated Depreciation Net Book Value of Equipment Building Less: Accumulated Depreciation Net Book Value of Building

$160,000 220,000 20,000 250,000 $650,000 $300,000 60,000 $240,000 $500,000 100,000 400,000

Net Fixed Assets

640,000

Total Assets

$1,290,000 LIABILITIES

Current Liabilities: Accounts Payable Taxes Payable Dividends Payable Total Current Liabilities Long-Term Liabilities: Mortgage Payable Total Liabilities

$ 200,000 120,000 48,000 $368,000 400,000 $768,000 NET WORTH

Common Stocks Retained Earnings Net Worth

Total Liabilities and Net Worth

$300,000 222,000 522,000

$1,290,000

Chapter 2: Cost Analysis Fundamentals Answers to Review Questions R2.1. (Total variable cost, VC) = (Variable cost per unit, V)  (Output quantity, Q) TC = V × Q R2.2. The total variable costs vary in direct proportion to the production levels changes, but remain fixed in per unit.

Fixed costs remain constant regardless of production levels.

Mixed costs are partially fixed and partially variable.

R2.3. Prime cost is the sum of direct material and direct labor costs.

Conversion cost is the sum of direct labor and overheads incurred to convert raw material into finished goods.

R2.4. Manufacturing Unit Cost or Average Cost.

R2.5. Conversion costs.

R2.7. Book value of the old machine.

R2.8. Product costs are the manufacturing costs of products and cannot be expensed in the period they incur. Otherwise, if the product is not sold in the period they are produced, then when they sold in a later period, there would not be any cost to deduct from the revenues they generate.

Period costs are expenses a company incur to operate its business as a result of which they sell their products. The cost of goods sold is also a period cost and deducted from the revenues in the period the products are sold.

R2.9. RMI → WIP → FGI → COGS. R2.10. The cost of goods manufactured the costs of all the units that a company completes and transfers to the finished goods inventory during an accounting period, and these costs are the value of the finished goods inventory (an asset), which appear on the balance sheet of the company.

Whereas the cost of goods sold is the manufacturing cost the items sold during the fiscal period.

Chapter 2: Cost Analysis Fundamentals Problem Solutions P2.1 Solution Prime costs = direct materials + direct labor = 25,000 + 45,000 = $70,000 Conversion costs = direct labor + overheads = 45,000 + 30,000 + 2,500 + 22,000 = $99,500

P2.2 Solution (a) The last year’s total cost of manufacturing Qa = 50,000 computers is: TCa = TC(50,000) = VCa + FCa = ($1,550,000 + $1,200,000) + $2,000,000 = $4,750,000 The manufacturing unit cost is found as follows UCa = TCa/Qa = $4,750,000 / 50,000 units = $95 per computer (b) To compute next years estimated total cost of manufacturing Qb = 60,000 computers, we need to compute the cost components as follows: Expected direct material cost = ($1,550,000/50,000) × 60,000 = $1,860,000 Expected direct labor cost = 1.025($1,200,000/50,000) × 60,000 = $1,476,000 Expected fixed cost = $2,000,000 + $ 160,000 = $2,160,000 Then, the expected total cost for the next is found as TCb = TC(60,000) = VCb + FCb = ($1,860,000 + $1,476,000) + $2,160,000 = $5,496,000 The manufacturing unit cost is found as follows UCb = TCb/Qb = $5,496,000 / 60,000 units = $91.60 per computer

P2.3 Solution Current Production: Production: 16,000 units/per month Current total cost: $416,000 Unit cost (or average cost): $416,000 / $16,000 = $30 per unit Expanded Production: New total cost: $480,000 Production: 16,000(1.25) = 20,000 units/per month Average unit cost: $480,000 / $20,000 = $24 per unit The incremental cost to produce the additional units is: Total incremental cost (change in total cost) = $480,000 - $416,000 = $64,000 Number of additional units produced = 20,000 – 16,000 = 4,000 units Increment cost per unit: $64,000 / 4,000 = $16

Problem 2.4 Solution Total Cost of Manufacturing 10,000 computers = $1,000,000 Total Cost of Purchasing 10,000 computers = Purchasing Cost + Unavoidable Fixed Costs = $950,000 + (150,000 - $50,000) = $1,050,000 Additional Cost incurred by purchasing externally = $1,050,000 - $1,000,000 = $50,000

Problem 2.5 Solution Total Production Cost = $49,000 Total Outsource Cost = $3.10(10,000) = $31,000 Increase (or decrease) in net income = 49,000 – 31,000 - 14,600 + 4,600 = $8,000 increase

Problem 2.6 Solution Should further process if the increment in sales price exceeds the further processing costs Price Increment for Product A: $125 - $70 = $55 > $45 Price Increment for Product B: $220 - $85 = $135 < $160 Product A has an increment selling price that exceeds its further processing costs. Hence, Product A should be processed further, but not Product B

P2.7 Solution 1)

Cost of Goods Available for Sale: Beginning Inventory 17,000 units @ $6.00 = February 20,000 units @ $6.50 = $130,000 March 40,000 units @ $6.20 = $248,000 May 30,000 units @ $6.30 = $189,000 July 50,000 units @ $6.40 = $320,000 September 40,000 units @ $6.30 = $252,000 November 15,000 units @ $6.60 = $99,000 Cost of Goods Available for Sale (212,000 units)

$102,000

$1,340,000

2) (a) Average-Cost Method: Cost of Goods Sold = ($1,340,000/212,000 units) x 192,000 = $1,213,585 F&AT Company Income Statement For the Year Ending December 31, 20XX Sales (192,000 units @ $10.00) $1,920,000 Cost of Goods Sold 1,213,585 Gross Profit on Sales (Profit Margin) $706,415 Operating Expenses: Sales and Administrative Expenses 592,000 Operating Income $114,415 2) (b) FIFO Method: Cost of Goods Sold: From beginning inventory From February purchases From March purchases From May purchases From July purchases From September purchases Cost of Goods Sold

Sales

17,000 units @ $6.00 = $102,000 20,000 units @ $6.50 = $130,000 40,000 units @ $6.20 = $248,000 30,000 units @ $6.30 = $189,000 50,000 units @ $6.40 = $320,000 35,000 units @ $6.30 = $220,500 (192,000 units) $1,209,500

F&AT Company Income Statement For the Year Ending December 31, 20XX (192,000 units @ $10.00)

$1,920,000

Cost of Goods Sold

1,209,500

Gross Profit on Sales (Profit Margin)

$ 710,500

Operating Expenses: Sales and Administrative Expenses

592,000

Operating Income

$118,500

P2.7 Solution (Continued) 2) (c) LIFO Method: Cost of Goods Sold: From November purchases 15,000 units @ $6.60 = $ 99,000 From September purchases 40,000 units @ $6.30 = $252,000 From July purchases

50,000 units @ $6.40 = $320,000

From May purchases

30,000 units @ $6.30 = $189,000

From March purchases

40,000 units @ $6.20 = $248,000

From February purchases

17,000 units @ $6.50 = $110,500

Cost of Goods Sold 192,000 units $1,218,500 F&AT Company Income Statement For the Year Ending December 31, 20XX Sales (192,000 units @ $10.00)

$1,920,000

Cost of Goods Sold

1,218,500

Operating Expenses: Sales and Administrative Expenses

592,000

Operating Income

$109,500

P2.8 Solution January 1 (Beg. Inventory)

15,000 units @ 9.90 = $148,500

March purchase

18,000 units @ 13.00 =

234,000

May purchase

20,000 units @ 12.50 =

250,000

July purchase

40,000 units @ 11.50 =

460,000

August purchase

40,000 units @ 13.00 =

520,000

October purchases

15,000 units @ 13.50 =

202,500

December purchase

12,000 units @ 15.00 =

180,000

Total

160,000 units

$1,995,000

a) Average Cost Method: Average Cost per unit = 1,995,000 / 160,000 = $12.46875 Cost of Goods Sold = $12.46875 X 130,000 units = $1,620,937.50 b) FIFO Method: January 1 (Beg. Inventory) 15,000 units @ 9.90 = $148,500 March purchase

18,000 units @ 13.00 = 234,000

May purchase

20,000 units @ 12.50 = 250,000

July purchase

40,000 units @ 11.50 = 460,000

August purchase

37,000 units @ 13.00 = 481,000

Cost of Goods Sold

$1,573,500

c. LIFO Method: December purchase

12,000 units @ 15.00 = $180,000

October purchase

15,000 units @ 13.50 = 202,500

August purchase

40,000 units @ 13.00 = 520,000

July purchase

40,000 units @ 11.50 = 460,000

May purchase

20,000 units @ 11.50 = 250,000

March purchase

3,000 units @ 13.00 =

Cost of Goods Sold

130,000 units

39,000

$1,651,500

P2.9 Solution Hee Haw Manufacturing Company Cost-of-Good-Sold Statement For the Year Ending December 31, 20XX Change in Materials Inventory: Beginning Inventory $50,000 Purchases During the Year 650,000 Total Materials Available For Use $700,000 Ending Inventory (12/31/20XX) 100,000 Cost of Materials Used Direct Labor Factory Overhead Total Factory Cost During the Year

$600,000 400,000 250,000 $1,250,000

Change in Work-in-Process Inventory: Beginning Inventory (1/1/20XX) Ending Inventory (12/31/20XX) Decrease in Work-in-Process Cost of Goods Manufactured

50,000 $1,300,000

Change in Finished Goods Inventory: Beginning Inventory (1/1/20XX) Ending Inventory (12/31/20XX) Increase in Finished Goods Inventory Cost of Goods Sold

P2.10 Solution (a) (b) (c) (d) (e) (f) (g) (h) (i)

12,000 10,000 32,000 50,000 35,000 30,000 27,000 141,000 127,000

(j) (k) (l) (m) (n) (o) (p) (q) (r)

42,000 91,000 26,000 91,000 85,000 112,000 111,000 81,000 26,000

$75,000 25,000

$100,000 150,000 (50,000) $1,250,000

P2.11 Solution BBY Manufacturing, Inc. Statement of Cost of Goods Sold For the Year Ended December 20XX Raw Materials Used: Raw Materials Inventory, January 1, 2006 Purchases, Raw Materials Cost Materials Available for Use Less: Raw Materials Inventory, December 31

$

505,000 4,752,000

$ 5,257,000 457,000

Cost of Raw Materials Used

$4,800,000

Direct Labor

2,210,000

Factory Overhead Costs: Supplies Used, Factory

$ 55,000

Depreciation, Machinery

60,000

Depreciation, Building (Factory)

20,000

Indirect Labor, Factory Services

842,000

Supervisory Salaries, Factory

280,000

Property Taxes, Factory

60,000

Factory Miscellaneous Expenses

23,000

Total Factory Overhead

1,340,000

Total Manufacturing Costs for the Year

$8,350,000

Change in Work-In-Process Inventory: Beginning Inventory, January 1

$1,565,000

Ending Inventory, December 31

2,035,000

Less: Increase in Work-In-Process Inventory

(470,000)

Cost of Goods Manufactured

$7,880,000

Change in Finished Goods Inventory: Beginning Inventory, January 1

$2,325,000

Ending Inventory, December 31

1,265,000

Add: Decrease in Finished Goods Inventory

Cost of Goods Sold

1,060,000 $8,940,000

Chapter 3: Product Costing Answers to Review Questions R3.1. The following equation applies to raw materials, work-in-process and finished goods inventories Beginning Balance + Transfers In - Transfers Out = Ending Balance Correct answer is D: all of the above.

R3.2. Correct answer is D. The predetermined rate is used to apply overhead costs to work-in-process units.

R3.3. Correct answer is D. The costs to be accounted for consist of: Costs in the beginning inventory and costs added during the period.

R3.4. Correct answer is C: The detailed materials, labor, and overhead costs are needed when determining the cost per equivalent units.

R3.5. The job-order costing system assign costs directly to the product or job by adding the direct materials and direct labor costs to the work-in-process (WIP) inventory.

When the manufacturing process is continuous, it is difficult to establish how much of each material is used and exactly how much labor time is consumed to produce each unit of a product. Thus, under process costing, costs are accounted for by the production process or production department instead of by the product or the job.

R3.6. The predetermined rate is calculated as shown below and is used to apply overhead costs to work-in-process: Predetermined Overhead Rate =

Budgeted (Estimated)Overhead Cost Budgetted (Estimated)Level of Activity (basis)

R3.7. Correct answer is B. When products or services are different from each other, joborder costing should be used.

R3.8. Correct answer is D. Direct materials, direct labor and manufacturing costs are recorded on the job cost sheet.

R3.9. Correct answer is B. Work in process debited & Materials credited for the issuance of direct materials to production.

R3.10. The relationship between machine-hours and applied overhead is a constant of $5 per machine-hour, which indicates a strong, projected cause-and-effect relationship between the two.

Chapter 3: Problems Solutions P3.1. Solution Material cost = ($12,000 + $32,800) / 20,000 = $2.24 per unit Conversion cost = ($13,000 + $50,000) / 18,000 = $3.50 per unit Manufacturing cost = $2.24 + $3.50 = $5.75 per unit P3.2. Solution WIP ending inventory = 5,350 + 650 – 5,330 = 670 P3.3. Solution Units in WIP ending inventory = 60,000 – 56,800 = 3,200 Equivalent Units for: Materials = 56,800 + 3,200(100%) = 60,000 equivalent units Conversion = 56,800 + 3,200(60%) = 58,720 equivalent units P3.4. Solution Units in WIP ending inventory = 2,200 + 60,000 – 56,800 = 5,400 Equivalent Units for: Materials = 56,800 + 5,400(100%) = 62,200 equivalent units Conversion = 56,800 + 5,400(50%) = 59,500 equivalent units P3.5: Solution Total units to account for = 1,200 + 11,000 = 12,200 units Units in ending WIP inventory = 13,000 – 11,500 = 1,500 units Equivalent Units for Materials = 11,500 + 1,500(100%) = 13,000 units Equivalent Units for Conversion = 11,500 + 1,500(60%) = 12,400 units P3.6. Solution a) Total units to be Account For = 1,200 + 10,000 = 11,200 Units in WIP ending inventory = 11,200 – 9,200 = 2,000 Equivalent Units in Ending WIP Inventory: For Material Cost = 2,000(80%) = 1,600 units For Conversion Costs (Labor and OH) = 2,000(60%) = 1,200 Total Equivalent Units: For Material Cost = 9,200 + 1,600 = 10,800 units For Conversion Costs (Labor and OH) = 9,200 + 1,200 = 10,400 Total Cost to be Account For: Material Cost = $6,600 + $53,880 = $60,480 Conversion Costs (Labor and OH) = $2,400 + ($18,800 + $23,000) = $44,200 Total Cost to be Account For = $60,480 + $44,200 = $104,680 Cost Per Equivalent Unit: For Material Cost = $60,480 / 10,800 = $5.60 per unit For Conversion Costs (Labor and OH) = $44,200 / 10,400 = $4.25 per unit Manufacturing Cost = $5.60 + $4.25 = $9.85 per equivalent (complete) unit b)

Cost of Units Transferred Out = $9.85(9,200 units) = $90,620

P3.6. Solution (continued) c) Cost of Ending WIP Inventory: For Material Cost = $5.60(1,600 units) = $8,960 For Conversion Costs (Labor and OH) = $4.25(1,200 units) = $5,100 Total of Ending WIP Inventory = $8,960 + $5,100 = $14,060 Total Cost Accounted For = $90,620 + $14,060 = $104,680 P3.7. The manufacturing overhead cost: Indirect materials Salary of production supervisor: Rent on factory equipment: Total Factory OH

$7,000 $33,000 $14,000 $54,000

Estimated direct labor hours 10,000 What will be the predetermined overhead rate if company applies to jobs on the basis of direct labor hours.

Predetermined Overhead Rate =

$𝟓𝟒,𝟎𝟎𝟎 𝟏𝟎,𝟎𝟎𝟎

= $5.40 per labor hour

P3.8: Solution Predetermined overhead rate = $200,000 / 50,000 estimated labor hours = $4 per DL hour Applied overhead = (Predetermined OH Rate per DL hour) × (Actual DL hours) = $4(55,000 hours) = $220,000 Actual manufacturing overhead Applied manufacturing overhead ($4 × 55,000 hrs)

$208,000 220,000

Manufacturing overhead overapplied

($ 12,000)

Since applied manufacturing overhead exceeds actual manufacturing overhead, manufacturing overhead is overapplied P3.9: Solution

Sum of inventory balance = $5,000 + $8,000 + $37,000 = $50,000 The proportion of ending balances to total ending balance is: for WIP = $5,000 / $50,000) = 10% for FG = $8,000 / $50,000) = 16% for COGS = $37,000 / $50,000 = 74% The allocation is To WIP = $25,000(0.10) = $2,500 To FG = $25,000(0.16) = $4,000 To COGS = $25,000(0.74) = $18,500

Chapter 4: Manufacturing Cost Allocation Answers to Review Questions R4.1. Companies allocate costs to estimate or assess the costs of their cost objects (products, processes, divisions, etc.).

The main issue in cost allocation is that estimated costs are assigned to the cost objects, which are subject to inaccuracies due to the use of the allocation bases are arbitrarily chosen.

R4.2. There are three commonly used methods to allocate support costs: 1) the direct method; 2) the sequential (or step) method; and 3) the reciprocal method.

The direct method is the simplest method among all three, while the reciprocal method is the most complicated among all three.

R4.3. Cost allocation is the process of distributing an overhead cost across multiple products, business units, or cost objects/centers.

R4.4. Costs allocating serves three main purposes: 1) make decisions, 2) reduce non-value-added costs, and 3) determine pricing.

R4.5. 1) Add up total overhead in groups of costs pools; 2) Compute the overhead allocation rate by dividing total overhead by the total measure of cost allocation basis (e.g., number of direct labor hours); 3) Apply overhead by multiplying the overhead rate by the measure of allocation basis for each product.

R4.6. The three common methods used to allocate of costs support departments to operating/production departments are: (1) direct method.

(2) sequential method, and.

(3) reciprocal method.

R4.7. A service department is a unit in a firm that is not involved directly in producing its goods or services. However, service departments provide services that enable the production departments to perform their functions.

Production departments, on the other hand, are the units that are directly involved in producing goods and services.

R4.8. The term reciprocal services refers to the situation in which two or more service departments provide services to each other.

R4.9. Under the direct method of service department cost allocation, all service department costs are allocated directly to the production departments, and none of these costs are allocated to other service departments.

Under the step-down method, a sequence is first established for allocation of service department costs. Then, the costs incurred in the first service department in the sequence are distributed among all other departments (production and other service departments) that use the services provided by that service department. The method proceeds in the same manner through the sequence of service departments.

Under the reciprocal-services method, a system of simultaneous equations is established to reflect the reciprocal provision of services among service departments. Then, the costs of all of the service departments are allocated among all of the departments that use services provided by the various service departments. The reciprocal-services method of service department cost allocation is the only method that fully accounts for the reciprocal services among service departments.

R4.10. Under the step-down method, the first department in the sequence is the service department that serves the largest number of other service departments. The second department in the sequence is the service department that serves the second-largest number of service departments, and so on. The sequence among tied service departments usually is an arbitrary choice.

R4.11.

- A single-stage cost allocation system uses a single, plantwide, rate to allocate costs.

- A two-stage system first allocates costs to departments or activities and then allocates costs from the departments or activities to the products or services.

R4.12. The plantwide allocation approach uses one cost pool to collect and apply overhead costs and, therefore, uses one predetermined overhead rate for the entire company. The department allocation approach uses several cost pools (one for each department) and therefore uses several predetermined overhead rates.

R4.13. The essential difference is the allocation of costs among service departments. The direct method makes no inter-service-department allocation, the step-down method makes a partial inter-service-department allocation, while the reciprocal method fully recognizes interservice-department activities. All three methods allocate costs to the production departments based on the production department’s relative use of the services provided by the service departments.

R4.14. Allocations usually begin from the service department that has provided the greatest proportion of its services to other service departments, or that services the largest number of other service departments. This criterion is used to minimize the unrecognized portion of reciprocal service department costs.

Another criterion used is the amount of cost incurred by the service department. That is, the reallocation begins with the service department that has the greatest amount of cost.

Chapter 4: Problem Solutions Solution 4.1 (Waldoor Company) Waldoor Company Work-Sheet for Allocation of Factory Overhead For the Month of August, 20XX Overhead Cost Indirect Materials Indirect Labor Payroll Taxes Light and Power Repairs Depreciation, Machinery Fire Insurance Other Expenses TOTALS Reallocation of Service Department Costs: Storeroom TOTALS Building Service TOTALS

Allocation Basis Materials Used Labor Performed Wages K.W-h used Cost of Repairs Cost of Machine Floor Space No. of Employees

Total $21,425 27,000 810 3,500 2,740 7,500 1,300 1,800 $66,075

No.of Requisitions $66,075 Floor Space $66,075

Production Departments A B C $6,045 $5,400 $3,350 6,750 5,000 4,000 203 150 120 1,225 1,050 770 1,250 430 250 2,640 1,800 1,200 455 325 260 720 450 360 $19,288 $14,605 $10,310

Service Departments Building Storeroom $4,915 $1,715 3,750 7,500 112 225 315 140 635 175 1,860 --156 104 180 90 $11,923 $9,949

4,975

2,487

1,492

995

$24,263 5,652 $29,915

$17,092 4,037 $21,129

$11,802 3,329 $15,031

$12,918 (12,918)

(9,949)

P4.2. Solution (Delta Company) a) Cost allocation using the direct method. $90,000

Predetermined Maintenance Cost Allocation Rate = 30,000+50,000 = $1.125 per sq. ft. $48,000

Predetermined Warehouse Cost Allocation Rate = 10,000+15,000 = $1.92 per requisition

Costs Before Allocation Allocation of Maintenance Costs Allocation of Warehouse Costs Costs After Allocation

Service Dept.

Maint Ware $90,000 $48,000 (90,000) (48,000) $0 $0

Operating Dept.

A B $180,000 $250,000 33,750 56,250 19,200 28,800 $232,950 $335,050

b) Cost allocation using the step-down method.

20,000

Percentage of Maintenance Service to Warehouse = 20,000+30,000+50,000 = 20% 7,000

Percentage of Warehouse Service to Maintenance = 7,000+10,000+15,000 = 21.875%

Problem 4.2 Solution (continued) Warehouse has given more service to the Maintenance Department than vice versa.

Thus, the Warehouse costs are allocated first. $48,000

Predetermined Warehouse Cost Allocation Rate = 7,000+10,000+15,000 = $1.50 per req.

Costs Before Allocation Allocation of Warehouse Costs Costs After Warehouse Allocation

Service Dept.

Maint Ware $90,000 $48,000 10,500 (48,000) $100,500 $0

Operating Dept.

A B $180,000 $250,000 15,000 22,500 $232,950 $335,050

$100,500

Predetermined Maintenance Cost Allocation Rate = 30,000+50,000 = $1.25625 / req.

Costs Before Allocation Allocation of Warehouse Costs Allocation of Maintenance Costs Costs After Allocation

Service Dept.

Maint Ware $90,000 $48,000 10,500 (48,000) (100,500) --$0 $0

Operating Dept.

A B $180,000 $250,000 15,000 22,500 37,688 62,812 $232,688 $335,312

c) Cost allocation using the reciprocal method.

Under this method, some of the Maintenance costs are allocated to Warehouse and some Warehouse costs are allocated to Maintenance Department. Thus, we must determine the total cost being allocated to both the Maintenance Departments and Warehouse first, as follows (1) Total Maintenance cost = Maintenance Department cost + Cost allocated to Maintenance from Warehouse.

(2) Total Warehouse cost = Warehouse Department cost + Cost allocated to Warehouse from Maintenance.

Step 1: Determining allocation bases: Maintenance Dept.

Floor % of Space Total Maintenance --Warehouse 20,000 20% Department A 30,000 30% Department B 50,000 50% Total 100,000 100%

Warehouse No. of % of Requisitions Total 7,000 7/32 ----10,000 10/32 15,000 15/32 32,000 100%

Problem 4.2 Solution (continued) Step 2: Setting up the equations: Cost allocated to Warehouse from Maintenance is 20% of total Maintenance cost (M).

Cost allocated to Maintenance from Warehouse is 7/32 of total Warehouse cost (W).

W = $48,000 + 0.2M M = $90,000 + (7/32)W W = $48,000 + 0.2[$90,000 + (7/32)W] W = $48,000 + $18,000 + 0.04375W 0.95625W = $66,000 W = Total Cost of Warehouse = $69,020 M = $90,000 + (7/32)($69,020) M = Total Cost of Maintenance Department = $105,098 Step 2: Allocation of the computed total cost of each service department in Step 2 to all other departments using the proportions (percentages) computed in Step 1: Allocation of Warehouse’s total cost: To Maintenance Department = (7/32)($69,020) = $15,098 To Department A = (10/32)($69,020) = $21,569 To Department B = (15/32)($69,020) = $32,353 Allocation of Maintenance Department’s total cost: To Warehouse Department = (20%)($105,098) = $21,020 To Department A = (30%)($105,098) = $31,529 To Department B = (50%)($105,098) = $52,549

Costs Before Allocation

Service Dept.

Maint Ware $90,000 $48,000

Operating Dept.

A B $180,000 $250,000

Allocation of Warehouse Costs

15,098

(69,020)

21,569

32,353

Allocation of Maintenance Costs

(105,098)

21,020

31,529

52,549

$0

$0

$233,098

$334,902

Costs After Allocation

P4.3. Solution (MKATZ Company) The costs of indirect materials, indirect labor and repairs are recoded in the work-sheet as they are given: Allocating payroll taxes, based the indirect labor cost: ($2,460/$12,300 = $0.20 per $) × (Indirect Labor Cost).

