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Cost and Management Accounting

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Cost & Management Accounting (MGT-402)
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LESSON# 4
FINANCIAL STATEMENTS
Cost of Goods Manufactured
Rupees
Total factory Cost
230,000
Add Opening Work in process inventory
30,000
Cost of goods to be manufactured
260,000
Less Closing Work in process
50,000
Cost of goods manufactured
210,000
Note: Cost of the work that was in process in the last year (Closing WIP inventory) becomes Opening WIP
inventory of the current year.
Cost of Goods Sold
Cost of goods manufactured
210,000
Add Opening finished goods inventory
100,000
Cost of goods to be sold
310,000
Less Closing finished goods
(10,000)
Cost of goods sold
300,000
Note: Cost of the goods that were in process in the last year (closing finished goods inventory) becomes opening
finished goods inventory of the current year.
Standard format of the cost of goods manufactured and sold statement:
Entity Name
Cost of Goods manufactured statement
for the year ended_______
Rupees
Direct Material Consumed
Opening inventory
10,000
Add Net Purchases
100,000
Material available for use
110,000
Less Closing inventory
(20,000)
Direct Material used
90,000
Add Direct labor
60,000
Prime cost
150,000
Add Factory overhead Cost
80,000
Total factory cost
230,000
Add Opening Work in process
30,000
Cost of good to be manufactured
260,000
Less Closing Work in process
50,000
Cost of good manufactured
210,000
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Cost & Management Accounting (MGT-402)
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Entity Name
Cost of goods sold statement
For the year ended_______
Rupees
Add Opening finish goods
100,000
Cost of goods manufactured
210,000
Cost of good to be sold
310,000
Less closing finish goods
10,000
Cost of good to sold
300,000
Standard format of the Income Statement:
Entity Name
Income Statement
For the year ended_______
Rupees
Sales
600,000
Less Cost of goods sold
(300,000)
Gross profit
300,000
Less Operating expenses
Selling and marketing
50,000
Distribution
30,000
Administrative
20,000
(100,000)
Operating profit
200,000
Less Financial Expenses
Interest on loan
(50,000)
Profit before tax
150,000
Less Income Tax
(60,000)
Net profit
90,000
Applied Factory Overhead Cost
Often at the end of the accounting period total FOH cost is not known in actual because of the
specified nature of expenses in the list of indirect cost.
For this reason, the third element of cost "FOH" is included in the total factory cost based on
predetermined FOH cost rate; such cost is known as Applied FOH Cost.
Predetermined (FOH cost) rate
Factory overhead rate is determined on the basis of normal activity level. Normal activity level
means the capacity level at which the business can operate in normal circumstances. Capacity
level can be in terms of:
Direct Labor Cost
Direct Material Cost
Direct Labor Hours
Machine Hours
Prime Cost
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Cost & Management Accounting (MGT-402)
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Selection of capacity level depends upon the nature of the business, if its inclination is towards
machine hours then machine hours will be taken as a base as capacity level. It is also known as
overhead absorption rate (OAR).
Calculations pertaining to the overhead application rate will not be discussed here, in this
chapter we will use pre-calculated overhead application rate.
Details of the topic will be covered in a LESSON relating to Factory Over Head.
Total Factory Cost based on Applied FOH Cost
Assume applied factory overhead rate is 150% of direct labor cost.
Rupees
Direct material Consumed
90,000
Add Direct labor
60,000
Prime Cost
150,000
FOH Applied (150% of Rs. 60,000)
90,000
Total Factory Cost
240,000
The cost of goods sold in which factory overhead cost is included on the basis of
predetermined rate is termed as "Cost of Goods Sold at Normal"
Entity Name
Cost of Goods Sold statement
At normal
for the year ended_______
Rupees
Direct Material Consumed
Opening inventory
10,000
Add Net Purchases
100,000
Material available for use
110,000
Less Closing inventory
20,000
Direct Material used
90,000
Add Direct labor
60,000
Prime cost
150,000
Add Factory overhead Cost (60,000 x 150%)
90,000
Total factory cost
240,000
Add Opening Work in process
30,000
Cost of good to be manufactured
270,000
Less Closing Work in process
50,000
Cost of good manufactured
220,000
Add Opening finish goods
100,000
Cost of good to be sold
320,000
Less closing finish goods
10,000
Cost of good to sold at normal
310,000
Variance
Difference between the actual cost and applied cost is calculated by subtracting actual cost from
the applied cost. Where the applied cost is greater than the actual cost it is favorable variance,
but where the applied cost is lesser than the actual cost it is unfavorable variance.
