F2 Notes Latest

Management Accounting F2
F2
Management Accounting
Masters’ Academy Of
Professional Studies
Jhelum Pakistan
Author
Waseem Ahmad Qurashi
Masters’ Academy of Professional Studies +923215040978 Page 1
Chapter 1
Introduction to Management Information
Data
Data is a 'scientific' term for facts, figures, and measurements. Data are the raw materials for
data processing.
Examples of data include the following.
 The number of tourists who visit Hong Kong each year
 The sales revenues of all restaurants in Zambia
 The number of people who pass their driving test each year
Information
Information is data that has been processed in such a way as to be meaningful to the person
who receives it. Information is anything that is communicated.
Management is the term used for the people in charge of running a business (managers) or other
organisation.
Management information can therefore be described as information that is given to the people
who are in charge of running an organisation. The report described above is one example of
management information.
Purpose of Management information
Management information is information supplied to managers for the purposes of planning,
control and decision making.
Management needs information for planning and control. Process of planning and control is
called budgetary cycle.
Planning:
It includes
 Setting objectives
 Search for alternative course of action to achieve the objectives.
 Gather data about alternatives.
 Select appropriate course of action. (Decision Making)
Objectives are aims or goals of an organization. For example an organization may want to
increase its profit by 10% in near future or it may want to introduce a new product. To achieve this
objective management must be aware of its own strengths and weaknesses as well as information
about the environment in which it is working for example its competitors, government legislation
etc.
To achieve objectives management may have different course of actions (strategies). For example
an organization can increase its profit by increasing sales price, entering into new market, or
introducing a new product etc. however management must have detailed knowledge of
consequences of each of its actions. If organization increases price of its product there may be a
chance of decline in sales. If it wants to enter in new market or introduce a new product, it may
need extra investment, so organization need to choose the best course of action. Once the best
strategy is being selected it is then implemented. The process of implementing the best course of
action is called decision making. If the chosen strategy does not work in accordance to
anticipation, the process starts again from setting objectives.

SMART criteria for objectives

 Specific – are the objectives well defined and understandable?
 Measurable – can achievement of the objectives be measured so that completion can be
confirmed?
 Attainable – sometime referred to as achievable. Can the objectives set be achieved with the
resources and skills available?
 Relevant – are the objectives relevant for the people involved and to the mission of the
business?
 Timed – are deadlines being set for the objectives that are achievable?
Levels of planning
Strategic planning
'Strategic planning' can also be known as 'long-term planning' or 'corporate planning'. It considers:
• The longer term (five years plus)
• The whole organisation.
Senior managers formulate long-term objectives (goals) and plans (strategies) for an organisation as
a whole. These objectives and plans should all be aiming to achieving the company's mission.
Tactical planning
Tactical planning takes the strategic plan and breaks it down into manageable chunks i.e. shorter
term plans for individual areas of the business to enable the strategic plan to be achieved.
Senior and middle managers make short to medium term plans for the next year.
Operational planning
Operational planning involves making day-to-day decisions about what to do next and how to deal
with problems as they arise.
All managers are involved in day to day decisions.
Control:
It includes Monitoring of actual results and comparing them with objectives. If actual results vary
from objectives management need to give an appropriate response. This response is called
control which is either Feedback or feed forward.
Feedback Control:
Action taken by manager in response to recorded differences between budget and actual
performance. Action may be taken to correct deviation (variance) or revise budget. Feedback
control is reactive it means that the action is taken after the actual results have been recorded.

Feed forward Control:
Action taken by manager in response to differences between current forecast and budget to
bring actual results more in line to budget.it means that feed forward control is revision of
objectives. For example, an organization prepared a budget for full year and results of first
quarter significantly deviated from budget. Management need to reconsider the budget of
remaining three quarters. This is called feed forward control.
Reports for management
Producing useful management information such as a report depends on understanding the
needs of the end user and of the organisation.
The management information system of an organisation is likely to be able to prepare the
following:
• Annual statutory accounts
• Budgets and forecasts
• Product profitability reports
• Cash flow reports
• Capital investment appraisal reports
• Standard cost and variance analysis reports
• Returns to government departments, e.g. Sales Tax returns.
Reports to managers should enable them to manage the resources for which they are
responsible, and give the required level of detail.
If management information does not contain enough detail, it may fail to highlight problems
within the organisation. On the other hand, too much detail may mean that the most
important information is not seen.
Reporting information requires the active co-operation of the following groups.
 End users: managers and supervisors
 The accounts department: which usually processes the information
 The information technology department: which usually sets up and makes changes to
the computer system
Difficulties may arise when these groups fail to communicate effectively or when the system
itself is not flexible enough to respond to changing needs. Information requirements must be
clearly specified.
Management information reports might also show the following.
 Comparisons between planned results (budgets) and actual results
 Year-to-date (cumulative information)
 Comparison of company results and competitor results
 Comparison between current year and previous year's results
 The profitability of a product or service or the whole organisation
 The value of inventories that are still held in store at the end of a period

Sources of Information:
Management gather information from two sources;
 Internal sources
 External sources
Internal Sources includes, accounting records, personal information of employees, production
department records (about material wastage, labour time per unit etc.)
External Sources includes customers, Suppliers, society at large, newspaper, internet etc. When
organization want to use external sources to gather information it has two choices.
It uses the data collected by any other person, organization etc. (secondary data)
It collects data at its own (Primary data)
Benefits and limitations of external sources

Internal information is produced by the company itself so the users are aware of any limitations in
its quality or reliability. External information is not under the control of the organisation – the
users may not be aware of any limitations in its quality.
Benefits
• Wide span of external sources of information
• Easily accessible especially using the internet
• More general information available
• Can source specific information
Limitations
• Data may not be accurate
• Finding relevant information can be time consuming
Primary and secondary data

Primary data is obtained directly from first-hand sources by means of surveys, observation or
experimentation. It is data that has not been previously published and is derived from a new or
original research study and collected at the source such as in marketing. Primary data is any data
which is used solely for the purpose for which it was originally collected.
Secondary data is data that has been collected or researched recently.
Sources of secondary data include the internet, libraries, company reports, newspaper,
governments and banks. The data collected is useful as it allows the researcher to see the other
opinions on their area of study but care must be taken that the data is reliable and accurate.
Secondary data is data that has already been collected for some other purpose but can also be
used for the purpose in hand.
The problem with using secondary data

Primary data (if available) is preferable to secondary data since data collected for a specific
purpose is likely to be better than data acquired for some other purpose. Some of the problems
with secondary data are:
The data has been collected by someone else. There is no control over how it was collected. If a
survey was used, was a suitable questionnaire used? Was a large enough sample taken (was
enough data collected)? Was it a reputable organisation that carried out the data collection?

• Is the data up to date? Data quickly becomes out of date, for example, people’s consumer tastes
change and prices may fluctuate wildly.
• The data may be incomplete. Certain groups of people are sometimes omitted from the
published data. For example, do you know which groups are included in the unemployment
figures?
• What is the data? Is it actual, seasonally adjusted, estimated or a projection?
• The reason for collecting the data may be unknown. Statistics published on motor cars may
include or exclude three wheeled cars, vans and motor caravans. Readers need to know which
categories are included in the data.
Discrete and Continuous data

Discrete data is non-continuous data. Discrete data can only take certain values for example the
number of students taking a course (there wouldn’t be half a student). Discrete data is counted.
Continuous data is unbroken data that has no gaps. Continuous data can take on any value (within
a range) for example time or distance. Continuous data is measured.
Methods of collecting Primary Data:

 Questionnaires
 Interview
o Personal
o Phone Calls
 Observations
 Focus Group Interviews
Sampling techniques
The purpose of sampling is to gain as much information as possible about the population by observing
only a small proportion of that population i.e. by observing a sample.
The term population is used to mean all the items under consideration in a particular enquiry.
A sample is a group of items drawn from that population. The population may consist of items such as
metal bars, invoices, packets of tea, etc; it need not be people.
Random sampling
A simple random sample is defined as a sample taken in such a way that every member of the
population has an equal chance of being selected. The normal way of achieving this is by numbering
each item in the population.
If 10% of a population of 200 is the required sample size then 20 numbers from a table of random
numbers can be taken and the corresponding items are extracted from the population to form the
sample e.g. in selecting a sample of invoices for an audit. Since the invoices are already numbered,
this method can be applied with the minimum of difficulty.
This method has obvious limitations when either the population is extremely large or, in fact, not
known. The following methods are more applicable in these cases.

Systematic sampling
If the population is known to contain 50,000 items and a sample of size 500 is required, then 1 in
every 100 items is selected. The first item is determined by choosing randomly a number between 1
and 100 e.g. 67, then the second item will be the 167th, the third will be the 267th... up to the
49,967th item.
Strictly speaking, systematic sampling (also called quasi-random) is not truly random as only the first
item is selected randomly. However, it gives a very close approximation to random sampling and it is
very widely used.
There is danger of bias if the population has a repetitive structure. For example, if a street has five
types of house arranged in the order, A B C D E
A B C D E... etc, an interviewer visiting every fifth home would only visit one type of house.
Stratified sampling
If the population under consideration contains several well defined groups (called strata or layers),
e.g. men and women, age groups, different sizes of metal bars, etc, then a random sample is taken
from each group. This is done in such a way that the number in each sample is proportional to the size
of that group in the population and is known as sampling with probability proportional to size (pps).
For example, in selecting a sample of people in order to discover their leisure habits, age could be an
important factor. So if 20% of the population are over 60 years of age 65% between 18 and 60 and
15% are under 18, then a sample of 200 people should contain 40 who are over 60 years old,
130 people between 18 and 60 and 30 under 18 years of age, i.e. the subsample should have sizes in
the ratio 20 : 65 : 15.
This method ensures that a representative cross-section of the strata in the population is obtained,
which may not be the case with a simple random sample of the whole population.
This method is often used by auditors to choose a sample to confirm receivables’ balances. In this
case a greater proportion of larger balances will be selected.
Multi-stage sampling
This method is often applied if the population is particularly large, for example in selecting a sample
for a national opinion poll of the type carried out prior to a general election. The process involved
here would be as follows:
Step 1 The country is divided into areas (counties) and a random sample of areas is taken.
Step 2 Each area chosen in Step 1 is then subdivided into towns and cities or boroughs and a random
sample of these is taken.
Step 3 Each town or city chosen in Step 2 is further divided into roads and a random sample of roads
is then taken.
Step 4 From each road chosen in Step 3 a random sample of houses is taken and the occupiers
interviewed
Cluster sampling
This method is similar to the previous one in that the country is split into areas and a random sample
taken. Further sub-divisions can be made until the required number of small areas has been
determined. Then every house in each area will be visited instead of just a random sample of houses.
In many ways this is a simpler and less costly procedure as no time is wasted finding particular houses
and the amount of travelling by interviewers is much reduced.

Quota sampling
With quota sampling the interviewer will be given a list comprising the different types of people to be
questioned and the number or quota of each type e.g. 20 males, aged 20 to 30 years, manual
workers; 15 females, 25 to 35, not working; 10 males, 55 to 60, professional men, etc. The interviewer
can use any method to obtain such people until the various quotas are filled.
This is very similar to stratified sampling, but no attempt is made to select respondents by a proper
random method, consequently the sample may be very biased.
Sampling methods compared

In order to use these alternatives it is often necessary to have some knowledge of the population.
Systematic sampling should not be used if the population follows a repetitive pattern. Quota sampling
must be used with caution. The data collector may introduce bias because they choose how to fill the
quota.
Presenting information
1 Writing reports
The four-stage approach to report writing
When producing written reports, the management accountant needs to carry out four steps.
Prepare
• determine the type of document required: detailed report, short memo, discussion notes, etc.
• establish the user of the information: the type of language used and the level of knowledge
assumed will be largely determined by the end user.
• find out what the report will be used for: the report will often be aimed at providing information to
help management make a decision.
Plan
• select the relevant data: summarise, analyse, illustrate (if appropriate) to turn the raw data into
useful information. This will often involve the use of management accounting techniques.
• produce a logical order for the material.
Write
• determine the writing style that is appropriate.
• take care over spelling, use of language and arithmetic – your meaning must be clear and logical.

Review
• re-read what you have written.
• check that it meets the requirements of the document.
• ensure that it is complete and clear.
Structure of report
• Title – At the top of your report show who the report is to, who it is from, the date and a heading.
• Introduction – showing what information was requested, the work done and where results and
conclusions can be found.
• Analysis – presenting the information required in a series of subsections.
• Conclusion – including, where appropriate, recommendations. Never introduce new material into a
conclusion.
• Appendices – containing detailed calculations, tables of underlying data, etc. If you use appendices
refer to them in your report
2 Tables
Tabulation is the process of presenting data in the form of a table – an arrangement of rows and
columns.
The purpose of tabulation is to summarise the information and present it in a more understandable
way.
Rules of tabulation
The following rules or principles of tabulation should be considered when preparing tables:
(a) Title: the table must have a clear and self-explanatory title.
(b) Source: the source of the material used in drawing up the table should be stated (usually by way of
a footnote).
(c) Units: the units of measurement that have been used must be stated e.g. 000s means that the
units are in thousands.
(d) Headings: all column and row headings should be clear and concise.
(e) Totals: these should be shown where appropriate, and also any subtotals that may be applicable
to the calculations.

(f) Percentages and ratios: these should be shown, if meaningful, with an indication of how they were
calculated.
3 Column, bar and line charts for a single data set (Charts 1-5)
Charts are drawn with two axes, with the independent variable being shown on the x-axis and the
dependent variable shown on the y-axis.
Simple column charts
Charts 1 and 2 are examples of simple column charts. The columns represent the value of the data
vertically and each column will be of a uniform width. Note that the heights of the columns vary to
reflect the data values but the width of each column on a specific graph will be the same. Although
the two charts are the same basic chart type, there are some minor differences in style that are worth
pointing out. Chart 1 shows data for total sales over a five-year period with the years being shown on
the x-axis and the $ amounts on the y-axis. A key or legend is displayed emphasising that the data
relates to Total Sales and while a legend is often included automatically by the charting software it is
not necessary when there is only one data series as long as the chart has an appropriate title. Chart 2
is also a simple column chart but the data relates to one year only and each column represents a
division of the business so the x-axis is not years but the divisions, North, South, East and West. Notice
also that the style of the chart has slightly changed as it is presented in a 3D format, the legend has
been removed and the y-axis scale is in round thousands with the axis label having been changed
appropriately.
Chart 1

Chart 2
Simple bar chart
Chart 3 is an example of a simple bar chart. Bar charts are similar to column charts and are used to
present similar types of information but the data is presented in the form of horizontal bars rather
than vertical columns, so the years are still the independent variables and therefore are still
represented on the x-axis but this is now shown on the vertical axis rather than the horizontal axis.
Chart 3
Simple line graphs
Charts 4 and 5 are simple line graphs. This is a very common style of graph particularly when showing
variation over time. To the reader, these give an indication of moving from one period to the next as
the points are connected and for Charts 4 and 5 this gives a good sense of change and can help the
reader identify a trend. In fact both of these charts show identical data but due to changes in the y-
axis scale, the reader might interpret the information differently.

Chart 4
Chart 5
4 Column, bar and line charts for multiple data sets
Column, bar and line charts can all be used to show multiple data sets provided that the numerical
range of the data is similar. (Note that it is possible to plot two sets of data with significantly different
data values on the same chart but this type of graph is out of the scope of the syllabus).
Charts 6 and 7 show the data for both total sales and total costs plotted on the same chart, with
Chart 6 displaying the data as a column chart and Chart 7 as a line graph. Chart 8 shows the total
sales for each of four divisions for each of the five years 2009–2013. Column/bar charts showing
multiple data sets are sometimes called compound column/bar charts, though Excel uses the term
'clustered'. Note that in all three of these charts the legend or key becomes an important element of
the graph so that the data sets can be distinguished.

Chart 6
Chart 7
Chart 8
5 Component/stacked column and bar charts (Chart 9)
A component column (or bar) chart, also referred to as a stacked chart, highlights not only an overall
total value for multiple time periods (or products, or locations etc), but also provides an analysis of
the components of that total. The total figure is represented by the height of the column (or length of
the bar), and the column or bar is divided into the various components of the total with each
component being identified by different colours, patterns or shading. Pie charts, which will be

discussed later, can also show an analysis of a total by its component parts but this can only be shown
for one period (or product/location etc) at a time.
Chart 9 is an effective example of this type of stacked column chart. The top of the vertical columns
reflect the total sales but the four components shown by the different colours show the changing
composition by division of the total sales over the five-year period. The same information could also
be presented in the form of a stacked bar chart with the data being represented by component
horizontal bars rather than columns.
Chart 9
6 Pie charts (Charts 10 and 11)
A pie chart also shows the breakdown of the components of a total figure but each pie chart can only
show the components of a total for one period (or one product/location etc). To show multiple
periods requires multiple pie charts. In preparing a pie chart the charting software will automatically
calculate the percentage of each component in relation to the total. The percentages are then shown
on a circle or pie with the entire circle representing 100%. This can, of course, be done manually using
a protractor to mark the required number of degrees for each segment. As the full circle is 360
degrees then a component that represents a quarter of the total would be drawn as a 90 degrees slice
on the pie.
Charts 10 and 11 are examples of simple pie charts showing the breakdown of total sales by division
for two years, 2009 and 2013. By comparing the sizes of the slices on the pie (the % values are usually
shown on the pie, though these can be shown outside the pie itself or replaced with absolute values)
these charts clearly communicate the change in the divisional sales relative to each other over this
five year period. Note that there are slight variations in style between the two graphs as the data
labels appear on the pie in Chart 10 but are shown as a legend in Chart 11.

Chart 10
Chart 11
7 100% stacked column or bar charts
Charts 12 and 13 show 100% stacked (or component) column and bar charts respectively and these
provide similar information to that shown in a pie chart as the components of a total can be viewed
but the actual total amounts are shown as 100%. This provides similar information to what could be
achieved by producing five separate pie charts. Although percentages may not be automatically
shown for each component for this type of chart, there is usually an option to allow these percentages
to be displayed on the columns or bars.
Chart 12

Chart 13
8 Scatter diagram or XY chart (Charts 14 and 15)
Scatter diagrams can be used to plot two sets of numbers as one series on the chart with one number
becoming the x coordinate and the second number becoming the y coordinate. The scatter diagram
has two numerical axes representing two variables.
The data provided in the table below has been used to create a scatter diagram showing the
relationship between output levels and total costs. Output levels vary each month but some months
have the same output level but different costs.
This information has been presented in Chart 14 as a scatter diagram. Notice that the points may be
clustered around a particular output level. The scatter diagram points can be used to estimate a trend
and a trend line, or line of best fit, can be added to the chart to provide useful information for
forecasting as shown in Chart 15.

Chart 14
Chart 15

Qualities of Good Management Information:
Quality Example
A Accurate Figures should add up, the degree of rounding should be appropriate,
there should be no mistakes.
C Complete Information should include all relevant information – information
that is correct but excludes something important is likely to be of
little value. For example external data or comparative information
may be required.
C Cost-beneficial It should not cost more to obtain the information than the benefit
derived from having it.
U User-targeted The needs of the user should be borne in mind, for instance senior
managers may require summaries.
R Relevant Information that is not relevant should be omitted.
A Authoritative The source of the information should be reputable and reliable.
T Timely The information should be available when it is needed.
E Easy to use Information should be clearly presented, not excessively long, and
sent using the right communication channel (email, telephone,
intranet, hard
-copy report etc).

Financial Accounting Vs. Management Accounting:
Financial accounts Management accounts

Financial accounts are prepared primarily Management accounts can be
for external use and detail the performance generated for any period of time, (eg
of an organisation over a defined period and hourly, daily, weekly) and are used to
the state of affairs at the end of that period. aid management plan and control
the organisation's activities and to
help the decision-making process.
Limited companies must, by law, prepare There is no legal requirement to
financial accounts. prepare management accounts.
Financial accounts Management accounts
The format of published financial accounts The format of management accounts

is determined by law and by accounting is entirely at management discretion:
standards. In principle the accounts of no strict rules govern the way they
different organisations can therefore be are prepared or presented. Each
easily compared. organisation can devise its own
management accounting system and
format of reports.
Financial accounts concentrate on the Management accounts can focus on

business as a whole, aggregating revenues specific areas of an organisation's
and costs from different operations, and are activities.
an end in themselves. Information may be produced to aid
a decision rather than to be an end
product of a decision.
Most financial accounting information is of Management accounts incorporate
a monetary nature. non- monetary measures.
Management may need to know, for
example, tons of aluminium
produced, monthly machine hours, or
miles travelled by salesmen.
Financial accounts present an essentially Management accounts are both an
historic picture of past operations. historical record and a future
planning tool.

Cost accounting vs Management accounting

Cost accounting is that branch of accounting which aims at generating information to control
operations with a view to maximizing profits and efficiency of the company, that is why it is also
termed control accounting. Conversely, management accounting is the type of accounting which
assist management in planning and decision-making and thus known as decision accounting.
BASIS OF
COMPARISON
Meaning The recording, classifying and The accounting in which both financial
summarising of cost data of an and non-financial information are
organisation is known as cost provided to managers is known as
accounting. Management Accounting.
Information Type Quantitative. Quantitative and Qualitative.
Objective Ascertainment of cost of Providing information to managers to

production. set goals and forecast strategies.
Scope Concerned with ascertainment, Impart and effect aspect of costs.

allocation, distribution and
accounting aspects of cost.
Specific Yes No
Procedure
Recording Records past and present data It gives more stress on the analysis of
future projections.
Planning Short range planning Short range and long range planning
Interdependency Can be installed without Cannot be installed without cost

management accounting. accounting.

Financial Vs. Non-Financial Information
Financial Non-Financial
Financial Information has monetary value Non-Financial information does not have
Monetary value
Wages of employees No of Hours required per unit
Sales Price Sales in Units
Cost Per unit No of units produced
Role of Trainee Accountant:
 Calculation of cost of production cost of department and revenue.

 Valuation of inventory i.e. Material, WIP and finished goods.
 Overhead absorption rates and profitability of product
 Future cost of goods & services
 Variance calculation
 Performance statements
 Budget Cycle
Note keep a key point in mind that trainee accountant does not have powers for decision making

Exercise
Q 1 Which of the following qualities is not necessarily a quality of good information?
A. It should be relevant
B. It should be understandable
C. It should be worth more than it costs to produce
D. It should be available quickly
Q 2 Information can be described as:
A. Data that consists of facts and statics before they have been processed
B. Data that consists of number, letters, events and transactions which have been
recorded but not yet processed into a form that is suitable for making decisions.
C. Facts that have been summarized but not yet processed into a form that is suitable
for making decisions
D. Data that has been processed in such a way that it has a meaning to the person
who receives it, why may them use it to improve the quality of decision making
Q 3 Which of the following is not a purpose of management information in a company?
A. To provide records of current and actual performance
B. To compare actual performance with planned performance
C. To help management with decision making
D. To inform customers about the company’s products
Q 4 Which of the following is not correct?
A. Cost accounting can be used for inventory valuation to meet the requirements of
internal reporting only
B. Management accounting provides appropriate information for decision making
C. Routine information can be used for both shirt-term and long-term decisions
D. Financial accounting information can be used for internal reporting purposes
Q 5 Which of the following are all qualities of good management information?
A. Digital, brief, relevant
B. Reliable, consistent, timely
C. Secure, accurate, printed
D. Accessible, universal, complete
Q 6 Which of the following statements is incorrect?
A. Management accounting reports are more accurate than financial accounting
statements
B. Management accounting reports are more detailed than financial accounting
statements
C. Management accounting reports are more frequent than financial accounting
statements
D. Management accounting reports are more disclosed to shareholder and investors

Q 7 Which of the following is always a quality of good information?

A. Immediate available
B. Availability to everyone
C. Reliable
D. Technically accurate
Q 8 Which one of the following statements is correct?
A. Data is held on computer in digital from whereas information is in a form that is
readable to human beings
B. Information is obtained by processing data
C. Data and information mean the same thing
D. Data consists of numerical or statistical items of information
Q 9 Which of the following item of information might be produced by a management
accounting system?
A. Income tax deducts from employees’ wages and salaries
B. Amounts of money owed to suppliers
C. Current bank balance
D. Profitability of product item
Q 10 Which of the following is an example of external information that could be used in a
management accounting system?
A. Consumer price index number
B. Price list for the products sold by the business
C. Production volume achieved by the production department
D. Discounts given to customers
Q 11 Which of the following is not management accounting information?
A. Sales budget
B. Variance report
C. Payroll report
D. Profitability report
Q 12 Which of the following items would be included in the financial accounting system but
not in the management accounting system?
A. Sales commissions payable to sales representatives
B. Costs of repairs to the officer air conditioning system
C. Profits paid out in dividends to the business owners
D. Direct labour costs
Q 13 Why management information is is valuable for decision making?
A. It enable management to make the correct decision
B. It helps management to reach a more informed decision
C. It can be used to judge whether the decision taken by management was correct
D. It enables managers to make decisions more quickly

Q 14 Which of the following would be classified as data?