Department Indirect Payroll Labor Taxes Production X $3,690 $737 Production Y 3,075 615 Production Z 1,845 370 Maintenance 2,460 492 Warehouse 1,230 246 Total $12,300 $2,460 The $1,134 fuel cost charged to the Maintenance department only.

Allocation of light and power cost: $3,400/100,000 = $0.034 per kW-hr Distribution of light and power costs

Production X Production Y Production Z Maintenance Warehouse Total

kW-h used 38,000 26,000 20,000 11,000 5,000 100,000

Light & Power Cost $1,292 884 680 374 170 $3,400

Allocation of rent and fire Insurance costs ($6,000 and $1,200, respectively), based on floor space occupied: Floor Space Fire (sq. ft.)

Ratio Rent Insurance Department X 3,200 40% $2,400 $ 480 Department Y 2,400 30% 1,800 360 Department Z 1,200 15% 900 180 Maintenance Department 800 10% 600 120 Warehouse 400 5% 300 60 Total 8,000 100% $6,000 $1,200

Problem 4.3 Solution (continued) Allocation of the sundry (miscellaneous) expenses of total $1,800 based on the number of employees: Number of Sundry Employees Ratio Costs Department X 40 40% $720 Department Y 20 20% 360 Department Z 20 20% 360 Maintenance Department 15 15% 270 Warehouse 5 5% 90 Total 100 100% $1,800

Department X Department Y Department Z Maintenance Department Warehouse Total

Number of Store Requisitions 1,000 750 500 250 --2,500

Depreciation of machinery are recorded as have been computed according the company’s depreciation schedules: All distributed costs are recorded as shown in the "work-sheet for allocation of factory overhead" below.

Then, the finalized costs of the service departments are reallocated to the production departments using the step-down methods, starting with the Warehouse Department that has provided more services to the Maintenance Department than the services received from.

Problem 4.3 Solution (continued) MKATZ Company Work-Sheet for Allocation of Factory Overhead For the Month of July, 20XX Production Departments Overhead Cost item Indirect Materials Indirect Labor Repairs Payroll Taxes Fuel Light and Power Rent Depreciation, Machinery Fire Insurance Sundry Costs TOTALS Reallocation of Costs of: Warehouse

Allocation Basis Materials Used Labor Performed Cost of Repairs Wages To Maintenance kW-h used Floor Space Cost of Machine Floor Space No. of Employees

Maintenance Dept.

Final Cost Distribution

Floor Space

X

Y

Z

$8,500 4,600 998 920

$6,500 4,200 670 840

$4,000 4,300 490 860

1,320 2,475 2,200 330 120 $21,462

984 1,890 1,800 252 100 $17,236

676 1,710 1,200 228 72 $13,536

Service Dept.

MaintWareenance house $20,500 --30,500 12,800 357 325 6,100 2,560 3,600 128 92 900 2,025 1,000 500 120 270 20 8 $63,225 $18,600

4,650 $26,113 28,600

3,720 $20,956 21,840

$54,713

$42,796

3,255 $16,791 19,760 $35,551

6,975 (18,600) $70,200 --(70,200) -----

Total $39,500 56,400 2,860 11,280 3,600 3,200 9,000 6,700 1,200 320 $134,060

# of Requisitions

--$134,060 --$134,060

See the computations for reallocation of the service departments below: The $18,600 final costs of the Warehouse Department are reallocated according to the number of requisitions filled, as shown in the following table.

Department X Department Y Department Z Maintenance Department Total

Number of Requisitions 1,000 800 700 1,500 4,000

Ratio 25.0% 20.0% 17.5% 37.5% 100%

Warehouse Cost Reallocated $4,659 3,720 3,255 6,975 $3,340

The $70,200 final costs of the Maintenance Department are reallocated according to floor space occupied to the production departments (not to the Warehouse):

Department X Department Y Department Z Total

Floor Space (square feet) 3,200 2,400 1,200 6,800

Proportion 11/27 14/45 9/32 1.00

Maintenance Dept.’s Costs Allocated $28,600 21,840 19,760 $70,200

P4.4: Solution (Talesh Company) Allocation Bases Department S2 Sq. Ft Ratio ----20,000 1/10 100,000 5/10 80,000 4/10 200,000 1.00

Department S1 Employees Ratio 25 5/48 15 3/48 110 22/48 90 18/48 240 1.00

Department S2 Department S3 Department A Department B Totals

Service Departments Overhead Costs Allocation cost of: Department S1 Department S2 Department S3 Totals

Department S3 Hours Ratio --------15,000 1/3 30.000 2/3 45,000 1.00

Operating Departments

Dept. S1

Dept. S2

Dept. S3

Dept. A

Dept. B

Total

$84,000

$66,000

$40,000

$90,000

$97,000

$377,000

(84,000)

8,750 (74,750) ---

5,250 7,475 (52,725)

38,500 37,375 17,575

32,500 29,900 35,150

$

$

$183,450

$193,550

--$

0

0

0

$377,000

Chapter 5: Joint Cost Allocation Answers to Review Questions R5.1. A common cost is a cost associated with operating a production facility, or a business segment that is shared among two or more products, departments or activities. A common cost cannot be attributed to a specific single product, department or activity.

R5.2. Common cost allocation is the process of equitably allocating shared or joint costs to joint products, processes, and activities, so that a company can accurately determine the cost of each product or activity, and set prices accordingly. ... They are shared costs because the trip benefited both product departments and cost objects.

R5.3. After the split-off point, each product incurs separable (or independent) costs. Allocating joint costs using market value at the split-off may be the most effective method for planning and budgeting for the joint costs.

R5.4 Joint cost allocations are usually made to assign a cost to a product after the split-off point. This is usually done for external reporting, tax, or rate-making purposes or to satisfy contract requirements. Because the joint costs are common to the outputs, it is not possible to find a direct way of relating the costs. Rather, the costs are related to economic benefits on the basis of some measure of relative outputs.

R5.5 Because net realizable values of the output provide a measure of the economic benefit received from each output from the production process, this method is usually preferred when it can be implemented. Further, the physical quantities may be difficult to compare (e.g., weights versus volumes).

R5.6 It could be preferable to use a physical quantities measure if it reflects the economic benefit ultimately obtainable from the production process, particularly if there is no objective selling price for joint products. Some examples include public utility rate setting, energy price regulation, new market setting, and new product price setting. In all of these cases, it is not possible to use the relative sales value method. Of course, the physical quantity measure used must make sense. Thus, ounces of lead should not be added to ounces of silver for joint cost allocation purposes.

R5.7 For joint products, costs of the inputs up to the split-off point are allocated to each of the products. Costs prior to split-off are not allocated to by-products in the same way as to the main (joint) products. Either joint costs (costs incurred prior to split-off) equal to the sales value of the by-product are allocated to the by-product, reducing the costs allocated to the main products (Method 1 in the text) or no joint costs are allocated to the by-product and it is credited with its sales value (Method 2).

R5.8. The joint costs of the product are irrelevant to this decision. Using the principle of

differential costs, the joint costs are not differential in this decision. They are sunk costs, because they must be incurred under either decision.

R5.9.

A company should choose a method for joint cost allocation that is specifically appropriate the values its products and production requirements, and consistently use the selected method.

R5.10.

The process is a joint process.

R5.11.

The Sales-value (or market-value) method produces the same gross profit percentage for the joint products.

R5.12.

The net-realizable-value method be used to have comparable values of the joint products, then the company would be able to learn which is of negligible value to be considered as a by-product.

Chapter 5: Problem Solutions P5.1. Solution Average unit cost = Total joint cost/Total number of units produced Average unit cost = $150,000/1,000,000 units = $0.15 per pen Allocation of joint cost: Blue ink: 400,000 × $0.15 = $60,000 Black ink: 300,000 × $0.15 = $45,000 Green ink: 100,000 × $0.15 = $15,000 Red ink: 200,000 × $0.15 = $30,000 This cost allocation is for joint manufacturing costs of body of the pens at the split-off point, before the further processing for injecting them with the required ink colors. After passing through the further processing, the separable costs would be added to different pens for the inks.

P5.2. Solution a) Relative Market Value of Main Products And Net Realizable Value Of The By-Product: Sales Separable cost Price Volume $3.80/gallon $13 25,000 gallons Product A = 30,000 gallons

Joint cost = $195,500 Input = 50,000 gallons

$3.00/gallon Product B = 15,500 gallons

$11

12,500 gallons

$1.00/gallon By-Product = 4,500 gallons

$4

1,750 gallons

Net realizable value of the by-product = 4,500($4 - $1) = $13,500 which is subtracted from the total joint cost.

Joint cost to be allocated to products A and B = $195,500-$13,500 = $182,000 Product

Approximate Market Value at Split-off Point

Relative Market Value

Proportion

Joint Cost to be Allocated

A

13-3.80 = $9.20

$9.20 x 30,000 = $276,000

276,000/400,000 = 69%

Share of Joint Cost $125,580

$182,000 B

11-3.00 = $8.00

$8.00 x 15,500 = $124,000

Total

124,000/400,000 = 31%

$ 56,420

$400,000

Product A B By-Product

Joint Cost Per gallon $4.186 3.640 3.000

$182,000

Separable Manufacturing Cost per gal. $3.80 3.00 1.00

Total Product Manufacturing Cost per gal. $7.986 6.640 4.000

b) Product-line income statement: HAROLD & SONS COMPANY Product-Line Income Statement For the Month of July 19XX Product A

Product B

By-Product

Total

Sales Revenue

$325,000

$137,500

$ 7,000

$469,500

Cost of Goods Sold

199,650

83,000

7,000

289,650

Gross Margin

$125,350

$ 54,500

-----

$179,850

Gross Margin %

38.57%

39.64%

-----

38.31%

P5.2. Solution (continued) c)

Physical measure of the main products and net realizable value of the by-product: As shown in part (A), joint cost to be allocated to the main products, A and B, is $182,000.

The cost allocation under the physical measure method is as follows:

Product

Production Level (gal.)

Joint Cost to be Allocated

Proportion

A

30,000

30,000/45,500 = 60/91

Share of Joint Cost $120,000

$182,000 B

15,500

Total

45,500

15,500/45,500 = 31/91

62,000 $182,000

Product

Joint Cost per gallon

Separable Manufacturing Cost per gal.

Total Product Manufacturing Cost per gal.

A B By-Product

$4.00 4.00 3.00

$3.80 3.00 1.00

$7.80 7.00 4.00

P5.3. Solution Separable Cost

Product Sales Price

100 units @ $50 1000 units @ $30 Input Material

S.O.P.

250 units @ $25

$30,000

$5/unit

Sales Production Separabl Products Price units e Cost/unit A

$400

100

50

Relative Market Value at S.O.P

A

$400

B

$300

BP

$20

Joint Cost to Proportion be Allocated

(400-50)100 = $35,000

50% $30,000

B

165

250

25

(165-25)250 = 35,000

50%

Totals

70,000

100%

Product

Share of Joint Cost

Joint Cost per unit

Separable Cost/unit

Manufacturin g unit cost

A B C

$15,000 15,000 0

$150 60 0

$50 25 5

$200 85 5

P5.4. Solution

$30,000

a) Relative market value of the main products and zero cost to the by-product:

Joint cost = $450,000 Input = 100,000 gallons

Product A

Approximate Market Value at Split-off Point 15-3.75 = $11.25

Sales

Separable cost $3.75/gallon Product A = 45,000 gallons $2.20/gallon Product B = 37,500 gallons $1.00/gallon By-Product = 17,000 gallons $0.00/gallon Waste = 500 gallons

Price Volume $15.00 40,000 gallons $11.20 30,000 gallons $2.00

15,000 gallons

$0.00

XXXXXXXX Joint Cost to be Allocated

Relative Market Value

Proportion

$11.25x45,000 = $506,250

506,250/843,750 = 60%

Share of Joint Cost

$270,000 $450,000

B

11.20-2.20 = 9.00 $9.00 x 37,500 = $337,500

337,500/843,750 = 40%

$843,750

$180,000 $450,000 $450,000

Product

Joint Cost per gallon

Separable Manufacturing Cost per gal.

Total Product Manufacturing Cost per gal.

A B By-Product

$6.00 4.80 0.00

$3.75 2.20 1.00

$9.75 7.00 1.00

b) Product-line income statement is as follows: Barnow Manufacturing Company Production-Line Income Statement For the Month of July 19XX Sales Revenue Cost-of-Goods-Sold

Product A $ 600,000 390,000

Product B $ 336,000 210,000

By-Product $ 30,000 15,000

Total $ 966,000 615,000

Gross Margin Gross Margin%

$ 210,000 35 %

$ 126,000 37.5 %

$ 15,000 50 %

$ 351,000 36.3 %

P5.4. Solution (continued) c) Physical measure of the main products and zero cost to the by-product: As shown in part (A), the whole $450,000 joint cost is allocated to the main products A and B. The cost allocation under the physical measure method is as follows:

Product

Production Level (gallons)

Proportion

A

45,000

45,000/82,500 = 18/33

Joint Cost to be Allocated

Share of Joint Cost

Joint cost per gallon

Separable cost per gallon

Total cost per gallon

$245,455 $ 5.4545

$ 3.75

$ 9.2045

$204,545 $450,000

5.4545

$ 2.20

7.6545

0.0000

1.00

1.0000

$450,000 B B-P

37,500 82,500 N/A

37,500/82,500 = 15/33

P5.5. Solution PA = 50 - QA PB = 40 - 0.5QB Joint Cost = 35 + 25 = $60/unit Y units of raw material yield QA units of product A and QB units of product B, where QA ≤ Y and QB ≤ 3Y. TR = PAQA + PBQB = (50 - QA)QA + (40 - 0.5QB)QB TC = 60 Y Maximize: Z = 50QA – (QA)2 + 40QB - 0.5 (QB)2 - 60Y Subject to: QA ≤ Y QB ≤ 3Y QA, QB, Y ≥ 0 Select the Lagrangian multipliers A and B so that A(Y - QA) = 0 B(3Y - QB) = 0 with the following conditions hold: A > 0 if Y - QA = 0 A = 0 if Y - QA > 0 and B > 0 if 3Y - QB = 0 B = 0 if 3Y - QB > 0 The Lagrangian form of the objective function is as follows: Maximize: L(Q, Y, ) = 50QA - (QA)2 + 40QB - 0.5(QB)2 - 60Y + A(Y - QA) + B(3Y - QB) Subject to: QA, QB, Y, A, B ≥ 0

P5.5. Solution (continued) The partial derivatives are as follows: (1) L/QA = 50 - 2QA - A = 0 (2) ∂L/∂QB = 40 - QB - B = 0 (3) ∂L/∂Y = - 60 + A + 3B = 0 (4) ∂L/∂A = Y - QA = 0 =======> QA = Y (5) ∂L/∂B = 3Y - QB = 0 =======> QB = 3Y From (1): 50 - 2Y - A = 0 =====> A = 50 - 2Y From (2): 40 - 3Y - B = 0 =====> B = 40 - 3Y Substituting A by its equivalent, (50 - 2Y), and gives the following: -60 + 50 -2Y + 120 - 9Y = 0 110 - 11Y = 0

B by its equivalent, (40 - 3Y) in equation (3)

Y = 10 units of raw material QA = 10 units QB = 30 units A = $30 allocated to each unit of product A B = $10 allocated to each unit of product B PA = 50 - QA = 50 - 10 ========> PA = $40 PB = 40 - 0.5QB = 40 - 0.5(30) =======> PB = $25

P5.6. Solution Q1 = 47.5 - P1 =====> P1 = 47.5 - Q1 Q2 = 80 - 2P2 =====> P2 = 40 - 0.5 Q2 max: (47.5 - Q1) . Q1 + (40 - 0.5 Q2) . Q2 - 45Y s.t. : Q1 ≤ 2Y Q2 ≤ 3Y Q1, Q2, Y ≥ 0 Select the Lagrangian multipliers 1 and 2 such that 1(2Y - Q1) = 0 and 2(3Y - Q2) = 0 where:

if (2Y - Q1) = 0, 1 > 0 and if (2Y - Q1) > 0, 1 = 0 if (3Y - Q2) = 0, 2 > 0 and if (3Y - Q2) > 0, 2 = 0

The Lagrangian (L) form of the problem is : Maximize: L = 47.5Q1 – (Q1)2 + 40Q2 - 0.5(Q2)2 - 45Y + 1(2Y - Q1) + 2(3Y - Q2) Subject to: Q1, Q2, Y, 1, 2 > 0

P5.6. Solution (continued) First Order Conditions are: ∂L/∂Q1 = 47.5 - 2Q1 - 1 = 0 ===> 1 = 47.5 - 2Q1 ∂L/∂Q1 = 40 - Q2 - 2 = 0 ===> 2 = 40 - Q2 ∂L/∂Y = - 45 + 21 + 32 = 0 ∂L/∂1 = 2Y - Q1 = 0 ===> Q1 = 2Y ∂L/∂2 = 3Y - Q2 = 0 ===> Q2 = 3Y 1 = 47.5 - 4Y 2 = 40 - 3Y - 45 + 95 - 8Y = 120 - 9Y = 0 ===> Y = 10, Q1 = 20, Q2 = 30, 1 = 7.5, 2 = 10 P1 = 47.5 - Q1 ===> P1 = $27.50 P2 = 40 - 0.5Q2 ===> P2 = $25.00

P5.7. Solution Sales Level

Sales Price

Input Material

Q1 ≤ 0.2Y

P1 = 100 – 0.25Q1 ≤

Y units @ $50/unit

Q2 ≤ 0.1Y

P2 = 300 – 5Q2

Q3 ≤ 0.4Y

P3 = 50 – 0.25Q3 ≤

TR = P1Q1 + P2Q2 + P3Q3 = (100 - 0.25Q1)Q1 + (300 – 5Q2)Q2 + (50 - 0.25Q3)Q3 TC = 50Y max s.t.

Z(Q1, Q2, Q3) = 100Q1 - 0.25(Q1)2 + 300Q2 - 5 Q2)2 + 50Q3 - 0.25 Q3)2 - 50Y Q1 ≤ 0.2Y choose 1 so that =====> 1(0.2Y - Q1) = 0 Q2 ≤ 0.1Y choose 2 so that =====> 2(0.1Y - Q2) = 0 Q3 ≤ 0.4Y choose 3 so that =====> 3(0.4Y - Q3) = 0 Q1, Q2, Q3, Y ≥ 0

Lagrangian Form of the Problem: max L(Q1, Q2, Q3, Y, 1, 2, 3) = 100Q1 - 0.25(Q1)2 + 300Q2 - 5(Q2)2 + 50Q3 - 0.25(Q1)2 - 50Y + 1(0.2Y-Q1) + 2(0.1Y-Q2) + 3(0.4Y-Q33) s.t.

Q1, Q2, Q3, Y, 1, 2, 3 ≥ 0

P5.7. Solution (continued) The first order partial derivatives are as follows: 1) L/Q1 = 100 - 0.5Q1 - 1 = 0 2) L/Q2 = 300 - 10Q2 - 2 = 0 3) L/Q3 = 50 - 0.5Q3 - 3 = 0 4) Z = -50 + 0.21+ 0.12 + 0.43 = 0 Y Z = 0.2Y - Q = 0 ==> Q = 0.2Y 5) 1 1  1 Z = 0.1Y - Q = 0 ==> Q = 0.1Y 6) 2 2 2 7) Z = 0.4Y - Q3 = 0 ==> Q3 = 0.4Y 3 100 - 0.1Y - 1 = 0 ==> 1 = 100 - 0.1Y 300 - Y - 2 = 0 ==> 2 = 300 - Y 50 - 0.2Y - 3 = 0 ==> 3 = 50 - 0.2Y -50 + 0.2(100 - 0.1Y) + 0.1(300 - Y) + 0.4(50 - 0.2Y) = 0 20-.2Y = 0 ==>Y = 100 units Y = 100 units of the input material 1 = 100 - 0.1(100) = $90 per units of Product 1 2 = 300 - (100) = $200 per units of Product 2 3 = 50 - 0.2(100) = $30 per units of Product 3 Q1 = 0.2(100) = 20 units Q2 = 0.1(100) = 10 units Q3 = 0.4(100) = 40 units P1 = 100 - 0.25(20) = $95 P1 = 300 - 0.25(10) = $250 P1 = 50 - 0.25(40) = $40

P5.8. Solution Q1 = 200 – 0.8P1,

======> P1 = 250 - 1.25Q1

Q2 = 40 – 0.4P2,

======> P2 = 100 - 2.5Q2

2 Q3 = 800 3 - 3 P3

======> P3 = 400 - 1.5Q3

C = 50 + 60 = $110 per unit of the input material.

The followings are the total revenue (TR) and total cost (TC): TR = P1Q1 + P2Q2 + P3Q3 = (250 - 1.25Q1)Q1 + (100 - 2.5Q2)Q2 + (400 - 1.5Q3)Q3 TC = 110Y The problem is formulated as follows: max s.t.

Z(Q1, Q2, Q3) = 250Q1 - 1.25(Q1)2 + 100Q2 - 2.5(Q2)2 + 400Q3 - 1.55(Q3)2 - 110Y Q1 ≤ Y Q2 ≤ 0.5Y Q3 ≤ 1.5Y Q1, Q2, Q3, Y ≥ 0

Now, choose the Lagrabgian multipliers 1, 2 and 3 so that: 1(Y - Q1) = 0 2(0.5Y - Q2) = 0 3(1.5Y - Q3) = 0 The Lagrangian Form of the problem: Max s.t.

L(Q,Y, ) = 250Q1 - 1.25(Q1)2 + 100Q2 - 2.5(Q2)2 + 400Q3 - 1.5(Q3)2 - 110Y + 1(Y - Q1) + 2(0.5Y - Q2) + 3(1.5Y - Q3) Q1, Q2, Q3, Y, 1, 2, 3 ≥ 0

The followings are the first order partial derivatives: 1) 2) 3) 4) 5) 6) 7)

L/Q1 = 250 - 2.5Q1 - 1 = 0 L/Q2 = 100 - 5Q2 - 2 = 0 L/Q3 = 400 - 3Q3 - 3 = 0 L/Y = -110 + 1+ 0.52 + 1.53 = 0 L/1 = Y - Q1 = 0 ==> Q1 = Y L/2 = 0.5Y - Q2 = 0 ==> Q2 = 0.5Y L/3 = 1.5Y - Q3 = 0 ==> Q3 = 1.5Y

P5.8. Solution (continued) 250 - 2.5Y - 1 = 0 ==> 1 = 250 - 2.5Y 100 - 2.5Y - 2 = 0 ==> 2 = 100 - 2.5Y 400 - 4.5Y - 3 = 0 ==> 3 = 400 - 4.5Y - 110 + (250 - 2.5Y) + 0.5(100 - 2.5Y) + 1.5(400 - 4.5Y) = 0 790 - 10.5Y = 0 ==>Y = 75.238 units Y = 75.238 units 1 = 250 - 2.5(75.238) = 61.905 2 = 100 - 2.5(75.238) = -88.095 < 0 not acceptable (Product 2 is a by-product) 3 = 400 - 4.5(75.238) = 61.429 Since 2 = -88.095 < 0, we arbitrary set 2 = 0 and redo the calculations, as follows: 1) 2) 3) 4) 5) 6) 7)

L/Q1 = 250 - 2.5Q1 - 1 = 0 L/Q2 = 100 - 5Q2 = 0 ==========> Q2 = 20 units L/Q3 = 400 - 3Q3 - 3 = 0 L/Y = -110 + 1+ 0.52 + 1.53 = 0 L/1 = Y - Q1 = 0 ==> Q1 = Y Deleted L/3 = 1.5Y - Q3 = 0 ==> Q3 = 1.5Y

250 - 2.5Y - 1 = 0 ==> 1 = 250 - 2.5Y 400 - 4.5Y - 3 = 0 ==> 3 = 400 - 4.5Y - 110 + (250 - 2.5Y) + 1.5(400 - 4.5Y) = 0 740 - 9.25Y = 0 ==>Y = 80 units Optimal Amount of Input Material: Y = 80 units Shares of Joint Costs: 1 = 250 - 2.5(80) = $50 per unit of Product 1 2 = $0 per unit of Product 2 (Product 2 is a by-product) 3 = 400 - 4.5(80) = $40 per unit of Product 3 Sales Volumes: Q1 = Y = 80 units of Product 1 should sold Q2 = 20 units of Product 2 should sold (of 40 units produced), and the rest discarded.

Q3 = 1.5Y = 120 units of Product 3 should sold Sales Prices: P1 = 250 - 1.25(80) = $150 P1 = 100 - 2.5(20) = $50 P1 = 400 - 1.5(120) = $220

P5.9. Solution No Joint Cost to the By-Product.

Total joint cost (to be allocated to the main products) = $34.50/unit x 20,000 units = $690,000 Sales Products Price

Production units

Separable Cost/unit

Relative Market Value at S.O.P

Proportion

A

$200

5,000

$30

(200-30)5,000 = $850,000

42.5%

B

$110

11,500

$10

(110-10)11,500= $1,150,000

57.5%

Joint Cost to be Allocated

$690,000 Totals

$2,000,000

Product

Share of Joint Cost

Joint Cost per unit

Separable Cost/unit

Manufacturing unit cost

A B BP

$293,250 396,750 0

$58.65 34.50 0.00

$30.00 10.00 2.50

$88.65 44.50 2.50

100%

$690,000

Chapter 6: Estimating Cost Functions Answers to Review Questions R6.1. A: Estimation is prediction or forecast of resources (time, cost and materials) required to achieve or obtain an agreed upon scope of a project or a volume of a product.