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Cost & Management Accounting (MGT-402)
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Under/Over applied FOH cost
Applied FOH Cost
90,000
Less Actual FOH Cost
80,000
Over applied FOH cost
10,000
Adjustment of Under/Over applied FOH cost
Such variance should be eliminated form the financial statements through adjustment.
Under/Over applied FOH cost can be adjusted in following costs/profit figures:
1.  Entire Production
a)
work in process inventory
b)
finished goods inventory
c)
cost of goods sold
2.  Cost of Goods Sold
3.  Net profit
Adjustment in the Entire Production
Work in process Cost
(50,000 - 1,350)
48,650
Finished goods Cost
(10,000 -  270)
9,730
Cost of goods sold
(310,000 - 8,380)
301,620
The concept of addition to and subtraction from the relevant amount is that because there is a
favorable variance i.e. the applied factory overhead cost is more than the actual cost therefore,
to make correction in the information containing cost items (entire production) there must be
subtraction equal to the amount which was over added.
Obviously the difference will be added if there is an unfavorable variance i.e. the applied factory
overhead cost is less than the actual cost. This is so because the cost charged is lesser than the
actual, and to make the cost items (entire production) equal to their actual figures we need
inclusion of further amount.
Entire production includes three items; work in process inventory, finished goods inventory,
and cost of goods sold. These three items are the three parts in which total cost of production
(either finished or semi finished) has been divided.
Adjustment in the Cost of Goods Sold
Some times it is required to adjust all of the variance in the cost of goods sold, here the same
principle of addition or subtraction will be followed which has already been discussed in the
above paragraphs. This is so because the cost of goods sold is also a cost item. The amount of
cost of goods sold before adjustment is known as cost of goods sold at normal and after
adjustment is known cost of goods sold at actual.
Cost of goods sold at normal
310,000
Add over applied FOH
(10,000)
Cost of goods sold at actual
300,000
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Cost & Management Accounting (MGT-402)
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Adjustment in the Income Statement
Entity Name
Income Statement
Based on applied FOH cost
For the year ended_______
Rupees
Sales
600,000
Less Cost of goods sold (at normal)
(310,000)
Gross profit
290,000
Less Operating expenses
Selling and marketing
50,000
Distribution
30,000
Administrative
20,000
(100,000)
Operating profit
190,000
Less Financial Expenses
Interest on loan
(50,000)
Profit before tax
140,000
Less Income Tax
(60,000)
Net profit
80,000
Add over-applied FOH cost
10,000
Net profit
90,000
Principle of addition or subtraction of factory overhead variance is reverse in income statement.
This is so because here the amount of net profit is adjusted for the variances, which is income in
nature.
Over-application of factory overhead cost causes an increase in the cost of goods sold which
reduces the gross profit and also the net profit, so to bring the amount of net profit at its actual
amount we need to add over-applied factory overhead cost in the net profit. Obviously in case of
under application of factory over head cost the variance will be subtracted from the amount of net
profit.
PRACTICE QUESTIONS
Following data relates to Qasim &Co,
Q. 1
Rupees
Opening stock of raw material
52,000
Opening stock of work in process
46,000
Purchases of raw material
255,000
Direct labor cost
85,000
Factory overheads
76,000
Closing stock of raw material
61,000
Closing stock of work in process
36,000
Required: Prepare Cost of Goods Manufactured Statement.
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Cost & Management Accounting (MGT-402)
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SOLUTION:
Qasim & Co.
Cost of goods manufactured statement
Rupees
Opening stock of raw material
52,000
Add: Purchases of raw material
255,000
Less: Closing stock of raw material
(61,000)
Cost of raw material consumed
246,000
Add: Direct labor cost
85,000
Prime cost/Direct cost
331,000
Add: Factory overheads
76,000
Manufacturing cost/Factory cost
407,000
Add: Opening stock of work in process
46,000
Less: Closing stock of work in process
(36,000)
Cost of goods manufactured
417,000
Q. 4
Ayesha Products Limited purchased materials of Rs. 440,000 and incurred direct labor of
Rs. 320,000 during the year ended June 30, 2006. Factory overheads for the year were Rs.280,000.