A. Number of purchase requisitions
B. Analysis of wages into direct and indirect costs
C. Table showing variance from budget
D. Graph showing the number of labour hours worked
Q 15 Which of the following are primary data?
1) Information on timesheet used for making up wages
2) Information from a government publication concerning forecast inflation rates
used for budgeting
3) Information from a trade publication used to chose a supplier of raw materials
A. 1 and 2
B. 1 and 3
C. 1 only
D. 1,2 and 3
Q 16 Which of the following is a feature of financial accounting information?
A. It is used to calculate the cost of a product or service
B. Limited companies are required by law to prepare this information
C. It is concerned with future results as well as historical information
D. The benefit must exceed the cost and it must be relevant for purpose
Q 17 What is the scientific term for facts, figures and information?
A. Consultancy
B. Data
C. Referencing
D. Statistics
Q 18 Which of the following is true with regard to management information?
A. It is the same as operating system
B. It must be produced by a computer
C. It should be completely accurate, regardless of cost
D. It should be produced if its cost is less than the increased revenue to which it leads
Q 19 Which one of the following is an example of internal information for the wages
department of a large company?
A. A code of practice issued by the institute of Directors
B. Anew national minimum wage
C. Changing to tax coding arrangements issued by the tax authorities
D. The company’s employees’ schedule of hours worked

Q 20 Which one of the following would be included in the financial accounts, but may be
excluded from the cost accounts?
A. Blank interest and charges
B. Depreciation of store –room handling equipment
C. Direct material costs
D. Factory manager’s salary
Q 21 Which of the following is an example of external information?
A. Idle time reports
B. Sales price lists
C. Health and safety regulations
D. Accident at work reports
Q 22 Which of the following is not necessarily a quality of good management information?
A. Timeliness
B. Relevance
C. Understandability
D. Prudence
Q 23 Which of the following is none-financial information?
1) Customer preferences
2) Trends
3) Seasonal change
4) Creditors
A. Only 1and2 above
B. 1,2 and3 above
C. Only 4 above
D. All of them
Q 24 Comparison between actual and budgeted costs will help the management in which of
the following areas?
A. Control
B. Planning
C. Implementing
D. Decision making
Q 25 Which of the following about management information is false?
1) It includes both financial and none-financial information
2) It is used for both internal and external reporting
3) It considers only the past data
A. Statement 1 and 3 only
B. Statement 2 and 3 only
C. Statement 2 only
D. All 3 statements are false

Q 26 Which one the following is NOT a purpose of management info in a company?

A. to provide record of current and actual performance
B. to compare actual performance with planned performance
C. to help management with decision making
D. to inform customers about the company’s products
Q 27 A marketing manager receives a sales report in the first week of April, July, October and
January which shows the actual sales of each product by market sector for each of the
previous months. The marketing manager reviews the company’s advertising monthly.
Which attribute of the information provided by the sales report is unsatisfactory from the
marketing manager’s prospective?
A. Its reliability
B. Its completeness
C. Its timeliness
D. Its accuracy
Q 28 Which of the following is an external source of information?
A. A report prepared by the sales manager at the request of the managing director
B. A commercially available report prepared by the market research company
C. Personal development plans updated as a result of conducting appraisals
D. An aged debtor’s analysis report prepared by credit control department
Q 29 The management accountant compares the profitability of two products, P and Q and
concludes that P is the best product to make. He writes a report of his findings for the
board of directors. This report will primarily aid management in:
A. Decision-making
B. Planning
C. Controlling
D. Implementing
Q 30 Non-financial managers are likely to experience problems in understanding and
interpreting management accounting reports.
Which of the following statement is the least appropriate method of dealing with this
problem?
A. Highlight and explain any unusual items in the report.
B. Discuss with users the most appropriate form of report.
C. Include clear graphics and charts, and ensure that the narrative is as simple as
possible.
D. Ensure that only individuals with some accounting knowledge are appointed to
management positions.

Q 31 Which of the following will improve the communication of information in an

organization?
A. Duplicating reports as a standard procedure
B. Removing unnecessary information from the computer system
C. Staff training when a new computer system is installed
D. Documents presented in a format which meet the needs of the reader
Q 32 Which of the following would be classified as financial information?
A. The drawings for the new office block
B. An employee’s appraisal record
C. A company’s expansion plan
Q 33 Which of the following could be considered to be a limitation of cost and management
accounting information?
A. Affected by changing prices over time
B. Includes non-financial as well as financial information
C. Produced periodically
D. Produced in the format required by management
Q34 Monthly variance reports are an example of which one of the following types of
management information?
A Tactical B Strategic
C Planning D Operational
Q35 Which of the following statements are correct?
(1) Strategic information is mainly used by senior management in an organisation
(2) Productivity measurements are examples of tactical information
(3) Operational information is required frequently by its main users
A 1 and 2 only B 1 and 3 only
C 2 and 3 only D 1, 2 and 3
Q36 The following statements relate to financial accounting or to cost and

management accounting:
(1) The main users of financial accounting information are external to an organisation
(2) Cost accounting is part of financial accounting and establishes costs incurred by an
organisation
(3) Management accounting is used to aid planning, control and decision making

Which of the statements are correct?
Q37 Which of the following is an initial requirement of a management control

system?
A Establishing the standard to be achieved
B Measuring the actual performance
C Setting organisational objectives
D Taking appropriate corrective action
Q38 The following statements refer to strategic planning:
(1) It is concerned with quantifiable and qualitative matters
(2) It is mainly undertaken by middle management in an organisation
(3) It is concerned predominantly with the long term
Which of the statements are correct?
Q39 Which one of the following is a common feature of cost accounting but not
financial accounting?
A Control accounts B Cost classification
C Cost unit D Periodic stocktaking
Q40 The following descriptions relate to management information:
(1) Clear to the user
(2) Detailed and completely accurate
(3) Provided whatever the cost
(4) Relevant for purpose

Which of the above are necessary features of useful management information?
C 2 and 4 only D 1, 2 and 3 only
Q41 What is the purpose of management information?
A Planning only
B Planning and control only
C Planning, control and decision-making only
D Planning, control, decision-making and research and development
Q42 Which of the following only contains essential features of useful management
information?
A Accurate, clear, presented in report format
B Timely, reliable, supported by calculations
C Regular, complete, communicated in writing
D Clear, accurate, relevant for its purpose
Q43 Which of the following describes the control process?
A The action of monitoring something to keep it on course
B The choice between alternatives
C The development of strategies to achieve objectives
D The establishment of a plan for a future period
Q44 The following statements relate to management information:
(1) It should always be provided regardless of its cost
(2) It is data that has been processed in such a way as to be meaningful to the person who receives it
(3) It should not be provided until it is as detailed and accurate as possible
Which of the above statements is/are true of good management information?

A 1 only B 2 only
C 1 and 3 only D 2 and 3 only
Q45 Which of the following are characteristics of management accounting

information?
(1) Non-financial as well as financial
(2) Used by all stakeholders
(3) Concerned with cost control only
(4) Not legally required
C 1, 2 and 3 only D 2, 3 and 4 only
Q46 Which of the following statements about cost and management accounting are
true?
(1) Cost accounting cannot be used to provide inventory valuations for external
financial reporting
(2) There is a legal requirement to prepare management accounts
(3) The format of management accounts may vary from one business to another
(4) Management accounting provides information to help management make business

decisions
C 2 and 3 only D 3 and 4 only
Q47 Which of the following are characteristics of management accounting

information?
(1) Forward looking
(2) Legally required
(3) Concerned with cost control
(4) Follows clearly defined standards

C 1, 3 and 4 only D 1, 2 and 3 only
Q48 The following descriptions relate to features of management information:
(1) Communicated in writing
(2) Presented in report format
(3) Supported by calculations
(4) Timely and clear to the user
Which of the above are necessary features of useful management information?
A 4 only B 2 and 3 only
C 1 and 4 only D 1, 2 and 3 only
Q49 The following statements relate to management information:
Statement 1: Management information should have some value otherwise it would

not be worth the cost of collecting and communicating it.
Statement 2: Management information only needs to be accurate enough for its

purpose.
Are the statements TRUE or FALSE?
Statement 1 Statement 2
A True True
B True False
C False True
D False False
Q50 Which of the following statements concerning management information is/are

correct?
(1) A user of management information should have all the information he needs to do his job properly
(2) A management information report must be relevant for a variety of purposes
(3) A management information report should contain a lot of detail to ensure complete accuracy

A 1 only B 1 and 2 only
C 2 and 3 only D 3 only
Q51 The following statements relate to management accounting compared to

financial accounting:
(1) Management accounting is a legal requirement
(2) Management accounting information is usually more detailed than financial accounting
(3) Management accounts can only use the FIFO or weighted average methods of inventory valuation
(4) Management accounts can be prepared using either marginal or absorption costing
Which statements are TRUE?
A 1 and 2 B 1 and 3
C 2 and 3 D 2 and 4
Q52 Which of the following would best present how an organisation spent its
income for one year?
A Line graph
B Bar chart
C Pie chart
D Scatter diagram
Q53 Which of the following would best present the number of manufacturing
companies in different areas of the country over time?
A Compound bar chart B Line graph
C Pie chart D Scatter graph
Q54 Which of the following would best present monthly sales revenue over a year?
A Bar chart B Line graph
C Pie chart D Scatter diagram

Q55 Which of the following would most usefully present information about a
company’s sales of air-conditions according to daily temperature?
A Bar chart B Line graph
C Pie chart D Scatter diagram
Q56 The following statements relate to pie charts:
(1) They are a graphical representation of relative frequency of quantitative data
(2) Comparisons can be made more accurately with pie charts than with bar charts
(3) The area of each segment is proportional to the percentage it represents
Which statements are true?
Q57 A group of 60 trainee accountants were asked about their favourite sport. They
chose as follows:
Rugby 15
Cricket 12
Swimming 12
Basketball 11
Athletics 10
The data is to be presented in a pie chart.
What will be the angle of the segment which represents rugby?
A 15 B 60
C 90 D 120

Q58 A company’s sales in the last year in its three different markets were as follows:
Market 1 75,000
Market 2 60,000
Market 3 45,000
–––––––
Total 180,000
–––––––
In a pie chart representing the proportion of sales made by each region what would be the angle of
the section representing Market 3 (to the nearest whole degree)? _____ degrees
Q59
The following statements have been made about the information shown by the chart:
(1) Total revenue was higher in Year 2 than in Year 1
(2) Revenue from White was higher than revenue from each of the other two brands in both years

(3) Revenue from Enviro was higher in Year 2 than in Year 1
Which statements are TRUE?
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Q60 Total revenues for a company for the most recent financial year were $1,000
million. These have been presented in the following pie chart, analysed by
geographic region:
The angle of the section relating to Africa is 54 degrees.
What was the revenue from Africa?
A $150 million B $300 million
C $540 million D $600 million
Q61 A cost accountant needs to ascertain whether energy costs in the factory are
variable or semi variable. For each working day last week, he recorded daily output
and the associated energy cost for the day. He has plotted the values on the
diagram below, where the horizontal axis shows each day’s output in units and the
vertical axis shows the total energy cost for the day.

Which of the following describes the diagram?
A Scatter diagram
B Line graph
C Bar chart
D Component bar chart
Q62 Which sampling method selects items from identifiable sub-populations?
A Cluster
B Multi-stage
C Simple random
D Stratified
Q63 Which of the following selection methods provide a sample which is

representative of a population?
(1) Cluster
(2) Multi-stage
(3) Quota sampling

(4) Simple random
A 1 and 3 only
B 1 and 4 only
C 2 and 3 only
D 2 and 4 only
Q64 Which of the following is an example of a cluster sample?
A Selecting every 20th entry in a membership listing
B Taking the name of every company listed in a business telephone directory
C Selecting every entry in a telephone directory with the same postal or zip code
D Generating a list of numbers by random numbers and matching them to entries in a

trade directory
Q65 A publishing company is conducting research into the nation’s reading habits. It
randomly selects a number of locations from around the country and then
interviews everyone who lives in these locations.
What is this approach to sampling known as?
A Cluster sampling
B Quota sampling
C Stratified sampling
D Systematic sampling
Q66 The following statements relate to stratified random sampling:
(1) Every item in the population has an equal chance of being selected
(2) The sample proportionately represents items in different sub-populations
(3) The sample is more representative of the target populations than the accessible
population
Which of the statements, if any, is true?
A 1 only

B 2 only
C 3 only
D None of them
Q67 Which sampling method would be used to test the proportion of people who
smoke cigarettes in different age groups?
A Stratified sampling
B Random sampling
C Systematic sampling
D Cluster sampling

Chapter 2 Cost classification
Cost unit
Unit of product or service in relation to which costs are ascertained.
This means that a cost unit can be anything for which it is possible to ascertain the cost. The cost unit
selected in each situation will depend on a number of factors, including the purpose of the cost
ascertainment exercise and the amount of information available
Industry sector Cost unit
Brick-making 1,000 bricks
Electricity Kilowatt-hour (KwH)
Professional services Chargeable hour
Education Enrolled student
Activity Cost unit
Credit control Account maintained
Selling Customer call
Composite cost units

The cost units for services are usually intangible and they are often composite cost units, that is, they
are often made up of two parts. For example, if we were attempting to monitor and control the costs
of a delivery service we might measure the cost per tonne delivered. However, ‘ tonne delivered ’
would not be a particularly useful cost unit because it would not be valid to compare the cost per
tonne delivered from London to
Edinburgh with the cost per tonne delivered from London to Brighton. The former journey is much
longer and it will almost certainly cost more to deliver a tonne over the longer distance.
Business Cost unit
Hotel Bed night
Bus company Passenger mile
Hospital In-patient day

Cost objects
A cost object is any activity for which a separate measurement of cost is undertaken.
Examples of cost objects:
• cost of a product
• cost of a service
• cost of running a department
• cost of running a regional office
Cost cards
A cost card is used to show the breakdown of the costs of producing output based on the
classification of each cost. A cost card can be produced for one unit or a planned level of production.
The following costs are brought together and recorded on a cost card: direct materials
• direct labour
• direct expenses
• prime cost (total direct costs)
• variable production overheads
• fixed production overheads
• non-production overheads.
Classification of costs
Classification can be defined as arrangement of items in logical groups by nature, purpose or
responsibility ’
Classification of costs in elements

This means grouping costs according to whether they are materials, labour or expense cost.
Material costs
It includes the cost of obtaining the materials and receiving them within the organisation. The cost of
having the materials brought to the organisation is known as carriage inwards.

Labour costs
Those costs incurred in the form of wages and salaries, together with related employment costs. In
the United Kingdom, there is an additional cost borne by the employer in respect of employees which
is paid to the government: this is called National Insurance. These costs are documented internally,
the amount of the wages and salary costs being determined by reference to agreed rates of pay and
attendance time and output measures, depending on the method of remuneration being used.
Overheads
Expense costs are external costs such as rent, business rates, electricity, gas, postages, telephones
and similar items which will be documented by invoices from suppliers.
Classification of costs according to their purpose/nature
Direct cost
A direct cost is one that can be clearly identified with the cost object we are trying to cost. In other
words direct cost can easily be calculated per unit. For example, suppose that a furniture maker is
determining the cost of a wooden table. The manufacture of the table has involved the use of timber,
screws and metal drawer handles. These items are classifi ed as direct materials. The wages paid to
the machine operator, assembler and finisher in actually making the table would be classified as
direct labour costs. The designer of the table may be entitled to a royalty payment for each table
made, and this would be classified as a direct expense.
Indirect cost or overheads

Other costs incurred would be classifi ed as indirect costs. They cannot be directly attributed to a
particular cost unit, although it is clear that they have been incurred in the production of the table.
Examples of indirect production costs are as follows:
Cost incurred Cost classification
Lubricating oils and cleaning materials Indirect material
Salaries of supervisory labour Indirect labour
Factory rent and power Indirect expense
Exercise
State whether each of the following costs would be a direct cost or an indirect cost of the quality
control activity which is undertaken in a company’s factory.
● The salary of the quality control supervisor.
● The rent of the factory.

● The depreciation of the quality testing machine.
● The cost of the samples destroyed during testing.
● The insurance of the factory.
Note
Indirect materials are those production materials that do not actually become part of the finished
product. This might include the cleaning materials and lubricating oils for the machinery. The
machines must be clean and lubricated in order to carry out production, but it will probably not be
necessary to spend more on these materials in order to manufacture a further batch. This cost is
therefore only indirectly related to the production of this batch.
Indirect labour is the production labour cost which cannot be directly associated with the production
of any particular batch. It would include the salaries of supervisors who are overseeing the production
of hairdryers as well as all the other products manufactured in the factory.
Indirect expenses are all the other production overheads associated with running the factory,
including factory rent and rates, heating and lighting, etc. These indirect costs must be shared out
over all of the batches produced in a period.
Selling and distribution overhead includes the sales force salaries and commission, the cost of
operating delivery vehicles and renting a storage warehouse, etc. These are indirect costs which are
not specifically attributable to a particular cost unit.
Administration overhead includes the rent on the administrative office building, the depreciation of
office equipment, postage and stationery costs, etc. These are also indirect costs which are not
specifically attributable to a particular cost unit.
Classification of costs according to their behavior
Fixed cost
Cost incurred for an accounting period, that, within certain output or turnover limits, tends to be
unaffected by fluctuations in the levels of activity (output or turnover). Fixed cost is also called
periodic cost. Fixed cost remains constant in total but decreases per unit with increase in activity level
and increases per unit with decrease in activity level. Examples of fixed costs are rent, rates, insurance
and executive salaries.
Stepped fixed cost

Fixed cost remains constant up to certain level of activity. Consider, for example, the behaviour of the
rent cost. Within the relevant range it is possible to expand activity without needing extra premises

and therefore the rent cost remains constant. However, if activity is expanded to the critical point
where further premises are needed, then the rent cost will increase to a new, higher level.
Variable cost
Cost that varies with a measure of activity. Variable cost remains constant per unit but increases in
total with increase in activity level and decreases in total with decrease in activity level.

Semi-variable or semi fixed cost cost

‘Cost containing both fixed and variable components and thus partly affected by a change in the level
of activity. Examples of semi-variable costs are gas and electricity. Both of these expenditures consist
of a fixed amount payable for the period, with a further variable amount which is related to the
consumption of gas or electricity

How to determine nature of cost

 If cost per unit remains constant per unit it is variable cost. If it increases or decreases in total
with change in activity level it is either variable or Semi variable
 If cost remains constant in total it is fixed cost. If it changes per unit with change in activity
level it is either fixed or semi variable
 If cost changes both per unit and in total with change in activity level it is semi variable.
The high/low method used for separating a semi-variable cost

𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡 = 𝑇𝑜𝑡𝑎𝑙 𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡 + 𝑇𝑜𝑡𝑎𝑙 𝑣𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡
𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡 = 𝑇𝑜𝑡𝑎𝑙 𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡 + (𝑈𝑛𝑖𝑡𝑠 × 𝑣𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡)
𝑌 = 𝑎 + 𝑏𝑥
Case 1
Units/Activity level Total cost
1000 6000
2000 9000
Find
1. Variable cost per unit

2. Total fixed Cost
3. Total cost of producing 1800 units
Case 2
600 4500
2000 9000
800 6500
2200 9500
1200 7800
Find

2. Total fixed Cost
Case 3
1000 6000
2000 10000

Fixed cost increased by 1000 after activity level of 1500 units
Find

2. Total fixed Cost
Case 4
1000 6000
2000 9300
Fixed cost increased by 10% after activity level of 1500 units
Find

2. Total fixed Cost
Case 5
1000 6000
2000 9600
Variable cost increased by 10% after activity level of 1500 unit and this increase applied to all units
Find

2. Total fixed Cost
Case 6
1000 6000
2000 9150

Variable cost increased by 10% after activity level of 1500 unit and this increase applied to additional
units only.
Find

2. Total fixed Cost
Classification by function
Production costs
Production costs are costs that relate to the manufacture of a product or provision of a service. These
cost as are found in the cost of sales section of the statement of profit or loss.
Production costs, such as direct materials, direct labour, direct expenses and production overheads,
are included in the valuation of inventory.
Non-production costs
Non-production costs are costs that are not directly associated with the production of the businesses
output.
Non-production costs, such as administrative costs, selling costs and finance costs, are charged to the
statement of profit or loss as expenses for the period in which they are incurred. Non-production costs
are not included in the valuation of inventory.
Note:
Prime cost = Direct material + Direct labour+ other direct cost
Conversion cost = Direct labour + Production overheads
Cost of production = Direct material + Direct labour+ other direct cost+ Production overheads
Total cost = Cost of production + Non Production overheads
Non production overheads include admin overheads and selling or distribution overheads
Relevant costs and revenues

Not all information produced by an accounting system is relevant to the decisions made by
management. In particular, information produced mainly for financial reporting purposes and then
taken as the basis for management decisions will often need significant modification to be useful to
management.

The principle here is that the figures presented to assist in management decision-making are those
that will be affected by the decision, i.e. they should be:
Future – costs and revenues that are going to be incurred some time in the future. Costs that have
already been incurred are known as sunk costs and are not relevant to the decision to be made.
• Incremental – the extra cost or revenue that is created as a result of a decision taken.
• Cash flows – actual cash being spent or received not monetary items that are produced via
accounting convention e.g. book or carrying values, depreciation charges.

Questions
Q 1 Prime cost comprises:
A. All variable costs
B. Direct labour and material only
C. Direct labour, direct material and direct expense
D. Direct labour, direct material and production overhead
Q 2 A semi-variable cost is one that:
A. Increase in direct proportion to output
B. Remains constant irrespective of the level of output
C. Contains an element of both fixed and variable cost
D. Increases throughout the year
Q 3 Which of cost listed below is not a fixed cost?
A. Insurance
B. Business rates
C. Depreciation – based on straight-line method
D. Materials used in production
Q 4 Production overhead comprises:
A. Variable overhead only
B. Indirect labour, indirect materials and indirect expenses related to production activity
C. Indirect expenses only
D. Indirect labour and material related to the production activity
Q 5 A direct cost is:
A. A cost which cannot be influenced by its budget holder
B. Expenditure which can be economically identified with a specific cost unit
C. Cost which needs to be apportioned to a cost centre
D. The highest
Q 6 A factory makes wooden chairs. Which of the following items would be most likely to behave
as stepped costs?
A. Wood used to make chairs
B. Factory supervisors’ salaries
C. Heating and light costs
D. Staples to fix the fabric to the seat of the chair

Q 7 For operational purposes, for a company operating a fleet of delivery vehicles, which of the
following cost units would be most useful?
A. Cost per mile run
B. Cost per driver hour
C. Cost per ton mile
D. Cost per kilogram carried
Q 8 Which of the following is direct expense?
A. Materials used on production
B. Special tools for job 721
C. Power
D. Deprecation
Q 9 Hockey skill manufactures hockey sticks. A summary of some cost heading include:
a. Wood used as raw material
b. Rubber covers for handles
c. Deprecation
d. Power
e. Sales manager’s salary
f. Labour in assembly department
g. Oil and greases
h. Telephone and postage
i. Insurance of plant
j. Supervisory labour
The items classified as production overhead would be:
A. A, f, d and e
B. c, d, g, i, and j
C. e, h, i, and j
D. a, b, c, d, and f
Q 10 A small engineering company that makes generators specifically to customers’ own designs
has had to purchase some special tools for a particular job. The tools will have no further use
after the work has been completed and will be scrapped.
The cost these tools should be treated as:
A. Variable production overhead
B. Fixed production overheads
C. Indirect expenses
D. Direct expenses

Q 11 Which of the following statements is correct about costs in a manufacturing business?

A. A fixed cost per unit is the same at all levels of output
B. The fixed cost per unit falls as output increase, at a constant rate
C. The fixed cost per unit falls as output increase, at a decline rate
D. The fixed cost per unit falls as output increase, at an increasing rate
Q 12 Which of the following is most likely to be treated as an indirect cost by a house builder?
A. Nails and screws
B. Windows
C. Bricks
D. Electricity cables
Q 13 What is the full production cost per unit of a manufactured product?
A. Direct material cost plus direct labour cost per unit
B. Prime cost plus production overhead cost per unit
C. Prime cost plus variable production overhead per unit
D. Production overhead cost per unit
Q 14 Which one of the following statement is true?
A. Heating costs are a variable cost because they differ according to the season of the
year
B. A semi-variable cost is fixed for a certain level of activity and then changes to a new
fixed level
C. The fixed cost per unit of output decreases as output increases
D. Total variable costs are constant at all level of output
Q 15 The following costs are recording for different levels of production:
Period 1 Period 2
Period 3
Costs $1,400 $1,600 $1,600
Units of production 200 300 400
This cost could be classified as:
A. Fixed
B. Variable
C. Semi-variable
D. Stepped
Q 16 Which of the following cost would be classified as an indirect cost?
A. Flour of baking bread
B. Invoice for icing a wedding cake
C. Wages cost of baker
D. Depreciation of ovens

Q 17 Which one of the following cost would be classified as direct labour?

