CE Principles of Accountancy-A Summary

Part 2-Final Accounts for sole trader; Manufacturing Accounts; Partnership & Company Accounts

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Manufacturing Accounts

COST CLASSIFICATION

• Cost objects

• A cost object is any activity for which a separate measurement of cost is desired (e.g. cost of making a product or operating a sales territory).

• A cost system normally accounts for costs in two broad stages:

• Classifies costs into certain categories (e.g. labour, materials and overheads).

• Trace costs to cost objects.

•There are three broad categories of cost objects:

Cost classification for stock valuation and profit measurement

• Classification by period and product costs

• Product costs are those costs that are attached to the product and included in the stock valuation.

• Period costs are not attached to the product and included in the stock valuation. They are recorded as an expense in the period in which they are incurred.

Example

Product costs = $100 000

Period costs = $80 000

50% of the output for the period is sold

$

Production cost (product costs) 100 000

Less Closing stock 50 000

Cost of goods sold (50%) 50 000

Period costs 80 000

Total costs recorded as expenses for the period 130 000

Treatment of period production costs

• Classification by elements of cost

$

Direct materials XXX

Direct labour XXX

Prime cost XXX

Manufacturing overheads XXX

Total manufacturing cost XXX

Non-manufacturing overheads XXX

Total cost XXX

Cost classification for decision-making

• Classification by cost behaviour

• Important to predict costs and revenues at different activity levels for many decisions.

• Variable costs vary in direct proportion with activity.

• Fixed costs remain constant over wide ranges of activity.

• Semi-fixed costs are fixed within specified activity levels, but they eventually increase or decrease by some constant amount at critical activity levels.

• Semi-variable costs include both a fixed and a variable component (e.g. telephone charges).

• Classification by avoidable and unavoidable costs

• Classification by relevant and irrelevant costs and revenues

• Relevant costs and revenues are those future costs and revenues that will be changed by a decision, whereas irrelevant costs and revenues will not be changed by a decision.

Example

Material previously purchased for $100 have no alternative use other than being converted for sale at a cost of $200. The sale proceeds after conversion would be $250.

• Classification by marginal and incremental costs/revenues

• Incremental costs and revenues are the additional costs/revenues from the production or sale of a group of additional units.

• Marginal cost/revenue represents the additional cost/revenue of one additional unit of output.

Classification for cost control

• For cost control, costs should be traced to responsibility centers (not products).

• There are three types of responsibility centers:

• Cost centers

Ø Managers are accountable for the expenses that are under their control.

• Profit centers

Ø Managers are accountable for sales revenue and expenses

• Investment centers

Ø Managers are accountable for sales revenue and expenses but in addition are responsible for some capital investment decisions

• Costs and revenues assigned to responsibility centers should be classified according to whether they are controllable or non-controllable to the manager of the responsibility center.

Process Costing

z Job costing assigns costs to each individual unit of output because each unit consumes different quantities of resources.

z Process costing does not assign costs to each unit of output because each unit is identical. Instead, average unit costs are computed.

A comparison of job and process costing

Normal and Abnormal Losses

z Normal losses cannot be avoided – Cost is absorbed by goods produced.

z Abnormal losses are avoidable – Cost is recorded separately and treated as period cost.

Example

Input = 1200 litres at a cost of $1200

Normal loss = 1/6 of input

Actual output = 900 litres

CPU = $1200/Expected output

(1000 litres) = 1.20

Cost of completed production = $1080 (900x$1.20)

Cost of abnormal loss = $120 (100x$1.20)

Accounting for the sale of Scarp

z When scrap can be sold for value, the resulting sales revenue should be offset against the costs of the appropriate process for which the loss occurred.

z Example 6.3 p.153

Sale Proceeds from Normal Losses

Example 1

Input = 1200 litres at a cost of $1200

Output = 1000 litres

Normal loss = 1/6 of input

Scrap value of losses in process = 50p per litre

Cost of production less scrap value of normal loss

Expected output

= $1100/1000 = $1.10 per litre

Sale Proceeds for Normal Losses

z The sale value of the normal loss is credited to the process account, and debited to the cash account.

z When an abnormal loss occurred, the resulting sales revenue from the sale of the additional loss units should be offset against the normal loss.

z Example 6.4 p.154

Abnormal Gains

z When actual loss in a process is less than expected, we have abnormal gain.

z The gain is debited from the process account and credited to the profit and loss account.

z Example 6.5; p.155

z When units lost have scrap value and an abnormal gain occurs, the abnormal gain must be reduced to reflect that some scrap is lost.

z Example 6.6; p.156

Abnormal Gains

Example

Input = 1200 litres at a cost of $1200

Output = 1100 litres

Normal loss = 1/6 of input

Scrap value = 50p per litre

Cost of production less scrap value of normal loss

Expected output

= $1100/1000 = $1.10 per litre

Equivalent Production and Closing WIP

Partly completed units are expressed as fully completed equivalent units in order to compute CPU (e.g. 1000 units 50% complete equals 500 equivalent production).

Example

Opening WIP Nil

Units introduced into the process 14000

Units completed and transferred
to next process 10000

Closing WIP (50% complete) 4000

Materials cost (introduced at start) $70000

Conversion cost $48000

Note materials are 100% complete.

Equivalent Production and Closing WIP

Previous Process Cost

Costs transferred from a previous process are treated as a separate element of cost (100% complete).

Example

Opening WIP Nil

Units transferred 10000

Closing WIP (50% complete) 1000

Completed units transferred to
finished goods stock 9000

Previous process cost $90000

Conversion costs $57000

Materials (introduced at end of process) $36000

Note materials are zero complete and previous process cost 100% complete.

Previous Process Cost

OPENING WIP
Example to illustrate weighted average and FIFO

Materials are introduced at the start for process X and at the 70% stage for process Y.

Opening WIP-Weighted Average Method

Process X

Opening WIP-Weighted Average Method

Process Y

Opening WIP – FIFO Method

The FIFO method assumes opening WIP is the first group of units to be completed. Therefore, opening WIP is charged separately to completed production and the CPU is based on current period costs.

Process X

Opening WIP – FIFO Method

Losses in Process and Equipment Production