The inventory balances are as follows:
July 1, 2005
June 30, 2006
Rupees
Rupees
Finished goods
90,000
105,000
Work in process
121,000
110,000
Materials
100,000
105,000
Required:
1)
Cost Of Goods Manufactured Statement.
2)
Cost Of Goods Sold Statement.
SOLUTION:
1)
Ayesha Products Limited
Cost of goods manufactured statement
For the year ended June 30, 2006
Materials inventory, July 1 2005
100,000
Add: purchases of materials
440,000
Less: materials inventory, June 30, 2006
(105,000)
Cost of materials consumed
435,000
Add: direct labor
320,000
Prime cost/Direct cost
755,000
Add: factory overheads
280,000
Manufacturing cost/Factory cost
1,035,000
Add: Inventory of work in process, July 1, 2005
121,000
Less: Inventory of work in process, June 30, 2006
(110,000)
Cost of goods manufactured
1,046,000
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Cost & Management Accounting (MGT-402)
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2)
Ayesha Products Limited
Cost of goods sold statement
For the year ended June 30, 2006
Cost of goods manufactured
1,046,000
Add: inventory of finished goods, July 1, 2005
90,000
Less: inventory of finished goods, June 30, 2006
(105,000)
Cost of goods sold
1,031,000
Q. 5
FNS manufacturing company submits the following information on June 30, 2005.
Sales for the year
450,000
Raw material inventory, July 1, 2004
15,000
Finished goods inventory, July 1, 2004
70,000
Purchases
120,000
Direct labor
65,000
Power, heat and light
2,500
Indirect material purchased and consumed
4,500
Administrative expenses
21,000
Depreciation of plant
14,000
Selling expenses
25,000
Depreciation of building
7,000
Bad debts
1,500
Indirect labor
3,000
Other manufacturing expenses
10,000
Work in process, July 1, 2004
14,000
Work in process, June 30, 2005
19,000
Raw materials inventory, June 30, 2005
21,000
Finished goods inventory, June 30, 2005
60,000
Applied factory head rate is 20% of the prime cost
Required
1)
Cost Of Goods Manufactured Statement.
2)
Cost Of Goods Sold Statement at normal and at actual
3)
Income statement.
SOLUTION:
FNS manufacturing company
Cost of goods manufactured statement
For the year ended June 30, 2005
Raw materials inventory, July 1 2004
15,000
Add: purchases of materials
120,000
Less: materials inventory, June 30, 2005
(21,000)
Cost of materials consumed
114,000
Add: direct labor
65,000
Prime cost/Direct cost
179,000
Factory overhead applied (179,000x20%)
35,800
Manufacturing cost/Factory cost
214,800
Add: Inventory of work in process, July 1, 2005
14,000
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Cost & Management Accounting (MGT-402)
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Less: Inventory of work in process, June 30, 2006
(19,000)
Cost of goods manufactured
209,800
2)
FNS manufacturing company
Cost of goods sold statement
For the year ended June 30, 2006
Cost of goods manufactured
209,800
Add: inventory of finished goods, July 1, 2004
70,000
Less: inventory of finished goods, June 30, 2005
(60,000)
Cost of goods sold at normal
219,800
Less: over-applied factory overhead (working)
1,800
Cost of goods sold at actual
218,000
3)
FNS manufacturing company
Income statement
For the year ended June 30, 2006
Sales
450,000
Less: cost of goods sold
(218,000)
Gross profit
232,000
Less: operating expenses
Bad debts
1,500
Depreciation of building
7,000
Selling expenses
25,000
Administrative expenses
21,000
(54,500)
Net profit
177,500
Working
Applied factory overhead cost
35,800
Actual factory overheads
Power, heat and light
2,500