A. Personnel manager in a company servicing cars
B. Bricklayer in a construction company
C. General manager in a DIY shop
D. Maintenance manager in a company producing cameras
Q 18 Which one of the following cost would be classified as indirect labour?
A. Assembly workers in a firm that manufactures digital video records
B. A stores assistant in a factory stores
C. A plasterer in a building construction firm
D. An audit clerk in a firm of auditors
Q 19 Which one of the following items of cost can be treated as a sales and distribution overhead
expense within a manufacturing business?
A. Cost of after-sales to customers
B. Telephone charges
C. Cost of building insurance
D. Warehouse rental for storage of raw materials
Q 20 The annual costs of supervision in a department are estimated to be $40,000 if hours
worked in the department are less than 32,000 each years, $65,000 if hours worked are
between 32,000 and 50,000 and $80,000 if hours worked are over 50,000 in the year.
These costs are an example of:
A. A semi-fixed cost
B. A fixed cost
C. A step cost
D. A variable cost
Q 21 What is cost classification?
A. Analysis cost into logical groups according to their common characteristics
B. Apportioning costs to cost centres
C. Charging a fair proportion of the total cost to cost units
D. Allotment of whole items of cost to cost centres or cost units
Q 22 Which of the following describes a cost unit?
A. A method of overhead absorption
B. A location to which costs can be allocated and apportioned
C. A unit of output
D. The cost of a unit of output

Q 23 Brit limited currently pays $1 per item to a distribution company for delivery of its goods to
customers. Brit limited has now decided to opt for a new contract where it will pay $1,800 per
period to have all of its items delivered regardless of how many there are:
What will happen to Brit Limited’s costs as a result for this change?
A. Fixed costs will fall and the variable costs will rise
B. Fixed cost and variable costs will both decrease
C. Fixed costs and variable costs will both increase
D. Fixed costs will rise and the variable costs will fall
Q 24 A particular cost is classified as being ‘semi-variable’.
What will happen to the cost per unit if activity reduces by 8%?
A. It will increase
B. It will reduce by 8%
C. It will remain constant
D. None of the above
Q 25 One of the costs incurred by a company is a variable cost.
What is the effect on variable cost per unit if activity is increased by 40%?
A. Increase by 40%
B. Decrease by 40%
C. Impossible to tell from the information given
D. No changes
Q 26 A particular cost is described as fixed in total for a period.
If activity doubles within the same capacity limits, what happens to the fixed cost per unit?
A. It remains constant
B. It doubles
C. It halves
D. None of these
Q 27 The cost accountant has analysed expected overhead costs as follows:
Variable overheads $4.60 per unit of output
Fixed overhead $34,600 per period
Prime costs $9.60 per unit of output
What would be the expected total costs for output of 14,700 units in a period?
A. $208,200
B. $123,700
C. $243,340
D. $67,500

Q 28 The total cost for each type at two different production levels is:
Cost type Total cost for 125 units Total for 180 units
$ $
T1 1,000 1,260
T2 1,750 2,520
T3 2,475 2,826
T4 3,225 4,644
Which two cost types would be classified as being semi-variable?
A. T1 and T3
B. T1 and T4
C. T2 and T3
D. T2 and T4
Q 29

Q 30 A linear variable cost – when the vertical axis represents cost incurred.
(A) Graph 1
(B) Graph 2
(C) Graph 4
(D) Graph 5
Q 31 A fixed cost – when the vertical axis represents cost incurred.
(A) Graph 1
(B) Graph 2
(C) Graph 3
(D) Graph 6
Q 32 A linear variable cost – when the vertical axis represents cost per unit.
(A) Graph 1
(B) Graph 2
(C) Graph 3
(D) Graph 6

Q 33 A semi-variable cost – when the vertical axis represents cost incurred.
(A) Graph 1
(B) Graph 2
(C) Graph 4
(D) Graph 5
Q 34 A step fixed cost – when the vertical axis represents cost incurred.
(A) Graph 3
(B) Graph 4
(C) Graph 5
(D) Graph 6
Q 35
Q 36 The variable production cost per unit of product B is £2 and the fixed production
overhead for a period is £4,000. The total production cost of producing 3,000 units of B in a
period is £

Q 37 Spotless Limited is an office cleaning business which employs a team of part-time

cleaners who are paid an hourly wage. The business provides cleaning services for a number of
clients, ranging from small offi ces attached to high-street shops to large open-plan offi ces in
high-rise buildings.
In determining the cost of providing a cleaning service to a particular client, which of the following
costs would be a direct cost of cleaning that client’s office and which would be an indirect cost?
(a) The wages paid to the cleaner who is sent to the client’s premises
(b) The cost of carpet shampoo used by the cleaner
(c) The salaries of Spotless Ltd’s accounts clerks
(d) Rent of the premises where Spotless Ltd stores its cleaning materials and equipment
(e) Travelling expenses paid to the cleaner to reach the client’s premises
(f) Advertising expenses incurred in attracting more clients to Spotless Ltd’s business
Q 38 A company manufactures and retails clothing.
When determining the cost of units produced, you are required to write the correct classification for
each of the costs below into the box provided, using the following classifications (each cost is
intended to belong to only one classification):
(i) direct materials
(ii) direct labour
(iii) direct expenses
(iv) indirect production overhead
(v) research and development costs
(vi) selling and distribution costs
(vii) administration costs
(viii) Finance costs
1. Lubricant for sewing machines
2. Floppy disks for general office computer
3. Maintenance contract for general office photocopying machine

4. Telephone rental plus metered calls
5. Interest on bank overdraft
6. Performing Rights Society charge for music broadcast throughout the factory
7. Market research undertaken prior to a new product launch
8. Wages of security guards for factory
9. Cost of denim fabric purchased
10. Royalty payable on number of units of product XY produced
11. Road fund licences for delivery vehicles
12. Postage cost of parcels sent to customers
13. Cost of advertising products on television
14. Audit fees
15. Chief accountant’s salary
16. Wages of operatives in the cutting department
17. Cost of painting advertising slogans on delivery vans
18. Wages of storekeepers in materials store
19. Wages of fork lift truck drivers who handle raw materials
20. Cost of developing a new product in the laboratory

Q 39 The following diagram represents the behaviour of one element of cost:
Which ONE of the following statements is consistent with the above diagram?
A Annual factory power cost where the electricity supplier sets a tariff based on a fixed charge plus a
constant unit cost for consumption but subject to a maximum annual charge.
B Weekly total labour cost when there is a fixed wage for a standard 40 hour week but overtime is
paid at a premium rate.
C Total direct material cost for a period if the supplier charges a lower unit cost on all units once a
certain quantity has been purchased in that period.
D Total direct material cost for a period where the supplier charges a constant amount per unit for all
units supplied up to a maximum charge for the period.
Q 40 An organisation manufactures a single product. The total cost of making 4,000 units is
$20,000 and the total cost of making 20,000 units is $40,000. Within this range of
activity the total fixed costs remain unchanged.
What is the variable cost per unit of the product?
A $0·80
B $1·20
C $1·25
D $2·00

Q 41 When total purchases of raw material exceed 30,000 units in any one period then all
units purchased, including the initial 30,000, are invoiced at a lower cost per unit. Which of the
following graphs is consistent with the behaviour of the total materials cost in a period?
Q 42 The total cost of production for two levels of activity is as follows:
Level 1 Level 2
Production (units) 3,000 5,000
Total cost ($) 6,750 9,250
The variable production cost per unit and the total fixed production cost both remain constant in the
range of activity shown. What is the variable production cost per unit?
A $0·80 B $1·25
C $1·85 D $2·25
Q 43 A manufacturing company has four types of cost (identified as T1, T2, T3 and T4).
The total cost for each type at two different production levels is:

Total cost for Total cost for
Cost type 125 units 180 units
$ $
T1 1,000 1,260
T2 1,750 2,520
T3 2,475 2,826
T4 3,225 4,644
Which two cost types would be classified as being semi-variable?
A T1 and T3 B T1 and T4
C T2 and T3 D T2 and T4
Q 44 Up to a given level of activity in each period the purchase price per unit of a raw
material is constant. After that point a lower price per unit applies both to further units
purchased and also retrospectively to all units already purchased. Which of the following
graphs depicts the total cost of the raw materials for a period?

Q 45 An organisation has the following total costs at two activity levels:
Activity level (units) 17,000 22,000
Total costs ($) 140,000 170,000
Variable cost per unit is constant in this range of activity and there is a step up of $5,000 in the total
fixed costs when activity exceeds 18,000 units. What is the total cost at an activity level of 20,000
units?
A $155,000 B $158,000
C $160,000 D $163,000
Q 46 A supplier of telephone services charges a fixed line rental per period. The first 10
hours of telephone calls by the customer are free, after that all calls are charged at a constant
rate per minute up to a maximum, thereafter all calls in the period are again free. Which of
the following graphs depicts the total cost to the customer of the telephone services in a
period?

Q 47 The following production and total cost information relates to a single product
organization for the last three months:
Month Production units Total cost
1 1,200 66,600
2 900 58,200
3 1,400 68,200
The variable cost per unit is constant up to a production level of 2,000 units per month but a step
up of $6,000 in the monthly total fixed cost occurs when production reaches 1,100 units per
month.
What is the total cost for a month when 1,000 units are produced?
A $54,200 B $55,000
C $59,000 D $60,200
Q 48 The following observations have been made of total overhead cost:
Output level (units) 5,000 10,000
Total overhead cost ($) 14,000 27,000
The variable element of total overhead cost is known to increase by $1 per unit at output levels
above 7,000 units.
What is the variable element of total overhead cost at an output level of 5,000 units?
A $2.00 per unit B $2.60 per unit
C $3.20 per unit D $3.60 per unit
Q 49 A company has the following data for a semi-variable cost:
Output 20,000 units 60,000 units
Total cost $85,000 $253,000
The fixed element of total cost increases by $8,000 at output levels in excess of 30,000 units.
What is the variable cost per unit?

A $4·00 B $4·20
C $4·22 D $4·25
Q 50 A product has the following costs per unit:
Direct material 4·00
Direct labour 3·00
Direct expenses 1·50
Variable overhead 5·00
Fixed overhead 6·00
What is the prime cost per unit of the product?
A $4·00 B $7·00
C $8·50 D $13·50
Q 51 A company has a single product with a selling price of $12 per unit, which is calculated as
variable cost per unit, plus 20%. At an output level of 5,000 units it makes a loss of $8,000.
What is the company’s total fixed cost?
A $2,000 B $4,000
C $18,000 D $20,000
Q 52 A company’s total overhead varies with output level. It has recorded the following
observations of output and total overhead cost:
Output level Total overhead cost
100,000 units $800,000
400,000 units $2,500,000
It is known that there is an increase in fixed costs of $200,000 when output exceeds 300,000 units.
Using the high low method, what is the variable overhead cost per unit?
A $5·00 per unit B $5·67 per unit
C $6·25 per unit D $6·60 per unit

Q 53 Up to a given level of activity in each period the purchase price per unit of a raw
material is constant. After that point a lower price per unit applies to further units purchased:
Which of the following graphs depicts the total cost of the raw materials for a period?
A Graph A B Graph B
C Graph C D Graph D
A manufacturing company has recorded the following cost data from previous periods:
Output (units) 4,000 10,000
Total production costs $9,360 $15,120
What is the budgeted total production cost for output of 8,500 units?
$______
Q 54 The following shows the total overhead costs for given levels of a company’s total
output:

Output units Cost $
1,000 4,000
2,000 7,000
3,000 10,000
4,000 9,450
A step up in fixed costs of $500 occurs at an output level of 3,500 units.
What would be the variable overhead cost per unit (to the nearest $0.01) using the high low
technique?
$______
Q 55 A company has prepared flexible budgets at two activity levels. The costs per unit of three
costs are as follows:
Activity level (units)
Cost 10,000 15,000
X $3.0 per unit $2.0 per unit
Y $1.0 per unit $1.0 per unit
Z $3.5 per unit $3.0 per unit
All three costs behave in a linear manner with respect to activity.
How should each of these costs be classified?
X Y Z
A Variable Fixed Semi-variable
B Variable Fixed Variable
C Fixed Variable Semi-variable
D Fixed Variable Fixed
Q 56 A company manufactures and sells toys and incurs the following three costs:
(1) Rental of the finished goods warehouse
(2) Depreciation of its own fleet of delivery vehicles

(3) Commission paid to sales staff
Which of these are classified as distribution costs?

CH # 3
Materials
Material Purchase Cycle
Step-1.Production department issue material requisition note to store room for material required.
This document is used as authorization for issuance of material.
It is then used as a source document for:
(a) Updating the bin card in stores;
(b) Updating the stores ledger account in the costing department; and
(c) Charging the job, overhead or department that is using the materials
Step-2.Store room issue purchase requisition to purchase department for purchase of necessary
material. It must be authorized.
Step-3.If there is no particular supplier, purchase department may ask for quotations from different
suppliers. Quotations are asked for proposed prices
Step-4.Purchase department than select a supplier and send purchase order.
Step-5.Supplier may send dispatch note or delivery note to notify that goods are beings sent. When
material is received, it is checked against this purchase order to confirm that material received is
similar to material ordered. When store keeper is satisfied he issues goods received note (GRN). It is
an internal document.
Step-6.At the end when all goods are received, supplier sends purchase invoice. Purchase invoice
contains information about quantity as well as cost while delivery note only contains information
about quantity. Purchase invoice must be checked against purchase orders and delivery notes before
it is been paid. It must be authorized for payment
Other documentation a business may encounter include:
• Materials returned notes used to record any unused materials which are returned to stores.
• Materials transfer notes document the transfer of materials from one production department to
another.
• Goods returned notes used to detail what is being returned to the supplier. The goods may be
damaged or not as ordered.

• Credit notes are received if goods have been returned to the supplier or there is a fault with the
invoice.
Bills of Material: Some products comprises of different assemblies (components). Bill of material
contains detail of different assemblies that makeup final product
Inventory Costs
Total annual cost = Annual Purchase Cost+ Annual Ordering cost + Annual Holding cost
Purchase Cost
Annual demand (D) × cost/unit
Holding/Carrying cost
Costs of carrying inventory
Irrespective of the nature of the business, a certain amount of inventory will need to be held.
However, holding inventory costs money and the principal ‘trade-off’ in an inventory holding situation
is between the costs of acquiring and storing inventory and the level of service that the company
wishes to provide.
The total cost of holding inventory consists of the following:
– The opportunity cost of capital tied up
– Insurance
– Deterioration
– Obsolescence
– Damage and pilferage
– Warehouse upkeep
– stores labour and administration costs.
Holding costs can be distinguished between fixed holding costs and variable holding costs:
– Fixed holding costs include the cost of storage space and the cost of insurance. Note that the cost of
storage space may be a stepped fixed cost if increased warehousing is needed when higher volumes
of inventory are held.
– Variable holding costs include interest on capital tied up in inventory. The more inventory that is
held, the more capital that is tied up.

Holding Cost = { (Qt ordered per order /2) +safety stock} × holding cost per unit per annum
Ordering costs:
– clerical and administrative costs – the total administrative costs of placing orders will increase in
proportion to the number of orders placed. They therefore exhibit the behaviour of variable costs.
– transport costs.
Number of orders = Annual demand (D) ÷ Qt ordered per order
Total Ordering cost = number of orders x Cost per order (CO).
What quantity that should be purchased in one order to minimize total cost
No bulk buying discount

Total cost is minimum where
Holding cost = ordering cost.
There are a number of important assumptions and formulae related to the
EOQ that you should note:
• Demand and lead time are constant and known
• Purchase price is constant
• No buffer inventory is held.
If bulk buying discount is available

Find total cost for different levels of orders by using the formula
Total annual cost = Annual Purchase Cost+ Annual Ordering cost + Annual Holding cost
Economic order quantity is where total cost is minimum

Other costs related to inventory
Stock out cost:

It include lost contribution, Loss of customers Loss of goodwill Cost of production increases as fixed
cost is shared by less number of units. Idle labour cost. Extra cost for urgent order
Cost of buffer stock

Buffer inventory allows you to meet unpredictable peaks in demand, and it allows you to protect your
customers from production breakdowns, supplier failures, or delays in deliveries from suppliers. It can
also reduce the cost of purchasing as inventory levels should never get to a critical level.
However, buffer inventory ties up cash that could be better invested in other parts of the business. It
costs money in terms of the opportunity cost (what else the cash could be being used for), the cost to
insure the inventory, the cost to store the product, and the cost of theft or damage.
Buffer inventory could also end up being a huge liability if the demand falls or the product becomes
obsolete before you can use the inventory
Note: keeping low inventory levels may result in stock out cost while keeping high inventory levels
may result in high carrying cost and costs related to buffer inventory.
Just in time Inventory policy
This policy was developed by Japanese. In this policy material is purchased when it is required.
To apply this policy effectively, management must be aware of levels of demand and have good
relation with supplier.
Gradual replenishment of inventory

Organisations who replenish inventory levels gradually by manufacturing their own products
internally also need to calculate the most economical batch size to produce
Q = Batch size
D = Demand per annum
Ch = Cost of holding one unit for one year

Co = Cost of setting up one batch ready to be produced
R = Annual replenishment rate
• Producing large batches at long intervals will lead to low machine setup costs (as fewer machine
setups will be needed) and high holding costs (high average inventory levels as more inventory held).
• Producing small batches at short intervals will lead to high machine setup costs (as more machine
setups will be needed) and low holding costs (low average inventory levels as less inventory held).
Inventory records
In paper based system, two separate inventory records are kept
Bin Card.(Bin card system)

It is prepared by store room to record only quantities of materials purchased, issued and balance.
Store Ledger Card (Inventory ledger system)

Costing department prepares this card. It contains information about both quantity and cost.
Note: Preparation of bin cards and stores ledger cards is called perpetual inventory system. There is
another method of valuation of closing stock and that is called physical stock taking.
Difference in stock taken physically and that shown in inventory records;

 Stock delivered is different from what shown on GRN.
 Inventory issued to production department is different from what shown on material
requisition note.
 Inventory returned from production department without documentation (materials returned
note) or inventory shown on materials returned note is different from what is actually
returned.
 Clerical errors in inventory records.
 Theft or brokerage of inventory.
 Inventory recorded on bin card but physically it did not move.
Store credit note: It is issued when physical inventory is less than what is shown on stores ledger
card.
Store debt note: It is issued when physical inventory is more than what is show on stores ledger
card.

LIFO FIFO AND AVCO
FIFO – First in, first out

This method values issues at the prices of the oldest items in inventory at the time the issues were
made. The remaining inventory will thus be valued at the price of the most recent purchases.
The advantages and disadvantages of the FIFO method are as follows.
 Advantages
(i) It is a logical pricing method which probably represents what is physically

happening: in practice the oldest inventory is likely to be used first.
(ii) It is easy to understand and explain to managers.
(iii) The closing inventory value can be near to a valuation based on the cost of
replacing the inventory.
 Disadvantages
(i) FIFO can be cumbersome to operate because of the need to identify each batch of
material separately.
(ii) Managers may find it difficult to compare costs and make decisions when they are
charged with varying prices for the same materials.
(iii) Prices may diverge widely from market price when there is a high rate of inflation,
thereby understating the cost of sales.
LIFO – Last in, first out

This method is the opposite of FIFO. Issues will be valued at the prices of the most recent purchases;
hence inventory remaining will be valued at the cost of the oldest items.
The advantages and disadvantages of the LIFO method are as follows.
 Advantages
(i) Inventories are issued at a price which is close to current market value.
(ii) Managers are continually aware of recent costs when making decisions, because
the costs being charged to their department or products will be current costs.
 Disadvantages
(i) The method can be cumbersome to operate because it sometimes results in several
batches being only part-used in the inventory records before another batch is received.

(ii) LIFO is often the opposite to what is physically happening and can therefore be
difficult to explain to managers.
(iii) As with FIFO, decision making can be difficult because of the variations in prices
Weighted average pricing methods

There are two main weighted average pricing methods: cumulative and periodic.
 Cumulative/continuous weighted average pricing
With this method we calculate an average cost of all the units in inventory whenever a new delivery is
received.
 Periodic weighted average pricing
The periodic weighted average pricing method involves calculating an average cost per unit at the
end of a given period (rather than whenever new inventory is purchased, as with the cumulative
weighted average pricing method). The periodic weighted average pricing method is easier to
calculate than the cumulative weighted average method, and therefore requires less effort, but it
must be applied retrospectively since the costs of materials used cannot be calculated until the end of
the period.
The advantages and disadvantages of weighted average pricing are as follows.
 Advantages
(i) Fluctuations in prices are smoothed out, making it easier to use the data for decision
making.
(ii) It is easier to administer than FIFO and LIFO, because there is no need to identify
each batch separately.
 Disadvantages
(i) The resulting issue price is rarely an actual price that has been paid, and can run to
several decimal places.
(ii) Prices tend to lag a little behind current market values when there is gradual
inflation.

Changing prices and inventory valuation

1. Under FIFO method items in closing inventory are those which are purchased at period end
2. Under LIFO method items in closing inventory are those which are purchased at start
3. Under AVCO method items in closing inventory are at average price
Prices increasing
 Value of closing inventory will be in following order
FIFO>cumulative weighted average >periodic weighted average>LIFO
 Value of inventory issued or cost of production will be in following order
LIFO> cumulative weighted average >periodic weighted average >FIFO
 Value of profit will be in following order
FIFO> cumulative weighted average >periodic weighted average >LIFO

Prices decreasing
 Value of closing inventory will be in following order
 Value of inventory issued/cost of production/cost of sales will be in following order
FIFO> cumulative weighted average >periodic weighted average >LIFO
 Value of profit will be in following order
Examples of different issues and controls

Issue Control procedure
Ordering goods at inflated prices • Use of standard costs for purchases
• Quotation for special items
Fictitious purchases • Separation of ordering and purchasing
• Physical controls over materials receipts, usage and

inventory

Shortages on receipts • Checking in all goods inwards at gate
• Delivery signatures
Losses from inventory • Regular stocktaking
• Physical security procedures
Writing off obsolete or damaged
inventory which is good • Control of responsible official over all write-offs
Losses after issue to production • Records of all issues
• Standard usage allowance
Budgeting
1. 𝑈𝑛𝑖𝑡𝑠 𝑝𝑟𝑜𝑑𝑢𝑐𝑒𝑑 = 𝑈𝑛𝑖𝑡𝑠 𝑠𝑜𝑙𝑑 − 𝑜𝑝𝑒𝑛𝑖𝑛𝑔 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 + 𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦
2. 𝑀𝑎𝑡𝑒𝑟𝑖𝑎𝑙 𝑐𝑜𝑛𝑠𝑢𝑚𝑒𝑑 = 𝑈𝑛𝑖𝑡𝑠 𝑝𝑟𝑜𝑑𝑢𝑐𝑒𝑑 ∗ 𝑀𝑎𝑡𝑒𝑟𝑖𝑎𝑙 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡
3. 𝑀𝑎𝑡𝑒𝑟𝑖𝑎𝑙 𝑝𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑑 = 𝑀𝑎𝑡𝑒𝑟𝑖𝑎𝑙 𝑐𝑜𝑛𝑠𝑢𝑚𝑒𝑑 − 𝑜𝑝𝑒𝑛𝑖𝑛𝑔 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑜𝑓 𝑚𝑎𝑡𝑒𝑟𝑖𝑎𝑙 +
𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑜𝑓 𝑚𝑎𝑡𝑒𝑟𝑖𝑎𝑙
4. Free inventory = inventory on hand + inventory on order – inventory that has been scheduled
for use
Formulas:
1. 𝑅𝑒 − 𝑜𝑟𝑑𝑒𝑙 𝑙𝑒𝑣𝑒𝑙 = (𝑀𝑎𝑥𝑖𝑚𝑢𝑚 𝐶𝑜𝑛𝑠𝑢𝑚𝑝𝑡𝑖𝑜𝑛 × 𝑀𝑎𝑥𝑖𝑚𝑢𝑚 𝑙𝑒𝑎𝑑 𝑡𝑖𝑚𝑒) + 𝑆𝑎𝑓𝑒𝑡𝑦 𝑠𝑡𝑜𝑐𝑘
2. 𝑀𝑎𝑥𝑖𝑚𝑢𝑚 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑙𝑒𝑣𝑒𝑙 = 𝑅𝑒 − 𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 − (𝑀𝑖𝑛𝑖𝑚𝑢𝑚 𝑐𝑜𝑛𝑠𝑢𝑚𝑝𝑡𝑖𝑜𝑛 ×
𝑀𝑖𝑛𝑖𝑚𝑢𝑚 𝑙𝑒𝑎𝑑 𝑡𝑖𝑚𝑒) + 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑜𝑟𝑑𝑒𝑟𝑒𝑑 (𝐸𝑂𝑄)
3. 𝑀𝑖𝑛𝑖𝑚𝑢𝑚 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝐿𝑒𝑣𝑒𝑙 = 𝑅𝑒 − 𝑜𝑟𝑑𝑒𝑟 𝑙𝑒𝑣𝑒𝑙 − ( 𝐴𝑣𝑔 𝑐𝑜𝑛𝑠𝑢𝑚𝑝𝑡𝑖𝑜𝑛 × 𝐴𝑣𝑔 𝑙𝑒𝑎𝑑 𝑡𝑖𝑚𝑒
𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑂𝑟𝑑𝑒𝑟𝑒𝑑 (𝐸𝑂𝑄)
4. 𝐴𝑣𝑔 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑙𝑒𝑣𝑒𝑙 = + Safety stock
2
Lead time is time span between placing an order and receiving inventory.

Materials Accounting
1. Purchase
Material control/Stores Control a/c Dr
Payables Cr.
2. Return from store room to supplier

Payables a/c Dr
Material control/Stores Control a/c Cr.
3. Issuance to production / non production departement
WIP a/c Dr (Direct Material)
POH control a/c Dr (indirect material)
Admin OH control a/c Dr
Selling OH control a/c dr
Material control/Stores Control a/c Cr.

4. Return form production/ non production department to store room.
Material control a/c Dr
WIP a/c Cr
POH control a/c Cr.
Admin OH control a/c Cr
Selling OH control a/c Cr
5. Return from production/ non production department to supplier

Payables a/c Dr
WIP a/c Cr
POH control a/c Cr.
Admin OH control a/c Cr
Selling OH control a/c Cr

Inventory ledger control a/c
Opening Xx WIP (Direct Material to xxx

production department)
balance x
Production overheads (indirect xxx
Payables Xx
materials to production
WIP (Direct Material to Stores x department)
department) xxx
Xx Selling overheads (indirect
Production overheads (indirect
material to selling department)
materials to Stores department) x
Admin overheads (indirect xxx
Selling overheads (indirect material to
material to Admin department)
Stores department)
Xxx
xxx
Admin overheads (indirect material to
Stores department) Closing balance
Xxx
xxx

Exercise
Q 1 Which of the following individuals is usually responsible for preparing a delivery note?
A. Buyer
B. Supplier
C. manager
D. Accountant
Q 2 Which of the following is correct chronological sequence for purchase documents?
A. Purchase order—Invoice---Goods received note---Delivery note
B. Delivery note--- Goods receive note--- Purchase order--- Invoice
C. Purchase order--- Delivery note---Good receive note---Invoice
D. Goods received note--- Delivery note---Purchase order---invoice
Q 3 Which of the following documents should be checked before a purchase invoice is paid, to
confirm that the prices of quantities are correct?
Price check Quantity check
A. Purchase order Purchase order
B. Goods received note Delivery note
C. Purchase invoice Goods received note
D. Purchase order Goods received note
Q 4 You are the accountant responsible for the input into the computer accounting system of data
about goods receivables from suppliers. For each transaction, you require a copy for the
purchase order, delivery note and goods received notes and invoice.
What are you most likely to find the code number for an item of inventory for entering in the
system?
A. Purchase order
B. Delivery note
C. Goods receive note
D. Invoice
Q 5 Which one of the following is correct sequential flow of documents to complete the purchase
of goods on credit?
A. Goods receive note, purchase order, cheque requisition, invoice delivery note
B. Purchase order, delivery note, goods received note, invoice, cheque requisition
C. Purchase order, goods received note, delivery note, cheque requisition, invoice
D. Purchase order, invoice, goods received note, cheque requisition, delivery note
Q 6 Which number of staff is most likely to raise a good received note?
A. Delivery driver
B. Finance director
C. Sales ledger clerk
D. Store clerk

Q 7 Who is likely to record deliveries into stores?