R6.2. A: It is an indication of the degree to which the final cost outcome for a given project will vary from the original estimate cost.

R6.3. It is an amount added to an estimate to allow for items, conditions or events for which the state occurrence or effect is uncertain and that experience shows will likely result in additional costs.

R6.4. It is an algorithm or formula that is used to perform the costing operation. CER’s relate (Cost, Time, and Quantity) with quantity scope, execution strategies or other defining elements. .

R6.5. A regression line intercepts the Y-axis at the fixed level.

R6.6

The account analysis approach requires that an experienced cost analyst to review the cost accounts and determine whether the costs in each account are fixed or variable.

Then, the sum of all costs identified as fixed will be the estimate of total fixed costs. To determine the variable cost per unit, the sum of all costs identified as variable is divided by the measure of activity (e.g., number of units).

R6.7. The high-low method uses the historical data during several reporting periods; but, it uses only the data points corresponding to the highest and lowest levels of activity (output) to derive the algebraic equation for the total cost. The slope of the resulting equation is the variable cost and its y-intercept is the fixed cost. It ignores all other data points than the two extremes ones.

R6.8. Account analysis method of cost estimation is used to classify cost accounts as fixed or variable with respect to specific output level.

AR6.9. When the cost is constant (fixed) the slope coefficient of a cost function equal to zero.

Chapter 6: Problem Solutions P6.1: Solution a) F = $270,000 (total fixed cost) V = $810,000 / 7,500 unit = $108 per unit C = $270,000 + $108Q Total cost model, where Q is the production units. b) Using the equation in part (a), C = $270,000 + $108(8,000) = $1,134,000 (total production cost of 8,000 units)

P6.2: Solution a) Fixed cost = F = $162,000.

Variable cost = V = $408,000 / 7,000 units = $58.29 per unit.

The total cost equation: C = $162,000 + $58.29X. b) In the cost equation derived in part (a), substitute 8,000 units for Q, as follows: C = $162,000 + $58.29(8,000) = $628,320 Total production cost is estimated to be $628,320 in July.

P6.3: Solution Cost A is variable as it remains constant on per unit basis.

TCB(10,000) = 10,000($12.00) = $120,000 TCB(20,000) = 20,000($8.50) = $170,000 Cost B is mixed cost per unit, as neither the per-unit cost nor the total is constant.

TCC(10,000) = 10,000($15.00) = $150,000 TCC(20,000) = 20,000($7.50) = $150,000 Cost C is fixed cost per unit, as the total remains constant

P6.4: Solution V = (70,000 – 45,000) / (10,000 – 5,000) = $25,000 / 5,000 = $5 per unit Using either the high point or low point, total fixed cost is calculated next: F = TC(5,000 units) – VC(5,000 units) = $45,000 - $5(5,000) = $20,000 TC = $20,000 + $5Q

P6.5: Solution a) Variable cost per activity unit = (Change in cost)/(Change in Activity) V = (136,700 – 5109,700) / (15,500 – 10,500) = $5.40/unit Using either the high point or low point, total fixed cost is calculated next: F = 136,700 - $5.40(15,500) = $53,300 OR F = 109,700 - $5.40(10,500) = $53,300 TC = $53,300 + $5.40Q b) For the activity level of 15,000 units, the total cost is estimated to be: TC(15,000 = $53,300 + $5.40(15,000) = $134,300

P6.6: Solution a) Variable Cost Rate (Slope) = =

Change in Total Cost Change in Activity Level $13,550 − $11,100 $2,450 11,500 − 8,000

=

3,500

= $0.70 variable cost per unit

Using either the high point or low point, total fixed cost is calculated next: Fixed Cost = Total Cost – Total Variable Cost Fixed Cost (8,000) = $11,100 - $0.70(8,000) = $5,500 OR Fixed Cost (11,500) = $13,550 - $0.70 (11,500) = $5,500 The equation is: TC = $5,500 + $0.70Q or Y = $5,500 + $0.70X b) Total Cost = Fixed Cost + Total Variable Cost TC = $5,500 + $0.70(12,000) Total Cost = $5,500 + $8,4000 = $13,900

P6.7: Solution a) High-Low Method High Point: 4,900 machine hours  Total Cost = $5,195 Low Point: 6,500 machine hours  Total Cost = $6,075 Variable Cost Rate (Slope) =

Change in Total Cost Change in Activity Level $6,075 − $ 5,195

=

6,500− 4,900

= $0.55 per hour

Using either the high point or low point, total fixed cost is calculated next: Fixed Cost = Total Cost – Total Variable Cost Fixed Cost (6,500) = $6,075 - $0.55(6,500) = $2,500 The equation is: C = $52,500 + $0.55Q or Y = $2,500 + $0.55X

P6.7: Solution (continued) b) Regression Method Month January February March April May June Sum

X Hours 5,000 5,200 4,900 5,600 5,200 6,500 32,400

Y Cost $5,200 $5,335 $5,195 $5,595 $5,400 $6,075 32,800

X2 Hrs-Square $25,000,000 $27,040,000 $24,010,000 $31,360,000 $27,040,000 $42,250,000 176,700,000

XY Hrs × Cost

$26,000,000 $27,742,000 $25,455,500 $31,332,000 $28,080,000 $39,487,500 178,097,000

Plug the summation terms into the regression equations, as follows: b=

𝑛(∑ 𝑋𝑌) − (∑ 𝑋)(∑ 𝑌) 𝑛(∑ 𝑋 2 ) − (∑ 𝑋)2

=

6(178,097,000) − (32,400)(32,800) 6(176,700,000)− (32,400)2

= 0.56149

a = 𝑌̅ - b𝑋̅ = (32,800/6) - 0.56149 (46,700/12) = 2,423.5977  $2,425 The total cost estimating equation will then be: C = $2,425 + $0.5615Q

Chapter 7: Cost-Volume-Profit Analysis Review Questions: Answers R7.1 Answer 1) volume or level of activity, 2) unit selling prices, 3) variable cost per unit, 4) fixed costs.

R7.2.

The CVP income statement classifies costs as variable or fixed.

R7.3. The contribution margin ratio is the difference between the sales price and the variable cost of product divided by the sales price and expressed in a percentage of sales.

It is useful in planning business operations as it is a key component of the cost-volumeprofit analysis to examine the effects of changes in sales volumes, sales prices, and costs on the profit of a business.

R7.4. The breakeven point can be calculated by.

- Graphical method as the intersection of the revenue curve and the total cost curve; - Setting total revenue equal to total costs; - Setting the CVP equation equal to zero.

R7.5. Breakeven Quantity = Fixed Costs / Contribution Margin Per Unit QBE = F / (P – V) R7.6. Breakeven Sales Dollars = Fixed Costs / Contribution Margin Ratio BE Sales $ = F / CMR R7.7

Required Sales = Variable Costs + Fixed Costs + Target Profit.

Another formula is; Required Sales = (Fixed Costs + Target Profit) / (Contribution Margin Ratio)

R7.8

Margin of safety is the difference between actual (or expected) sales and sales at the breakeven point.

The formulas for margin of safety are: - Margin of Safety in Dollars = Actual (Expected) Sales - Breakeven Sales and - Margin of Safety Ratio = (Margin of Safety in Dollars) / [Actual (Expected) Sales].

R7.9

The sales mix is the relative proportion in which each product is sold when a company sells two or more different products.

For a multi-product company, breakeven sales in units is determined by using the weighted-average unit contribution margin of all the products.

R7.10. The contribution margin is the difference between the revenue and variable costs. The contribution margin is the portion of revenue available to cover the company's fixed costs. The contribution margin is an important factor to consider when determining a company's breakeven point. It is computed using the following formula:

Contribution Margin = Revenue − Variable Costs The margin of safety is the difference between the actual (estimated) sales and the breakeven sales. It is a measure of the extent to which the sales can drop before a firm incurs a loss. It is computed using the following formula:

Margin of Safety = Actual Sales − Breakeven Sales R7.11. Gross Profits = Sales Revenues Less Costs of Goods Sold.

Gross Profits Less Operating Expenses (Selling, Administrative, Depreciation) = Operating Profits [Operating Profits] plus [Miscellaneous Income (royalties, interest income, capital gains)] less [Miscellaneous Expenses (interest expense) and Income Taxes] = Net Profit.

Sales Revenue Less: Cost of Goods Sold Gross Profit Less: Operating Expenses Selling Expenses Administrative Expenses Depreciation Expense Total Operating Expenses Operating Income (Profit) Add: Misc. Income (Royalties, Capital Gains & Earned Interests and Dividends) Less: Interest Expense and Fees Net Income, Before Income Taxes Income Taxes Profit (Net Income)

xxx (xxx) xxx xxx xxx xxx (xxx) xxx xxx (xxx) xxx (xxx) xxx

R7.12. Within the relevant range, the break-even point does not change. This is due to the linearity assumptions that apply to total revenues, fixed costs, and variable costs.

R7.13. The margin of safety gives decision-makers an idea of the extent to which sales can fall before operations will become unprofitable.

R7.14. Since there is no variable cost (only fixed costs), the marginal cost (MC) will be zero (MC = 0).

Then, to maximize profit, set MR = MC, i.e., 1,200 – 0.4Q* = 0 → Q* = 1,200/0.4 = 3,000 units.

Q = 6000 - 5P → P = 1,200 – 0.2Q → P* = 1,200 – 0.2(3,000) = $$600

Chapter 7 Problem Solutions P7.1: Solution a) 0 = $48QBE - $48,000 QBE = $48,000/$48 = 1,000 units b)

Z = ($90,000 + $48,000) = $48Q* - $48,000 Q* = $138,000/$48 = 2,875 units

P7.2: Solution a) Computing the breakeven point in sales dollars: Contribution Margin Ratio (CMR) = (P – V) / P = ($40 - $15) / $40 = 0.625 = 62.5% Breakeven in Sales Dollars = (Fixed Cost)/(Contribution Margin Ratio) Breakeven Point in dollars = F/CMR BE $ = $125,000 / 0.625 = $200,000 b) Finding expected margin of safety: Margin of Safety = Expected Sales - Breakeven Sales Expected Sales = $40(8,000) = $320,000 Breakeven Sales Dollars = $200,000 Margin of Safety (MOS) = $320,000 - $200,000 = $120,000 MOS % = $120,000 / $320,000 = 0.375 = 37.5% c) Computing the operating leverage: Operating Leverage = (Contribution Margin) / (Contribution Margin – Fixed Costs)

OL = $25(8,000) / [$25(8,000) - $125,000] = 2.67 = 267% d) Q* = (Fixed Costs + Target Profit) / (Contribution Margin Per Unit) Q* = ($100,000 + $125,000) / $25 = 9,000

P7.3: Solution a) Finding the breakeven sales dollars: Contribution Margin Ratio (CMR) = (P - V) / P Contribution Margin Ratio (CMR) = ($80 - $48) / $80 = 0.4 = 40% Breakeven in Sales Dollars = (Fixed Cost)/(Contribution Margin Ratio) Breakeven in Sales Dollars = $240,000 / 0.40 = $600,000 b)

Find current margin of safety: Expected Sales Income = $80(10,000) = $800,000 Margin of Safety = Expected Sales – Breakeven Sales Margin of Safety = $800,000 – $600,000 = $200,000 Margin of Safety % = $200,000 / $800,000 = 0.25 = 25%

c)

Computing number of units needed to produce to achieve $144,000 target profit: Q* = (Fixed Costs + Target Profit) / (Contribution Margin Per Unit) Q* = (240,000 + $144,000) / $32 = 12,000 units

P7.4: Solution TR = P.Q (Total Revenue) P = 300 - 3Q TR(Q) = (300 - 3Q).Q = 300Q - 3Q2 a) To maximize revenue set MR(Q) = 0, that is, TR'(Q) = MR(Q) = 300 - 6Q = 0 ====> Q = 50 units So maximum revenue is: TR(50) = 300(50) - 3(50)2 = $7,500 b) To maximize profit set the marginal revenue equal to marginal cost; that is, MR(Q) = MC(Q).

MC(Q) = TC'(Q) = 60 - 6Q + 0.6Q2 300 - 6Q = 60 - 6Q + 0.6Q2 ========> Q = 20 units Then, the maximum profit is found as follows Z(20) = TR(20) - TC(20) = [300(20) -3(20)2] - [200+ 60(20)- 3(20)2 +0.2(20)3] = $3,000 c) P = 300 - 3(20) = $240

P7.5: Solution Contribution Margin per unit per unit per Pi - Vi hour machine time $9 $ 2.25 15 (b) 2.50 12 3.00 (a)

Product (i) Product 1 Product 2 Product 3

a) Product 3 is most profitable because it has the highest contribution margin per machine hour. b) Product 2 is most profitable because it has the highest contribution margin per unit. c) Formulating the problem for linear programming to maximize the profit: Maximize: Z =

9Q1 + 15Q2 + 12Q3

Subject to:

4Q1 + 6Q2 + 4Q3 ≤ 40,000 Q1 + 3Q2 + 2Q3 ≤ 24,000 Q1, Q2, Q3 ≥ 0.

P7.6: Solution Sales price and variable cost per unit Product A Product B Sales price $ 15.75 $ 21.00 Materials cost / unit $ 3.40 $ 4.25 Direct labor / unit 2.20 3.30 Variable overhead / unit 1.50 2.50 Total variable cost per unit $ 7.10 $ 10.05 Contribution margin per unit $ 8.65 $ 10.95 Fixed Costs: Product A Product B Total $ 150,000 + $ 200, 000 = $ 350,000 325,000 50,000 $ 725,000

Fixed Overhead Fixed Selling & Administrative + Increase in Advertising Total Fixed Cost Product

Pi

Vi

A

$ 15.75

$ 7.10

B

21.00

10.05

Total Fixed Cost $ 725,000

In 1985: QA = 750,000 / 15 = 50,000 units QB = 2,250,000 / 22.50 = 100,000 units

P7.6: Solution (continued)

(a)

So, the sales mix is QB = 2QA Z = (15.75 - 7.10)QA + (21 - 10.05)QB - 725,000 = 8.65QA + 10.95(2QA) - 725,000 = 30.55QA - 725,000 To break even , we set Z = 0. Then, we find the following break-even quantities: QA,BE = 23,731.6 units QB,BE = 47,463.2 units

(b)

Net income before taxes is Z* = 900,000 = 30.55QA - 725,000 if solved for QA, it gives 𝑄A∗ = 53,191.5 units Then, 𝑄B∗ = 2𝑄A∗ = 106,383 units

(c)

Z* = 300,000/0.3 = 1,000,000 = 30.55QA - 725,000 We find 𝑄A∗ = 56,464.8 units, and 𝑄B∗ = 2(56,464.8) = 112,929.6 units.

P7.7: Solution Palmon Company Budgeted Income Statement (CM Format) For the Year 20XX Per Unit

Total

Sales (180,000 units)

$ 5.00

$900,000

Variable Costs: Direct Materials Direct Labor Factory Overhead (Variable) Sales Commission (10% of Sales) Shipping Administrative Expenses Total Variable Cost & Expenses

$ 1.50 1.25 0.20 0.50 0.05 0.09 $ 3.59

$270,000 225,000 36,000 90,000 9,000 16,200 $646,200

Contribution Margin

$ 1.41

$253,800

Fixed Costs & Expenses: Factory Overhead (Fixed) Advertising, Salaries, etc.

Administrative (Fixed) Total Fixed Costs

$ 95,000 120,000 26,000 $241,000

Net Income Before Taxes

$ 12,800

The CVP model will be Z = $1.41Q - $241,000.

P7.8: Solution Contribution margin is a key input for decision making about which product to produce, how much to produce, how to allocate limited resources.

Total machine hours available per year = 2(7)(5)(50) = 3,500 hours.

That is, the company’s production is limited by the available 3,500 machine-hours.

Therefore. company should decide on how to use the limited machine-hours to maximize its total contribution margin. This means the product that generates a higher contribution margin per machine hour would have a higher priority to be produced first.

Computation of contribution per machine hour: Selling price (per unit) Variable cost (per unit) Contribution margin per unit Units that can be produced per machine hour on the same production line Estimated demand (units) Contribution margin per machine hour (a) $30(10) = $300 per machine hour (b) $25(6) = $150 per machine hour

Product A $60 $30 $30

Product B $35 $10 $25

10 15,000 $300(a)

6 22,000 $200(b)

Machine hours consumed in producing Product A = 15,000 / 10 = 1,500 hours Machine hours remained for producing Product B = 3,500 – 1,500 = 2,000 hours Machine hours needed to producing 22,000 units of Product B = 22,000 / 6 = 3,667 hours Thus, the company can devote only 2,000 machine hours for producing Product B, by which it can produce 2,000(6 units/hour) = 12,000 units of Product B.

P7.9: Solution a) Developing the CVP Model.

Q = 375 – 0.05P → P = -$20Q + $7,500 TR = PQ = (-20Q + 7,500)Q = - 20Q2 + 7,500Q (total revenue equation) TC = $240Q + $169,000 (total cost equation) Z = - $20Q2 + $7,260Q - $169,000 (the CVP model)

P7.9: Solution (continued) b) Computing the breakeven quantity(ies).

To break even, set Z = 0 and solve the CVP equation for QBE as follows: Z = - $20(QBE)2 + $7,260QBE - $169,000 = 0 QBE =

−7,260 ± √(7,260)2 −4(−20)(−169,000) 2(−20)

QBE = 181.5 ± 156.5 QBE1 = 25 units and QBE2 =338 units c) Determining the selling price that maximizes the company’s monthly profit.

To maximize profit set the derivative of profit (CVP) function equal to zero: Z’ = -40Q + 7,260 = 0 → Q* = 181.5 units P* = -$20(181.5) + $7,500 = $3,870 d) Computing the company’s monthly maximum profit.

Z* = - $20(181.5)2 + $7,260(181.5) - $169,000 = $489,845

P7.10: Solution a) Fixed Cost = $15,000 + $18,000 = $33,000 Variable Cost = $3 + $4 = $7 per unit Z = (P – V)Q – F $45,000 = (P - $7)(15,000) - $33,000 (P - $7) = ($45,000 + $33,000)/15,000 = $5.20 P = $12.20 Sales Price per unit b) Sales Dollars = $12.50(16,000) = $200,000 TC = $7(16,000) + $33,000 = $145,000 BE Sales = Total Cost = $145,000 Margin of Safety = Sales – Breakeven Sales = $200,000 - $145,000 = $55,000 MOS % = $55,000/$200,000 = 0.275 = 27.5% CM = ($12.50 - $7)(16,000) = $88,000 Operating Income = CM – F = $88,000 – $33,000 = $55,000 Degree of Operating Leverage = CM/OI = $88,000/$55,000 = 1.6 = 160%

P7.11: Solution Before Tax Income: $90,000 / (1 - 0.25) Fixed Costs: Contribution Margin: Projected Sales: $10(125,000) less: Contribution Margin Variable Costs

$120,000 $500,000 $620,000 $1,250,000 620,000 $630,000

Variable Cost = $630,000 / 150,000 units = $4.20 per unit

P7.12 (a): Solution Contribution Margin: P – V = $15 - $6 = $9 per unit $9Q* - $335,000 = $250,000 $9Q* = $585,000 Q* = 65,000 units P7.12 (b): Solution Contribution Margin (CM) = ($15 - $6)(65,000 units) = $585,000 Operating Income (OI) = $585,000 - $335,000 = $250,000 Degree of Operating Leverage (DOL) = CM/OI = ($585,000/250,000) = 2.34 = 234%

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Chapter 2 Answers to Problems

2.1 (a) A machine has a cycle time of 1/2 second. What are the productions pieces per hour at 100% and 75% efficiency? (b) The floor-to-floor time (meaning a complete productive cycle) is 31 seconds. Find the gross units per hour at 100% and 90% efficiency.

Answer: (a) t = 0.5 sec/piece 1/0.5 x 60 x 60 = 7200 pieces/hour @ 100% 7200 x 0.75 = 5400 pieces/hour @ 75% (b) t = 31 sec/piece 1/31 x 60 x 60 = 116.1 pieces/hour @ 100% 116.1 x 0.90 = 104.5 pieces/hour @ 90%

2.2 (a) If the hourly production is 11 units, find the hours per 1000 pieces. (b) The production is 29.5 units per hour. Find hours per 100, 1000 and 10,000 units. (c) Find pieces per hour and standard minutes per unit for 15.325 hours per 100 units.

Answer: (a) 1000/11 = 90.9091 hrs for 1000 units (b) 100/29.5 = 3.390 hrs for 100 units 1000/29.5 = 33.898 hrs for 1000 units 10000/29.5 = 338.98 hrs for 10000 units (c) 100/15.325 = 6.5 pieces/hour 60 min / 6.5 pieces = 9.23 min / piece

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2.3

A time study of an assembly operation is summarized: Description Frequency Element Rating Factor Minutes Part A to 5 in. dowel 1/1 0.037 1.10 Part B to 5 in. subassembly 2/1 0.064 1.15 Short piece to base 1/1 0.089 1.20 Long piece to base 1/1 0.129 1.10 Grab pieces from tote box 1/5 0.185 1.10 Place on conveyor 1/1 0.087 1.10

Allowances for this work total 9.5%. Find the standard minutes per unit, pieces per hour, hours per 100 units, and labor cost per unit, where the wage rate is $14.75 per hour.

Answer: Elem no.

1 2 3 4 5 6

Frequency

Element Minutes

Rating Factor

1/1 2/1 1/1 1/1 1/5 1/1

0.037 0.064 0.089 0.129 0.185 0.087

1.10 1.15 1.20 1.10 1.10 1.10

(a) 9.5% allowance 100 / (100 – 9.5) = 1.105 0.5730 x 1.105 = 0.633 std min / piece (b) 60 / 0.633 = 94.8 pieces / hr (c) 100 / 94.8 = 1.05 hr / 100 pieces (d) $14.75 / 94.8 = $0.156 / piece

Element Normal Times 0.0407 0.1472 0.1068 0.1419 0.0407 0.957 Total 0.5730

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2.4 A mail room prepares the company’s advertising for mailing. A time study has been done on the job of enclosing material in envelops. Develop the elemental normal time, cycle standard time, pieces per hour, and hours per 100 units, providing 15% for allowances, for the continuous stop watch data.(Hint: The time readings are in hundredths of a minute.)

Cycle Description Get envelops Get and fold premium Insert premium in envelope and seal

1 11 22 29

2

3 55 65 73

41 48

4 83 97

5 105 116 123

6 134 141

7 151 160 182

Rating % 105 115 95

Answers Elem No. 1 2 3

1 11 22 29

2 41 48

CY

CL

E

3 55 65 73

4

5 105 116 123

83 97

6 134 141

7 151 160 182

Rating Normal % Time 105 22.65 115 26.29 95 24.70 Total 73.64

Note: Normal times in hundredths of a minute Std time 73.64/100 x 1.176 = 0.866 minutes / piece 60 / 0.866 = 69.3 pieces per hour 100 / 69.3 = 1.44 hours per 100 pieces

2.5 A method has been engineered and an operator has been time studied. The method has produced an average overall time of 2.32 minutes by actual watch timing. The overall pace rating applied to the job was 125%. This company, which uses an incentive system, adds extra time into the production rates to cover personal time, fatigue, and unavoidable delays. The total allowance is 15%. (a) Determine the rated time or normal minutes, the total allowed time or standard minutes, the standard hour rate for the job per 100 units, and the pieces per hour. (b) The labor rate per hour is $15.30. What is the standard labor cost per unit?

Answer: (a) 2.32 x 1.25 = 2.9 rated minutes 2.9 x 1.176 = 3.41 standard minutes 3.41 / 60 = 0.0568 hr per piece 0.0568 x 100 = 5.68 hr / 100 pieces 1 / 0.568 = 17.6 pieces per hr (b) $15.30 / 17.6 = $0.87 per piece

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2.6 Element time study observations that use the snap-back method are given as Rating Allowance Element description 1 2 3 4 5 (%) (%) Place part in jig 0.03 0.08 0.05 0.04 0.06 117 11 Drill hole 0.31 0.38 0.37 0.39 0.33 100 5 Remove part, place on 0.07 0.08 0.09 0.12 0.11 93 13 conveyor belt (a) Find the average, normal and standard times for each element. (b) Calculate the production per hour and hours per 100 units. (c) By an older method, 0.834 minute of standard time was required to complete this same process.

Calculate the increase in output in percent and savings in time in percent.

Answer: (a) Elem No. 1 2 3 (b) (c)

1 0.03 0.31 0.07

2 0.08 0.38 0.08

3 0.05 0.37 0.09

4 0.04 0.39 0.12

5 0.06 0.33 0.11

Avg. Time 0.052 0.356 0.094

Rating (%) 117 100 93

Norm Time 0.061 0.356 0.087

Allow (%) 11 5 13

Alow Fac 1.12 1.05 1.15 Total

Std. Time 0.069 0.375 0.100 0.544

60 / 0.544 = 110.3 pieces per hour 100 x 0.544/60 = 0.907 hr / 100 pieces output increase 60 / 0.834 = 71.9 pieces per hour (110.3 - 71.9) / 71.9 = 53.4% increase in output time savings (0.834 – 0.544) / 0.544 = 34.7% time savings

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2.7 A time study summary is given.