Indirect material purchased and consumed
4,500
Depreciation of plant
14,000
Indirect Labor
3,000
34,000
Other manufacturing expenses
10,000
Over-applied factory overhead
1,800
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Table of Contents:
  1. COST CLASSIFICATION AND COST BEHAVIOR INTRODUCTION:COST CLASSIFICATION,
  2. IMPORTANT TERMINOLOGIES:Cost Center, Profit Centre, Differential Cost or Incremental cost
  3. FINANCIAL STATEMENTS:Inventory, Direct Material Consumed, Total Factory Cost
  4. FINANCIAL STATEMENTS:Adjustment in the Entire Production, Adjustment in the Income Statement
  5. PROBLEMS IN PREPARATION OF FINANCIAL STATEMENTS:Gross Profit Margin Rate, Net Profit Ratio
  6. MORE ABOUT PREPARATION OF FINANCIAL STATEMENTS:Conversion Cost
  7. MATERIAL:Inventory, Perpetual Inventory System, Weighted Average Method (W.Avg)
  8. CONTROL OVER MATERIAL:Order Level, Maximum Stock Level, Danger Level
  9. ECONOMIC ORDERING QUANTITY:EOQ Graph, PROBLEMS
  10. ACCOUNTING FOR LOSSES:Spoiled output, Accounting treatment, Inventory Turnover Ratio
  11. LABOR:Direct Labor Cost, Mechanical Methods, MAKING PAYMENTS TO EMPLOYEES
  12. PAYROLL AND INCENTIVES:Systems of Wages, Premium Plans
  13. PIECE RATE BASE PREMIUM PLANS:Suitability of Piece Rate System, GROUP BONUS SYSTEMS
  14. LABOR TURNOVER AND LABOR EFFICIENCY RATIOS & FACTORY OVERHEAD COST
  15. ALLOCATION AND APPORTIONMENT OF FOH COST
  16. FACTORY OVERHEAD COST:Marketing, Research and development
  17. FACTORY OVERHEAD COST:Spending Variance, Capacity/Volume Variance
  18. JOB ORDER COSTING SYSTEM:Direct Materials, Direct Labor, Factory Overhead
  19. PROCESS COSTING SYSTEM:Data Collection, Cost of Completed Output
  20. PROCESS COSTING SYSTEM:Cost of Production Report, Quantity Schedule
  21. PROCESS COSTING SYSTEM:Normal Loss at the End of Process
  22. PROCESS COSTING SYSTEM:PRACTICE QUESTION
  23. PROCESS COSTING SYSTEM:Partially-processed units, Equivalent units
  24. PROCESS COSTING SYSTEM:Weighted average method, Cost of Production Report
  25. COSTING/VALUATION OF JOINT AND BY PRODUCTS:Accounting for joint products
  26. COSTING/VALUATION OF JOINT AND BY PRODUCTS:Problems of common costs
  27. MARGINAL AND ABSORPTION COSTING:Contribution Margin, Marginal cost per unit
  28. MARGINAL AND ABSORPTION COSTING:Contribution and profit
  29. COST VOLUME PROFIT ANALYSIS:Contribution Margin Approach & CVP Analysis
  30. COST VOLUME PROFIT ANALYSIS:Target Contribution Margin
  31. BREAK EVEN ANALYSIS MARGIN OF SAFETY:Margin of Safety (MOS), Using Budget profit
  32. BREAKEVEN ANALYSIS CHARTS AND GRAPHS:Usefulness of charts
  33. WHAT IS A BUDGET?:Budgetary control, Making a Forecast, Preparing budgets
  34. Production & Sales Budget:Rolling budget, Sales budget
  35. Production & Sales Budget:Illustration 1, Production budget
  36. FLEXIBLE BUDGET:Capacity and volume, Theoretical Capacity
  37. FLEXIBLE BUDGET:ANALYSIS OF COST BEHAVIOR, Fixed Expenses
  38. TYPES OF BUDGET:Format of Cash Budget,
  39. Complex Cash Budget & Flexible Budget:Comparing actual with original budget
  40. FLEXIBLE & ZERO BASE BUDGETING:Efficiency Ratio, Performance budgeting
  41. DECISION MAKING IN MANAGEMENT ACCOUNTING:Spare capacity costs, Sunk cost
  42. DECISION MAKING:Size of fund, Income statement
  43. DECISION MAKING:Avoidable Costs, Non-Relevant Variable Costs, Absorbed Overhead
  44. DECISION MAKING CHOICE OF PRODUCT (PRODUCT MIX) DECISIONS
  45. DECISION MAKING CHOICE OF PRODUCT (PRODUCT MIX) DECISIONS:MAKE OR BUY DECISIONS