A. Store clerk
B. Sales clerk
C. Accounts clerk
D. Personnel assistant
Q 8 Which of the following describes a purchase order?
A. Issued by the purchasing department, sent to the supplier requesting materials.
B. Issued by the store department, sent to the purchasing department requesting
materials
C. Received together with the materials and compared to the materials received
D. Issued by the production department, sent to the stores department requesting
materials
Q 9 A business maintains an inventory control database. For each item of inventory, the file
contains the quantity of free inventory for the item. For inventory item 245711, the current
quantity held by the business is 400 units. The stores department has received requisitions for
user department for 320 units, which have yet to be processed and dealt with. An order for a
new supply of 350 units has been placed with the supplier, and delivery is expected in one or
two days.
What is the quantity of free inventory for this item?
A. 30
B. 370
C. 400
D. 430
Q 10 There are 275 units of material BX in stock. An order for 650 units is expected and a material
requisition for 300 units has not yet been issued to the production cost centre.
What is the free inventory?
A. 275 units
B. 625 units
C. 650 units
D. 675 units

The following data are be used for questions 11,12 and 13

The inventory record for component BXY for the month of January showed:
Receipts Value Issues
$
Opening inventory 500 1,275
4 January 1,000 2,750
11 January 1,600 4,480
18 January 1,200 3,480
19 January 2,100
25 January 1,500 4,350
31 January 1,800
Q 11 Using the FIFO method of pricing issues, the cost of issues during the month was:
A. $11,250
B. $10,800
C. $10,850
D. $11,300
Q 12 Using the LIFO method of pricing issues, what is the value of inventory at 31 January?
A. $4,100
B. $3,720
C. $5,120
D. $3,950
Q 13 Using the AVCO method of pricing, at what price would the issues on 31 January be made?
(Calculate to decimal places)
A. $3.00
B. $2.95
C. $2.90
D. $2.83

The following data are to be used for questions 14 & 15
`Turner has the following inventory record:
Date Number of units Cost
1 March Opening inventory 100 units At $3.00/unit
3 March Receipt 200 units At $3.50/unit
8 March Issue 250 units
Q 14 What is the valuation of closing inventory if LIFO is used?

A. $460
B. $465
C. $467
D. $469
Q 15 What is the valuation of issues using the weighted average method of inventory valuation at
each issue?
A. $3,248
B. $3,548
C. $3,715
D. $4,015
The following data are be to used for question 16 $ 17
Date Units Units price($) Value ($)

1 Jan 2011 Balance b/f 100 5.00 500.00
3 Mar 2011 Issue 40
4 Jun 2011 Receipt 50 5.50 275.00
6 Jun 2011 Receipt 50 6.00 300.00
9 Sep 2011 ISSUE 70

Q 16 If the first-in, first-out method of pricing had been used the value of the issue on 9
September 2011 would have been
A. $350
B. $355
C. $395
D. $420
Q 17 In the last-in, first-out method of pricing had been used the value of the issue of the 9
September 2011 would have been
A. $350
B. $395
C. $410
D. $420
Q 18 A company uses the firs-in, first-out method to price issues of raw material to production
and to value its closing inventory.
Which of the following statements best describes the first-in, first-out method?
A. The material received will be the first issued to production
B. The first materials issued will be priced at the cost of the most recently received
materials
C. The last materials issued will be those that were most recently received
D. The first materials issued will be priced at the cost of the earliest goods still in
inventory
Q 19 If a company is using the first-in, first-out method for material at a time when material
prices are rising this will mean which of the following?
A. Production costs will be lower and profit will be higher than if the last-in, first-out
method had been used.
B. Production cost will be higher and profit will be lower than if the last-in, first-out
C. Production costs will be lower and profits will be lower than if the last-in, first-out
D. Production costs will be higher and profits will be higher than if the last-in, first-out
Q 20 A manufacturer holds inventory of a raw material item. The manufacturer makes and sells a
single product, and each unit of product uses 2.5 kilograms of the raw material. The budgeted
production for the year is 6,000 units of the product. At the start of the year, the manufacturer
expects to have 1,800 units of the raw material item in inventory, but plans to reduce
inventory levels by one-third by the end of the year.
What will be the budgeted purchase quantities of the raw material item in the year?
A. 13,800 kg
B. 14,400 kg

C. 15,000 kg
D. 15,600 kg
Q 21 A manufacturing company has budgeted sales next year of 5,000 units of product T. Each
unit of product T uses 3 units of a component X. The company plans to increase inventory
levels of finished goods by 200 units by the end of the year, and to increase inventory levels of
component X by 400 units.
What will be the budgeted purchase quantities of component X of the year?
A. 15,200 units
B. 15,400 units
C. 15,600 units
D. 16,000 units
Q 22 A manufacturing company makes and sells a single product. The sales budget for the year is
8,000 units. Each unit of the product require 1.2 kilograms of raw materials. The company has
budgeted to reduce inventory levels of finished goods from 2,000 units at the start of the year
to 1,500 units at the end of the year, but it plans to increase inventory levels of the raw
material from 1,500 kilograms to 2,400 kilograms.
What will be the budgeted purchase quantities of raw materials for the year?
A. 8,100 kilograms
B. 8,300 kilograms
C. 9,900 kilograms
D. 10,200 kilograms
Q 23 What document may be used to authorize the issue of items from the stores department to a
user department?
A. Purchase order
B. Delivery rate
C. Requisition note
D. Goods received note
Q 24 In a large organization, which of the following individuals is most likely to authorize the
payment of a purchase invoice for goods bought from a supplier?
A manager with appropriate authority in the:
A. Accounts department
B. Buying department
C. Department that requisitioned the goods
D. Stores department
Q 25 The current inventory position for the inventory item 35528 is as follows:
Units
Held in inventory 14,500
On order from supplier 36,300
Requisitioned 16,700

What is the free inventory for this item?

A. 0
B. 5,100 units
C. 34,100 units
D. 38,500 units
Q 26 A company value stocks using the weight average value after each purchase. The following
receipts and issues have been made with regards to materials for the last month:
Date Receipts Issues
Units $/unit valuation Units
Brought forward 100 $5.00 $500
4 th 150 $5.50 $825
16th 100
20 th 100 $6.00 $600
21 st 75
What is the value of the closing stock using this weighted average method?
A. $1,012.50
B. $976.50
C. $962.50
D. $925.00
Q 27 The stock records for one specific stores item for last month show the following information:
Receipt units issue units
150
600
200
250
The stock at the beginning of last month consisted of 200 units valued at $5,200. The receipts
last month cost $32.50 per unit.
Using the FIFO method of valuation, what was the total cost of last month’s issues?
A. $18,200
B. $18,300
C. $18,525
D. $19,500

Data for questions 28 and 29
Aberdeen Ltd holds stocks of ratchets that it uses in production. Over the last month receipts
and issues were as follows:
Receipts Issues
Opening balance 200 at £ 5 7th May 400
5 May 300 at £ 4.50 23rd May 400
12 May 100 at £ 6 30th May 200
22 May 400 at £ 5.50
29 May 200 at £ 7
Q 28 If a FIFO stock valuation method were used, the value of stocks at the month end would be:
A. £1,000
B. £1,100
C. £1,200
D. £1,400
Q 29 If a LIFO stock valuation method were used, the cost of ratchets issued to production in the
month would be:
A. £5,150
B. £5,350
C. £5,450
D. £5,550
Q 30 A firm has a high level of stock turnover and uses the FIFO issue pricing system. In a period of
rising purchase prices, the closing stock valuation is:
A. Close to current purchase prices
B. Based on the prices of the first items received
C. Much lower than current purchase prices
D. The average of all goods purchased in the period
Q 31 During week 14 a manufacturing business issued $19,600 of direct materials to the factory
and $3,200 of indirect materials.
What is the double entry for issues of materials?
A. Debit Materials control account $22,800
Credit work in progress account $19,600
Credit Production overhead account $3,200
B. Debit Work in progress account $19,600
Debit Production overhead account $3,200
Credit Materials control account $22,800

C. Debit Work in progress account $3,200

Debit Production overhead account $19.600
Credit Materials control account $22,800
D. Debit Materials control account $22,800
Credit Work in progress account $3,200
Credit Production overhead account $19,600
Q 32 Consider the following statements.
1. A bin card records the quantity of inventory on hand whereas a ledger account
records the monetary value of the inventory on hand
2. A perpetual inventory system is one where each receipt or issue of material is
recorded as it takes place.
Which one of the following is correct with regard to the above statements?
A. Both statements are correct

B. Both statements are incorrect
C. Statement 1 is correct but statement 2 is incorrect
D. Statement 1 is incorrect but statement 2 is correct
Q 33 Which of the following statement is correct?
A. A store ledger account will be updated from a goods received note only.
B. A store requisition will only detail the type of product required by a customer
C. The term ”lead time” is best used to describe the time between receiving an order
and paying for it
D. To make an issue from stores authorization should be required
Q 34 The following represent transactions on the material account for a company for the month of
March 2018:
$000s
Issued to production 144
Returned to stores 5
The material inventory at 1 March 2018 was $23,000 and at 31 March 2018 was $15,000.
How much material was purchased in March 2018?
A. $131,000
B. $139,000
C. $141,000
D. $159,000

Q 35 Which of the following functions are fulfilled by goods received note?

I. Provides information to update the inventory records on receipt of goods
II. Provides information to check the quantity on the supplier’s invoice
III. Provides information to check the price on the supplier’s invoice
A. (i) and (ii)only
B. (I) and (iii) only
C. (ii) and (iii) only
Q 36 Which of the following documents would be completed in each situation?

Q 37
Q 38 The following data for the current year relate to a sterile pack purchased by the
Goodheart Hospital:
Annual demand 90,000 units
Annual holding cost per unit $8
Cost of placing an order $25
From the start of next year the cost of placing an order will rise by $11 but all the other data will
remain the same.
The hospital bases its purchasing decisions on the Economic Order Quantity (EOQ) model.
Required:
(a) Calculate the EOQ for:
(i) the current year; and
(ii) next year. (4 marks)
(b) Calculate the increase in total annual cost of ordering and holding inventory of the sterile packs to
the hospital for next year. (4 marks)

Q 39 Jane purchases its requirements for component RB at a price of $80 per unit. Its annual
usage of component RB is 8,760 units. The annual holding cost of one unit of component RB is
5% of its purchase price and the cost of placing an order is $12·50.
Required:
(a) Calculate the economic order quantity (to the nearest unit) for component RB. (2 marks)
(b) Usage of component RB is constant throughout the year (365 days) and the lead time from placing
an order to its receipt is 3 days. Calculate the inventory level (in units) at which an order should be
placed
Q 40 Point uses the economic order quantity (EOQ) model to establish the reorder quantity
for raw material Y. The company holds no buffer stock. Information relating to raw material Y
is as follows:
Annual usage 48,000 units
Purchase price $80 per unit
Ordering costs $120 per order
Annual holding costs 10% of the purchase price
Required:
(a) Calculate:
(i) the EOQ for raw material Y; and
(ii) the total annual cost of purchasing, ordering and holding inventory of raw material Y.
(b) The supplier has offered Point a discount of 1% on the purchase price if each order placed is for
2,000 units. Calculate the total annual saving to Point of accepting this offer.
Q 41 The demand for a product is 12,500 units for a three month period. Each unit of
product has a purchase price of $15 and ordering costs are $20 per order placed.
The annual holding cost of one unit of product is 10% of its purchase price. What is the Economic
Order Quantity (to the nearest unit)?
A 577 B 816
C 866 D 1,155

Q 42 A company determines its order quantity for a raw material by using the Economic
Order Quantity (EOQ) model.
What would be the effects on the EOQ and the total annual holding cost of a decrease in the cost of
ordering a batch of raw material?
EOQ Total annual holding cost
A Higher Lower
B Higher Higher
C Lower Higher
D Lower Lower
Q 43 Data relating to a particular stores item are as follows:
Average daily usage 400 units
Maximum daily usage 520 units
Minimum daily usage 180 units
Lead time for replenishment of inventory 10 to 15 days
Reorder quantity 8,000 units
What reorder level (in units) will prevent stock outs?
A 5,000 B 6,000
C 7,800 D 8,000
Q 44 A company uses 9,000 units of a component a year. The component has a purchase
price of $40 per unit and the cost of placing an order is $160. The annual holding cost of one
component is equal to 8% of its purchase price
What is the Economic Order Quantity (to the nearest unit) of the component?
A 530
B 671
C 949
D 1,342

Q 45 A company determines its order quantity for a component using the Economic Order
Quantity (EOQ) model. What would be the effects on the EOQ and the total annual ordering
cost of an increase in the annual cost of holding one unit of the component in inventory?
EOQ Total annual ordering cost
A Lower Higher
B Higher Lower
C Lower No effect
D Higher No effect
Q 46 The purchase price of an item of inventory is $25 per unit. In each three-month period
the usage of the item is 20,000 units. The annual holding costs associated with one unit
equate to 6% of its purchase price. The cost of placing an order for the item is $20.
What is the Economic Order Quantity (EOQ) for the inventory item to the nearest whole unit?
A 730 B 894
C 1,461 D 1,633
Q 47 Which department would normally be responsible for completing a standard purchase

requisition for goods in a service organisation?
A The buying (purchasing) department
B The department that requires the goods
C The goods inwards department
D The accounting department staff
Q 48 A company always determines its order quantity for a key component using the
Economic Order Quantity (EOQ) model.
What would be the effects on the EOQ and the total annual holding cost of an increase in the cost of
ordering a batch of raw material?
Higher Lower
EOQ ○ ○
Annual holding cost ○ ○

Q 49 The purchase price of an item of inventory is $15 per unit. In each three month period
the usage of the item is 10,000 units. The annual holding costs associated with one unit
equate to 10% of its purchase price. The cost of placing an order for the item is $30.
What is the Economic Order Quantity (EOQ) for the inventory item to the nearest whole unit?
______ units
Q 50 The following statements relate to documents used in the material procurement

procedures of a company:
(1) All purchase requisitions are prepared in the purchasing department from where they are then
sent out to suppliers
(2) All goods received notes are prepared in the goods inwards department
Are these statements TRUE or FALSE?
True False
Statement (1) ○ ○
Statement (2) ○ ○
Q 51 A manufacturing company uses 25,000 components at constant rate during a year.

Each order placed with the supplier of the components is for 2,000 components, which is the
economic order quantity. The company holds a buffer inventory of 500 components. The
annual cost of holding one component in inventory is $2.
What is the total annual cost of holding inventory of the component?
$______
Q 52 Alpha Co buys material X from a supplier that is located next to its factory. When Alpha
places an order for material X, the supplier sets up a special production run, and it can take
several days for the order to be fulfilled. The supplier delivers material X to Alpha Co in small
batches from the time the order is placed until the order is complete.
Alpha currently uses the economic order quantity (EOQ) model for determining the order quantity of
material X, but a new management accountant has suggested that the economic batch quantity
model (EBQ) would be more appropriate.
The move to the EBQ model will have no effect on the total quantity of material X used during the
year by Alpha Co.
What will be the effect of adopting the EBQ model?

Order quantity Number of orders per year
A Decrease Increase
B Decrease Decrease
C Increase Decrease
D Increase Increase
Q 53 Argos Co buys material X from a supplier that is located next to its factory. When Argos
places an order for material X, the supplier sets up a special production run, and it takes
several days for the order to be fulfilled. The supplier delivers material X to Argos Co in small
batches from the time the order is placed until the order is complete.
The supplier produces material X at a rate of 50,000 kg per week. Argos uses 20,000 kg of material X
each week. The cost of holding 1 kg of material X in inventory for one year is $2.5. Order costs are
$1,000 per order. The costs of buying material X from the supplier are agreed in advance, and no
discounts are provided for large orders.
Both companies operate for 50 weeks of the year.
What order quantity should Argos Co place in order to minimise total annual costs?
A 4,000 kg B 5,164 kg
C 28,284 kg D 36,515 kg
Q 54 Beta Co has a purchasing department that is responsible for ordering all materials.
When the storekeeper needs more inventory, he has to complete a form and send it to the
purchasing department which then places an order with the supplier.
What is the form that the storekeeper has to complete?
A A purchase order B A purchase requisition
C A goods received note D A purchase invoice
Q 55 Which of the following tasks are performed by the goods inward (receiving)
department?
(1) Comparing deliveries from suppliers against purchase orders to ensure that only goods that have
been ordered are accepted
(2) Comparing quantities received to details on the supplier’s delivery note
(3) Making payments to suppliers by bank transfer when the purchase invoice is received

Q 56 Which of the following statements about goods received notes (GRNs) are correct?
(1) They are prepared by suppliers and show details of goods despatched from the supplier’s
warehouse
(2) They are signed by the goods inward (receiving) department when deliveries from suppliers arrive
at the warehouse to confirm that the goods have been received
(3) They are matched to purchase invoices before the invoices are paid
Q 57 Recently, due to a clerical error, a supplier invoiced Alpha Co for some materials that
had actually been ordered and sent to another customer, Beta Co. Which of the following
control procedures within Alpha Co should ensure that it only pays invoices in respect of goods
that is has received?
A Checking all receipts of materials against purchase orders
B Matching all purchase invoices against goods received notes
C Matching purchase orders to purchase requisition documents
D Matching all purchase invoices with purchase orders

Chapter 4
Labour
 Basic pay is mentioned in his or her letter of appointment and included in his/her contract
of employment.
 Ongoing record is kept on employee record card held in the personal department.
 Simple attendance record shows days absent because of sickness, holidays or others.
Documents
Clock cards
It show hours of basic time, overtime, rate, total amount and deductions.it does not show
how the time was spent by employee
Time sheet
It tells detail about how employees time was spent. Employee fills his timesheet and enters
his name, clock number and department name at top of sheet. Time sheet is used to allocate
cost to different departments or products. It does not show the total amount payable.
Timesheets may be used for hourly paid and salaried staff. The purposes of timesheets are as
follows.
 Timesheets provide management with information (eg product costs) for further
analysis.
 Timesheet information may provide a basis for billing for services provided (eg
service firms where clients are billed based on the number of hours work done).
 Timesheets are used to record hours spent and so support claims for or authorise
overtime payments.
JOB Costing and labour documents

In Job costing system, different documents are used to record time or work done
 Time sheet: It explains work done on each job (Job code) or area of work (cost code)
Weekly time sheets. These are also called job sheets.
 Job cards: These cards are prepared for each job. A single job card may have detail about
different employees.
 Piecework ticket/operation card: When employees are paid on basis of number of units
produced, piecework ticket is produced. It records total number of units produced and
rejected.
 Route card: It is similar to job card additional detail about all operations to be carried
out is also kept on route card.
 Job card: When employee is paid on the basis of work done payroll department may
need analysis of work done on different jobs. For this purpose job card is prepared.

Direct and Indirect labour
Direct workers
 Cost of direct workers is divided into direct and indirect labour cost.
 Cost of indirect workers is indirect labour cost
 Basic rate means Normal hourly rate.
 Premium is Extra payment in overtime.
Note: In overtime hrs basic rate as well as premium is paid
Indirect workers
Total amount paid is indirect labour cost.
 Basic hrs x basic rate

 Over time hrs x basic rate
 Overtime hrs x premium
Labour Accounting
Gross pay = whatever earned by employee
It includes
 Salary
 Wages
 Overtime
 Bonus

 Commission
 Sick pay etc
Net pay = gross pay – deductions
Deductions include
 Income tax
 Employee’s contribution towards provident fund
 Employee’s contribution towards pension fund
 Employee’s contribution towards social security fund
 National insurance contribution by employee
Cost to employer= gross wages + contribution by employer
A bonus is an extra payment made to an employee (or a group of employees) as a reward for results
achieved
Commission is a payment made to an employee (or agent) based on the value of something (usually
sales) the employee (or agent) has generated
Remuneration methods
There are two basic approaches to remuneration
 time-related or
 output related.
Time related pay

It is calculated as follows
 Basic hrs x basic rate

 Over time hrs x basic rate
 Overtime hrs x premium
Output related pay/piecework system

𝑇𝑜𝑡𝑎𝑙 𝑤𝑎𝑔𝑒 = 𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑢𝑛𝑖𝑡𝑠 𝑝𝑟𝑜𝑑𝑢𝑐𝑒𝑑 × 𝑟𝑎𝑡𝑒 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡
Note: if worker is guaranteed a minimum wage and wage calculated by using above formula is less
than guaranteed wage, then worker will be paid minimum guaranteed wage.
Output related pay is subdivided into categories, straight piece work system and differential
piecework system.
 In straight piecework system same rate is applied to all units produced

 In differential piecework system rate changes if number of units produced exceed certain
threshold. For example worker may be offered a rate of £8 per unit for first 100 units and
£12 for units produced in excess of 100. Differential piecework system may also be
subdivided into two sub categories.
o Increased rate apply to all units
o Increased rate apply to extra units only
Note: in order to increase his earning, worker may compromise quality of product. So quality
control policy is strictly applied in case of differential piecework system. He is not paid for rejected
goods.
Incentive schemes
Premium bonus plans

Most bonus schemes pay a basic time rate, plus a portion of the time saved as compared to some
agreed allowed time. These bonus schemes are known as premium bonus plans. Examples of such
schemes are Halsey and Rowan.
𝑇𝑖𝑚𝑒 𝑠𝑎𝑣𝑒𝑑 = 𝑇𝑖𝑚𝑒 𝑎𝑙𝑙𝑜𝑤𝑒𝑑 − 𝑡𝑖𝑚𝑒 𝑡𝑎𝑘𝑒𝑛
𝑇𝑖𝑚𝑒 𝑎𝑙𝑙𝑜𝑤𝑒𝑑 = 𝑢𝑛𝑖𝑡𝑠 𝑝𝑟𝑜𝑑𝑢𝑐𝑒𝑑 ∗ 𝑠𝑡𝑎𝑛𝑑𝑎𝑟𝑑 ℎ𝑜𝑢𝑟 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡
Note: The standard hour (or standard minute) is the quantity of work achievable at standard
performance, expressed in terms of a standard unit of work done in a standard period of time. In
other words number of units that are expected to be produced in one hour.
The standard hour in performance measurement
Definition
A standard hour is the amount of work achievable, at the expected level of efficiency, in an hour.
Illustration
X Co manufactures three products (A, B and C) in one of its production cost centres. It is expected that
10 units of product A can be manufactured per direct labour hour, 25 units of product B and 20 units
of product C.
The standard hour for product A is, therefore, 10 units, product B is 25 units and product C is 20 units.
The standard hour is especially useful as a common measure for combining heterogeneous
(dissimilar) products so that manufacturing performance for a cost centre (or production unit) as a
whole can be assessed.

Measured day work

Worker is paid high rate which is based on his past performance. If he took lessor time to produce a
unit than time allowed for certain time period, he may be paid at higher rate. There is no formula to
calculate higher rate. It is agreed upon rate.
Share of production
The bonus is based on concept value addition. Value is added either by increasing the quality of
product or by reduction in cost. Value added is than shared by business and worker on basis of agreed
upon ratio.
Labour Turnover
Percentage of workers which left the organization and replaced by new workers.
Causes of labour turnover:

Personal issues, Death or retirement, Denomination (law wage, hard working conditions, less
recognition), Poor relation, Lack of chance to progress.
𝑳𝒂𝒃𝒐𝒖𝒓 𝒕𝒖𝒓𝒏𝒐𝒗𝒆𝒓 𝒓𝒂𝒕𝒆 = 𝑹𝒆𝒑𝒍𝒂𝒄𝒆𝒎𝒆𝒏𝒕/𝑨𝒗𝒈 𝒏𝒖𝒎𝒃𝒆𝒓 𝒐𝒇 𝑬𝒎𝒑𝒍𝒐𝒚𝒆𝒔𝒔 𝒙𝟏𝟎𝟎

(𝑬𝒎𝒑𝒍𝒐𝒚𝒆𝒆𝒔 𝒂𝒕 𝒔𝒕𝒂𝒓𝒕 𝒐𝒇 𝒚𝒆𝒂𝒓+𝑬𝒎𝒑𝒍𝒐𝒚𝒆𝒆𝒔 𝒂𝒕 𝒆𝒏𝒅 𝒐𝒇 𝒚𝒆𝒂𝒓)
𝑨𝒗𝒈 𝒏𝒖𝒎𝒃𝒆𝒓 𝒐𝒇 𝑬𝒎𝒑𝒍𝒐𝒚𝒆𝒆𝒔 = 𝟐

Cost of labour turnover.