Element description Get part from conveyor Get subassembly from conveyor Connect parts to subassembly Install 3 brackets Assemble side 1 Mate side 2 Put on conveyor

Freq/ Unit 1/1 1/1 2/1 3/1 1/1 1/1 1/1

Avg. Time 0.040 0.030 0.055 0.153 0.234 0.183 0.032

Rating (%) 100 105 110 100 90 90 100

(a) With an allowance factor of 15% to cover P (personal), F (fatigue), and D (delay), what are the normal minutes per piece, the standard minutes per unit, and the number of hours per 1000 pieces? (b) If the performance against standard has averaged 120%, what is the incentive hourly if day work is paid at $15.75 per hour?

Answers (a) Elem No. 1 2 3 4 5 6 7

Freq/ Unit 1/1 1/1 2/1 3/1 1/1 1/1 1/1

Avg. Time 0.040 0.030 0.055 0.153 0.234 0.183 0.032

Rating (%) 100 105 110 100 90 90 100 Total

Norm Time 0.040 0.32 0.121 0.459 0.211 0.165 0.032 1.060

Normal Minutes per piece = 1.060 15% PFD, factor = 1.176 1.060 x 1.176 = 1.250 Standard minutes per piece 1.250/60 x 1000 = 20.8 hours per 1000 pieces (b) Standard rate 60 / 1.25 = 48 pieces per hour $15.75 / 48 = $0.328 / piece Performance 48 x 1.20 = 57.6 pieces per hour 57.6 x $0.328 = $18.89 incentive rate

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2.8 The raw continuous-timing data for a two element punch press operation are provided. The times are in minutes.

Description 1 2 3 4 5 Handle Part 0.01 0.04 0.08 0.11 0.14 Punch Part 0.03 0.06 0.10 0.12 0.16 (a) What is the average time for each element? If the ratings are +8% for element 1 and –9% for element 2 what is the normal time? The PFD allowance is 20%. What is the standard minute per piece for this operation? How many pieces per hour? How many hours per 100 units? (b) If the PFD allowance only applies to element 1, what are the standard minutes per unit? How many hours per 100 units?

Answers (a) Elem No. 1 2

1 0.01 0.03

2 0.04 0.06

3 0.08 0.10

4 0.11 0.12

5 0.14 0.16

20% factor 100 / (100 – 20) = 1.25 0.059 x 1.25 = 0.074 standard minutes per piece 60 / 0.074 = 810.8 pieces per hour (0.074 / 60) x 100 = 0.123 hour per 100 pieces (b) (0.030 x 1.25) + 0.029 = 0.0665 standard minutes per piece (0.0665 / 60) x 100 = 0.110 hour per 100 pieces

Avg Time 0.028 0.032

Rate (%) 108 91 Total

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Norm Time 0.030 0.029 0.059

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2.9 Engineering aides prepare job tickets to track their daily work. After a sufficient period of data collection and classification, the data are summarized. A personal allowance of 15% is used for this work. (Hint: For simplification of calculation, ignore holiday and vacation days.)

Description Avg. Freq/ Min. Dwg. Post drawing numbers 7.0 1/1 Duplicate drawings 19.0 1/1 Correct computer entries 38.0 2/1 Phone calls 1.5 1/4 Update CAD changes 27.0 1/2 (a) Determine the standard labor hours per engineering drawing. (b) A new product design is anticipated and a separate staff will be assembled. The new product design will probably result in 2500 drawings over a 1-year period. How many aides will be required, and at $25 per hour, how much should be budgeted for their work on the drawings for the new design?

Answers Elem No. 1 2 3 4 5

Avg. Min. 7.0 19.0 38.0 1.5 27.0

Freq/ Norm Dwg. Time 1/1 7.0 1/1 19.0 2/1 76.0 1/4 0.38 1/2 13.5 Total 115.9 min. (a) (115.9 x 1.176) / 60 = 2.27 hours per drawing (b) 2500 x 2.27 = 5675 total hours 52 weeks x 40 hrs = 2080 hours per 1 labor year 5675 / 2080 = 2.73 labor years 2.73 -> 3 aides required 3 x 2080 x $25 = $156,000 for budget.

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2.10 The results from a working sampling study of a work force is divided into 12 categories. This sample covers a span of 25, 8-hour days. What are the percentages and expected hours per category?

Category 1 2 3 4 5 6 7 8 9 10 11 12 Total

No. of Observations 92 99 37 11 25 14 24 33 3 22 8 32 400

Answer Total hours covered: 25 x 8 = 200

Category 1 2 3 4 5 6 7 8 9 10 11 12

No. of Observ 92 99 37 11 25 14 24 33 3 22 8 32

% of Observ 23.0 24.75 9.25 2.75 6.25 3.5 6.0 8.25 .75 5.5 2.0 8.0

Expect Hours 46 49.5 18.5 5.5 12.5 7.0 12.0 16.5 1.5 11.0 4.0 16.0

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2.11 The pediatrics department in a hospital is work sampled over a total of 608 hours. The results are shown.

There were a total of 1578 observations. Find the percent of occurrences for each category, cumulative percentages, element hours and cumulative hours for each category.

Category Routine nursing Idle or wait Unit servicing Report Personal time Intervention Unable to sample

Count 496 263 183 129 128 102 91

Category Other Feeding Bathing Elimination Transporting Housekeeping Ambulation

Count 79 52 22 11 8 7 7

Answers No. 1 2 3 4 5 6 7 8 9 10 11 12 13 14

obsr % occur cumm % elem hr cumm hr 496 31.43% 31.43% 191.11 191.11 263 16.67% 48.10% 101.33 292.44 183 11.60% 59.70% 70.51 362.95 129 8.17% 67.87% 49.70 412.65 128 8.11% 75.98% 49.32 461.97 102 6.46% 82.45% 39.30 501.27 91 5.77% 88.21% 35.06 536.33 79 5.01% 93.22% 30.44 566.77 52 3.30% 96.51% 20.04 586.81 22 1.39% 97.91% 8.48 595.29 11 0.70% 98.61% 4.24 599.52 8 0.51% 99.11% 3.08 602.61 7 0.44% 99.56% 2.70 605.30 7 0.44% 100.00% 2.70 608.00

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2.12 A work sampling study is taken of a department with the following information obtained: Number of sampling days, 25; number of trips per day, 16; number of workers observed per trip, 3; and number of items sampled, 4. The observations counted for each of the items was, A – 80; B – 320; C – 1600; and D – 2800. (a) How many labor-days and observations were sampled? (b) What are the percentages and equivalent hours for the activities? (c) For a confidence level of 90%, what is the relative accuracy for each item?

Answers (a) Labor days, 25 x 3 = 75 days Observations 25 x 3 x 16 = 120 Item A B C D Total

Observ 80 320 1600 2800 4800

% occur (P’i) 1.7 6.7 33.3 58.3 100

(b) Time 10.0 40.0 200.0 350.0 600

I 0.0061 0.0118 0.0224 0.0234

(c) Accur (%) 18.3 8.8 3.4 2.0

(c) Find I = 2Z((P’i(1 – P’i))/N)1/2 and Rel. Accuracy = (I/2P’) x 100 2.13

Answers

We want to determine the percentage of idle time of a machine shop by work sampling. A confidence level of 95% and a relative accuracy of 5% is desired, where a rough estimate of 25% is suspected for idle time. (a) How many observations are necessary? (b) Assume that the relative accuracy is 2 ½%. How many observations are required now? (c) What happens to the number of the observations required as the relative accuracy becomes less? (a) 95% -- Z = 1.960, P’i = 0.25, R.A. = 0.05 R.A. = I/2Pi or I = 2 Pi(R.A.) I = (2)(0.25)(0.05) = 0.025 N = (4Z2P’i(1-P’i))/I2 N = (4)(1.960)2(0.25)(0.75)/(0.025)2 = 4610 (b) I = (2)(0.25)(0.025) = 0.0125 Use 0.0125 in place of the 0.025 in equation for N above N = 18440 (c) The number of required observations increases greatly.

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2.14

(a) To get a 0.10 interval on work observed by work sampling that is estimated to require 70% of the worker’s time, how many random observations will be required at the 95% confidence level? Repeat for 90%. (b) If the average handling activity during a 20-day study period is 85% and the number of daily observations is 45, then what is the interval allowed on each day’s percent activity? Use 90%. Repeat for 99%. (c) Work sampling is to be used to measure the not-working time of a utility crew. A preliminary study shows that not-working time is likely to be around 35%. For a 90% confidence level and a desired relative accuracy of 5%, what is the number of observations required for this study? Compare to 95% confidence level.

Answers (a) Pi = 0.70, I = 0.10, 95% -- Z = 1.645 N = (4)(1.645)2(0.70)((0.3)/(0.10)2 = 227 90% -- Z = 1.960, N = 323 (b) 20 x 45 = 900 observations, P i = 0.85 For 90% -- Z = 1.645, I = (2)(1.645)[(0.85)(0.15)/(900)] 1/2 I = 0.39% For 99% -- Z = 1.960, I = 0.61% (c) 90% -- Z = 1.645, Pi = 0.35, R.A. = 0.05 I = (2)(0.35)(0.05) = 0.035 N = (4)(1.645)2((0.35)(0.65)/(0.035)2 = 2010 95% -- Z = 1.960, N = 2854

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2.15

A shipping department that constructs wooden boxes for large switch gear has five direct-labor workers.

A work-sampling study is undertaken, and the following observations of work elements are recorded over a 15-day, 8-hour period: Description Set up and dismantle Construct crates Load switch gear in crates Move materials Idle

Count 312 264 204 324 96

A rating factor of 90% is found. The number of switch gear shipped during this period is 26. This firm uses an allowance value of 10% for work of this kind. Average labor costs $18.75 per hours. (a) Find the elemental costs. (b) What is the standard labor cost per box? (c) Estimate the actual cost.

Answers (a) Total hours observed: 15 x 8 x 5 = 600 (a) Item Count Fraction (P’) Hrs/elem Adjusted* 1 312 0.26 156 154.44 2 264 0.22 132 130.68 3 204 0.17 102 100.98 4 324 0.27 162 160.38 5 96 0.08 48 Totals 1200 1.00 600 * Adjustment for performance rating and PFD factor: hrs/elem x 0.9 x 1.1 ** Idle time is not included in the standard calculations b) $394.13 c) (600 x 18.75) / 26 = $432.69

Std hr / unit 5.94 5.03 3.88 6.17 **

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Cost ($) 111.38 94.31 72.75 115.69 394.13

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2.16

An eight-person CAD department concerned with size A, B, and C drawings is work-sampled by a management consultant over a standard 4-week period. A chart summarizes for the categories as follows: Item Drafting and tracing Calculating Checking prints Classroom Professional time off Personal time, idle

Count 778 458 110 125 172 270

During this period, 55 drawings (A = 20, B = 25, C = 10) were produced with a total payoff of $26,400.

Let relative size A = 1, B = 2A, C = 2B. a) Given a performance rating of 1.0 and a PF&D factor calculated from the personal time, idle element, determine the standard time per drawing unit (A size) and standard times for the B and C sizes. b) Determine the hourly pay rate. A new order is estimated at A = 10, B = 30 and C = 25 drawings has been placed. What is the estimated cost of this order?

Answers Total hours worked 8 x 4 x 40 = 1280 Item Count Fraction Drafting and tracing 778 0.41 Calculating 458 0.24 Checking prints 110 0.057 Classroom 125 0.065 Professional time off 172 0.09 Personal time, idle 270 0.141 Total 1913 1.003 * Not included in standard times a) PFD = 100 / (100 – 10) = 1.11 For 55 dwgs: 988 x 1.11 = 1098 std hours Drawing units: 20 + (25 x 2) + (10 x 4) = 110 Std time per dwg unit: 1280 / 110 = 11.64 hr A= 11.64 hr B = 2 x 11.64 = 23.28 hr C = 4 x 11.64 = 46.56 hr

Hrs/elem 525 307 73 83 * * 988

b) 26,400 / 1280 = $20.62 / hr (10 x 11.64 + 30 x 23.28 + 25 x 46.56) x 20.62 = $40,803

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2.17 Find the effective gross hourly cost for drill press operators paid an average wage of $22 per hour. No overtime is planned. Company policy allows six paid holidays, and the average entitled vacation is 10 days.

There is no non-chargeable time or performance subsidy. Sick leave is charged against vacation time. FICA is at current rate, and workmen’s compensation is at 2% of the first $20,000. The company pays $400 for unemployment insurance.

Answer:

Regular paid clock hours Holidays Vacation Chargeable (worked hours) Non hourly costs FICA (45760 x 0.076) Workers Comp (20000 x 0.02) Unemployment Ins Excess cost total Excess hourly cost (7094 / 1952) Hourly wage Effective gross hourly cost Percent increase over wage

Annual Hours 2080 -48 -80 1952

Annual Cost ($) 45,760 -1,056 -1,760 42,944

Annual Excess ($) 1,056 1,760

3,478 400 400 7,094 3.63 22.00 25.63 16.5%

2.18 A tool and die worker is paid $26.50 per hour. The work year consists of 52 40-hour weeks with overtime schedules for 26 Saturdays. The company allows 8 paid holidays and 10 days of vacation. Four days of sick leave are budgeted and have historically been used. Expected non-chargeable hours are 2%. There is no subsidy for performance. Non-hourly costs include FICA taxes at current governmental rate, workmen’s compensation at 2% of regular wages up to $20,000, accident insurance sum of $600, a major supplemental medical plan for $300, and unemployment insurance of $800. (a) Find the effective gross hourly cost. (b) What is the job cost if a job will require 10 man-hours with a productivity of 90%?

Answer: a) Regular paid clock hours Overtime (8 x 26) Overtime excess (0.5) Holidays Vacation Sick pay Expected non-chargeable (2080 x 0.02) Chargeable (worked hours) Non hourly costs FICA (55120 + 8268) x 0.076 Workers Comp (20000 x 0.02) Accident Ins Supplemental medical plan Unemployment Ins Excess cost total Excess hourly cost (15439 / 2078) Hourly wage Effective gross hourly cost Percent increase over wage b) 10 x 33.93 x (1/0.9) = $377

Hours 2080 208

Cost ($) 55,120 8,268

-64 -80 -32 -42 2078

-1,696 -2,120 -848 -1,102 57,622

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Excess ($)

2,756 1,696 2,120 848 1,102

4,817 400 600 300 800 15,439 7.43 26.50 33.93 21.9% 2-14

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Full file at https://fratstock.eu 2.19 Determine a company’s base annual cost for a top-grade worker. The base hourly rate is $15.75. Use the current FICA costs of the base. State unemployment compensation runs 2%. Health insurance premiums cost $40 per month. The company carries term life insurance that costs $45,000 per year for all employees (there are 60 employees). In addition, the company profit-sharing plan usually pays 5% of the base wage.

Answer: Base wage: 15.75 x 2080 = FICA: 32760 x 0.76 = Unemployment: 32760 x 0.02 = Health Ins: 40 x 12 = Life Ins: 45000 / 60 = Profit sharing: 32760 x 0.05 =

$32,760 2,490 655 480 750 1,638 Total $38,773

Hourly wage 38773 / 2080 = $18,64

2.20 Find a typical hourly cost for direct labor. In this instance, the average workweek is 48 hours, of which the final 8 hours are premium at one and a half. The wage is $30.30 per hour. Each day a total of 20 minutes is permitted as a coffee break, the final 15 minutes is cleanup. Annually there are 2 weeks of paid vacation on the basis of 40 hours worked and five paid holidays. Taxes for FICA are at the current rate and there is a 1.2% workers’ compensation tax for the amount of $15,000. There is a requirement for $250 per month for companypaid medical and life insurance, and a $25 Christmas bonus.

Answer: Chargeable (worked hours) Overtime (8 x 49) Overtime excess (0.5) Holidays Vacation Non-productive time (35/60)x49x6 Non hourly costs FICA (80400) x 0.0765 Workers Comp (15000 x 0.012) Medical & life Ins (250x12) Bonus Excess cost total Excess hourly cost (24,127 / 2080) Hourly wage Effective gross hourly cost Percent increase over wage

Hours 2080 392

Cost ($) 63,024 17,816

-40 -80 -172

Excess ($)

5,939 1,212 2,424 5,196 6,151 180 3000 25 24,127 11.60 30.30 41.90 38%

2.21 A man worked 8 hours on incentive and non-incentive jobs. While on incentive, he completed 8 tasks, each with a 1-hour standard time. The non-incentive jobs took 2 actual hours. The incentive plan has a base rate of $13 per hour, though the man’s wage rate for non-incentive tasks is $16 per hour. How much did the man earn?

Answer: Ha = 8 hrs, Hs = 1x8 = 8 hrs, Other = 2 hrs (8 x 13) + (16 x 2) = $136 136 / 8 = $17 / hr

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2.22. (a) A worker produces 56 units on an incentive plan during the 40-hour week. Her base hourly rate is $15 per hour, and the standard for one unit of product is 1.10. What are her weekly earnings? (b) Find the full employee cost for the product if the employee has a FICA rate of 7.60%, unemployment insurance costs the company 2.1%, the workers’ compensation rate is 2.5%, 10 days of yearly vacation, and $400 per month for medical insurance. Approximate the actual wage and fringe cost per hour. Per unit. Assume a weekly wage for a 52-week year. Yearly vacation is at base rate of $15 per hour.

Answer: a) Na = 56, Hs = 1.10 x 56 = 61.6 hrs, Ha = 40 hrs, base R = $15 61.6 x 15 = $924 924 / 40 = $23.10 / hr b) Hours Chargeable (23.1x8x5x50)+(15x8x10) Vacation (15x80) 1,200 Non hourly costs FICA (47400) x 0.076 Unemployment ins (47400x0.021) Workers Comp (47400 x 0.012) Ins (400x12) Excess cost total Excess hourly cost (7462 / 2000) Hourly wage Effective gross hourly cost Hourly wage $28.99 Unit cost: (28.99 x 40) / 56 = $20.71

Cost ($) 46,200

Excess ($)

3,602 995 1,185 4800 11,782 5.89 23.10 28.99

2.23 A worker is paid the day-work rate if she earns less than 100% incentive premium. The standard is 75 units per hour, and the operator completes 140 good parts in 1.4 hours. The rate is $25 per hour. (a) Find the piece rate. (b) What are the earnings and labor efficiency?

Answer: a) 140 / 1.4 = 100 units/hr $25 / 75 units = $0.33 / unit 0.33 x 100 = $33 / hr b) Cdl = HaRh + Rh(HsNp – Ha) (1.4 x 25) + 25[(1/75)(140) – 1.4] = $46.67 E = Np(Hs/Ha)x100 140(0.013/1.4)100 = 133%

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2.24 (a) A sheet metal operator is told that her standard is 1.875 hours per 100 units. If her wage is $16 per hour and she makes 800 units in 12 hours, what are her earnings? (b) If the actual time is 16 hours, what is her guaranteed pay and efficiency for the 100% plan?

Answer: a) 1.875 x (800/100) = 15 standard hours 15 x 16 = $240 earnings for the 12 hours, or $20 / hour b) Ha = 16, Rh = $16, Np = 800, Hs = 1.875/100 = 0.01875 hr / piece Cdl = (16 x 16) + 16 x [(0.01875 x 800) – 16] = $240 240 / 16 = $15 / hour But, $16 / hour is guaranteed, so Cdl = 16 x 16 = $256 Efficiency: 800 x (0.01875 / 16) x 100 = 93.75%

2.25

Efficiency of 125% for an operation is calculated. The standard is 10 hours per unit and the wage is $23.50 per hour. What is the expected cost for 210 units?

Answer: Need to find Ha: Ha = (100NpHs) / E = (100 x 210 x 10) / 125 = 1680 hours Cdl = (1680)(23.50) + (23.50) x [(10x210) – 1680] = $49,350 2.26

A molding operator tends two machines and plastic products A and B are produced. Machines A and B have a production rate of 400 and 250 strokes per hour. Molds A and B produce three or four buttons per stroke respectively. Operator wage is $11 per hour. Dejoint these labor costs when allocation is based on (a) number of machines, (b) product output of machines A and B and (c) marketing believes that A to B value is 5:4.

Answer: a) $11 / hour for 2 machines = $5.50 / hour / machine A: 400 x 300 = 1200 buttons / hour 5.50 / 1200 = 0.46¢ / button B: 250 x 4 = 1000 buttons / hour 5.50 / 1000 = 0.55¢ / button b) Combined output = 1200 + 1000 = 2200 / hour A: 1200 / 2200 = 54.5% B: 1000 / 2200 = 45.5% 11 x 0.545 = $6.00 11 x 0.455 = $5.00 6 / 1200 = 0.5¢ / button 5 / 1000 = 0.5¢ / button c) A: 11 x 5/9 = $6.11 B: 11 x 4/9 = $4.89 6.11 / 1200 = 0.51¢ / button 4.89 / 1000 = 0.49¢ / button

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2.27

A time study observes the operation of producing two parts, which are labeled 1 and 2. The elements and their standard minutes are given as follows: Element Part Standard minutes Load part in vise 1 0.17 Load second part 2 0.08 Balance and tighten vise 1,2 0.17 Start machine 1,2 0.06 Machine 1,2 1.17 Stop, unload 2 0.13 Start, retighten 1 0.15 Fine machining 1 0.83 Stop, unload 1 0.14 Clean vise 1,2 0.16

The labor wage is $23 per hour. Dejoint the cost using allocation methods of (a) number of parts, (b) time required by part, and (c) potential sales price ratio of 3:2.

Answer:

Standard Minutes 1&2 1 2 0.17 0.17 0.08 0.06 0.15 0.13 1.17 0.83 0.16 0.14 1.56 1.29 0.21 1.56 / 2 = 0.78 for 1 and 2 Standard hours: Part 1 = 0.78 + 1.29 = 2.07 Part 2 = 0.78 + 0.21 = 0.99 Total for parts 1 & 2 = 3.06 a) 2 parts / 3.06 min x 60 min / hr = 39.2 parts / hour (19.6 each 1 & 2) 23 / 39.2 = $0.59 / part b) Part 1: 2.07 / 3.06 = 67.6% Part 2: 0.99 / 3.06 = 32.4% 23 x .676 = $15.56 23 x .324 = $7.44 15.56 / 19.6 = $0.79 / part 7.44 / 19.6 = $38 / part c) Part 1: 3 / 5 x 23 = $13.80 Part 2: 2 / 5 x 23 = $9.20 13.80 / 19.6 = $0.70 / part 9.20 / 19.6 = $0.47 / part

2.28 One operator controls four automatic machines. After those machines are set up they produce parts independent of the operator except for occasional inspection. A cam controls the unit time to make one piece and is 4 seconds at 100% efficiency. Ignore the setup time because it is small. (a) If the actual efficiency is 85%, the operator controls four machines, and the labor wage rate is $15 per hour, then what is the dejointed labor cost per unit? (b) Repeat for hours per 100 units. (c) Repeat for dollars per 100 units.

Answer: 4 sec /piece = 4 / (60 x 60) = 0.00111 hr / piece at 100% a) 0.00111 / 0.85 = 0.00131 hr / piece 0.00131 x 15 / 4 = $0.0049 / piece or 0.49¢ / piece b) 0.0031 x 100 / 4 = 0.033 hr / 100 pieces c) 0.0049 x 100 = $0.49 / 100 pieces

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2.29 A technician tests and repairs printed circuit boards. On the average, printed circuit boards require 10 minutes for testing and 12 minutes for testing and repairing, if necessary. (a) If, during a labor-hour study, 18 units tested OK and 5 failed requiring repair, then what proportion of the labor wage is due to testing and repair? (b) If the gross labor rate is $21.75 per hour, then what is the labor charge per unit for testing and repair? Use proportional methods to dejoint cost.

Answer: a) Testing Testing & Repair

18 x 10 = 5 x 12 = Total 25% of time is due to testing and repair units b) (240 min / 60 min/hr) x 0.25 x 21.75 / 5 = $ 4.35 simply: 60 min / 60 min/hr x 21.75 / 5 = $4.35

180 60 240

75% 25%

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Challenge Problems 2.30 The fire department is concerned about the speed of the crews assigned to the all-purpose trucks. The chief wants to know the time required after receiving the alarm before starting to fight the blaze. To answer the chief’s questions, a time study of the activities of one crew on seven different alarms is conducted. On the observation sheet that follows, continuous (no reset) electronic watch readings in hundredths of minutes are recorded, indicating full minutes only when it changed.

Alarm Crew element 1 2 3 4 5 6 7 Start timing .00 1.51 2.33 3.24 4.12 5.04 5.91 Get dressed .12 1.58 2.43 3.36 4.25 5.15 6.01 Board truck .29 1.82 2.60 3.55 4.41 5.32 6.19 Start engine .44 1.94 2.76 3.70 4.55 5.48 6.32 Drive to fire* Unload hoses .64 2.00 3.02 3.89 4.78 5.63 6.50 Connect hoses .89 2.33 3.24 4.12 5.04 5.91 6.75 Unload ladders 1.08 6.95 Position ladders 1.51 7.31 End timing for this 1.51 2.33 3.24 4.12 5.04 5.91 7.31 alarm *Watch stopped because of variable nature of distances. (a) Determine the average time for the elements. (b) If the crew is rated at 110% for all elements, find normal time in minute per occurrence. (c) Determine the cycle-time standard for a 20% allowance.

Answer: 1 Crew element Start timing Get dressed Board truck Start engine Unload hoses Connect hoses Unload ladders Position ladders End timing for this alarm

2

3

4

5

6

7

Avg.