Replacement cost.
Cost of recruitment, inefficient new labour.,Training cost, Increased wastage, Frequent accidents
Preventative cost
Admin cost to maintain good relation. Fringe benefits better pension schemes. Cost of excessive
training
Labour efficiency and utilization

Efficiency Ratio: It calculators the efficiency of labour e-g a worker was assigned 10hrs to complete a
job but he took 8hrs.
𝑆𝑡𝑎𝑛𝑑𝑎𝑟𝑑 ℎ𝑜𝑢𝑟𝑠 𝑓𝑜𝑟 𝑎𝑐𝑡𝑢𝑎𝑙 𝑝𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑜𝑛

𝐸𝑓𝑓𝑖𝑐𝑖𝑒𝑛𝑐𝑦 𝑅𝑎𝑡𝑖𝑜 = × 100
𝐴𝑐𝑡𝑢𝑎𝑙 ℎ𝑜𝑢𝑟𝑠 𝑡𝑎𝑘𝑒𝑛
Capacity Ratio: It calculators how much hrs are worked out of available hrs.
𝐴𝑐𝑡𝑢𝑎𝑙 ℎ𝑜𝑢𝑟𝑠 𝑤𝑜𝑟𝑘𝑒𝑑

𝐶𝑎𝑝𝑎𝑐𝑖𝑡𝑦 𝑈𝑡𝑖𝑙𝑖𝑧𝑎𝑡𝑖𝑜𝑛 𝑅𝑎𝑡𝑖𝑜 = × 100
𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 ℎ𝑜𝑢𝑟𝑠
Production volume ratio It calculator any change in budgeted units and actual units

𝐸𝑓𝑓𝑖𝑐𝑖𝑒𝑛𝑐𝑦 𝑅𝑎𝑡𝑖𝑜 = × 100
𝐵𝑢𝑑𝑔𝑡𝑒𝑑 ℎ𝑜𝑢𝑟𝑠
Note: Relationship between ratios.
Efficiency Ratio x Capacity utilization ratio = Production volume ration
Idle time ratio
It tells about %age of idle time out of total time
𝐼𝑑𝑙𝑒 ℎ𝑜𝑢𝑟𝑠
𝐼𝑑𝑙𝑒 𝑡𝑖𝑚𝑒 𝑟𝑎𝑡𝑖𝑜 𝑅𝑎𝑡𝑖𝑜 = × 100
𝑇𝑜𝑡𝑎𝑙 ℎ𝑜𝑢𝑟𝑠

General journal entries

 Recording
Payroll a/c or wages control a/c Dr.
Income tax cr.
Provident fund Cr.
Cash(For wages paid)Cr.
 Allocation of payroll to different departements
WIP a/c Dr (direct labour)
POH control a/c Dr (indirect labour)
Admin OH control a/c Dr.
Selling OH control a/c Dr.
Payroll a/c Cr.
Wages control a/c

WIP (Direct labour to
production department) xxx
Payables XX
Production overheads (indirect
Income Tax XX xxx
labour to production department)
Contribution by employee XX
Selling overheads (indirect labour to
selling department) xxx
Admin overheads (indirect

labour to Admin department) xxx
𝑃𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑣𝑒 ℎ𝑜𝑢𝑟𝑠 = 𝑇𝑜𝑡𝑎𝑙 ℎ𝑜𝑢𝑟𝑠 − 𝑖𝑑𝑙𝑒 𝑡𝑖𝑚𝑒
𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡
𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 ℎ𝑜𝑢𝑟 =
𝑇𝑜𝑡𝑎𝑙 ℎ𝑜𝑢𝑟𝑠

Exercise
Q 1 Gross wages incurred in a cost centre for the month of January totalled $45,250, as follows:
$
Ordinary time Direct employees 27,500
Indirect employees 6,500
Overtime Direct employees
Basic 4,500
Premium 2,250
Special condition allowance Direct employees 1,300

Indirect employees 450
Shift allowance Direct employees 2,000
Sick pay Direct employees 750
The direct wages for January would be:
A. $31,550
B. $32,800
C. $35,300
D. $32,000
Q 2 RCW operates a bonus scheme based on time saved against a predetermined time allowance
for actual output. In week 6, an operative produced 750 units of R in 32 hours. The standard
allowance in 20 units of R per hour.
The time saved by this employee in week 6 on R production was:
A. 6.50
B. 4.75
C. 5.50
D. 5.90
Q 3 HH operates an incentive scheme based on differential piecework. Employees are paid on the
following basis:
Work output up to 600 units -- $0.40 per unit
601 – 650 units -- $0.50 per unit
650 units + -- $0.75 per unit
This is paid only production meeting quality standard with only additional units qualifying for
the higher rates: In week 17, an employee produces 660 goods units. The gross pay for the
week would be:
A. $272.50
B. $260..40
C. $488.25
D. $325.75

Q 4 Which of the following method of remuneration is not an incentive-based scheme?

A. Straight piecework
B. High day rate
C. Group bonus
D. Differential piecework
Q 5 A job requires 2,400 actual labour hours for completion and it is anticipated that there will be
20 % idle time. If the wages rate is $ 10 per hour, what is the budgeted labour cost for the job?
A. $19,200
B. $24,000
C. $28,800
D. $30,000
Q 6 A job is budgeted to require 3,300 productive hours after incurring 25% idle time. If the total
labour cost budgeted for the job is $36,300, what is the labour cost per hour?
A. $8.25
B. $8.80
C. $11.00
D. $13.75
Q 7 Employee A is a carpenter and normally works 36 hours per week. The standard rate of pay is
$3.60 per hour. A premium of 50% of the basic hourly rate is paid for all overtime hours
worked. During the last week of October 2001. Employee A worked for 42 hours.
The overtime hours worked were for the following reasons:
Machine breakdowns 2 hours
To complete a special job at the request of the customer 4 hours
How much of employee A’s earning for the last week of October would have been treated as
direct wages?
A. $162.00
B. $129.60
C. $140.40
D. $151.20
Q 8 An employee is paid on a piecework basis. The basis of the piecework scheme is as follows:
1 to 100 Units - $0.40 per unit
101 to 200 units - $0.50 per unit
201 to 299 units - $0.60 per unit
With only the additional units qualify for the higher rates. Rejected units do not qualify for
payment.
During a particular day the employee produced 240 units of which 8 were rejected aas faulty.

What did the employee earn for day’s work?
A. $109.20
B. $114.00
C. $139.20
D. $144.00
Q 9 A standard hours is:
A. A normal working hour
B. A normal clock hour
C. The amount of work expected to be completed in an hour
D. The proportion of time in a give hour that is productive and no lost through idle time
Q 10 Information on standard rates of pay would be provided by:
A. A trade union
B. A production manager
C. A personal manger
D. A work study manager
A. Idle time cannot be controlled because it is always due to external factors
B. Idle time is always controllable because it is due to internal factor
C. Idle time is always due to inefficient production staff
D. Idle time is not always the fault of production staff
Q 12 A company operates a piecework scheme to pay its staff. The staff receives $0.20 for each
unit produced. However the company guarantees that every member of staff receives at least
$ 15 per day.
Shown below is the number of units produced by operator A during a recent week:
Day Monday Tuesday Wednesday Thursday Friday
Units produced 90 70 75 60 90
What are operator A,s earnings for the week?
A. $75.00
B. $77.00
C. $81.00
D. $152.00
Q 13 A business employs two grades of labour in its production department. Grade A workers are
considered direct labour employees, and are paid $ 10 per hour. Grade B labour workers are
considered indirect labour employees, and are paid $ 6 per hour.
In the week just ended, Grade A labour worked 30 hours of overtime, 10 hours on a specific
customer order at the customer’s request, and the other 20 hours as general overtime. Grade
B labour worked 45 hours of overtime, as general overtime. Overtime is paid at time-and-one-
half.

What would be the total amount of pay for overtime worked in the week that is considered to
be a direct labour cost?
A. $50
B. $150
C. $285
D. $350
Q 14 A manufacturing business is currently busy and overtime is being worked.
The cost of the overtime premium payable to direct labour employees is normally treated as:
A. A direct cost
B. A production overhead cost
C. An administration overhead cost
D. A sunk cost
Q 15 A manufacturer employees two grades of labour in its machining department, grade A and
grade B. Grade A employees are treated as direct labour employees and grade B employees
are treated as indirect labour employees. Grade A employees are paid $8 per hours and Grade
B workers are received $6 per hour. The basis working week is 40 hours. Overtime is paid at +
50% to all employees in the department. There are 10 grade A employees and 6 grade B
employees.
During a particular week, each grade A employees worked for 45 hours and each grade B
employee worked for 43 hours.
What will be the charge to production overhead for the week?
A. $54
B. $254
C. $1,602
D. $1.802
Q 16 The payroll department has produced the following information for the month about the pay
for employees in department X.
Department X $
Payments to employees 7,500
Income tax 2,500
Employees’ state benefit contributions (NI in the UK) 1,200
Employers’ state benefit contributions (NI in the UK) 2,000
What are the gross wages for the department for the month?
A. $7500
B. $10,000
C. $11,200
D. $13,200

Q 17 The payroll department has produced the following information for the month about the pay
for employees in department Z. department Z is a part of the account division.
Department Z $
Salaries (gross wages) 23,000
Income tax 4,500
Employees’ state benefit contributions (NI in the UK) 2,400
Employers’ state benefit contributions (NI in the UK) 3,500
What is the labour cost in department Z that would be treated as administration overhead
cost for the month?
A. $23,000
B. $26,500
C. $29,900
D. $33,400
Q 18 An employee is paid on a stepped piecework basis, as follows:
Unit produced each week $
1- 200 0.60 per unit
201- 300 0.80 per unit
Over 301 1.00 per unit
Only the additional units qualify for the higher rates. Rejected units do not qualify for any
payment. During a particular week, the employee makes 380 units, of which 35 were rejected
faulty.
What were his gross earnings for the week?
A. $245
B. $280
C. $345
D. $380
Q 19 A company employs 20 direct production operatives and 10 indirect staff in its
manufacturing department. The normal operating hours for all employees is 38 hours per
week and all staff is paid a basic rate of $5 per hour. Over time hours are paid at the basic rate
+ 50%. During a particular week all employees worked for 44 hours to meet the company’s
general production requirements.
What amount would be charged to production overhead?
A. $300
B. $450
C. $2,350
D. $2,650

Q 20 Aspects of payroll include

1. Employer’s state benefit contribution (National Insurance in the UK)
2. Employee’s state benefit contribution (National Insurance in the UK)
3. Income tax (PAYE in the UK)
4. Salaries
Which of the above are costs to an employer?
A. 1 & 4 only.
B. 2 & 4 only.
C. 2,3 & 4 only
D. 1,2,3 & 4
Q 21 An employee is paid on a piecework basis. The scheme is as follows:
1-100 units per day $0.20 per unit
101 – 200 units per day $0.30 per unit
>200 units per day $0.40 per unit
Only the additional units qualify for the higher rates,. Rejected units do not qualify for
payment. An employee produced 210 units in a day of which 17 were rejected as faulty.
How much did the employee earn for the day?
A. $47.90
B. $54.00
C. $57.90
D. $84.00
Q 22 A company employs 30-direct production staff and 15 indirect staff in its manufacturing
department. The normal operating hours for all employees is 37 hours per week and all staff is
paid a basic rate of $8 per hours. Overtime hours are paid at the basic rate +50 %. During a
particular week all employees worked for 42 hours to meet the company’s general production
requirements.
What is the total direct labour cost?
A. $8,880
B. $10.080
C. $10,680
D. $10,980
Q 23 An employee is paid on a piecework basis. The scheme is as follows:
1 – 200 units per day $0.15 per unit
201 –500 units per day $0.20 per unit
>500 units per day $0.25 per unit
Only the additional units qualify for higher rates. Rejected units do not qualify for payment. An
employee produced 512 units in a day of which 17 were rejected as faulty.
What wages is paid to the employee?

A. $128
B. $103
C. $99
D. $89
Q 24 It is expected that a product will take 36 minutes to produce. In a period 180 hours are
worked and 325 units of product are made. A bonus of half of the time saved is paid to the
employees. The wage rate is $ 8.00 per hour.
What is the total amount of bonus paid to the employee?
A. $252
B. $120
C. $60
D. NONE
Q 25 In a payments-by-result scheme employee s are paid a bonus based on hours saved at the
basic wage rate. The bonus payable to the employee is calculated as the hours saved
multiplied by the ratio of time saved to time allowed.
An employee produces 480 units in 72 hours. The time allowed for this number of units is 108
hours. The employee’s basic rate of pay is $10 per hour.
What is the total amount payable to the employee for this job?
A. $120
B. $720
C. $733
D. $840
Q 26 A manufacturer makes and sells a single product for which the expected direct labour cost is
$24 per unit. This is based on expected labour time of 3 hours per unit, paid at $ 8 per hour.
The manufacturer is considering an incentive scheme for its direct labour employees, whereby
they can increase the productivity ratio from 100 % to 120 %, they will receive a bonus of 25 %
for each hour worked.
What would be the unit labour cost if the incentive scheme is introduced and the efficiency
ratio is improved to exactly 120 %?
A. $18.75
B. $22.50
C. $23.25
D. $25.00
Q 27 A direct labour employee receives a wage of $8- per hour for a 38-hour week, with time
+25% for overtime. During a particular week, the employee worked for 42 hours. Due to an
equipment breakdown and the late delivery of urgent materials from a supplier, the employee
had to record six hours of idle time for the week.

What amount will be charged as a direct labour cost for the employee’s work in the week?
A. $288
B. $296
C. $304
D. $336
Q 28 A standard procedure currently takes 6 men two hours each to complete. They are each paid
$7.50 per hour. Management is considering a change in the method of doing the work, that
should reduce the time required by 20% and proposes to offer the employees an extra $1 per
hour if they agree to adopt the new method.
If this proposal is accepted and introduced, what would be the effect on the labour cost of the
procedure?
A. It will be $8.40 cheaper.
B. It will be $6.00 cheaper.
C. It will be $1.40 cheaper.
D. It will be $0.30 more expensive.
Q 29 The following data relates to a company’s payroll for the month just ended:
$
Paid to employees 67,000
Employee’s National Insurance contribution 21,000
Employee’s National Insurance contribution 13,200
Income tax 36,300
Employer’s contribution to employees’ pension fund 15,000
What is the total labour cost for the month?
A. $152,500
B. $139,300
C. $137,500
D. $124,300
Q 30 Sara is a clothing machinist. She is paid a flat rate of $4/hour for a 37 hour week, with any
overtime paid at time and a half. In addition a piecework rate of $6 is paid for each customer
contract finished in the week.
How much is Sara’s gross pay for the week?
A. $202
B. $178
C. $172
D. $276

Q 31 A manufacturing organization has 24 employees who are paid a basic hourly rate of $6.00
for a standard 38 hour week with any overtime hours being paid at a rate of time and a half.
In a typical week the employees all work 4 hours of overtime and produce 2,500 units of the
organization’s product.
What is the total unit labour cost for the product?
A. $2.19
B. $2.30
C. $2.42
D. $2.53
Q 32 A manufacturing organization employs 100 factory workers who are paid at an hourly rate of
$7.00 for a 38 hour a week. Any overtime hours are paid at time and a half. One average each
unit of the product the factory makes takes 4 hours and in an average week each employee
works 4 hours of overtime.
The management has recently installed new machinery which it is estimated should reduce
the time taken to produce one unit of the product to 3.5 hours. The employees will continue to
work the same amount of overtime.
What will be the increase in the number of units made each week now the machinery has
been installed?
A. 35 units
B. 135 units
C. 150 units
D. 250 units
Q 33 At the end of week 23 a business made a payment for new wages of $17,800. This was after
deduction for PAYE and NIC of $5,900. Of the gross amount of $23,700, $3,700 was for
indirect wages and the remainder was for direct workers’ wages.
What is the double entry for the labour costs for the week?
A. Debit Wages control $23,700
Credit Work in progress $20,000
Credit Production overhead $3,700
B. Debit Wages control $23,700
Debit Work in progress $3,700
Credit Production overhead $20,000
C. Debit Work in progress $20,000
Debit Production overhead $3,700
Credit Wages control $23,700
D. Debit Work in progress $3,700
Debit production overhead $20,000
Credit Wages control $23,700

Q 34 A business employs seven sales people. Each person is paid a basic wage of $200.00 per week
plus a 1% sales commission if the sales target is achieved.
The results for the first three weeks of the month are shown below.
Week Sales Target Sales commission payable per employee
achieved
1 $5,000 Yes $50.00
2 $8,000 Yes $80.00
3 $9,500 Yes $95.00
What will be the total wage bill for week 2?
A. $1,400
B. $1,960
C. $1,750
D. $2,065
Q 35 A differential piecework payment scheme operates in the packing department of a factory.
Straight piece rate is $10 per unit. Details of the scheme are as follows:
Units packed per week Premium rate per unit
1 to 2,000 50 cents
2,001 to 3,000 65 cents
3,001 to 4,000 75 cents
NB: Only extra units packed, over the previous threshold, qualify for the higher rates.
If 3,240 units were packed, how much would be paid in wages?
A. $15,274
B. $24,876
C. $30,000
D. $34,230
Q 36 The following information relates to the wages paid to workers for a four week period in a
factory department (Department A) where two products (Products M and N) are
manufactured:
All workers are paid at hourly rates. Basic rates (gross) are $8.00 per hour for direct workers and
$6.00 per hour for indirect workers for a 40 hour week.
The department employs 24 direct workers and 9 indirect workers. Overtime is regularly worked to
meet general production requirements and is paid at a premium of 25% over basic rate for all
workers.
Overtime hours in the four week period were 256 and 84 for direct and indirect workers respectively.

Production of the two products during the four week period was:
Product M – 9,640 units in 1,620 hours of direct workers’ time.
Product N – 22,800 units in 2,270 hours of direct workers’ time.
The balance of the direct workers’ time in the period was non-productive time.
The net wages paid (i.e. net of employee deductions) in the period were:
Direct workers – $25,090
Indirect workers – $7,150
The factory uses a batch costing system, based on actual costs, which is integrated with the financial
accounts.
Required:
(a) Calculate the gross wages, for the four week period in Department A, for both direct workers and
indirect workers. (4 marks)
(b) Prepare the Department A Wages Control Account for the period. (Show all workings to justify the
calculation of both direct and indirect wages.)
Q 37 A company operates a factory which employed 40 direct workers throughout the four week
period just ended. Direct employees were paid at a basic rate of $4.00 per hour for a 38 hour
week. Total hours of the direct workers in the four week period were 6,528. Overtime, which is
paid at a premium of 35%, is worked in order to meet general production requirements.
Employee deductions total 30% of gross wages. 188 hours of direct workers’ time were registered as
idle. Prepare journal entries to account for the labour costs of direct workers for the period.
Q 38 The following information is available regarding the labour costs in a factory department for
a week:
Direct personnel Indirect personnel
Payroll hours:
Production 432 117
Training 24 –
Idle time 32 4
Total 488 121

Rate per hour:
Basic $7.50 $6.00
Overtime premium $2.50 $2.00
The following additional information is provided:
(i) There are 12 direct personnel and 3 indirect personnel in the department.
(ii) Group bonuses for the week, shared by all workers in the department, total $520.
(iii) The basic wage rates apply to a normal working week of 37 hours.
(iv) Overtime is worked in order to meet the general requirements of production.
(v) The idle time and the time spent training during the week are regarded as normal.
(vi) The expected number of payroll hours of direct personnel in the week (excluding
time spent training), required to produce the output achieved, is 470.
Required:
(i) Calculate the total amounts paid in the week (before share of group bonus) to direct personnel and
indirect personnel respectively. (3 marks)
(ii) Determine the total amounts to be charged as direct wages and indirect wages respectively. (3
marks)
(iii) Prepare the wages control account in the company’s separate cost accounting system. Clearly
indicate the account in which each corresponding entry would be made. (2 marks)
(iv) Calculate the efficiency ratio relating to the direct personnel (expressed as a percentage to one
decimal place).
Q 39 Which one of the following groups of workers would be classified as indirect labour?
A Machinists in an organisation manufacturing clothes
B Bricklayers in a house building company
C Maintenance workers in a shoe factory
D Assembly workers in a vehicle manufacturing business

Q 40 Which one of the following would be classified as indirect labour?
A Assembly workers on a car production line
B Bricklayers in a house building company
C Machinists in a factory producing clothes
D Forklift truck drivers in the stores of an engineering company
Q 41 The following statements refer to situations occurring in Process Q of an organisation which

operates a series of consecutive processes:
(1) Direct labour is working at below the agreed productivity level
(2) A machine breakdown has occurred
(3) Direct labour is waiting for work to be completed in a previous process
Which of these situations could give rise to idle time?
Q 42 What is the “overtime premium”?
A The additional amount paid for hours worked in excess of the basic working hours
B The additional payment over and above the normal hourly rate for hours worked in excess of the
basic working hours
C The benefit to the company of not having to pay salaried staff for working at weekends
D The amount paid for working weekends and national holidays
Q 43 A company operates a premium bonus system by which employees receive a bonus of 75% of
the time saved compared with a standard time allowance (at the normal hourly rate). Details
relating to employee X are as follows:
Actual hours worked 42
Hourly rate of pay $10
Output achieved 400 units of product Y
Standard time allowed (per unit of Y) 7 minutes

What is the bonus payable to employee X (to the nearest $)?
A $35 B $47
C $70 D $77
Q 44 A company operates a differential piece-rate system and the following weekly rates have
been set:
1 – 500 units $0·20 per unit in this band
501 – 600 units $0·25 per unit in this band
601 units and above $0·55 per unit in this band
Employee A has produced 800 units in 45 hours worked
There is a guaranteed minimum wage of $5 per hour for a 40-hour week paid to all employees.
What is the amount payable to employee A?
A $200 B $235
C $435 D $440
Q 45 An organisation operates a piecework system of remuneration. Five minutes is the standard

time allowed per unit of output. Piecework is paid at the rate of $20 per standard hour. If an
employee produces 120 units in nine hours on a particular day, what is the employee’s pay for
that day?
Q 46 Budgeted production in a factory for next period is 4,800 units. Each unit requires five labour
hours to make. Labour is paid $10 per hour. Idle time represents 20% of the total labour time.
What is the budgeted total labour cost for the next period?
Q 47 Clock cards are used to record the time that employees spend at the work place.
Which of the following statements relating to clock cards is TRUE?
A They provide information for calculating idle time
B They can be used to allocate time to different projects
C They are useful for professional staff to ensure accurate billing of their time to clients
D They indicate how long staff spend at the work place but do not indicate how many hours they
worked

Q 48 The Flexible Manufacturing Co manufactures products on behalf of several customers. Each

customer order is different in terms of quantity and product specification. The company
therefore needs to calculate the cost of each order.
Which of the following methods are appropriate for apportioning labour time to each order?
(1) Clock cards
(2) Time sheets
(3) Job cards
A 1 and 2 B 1 and 3
C 2 and 3 D 1, 2 and 3

Chapter 5
Overheads
Responsibility centres
A responsibility centre is a function or department of an organisation that is headed by a manager
who has direct responsibility for its performance.
Responsibility accounting is a system of accounting that segregates revenue and costs into areas of
personal responsibility in order to monitor and assess the performance of each part of an
organisation.
Cost centres
A cost centre is any section of an organisation to which costs can be separately attributed.
A cost centre is a production or service location, function, activity or item of equipment for which
costs are accumulated.
Examples of cost centres

Cost centres may include the following.
 A department (as in our example above)

 A machine or group of machines
 A project (eg the installation of a new computer system)
 A new product (to enable the costs of development and production to be identified)
 A person (eg a marketing director. Costs might include salary, company car and other
expenses incurred by the director)
EXAM FOCUS POINT
Many students confuse cost units and cost centres – don’t make that mistake! Remember – a cost
centre is something that incurs costs as it operates (for example a factory). It is a collecting place for
costs before they are analysed further. A cost unit is the ultimate product or service to which the cost
centre costs are allocated. Taking the factory cost centre example, cost units are the products that are
manufactured in the factory and therefore have the factory costs allocated to them.
Revenue centres
A revenue centre is any section of an organisation to which revenue can be separately attributed.

A revenue centre is a production or service location, function, activity or item of equipment for which
revenue are accumulated.
Profit centres
A profit centre is any section of an organisation to which both revenues and costs are assigned, so
that the profitability of the section may be measured.
A profit centre is part of a business accountable for both costs and revenues.
Examples of profit centres
 A sales division selling products to customers

 A service division providing after sales service
 Individual shops in a retail chain
 Local branches in a regional or nationwide distribution business
 A geographical region eg a country or group of countries
 A team or individual eg a sales team, a team of equipment installers
Investment centres
An investment centre is a centre which has additional responsibilities for capital investment.
Investment centres refer to centres with additional responsibility for capital investment and possibly
for financing, and whose performance is measured by its return on capital employed.
Charging and distributing overheads to different cost centers
Allocation of overheads:
Allocation is the process of assigning whole item of cost to cost centers. These overheads are
traceable to cost centers
Apportionment of overheads.
Process of distributing single cost item into production and service departments e-g rent, electricity
bills. Apportionment is needed for those cost items which are shared by different departments.
Rent, rates, heating lighting, repairs Floor area occupied (Most appropriate base
depreciation of building for heat is volume)
Insurance and depreciation of equipment cost or book value of equipment
Lighting & heating kilo watt hrs.

Re-apportionment of overheads:
Process of distributing overheads of service centers in production departments
Service center Base for re-apportionment.
Stores Number of material

reacquisition
Maintenance Number of hrs worked.
Canteen
Number of employees.
Production Planning Direct labour hrs worked.
Methods of reapportionment
There are 3 methods that can be used:
• Direct method – the cost of each service cost centre is re-apportioned to the production cost centres
only.
• Step down method – used when one service department works or provides a service for other
service departments as well as the production departments.
• Reciprocal reapportionment (or the repeated distribution method) – used where service cost centres
do work for each other as well as provide a service for the production cost centres. It involves carrying
out many reapportionments until all of the service departments’ overheads have been reapportioned
to the production departments.
Absorption of overheads
Overhead absorption rate is 'a means of attributing overhead to a product or service, based for
example on direct labour hours, direct labour cost or machine hours'
The rate at which overheads are included in cost of sales (absorption rate) is predetermined before
the accounting period actually begins for a number of reasons.
 Goods are produced and sold throughout the year, but many actual overheads are not known
until the end of the year. It would be inconvenient to wait until the year end in order to decide
what overhead costs should be.

 An attempt to calculate overhead costs more regularly (such as each month) is possible,
although estimated costs must be added for occasional expenditures such as rent and rates
(incurred once or twice a year). The difficulty with this approach would be that actual
overheads from month to month would fluctuate randomly; therefore, overhead costs
charged to production would depend on a certain extent on random events and changes. A
unit made in one week might be charged with $4 of overhead, in a subsequent week with $5,
and in a third week with $4.50. Only units made in winter would be charged with the heating
overhead. Such charges are considered misleading for costing purposes and administratively
and clerically inconvenient to deal with.
 Similarly, production output might vary each month. For example, actual overhead costs
might be $20,000 per month and output might vary from, say, 1,000 units to 20,000 units per
month. The unit rate for overhead would be $20 and $1 per unit respectively, which would
again lead to administration and control problems.
Overhead absorption rate (OAR)

𝑩𝒖𝒅𝑔𝒆𝒕𝒆𝒅 𝒐𝒗𝒆𝒓𝒉𝒆𝒂𝒅𝒔
𝑶𝑨𝑹 =
𝑩𝒖𝒅𝒈𝒆𝒕𝒆𝒅 𝒂𝒄𝒕𝒊𝒗𝒊𝒕𝒚 𝒍𝒆𝒗𝒆𝒍
Predetermined activity level may be
 Units
 Direct Labour hrs.
 Machine hrs.
 %age of Material cost
 %age of labour cost
 % age of prime cost.
Absorbed overheads or Applied overheads = Actual activity x OAR.
𝐴𝑏𝑠𝑜𝑟𝑏𝑒𝑑 𝑜𝑣𝑒𝑟ℎ𝑒𝑎𝑑 − 𝐴𝑐𝑡𝑢𝑎𝑙 𝑜𝑣𝑒𝑟ℎ𝑒𝑎𝑑𝑠 = 𝑈𝑛𝑑𝑒𝑟 𝑜𝑟 𝑜𝑣𝑒𝑟 𝑎𝑏𝑠𝑜𝑟𝑏𝑒𝑑 𝑜𝑣𝑒𝑟ℎ𝑒𝑎𝑑𝑠
Many factories use a direct labour hour rate or machine hour rate in preference to a rate based on a
percentage of direct materials cost, wages or prime cost.
 A direct labour hour basis is most appropriate in a labour intensive environment.
 A machine hour rate would be used in departments where production is controlled or dictated
by machines. This basis is becoming more appropriate as factories become more heavily
automated.
Note: absorbed overhead can be calculated for each department separately. It is called departmental
overhead absorption rate. If it is calculated for whole organization it is called blanket overhead

absorption rate.
Reasons for Under or over absorbed overheads.

 Overheads are under absorbed when
o Actual overheads > Absorbed OH OR
o Actual Activity level <Budgeted Activity Level
 Overheads are Over absorbed when
o Actual OH<Absorbed OH OR
o Actual Activity level >Budgeted Activity
Note: Only fixed overheads are under or over absorbed
Note: When actual overheads are not given in question budgeted overheads are treated as actual.
Overhead accounting
 Payment of actual overheads
POH control a/c Dr.
Cash Cr. (e-g payment of rent suppervisor salary etc).
Admin overhead control a/c Dr
Cash Cr.
Selling overheads control a/c dr.
Cash cr.
 Production overhead applied
WIP a/c Dr.
POH Control a/c cr.
 Under or over applied FOH

 Under applied/absorbed
Income statement dr
POH control a/c cr.
 Over applied/absorbed

POH control a/c dr.
Income statement cr.
 Transfer to finished goods.
Finished goods a/c dr
WIP a/c cr.
 Sale of goods.
Cash dr
Sale cr
Cost of sale dr.
Finished good a/c cr.

Exercise
Q 1 A cost centre is:
A. A unit of product or service for which costs are calculated.
B. An amount of profit attributable to an activity.
C. A function or location within an organization for which costs are accumulated.
D. A section of the organization for which budgets are prepared and control is
exercised.
Q 2 Which of the following is a service cost centre in a manufacturing company?
A. Finishing
B. Machine
C. Dispatch
D. Assembly
Q 3 Which of the following department is not a service cost centre in a manufacturing
company?
A. Accounting
B. Assembly
C. Maintenance
D. Personnel
Q 4 Overheads allocation is the process of:
A. The charging of overheads to cost units
B. The allotment of proportions of items of cost to cost or cost units
C. The charging of direct materials to jobs
D. The allotment of whole items of cost to cost centers or cost units
Q 5 Which is not a recognized method of overhead absorption?
A. Recovery rate per direct labour hour
B. Recovery rate per machine hour
C. As a percentage of sale value
D. As a percentage of prime cost
Q 6 Production supervisory salaries are classed as production overhead. Which is the most
appropriate basis of apportioning this cost to cost centre?
A. Number of units produced
B. Machine hour
C. As a percentage of sale value
D. As a percentage of prime cost

Q 7 Which of the following would be the most appropriate basis for apportioning machinery
insurance costs to cost centres within a factory?
A. The number of machine in cost centre
B. The floor area occupied by the machinery in each cost centre
C. The value of the machinery in each cost centre
D. The operating hours of the machinery in each cost centre.
Q 8 Factory overheads can be absorbed by which of the following methods?
I. Direct labour hours
II. Machine hours
III. As a percentage of prime cost
IV. $ X per unit
A. 1,2,3 & 4
B. 1 & 2 only
C. 1,2 & 3 only
D. 2,3 & 4 only
Q 9 Which is cost apportionment?
A. Charging discrete, identifiable items of cost to cost centres or cost units
B. The collection of cost attributable to cost centres and cost units the costing
methods applied by the business
C. The process of establishing the cost of cost centres or cost units
D. The division of a cost between two or more cost centres in proportion to the
estimated benefit received by each centre
Q 10 What would be the appropriate basis for apportioning the cost of heating and lighting
between cost centres in a factory building?
A. Number of employees
B. Number of machines
C. Value of machinery
D. Floor area occupied by each department
Q 11 What would be the appropriate basis for apportioning the cost of heating and lighting
between cost centres in a factory building?
A. Number of employees
C. Value of machinery
D. Floor area occupied by each department

Q 12 It is possible for an item of overhead expenditure to be shared amongst several cost

centres. It is also possible that an item of overhead expenditure may relate to just one
specific cost centre.
What item is used to describe charging an item of overhead to just one specific cost
centre?
A. Absorption
B. Allocation
C. Apportionment
D. Re-apportionment
Q 13 What could be the most appropriate basis for apportioning machinery insurance costs to
cost centrres within a factory?
A. Floor area occupied by the machinery
C. Operating hours of machine
D. Value of machine
Q 14 In a system of absorption costing, why are the absorption rates for fixed overheads
usually determined in advance, as part of the budget, instead of retrospectively at the end
of the budget period?
A. It is simple or decide overhead rates in advance from retrospectively
B. It is not possible to calculate actual overhead costs retrospectively
C. So that fixed overheads can be charged to output before the end of the accounting
period
D. Predetermined overheads are more accurate than overheads costs calculated
retrospectively
Q 15 The following information is available for a small business with three departments. A , B
and C that all operate in the same building.
Department A B C
Floor area (square metres) 1,500 2,000 1,500
Number of employees 10 6 4
Assets $40,000 $40,000 $80,000
Labour hours per month 1,200 1,000 800
Employees are provided with free lunchtime meals, and the cost of this small ‘canteen’
service is $ 1,800 per month.
If the businesses use an absorption costing system, what would be the most appropriate
charge to department A each month for the cost of the canteen service?
A. $540
B. $900
C. $450
D. $720

Q 16 When the amount of under or over absorption is significant, it should be disposed of by:
A. Transferring to profit and loss account
B. The use of supplementary rate
C. Carrying over as a deferred charge to the next accounting year
Q 17 Budgeted overheads for a period were $340,000 for which actual labour hours and
overheads were 21,050 hours and $343,825 respectively. If there was over-absorbed of
$14,025, how many labour hours were budgeted?
A. 20,000
B. 20,225
C. 20,816
D. 21,050
Q 18 A business absorbs its fixed production overheads on the basis of direct labour hours.
The budgeted direct labour hour for week 24, were 4,200. During that week 4,050 direct
labour hours were worked and the production overheads incurred were $16,700. The
overheads were under-absorbed by $1,310.
What were the budgeted fixed overheads for the week (to the nearest $10)?
A. $14,840
B. $15,960
C. $17,320
D. $18,680
Q 19 Overheads for two departments in a manufacturing company are:
Machinery department $45,000
Assembly department $52,500
The activity for each department is as follows:
Machinery department assembly department
Machine hours 5,625 1,250
Labour hours 1,875 8,750
What are the MOST appropriate overhead absorption rates for the two departments?
A. Machining department $6 Assembly department $5.25
B. Machining department $6 Assembly department $6
C. Machining department $8 Assembly department $6
D. Machining department $8 Assembly department $5.25
Q 20 What entry would be made in the cost accounting system on completion of production?
A. Dr Finished goods Cr Costing profit and loss
B. Dr Finished goods Cr Work-in-progress
C. Dr Work-in-progress Cr Finished goods
D. Dr Cost of sale Cr Finished goods

Q 21 Consider the following statement:

1) All expanses are overheads
2) Service cost center overheads should be apportioned to production cost centers
Which one of the following is correct with regard to the above statement?
D. Statement 2 is correct but statement 1 is incorrect
Q 22 Product A is made from material costing $12 per unit of production. The direct wage
rate is $14 per hour and the direct wages cost is $7 per unit. The business has a capacity to
produce and sell 1,000 units per week and fixed costs total $ 8,000 per week. Variable
overheads are absorbed at $18 per direct labour hour.
What is the total variable cost per unit?
A. $19
B. $28
C. $36
D. $27
Q 23 A cost center has an overhead absorption rate of $4.25 per machine hour, based on a
budgeted activity level of 12,400 machine hours. In the period covered by the budget,
actual machine hours worked were 2% more than the budgeted hour and the actual
overhead expenditure incurred in the cost center was $56,389.
What was the total over or under absorption of overheads in the cost center for the
period?
A. $ 1,054 over absorbed
B. $ 2635 under absorbed
C. $ 3,689 over absorbed
D. $ 3,689 under absorbed
Q 24 At the end of a period, in an integrated cost and financial accounting system, the
accounting entries for $10,000 overheads over-absorbed would be:
A. Dr Work-in-progress Cr Overheads control account
B. Dr Income statement Cr Work-in-progress control account
C. Dr Income statement Cr Overhead control account
D. Dr Overhead control account Cr Income statement

Q 25 Iddon makes two products, Pye and Tan, in a factory divided into two production
departments, machining and assembly. In order to find a fixed overhead cost per unit, the
following budgeted data are relevant.
Machining Assembly
Direct and allocated fixed costs $120,000 $72,000
Labour hours per unit
Pye 0.50 hour 0.20 hour
Tan 1.00 hour 0.25 hour
Budgeted production is 4,000 units of each product (8,000 units in all) and fixed overheads
are to be absorbed by reference to labour hours.
What is the budgeted fixed overhead cost of a unit of Pye?
A. $18
B. $20
C. $24
D. $28
Q 26 A finishing department absorbs production overheads using a direct labour hour basis.
Budgeted production overheads for the year just ended were $268,800 for the
department, and actual production overhead costs were $245,600.
If actual labour hours worked were 45,000 and production overheads were over-absorbed
by $6,400, what was the overhead absorption rate per labour hour?
A. $5.32
B. $5.60
C. $5.83
D. $6.12
Q 27 The following extract of information is available concerning the four cost centres of EG
limited.
Production cost centres Service cost centre
Machinery Finishing Packing Canteen
Number of direct employees 7 6 2 -
Number of indirect employees 3 2 1 4
allocated and apportioned oh $28,500 $18,300 $8,960 $8,400
The overhead cost of the canteen is to be re-apportioned to the product cost centre on the
basis of the number of employees in each production cost centre. After the re-
apportionment, the total overhead cost of the packing department, to the nearest $, will
A. $1,200
B. $9,968
C. $10,080
D. $10,160

Q 28 The diagram shows a company’s factory. The factory is split into two departments the
sizes of which are shown. Each department contains a meter to record the fuel for heating.
30,000 sq meter 20,000 sq meters
Department X Department Y
Meter 1 Meter 2
The rent of the year is $100,000. The table has shown the heating bill for the year.
$
Meter 1 6,000
Meter 2 14,000
20,000
Which amount for rent and heating should be attributed to X?

A. $54,000
B. $62,000
C. $66,000
D. $72,000
Q 29 A business absorbs its production overheads on the basis of labour hours. There were
250,000 budgeted labour hours for the next period and the overhead absorption rate was
$3 per labour hour.
During the period the actual results were:
Actual labour hours 240,000
Actual production overhead $710,000
Which of the following statements is correct?
A. Overheads were over-absorbed by $10,000.
B. Overheads were under-absorbed by $10,000.
C. Overheads were over-absorbed by $40,000.
D. Overheads were under-absorbed by $40,000.
Q 30 A business absorbs its fixed production overheads on the basis of direct labour hours.
The budgeted fixed production overhead for the forthcoming period was $118,000. The
budgeted direct labour hours were 14,750 and the actual direct labour hours worked were
15,100.
If the overheads were under-absorbed by $2,400 what were the actual fixed production
overheads for the period?
A. $120,800
B. $118,400
C. $123,200
D. $125,600

Q 31 Which of the following would be the MOST appropriate basis for apportioning canteen
costs in a factory?
A. The total number of staff employed in each cost centre
B. The number of machine operators in each cost centre
C. The total number of supervisors in each cost centre
D. The number of maintenance staff in each cost centre
Q32
Required:
(a) Calculate the budgeted overhead absorption rate in each production centre. (5 marks)
(b) Determine the total budgeted overhead to be absorbed into one unit of Product CD4 and one unit
of Product EF7. (3 marks)
Q33 A manufacturing company has two production cost centres (Departments A

and B) and one service cost centre (Department C) in its factory.
A predetermined overhead absorption rate (to two decimal places of $) is established for each of the
production cost centres on the basis of budgeted overheads and budgeted machine hours.

The overheads of each production cost centre comprise directly allocated costs and a share of the
costs of the service cost centre.
Budgeted production overhead data for a period is as follows:
Department A Department B Department C
Allocated costs $217,860 $374,450 $103,970
Apportioned costs $45,150 $58,820 ($103,970)
Direct labour hours 16,360 27,390
Actual production overhead costs and activity for the same period are:
Department A Department B Department C
Allocated costs $219,917 $387,181 $103,254
Direct labour hours 16,402 27,568
70% of the actual costs of Department C are to be apportioned to production cost centres on the basis
of actual machine hours worked and the remainder on the basis of actual direct labour hours.
Required:
(a) Calculate the production overhead absorption rates for the period. (2 marks)
(b) Determine the under or over absorption of production overhead for the period in each production
cost centre. (Show all workings.)
Q34 Warninglid has two production centres and two service centres to which the
following applies:

(a) Allocate and apportion the overheads to each department. (3 marks)
(b) Calculate the total overheads included in the production departments after reapportionment using
the reciprocal method.
(c) Calculate the overhead absorption rate for each production department. Justify the
basis that you have used. (3 marks)
Q35 A business operates with two production centres and three service centres.
Costs have been allocated and apportioned to these centres as follows:

Required:
(a) Using the reciprocal method calculate the total overheads in production centres 1 and 2 after
reapportionment of the service centre costs. (8 marks)
(b) Using the most appropriate basis determine the overhead absorption rate for production centre 1.
Briefly explain the reason for your chosen absorption basis.
Q36 Phoebe manufactures many different products which pass through two
production cost centres (P1 and P2).
There are also two service cost centres (S1 and S2) in the factory. The following information has been
extracted from the budget for the coming year:

Service cost centre S1 costs are reapportioned to all other cost centres based on the number of
employees. Service cost centre S2 only does work for P1 and P2 and its costs are reapportioned to
these centres in the ratio 5:3 respectively.
Required:
(a) Calculate:
(i) the machine hour absorption rate for cost centre P1; and
(ii) the direct labour hour absorption rate for cost centre P2. (4 marks)
(b) Explain the difference between production overheads that have been “allocated” and those which
have been “apportioned” to cost centres. Explain why some manufacturing companies are able to
allocate electric power costs to production cost centres, whereas others can only apportion them.
Q37 A company manufactures two products, X and Y, in a factory divided into

two production cost centres, Primary and Finishing. The following budgeted data
are available:
Budgeted production is 6,000 units of product X and 7,500 units of product Y. Fixed overhead costs
are to be absorbed on a direct labour hour basis. What is the budgeted fixed overhead cost per unit
for product Y?
A $11 B $12
C $14 D $15
Q38 A company uses an overhead absorption rate of $3·50 per machine hour,
based on 32,000 budgeted machine hours for the period. During the same period
the actual total overhead expenditure amounted to $108,875 and 30,000 machine
hours were recorded on actual production. By how much was the total overhead
under or over absorbed for the period?
A Under absorbed by $3,875 B Under absorbed by $7,000
C Over absorbed by $3,875 D Over absorbed by $7,000

Q39 A cost centre has an overhead absorption rate of $4·25 per machine hour,
based on a budgeted activity level of 12,400 machine hours.
In the period covered by the budget, actual machine hours worked were 2% more than the budgeted
hours and the actual overhead expenditure incurred in the cost centre was $56,389.
What was the total over or under absorption of overheads in the cost centre for the period?
A $1,054 over absorbed B $2,635 under absorbed
C $3,689 over absorbed D $3,689 under absorbed
Q40 A factory consists of two production cost centres (P and Q) and two service cost
centres (X and Y). The total allocated and apportioned overhead for each is as
follows:
After the reapportionment of service cost centre costs has been carried out using a method that
fully recognises the reciprocal service arrangements in the factory, what is the total overhead for
production cost centre P?
A $122,400 B $124,716
C $126,000 D $127,000
Q41 A company manufactures two products P1 and P2 in a factory divided into two
cost centres, X and Y. The following budgeted data are available:

Budgeted output is 8,000 units of each product. Fixed overhead costs are absorbed on a direct
labour hour basis. What is the budgeted fixed overhead cost per unit for Product P2?
A $10 B $11
C $12 D $13
Q42 A manufacturing company uses a machine hour rate to absorb production

overheads, which were budgeted to be $130,500 for 9,000 machine hours. Actual
overheads incurred were $128,480 and 8,800 machine hours were recorded.
What was the total under absorption of production overheads?
A $880 B $900
C $2,020 D $2,900
Q43 A factory consists of two production cost centres (G and H) and two service cost
centres (J and K). The total overheads allocated and apportioned to each centre are
as follows:
The company apportions service cost centre costs to production cost centres using a method that fully
recognises any work done by one service cost centre for another.
What are the total overheads for production cost centre G after the reapportionment of all service
cost centre costs?
A $58,000
B $58,540
C $59,000
D $59,540

Q44 A factory consists of two production cost centres (P and Q) and two service cost
centres (X and Y). The total allocated and apportioned overhead for each is as
follows:
Q45 A company uses an overhead absorption rate of $4.50 per machine hour, based
on 22,000 budgeted machine hours for the period. During the last period the actual
total overhead expenditure amounted to $95,000 and 20,000 machine hours were
recorded.
By how much was the total overhead under or over absorbed for the last period?
A Under absorbed by $5,000 B Under absorbed by $4,000
C Over absorbed by $5,000 D Over absorbed by $4,000
Q46 A company uses absorption costing with a pre-determined hourly fixed

overhead absorption rate. Last year, the following situations arose:
(1) Actual overhead expenditure was less than the budgeted expenditure
(2) Actual hours worked were less than the budgeted hours used to set the predetermined overhead
absorption rate
What would be the effect of each situation on the under/over absorption of fixed production
overheads?
Under absorption Over absorption
Situation (1) ○ ○
Situation (2) ○ ○

Chapter 6
Absorption and Marginal Casting
Marginal Costing
 Under Marginal costing technique, fixed production overheads are considered as periodic cost
(Related to time not to production) and not considered as cost of production
Cost of production =Direct Material+ Direct Labour + Variable production Overheads.
Contribution = Sales price – Total variable cost
 Under marginal costing contribution increases if sale increases

 Any increase in contribution results in decrease in loss or increase in profit.
Absorption costing
 Under Absorption costing technique, fixed production overheads are also included in cost of
production on basis of predetermine OAR. It may result in under or over absorbed fixed factory
overheads.
Cost of Production=Direct Material+ Direct labour +variable factory overheads + Fixed factory
overheads
Difference in profit
Profit under Marginal and absorption costing may differ due to different values of opening and
closing stocks/ Inventory. If closing inventory (units) is higher than opening inventory (units) profit
under absorption costing will be higher. If closing inventory (units) is lower than opening inventory
(units) profit under marginal costing will be higher. If number of units of opening stock and closing
stock are equal, profit will also be equal.

Profit Statement under Marginal costing

Sales XXX
Less: Cost of sales:

Op.Stock (D.M+D.L+V.POH PER UNIT) X UNITS XXX.
Add: cost of production (D.M+D.L+V.POH PER UNIT) X UNITS XXX.
XXX
Less: closing stock(D.M+D.L+V.POH PER UNIT) X UNITS ( XXX. (XXX)
XXX
Less: Variable admin overheads (xxx)
Variable selling over heads (xxx)
Contribution Xxx
Less: fixed overheads.

Fixed production OH (xxx)
Fixed admin OH (xxx)
Fixed selling overheads (xxx)
Net profit XXX

Profit Statement under absorption costing
Sales XXX
Less: Cost of sales:

Op.Stock (D.M+D.L+V.POH+ FPOH PER UNIT) X UNITS xxx.
Add: cost of production (D.M+D.L+V.POH+ FPOH PER UNIT) X UNITS xxx.
XXX
Less: closing stock(D.M+D.L+V.POH+ FPOH PER UNIT) X UNITS (xxx) (XXX)
GROSS PROFIT XXX
Less/Add: Over or Under absorbed Fixed Production overheads xxx
Less: Non Production Overheads
Variable Selling Overheads ( xxx)
Variable Admin Overheads ( xxx)
Fixed admin OH (xxx)
Fixed selling OH (xxx)

Net profit xxx
Reconciliation of profit
Difference in profit = Difference in opening and closing inventory (in units) x Fixed production
overhead absorption rate/unit
 If closing stock (units) is higher than opening stock(units), profit under absorption costing will
be higher.
 If opening stock (units) is higher than closing stock (units) profit under marginal costing will be
higher.
When to use Absorption Costing

 In order to apply accounting principle properly.
 To charge share of fixed production overheads to different production.
 To calculator price more accurately based on full costing.

When to use Marginal Costing

 For decision making
 For easy calculations
 To avoid under/over absorbed production overheads.
Note: Inventory value will always be higher under absorption costing. Under marginal costing
inventory value is not in accordance to requirement of IAS2.

Exercise
Q 1 When preparing an operating statement based on marginal costing principles, inventory
valuation comprises which of the costs?
A. Direct labour material only
B. Prime cost plus production overhead
C. Prime cost plus variable overhead
D. Total cost of sales
Q 2 With which costs is absorption costing concerned?
A. Direct labour costs only
B. Direct material costs only
C. Fixed costs only
D. Variable and fixed costs
Q 3 You are presented with following information about sales and costs for a business that makes
and sells a range of products:
$
Sales revenue 320,000
Direct labour 100,000
Direct material 75,000
Production overhead 78,000
Other overhead cost 50,000
The business uses absorption costing. There was no opening or closing inventories of the
product. What profit would be reported for the period, using absorption costing?
A. $15,000
B. $17,000
C. $20,000
D. $23,000
Q 4 Management has asked for a report showing the annual sales and profits for its three
products for the year just ended. The report could be presented in either an absorption costing
or a marginal costing format. Which of the following statements is incorrect?
A. The total profit would be the same, regardless of whether absorption costing or
marginal costing is used.
B. A report using absorption costing would indicate whether each product appears to be
making enough profits.
C. A report using marginal costing would indicate whether each product was making
enough contribution towards covering fixed overheads and making a profit.
D. A report using marginal costing would show the total contribution, from which fixed
overheads would be deducted to arrive at the profit figure.