Normal

0.1071 0.1829 0.1443 0.1814 0.26 0.195 0.395

0.1179 0.2011 0.1587 0.1996 0.286 0.2145 0.4345

5.91 7.31 Fact or 20% 1.25 Std Time

1.6123 2.0154

0 1.51 2.33 3.24 4.12 5.04 5.91 0.12 0.12 1.58 0.07 2.43 0.1 3.36 0.12 4.25 0.13 5.15 0.11 6.01 0.1 0.29 0.17 1.82 0.24 2.6 0.17 3.55 0.19 4.41 0.16 5.32 0.17 6.19 0.18 0.44 0.15 1.94 0.12 2.76 0.16 3.7 0.15 4.55 0.14 5.48 0.16 6.32 0.13 0.64 0.2 2 0.06 3.02 0.26 3.89 0.19 4.78 0.23 5.63 0.15 6.5 0.18 0.89 0.25 2.33 0.33 3.24 0.22 4.12 0.23 5.04 0.26 5.91 0.28 6.75 0.25 1.08 0.19 6.95 0.2 1.51 0.43 7.31 0.36 1.51

2.33

3.24

4.12

5.04

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2.31 We are interested in finding the estimated direct-labor cost for the job description of industrial electrician. The year consists of 52 40-hour weeks, and overtime is seasonal for 12 weeks consisting of Saturday work of 8 hours. The contract allows for nine paid holidays and two weeks of vacation at regular time. Four days of sick leave are paid.

Expected non-chargeable hours are 5%. A subsidy for performance will be 15%. Non-hourly costs include FICA taxes at the current federal rate, workmen’s compensation at 1% of regular wages up to $15,000, accident insurance sum of $200, major medical plans for $500, and Christmas gift of $50. The hourly base is $27.10. (a) Find the effective gross hourly cost. (b) What is the job cost for this electrician if a job requires 25 man-hours? (c) What is the loss or gain if efficiency will be 85% or 115% for the job?

Answer: a) Regular paid clock hours Overtime (8 x 12) Overtime excess (0.5) Subtotal wages Holidays Vacation Sick pay Expected non-chargeable (2080 x 0.05) Chargeable (worked hours) Performance Subsidy (1888 x 0.15) Non hourly costs FICA (60270) x 0.076 Workers Comp (15000 x 0.01) Accident Ins Major medical plan Christmas Gift Excess cost total Excess hourly cost (22210 / 1888) Hourly wage Effective gross hourly cost Percent increase over wage

Hours 2080 96

-72 -80 -32 -104 1888 283

Cost ($) 56,368 2,601 1,301 $60,270

Excess ($)

1,301 1,951 2,168 867 2,818

52,466 7,669 4,581 150 200 500 50 22,210 11.76 27.10 38.86 43.4%

b) 25 x 38.86 = $971.50 c) 85% efficiency: 25 / 0.85 = 29.41, 29.41 x 38.86 = $1,142.87 115% efficiency: 25 / 1.15 = 21.74, 21.74 x 38.86 = $884.82 If a contract was bid at 100% ($971.50), then an 85% efficiency would result in a loss of $171.37.

An efficiency of 115% would result in a gain of $86.68

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2.32 A preliminary work sampling study is made of an assembly operation. The work elements and the results are shown in the table. The desired interval for each of the elements is also shown.

Element 1. Assemble components 2. Setup 3. Wait for material 4. Painting 5. Inspection

Number of Observations 31 8 6 2 3

Desired Interval (I) 0.04 0.03 0.02 0.02 0.02

(a) For a 90% confidence interval, find the number of observations required for the complete study. (b) At the completion of the whole work sampling study, the productive elements amounted to 83% of the time. The study took 4 weeks and observed a crew of 6. Given a PF&D of 20% and a performance rating of 0.95 find the standard time per part if 23 parts were completed during the study.

Answer: a) For a 90% confidence interval, Z = 1.645 Elem Obs. P’i I

N

1 31 0.62 0.04 1594 2 8 0.16 0.03 1616 3 6 0.12 0.02 2858 4 2 0.04 0.02 1042 5 3 0.06 0.02 1527 For the study, use the maximum N, 2858, or approximately 2860 observations. b) (0.83)(4 x 40 x 6)(0.95)(1+0.20) x (1/23) = 39.5 hrs / unit

PRACTICAL APPLICATION

Perform a preliminary work sampling study to determine the amount of program and commercial time for prime-time television. Determine times for 60 observations at random intervals between 8:00 and 11:00 PM. Carry out the observations on one night for a major network (ABC, NBC, or CBS). (Hint: The selection of random numbers can be found using a telephone directory, where the last four numbers are considered “practically” random. A random number table from a statistics book can also be used. Spreadsheet programs will have a random number generator. It will be necessary to think up an algorithm for this conversion of a number called “random” to the observing time.)

Make snap observations of the following categories: Programming, commercial, promotion of other programs or local station and news update or news related promotions which will include weather. (Hint: Remember the “snap” notion of instantaneous recording.)

Calculate the amount of actual program time per hour. Prepare your report considering night, network, observation times, summary table of observations (number of observations for each category), and observations outside of the specified categories along with the description. Talk about your coding of the observing times. Conclude with a discussion of the belief of your work sampling conclusions.

Your instructor will provide additional instructions and reporting guidelines.

Answer: Times obtained may vary. Approximate times are: 39 minutes of program per hour 17 minutes of commercials per hour

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CASE STUDY: THE ENDICOTT IRON FOUNDRY “We can’t make any profit on that job. There’s too much labor cost in it,” said Dick, the foundry superintendent, to George, engineer for the Endicott Iron Foundry.

The Endicott Iron Foundry, like its competitors, has always estimated costs on a per pound basis for the delivered casting. Difficult castings are quoted at a higher price per pound than simple castings, but the difference in price (often based on the estimated cost) did not seem to be great enough to warrant the extra labor costs.

Dick suggests that the company is making little profit and sometimes even a loss on jobs that take considerable labor. What will happen if Endicott starts quoting higher prices for casting requiring extra labor? Should it recover the full cost? What ideas can you suggest to improve the estimates? Should the engineer depend on the knowledge of Dick as final? What constitutes a loss or profit for the estimate?

In your consideration of the case study you may want to call foundries and inquire how they estimate future work.

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CHAPTER # 1 COST ACCOUNTING: AN INTRODUCTION Cost : Cost can be defined as the expenditure incurred on a given thing. It can also be described as the resources that have been sacrificed or must be sacrificed to attain a particular objective. In other words, cost is the amount of resources used for something which must be measured in terms of money.

For example – Cost of preparing 1 cup of tea is the amount incurred on the elements like material, labour and other expenses; similarly cost offering any services like banking is the amount of expenditure for offering that services. Thus cost of production or cost of services can be calculated by ascertaining the resources used for the production or services.

Definition of Cost accounting Cost accounting is concerned with recording, classify and summarizing costs for determination of cost of products or services, planning, controlling and reducing such costs and furnishing of information to management for decisions Objective of Cost Accounting  To ascertain the cost of production on per unit basis, For example, cost per kg, cost per meter, cost per litre, cost per ton etc.  Cost accounting helps in the determination of selling prices.  Cost accounting helps in cost control and cost reduction  Helps in make or buy decision  Cost accounting also helps in locating wastages, inefficiencies and other loopholes in the production processes/services offered.  Cost accounting also helps in estimation of costs for the future.

TYPES OF COST  Fixed Cost Definition of Fixed Cost: The cost which does not varies with level of output in a relevant time.

For Example: Rent, Salaries etc  Variable Cost Definition of Variable Cost The cost which varies with level of output in a relevant time.

For Example: Material, Commision, Wages etc 2

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 Semi-variable Cost Definition of Semi-variable Cost A cost composed of a mixture of fixed and variable components. Costs are fixed for a set level of production or consumption, becoming variable after the level is exceeded.

For Example: Electricity, Telephone bill etc

ELEMENTS OF COST: Element of cost

Material expenses

Direct

Labour

Indirect Direct

Indirect

Other

Direct

Indirect

Material: The substance from which the finished product is made is known as material.

Direct Material: is one which can be directly or easily identified in the product Eg: Timber in furniture, Cloth in dress, etc Indirect Material: one which cannot be easily identified in the product Eg; lubricants, oil, consumables, Stationery etc Labour: The human effort required to convert the materials into finished product is called labour.

Direct Labour: is one which can be conveniently identified or attributed wholly to a particular job, product or process. Eg: wages paid to carpenter, fees paid to tailor etc Indirect Labour: is one which cannot be conveniently identified or attributed wholly to a particular job, product or process. Eg: works manager’s salary, gate keeper’s salary, Accountant’s salary, Logistics manager salary etc 3

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Other Expenses: are those expenses other than materials and labour.

Direct Expenses: are those expenses which can be directly allocated to particular job, process or product. Eg : Excise duty, royalty, special hire charges, etc.

Indirect Expenses: are those expenses which cannot be directly allocated to particular job, process or product. Eg: factory rent, office rent, advertising, office lighting etc

Example: Identify Cost Units Material Commission Rent Salaries Electricity Telephone Total

6000 30,000 60,000 20,000 50,000 28,000 50,000 238,000

8000 40,000 80,000 20,000 50,000 34,000 62,000 286,000

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CHAPTER # 2 Accounting concept relating to manufacturing activities Manufacturing cost is the sum of costs of all resources consumed in the process of making a product. The manufacturing cost is classified into three categories:  Direct materials cost  Direct labour cost and  Manufacturing overhead.

Direct materials cost: Direct materials are the raw materials that become a part of the finished product. Manufacturing adds value to raw materials by applying a chain of operations to maintain a deliverable product. There are many operations that can be applied to raw materials such as welding, cutting and painting. It is important to differentiate between the direct materials and indirect materials.

Direct labour cost: The direct labour cost is the cost of workers who can be easily identified with the unit of production. Types of labour who are considered to be part of the direct labour cost are the assembly workers on an assembly line.

Manufacturing overhead: Manufacturing overhead is any manufacturing cost that is neither direct materials cost or direct labour cost.

Manufacturing overhead includes all charges that provide support to manufacturing.

Manufacturing overhead includes  Indirect labour cost: The indirect labour cost is the cost associated with

workers, such as supervisors and material handling team, who are not directly involved in the production.  Indirect materials cost: Indirect materials cost is the cost of associated with

consumables, such as lubricants, grease, and water, that are not used as raw materials.  Other indirect manufacturing cost: includes machine depreciation, land

rent, property insurance, electricity, freight and transportation, or any expenses that keep the factory operating.

Format of manufacturing account

ABC Company 5

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Manufacturing Account For the month of xxxxxx Opening stock of raw materials

Xxxxx

Add purchase of raw materials

Xxxxx

Add carriage inwards ( if any )

Xxxxx Xxxxx

Less Returns outwards (of raw materials)

Xxxxx Xxxxx

Less Goods drawings ( if any )

Xxxxx Xxxxx

Less Closing stock of raw materials

Xxxxx

Cost of Direct Materials

xxxxxxx

Add Direct labour

xxxxxxx

Add Direct expenses (Eg: royalties)

xxxxxxx

Prime Cost

xxxxxxx

Add Factory overhead expenses Factory lighting

Xxxxxx

Factory heating

Xxxxxx

Factory insurance

Xxxxxx

Factory rent

Xxxxxx

Factory maintenance

Xxxxxx

Factory indirect wages

Xxxxxx

Factory supervisor’s wages

Xxxxxx

Depreciation on plant & machinery

Xxxxxx

Depreciation on factory building

Xxxxxx

Depreciation on factory furniture

Xxxxxx

Depreciation on factory motor van

Xxxxxx

Depreciation on other factory fixed assets

Xxxxxx

(+)

xxxxxx xxxxxx

Add Opening stock of work in progress

xxxxxx xxxxxx

Less Closing stock of work in progress

xxxxxx

Cost of production

xxxxxx

QUESTION # 1 Ali & Co. is a manufacturing business. The following information relates to the year ended 30 April 2005.

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Rs. 146,300 175,400 83,800 10,000 10,000

Direct material Direct labour Factory overheads Work in progress, 1 May 2004 Work in progress, 30 April 2005 REQUIRED: Calculate 1.

Prime cost 2 Factory cost of production Solution # 1

Ali Co. Prime Cost For the Ended 30 April 2005

Ali Co. Factory cost of production For the Ended 30 April 2005

QUESTION # 2 ABC is a manufacturer. The following balances were extracted from his books on 1 December 2010.

Rs. Inventories (stocks) 1 January 2010: 7

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Raw materials Work in progress Purchases of raw material Direct factory wages Factory Rent Factory management salaries Office salaries Sundry office expenses Carriage inwards Purchase return Factory heat and light Additional information: Inventories (stock) 31 December 2010:

14,700 23,570 75,600 62,140 28,000 31,500 41,600 9,870 2,000 1,000 2,500 Rs. 16,250 18,780

Raw material Work in progress

Required: Prepare the manufacturing account of ABC for the year ended 31 December 2010.

Show clearly the cost of raw materials consumed, prime cost and cost of production.

Solution # 2

ABC Manufacturing account for the year ended 31 December 2010

QUESTION # 3 Maqbool & company is a manufacturer. The following balances were extracted from the books on 31 December 2011.

Rs. Inventory at 1 January 2011 8

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Raw materials Work in progress Purchases of raw materials Royalties paid Direct factory wages Factory indirect expenses Rent Factory management salaries Office salaries Distribution costs Carriage inward Purchase return General factory expenses Plant and machinery (cost) Office equipment (cost) Provisions for depreciation: Plant and machinery Provisions for depreciation: Office equipment

20,900 30,800 147,200 10,000 85,960 23,450 30,000 36,000 28,500 18,650 15,000 9,000 11,300 75,000 24,000 25,000 9,000

Additional information: 1.

Inventory at 31 December 2011

2.

3.

Rs. Raw materials 28,100 Work in progress 34,250 Rent is to be apportioned four fifths (4/5) to the factory and one fifth (1/5) to the administration.

Depreciation is to be charged as follows: i. Factory plant and machinery at 20% per annum using the diminishing (reducing) balance method. ii. Office equipment at 10% on cost using the straight-line method.

REQUIRED: Prepare the manufacturing account of Maqbool & company for the year ended 31 December 2011. Show clearly the prime cost and cost of production.

Solution # 3

Maqbool & company Manufacturing account For the year ended 31 December 2011 9

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QUESTION # 4 Following information relates to the Karachi Steel Manufacturing Company: Rs. 25,000 5,000 30,000

Direct materials Indirect materials Direct labour 10

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Indirect labour Factory overhead (excluding indirect materials and indirect labour) Plant cost Required: Compute the i. Prime costs ii. Conversion costs iii. Cost of production Solution # 4

4,500 15,000 500,000

Karachi Steel Prime Cost

Karachi Steel Conversion Cost

Karachi Steel Cost of production

QUESTION # 5 Sugar Mills Limited. submits the following data on October 31, 2010, material put into process Rs.42,300; direct labour is paid at the rate of Rs.7.8 and Rs.8.4 in department A and B respectively. Department A worked 6125 hours and Department B reported 9875 hours. Factory overhead is applied on the basis of direct labour 11

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hours at the rate of Rs.5 per hour in Department A and Rs.4.2 per hour in Department B. Oct.1 11,300 17,300 15,000

Finished goods Work in process Materials Required: Determine i. Total manufacturing cost ii. Cost of goods manufactured iii. Cost of goods sold Solution # 5

Sugar Mills Limited.

Total Manufacturing account for the year ended October 31, 2010

Sugar Mills Limited.

Cost of Good Manufacture For the year ended October 31, 2010

Sugar Mills Limited.

Cost of Goods Sold For the year ended October 31, 2010

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Oct.31 9400 19,425 19,200

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QUESTION # 6 From the following information prepare the manufacturing, trading and profit and loss accounts for the year ending 31 December 19X6 and the balance sheet as at 31 December 2012 for the firm of M. Ali. Rs. Rs. Purchase of raw materials 258,000 Fuel and light 21,000 Administration salaries 17,000 Factory wages 59,000 Carriage outwards 4,000 Rent and rates 21,000 Sales 482,000 Returns inward 7,000 General office expenses 9,000 Repairs to plant and machinery 9,000 Stock at 1 January 2012 Raw materials 21,000 Work in progress 14,000 Finished goods 23,000 Sundry creditors 37,000 Capital account 457,000 Freehold premises 410,000 Plant and machinery 80,000 Debtors 20,000 Provision for depreciation on plant and Machinery at 1 January 2012 8,000 Cash in hand 11,000 984,000 984,000 Make provision for the following: 1. Stock in hand at 31 December 2012 Raw materials 25,000 Work in progress 11,000 Finished goods 26,000 2. Depreciation of 10% on plant and machinery – straight line method 3. 80% of fuel and light and 75% of rent and rates to be charged to manufacturing 4. Doubtful debts provision – 5% of sundry debtors 5. ￡4,000 outstanding for fuel and light 6. Rent and rates paid in advance - Rs.5,000 7. Market value of finished goods - Rs.382,000 Solution # 6

M. Ali Manufacturing account For the year ending 31 December 2012 13

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M. Ali Trading profit and loss account For the year ending 31 December 2012

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QUESTION # 7 Hassan Textile Mills Limited. started in business on 1st January 2013 as a manufacturer of gaming machines. The following figures are extracted from his records on 31st December 2013.

Sales (30,000 machines at Rs.30 each) Plant and machinery (bought 1st January 2013) 15

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Rs. 900,000 80,000

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Motor vans (bought 1st January 2013) Administrative wages Loose tools bought Light and power Building repairs Raw materials bought Salesmen’s salaries Driver’s wages Motor van expenses Direct wages General administration expenses Indirect wages Repairs to machinery Rates and insurance

10,000 18,000 6,400 40,000 20,000 273,400 29,000 24,000 5,000 302,000 6,000 54,000 11,000 10,000

The following information is also made available to you: 1. The work in progress on 31st December 2013, valued at production cost was ￡55,000.

2. The closing stocks on 31st December 2013 were: Raw materials ￡13,400, Loose tools ￡2,400.

3. Depreciate motor vans 20%, plant and machinery 10%.

4. Allocate expenses as follows: Factory Administration Light and power 9/10 1/10 Building repairs 3/5 2/5 Rates and insurance 4/5 1/5 5. A manufacturing profit of 25% on production cost was added for the purpose of transferring finished goods to the trading account.

6. During the year 40,000 machines were completed. Value the 10,000 machines in stock at the average cost of production (subject to provision for unrealized profit).

Required: Draw up the manufacturing, trading and profit and loss account for the year ended 31st December 2013. Show clearly the figures of prime cost and production cost of goods completed.

Solution # 7

Hassan Textile Mills Limited.

Manufacturing account For the year ended 31st December 2013

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Hassan Textile Mills Limited.

Trading profit and loss account For the year ended 31st December 2013

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PRACTISE QUESTION Question 1 Raw material (1-1-03) Work-in-Process(1-1-03) Finished Goods (1-1-03) Sales Sales return Purchases of raw material Administrative expense Marketing expense

12,500 6,300 12,500 678,600 15,000 245,000 70,000 55,000

Raw material (31-12-03) Work-in-Process(31-12-03) Finished Goods(31-12-03) Direct labour 25,000 Other factory overhead Repair and maintenance Insurance-factory 18

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32,000 16,500 25,000 17,600 10,000 12,000

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Indirect material Indirect labour 4,500

8,000

Depreciation-factory

22,000

Required: i. Statement of cost of goods manufactured ii. Income Statement QUESTION # 2 The Delta Company manufactures small stuffed gorillas. The total revenue is Rs.59,000 The Company incurred the following costs: Rs. Materials 5,200 (10% is indirect materials) Labour 7,000 (12% is indirect labour) Factory overhead 25,000 (including indirect materials and indirect labour) General expenses 14,700 Office salaries 4,800 Equipment purchased 5,300 Total 62,000 There were no units still in process at the end of the year, and 92% of the goods produced during the year were sold.

Required: Prepare Income Statement showing net income or loss.

QUESTION # 3 During the month of August, Binder Electronics applied overhead to jobs using an overhead rate of 150% direct labour cost. Direct labour in August was Rs.65,000.

Actual overhead in August was Rs.140,000. Assume that actual overhead was composed of the following items.

Rs. Indirect material 20,000 Indirect labour 45,000 Utilities 5,000 Depreciation 50,000 Repair expense 20,000 REQUIRED: a. Calculate over/under applied overhead b. What would impact of be over/under applied overhead on cost of product?

QUESTION # 4 Babar Manufacturing expects the following overhead costs in 2004: Rs. 25,000

Indirect material Indirect labour 40,000 19

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Depreciation Repair of machinery Utilities

100,000 125,000 35,000

They expect to use 15,000 direct labour hours at a cost of Rs.330,000 and 10,000 machine hours during the year.

Required: a. Justify the selection of an appropriate allocation base b. calculate the predetermined overhead allocation rate.

QUESTION # 5 Auto Industries Limited. Is a manufacturing company that uses a predetermined overhead rate based on direct labour hours to apply overhead. For 2008 estimated direct labour hours are 95,000 and estimated factory overhead is Rs.579,500.

Following information extracted from their record.

Sep 1, 2008 inventories Material inventory Work in process Finished goods

Rs. 7,500 31,200 67,000

Material purchases during the month of Sep Direct material requisitioned Department-A Department-B Direct labour hours: Department –A Department-B

104,000 45,000 33,500 4200 3500

Direct labour (Rs.5.5 per hour) 42,350 Indirect labour 13,500 Supervisory salaries 6,000 Factory rental cost 7,000 Factory depreciation 7,500 Indirect material used 12,000 Required: i. What is total cost of product? ii. What is the total factory overhead applied during September 2008? iii. What is the over-applied or under-applied overhead for September?

CHAPTER # 3 JOB ORDER COSTING Cost Accounting System:  A cost accounting system (also called product costing system or costing system) is a framework used by firms to estimate the cost of their products for profitability analysis, inventory valuation and cost control

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 Estimating the accurate cost of products is critical for profitable operations. A firm must know which products are profitable and which ones are not, and this can be ascertained only when it has estimated the correct cost of the product. o There are two main cost accounting systems: the job order costing and the process costing. i. Job order costing ii. Process costing Job Order Costing: Job order costing is a cost accounting system that accumulates manufacturing costs separately for each job. It is appropriate for firms that are engaged in production of unique products , special orders and customer specification. For example, it is the costing accounting system most appropriate Software house.

Job Order Costing Characteristics:  Related to a customer specific order.  Assigning a unique job code.  Cost accumulated and preparing job order cost sheet Basic features of Job Costing  Each job is treated as a cost unit.  All costs are accumulated and ascertained for each job.  Each job is unique.  Each job is executed as per customer’s specifications.  A separate job cost sheet or job card is used for each job and is assigned a certain number by which the job is identified.

In which industries job costing is applied Job Costing is applied in those industries where the goods are manufactured or services are rendered against specific orders as per customer’s specifications. It is generally applied in –  Engineering industries  Construction industries  Ship – Building industries  Furniture – making industries  Automobiles service industries  Repair Shops industries Advantages of Job order Costing Job costing enables the management –  To know a detailed analysis of costs of material, labour and overhead charged to each job.  To ascertain profit or loss made on each job.  To estimate the costs and profitability of similar jobs to be taken up in future.  To control operational inefficiency by comparing the actual costs with the estimated cost.  To identify jobs where waste, scrap, spoilage and defective occurred and take corrective action against the responsible person or department.

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Process Costing: Process costing is a cost accounting system that accumulates manufacturing costs separately for each process. It is appropriate for products whose production is a process involving different departments and costs flow from one department to another. For example, it is the cost accounting system used by Textile Unit.

Example of Job and Process Costing Software House Textile Unit

Job Order Costing Process Costing

Job Order Cost Sheet Cost

Job 111-W

Direct Material Cost Direct Labour Cost FOH applied Total Production Cost

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Job 666-S

Job 555-F

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Selling & Admin Overhead Total Cost Charge to job Selling Price Profit / Loss ILLUSTRATE: A furniture Mart received an order to manufacture furniture for a school the order was assigned a job code FS-6.

FS-6 Job was priced at Rs. 400,000 and selling & Admin cost allocated to the FS-6 Job was 10% of Selling price.

Direct Material Cost: Date

Requisition No.

Cost

March 05

978

25,000

March 15

1060

50,000

March 25

1100

40,000

Direct Labour Cost: Date

Hours

Rate

Amount

March 05

400

50

20,000

March 15

400

50

20,000

March 25

200

50

10,000 50,000

F.O.H Applied: F.O.H cost is applied at Rs. 180 per Direct Labour hour.

Direct Labour Hours = 400 + 400 + 200 = 1000 Direct Labour hours x O.A.R(Overhead absorption rate) 1000 x 180 = 180,000

Job Order Cost Sheet: Amount Direct Material Direct Labour F.O.H applied Total Production Cost Selling & admin overhead Total cost charge to job Selling price Profit

115,000 50,000 180,000 345,000 40,000 385,000 400,000 15,000 23

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General Entries: Date

Particulars

Debit

March 05

W.I.P (FS-6) Material Labour FOH Applied (400 x 180)

117,000

March 15

W.I.P (FS-6) Material Labour FOH Applied (400 x 180)

142,000

March 25

W.I.P (FS-6) Material Labour FOH Applied (200 x 180)

86,000

March 31

Finished Goods(FS-6) W.I.P

345,000

March 31

COGS Finished Goods

385,000

March 31

Account Receivable Sales

400,000

Credit 25,000 20,000 72,000 50,000 20,000 72,000 40,000 10,000 36,000 345,000 385,000 400,000

Ledger Account: W.I.P T-Account March 05

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Material Payroll FOH

25,000 20,000 72,000

Material Payroll FOH

50,000 20,000 72,000

March 31 Finished Goods

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345,000

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Material Labour FOH

40,000 10,000 36000 345,000

345,000

Finished Goods T- Account W.I.P Selling & Admin

345,000 40,000 385,000

c/d

385,000 385,000

Question # 1 Following information has been extracted from costing record of Abdul Engineering works in respect of Job No. 101.

Material Rs.5,800 Wages: Department A 100 hours @ Rs. 5 per hour Department B 200 hours @ Rs. 3 per hour Overhead for the two department are estimated as follows: Variable Overhead Department A Rs.10,000 for 5,000 direct labour hours Department B Rs.30,000 for 10,000 direct labour hours Fixed Overheads:

Estimated at Rs.50,000 for 50,000 normal working hours.

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Required: Calculate the cost of Job No. 101 and calculate the price to be charged so as to given a profit of 20% on selling price.

Solution # 1

Abdul Engineering works Job Order Cost Sheet

Question # 2 Classify these industries with respect to the type of cost accumulation procedure generally used--job order costing or process costing. a. Meat b. Sugar c. Steel d. Breakfast cereal e. Paper boxes f. Wooden furniture g. Toys and novelties h. Coke i. Cooking utensils j. Caskets

k. Pianos l. Linoleum m. Leather n. Nylon o. Baby foods p. Locomotives q. Office machines equipment r. Luggage s. Paint t. Tires and tubes

Question # 3 Forge Machine Works collects its cost data by the job order cost accumulation procedure. For Job 642, the following data are available: Date Sept 14

Direct material Rs. 1,200

Date Sept 20

Sept 20

Rs. 662

Sept 26

Sept 22

Rs. 480 26

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Direct labour 180 hrs @Rs.6.20/hr 140 hrs @ Rs. 7.30/hr

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Factory overhead applied at the rate of Rs.3.50 per direct labour hour Required: a) The appropriate information on a job cost sheet. b) The sales price of the job, assuming that it was contracted w ith a markup of 40% of cost.

Solution # 3

Forge Machine Works Job Order Cost Sheet

Question # 4 The Karachi Company uses job order costing. At the beginning of the May, two jobs were in process: Job 369 Job372 Materials Rs. 2,000 Rs. 700 Direct labour Rs. 1,000 Rs. 300 Applied factory overhead Rs. 1,500 Rs. 450 There was no inventory of finished goods on May1. During the month, Jobs 373, 374, 375, 376, 378, and 379 were started.

Materials requisitions for May totaled Direct labour cost, Actual factory overhead, Factory overhead is applied at a rate of 150% of direct labour cost.

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Rs.13,000, Rs.10,000 Rs.16,000.

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The only job still in process at the end of May is No. 379, with costs of Rs.1,400 for materials and Rs.900 for direct labour. Job 376, The only finished job on hand at the end of May, has a total cost of Rs.2,000.

Required: a) T accounts for work in process, finished goods, cost of goods sold, factory overhead control, and applied factory overhead. b) General journal entries to record: a. Cost of goods manufactured b. Cost of goods sold c. Closing of over or under applied factory overhead to cost of goods sold.

Solution # 4

Karachi Company Ledger Account For the month of May

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Karachi Company General Entries For the month of May Date

Particular

P.R

Debit (Dr)

Credit (Cr)

Question # 5 Iqra inc. provided the following data for January, 19B: Materials and supplies: Inventory, January 1, 19B Purchases on account

Rs.10,000 30,000

Labour: Accrued, January 1, 19B Paid during January (ignore payroll taxes)

3,000 25,000

Factory overhead costs: Supplies (issued from materials) Indirect labour Depreciation

1,500 3,500 1,000 29

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Other factory overhead costs (all from outside suppliers on account)

14,500

Work in process: Job1 Rs. Work in process January 1, 19B 1,000 Job costs during January, 19B: Direct materials

4,000

Direct labour Applied factory overhead

5,000 5,000

Job2

Job3

--

--

Rs.6,00 0 8,000 8,000

Total Rs. 1,000

Rs.5,000

15,000

7,000 7,000

20,000 20,000

Job 1 started in December, 19A, finished during January, and sold to a customer for Rs.21,000 cash Job 2 started in January, not yet finished.

Job 3 started in January, finished during January, and now in the finished goods inventory awaiting customer's disposition Finished goods inventory January 1, 19B. Required: Journal entries, with detail for the respective job orders and factory overhead subsidiary records, to to record the following transactions for the January: 1. Purchase of materials on account.

2. Labour paid.

3. Labour cost distribution.

4. Materials issued.

5. Depreciation for the month.

6. Acquisition of other overhead costs on credit.

7. Overhead applied to production.

8. Jobs completed and transferred to finished goods.

9. Sales revenue.

10. Cost of goods sold.

Solution # 5 Date Particular P.R Debit (Dr) Credit (Cr)

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Question # 6 Hogle Company is a manufacturing firm that uses job order costing system. On January 1, the beginning of its fiscal year, the company's inventory balances were as follows: Raw materials Work in process Finished Goods

Rs.20,000 Rs.15,000 Rs.30,000

The company applies overhead cost to jobs on the basis of machine-hours worked.

For the current year, the company estimated that it would work 75,000 machinehours and incur Rs.450,000 in manufacturing overhead cost. The following transactions were recorded for the year

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1. Raw materials were purchased on account, Rs.410,000.

2. Raw materials were requisitioned for use in production, Rs.380,000 (Rs.360,000 direct materials and Rs.20,000 indirect materials).

3. The following costs were incurred for employee services: direct labour, Rs.75,000; indirect labour, Rs.110,000; sales commission, Rs.90,000; and administrative salaries, Rs.20,000.

4. Sales travel costs were Rs.17,000.

5. Utility costs in the factory were Rs.43,000.

6. Advertising costs were Rs.180,000.

7. Depreciation was recorded for the year, 350,000 (80% relates to factory operations, and 20% relates to selling and administrative activities).

8. Insurance expired during the year, Rs.10,000 (70% relates to factory operations, and 30% relates to selling and administrative activities).

9. Manufacturing overhead was applied to production. Due to greater than expected demand for its products, the company worked 80,000 machinehours during the year.

10. Goods costing Rs.9,00,000 to manufacture according to their job cost sheets were completed during the year.

11. Goods were sold on account to customers during the year at a total selling price of Rs.1,500,000. The goods cost Rs.870,000 to manufacture according to their job cost sheets.

Required: a) Prepare journal entries to record the preceding transactions. b) Post the entries in (1) above to T-accounts (don't forget to enter the beginning balances in the inventory accounts). c) Is manufacturing overhead under applied or over applied for the year?

Prepare journal entry to close any balance in the manufacturing overhead account to cost of goods sold (COGS). Do not allocate the balance between ending inventories and cost of goods sold (COGS). d) Prepare an income statement for the year.

Solution # 6 Date Particular P.R Debit (Dr) Credit (Cr)

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Accounts Receivable

Raw Materials

Finished Goods

Work in Process

Prepaid Insurance Accumulated Depreciation Salaries and Wages Payable

Accounts Payable

Manufacturing Overhead Cost of goods sold

Sales

Administrative Salary Expense

Sales Commissions Expenses

Insurance Expense

Depreciation Expenses

Sales Travel Expense

Advertising expense 33

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HOGLE COMPANY Income Statement For the Year Ended December 31

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CHAPTER # 4 PROCESS COSTING Process costing is an accounting methodology that traces and accumulates direct costs, and allocates indirect costs of a manufacturing process. Costs are assigned to products, usually in a large batch, which might include an entire month's production.

Eventually, costs have to be allocated to individual units of product. It assigns average costs to each unit, and is the opposite extreme of Job costing which attempts to measure individual costs of production of each unit. Process costing is usually a significant chapter. it is a method of assigning costs to units of production in companies producing large quantities of homogeneous products.

The importance of process costing: Costing is an important process that many companies engage in to keep track of where their money is being spent in the production and distribution processes.

Understanding these costs is the first step in being able to control them. It is very important that a company chooses the appropriate type of costing system for their product type and industry. One type of costing system that is used in certain industries is process costing that varies from other types of costing (such as job costing) in some ways. In process costing unit costs are more like averages, the process-costing system requires less bookkeeping than does a job-order costing system. Thus, some companies often prefer to use the process-costing system.

When process costing is applied?

Process costing is appropriate for companies that produce a continuous mass of like units through series of operations or process. Also, when one order does not affect the production process and a standardization of the process and product exists.

However, if there are significant differences among the costs of various products, a process costing system would not provide adequate product-cost information.

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Costing is generally used in such industries such as petroleum, coal mining, chemicals, textiles, paper, plastic, glass, food, banks, courier, cement, and soap.

Reasons for use: Companies need to allocate total product costs to units of product for the following reasons:  A company may manufacture thousands or millions of units of product in a given period of time.  Products are manufactured in large quantities, but products may be sold in

small quantities, sometimes one at a time (automobiles, loaves of bread), a dozen or two at a time (eggs, cookies), etc.  Product costs must be transferred from Finished Goods to Cost of Goods Sold as sales are made. This requires a correct and accurate accounting of product costs per unit, to have a proper matching of product costs against related sales revenue.  Managers need to maintain cost control over the manufacturing process.

Process costing provides managers with feedback that can be used to compare similar product costs from one month to the next, keeping costs in line with projected manufacturing budgets.  A fraction-of-a-cent cost change can represent a large dollar change in

overall profitability, when selling millions of units of product a month.

Managers must carefully watch per unit costs on a daily basis through the production process, while at the same time dealing with materials and output in huge quantities.  Materials part way through a process (e.g. chemicals) might need to be given a value, process costing allows for this. By determining what cost the part processed material has incurred such as labour or overhead an "equivalent unit" relative to the value of a finished process can be calculated.

Figure 4.1

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Steps for Process Costing: 1. Prepare Quantity Schedule 2. Prepare Equivalent Per Unit (EPU) 3. Prepare Cost Charged to the Department 4. Prepare Cost Accounted for as Follows

Format of Cost of Production Report Cost of Production Report For the month of xxxxxx Quantity Schedule: Units received from preceding department

XXXXXX ======

Units transferred to finished goods

XXXXX

Units still in process Units lost in process (Normal Spoilage XXXX × X %) Units lost in process (Abnormal Spoilage XXXX - XXX)

XXXXX XXXXX XXXXX

XXXXX

-------

======

Cost Charged to the Department:

Total Cost Unit Cost

Cost from preceding department: Transferred in during the month (XXXXX units)

Rs.XXXXX

Rs.X.XX

--------

------

Cost added by the department: Materials

Rs. XXXXX Rs. X.XX

Labour and factory 0verhead

Rs. XXXXX Rs. X.XX --------

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------

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Total cost added

Rs. XXXXX Rs. X.XX --------

Total cost to be accounted for

------

Rs. XXXXX Rs. X.XX ======= =====

Cost Accounted for as Follows: Transferred to finished goods [(XXXX× Rs.XX) + (XXX* × Rs.XX)] Transferred to Factory Overhead (XXX** × Rs.XX) Work in process - ending inventory: Cost from preceding department (XXXX × Rs.X.XX) Labour and factory overhead (XXXX × XX% × Rs.X)

Rs. XXXXX XXXXX Rs. XXXXX XXXXX --------

Total cost accounted for

XXXXX ------Rs. XXXXX ======

* Normal spoilage **Abnormal spoilage Question # 1 Zain manufacturer uses process costing to determine total cost of production and unit cost of production. During January, 2006, it started 15,000 units in production department – A. 1,000 units were loss during the process – normal. 10,000 units were transferred to department – B and 4,000 units remained in the work in process inventory at the end of the month, which were 100% complete as to materials and 50% complete as to labour and factory overhead. The costs charged to department – A in January, 2006 were as follows: Material Labour Factory overhead

Rs.42,000 Rs.15,000 Rs.24,000

Required: Prepare cost of production report for Department – A for the month of January, 2006 Solution # 1

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Question # 2 A company's Department 2 costs for June were: Cost from Department 1 Cost added in Department 2: Materials Labour Factory overhead (FOH)

Rs.16320 43,415 56,100 58,575

The quantity schedule shows 12,000 units were received during the month from Department 1; 7,000 units were transferred to finished goods; and 5,000 units in process at the end of June were 50% complete as to materials cost and 25% complete as to conversion cost.

Required: Prepare Cost of production report.

Solution # 2

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Question # 3 For December, the Production Control Department of Carola Chemical, Inc., reported the following production data for Department 2: Transferred in from Department 1 55,000 litres Transferred out to Department 3 39,500 litres In process at the end of December (with 1/2 labour and factory 10,500 litres overhead) All materials were put into process in Department 1. The cost department collected following figures for department 2: Rs.1.80 Unit cost for units transferred in from department 1 Labour cost in department 2 Rs.27,520 Applied factory overhead Rs.15480 Required: A cost of production report for department 2 for December.

Solution # 3

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Question # 4 The following data originates from three different situations occurring in a manufacturing organization using process costing: Started in process during the month Completed during the month and transferred In process at the end of the month (Completed as to material and 1/2 as to conversion) In process inventory at the beginning of the month (1/4 completed as to material and 1/8 as to conversion) Completed and transferred during the month Loss during the month Still in process at the end of the month (1/8 complete as to materials and ¼ as to conversion) Required: a) Compute the equivalent production in each situation, using i. FIFO method of costing ii. Average costing Solution # 4

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18,000 units 12,000 units 6,000 units 12,000 units 15,000 units 1,000 units 6,000 units

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Question # 5 Baba Farid Sugar Mills Limited. uses process costing. The costs for Department 2 for April were: Cost from preceding department Rs.20,000 Cost added by department: Materials Rs.21,816 Labour 7,776 Factory overhead (FOH) 4,104 33,696

The following information was obtained from the department's quantity schedule: Units received 5,000 Units transferred out 4,000 Units still in process 1,000 The degree of completion of the work in process as to costs originating in department 2 was: 50% of units were 40% complete; 20% were 30% complete; and the balances were 20% complete.

Required: The cost of production report for Department 2 for April.

Solution #5

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Practice Question Question # 1 During April, 20,000 units were transferred in from department A at a cost of Rs.39,000. Materials cost of Rs.6,500 and conversion cost of Rs.9,000 were added in department B. On April 30, department B had 5,000 units of work in process 60% complete as to conversion as costs. Materials are added in the beginning of the process in department B. Required: 1. Equivalent units of production calculation.

2. The cost per equivalent unit for conversion costs.

Question # 2 During February, the Assembly department received 60,000 units from Cutting department at a unit cost of Rs.3.54.

Costs added in the Assembly department were: Materials Rs.41,650 43

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Labour Factory overhead

Rs.101,700 Rs.56,500.

There was no beginning inventory.

Of the 60,000 units received, 50,000 were transferred out; 9,000 units were in process at the end of the month (all materials, 2/3 converted); 1,000 lost units were 1/2 complete as to materials and conversion costs.

The entire loss is considered abnormal and is to be charged to factory overhead.

Required: Cost of production report.

Question # 3 The Sterling Company uses process costing. In department B, conversion costs are incurred uniformly throughout the process. Materials are added at the end of the process, following inspection. Normal spoilage is expected to be 5% of good output.

The following information related to department B for January: Received from department A Transferred to finished goods Ending inventory (70% complete) Cost incurred: Materials Labour and factory overhead Required: Cost of Production report for department B.

Units 12,000 9,000 2,000

Dollars Rs.84,000

18,000 45,600

Question # 4 Pepsi Inc., uses process costing system in its two producing departments. In department 2, inspection takes place at the 96% stage of completion, after which materials are added to good units. A spoilage rate of 3% of good output is considered normal.

Department 2 records for April shows: Received from department 1 Cost Materials Conversion cost (labour + factory overhead) Transferred to finished goods Ending work in process inventory (50% complete)

30,000 units Rs.135,000 Rs.12,500 Rs.139,340 25,000 units 4,200 units

Required: Cost of production report.

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Question # 5 Pietra - Gonatas, Inc. uses process costing to account for the costs of its only product, product D. Production takes place in three departments; Fabrication, Assembly, and Packaging.

At the end of the fiscal year, June 30, the following inventory of product D is on hand:     

No unused raw materials or packaging materials.

Fabrication department: 300 units, 1/3 complete as to raw materials and 1/2 complete as to direct labour Assembly department: 1,000 units, 2/5 complete as to direct labour.

Packaging department: 100 units, 3/4 complete as to packaging materials and 1/4 complete as to direct labour.

Shipping for finished goods are: 400 units.

Required: 1. The number of equivalent units of raw materials in all inventories at June 30.

2. The number of equivalent units of the fabrication department's direct labour in all inventories at June 30 3. The number of equivalent units of packaging materials in all inventories at June 30.

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CHAPTER # 5 JOINT AND BY PRODUCT Joint products and by products arise in situations where the production of one product makes inevitable the production of other products. When a group of individual products is simultaneously produced, and each product has a significant relative sales value, the outputs are usually called joint products. Those that are part of the simultaneous production process and have a minor sales value when compared with the joint products are called by-products.

Question # 1 A Company operates a process which produces three joint products – K, P and Z. The costs of operating this process during September amounted to Rs.117,000.

During the month the output of the three products was: K P Z

2,000 litres 4,500 litres 3,250 litres

P is further processes at a cost of Rs.9.00 per litre.

The actual loss of the second process was 10% of the input which was normal.

Products K and Z are sold without further processing.

The final selling prices of each of the products are: K Rs.20.00 per litre P Rs.25.00 per litre Z Rs.18.00 per litre Joint costs are attributed to products on the basis of output volume.

Required: Allocate the joint cost and profit of each product.

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Solution # 1

Question # 2 Shabbir Associates manufactures 3 joint products - Exe, Wye and Zee. A by-product Baye is also produced. During the month of November 2000 the joint cost for direct materials and direct labour were Rs 80,000 and 120,000 respectively. Shabbir Associates have an established practice of absorbing overhead at 50% of direct cost. Production and sales related data for the month of November 2000 is as follows: Products Production Sales Sales Value per unit Kgs Kgs Rupees per Unit Exe 7,800 7,000 10.00 Wye 11,700 11,000 10.00 Zee 10,000 9,000 6.50 Baye 10,000 10,000 2.60 The sales value of by-product is deducted from the process cost before apportioning cost to each joint product. Costs of common processing are apportioned between joint products on the basis of production cost. Assume that there is no opening inventory.

Required: Calculate profit for the month of November and analyze the profit product-wise.

Solution # 2

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Question # 3 Victory Ltd manufactures three products A, B and C from a joint process. The joint cost amount to Rs.600,000. Additional information is as follows:

Product A B C

Units produced 6,000 4,000 2,000

Additional cost and market Value if processed further Market value at Additional Market Split of point (Rs.) cost (Rs.) value (Rs.) 400,000 90,000 550,000 350,000 70,000 450,000 250,000 50,000 300,000

Required: Total cost of each product using average unit cost method Total cost of each product using market value method.

Solution # 3

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Question # 4 The yield of a certain process is 80% as to the main product and 15% as to the byproduct. Remaining 5%is the process loss. The material put in process (10,000 units) costs Rs.21 per unit and all other charges amounted to Rs.30,000 of which power cost accounted for 33 1/3%. It is ascertained that power is chargeable to the main product and by product in the ratio of 10:9.

Required: Draw up a statement showing the cost of the by- product.

Solution # 4

Question # 5 Broad-way Manufacturing Limited produces two products DL-1 & DL-2. The production involves two processes, I and II. The following data is available in respect of production during the month of August 2006.

Process I Process II Rs. Rs. 49

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Material issued Direct wages paid Direct expenses incurred

375,000 150,000 100,000

100,000 200,000 100,000

During the month of August, materials issued to Process I and Process II were 1,250 tons and 230 tons respectively. The cost of output of Process – I is charged to Process – II. Incidental to production, two by-products i.e. PT-1 and PT-2 are generated in the first process and treated as a credit to Process-I. Following additional information is also available: Product DL-1 DL-2 PT-1 PT-2

Sales Tones 100 900 200 50

Rs. 600,700 1,203,500 10,000 2,500

Packing Cost 20,070 100,350 -

A shortfall occurs in Process II due to evaporation which is considered as normal loss. There was no opening or closing stocks.

Required: a) Calculate joint processing costs and apportion them between DL-1 and DL-2 on the basis of sales value. b) Prepare summary trading account for the month showing net profit of each product Solution # 5

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CHAPTER # 6 Costing and control of material Any material required would not be taken from existing stock but would be purchased at a later date, and so the estimated purchase price would be the relevant material cost. Where material are taken from existing stock do remember that the original purchase price represent a past or sunk cost and is therefore irrelevant for decision making. If the materials are to be replacing then using the materials from a particular activity will necessitate their replacement. Thus, the decision to use the material on an activity will result in additional acquisition costs compared with the situation if the material were not used on that particular activity. Therefore, the future replacement cost represents the relevant cost for the material.

Question # 1 Your company regularly uses material X and currently has in stock 600 kg for which it paid Rs.1,500 two weeks ago. If these were to be sold as raw material it could be sold today for Rs.2 per kg. You are aware that the material can be on the open market for Rs.3.25 per kg, but it must be purchases in quantities for 1,000 kg.

You have been asked to determine the relevant cost of 600 kg of material X to be used in a job for a customer.

Required: Determine the relevant cost for material.

Solution # 1

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Question # 2 O Reilly has been approach by a customer who would like a special job to be done for him, and who is willing to pay 22,000 for it. The job would required the following material.

MATERIAL TOTAL UNITS REALASABL REPLACEMNE QUANTITY ALREADY IN E PER UNIT T COST REQUIRED STOCK (Rs.) A 1,000 ------6.00 B 1,000 600 2.50 5.00 C 1,000 700 2.50 4.00 D 2,000 200 6.00 9.00 Material B is used regularly by O Reilly and it unit of B are required for this job, they would need to be replace to meet other production demand. Material C and D are in inventory as the result of previous over-buying, and they have a restricted use. No other use could be found for material C, but the unit of material D could be used in another job as substitute of 300 unit of material E, which is currently cost Rs.5 per unit.

Required: Calculate the relevant cost of material for deciding whether or not accept the contract.

Solution # 2

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Question # 3 Shaheen Ltd is a manufacturing working below capacity. Its marketing manager would like to fill up capacity by taking extra work at low price. A potential customer has offer to buy 1,000 unit of EF. Each unit of EF required 2 units of material C and 5 units of material D. Stock position of materials is as follows.

DESCRITPIO UNITS IN ORIGINAL CURRENT SCRAP N STOCK PURCHASE REPLACEMEN VALUE PRICE PER T PRICE PER UNIT (RS.) UNIT (RS.) C 1,500 30 35 24 D 4,000 20 25 18 Material C is in continuous use by company while D is no longer used by the company and the existing stock is now surplus to requirement.

Required: Calculate relevant cost for material.

Solution # 3

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Question # 4 A one year contract has been offer to Malaika Industries which will utilize an existing machine that is only suitable for such contract works. Four type of material would be required for the contract as follows: MATERIAL AVAIALBLE REQUIRED PURCHAS CURRENT CURRENT STOCK FOR E PRICE BUYING RESALE (UNIT) CONTRAC OF STOCK PRICE PRICE T (UNITS) (RS.) (RS.) 071 1,200 450 23.00 17.00 14.50 076 200 1,250 32.00 42.00 40.50 079 3,000 800 47.00 53.50 42.00 085 1,800 1,200 33.00 13.25 12.00 Material 071 and 085 are in regularly use wit in the firm. Material 076 could be sold if not used for the contact and there are no other uses for 079, which have been deemed to be obsolete.

Required: Calculate the relevant cost of material.

Solution # 4

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Question # 5 A company is evaluating a project that required two types of material T & v. Date relating to the material requirement are as follows: MATERIAL QUANTI QUANTITY ORIGINAL CURRENT CURRENT TY CURRENTLY COST OF PURCHAS RESALEBL NEEDE IN QUANTITY E PRICE E PRICE D FOR INVENTORY IN (KG) (Rs.) PROJE (KG) INVENTOR CT (KG) Y (KG) T 500 100 40 45 44 V 400 200 55 52 40 Material T is regularly used by company in normal production. Material V is no longer in use by the company and has no alternative use with the business.

Required: What is the total relevant cost of material for the project.

Solution # 5

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Practice Question Question # 1 Armstrong Corporation manufactures bicycle parts. The company currently has a Rs.21,000 inventory of parts that have obsolete due in change inn design specification. The parts could be sold for Rs.9,000, or modified for Rs. 12,000 and sold for Rs. 22,300.

Required: Which of the data above relevant to the decision about the obsolete parts?

Question # 2 Intercontinental chemical company, located in Buenos airs, Argentina, recently received an order for a product it does not normally produce. Since the company has excess capacity, management is considering accepting the order .In analyzing the decision; the assistant controller is compiling the relevant cost of producing the order. Production of the special order would require 8,000 kilograms of theolite.

International does not use theolite for its regular product, but the firm has 8,000 kilograms of the chemical on hand from the days when it used theolote regularly. The theoloite could be sold to a chemical wholesaler for 14,500p. The book value of the theolite is 2.00p per kilogram. Intercontinental could buy theolite for 2.40 p.

Required: What is the relevant cost of the theolite for the purpose of analyzing the special order decision?

Question # 3 Intercontinental’s special order requires 1,000 kilograms of genatope, a solid chemical regularly used in the company’s product. The current stock of genatope is 8,000 kilograms at a book value of 8.10 p per kilogram. If the special order is accepted, the firm will be forced to restock genatope earlier than expected, at the predicted cost of 8.70 p per kilogram. Without the special order, the purchasing manager predicts that the price will be 8.30p when normal restocking takes place.

Any order of genatope must be in the amount of 5,000 kilogram.

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Required: What is the relevant cost of genatope?

Question # 4 A company is evaluating a project that required the following types of material.