Q 5 In the year 2000, opening stocks were 12,600 units and closing stocks 14,100 units. The profit
based on marginal and absorption costing was $50,400 and $60,150 respectively. The fixed
overhead absorption rate per unit (to the nearest cent)is:
A. $4.00
B. $4.77
C. $6.50
D. $6.97
Q 6 When opening stock units were 8,500 and closing stock units were 6,750, a firm had profit of
$ 62,100 using marginal costing. Assuming that fixed overhead absorption rate was $3 per
unit, what would be the profit using absorption costing?
A. $41,850
B. $56,850
C. $67,350
D. $82,350
The following information relates to question 7 and 8
Cost and selling price details for product Z are as follows:
$ per unit
Direct material 6.00
Direct labour 7.50
Variable overhead 2.50
Fixed overhead absorption rate 5.00
21.00
Profit 9.00
Selling price 30.00
Budgeted production for the month was 5,000 units although the company managed to
produce 5,800 units, selling 5,200 of them and incurring fixed overhead costs of $27,400
Q 7 The marginal costing profit for the month is:

A. $45,400
B. $46,800
C. $53,800
D. $72,800

Q 8 The absorption costing profit for the month is:

A. $45,200
B. $45,400
C. $46,800
D. $48,400
Q 9 The overhead absorption rate for product Y is $2.50 per direct labour hour. Each unit of Y
requires 3 direct labour hours. Stock of product Y at the beginning of the month was 2000
units and at the end of the month were 250units. What is the difference in the profits reported
for the month using absorption costing compared with marginal costing?
A. The absorption costing profit would be $375 less.
B. The absorption costing profit would be $125 greater
C. The absorption costing profit would be $375 greater
D. The absorption costing profit would be $ 1,875 grater
Q 10 A company produce a single product for which cost and selling price details are as
follows:
$ per unit $ per unit
Selling price 28
Direct material 10
Direct labour 4
Variable overhead 2
Fixed overhead 5
21
Profit per unit 7
Last period 8,000 units were produced and 8,500 units were sold. The opening stock was
3,000 units and profits reported using marginal costing was $60,000. The profits reported
using an absorption costing system would be:
A. $47,500
B. $57,500
C. $59,500
D. $62,500
Q 11 A company made 17,500 units at a total cost of $16 each. Three quarters of the costs were
variable and one quarter fixed sales were 15,000 units at $25 each. There were no opening
stocks.
By how much will the profits calculated using absorption costing principle differ from the
profit if the marginal costing principles had been used?
A. The absorption costing profit would be $10,000 less
B. The absorption costing profit would be $10,000 greater

C. The absorption costing profit would be $30,000 greater

D. The absorption costing profit would be $40,000 greater
Q 12 A company had opening stock of 48,500 units and closing stock of 45,500 units. Profits
based on marginal costing were $315,250 and on absorption costing were $288,250.
What is the fixed overhead absorption rate per unit?
A. $5.94
B. $6.34
C. $6.50
D. $9.00
Q 13 In March, a company had a marginal profit of $ 78,000.opening stocks were 760 units and
closing stocks were 320 units. The company is considering changing to an absorption costing
system. What profit would be reported for March, assuming that the fixed overhead
absorption rate is$ 5 per unit?
A. $74,200
B. $75,800
C. $76,400
D. $80,200
Q 14 A company had a profit of $ 147,754 in period using marginal costing. if absorption costing
had been used, a fixed production overhead absorption rate of $12 per unit would have
applied. Opening and closing stocks were 2966 units and 3604 units respectively.
What would the profit for the period have been absorption costing had been applied?
Q 15 A company manufactures a single product which sells of $85 per unit. Based on sales and
production of 1460unitsper period the total costs are:
$,000
Direct material 23
Direct labour 30
Variable production overheads 8
Fixed production overheads 20
Variable selling overheads 6
Fixed selling overhead 17
If the absorption costing method is used, what is the gross profit per unit (to two decimal
places of $ )? .
Q 16 Marginal costing profit of company ABC Limited was $ 390,950 and absorption costing
profit was $ 366,950. The opening stock was 39,400 units and the closing stock 37,400 units.
What is the fixed production overheads absorption rate per unit?
A. $9.92
B. $9.31
C. $10.45
D. $12.00

Q 17 A company expected to produce and sell 20,100 units of its single product in a period.
Actual production in the period was 19,578 units and 19,214 units were sold. Which of the
statement is correct in relation to the situation above?
A. Net profit and stock value would both be higher if absorption costing isused rather
than marginal costing
B. Net profit would be higher but stock value would be lower if marginal costing is used
rather than absorption costing
C. Net profit and stock values both be higher if marginal costing is used rather than
absorption costing
D. Net profit would be higher but stock values would be lower if absorption costing is
used rather than marginal costing.
Q 18 A company makes and sells a single product. Fixed production overheads are $25,000 per
month. The fixed production overhead absorption rate is based upon 5,000 units per month.
During a month 5,000 units were produced and 4,700 units were sold. The company operates
a total absorption costing system.
If marginal costing is used instead of absorption costing, what would be the effect on profit
for the month?
A. It would be $3,000 higher.
B. It would be $1,500 lower.
C. It would be $1,500 higher.
D. It would be $3,000 lower.
Q 19 A company manufactures a single product. The same number of units were manufactured
and sold in a period.
How would the stock and profit using marginal costing compare with absorption costing?
Stock value Profit
A. Higher Higher
Stock value Profit

B. Lower The same
Stock value Profit
C. Lower Lower
Stock value Profit
D. The same Higher
Q 20 A company manufactures a single product 200,000 units of the product were manufactured
in a period during which 197,000 units were sold. There was no opening stock of the product.
Unit costs in the period were:
$ per unit
Variable manufacturing costs 39.50
Fixed manufacturing costs 26.20

Variable selling and administration costs 14.80

Fixed selling and administration costs 20.70
Using absorption costing what is the value of finished goods stock at the end of the period
?
Q 21 Is each of the following statement true or false?
Statement 1 Absorption costing will report higher profit than marginal costing in a period
when fixed production overheads are over-absorbed.
Statement 2 Absorption costing will report higher profit than marginal costing in a period
when production units exceed the number of units sold.
Statement 1 Statement 2
A. True True
B. True False
C. False True
D. False False
Q 22 In a period, a company had opening inventory of 9,000 units and closing inventory of 7,500
units. Profits based on marginal costing were $250,000 and on absorption costing were
$190,000. If the budgeted total fixed cost for the company were $ 1,500,000, what was the
budgeted level of activity in units?
A. 6,250 units
B. 32,500 units
C. 37,500 units
D. Cannot be calculated without more information.
Q 23 The following statements relate to absorption and marginal costing.
1) As inventory levels rise marginal costing profit will be higher than absorption costing
profit.
2) Fixed production costs are treated as period cost under marginal costing.
Which one of the following is true regarding these statements?
A. Both statements are incorrect.
B. Both statements are correct.
C. Statements 1 is correct but 2 is incorrect
D. Statements 2 is correct but 1 is incorrect
Q 24 Bighead limited has a single product with the following details:
$/unit
Selling Price 25
Direct labour 5
Direct material 5
Contribution 15
The firm has fixed costs of $ 120,000 per period and sells 9,000 units of the product per period.

What is the total profit for the period?
A. $ 120,000
B. $ 135,000
C. $ 225,000
D. $ 15,000
Q 25 Exp has compiled the following standard cost card for its main product.
Production costs
Fixed 33.00
Variable 45.10
Selling costs
Fixed 64.00
Variable 7.20
Profit 14.70
Selling price 164.00
Under an absorption costing system, closing inventory would be valued at:
A. $ 52.30
B. $ 78.10
C. $ 97.00
D. $ 149.30
Q 26 PQR sells one product. The cost card for that product is given below:
$
Direct materials 4
Direct labour 5
Variable production overhead 3
Fixed production overhead 2
Variable selling cost 3
The selling price per unit is $ 20. Budgeted fix overheads are based on budgeted production of
1,000 units. Opening inventory was 200 units and closing inventory was 150 units. Sales
during the period were 800 units and actual fixed overheads incurred were $ 1,500.
The total contribution earned during the period was:
A. $ 2000
B. $ 2,500
C. $ 4,000
D. $ 3,500

Q 27 A company produces and sells a single product whose variable cost is $ 6 per unit. Fixed
costs have been absorbed over the normal level of activity of 200,000 units and have been
calculated as $2 per unit. The current selling price is $ 10 per unit.
How much profit made under marginal costing if the company sells 250,000 units?
A. $500,000
B. $600,000
C. $900,000
D. $1,,000,000
Q 28 When opening inventory was 8,500 liters and closing inventory was 6,750 liters, a firm had
a profit of $62,100 using marginal costing.
Assuming that the fixed overhead Absorption rate was $3 per liter, what would be the profit
using absorption costing?
A. $41,850
B. $56,850
C. $67,350
D. $82,350
Q 29 Which of the following are true of marginal costing?
1) The marginal cost of a product includes an allowance for fixed production costs.
2) The marginal cost of a product represents the additional cost of producing an extra
unit.
3) If the inventory increases over a year, the profits under absorption costing will be
lower than with marginal costing.
A. (i) only
B. (ii) only
C. (ii) and (iii) only
D. (i),(ii) and (iii)
Q 30 Which of these statements are true of marginal costing
1) The contribution per unit will be constant if the sales volume increases.
2) There is no under or over absorption of overhead.
3) Marginal costing does not provide useful information for decision making.
A. (i) and (ii) only
B. (ii) and (iii) only
C. (ii) only
D. (i), (ii) and (iii)

CH # 7 Job and Batch and service Costing

Procedure for the performance of jobs
The normal procedure in jobbing concerns involves the following.
 The prospective customer approaches the supplier and indicates the requirements of the job.
 A responsible official sees the prospective customer and agrees the precise details of the items
to be supplied, for example, the quantity, quality and colour of the goods, the date of delivery
and any special requirements.
 The estimating department of the organisation then prepares an estimate for the job. The
total of these items will represent the quoted selling price.
 At the appropriate time, the job will be 'loaded' on to the factory floor. This means that as
soon as all materials, labour and equipment are available and subject to the scheduling of
other orders, the job will be started.
Collection of job costs

Each job will be given a number to identify it. A separate record must be maintained to show the
details of individual jobs. The process of collecting job costs may be outlined as follows.
 Materials requisitions are sent to stores.

 The materials requisition note will be used to cost the materials issued to the job concerned,
and this cost may then be recorded on a job cost sheet.
 The job ticket is passed to the worker who is to perform the first operation.
 When the job is completed by the worker who performs the final operation, the job ticket is
sent to the cost office, where the time spent will be costed and recorded on the job cost sheet.
 The relevant costs of materials issued, direct labour performed and direct expenses incurred as
recorded on the job cost card are charged to the job account in the work in progress ledger.
 The job account is debited with the job's share of the factory overhead, based on the
absorption rate(s) in operation.
 On completion of the job, the job account is charged with the appropriate administration,
selling and distribution overhead, after which the total cost of the job can be ascertained.
 The difference between the agreed selling price and the total actual cost will be the supplier's
profit (or loss).

Batch costing
Batch costing is a form of specific order costing in which costs are attributed to batches of
products.
Batch costing is similar to job costing in that each batch of similar articles is separately
identifiable. The cost per unit manufactured in a batch is the total batch cost divided by the
number of units in the batch.
Batch costing is used where common equipment is used to produce batches of different
products. It is especially relevant where products are not made for a specific job, but are
produced for inventory using a single production line. (If a batch of items is made to order
then the costing method is classified as job costing.) Examples of industries where batch
costing is common would be food manufacturing, paint manufacturing, drug manufacturing.
Introduction
A batch is a cost unit which consists of a separate, readily identifiable group of product units
which maintains its separate identity throughout the production process.
The procedures for costing batches are very similar to those for costing jobs.
 The batch is treated as a separate cost unit during production and the costs are
collected as described earlier in this chapter.
 Once the batch has been completed, the cost per unit can be calculated as the total
batch cost divided by the number of units in the batch.
Service Costing
Service costing is used when an organisation or department provides a service, such as an
accountancy firm preparing the accounts for a company.
There are four main differences between the ‘output’ of service industries and the products of
manufacturing industries.
• Intangibility – output is in the form of ‘performance’ rather than tangible (‘touchable’) goods.
• Heterogeneity – the nature and standard of the service will be variable due to the high human
input.
• Simultaneous production and consumption – the service that you require cannot be inspected in
advance of receiving it.
• Perishability – the services that you require cannot be stored.
A composite cost unit is more appropriate if a service is a function of two variables.

• Examples of composite cost units are as follows:
– How much is carried over what distance (tonne-miles) for haulage companies
– How many patients are treated for how many days (patient-days) for hospitals
– How many passengers travel how many miles (passenger-miles) for public transport companies.

Exercise
Q 1 A company operates a job costing system. Job 812 requires $60 of direct materials, $40 of
direct labour and $20 of direct expenses. Direct labour is paid $8 per hour. Production
overheads are absorbed at a rate of $16 per direct labour and non-production overheads
are absorbed at a rate of 60% of prime cost.
What is the total cost of job 812?
A. $240
B. $260
C. $22
D. $320
Q 2 Which one of the following statement is incorrect?
A. Job costs are allocated separately, whereas process costs are averages.
B. In job costing the progress of a job can be ascertained from the materials
requisition notes and job tickets or timesheet
C. In progress costing information is needed about work passing through a process
and work remaining in each process
D. In process costing, but not job costing, the cost of normal loss will be incorporated
into normal product cost
The following data are to be used for question 3 and 4
A firm uses job costing and recovers overheads on a direct labour cost basis.
Three jobs worked on during a period, the details of which were:
Job1 Job2 Job3
$ $ $
Opening work-in-progress 8,500 0 46,000
Material in period 17,150 29,025 0
Labour for period 12,500 23,000 4,500
The overheads for the period were exactly as budgeted, $40,000. Actual labour costs were
also the same as budgeted.
Job 1 and 2 were the only incomplete jobs at the end of the period.

Q 3 What was the value of closing work-in-progress?

A. $81,900
B. $90,175
C. $140,675
D. $214,425
Q 4 Job 3 was completed during the period and considered of 2,400 identical circuit boards.
The firm adds 50% to total production costs to arrive at a selling price.
What is the selling price of the circuit board?
A. It cannot be calculated without more information
B. $31.56
C. $41.41
D. $58.33
Q 5 The direct costs for batch number 35401, comprising 200 men’s shirt, were as follows:
Materials $3,000
Labour 120 hours@ 45 per hour
Production overheads are absorbed at a company-wide rate of $12 per direct labour hour.
Non-production overheads are absorbed at the rate of $1,000 per batch.
Calculate the total production cost per unit of each shirt in the batch. .
Q 6 What would be the most appropriate cost unit for a cake manufacture?
Cost per:
A. Cake
B. Batch
C. Kilogram
D. Production run
Q 7 ABC plc makes batches of ‘own brand’ ready meals for supermarkets, using a semi-
automated production process. The cost for batch number 87,102, comprising 10,000.
Thai fish curry meals, were as follows:
Ingredients $7,000
Packaging $3,600
Labour 80 hours @ 10 per hour
The batch took 40machine hours to produce.
Production overheads are absorbed at a factory-wide rate of $5 per machine hour.
Non-production overheads are absorbed at the rate of $15 per labour hour.
Calculate the total cost per meal in the batch.
A. $1.16
B. $1.22
C. $1.28
D. $1.30

Q 8 An engineering business has a department with a work force of eight engineers and one
supervisor. The department carries out small engineering jobs for business customers.
Which of the following costs would be treated as a direct expense of a particular job for a
customer?
A. Supervision cost
B. Cost of delivery of equipment to the customer
C. Depreciation of engineering equipment
D. Cost of engineer’s time on the job
Q 9 A production used 6 kilograms of raw material and takes two direct labour hours to make.
Raw material cost $2.50 per kilogram and direct labour is paid $4 per hour. Variable
production overheads are 25% per labour costs. The budgeted fixed production costs for
the year were $120,000 and budgeted direct labour hours were 20,000 hours. Fixed
overheads are recovered on a direct labour hour basis.
The full production cost per unit of product is:
A. $25
B. $31
C. $35
D. $37
Q 10 Which of the following business would operate a batch costing system?
A. Brewery
B. Food canning
C. Coal mine
D. Bakery
Q 11 Which of the following would operate a job batch system?
A. Shipbuilder
B. Oil refinery
C. Steel producer
D. Kitchen fitter
Q 12 Which of the following is a feature of job costing?
A. Production is carried out in accordance with the wishes of the customer
B. Associated with continuous production of large volumes of law-cost item
C. Establishes the cost of services rendered
D. Costs are charged over the units produced in the period

Q 13 The following information is relates to job 2468, which is being carried out by AB Limited
to meet a customer’s order.
Department A Department B
Direct material consumed $5,000 $3,000
Direct labour hours 400 hours 200 hours
Direct labour rate per hour $4 $5
Production overhead per direct labour hour $4 $4
Administration and other overhead 20 % of full production cost
Profit margin 25 % of sales price
What is the selling price to the customer for job 2468?
A. $16,250
B. $17,333
C. $19,500
D. $20,800
Q 14 P Limited manufacturers ring binders which are embossed with the customer‘s own logo.
A customer has ordered a batch of 300 binders. The following illustrate the cost for a
typical batch of 100 binders.
Direct materials 30
Direct wages 10
Machine set up 3
Design and art work 15
58
P Limited absorbs production overhead at a rate of 20 parent of direct wages cost. Five
percent of total production cost of each batch to allow for selling, distribution and
administration overheads.
P Limited requires a profit margin of 25 percent of sales value.
The selling price for a batch of 300 binders (to the nearest penny) will be:
A. $189,00
B. $193.20
C. $201.60
D. $252.00
Q 15 A company provides the following data relating to job 141, direct material used $10,000,
direct labour hourly rate $10,direct labour hour used 150, machine hours used 60, factory
overheads recovery rate per machine hour $30. Based on this data, the conversion cost for
job 141 are:
A. $3,300
B. $6,000
C. $45,000
D. $4,300

Q 16 A machine is hired for use on one job only:

A. The rental will be charged to the job as a direct expense
B. The rental will be charged to the job as an indirect expense
C. The rental and depreciation of the machine will be charged to the job as direct
expenses
D. The rental and depreciation of the machine will be charged to the job as indirect
expenses
Q 17 The following information relates to job 3579, which is being carried out by Mittenson
Hands Ltd to meet a customer’s order.
Materials issued to job 3579 $5,000
Materials transferred to job 2456 $400
Grade X labour (direct labour); 200 hours at $3 per hour basic rate, 100 of these hours
were worked in overtime, at the request of the customer, in order to complete the job
earlier. Overtime premium is $1 per hour
Production overhead: $5 per direct labour hour
A supervisor recorded on his job sheet that 20hours of his time was spent on this job. He is
paid $5 per hour, and the cost of his time is treated as a direct labour cost in the
company’s cost accounts.
What is the full production cost of job 3579?
A. $6,300
B. $6,400
C. $6,500
D. $6,900
Data for question 18, 19
Twist and Turn Ltd is a company that carries out jobbing work. One of the jobs carried out
in February was job 1357, to which the following information relates.
Direct material Y: 400 kilos issued from stores at a cost of $5 per kilo
Direct material Z: 800 kilos issued from stores at a cost of $6 per kilo 60 kilo
returned. A further 20 kilos were damaged in department Q and
had to be disposed of this was treated as an abnormal loss.
Department P: 300 hours of labour, of which 100hours were done in overtime
Department Q: 200 hours of labour, of which 100 hours were done in overtime
Overtime work in carried out normally in Department P, where basic pay is $4 per hour
plus an overtime premium of $1 per hour. Overtime work was done in Department Q in

February because of a request by a customer for another job to complete his job quickly.
Basic pay in Department Q is $5 per hour and overtime premium is $1.50 per hour.
Overhead is absorbed at the rate of $3 per direct labour hour in both departments.
Q 18 What was the direct material cost of job 1357?

A. $6,320
B. $6,440
C. $6,680
D. $6,800
Q 19 What was the direct labour cost of job 1357?
A. $2,200
B. $2,280
C. $2.530
D. $2,600
Q 20 In which of the following circumstances would a manufacturing organization
implement job costing?
A. Where volume production exists
B. Where each order is different
C. Where products are identical and cost is averaged
D. Where production is continuous
Q 21 A firm operates a job costing system and uses absorption costing.
What should the cost control procedure be for each job?
A. Direct costs should be compared to the estimate/quotation as the job progresses
and remedial action taken
B. Profit or loss should be compared to estimate when the job is complete
C. Feedback should be obtained from the customer
D. Direct and indirect costs should be compared to the selling price as the job
progresses and remedial action taken
Q 22 How are direct and indirect expenses coded in job costing system?
A. Direct expenses are coded to job, indirect expenses are initially coded to cost centre
B. Direct expenses are initially coded to cost centres, indirect expenses are coded to
jobs
C. Direct and indirect expenses are initially coded to cost centres
D. Direct and indirect expenses are coded to jobs

Q 23 At the end of month 1, job ABC was in progress. Production costs incurred on the job in
month 1 were:
Direct material $6,270
Direct labour $3,480
Production overhead absorbed $4,350
Job ABC was completed in month 2 during which the following relevant events occurred:
Direct material issued from store to job ABC $1,960
Direct material returned to store from job ABC $180
Direct material transferred from job ABC to another job $115
Direct labour hours worked on job ABC 396 hours
Direct labour is paid at a rate of $6.00 per hour. Production overhead is absorbed at a rate
of $7.50 per direct labour hour.
A. What is the total direct cumulative material cost for job ABC?
B. What is the total cumulative production OH absorbed for job ABC?
Q 24 A manufacturing business absorbs production overheads into the cost of jobs as a
percentage of direct labour cost. Four jobs were worked on during a period. Details of the
jobs are as follows:
Job1 Job2 Job3 Job4
Opening work-in-progress 4,360 1,200 2,625
Direct materials in the period 1,595 2,310 3,175 1,380
Direct labour in the period 1,240 1,580 1,905 1,315
Production overheads incurred in the period totalled $8,970. Job 1 and 2 were completed
in the period.
What is the value of work-in-progress at the end of the period (to the nearest $)
Q 25 Production cost, including absorbed overhead, of $4,094 have been incurred to data on
job XYZ. A further $1,735 of direct cost, including the cost of80 direct labour hours, is
expected to be required to complete the job. Production overheads are absorbed at rate of
$10 per direct labour hour.
What is the expected total production cost of job XYZ?
Q 26 A business operates a job costing system and prices its jobs by adding 20% to the total
cost of the job. The fixed production cost of a job was $6,840 and it had used 156 direct
labour hours. The fixed production overheads are absorbed on the basis of direct labour
hours. The budgeted overhead absorption rate was based upon a budgeted fixed overhead
of $300,000 and total budgeted direct labour hours of 60,000.
The job should be sold for:
A. $7,620
B. $8,208
C. $9,144
D. $9,525

Q 27 A company operates a job costing system.

Job number 605 requires $300 of direct materials and $400 of direct labour. Direct labour
is paid at the rate of $8 per hour. Production overheads are absorbed at a rate of $26 per
direct labour hour and non-production overheads are absorbed at a rate of 120% of prime
cost.
What is total cost of job number 605?
A. $2,000
B. $2,400
C. $2,840
D. $4,400
Q 28 A builder has produced a quote for some alterations. The price is made up as follows:
$
Direct materials 100 kg @ $4 per kg 400
Direct labour 5 hours @ $10 per hour 50
15 hours @ $5 per hour 75
Hire of machine 1 day @ $100 per day 100
Overheads 20 hours @ $8 per hour 160
Total cost 785
Profit mark-up @ 20% 0.2 x $785 157
Price quoted $942
Actual costs for the job were as follows:
Direct materials 120 kg @ $4 per kg
Direct labour 3 hours @ $10 per hour
20 hours @ $5 per hour
Hire of machine 2 days @ $100 per day
The actual profit / (loss) made on the job was:
A. $52 loss
B. $28 loss
C. $28 profit
D. $52 profit
Q 29 WhatsinanameInc production name badges for companies. Their most popularly item
is an encapsulated name badge carrying a logo. The following information has been
estimated for a typical batch of 100 badges.
Artwork $45
Machine setting 2 hours at $24 per hour
Coating material $5 per 10 badges
Card $2 per 50 badges
Ink and consumables $50 (fixed)
Wages 4 hours at $10 per hour (for a batch)

General overheads are estimated at $20,000 per period in which it is expected that 500
hours will be worked.
Whatsinaname want to make a 30% mark-up on a batch of 200 badges. The selling price
for the badge should be:
A. $586
B. $644
C. $649
D. $707
Q 30 A company operated a job costing system. The company’s standard net profit margin is
20 percent of sales.
The estimated costs for job 173 are as follows.
Direct materials 5 meters @ $20 per meter
Direct labour 14 hours @ $8 per hour
Variable production overheads are recovered at the rate of $3 per direct labour hour.
Fixed production overheads for the year are budgeted to be $200,000 and are to be
recovered on the basis of the total of 40,000 direct labour hours for the year.
Other overheads, in relation to selling, distribution and administration, are recovered at
the rate of $80 per job. The price to be quoted for job 173 is, to the nearest $
A. $404
B. $424
C. $485
D. $505
Q 31 A company operates a job costing system. Job number 1012 requires $45 of direct
materials and $30 of direct labour. Direct labour is paid at the rate of $7.50 per hour.
Production overheads are absorbed at a rate of $12.50 per direct labour hour and non-
production overheads are absorbed at a rate of 60% of prime cost. What is the total cost
of job number 1012?
A. $170
B. $195
C. $200
D. $240

CH # 7 Process Costing
Process costing features
Process costing is a costing method used where there are continuous processes. Process costs are
attributed to the units produced in a period.
Introduction
We have now looked at two cost accounting methods: job costing and batch costing. We will now
consider another costing method, process costing. Process costing is applied when output consists of
a continuous stream of identical units.
Features of process costing

Process costing is a costing method used to determine the cost of units manufactured from a
continuous process. It is common to identify process costing with continuous production such as the
following.
 Oil refining
 Sugar refining
 Chemical processing
 Brewing
Features of process costing include the following.
 There is often a loss in process due to spoilage, wastage, evaporation and so on.
 The output of one process becomes the input to the next until the finished product is made in
the final process.
Closing WIP with no loss

Step 1 Calculate equivalent units
Equivalent units are notional whole units which represent incomplete work, and which are used to
apportion costs between work in progress and completed output
𝑬𝒒𝒖𝒊𝒗𝒂𝒍𝒆𝒏𝒕 𝑼𝒏𝒊𝒕𝒔 = 𝑼𝒏𝒊𝒕𝒔 𝒄𝒐𝒎𝒑𝒍𝒆𝒕𝑒𝒅 + %𝒂𝒈𝒆 𝒐𝒇 𝒄𝒍𝒐𝒔𝒊𝒏𝒈 𝑾𝑰𝑷
Step 2 Calculate cost per unit
𝑻𝒐𝒕𝒂𝒍 𝒄𝒐𝒔𝒕
𝑪𝒐𝒔𝒕 𝒑𝒆𝒓 𝒖𝒏𝒊 =
𝑬𝑼

Step 3 Calculate cost of finished goods or cost transferred to next process
𝑪𝒐𝒔𝒕 𝒕𝒓𝒂𝒏𝒔𝒇𝒆𝒓𝒆𝒅 = 𝑼𝒏𝒊𝒕𝒔 𝒄𝒐𝒎𝒑𝒍𝒆𝒕𝒆𝒅 ∗ 𝑪𝒐𝒔𝒕 𝒑𝒆𝒓 𝑼𝒏𝒊𝒕
Step 4 Calculate value of closing WIP
𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑊𝐼𝑃 = %𝑎𝑔𝑒 𝑜𝑓 𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑊𝐼𝑃 ∗ 𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑈𝑛𝑖𝑡
Loss with no WIP (loss is assumed to occur at end of process)