MATERIAL

IN STOCK

A B C D E F

100 1,100 --100 50,000 1,000

NEEDED FOR CONTRAC T 1,000 1,000 100 200 5,000 3,000

PURCHAS E PRICE OF STOCK (RS.) 1.10 2.00 --4.00 0.18 0.90

CURRENT PURCHAS E PRICE (RS.) 3.00 0.90 6.00 3.00 0.20 2.00

CURRENT RESALABL E PRICE (RS.) 2.00 1.00 --2.00 0.25 1.00

Material B and E are used regularly in the company. Material A could be sold to a local sculptor, if not used for the contract. Material A and E can be used for other purpose, such as property maintenance. Company has no use for material D and F, the stocks of which are obsolete.

Required: Calculate the relevant cost of each material.

Question # 5 A company has an inventory of 1,000 assorted parts for a line of missiles that has been discontinued. The inventory cost is Rs.80,000. the part can be either remachined at total additional costs of Rs.30,000 and then sold for Rs.35,000 or sold as scrap for Rs.2,000.

Required: What action is more profitable? Show your calculations.

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CHAPTER # 7 Costing and control of labour Determining the direct labour cost that is relevant to short term decision making depends on the circumstances. Where a company has temporary spare capacity and the labour force is to be maintained in short term, the direct labour cost incurred will remains the same for all alternative decision. The direct labour cost will therefore be irrelevant for short term decision making purpose. Consider now a situation where casual labour is sued and where workers can be hired on daily basis, a company may then adjust the employment of labour to exactly the amount to meet the production requirement. The labour cost will increase if the company accepts additional work, and will decrease if production is reduced. In this situation the labour cost will be relevant cost for decision making purpose.

Question # 1 L.W is currently deciding whether to undertake a new contract. 15 hour of labour will be required for the contract. L.W currently produces product L, the standard cost of detail of which are shown below.

Rs. Direct material (10 kg @ Rs.2) 20 Direct labour (5 hour @ Rs.6) 30 50 Sales price per unit 72 Contribution 22 Required: 1.

What is the relevant cost of labour if the labour must be hired from outside the organization.

2.

What is the relevant cost of labour if L.W expects to have 5 hour spare capacity.

3.

What is the relevant cost of labour if labour is short supply?

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Question # 2 A division of Rhine auto has received an enquiry from one of its major customers for a special order for a component that will required 1,000 skilled labour hours. Skill labour is currently in short supply and if the company accept the order then it will be necessary to reduced production of component P. Detail cost per unit and selling price per unit of component P are as follows: Rs. Sales price 88 Direct labour (4 hours @ Rs.10) 40 Other variable cost 12 Contribution margin 36 Required: Calculate the relevant cost.

Solution # 2

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Question # 3 A contract is under consideration that requires 600 labour hours to complete. There are 350 hours to spare capacity.

The remaining hours for the contract can be found either by weekend overtime working paid at double the normal rate of pay or by diverting labour from the manufacturing the product QZ. If the contract is undertaken and labour is diverted, then sales of product QZ will be lost. Product QZ takes three labour hours per unit to manufacture and makes a contribution of Rs.12 per unit. The normal rate of pay of labour is Rs.9 per hour.

Required: What is the total relevant cost of labour for the project?

Solution # 3

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Question # 4 A contract is under consideration that required 800 labour hours to complete. There are 450 hours of spare labour capacity for which the worker are still being paid the normal rate of pay. The remaining hours required for the contract can be found either by overtime working paid at 50% above the normal rate of pay or by diverting labour from the manufacturing of product OT. If the contract is undertaken and labour is diverted, then sales of product OT will be lost. Product OT takes seven labour hours per unit to manufacture and makes a contribution of Rs.14 per unit. The normal rate of pay for labour is Rs.8 per hour.

Required: Calculate the relevant cost of labour to the contract.

Solution # 4

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CHAPTER # 8 Factory Overhead FACTORY OVERHEAD COST (FOH) Factory overhead costs are those costs incurred which cannot be identified directly to cost unit. These are incurred in many different parts of organization.

These include: 1.

2.

3.

Indirect materials Indirect labor Indirect costs

Attributable to production and the service activities associated with manufacturing.

Marketing, general administration, research and development costs that are not associated with manufacturing are not usually treated as overheads for this purpose.

Factory overhead costs are incurred in three main centers:   

Production centers: costs arising in production departments such as the costs of fuel, protective clothing, depreciation and supervision.

Service centers: the cost of operating support departments or sections within the factory, for example, the costs of materials handling, production control, and canteen.

General costs centers: general production overhead such as factory rent/taxes, heating and lighting and production management salaries.

FOH Cost Allocation & Apportionment The total cost of factory overhead needs to be distributed among specific cost centers. Some items can be allocated immediately, e.g. the salary of a cost centre supervisor or indirect materials issued to a cost centre. Other items need to be apportioned between a number of centers, e.g. factory rent and taxes or the factory manager’s salary.

Cost Allocation It refers to the costs that can be identified with specific cost centers.

Apportionment 62

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It refers to the costs that cannot be identified with specific cost centre but must be divided among the concerned department/cost centers.

Steps of Allocation & Apportionment 1.

Item wise collection of FOH cost.

2.

Identifying cost centre (Production & Services).

3.

Allocating and apportioning general F.O.H cost to the cost centers.

4.

Apportioning FOH cost of service cost centers to the production cost centers.

5.

Calculation of total FOH cost for each production cost centers.

6.

Determining FOH rate for each production cost center.

FOH Absorption Rate Finally FOH absorption rate is calculated at which the cost is absorbed in the cost unit. This is also known as overhead absorption rate (OAR) this can be calculated as under:

Bases for FOH Absorption Rate Following can be used as base to calculate overhead absorption rate: 1.

Direct Labor hours 2.

Machine hours 3.

No. of unit produced 4.

Direct labor cost 5.

Prime cost In selecting a basis for apportioning an overhead item, the cost of obtaining a high degree of accuracy must be considered. For example, the charge for heat and light could be shared on the basis of a complex formula incorporating power points, light bulbs and wattage but you should be aware that the end result will still be open to question. When answering examination questions, you may have to use your own judgment in relation to the information given as it is impracticable to provide a comprehensive list of bases to cover every situation.

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Question 1 Data relating to Department B for August: Rs. 6000 800 1600 3000 1200

Total budgeted factory overhead Total direct labor hours Direct labor Direct material used Machine hour Required: Calculate FOH rate based on above data using: 1. labor hour 2. labor cost 3. prime cost 4. machine hour 5. material cost Solution 1

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Question 2 (a)

Calculate five different overhead rate for cost center AM on the following budgeted data: Labor hours Total direct labor Direct material cost Machine hour Units produced Total budgeted factory overhead

(b)

1400 Hour Rs.3600 Rs.7500 2850 Hour 535 units Rs.12900

A cost unit has been produced in Cost center AM and following details recorded: Direct material used Direct labor Direct labor hours Machine hour

Rs.16.5 Rs.17.5 5.5 hour 8.5 hour

Required Calculate the cost of the above unit using each of the absorption bases calculated in (a) Solution 2

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Question 3 A factory has two production departments and two service departments. Overhead are given as under Production deptt Service deptt A B C D Overhead 6000 4000 1170 1500 Department C is allocated to A: 40%, B: 50% and D: 10% Department D is allocated to A: 50%, B: 30% and C: 20% Show how the expenses of the two service departments are to be charged to the two production departments.

Solution 3

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Question 4.

A company has two service department and two producing departments. The relationship between the four department can be expressed as follows:

Service Department M N

Percentage of service cost allocation Producing Service department department A B M N 55% 35% 10% 40% 45% 15%

Service department cost to be allocated: M--------------------Rs.60,000 N--------------------Rs. 85,000 Required: The amount of service costs applicable to each department.

The total factory overhead in each producing department if producing department overhead is A Rs.135,000 and B Rs.145,000.

Solution 4

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Question 5.

The Martin Company has four producing departments and three service departments. The following information for October is available: Department

Actual Expense

Grinding 10,000 Forming 14,000 Machining 4000 Finishing 8000 Building Service 6000 Health and Recreation 5000 Repair and Maint.

3000

Square feet 3000 1500 2500 1000 500 2000 2000

Employees 30 20 30 10 15 5 10

Investment in equipment 20,000 10,000 12,000 4000 600 1600 2400

The order and bases for distributing expenses of the service departments are: Building service, area, Health and Recreation, number of employees: Repairs and Maintenance, investment in equipment. The company assigns service department expenses to other service departments, however after a department’s expenses have been allocated, no expenses are assigned back to it.

Required: Distribution of service department expenses based on the data given.

Solution 5

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Practice Question: Question 1 ABC ltd. has three production departments (P, Q and R) and two service departments (X and Y). The total overheads for the departments are given below: Departmen Overheads t P $35,000 Q $64,000 R $19,000 X $22,000 Y $38,000 The reallocation percentages of the service departments' costs are given below: Departmen P Q R X Y t X 20% 25% 25% — 10% Y 25% 30% 30% 15% — Reallocate the service department costs in the specified percentages using repeated distribution method.

Question 2 West Folrida Company uses the direct method in allocating service department cost to producing departments. Costs of Department S1 are allocated on the basis of number of employees, while cost of Department S2 is allocated on the basis of machine hours. The allocation bases use in calculating predetermined overhead rate are machine hours in Department P1 and direct labor hours in Department P2.

Producing Department P1 P2 Budgeted FOH $410,000 $304,000 Number of employees 90 210 Machine hours 64,000 16,000 Direct labor hours 35,000 100,000 The following data pertain to Job 437: Department P1 Material cost $90

Service Department S1 S2 $100,000 $50,000 20 28

Department P2 $40

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Direct labor hours Machine hours

1 3

2 1

Required: 1.

Calculate total overhead of producing department after apportioning service department cost.

2.

Calculate predetermined factory overhead rates for the producing departments.

3.

Compute the resulting overhead cost of Job 437.

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CHAPTER # 9 BUDGETING A budget is a quantified plan of action for a forthcoming accounting period. A budget can be set from the top down (imposed budget) or from the bottom up (participatory budget).

A budget is a quantitative expression of a plan for a defined period of time. It may include planned sales volumes and revenues, resource quantities, costs and expenses, assets, liabilities and cash flows. It expresses strategic plans of business units, organizations, activities or events in measurable terms A budget (derived from old French word bougette, purse) is a quantified financial plan for a forthcoming accounting period.[2] A budget is an important concept in microeconomics, which uses a budget line to illustrate the trade-offs between two or more goods. In other terms, a budget is an organizational plan stated in monetary terms.

Purpose Budget helps to aid the planning of actual operations by forcing managers to consider how the conditions might change and what steps should be taken now and by encouraging managers to consider problems before they arise. It also helps coordinate the activities of the organization by compelling managers to examine relationships between their own operation and those of other departments. Other essentials of budget include: To control resources To communicate plans to various responsibility center managers.

To motivate managers to strive to achieve budget goals.

To evaluate the performance of managers To provide visibility into the company's performance For accountability

Budget Preparation Long-term plan

The starting point, this will show what the budget has to achieve (the introduction of new production, the required return, and so on) and outline how it is to be done. It will also contain general guidelines on allowable price increase like wage rates. The long-term policy needs to be communicated to 71

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all managers responsible for preparing budgets so that they are aware of the context within which they are budgeting and how their area of responsibility is expected to contribute.

Limiting factor

The factory that limits the scale of operations, this is usually sales demand, but it may be production capacity where demand is high. Budgeting cannot proceed until the budget for the limiting factor has been prepared, since this affects all the other budgets.

Budget manual

Prepare to assist functional managers, this will show how figures and forecasts are to be arrived at and give any other information that is to apply across the organization. It is likely to include proformas showing how the information is to be presented. If budgeting is done with spreadsheets, layouts and computations may be pre programmed, requiring only the entry of the figures. It may include a flow diagram showing how individual budgets are interlinked and specify deadlines by which first drafts must be prepared.

Sales budget

This contains information on the expected volume of sales (based on estimates or market research), the sales mix, and selling prices. The total revenues indicated will be used to compile the cash budget, although this information needs to be adjusted to allow for the expected timing of receipts. The volume of sales indicates the level of production required and the extent of spending on distribution and administration.

Production capacity

The level of sales anticipated in match against opening inventory and desired closing inventory to establish the level of production. From this can be calculated the need for materials (again allowing for opening and closing inventory), labour and machine hours. In other words production budgeting is done in terms of physical resources initially and costed afterwards. At this stage, too, it is likely that needs for new capital expenditure will be identified, this information will be used in preparing the capital budget.

Functional budget

Budgets for other areas of the organization like distribution and administration take the anticipated sales level as their point of reference. Vehicle costs, carriage costs, stationery and communication costs, and above all staff costs feature in these budgets.

Discretionary

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costs

special features.

Consolidation and coordination

This can begin once all parts of the organization have submitted their individual budgets. It is most unlikely that all of the budgets will be in line with each other at the first attempt.

Areas of incompatibility must be identified and the budgets modified in consultation with individual managers.

Spreadsheets are invaluable at this stage, both for the consolidation itself and to allow changes to be made quickly and accurately.

Cash budget

This can only be prepared at this stage because it needs to take account of all of the plans of the organization and translate them into expected cash flows. Cash must be available when it is needed to enable the plans to be carried out. Overdraft facilities may need to be negotiated in advance, or some activities may need to be deferred until cash has been collected.

Master budget

The final stage, once all of the necessary modifications have been made, is to prepare a summary of all of the budgets in the form of a master budget, which generally comprises a budgeted income statement, a budgeted balance sheet and a budgeted cash flow statement.

Type of budget 1. Sales budget 2. Production budget 3. Purchase budget 4. Expense budget 5. Cash budget 6. Zero base budget 7. Flexed budget 8. Flexible budget 9. Master budget 10. Incremental budget 11. Activity based budgeting 12. Rolling budgets 1) Sales Budget A sales budget is a financial plan depicting how resources should best be allocated to achieve the forecasted sales. The purpose of sales budgeting is to plan for and control the expenditure of resources (money, material, people and facilities) necessary to achieve the desired sales objectives 2) Production Budget

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A production budget is a financial plan that lists the number of units to be manufactured during a period. In other words, this is a report that estimates the number of units that a plant will produce from period to period.

Managers use the production budget to estimate how many units they will need to produce in future periods based on the future estimated sales numbers. They also use this report as a planning tool for future production processes, machine times, and scheduling. Production managers have to estimate the future demands and plan out the workflow to make sure everything is produced timely and there aren’t long periods of wait time or down time.

3) Purchase Budget A merchandise purchases budget is a financial plan that reports the total estimates costs or units of merchandise inventory that are expected to be purchased by a retailer in an accounting period. In other words, this is the budget that managers use to plan inventory purchases for the upcoming periods 4) Expenses Budget An expense budget is part of the bread-and-butter basics of good management. Set your budget as a goal, then review and revise often to stay on track. Being right on budget is usually good, but good management takes the regular review to check on the timing, efficiency, and results of what your business spends.

5) Cash Budget Cash budget is an estimation of the cash inflows and outflows for a business or individual for a specific period of time. Cash budgets are often used to assess whether the entity has sufficient cash to fulfill regular operations and/or whether too much cash is being left in unproductive capacities.

6) Zero-based budget (ZBB) Zero-based budgeting (ZBB) is a method of budgeting in which all expenses must be justified for each new period. Zero-based budgeting starts from a "zero base" and every function within an organization is analyzed for its needs and costs.

7) Flexed Budget A flexible budget is a budget that adjusts or flexes for changes in the volume of activity. The flexible budget is more sophisticated and useful than a static budget, which remains at one amount regardless of the volume of activity.

8) Flexible budget A flexible budget is a budget that adjusts or flexes for changes in the volume of activity. The flexible budget is more sophisticated and useful than a static budget, which remains at one amount regardless of the volume of activity.

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9) Master Budget The master budget is the aggregation of all lower-level budgets produced by a company's various functional areas, and also includes budgeted financial statements, a cash forecast, and a financing plan.

10) Incremental Budget An incremental budget is a budget prepared using a previous period's budget or actual performance as a basis with incremental amounts added for the new budget period. • The allocation of resources is based upon allocations from the previous period.

11) Activity based budgeting Activity based budgeting involves defining the activities that underlie the financial figures in each function and using the level of activity to decide how much resource should be allocated, how well it is being managed and to explain variances from budget.

12) Rolling Budget Rolling budget (continuous budgets) are budgets which are continuously updated by adding a further period (say a month or a quarter) and deducting the earliest period.

Question # 1 A company is preparing the budget for the next year, ending December 31 st 2004.

Forecasts for the year and standard data are given below: Finished products U V W Sales value at standard price (Rs.) 800,000 1,280,000 2,400,000 Inventory (units) January 1st 2004 3,000 7,000 9,000 Inventory (units) December 31st 2004 8,000 17,000 19,000 Direct material inventory January 1st 2004 (Units) December 31st 2004 (Units) A 150,000 240,000 B 60,000 96,000 C 70,000 112,000 D 90,000 144,000 To meet the expected increase in sales, inventories are to be increased.

Standard cost data per unit of product included the following: Direct Material Standard price Product U Product V (Rs./unit) (units) (units) A 0.20 9 B 0.30 2 7 C 0.50 6 5 D 0.10 4 Direct labour Standard rate Product U Product V 75

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Product W (units) 12 3 9 Product W

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Deprt 1 Deprt 2

(Rs./hr) 8.00 6.00

(hours) 0.50 0.50

(hours) 0.30 0.30

(hours) 0.60 0.60

Other data:  Direct labour hours overhead Rs.1,143,000 absorbed on direct labour hour rate basis.  Fixed production 127,000.  Administrative expenses are absorbed at the rate of 50% of production cost.  Marketing expenses are absorbed at the rate of 25% of production cost.  Profit is calculated at a rate of 12.50% of selling price.

Required: 1. Production budget .

2. Direct material cost budget.

3. Material purchases budget.

4. Direct labour cost budget.

Solution # 1

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Question # 2 Khas Manufacturing limited manufactures three products namely X, Y and Z. Sales data for preparation of budget for November, 2004 is given below.

i.

Product

Quantity (Units)

X Y X

1,000 2,000 1,500

Raw material used in the company’s product are: Raw material Cost per unit (Rs.) Quantities (units) used in: Product X Product Y Product Z

ii.

Price per unit (Rs.) 500 600 700

M1 20

M2 30

M3 45

4 3 2

2 3 1

1 1

Finished Stock: X

Product Y

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Z

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Quantities 1st November, 2004 30th November, 2004 iii.

Raw materials stock: Quantities (units) 1st November, 2004 30th November, 2004

1,000 1,100

1,500 1,650

500 550

M1

M2

M3

26,000 31,200

20,000 24,000

12,000 14,400

Required: Prepare budget for November, 2004 for: a) Sales quantity and value, including total value. b) Quantities of production for product X, Y & Z. c) Material usage in units, and d) Material purchases in quantities and value including total value.

Solution # 2

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Question # 3 Gala Ltd manufactures one product, the Durrell. Its sales for a six month period are expected to be: 2011 Durrells July 800 August 1050 September 1400 October 1100 November 950 December 850 On 1 July Gala Ltd expects to have 100 Durrells in inventory. It intends to hold inventory levels of 250 Durrells at the end of July and August, 200 at the end of September and October, and 100 thereafter.

REQUIRED (a) Prepare a monthly production budget for Gala Ltd for the six months July to December.

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Each Durrell requires 2 kilos of raw material. Until 31 August this is expected to cost Rs.4 per kilo and Rs.4.50 from 1 September to 30 November and Rs.5 per kilo thereafter.

REQUIRED (b) Prepare a monthly raw materials purchasing budget for the six months July to December.

Solution # 3

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Question # 4 Zeresh Limited provides the following information from its sales budget for 2014.

Sales price Units per unit Rs. January 10 000 20 February 11 000 20 March 11 000 21 April 12 000 21 May 12 000 21 June 14 000 24 Additional information Inventory of finished goods at each month end is maintained at 20% of the units expected to be sold in the following month.

Each unit requires 0.5 kilos of raw materials, which costs Rs.3 a kilo.

Half a month’s inventory of raw materials is maintained, based on the expected usage in the following month.

The total production cost of each unit is Rs.11 and this is the value used for inventory valuation.

REQUIRED (i) Prepare the production budget for each of the five months January to May 2014.

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(ii) Prepare the purchases budget for raw materials for each of the four months January to April 2014. Show purchases of raw materials in both kilos and dollars.

Solution # 4

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Question # 5 MW Limited manufactures a single product, a Tu. The finance director prepares monthly budgets. The following budgeted information is available for the first three months of 2015.

1 The selling price will be fixed at Rs.60 per unit. In January 2015 sales are expected to be 24 000 units. It is anticipated that there will be a 5% increase in sales volume in every subsequent month up to April 2015.

2 The finished goods inventory level at the end of each month will be maintained at one-third of the expected sales volume in the following month.

The inventory of finished goods at 31 December 2014 is expected to be 7500 units with a value of Rs.242000. The finished goods inventory value at 31 March 2015 is expected to be Rs.298000.

3 Each unit of Tu requires 10 kilos of raw material. The closing inventory of raw materials each month is expected to meet 20% of the production requirement of the following month. The inventory of raw materials at 31 December 2014 is expected to be 48000 kilos. The purchase price will remain at Rs.1.50 per kilo.

4 Direct labour for the first three months of 2015 is expected to be Rs.850000.

Manufacturing overhead is expected to be 50% of direct labour.

REQUIRED (a) Prepare the sales budget for the period January to March 2015. State the units and revenue for each month.

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(b) Prepare the production budget for the period January to March 2015. State the units for each month. (c) Prepare the purchases budgets for the period January to March 2015. State the units and cost for each month.

Solution # 5

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Question # 6 VTV Company has a cash balance of Rs.54,000 at the beginning of September and the following information is available:  Creditors give one month credit  Salaries are paid in the current month  Fixed costs are paid in one month arrears and include a charge for depreciation Rs.10,000 per month  Credit sales are settled as follows: 40% in the month of sales, 45% in the next month and 12% in the following month. The balance represents bad debts.

Month July August September October November

Cash Sales

40,000 44,000 50,000

Credit Sales 148,000 164,000 160,000 180,000 200,000

Purchases

Salaries

110,000 122,400 120,000 138,000 150,000

18,000 18,000 19,000 19,000 20,000

Required: Prepare cash budget for September, October and November Solution # 6

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Fixed Overheads 60,000 60,000 60,000 64,000 64,000

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Practice Questions . Question # 1 New Vision Trading Company Ltd. is planning to arrange for a six monthly overdraft facility with a bank. However, before finalization of any arrangement it wants to know the estimated requirements of cash. For this purpose it has hired you as consultant to make an estimate of the foreseeable cash requirements.

The following is the basic data regarding various business cycles of the company: 1. Sales forecast for the six months are as under: Months Rs. January 800,000 February 950,000 March 600,000 April 900,000 May 1,100,000 June 600,000 2. Purchases are made as and when required 3. No closing stock is maintained as the supplier has capability to supply any quantities at any time.

4. Gross profit ratio is maintained @ 20% of the sales price.

5. Various expenses for the six months are as under: Rs. Salaries and wages 390,000 Repair and maintenance 120,000 Insurance 6,000 Stores and spares 270,000 Duties 360,000 Legal Charges 24,000 6. Recoveries from the debtors are made as follows: 50% in the month of sale 30% in the month following the month of sale 20% in the second month after sales 7. Trade creditors are paid as under: 40% in the month of purchase 40% in the month following the month of purchase 20% in the second month after purchase 8. All other business expenses are paid in the month of expense. Expenses are evenly spread throughout the year.

9. The company commenced its business on 1.1.2000 with a cash balance of Rs.50,000.

Required: Prepare cash budget for the next six months 87

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Question # 2 A manufacturing company submits the following figures for the first quarter of the year 2000.

Product A B C Sales in units: January 25,000 30,000 10,000 February 20,000 25,000 10,000 March 30,000 35,000 10,000 Selling price per unit: Target for first quarter 2001 Rs.10 Sales quantity increase 20% Sales price increase Nil Stock position of 1st Jan 2001 as % of Jan 2001 sales 50% Stock position as on 31st March 2001 (Units) 20,000 Stock position end Jan & Feb % of subsequent month sales 50%

Rs.20 10% 10% 50% 25,000

Rs.40 10% 25% 50% 5,000

50%

50%

Required: Prepare Sales budget for the first quarter of 2001 Show working.

Prepare Production budget for the first quarter of 2001. Show working.

Question # 3 The directors require a cash budget for the four months October 2004 to January 2005 to be prepared from the following information.

1.

2.

3.

4.

5 6.

7.

8.

Sales in September 2004 were Rs.40 000.

Forecast sales are as follows: 2004 October Rs.48000 November Rs.60000 December Rs.54000 2005 January Rs.36000 February Rs.36000 25% of all sales are cash transactions. One month’s credit is allowed on the remainder.

A gross profit of 33 1/3% is made on all sales.

Goods are purchased one month before sale and paid for two months after purchase.

Wages of Rs.28 000 and overheads of Rs.10 000 are paid each month.

The ordinary dividend for the year ended 30 September 2004 will be paid on 1 January 2005.

A machine costing Rs.30 000 will be purchased and paid for in November 2004.

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9. Bank overdraft at 30th September 2004 was Rs.5000.

REQUIREDPrepare a cash budget in columnar form for each of the four months October 2004 to January 2005. (All calculations should be made to the nearest Rs.000.)

Question # 4 The directors of Sperrabuck Ltd were concerned about the company’s cash flow.

They requested the accountant to prepare a cash budget for the four months ending 31 October 2005.

The following information was available: (i) Actual sales 2005 Rs. May 88 000 June 110 000 Budgeted sales July 82 800 August 87 400 September 89 700 October 101 250 November 120 000 December 108 000 (ii)

Sales are made as follows: 40% of total sales are for cash 50% of total sales are on credit and are paid for in the month after sale 10% of total sales are on credit and are paid for two months after sale

(iii)

Customers purchasing on credit are allowed a discount of 2% if they pay within one month of purchase.

(iv)

Supplies are purchased two months before sale and paid for one month after purchase.

(iv)

The selling price is fixed by adding a mark-up of 40% to the cost of goods sold.

(v)

Wages of Rs.8000 per month are paid in the month in which they are earned. It is expected that wages will be increased by a pay award of 5% from 1 September 2005.

(vi)

Staff are paid a bonus of 4% on all sales in excess of Rs.80 000 each month. The bonus is paid in the following month.

(vii)

Other expenses currently amount to Rs.7000 per month and are paid in the month in which they are incurred. These expenses are expected to increase by 8% from 1 September 2005.

(ix)

The company will pay a final dividend of Rs.30 000 in August 2005.

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(x)

Sperrabuck Ltd will purchase fixed assets for Rs.20 000 in September 2005.

(xi) The balance at bank on 30 June 2005 is Rs.12 000.

REQUIRED: Prepare a cash budget for Sperrabuck Ltd for each of the four months July, August, September and October 2005. Prepare the budget in columnar form and make all calculations to the nearest Rs..

CHAPTER # 9 MARGINAL AND ABSORTION COSTING Product cost Product costing is the accounting process of determining all business expenses pertaining the creation of company products. These costs can include raw material purchases, worker wages, production transportation costs and retail stocking fees.

There are 2 type of Product cost

Product cost

Marginal cost

Absorptio n cost

MARGINAL COSTING  Marginal Cost (Variable Cost / Direct Cost) is the variable cost of one unit of product or service.  In Marginal Costing, only variable costs are charged to cost of sale and a contribution is calculated (sale revenue minus variable cost of sale).  Closing inventories of work in progress or finished goods are valued at marginal (variable) production cost.

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 Fixed Costs are treated as period cost, and are charged in full to the profit and loss account of the accounting period in which they are incurred.

The Marginal production cost per unit of an item usually consists of the following.  Direct Material  Direct Labour  Variable Factory Overhead ABSORPTION COSTING  Absorption Costing (full costing) is the total cost (variable cost + fixed cost) of one unit of product or service.  In Absorption Costing, total costs (variable cost + fixed cost) are charged to cost of sale and a gross profit is calculated (sales revenue minus cost of sales).  Closing inventories of work in progress or finished goods are valued at total production cost.  Fixed cost are treated as a product cost, and included in the cost per unit of product. Absorption costing is recommended in the financial reporting

by IAS 2 Inventories.

The Absorption Costing cost per unit of an item usually consists of the following.  Direct Material  Direct Labour  Variable Factory Overhead  Fixed Factory Overhead No change in Inventory: If there is no change in inventory over the year that is beginning and ending inventory are same or nil, because actual production and sales are the same. In marginal costing all fixed overhead are charged to the income statement as expense, however in absorption costing, fixed manufacturing overhead are applied to production at the predetermined rate. Since all unit of produced are sold, all the fixed manufacturing overhead cost are charged to income statement as expense.

Therefore profit under marginal and absorption are same if no change in inventory.

Increase in inventory: If ending inventory level is higher than opening inventory level, profit under absorption costing is higher than marginal costing. In marginal costing, none of the portion of fixed manufacturing cost becomes the part of inventory while in absorption cost some fixed manufacturing cost becomes part of inventory.

Decrease in inventory: If ending inventory level is lower than opening inventory level, profit under marginal costing is higher than absorption costing.

DIFFERENCE B/W MARGINAL AND ABSORTION COSTING

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Marginal Costing

Absorption Costing

Fixed costs are treated as period cost.

Fixed costs are treated as product cost.

It is useful for decision making.

It is useful for reporting purpose.

Its cost per unit consists of Direct Material, Direct Labour and Variable Factory Overhead.

Its cost per unit consists of Direct Material, Direct Labour, Variable Factory Overhead and Fixed Factory overhead.

FORMAT ABC Limited Income statement under Marginal costing For the period ended on ………..

Rs. Sales Less:

XXX

Cost of Goods Sold: Raw material

XX

Direct Labour

XX

Variable Manufacturing cost

XX

Total Manufacturing cost

XXX

Add:

Work in progress opening

XX

Less:

Work in progress closing

(XX)

Cost of goods manufactured

XXX

Finished Goods opening

XX

Goods available for sale

XXX

Finished Goods closing

(XX)

Add:

Less:

Less:

Less:

Rs.

Cost of goods sold

(XXX)

Gross Contribution Margin

XXX

Variable selling

XX

Variable marketing expense

XX

Variable administrative expense

XX

Total Variable expense

(XXX)

Contribution Margin

XXX

Fixed Cost Fixed Manufacturing cost

XXX

Fixed marketing expense

XXX

Fixed selling expense

XXX 92

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Fixed administrative expense

XXX

Total Fixed cost

(XXX)

Net Profit / Net Loss

XXX / (XXX)

ABC Limited Income statement under Absorption costing Fot the period ended on ………..

Rs. Sales Less:

XXX

Cost of Goods Sold: Raw material

XX

Direct Labour

XX

Variable Manufacturing cost

XX

Fixed Manufacturing cost

XX

Total Manufacturing cost

XXX

Add:

Work in progress opening

XX

Less:

Work in progress closing

(XX)

Cost of goods manufactured

XXX

Finished Goods opening

XX

Goods available for sale

XXX

Finished Goods closing

(XX)

Unadjusted Cost of goods sold

XXX

Under / (Over) applied Fixed FOH

XXX / (XXX)

Add:

Less:

Less:

Rs.

Adjusted Cost of goods sold

(XXX)

Gross Profit

XXX

Fixed Cost Variable selling

XXX

Variable marketing expense

XXX

Variable administrative expense

XXX

Fixed marketing expense

XXX

Fixed selling expense

XXX

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Fixed administrative expense

XXX

Total Expenses

(XXX)

Net Profit / Net Loss

XXX / (XXX)

Question # 1 ABC Ltd is considering using direct costing method for decision making instead of absorption costing method. Following data has been summarized for that purpose: Annual Normal Plant capacity Fixed Factory overhead for the year Fixed Marketing Expenses for the year Fixed Administrative expenses for the year Sales price per unit Standard variable manufacturing cost per unit Variable marketing expenses per unit sold Actual production for the year Sales for the year Opening finished goods inventory

Units 40,000 Rs. 500,000 Rs. 100,000 Rs. 150,000 Rs. 1,000 Rs. 400 Rs. 100 Unit 30,000 Unit 28,000 Unit 1,000

Required: a) Income statement for the year under direct method. b) Operating income for the year if absorption costing had been used.

Solution # 1

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Question # 2 Following data relates to Shehla Sister Ltd engaged in production and marketing a computer component: August 1998 July 1998 Units Produced 10,500 5,000 Units Sold 5,000 10,000 Rupees Rupees Fixed manufacturing cost 500,000 500,000 Unit selling price 500 500 Variable cost per unit 250 250 Per unit fixed factory overhead rate 50 50 Marketing overheads fixed 120,000 120,000 Administrative overheads 130,000 130,000 Required: a) Comparative income statement for each month on absorption Costing basis. b) Comparative income statement for each month on marginal Costing basis.

Solution # 2

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Question # 3 Following data relates to Shahnoor Industries Ltd: Number of units produced Number of units sold Selling price per unit Production cost per unit: Raw Material Direct Labour Variable Factory Overhead Fixed Factory Overhead Administrative and Selling Overhead

55,000 50,000 Rs.200 Rs.75 Rs.50 50% of direct labour cost Rs.500,000 Rs.1,000,000

Required: a) Prepare Operating statements using Absorption and Marginal Costing method. b) Calculate closing stock value under the above two method.

Solution # 3

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Question # 4 Shaheen Ltd. manufactures around 10,000 machines in a month. The break-up of unit cost is as under: Rs. Direct Material 750 Direct Labour 300 Variable Overhead 150 Fixed Overhead 600 1,800 Selling Price of machine is Rs.2,400. Production and sales for periods 1,2 and 3 were as under: Period 1 Period 2 Period 3 Production 10,000 8,000 11,000 Sales 8,000 9,000 12,000 Production can be increase to 11,000 units without a corresponding increase in fixed overhead.

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a)

Prepare Operating statements for the three periods assuming the company uses: 1. Absorption Costing; and 2. Marginal Costing Solution # 4

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Question # 5 Following information pertains to Dilber Associates: Normal Capacity of plant is 20,000 units per month or 240,000 units a year.

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Variable costs per unit are: Direct Material Direct Labour Variable Factory Overhead Total

Rs. 3.00 2.25 0.75 6.00

Fixed overheads are Rs.300,000 per year or Rs.1.25 per unit at normal capacity.

Company is using ‘units of product’ as basis for applying overheads. Fixed marketing and administrative expenses are Rs.60,000 per year and variable marketing expenses are Rs.3,400, Rs.3,600, Rs.4,000 and Rs.3,000 for the first, second, third and fourth month respectively.

Actual and applied variable overheads are the same. Likewise no material or labour variance exists. There is no work in process. Standard costs and finished goods inventories in units are: MONTH First Second Third Fourth Units in beginning inventory --------3,000 1,000 Units produced 17,500 21,000 19,000 20,000 Units sold 17,500 18,000 21,000 16,500 Units in ending inventory ----3,000 1,000 4,500 Required: a) Prepare income statement through Absorption b) Prepare income statement through Direct Costing methods.

Solution # 5

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Question # 6 Khan Company is a small business which has the following budgeted marginal costing profit and loss account for the month ended 30.6.2004: Rs. Sales Cost of sales: Opening stock Production Closing Stock

6,000 72,000 (14,000)

Other variable cost-Selling expense Contribution Fixed cost: Production Overhead Administration Selling Net profit Standard cost per unit is:

8,000 7,200 2,400

Rs. 16 18 6

Rs. 96,000

64,000 32,000 6,400 25,600

17,600 8,000

Direct material (1kg) Direct labour (3 hours) Variable cost (3 hours) Budgeted selling price per unit is Rs.60 The company’s normal level of activity is 4,000 units per month. It has budgeted fixed production costs at Rs.8,000 per month and absorbed them on the normal level of the activity of units produced.

Required: 105

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Prepare budgeted profit and loss under absorption costing for the month ended 30.6.2004.

Solution # 6

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Question # 7 Ali Ltd makes and sells one product, the standard production cost of which is as follows for one unit: 107

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Direct labour (3 hours at Rs.6 per hour) Direct material (4 kgs at Rs.7 per kg) Variable factory Overhead Fixed factory overhead Standard production cost

Rs. 18 28 3 20 69

Normal output is 16,000 units per annum and this figure is used for the fixed factory overhead calculation.

Costs relating to selling, distribution and administrative are: Variable 20% of sales value Fixed Rs.180,000 per annum The only variance is a fixed factory overhead volume variance. There are no units in finished goods stock at 1.10.2003. The fixed overhead expenditure is spread evenly throughout the year. The selling price per unit is Rs.140.

For each of six monthly periods, the numbers of units to be produced and sold are budgeted as: Six month ending Six month ending 31.3.2004 30.9.2004 Production units Sales units

8,500 7,000

7,000 8,000

Required: a) Prepare statements for the management showing sales, costs and profits for each of the six monthly periods, using: 1. Marginal Costing 2. Absorption Costing b) Prepare an explanatory statement reconciling for each six monthly period the profit using marginal costing with the profit using absorption costing.

Solution # 7

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Practice Question Question # 1 Modem Metal Works details in German Silver Sets; the standard production cost of which is as under: Rs. Direct material 4kg @ Rs.35 140 Direct labour 3 Hrs @ Rs.30 90 F.O.H- Variable 15 Fixed 100 110

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Total cost

345

Normal output is 16,000 units per annum, costs relating to selling, distribution and administration are: Variable 20% of sales value Fixed Rs.900,000 per annum The only variance is fixed (production) OH volume variance.

There are no sets in finished goods stock as on 1st April 2002. The fixed overheads expenditure is spread throughout the year. The selling price per set is Rs.700. The numbers of sets to be produced and sold are budgeted are: Six month ending Six month ending th 30 September 2002 31st March 2003 Production 8,500 7,000 Sales 7,000 8,000 Required: a) Prepare statements showing sales, costs of sales and profit for each six month period, using: 1. Marginal costing 2. Absorption costing b) Prepare an explanatory statement reconciling each six months period profit using marginal costing with that of absorption costing.

Question # 2 The management of Moon Company uses the following unit costs for the single product it manufactures

Direct materials (all variances) Direct labour (all variances) Factory overhead: Variable cost Fixed cost (based on 1,000 units/month) Marketing, general and administrative cost: Variable cost (per unit sold) Fixed cost (based on 1,000 units/month)

Project cost Rs. Per unit 300 190 60 50 40 28

The projected sales price is Rs.800 per unit. The fixed costs remain fixed within the relevant range of 400 to 1,600 units of production and sales.

Management has projected the following unit data for June: Units Beginning inventory 200 Production 900 Available 1,100 Sales 750 Ending inventory 350 Required:

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a) b) c)

An income statement for June, using absorption costing method, with all adjustment in Cost of Goods Sold.

An income statement for June, using direct costing method.

Reconciliation of the difference in operating income as computed in (i) and (ii) above.

Question # 3 A manufacturer produces and sells single product. Summarized data of operations for two years are given below.

Rs. Selling price per unit 4,000 Manufacturing costs: Variable cost per unit: Direct materials 880 Direct labour 480 Variable overhead 240 Fixed cost per year 9,600,000 Selling and administrative costs: Variable (per unit sold) 400 Fixed cost per year 5,600,000

Year 1 -------10,000 8,000 2,000

Beginning inventory – units Units produced Units sold Ending inventory – units

Year 2 2,000 6,000 8,000 --------

Required: a) Prepare income statement for each year using absorption costing.(Marks 8) b) Prepare income statement for each year using direct costing.(Marks 8)

Question # 4 Flexible budget for a product as prepare by Anchor Ltd, is given below: Sales - unit Sales Manufacturing cost: Variable Fixed Total manufacturing cost Marketing and other expenses:

10,000 Rs. 800,000

15,000 Rs. 1,200,000

20,000 Rs. 1,600,000

300,000 200,000 500,000

450,000 200,000 650,000

600,000 200,000 800,000

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Variable Fixed Total Marketing and other expense Operating income / (loss)

200,000 160,000 360,000 (60,000)

300,000 160,000 460,000 90,000

400,000 160,000 560,000 240,000

Additional information:  The budget of 20,000 units will be used for allocating the fixed manufacturing cost to units of product.  At the end of first six months, 12,000 units have been completed and 6,000 units have been sold @ Rs.80 per unit.  All fixed costs are budgeted and incurred uniformly throughout the year and all costs incurred, coincide with budget.  The over or under applied fixed manufacturing cost is deferred unit the end of the year.

Required: a) Calculate the amount of fixed manufacturing cost applied to production during the first six months under absorption costing. b) Prepare income statements for the first six months under: 1. Absorption Costing 2. Marginal Costing c) Reconcile the difference in operating income under absorption costing and marginal costing.

Question # 5 Basic standard cost data of Zahoor & Co. is as under: Normal Capacity (monthly) Production, October, 2007 Sales October, 2007

50,000 units 45,000 units 47,500 units

Standard variable costs per unit: Material and labour Factory overhead Distribution expenses Operating variances:

Rupee(s) 8.00 2.00 1.00

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Representing excessive incurrence of variable costs Selling price per unit

Rs.4,500 Rs.20

Fixed cost for October, 2007: Manufacturing expenses (Rs.4/- per unit on normal capacity) Distribution expenses Administration expenses Others

Rs.200,000 75,000 50,000 25,000

Required: a) Prepare income statement for the month of October, 2007 under: 1. Absorption Costing, and 2. Marginal Costing b) Prepare a reconciliation of incomes under absorption costing and marginal costing for October, 2007.

CHAPTER # 10 Cost, volume and profit analysis Cost-volume-profit (CVP) / Breakeven analysis are the study of interrelation ship between cost, volume and profit at various level of activity.

The management of an organization usually wishes to know the profit likely to be made if the aimed-for production and sales for the year are achieved. Management may also be interest to know the following.

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 

The breakeven point which is the activity level at which there is neither profit nor loss.

The amount by which actual sales can below anticipated sales, without a loss being incurred.

Contribution Margin OR Contribution to sales Contribution margin is a measure to how much contribution is earned. It can be calculated as follows.

Contribution margin = Sales – Variable cost Variable cost includes direct material, direct labour, variable overhead, variable selling and variable administrative overhead.

Contribution Margin Ratio (CM %) OR Contribution to sales ratio (C/S %) Contribution margin is a measure of how much contribution is earned from each Rs.1 of sales. It can be calculated as follows.

Contribution margin ratio (CM%) = Contribution margin x 100 Sales OR Contribution margin ratio (CM%) = Sales – variable cost x 100 Sales Breakeven Sales in Amount (Rs.) At the breakeven point, sales revenue = total cost and there is no profit. At the breakeven point total contribution = fixed cost.

Breakeven Sales in amount = Fixed Cost CM% Breakeven sales in units Breakeven points in units mean show many units to be sold to require to neither profit nor loss.

Breakeven Sales in unit = Fixed cost CM per unit CM per unit = Sales per unit – Variable cost per unit

Sales are required to earned profit if amount of profit is given How many sales are required to sales to earned profit.

Sales are required to earn profit (Rs.) = Fixed Cost + Profit CM% OR Sales are required to earned profit in units = Fixed Cost + Profit CM per unit Sales are required to earned profit if % of profit on sales is given How many sales are required to sell to earned profit if % of profit on sales is given.

Sales are required to earned profit (Rs.) = Fixed Cost 115

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CM% - TP% Sales are required to earned profit after tax if amount of profit is given How many sales are required to sales to earned profit after tax if amount of profit is given.

Sales are required to earned profit after tax (Rs.) = Fixed Cost + Target profit 1-tax rate CM% Sales are required to earned profit after tax if % of profit on sales is given How many sales are required to sales to earned profit after tax if amount of profit is given Sales are required to earned profit after tax (Rs.) = Fixed cost CM% - Target profit % 1 – tax rate Margin of safety (MOS) The margin of safety is the difference in units between the budgeted sales volume and the breakeven sales volume. It is some time as percentage of budgeted sales volume. The margin of safety may also be express as the difference between the budgeted sales revenue and breakeven sales revenue express as a percentage of the budgeted sales revenue.

Margin of safety = Budgeted sales revenue – Breakeven sales revenue OR Margin of safety ratio (%) = Budgeted sales revenue – Breakeven sales revenue x 100 Budgeted sales revenue

Question # 1 The fixed cost of an enterprise for the year is Rs.400,000. The variable cost per unit for a single product being made is Rs.20. Each units sells at Rs.100.

Required a) Breakeven point. b) If the turnover for the next year is Rs.800,000, calculate the estimated contribution and profit, assuming that the cost and selling price remain the same.

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c)

A profit target of Rs.400,000 has been desired for the next year. Calculate the turnover required to achieve the desired result.

Solution # 1

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Question # 2 The Parrot Company sold 150,000 units @ Rs. 30 each, Variable cost is Rs. 20 (Manufacturing Rs. 15 & Marketing Rs. 5), Fixed Cost is Rs. 1,200,000 annually which occurs evenly throughout the year (Manufacturing Rs. 800,000 & Marketing Rs. 400,000).

Required I. Breakeven point in units II. Breakeven point in Rupees III. Number of units to be sold to earn profit before tax of Rs. 200,000 IV. Number of units to be sold to earn after tax profit of Rs. 100,000 if tax rate is 25% V. The breakeven point in units if selling price is increased by Rs. 3 and variable cost by Rs. 2 per unit.

Solution # 2

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Question # 3 Gala Promotions Limited is planning a concert in Karachi. The following are the estimated costs of the proposed concert: Rs. (000) Rent of premises 1,300 Advertising 1,000 Printing of tickets 250 Ticket sellers, security 400 Wages of Gala Promotions Limited Personnel employed at the concert 600 Fee of artist 1,000 There are no variable costs of staging the concert. The company is considering a selling price for tickets at either Rs.4,000/- or Rs.5,000/- each.

Required: i. Calculate the number of tickets which must be sold at each price in order to break-even. ii. Recalculate the number of tickets which must be sold at each price in order to break-even, if the artist agrees to change from fixed fee of Rs. 1 million to a fee equal to 25% of the gross sales proceeds. iii. Calculate the level of ticket sales for each price, at which the company would be indifferent as between the fixed and percentage fee alternative. iv. Comment on the factors, which you think, the company might consider in choosing between the fixed fee and percentage fee alternative.

Solution # 3

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Question # 4 The Sindh Engineering Company produces a bicycle which sells at Rs.1,000 per unit. At 80% capacity utilization which is the normal level of activity, the sales are Rs.180 million. Costs are as under: Prime cost per unit Factory indirect cost Selling costs Distribution costs

Rs.400 Rs.30 million (including variable cost Rs.10million) Rs.25 million (including variable cost Rs.15million) Rs.20 million (including variable cost Rs.11million) 120

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Administration costs Rs.6 million Commission and discounts are 5% of sales value.

Required: i. Calculate the break-even sales value. ii. Prepare statements showing sales, costs, profit and contribution margin at each of the following levels: a. at the normal level of activity; b. if unit selling price is reduced by 5% thereby increasing sales and production volume by 10% of the normal activity level; c. if unit selling price is reduced by 10% thereby increasing sales and production volume by 20% of the normal activity level.

Solution # 4

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Question # 5 A company produces mineral water. Based on the projected annual sales of 40,000 bottles of mineral water, cost studies have produced the following estimates: Total annual costs (in rupees) Variable cost percentage Material 193,600 100 Labour 90,000 70 Overhead 80,000 64 Administration 30,000 30 The production will be sold through dealers who would receive a commission of 8% of sale price.

Required: (i) Compute the sale price per bottle which will enable management to realize a profit of 10 percent of sales. (ii) Calculate the break-even point in rupees if sale price is fixed at Rs. 11 per bottle.

Solution # 5

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Question # 6 Dream world Resorts maintains a water park and has experienced a steady growth in its sales for the past five years. Increased competition, however, has led the owners to believe that an aggressive advertising campaign will be necessary next year to maintain the present growth. In order to launch advertising campaign the next year, following data has been compiled for the year 2005.

Variable cost Rs.137.50 per ticket Total fixed cost for the year Rs.1,350,000 Sales price Rs.250.00 per ticket Expected sales 2005 – 20,000 ticket Rs.5,000,000 Income tax rate 35% The resort has set sales target for 2006 at a level of Rs.5,500,000 or 22,000 tickets.

Required: 123

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i.

The project after tax net income for the year 2005.

ii.

Number of tickets at breakeven point during the year 2005.

iii.

After tax net income for the year 2006 if an additional fixed marketing expense of Rs.112,500 is spent on advertising in the year 2006 (with all other costs remaining constant) to attain the sales target for the year 2006.

iv.

The breakeven point in value for the year 2006 if additional Rs.112,500 is spend on advertising.

v.

The required sale (value) to equal after tax net income for the year 2005 if additional Rs.112,500 is spent on advertising in the year 2006.

vi.

The maximum amount that can be spent on additional advertising at a sales level of 22,000 tickets, if an after tax net income of Rs.600,000 is desired.

Solution # 6

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Question # 7 Gullever Engineering Ltd, manufactures lathe machines. Its budget data for next year is as under: Rs. Sales (2,000 units) 8,000,000 Variable cost 3,000,000 Contribution margin 5,000,000 Fixed cost 2,000,000 Operating income 3,000,000 Required: i. Calculate breakeven point in units and amount. ii. Calculate margin of safety in units and amount

Solution # 7

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Practice Question Question # 1 Normal annual capacity of Karachi Company is 200,000 units and the sales price is Rs.32 per unit. Unit cost of components is as under: Variable cost per unit (Rs.) Fixed Cost(Rs.) Direct material 9.00 -Direct labour 10.0 -Factory overhead 2.00 400,000 Non-manufacturing cost 3.00 100,000 Total cost 24.0 500,000 Required: i. Calculate the breakeven point in rupees and in units. Prove your answer. ii. Compute amount of sales required to earn a profit of Rs.420,000. Prove Question # 2 R Company has prepare the following projections for the coming year 2008: 126

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Rs. 150,000 112,500 37,500 20,000 17,500

Sales Variable cost Contribution margin Fixed cost Net income

Required: i. Compute the following: a. Breakeven sales in rupees. b. Margin of safety in rupee and in percentage. ii. A minimum unit to be sold to breakeven, if the sale price is Rs.15/unit. iii.

Question # 3 The following data has been taken out from the record of Osman Bros., based on the financial result for the year ending 30th June 2008: Breakeven sales Rs.2,000,000 Contribution margin ratio 40% Profit for the year ending 30th June 2008 Rs.320,000 Required: i.

Calculate the following: a) Fixed expenses for the year. b) Sales for the year c) Variable expenses for the year d) Margin of safety ratio.

Question # 4 Variable cost Fixed cost Sales price Breakeven point

Rs.10 per unit Rs.42,000 Rs.16 per unit 7,000 units

By matching Revenue & Expenses prove that 7,000 units are breakeven point.

Question # 5 Calculate the breakeven point in units when: Sales price Rs.1 each Sales Rs.60,000 Variable cost (0.5 per unit) Rs.30,000 Fixed cost Rs.20,000 127

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