 Normal loss: Expected and unavoidable loss. For example leakage, shrinkage etc.
 Abnormal loss: Unexpected and avoidable loss For example wastage theft etc
Expected output = 𝐼𝑛𝑝𝑢𝑡 − 𝑛𝑜𝑟𝑚𝑎𝑙 𝑙𝑜𝑠𝑠
𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡−𝑠𝑐𝑟𝑎𝑝 𝑣𝑎𝑙𝑢𝑒 𝑜𝑓 𝑛𝑜𝑟𝑚𝑎𝑙 𝑙𝑜𝑠𝑠−𝑠𝑎𝑙𝑒 𝑣𝑎𝑙𝑢𝑒 𝑜𝑓 𝑏𝑦 𝑝𝑟𝑜𝑑𝑢𝑐𝑡
Cost/ unit = 𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑜𝑢𝑡𝑝𝑢𝑡−𝑏𝑦 𝑝𝑟𝑜𝑑𝑢𝑐𝑡 𝑢𝑛𝑖𝑡𝑠
 Value of output = 𝐴𝑐𝑡𝑢𝑎𝑙 𝑜𝑢𝑡𝑝𝑢𝑡 × 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡

 Value of abnormal loss = Abnormal loss × cost per unit
 Value of abnormal gain = Abnormal gain × cost per unit
Note: If actual output > Expected output there is abnormal gain. So
Actual output – Expected output = Abnormal gain
If actual output < Expected output there is abnormal loss. So
Expected output – Actual output = Abnormal loss
 Actual output = Input – normal loss – abnormal loss

OR
 Actual output = Input – normal loss + abnormal gain
Loss mid-way through process

𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑒𝑞𝑢𝑖𝑣𝑒𝑙𝑎𝑛𝑡 𝑢𝑛𝑖𝑡
𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡 𝑜𝑓 𝑖𝑛𝑝𝑢𝑡 − 𝑠𝑐𝑟𝑎𝑝 𝑣𝑎𝑙𝑢𝑒 𝑜𝑓 𝑛𝑜𝑟𝑚𝑎𝑙 𝑙𝑜𝑠𝑠
=
𝐴𝑐𝑡𝑢𝑎𝑙 𝑢𝑛𝑖𝑡𝑠 𝑜𝑓 𝑔𝑜𝑜𝑑 𝑜𝑢𝑡𝑝𝑢𝑡 + 𝑜𝑟 − 𝑒𝑞𝑢𝑖𝑣𝑒𝑙𝑎𝑛𝑡 𝑢𝑛𝑖𝑡𝑠 𝑜𝑓 𝑎𝑏𝑛𝑜𝑟𝑚𝑎𝑙 𝑙𝑜𝑠𝑠/𝑔𝑎𝑖𝑛

Recording Abnormal loss
Amount to be charged to income statement = Value of abnormal loss – scrap value of abnormal loss
Abnormal loss account
Process account normal loss account (Scrap Value)
Income Statement
Recording Abnormal gain
Amount to be charged to income statement = Value of abnormal gain – (scrap value × abnormal gain
units)
Abnormal gain account
Normal loss account (Scrap value) Process account
Income Statement
Recording Normal loss
Amount to be charged to income statement = Normal loss is not charged to income statement instead
it is included in cost per unit
Normal Loss account
Process account (Scrap value of normal loss) Bank account
Abnormal loss account Abnormal gain account

Opening work in progress
FIFO
Step 1 Find unit started and completed in current period
 If units transferred are given in question
Units started and completed = units transferred – units in opening work in progress
 If units started are given in question
Units started and completed = units started – units in closing work in progress
𝐸𝑞𝑢𝑖𝑣𝑎𝑙𝑒𝑛𝑡 𝑈𝑛𝑖𝑡𝑠
= %𝑎𝑔𝑒 𝑜𝑓 𝑜𝑝𝑒𝑛𝑖𝑛𝑔 𝑊𝐼𝑃 𝑐𝑜𝑚𝑝𝑙𝑒𝑡𝑒𝑑 𝑖𝑛 𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑝𝑒𝑟𝑖𝑜𝑑
+ 𝑈𝑛𝑖𝑡𝑠 𝑠𝑡𝑎𝑟𝑡𝑒𝑑 𝑎𝑛𝑑 𝑐𝑜𝑚𝑝𝑙𝑒𝑡𝑒𝑑 + %𝑎𝑔𝑒 𝑜𝑓 𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑊𝐼𝑃
𝐶𝑜𝑠𝑡 𝑖𝑛𝑐𝑢𝑟𝑟𝑒𝑑 𝑖𝑛 𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑝𝑒𝑟𝑖𝑜𝑑

𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡 =
𝐸𝑞𝑢𝑖𝑣𝑎𝑙𝑒𝑛𝑡 𝑢𝑛𝑖𝑡𝑠
Step 4 Calculate cost transferred to next process
𝐶𝑜𝑠𝑡 𝑡𝑟𝑎𝑛𝑠𝑓𝑒𝑟𝑟𝑒𝑑
= 𝑐𝑜𝑠𝑡 𝑜𝑓 𝑜𝑝𝑒𝑛𝑖𝑛𝑔 𝑊𝐼𝑃 + (%𝑎𝑔𝑒 𝑜𝑓 𝑜𝑝𝑒𝑛𝑖𝑛𝑔 𝑊𝐼𝑃 𝑐𝑜𝑚𝑝𝑙𝑒𝑡𝑒𝑑 𝑖𝑛 𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑝𝑒𝑟𝑖𝑜𝑑
× 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡) + (𝑈𝑛𝑖𝑡𝑠 𝑠𝑡𝑎𝑟𝑡𝑒𝑑 𝑎𝑛𝑑 𝑐𝑜𝑚𝑝𝑙𝑒𝑡𝑒𝑑 × 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡)
𝐶𝑙𝑜𝑠𝑖𝑛𝑔 𝑊𝐼𝑃 = (%𝑎𝑔𝑒 𝑜𝑓 𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑊𝐼𝑃 × 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡)
Weighted Average
Step1 calculate units completed/transferred
Units completed = units in opening work in progress + units started – units in closing work in progress
𝐸𝑞𝑢𝑖𝑣𝑎𝑙𝑒𝑛𝑡 𝑈𝑛𝑖𝑡𝑠 = 𝑈𝑛𝑖𝑡𝑠 𝑐𝑜𝑚𝑝𝑙𝑒𝑡𝑒𝑑 + %𝑎𝑔𝑒 𝑜𝑓 𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑊𝐼𝑃
𝐶𝑜𝑠𝑡 𝑖𝑛𝑐𝑢𝑟𝑟𝑒𝑑 𝑖𝑛 𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑝𝑒𝑟𝑖𝑜𝑑 + 𝑐𝑜𝑠𝑡 𝑜𝑓 𝑜𝑝𝑒𝑛𝑖𝑛𝑔 𝑊𝐼𝑃

𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡 =
𝐸𝑞𝑢𝑖𝑣𝑎𝑙𝑒𝑛𝑡 𝑢𝑛𝑖𝑡𝑠

Step 4 Calculate cost transferred to next process
𝐶𝑜𝑠𝑡 𝑡𝑟𝑎𝑛𝑠𝑓𝑒𝑟𝑟𝑒𝑑 = (𝑈𝑛𝑖𝑡𝑠 𝑐𝑜𝑚𝑝𝑙𝑒𝑡𝑒𝑑 × 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡)
𝐶𝑙𝑜𝑠𝑖𝑛𝑔 𝑊𝐼𝑃 = (%𝑎𝑔𝑒 𝑜𝑓 𝑐𝑙𝑜𝑠𝑖𝑛𝑔 𝑊𝐼𝑃 × 𝑐𝑜𝑠𝑡 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡)
Joint and by-products

Joint products are two or more products separated in the course of processing, each having a
sufficiently high saleable value to merit recognition as a main product.
• Joint products include products produced as a result of the oil-refining process, for example, petrol
and paraffin.
• Petrol and paraffin have similar sales values and are therefore equally important (joint) products
By-products are outputs of some value produced incidentally in manufacturing something else (main
products).
• By-products, such as sawdust and bark, are secondary products from the timber industry (where
timber is the main or principal product from the process).
• Sawdust and bark have a relatively low sales value compared to the timber which is produced and
are therefore classified as by-products.
Treatment of joint cost

The joint costs need to be apportioned between the joint products at the split-off point to obtain the
cost of each of the products in order to value closing inventory and cost of sales.
• The basis of apportionment of joint costs to products is usually one of the following:
– sales value of production (also known as market value)
– production units
– net realisable value.
Accounting treatment of by-products

Sale value of by product is either
 Deducted from total joint cost

 Treated as other income

Exercise
Q 1 A company uses process costing to value its output. The following was recorded for the
period.
Input materials 2,000 units at $4.50 per
unit
Conversion cost $13,040
Normal loss 5% of input
There was no opening or closing inventories
What was the valuation of one unit of output?
A. $11.80
B. $11.60
C. $11.20
D. $11.00
Q 2 In a production process the percentage completion of the work-in-progress (WIP) at the
end of the period is found to have been understated.
When this is corrected what will the effect on the cost per unit and the total value of the
WIP?
Cost per unit Total value of WIP
A. Decrease Decrease
B. Decrease Increase
C. Increase Decrease
D. Increase Increase
Q 3 A company uses process costing to value its output. The following was recorded for the
period:
Input materials 1,000 liters at $5 per liters
Conversion cost $11,000
Output 800 liters, as expected. All losses were
“normal”
There was no opening or closing inventories
What was the valuation of one unit of output?
A. $ 5.00
B. $ 16.00
C. $ 18.75
D. $ 20.00

The following data are to be used for questions 4 & 5 (next two questions)
Portal Ltd is a manufacturer. In period 1 the following production occurred:

Units started (there was no opening WIP) 1,300 units
Closing WIP 500 units
Degree of completion of closing WIP:
Materials 80%
Conversion costs 50%
Cost incurred in period 1:
Materials $7,200
Conversion $4,200
Q 4 What was the total cost per equivalent of production?
A. $6.00
B. $8.77
C. $9.54
D. $10.00
Q 5 What was the value of costing WIP?
A. $3,400
B. $4,000
C. $5,000
D. $8,000
Q 6 In process costing an equivalent unit is:
A. A unit of cost based on optimum efficiency
B. An effective whole unit representing the varying degrees of completion of work
C. A unit made in more than one process cost centre
D. A unit being currently made which is the same as previously manufactured
Q 7 In process costing what are equivalent units?
A. Production output expressed as expected performance
B. Production of homogeneous product
C. National whole units representing incomplete work
D. Units produced in more than one process.
Q 8 Completed output from a manufacturing process in a period totalled 5,640 units. There
was no work-in-progress at the beginning of the period but 780 units, 60% completed,
remained in the process at the end of the period.
What are the equivalent units of the closing work-in-progress?
A. 312
B. 468
C. 780
D. 6,108

Q 9 A manufacturing process had no work-in-progress at the beginning of a period. 20,000

units of raw material, costing $ 8.20 per unit, were input to the process in the period.
18,600 completed units were transferred out. Conversion costs were $ 7.65 per completed
unit and $ 6.12 per incomplete unit.
What was the value of the closing work-in-progress?
A. $ 8,568
B. $ 20,048
C. $ 22,190
D. $ 30,788
Q 10 In certain types of processes and operations, the quantity of output is less than that of
input because of shrinkage. Evaporation etc. such a loss of output is known as:
A. Waste
B. Scarp
C. Normal
D. None of these
Q 11 A business makes one product which passes through a single process. The costs of the
process for the last period are as follows:
Materials 7,500 kg @ $ 1 per kg
Labour 380 hours @ $ 10 per hour
Production overheads $ 5,950Normal loses are 10% of input into the process and
without further processing can be sold as scrap for 50 pence per kg. There is no opening
and closing work in progress and output from the process was 6,750 kg during the period.
What is the value of the output (to the nearest $ 1)?______________
Q 12 A raw material costing $ 2.70 per kilogram (kg) is processed. There is a 10% loss of
weight in the process.
What is the raw material cost per kg of output from the process? __________
Q 13 The following data refers to a manufacturing process for a period
1,450 tons of raw materials costing $ 36,250 were input to the process, and conversion
costs were $ 29,145. Normal wastage is 20% of input and wastage can be sold for $ 10 per
ton. There is no opening and closing work in progress.
What is the cost per ton goo production? ____________
Q 14 The following information is available for a production process for the last period.
Material input 200 kg at $ 6 per kg
Labour and overhead input $ 3,500
Transfer to finished goods 170 kg
Normal loss is 15% of input and has a scrap value of $ 1 per kg. There is no opening and
closing work-in-progress.
The value of the finished output for the period (to the nearest $) is_____________

Q 15 The Work-in-progress in a process at the end of a period is 2,300 units. The work-in-
progress is 75% complete as to materials and 60% complete as to conversion costs. Costs
per equivalent unit are $ 9 and $ 3 for materials and conversion costs respectively.
What is the value of the work-in-progress? ___________
Q 16 In process costing with what are “equivalent units” most often associated?
A. Scrap losses
B. Work-in-progress
C. By-products
D. Finished stock
Q 17 In the month of July, Company S manufactured 50 widgets with an additional 30 widgets
partially completed. The incomplete widgets were 60 % complete in terms of materials,
40% complete in terms of labour and 20% complete in terms of overheads.
Production costs for the month were:
Materials $6,000
Labour $5,000
Overheads $4,000
There was no opening work-in-progress.
What is the material cost per widget (to the nearest penny)?
A. $88.24
B. $76.88
C. $82.48
D. $94.24
Q 18 A chemical process has a normal loss of 10% of input. In a period, 2,500 kgs of material
were input.
The quantity of good production achieved was:
Q 19 Which of the following are features of process costing?

i. Homogeneous products
ii. Customer-driven production
iii. Finished goods are valued at an average cost per unit.
A. (i)and (iii)
B. (ii) and (iii)
C. (iii)only
D. (i) only

The following information relates to questions 20 and 21.
A company manufactures Chemical X, in a single process. At the start of the month there
was no work-in-progress. During the month 300 litres of raw material were input into the
process at a total cost $6,000. Conversion costs during the month amounted to $4,500.at
the end of the month250 litres of chemical X were transferred to finished goods inventory.
The remaining work-in-progress was 100% complete with respect to materials and 50%
complete with respect to conversion costs. There were no losses in the process
Q 20 The equivalent units for closing work-in-progress at the end of the month would have
been:
Material Conversion costs
A. 25 litres 25 litres
B. 25 liters 50 litres
C. 50 litres 25 litres
D. 50 litres 50 litres
Q 21 If there had been a normal process loss of10% of input during the month the value of
this loss would have been
A. Nil
B. $450
C. $600
D. $1,050
Q22 Duddon makes a product that has to pass through two
manufacturing processes, I and II. All the material is input at the start of process I. No losses
occur in process I but there is a normal loss in process II equal to 7% of the input into that
process. Losses have no realisable value. Process I is operated only in the first part of every
month followed by process II in the second part of the month. All completed production from
process I is transferred into process II in the same month.
There is no work in progress in process II.
Information for last month for each process is as follows:
Process I
Opening work in progress 200 units (40% complete for conversion costs) valued in total at $16,500
Input into the process 1,900 units with a material cost of $133,000
Conversion costs incurred $93,500
Closing work in progress 50% complete for conversion costs

Process II
Transfer from process I 1,800 units
Conversion costs incurred $78,450
1,650 completed units were transferred to the finished goods warehouse.
Required:
(a) Calculate for process I:
(i) the value of the closing work in progress; and
(ii) the total value of the units transferred to process II.
(b) Prepare the process II account for last month.
Q23 A company manufactures a product that requires two separate

processes for its completion. Output from Process 1 is immediately input to
Process 2.
The following information is available for Process 2 for a period:
(i) Opening work-in-progress units:
12,000 units: 90% complete as to materials, 50% complete as to conversion costs.
(ii) Opening work-in-progress value:
Process 1 output: $13,440
Process 2 materials added: $4,970
Conversion costs: $3,120.
(iii) Costs incurred during the period:
Process 1 output: $107,790 (94,800 units)
Process 2 materials added: $44,000
Conversion costs: $51,480.
(iv) Closing work-in-progress units
10,000 units: 90% complete as to materials, 70% complete as to conversion costs.
(v) There are no losses in process 2.

Required:
(a) Calculate the value of goods completed and closing work in progress for the period in Process 2
using the periodic weighted average method. You should work to three decimal places.
(b) Prepare the Process 2 account for the period.
Q24 Partlet makes a product that passes through two

manufacturing processes. A normal loss equal to 8% of the raw material input
occurs in Process I but no loss occurs in Process II. Losses have no realizable value.
All the raw material required to make the product is input at the start of Process I. The output from
Process I each month is input into Process II in the same month. Work in progress occurs in Process II
only.
Information for last month for each process is as follows:
Process I
Raw material input 50,000 litres at a cost of $365,000
Conversion costs $256,000
Output to Process II 47,000 litres
Process II
Opening work in progress 5,000 litres (40% complete for conversion costs) valued at $80,000
Conversion costs $392,000
Closing work in progress 2,000 litres (50% complete for conversion costs)
Required:
(a) Prepare the Process I account for last month.
(b) Calculate in respect of Process II for last month:
(i) the value of the completed output; and
(ii) the value of closing work in progress.

Q25 Maybud operates Process X which creates two joint products, A

and B, in the ratio of 3:2 by volume.
There is no work in progress. The following information relates to Process X for last month:
(i) 80,000 litres of raw materials with a total cost of $158,800 were input into the process and
conversion costs were $133,000.
(ii) A normal process loss of 5% of the input was expected. An actual loss of 5,500 litres was identified
at the end of the process. Losses have a realisable value of $0.75 per litre.
It is company policy to apportion joint costs to products using the net realisable value method. After
Process X, both product A and product B are further processed at a cost of $2 per litre and $3 per litre
respectively. The final selling prices of the products are as follows:
Product $ per litre
A 8
B 12
Required:
(a) Prepare the process account for last month including the output volume and cost of products A
and B separately.
Q26 A business uses process costing to establish inventory

valuations and profitability of its products.
Output from the process consists of three separate products: two joint products and a by-product.
Details of the process are as follows:
Input costs:
Materials $45,625 for 12,500 kg
Labour $29,500
Overheads $26,875
The process is expected to lose 20% of the input. This is sold for scrap for $4 per kilo.

The following details relate to the output from the process:
Product Type % of output Final sales Further costs
value per kilo to complete
A Joint 50% $20 $10
B Joint 40% $25
C By-product 10% $2
Joint costs are allocated on the basis of net realisable value at split-off.
Required:
(a) Calculate the total cost of the output from the process.
(b) Calculate the profit per unit for each of the joint products, A and B.
Q27 A company operates a manufacturing process which produces

joint products A and B, and byproduct C.
Manufacturing costs for a period total $272,926, incurred in the manufacture of:
Product A – 16,000 kgs (selling price $6.10/kg)
B – 53,200 kgs (selling price $7.50/kg)
C – 2,770 kgs (selling price $0.80/kg)
Required:
Calculate the cost per kg (to 3 decimal places of a dollar $) of Products A and B in the period, using
market values to apportion joint costs.
Alternative costing principles

Activity based costing

Activity-based costing (ABC): an approach to costing and activity monitoring which assigns resources
consumed to activities and activities to cost objects (based on estimated consumption).
Cost driver: any factor which can cause a change in the cost of an activity. Cost drivers are used to
apportion activity costs to output.
Whereas a single absorption rate is used for each department in a traditional costing system, under
ABC an activity will usually have more than one cost driver associated with it.
Methodology
Identify major activities within each department which create cost
Determine what causes the cost of each activity—the "cost driver"
Create a cost centre/ cost pool for each activity—the "activity cost pool"
Calculate an absorption rate for each "cost driver"
Calculate the total overhead cost for manufacturing each product
Calculate overhead cost per unit
Cost and cost drivers

Cost Cost driver
Set-up Number of production runs
Goods inwards Number of receipts
Packing Number of production orders
Engineering Number of production orders
Target Costing

Target costing is an attempt to achieve an acceptable margin in a situation in which the price of a
product is determined externally. This acceptable margin is achieved by identifying ways to reduce
the costs of producing the product
Steps in Target Costing

1. Determine the price which the market will accept for the product, based on market research. This
may take into account the market share required.
2. Deduct a required profit margin from this price to find the target cost.
3. Estimate the actual cost of the product. If it is a new product, this will be an estimate.
4. Identify ways to narrow the gap between the actual and target costs of the product.
Narrowing the Target Cost Gap

< Redesign to eliminate non-value added elements;
< Reduce the number of components or standardizing components;
< Use less expensive materials;
< Employ a lower grade of worker on production;
< Invest in new technologies;
< Outsource elements of the production or support activities;
< Reduce manning levels or redesigning the work flow.
Life Cycle Costing

Life cycle costing estimates and accumulates costs over a product's entire life cycle in order to
determine whether the profits earned during the manufacturing stage will cover the costs incurred
pre- and post-manufacturing.

The basic stages in the product life cycle are as follows:
1. Development—introduction phase/launch. This represents a period of slow growth as new products

usually need time to gain market acceptance. Special pricing strategies may be used during the
launch of a new product (e.g. to "skim" profits with high prices while the product is new).
Companies also need to consider that the pricing strategy used at the introductory stage may affect
demand in later years (e.g. an initial low price to penetrate the market may discourage competitors
from entering the market).
2. Growth—competition may rise as a result of new suppliers entering the market. This may force
down prices.
3. Maturity—most profits are made during this phase. Prices may be stable. The company's price
strategy during this phase is more likely to focus on maximising short term profits, unlike in the
introduction phase.
4. Decline—prices may fall with demand unless a "niche" market can be found.

Costs Involved at Different Life Cycle Stages

There are three main stages in a product's life cycle from a costing perspective:
1. Planning and design stage

2. Manufacturing stage
3. Service and abandonment stage
 During planning and design, many decisions about the product's design will determine the
costs to be incurred in the future. These are referred to as committed costs. Although they are
not actually incurred during the design phase, the company is committed to incurring the
expenditure in the future—mainly during the manufacturing stage.
 Tools such as target costing may be used to reduce such committed costs if they exceed
acceptable limits.
 Actual costs incurred during the planning and design phase include the costs of design, which
entails the development of prototypes and the cost of market research.
 Marketing and advertising costs will be incurred during the manufacturing stage. These are
likely to be higher at the start of the manufacturing phase as the product is new and needs to
be introduced to the market.
 In some industries, there may be abandonment costs at the end of the product's life. In the
nuclear power industry, for example, costs of decontaminating the land on which the plant is
built may be high.
 Clearly, the pattern of expenditure will vary from industry to industry. It is not uncommon,
however, for committed costs during the planning and design phase to reach 80% of the total
costs over the product's life.
Total quality management (TQM)

Total quality management (TQM) is a philosophy of quality management and cost management that
has a number of important features.
• Total – means that everyone in the value chain is involved in the process, including employees,
customer and suppliers
• Quality – products and services must meet the customers' requirements
• Management – quality is actively managed rather than controlled so that problems are prevented
from occurring.
There are three basic principles of TQM:
(1) Get it right, first time

TQM considers that the costs of prevention are less than the costs of correction. One of the
main aims of TQM is to achieve zero rejects and 100% quality.

(2) Continuous improvement
The second basic principles of TQM is dissatisfaction with the statusquo. Realistically a zero-
defect goal may not be obtainable. It does however provide a target to ensure that a company should
never be satisfied with its present level of rejects. The management and staff should believe that it is
always possible to improve next time.
(3) Customer focus
Quality is examined from a customer perspective and the system isaimed at meeting
customer needs and expectations.
Quality related costs

Failing to satisfy customers' needs and expectations, or failing to do so first time, costs the average
company between 15 and 30 per cent of sales revenue.
A quality-related cost is the 'cost of ensuring and assuring quality' as well as the loss incurred when
quality is not achieved. Quality costs are classified as prevention costs, appraisal cost, internal failure
cost and external failure cost.
(1) Prevention cost
Prevention costs represent the cost of any action taken to prevent or reduce defects and failures.
Examples include:
– customer surveys
– research of customer needs
– field trials
– quality education and training programmes
– supplier reviews
– investment in improved production equipment
– quality engineering.
(2) Appraisal costs
Appraisal costs are the costs incurred, such as inspection and testing, in initially ascertaining the
conformance of the product to quality requirements. Examples might be:

– the capital cost of measurement equipment
– inspection and testing
– product quality audits
– process control monitoring
– test equipment expense.
(3) Internal failure cost
Internal failure costs are the costs arising from inadequate quality where the problem is discovered
before the transfer of ownership from supplier to purchaser. Examples include:
– rework or rectification costs
– net cost of scrap
– disposal of defective products
– downtime or idle time due to quality problems.
(4) External failure cost
The cost arising from inadequate quality discovered after the transfer of ownership from supplier to
purchaser. Examples include:
– complaint investigation and processing
– warranty claims
– cost of lost sales
– product recalls.
Conformance costs and non-conformance costs
Appraisal and prevention costs may also be referred to as conformance costs, whilst internal and
external failure costs may be referred to as nonconformance costs.
Statistical techniques
Forecasts in budgeting
Budgets are based on forecasts.

The purpose of forecasting in the budgeting process is to establish realistic assumptions for planning.
Forecasts might also be prepared on a regular basis for the purpose of feed-forward control reporting
Possible forecasting techniques:
• The high-low method (seen in a previous chapter)
• Linear regression analysis
• Time series analysis
• Index numbers.
High low method, linear regression analysis and time series analysis are mathematical techniques
used to find relationship between two variables. There is a graphical technique as well called scatter
diagram.
Scatter diagram
Scatter diagrams are useful in determining whether there is any apparent relationship between
variables. They consider that, in practice, there is often a causal relationship between the two
variables.
 For example: Cost depends on volume and not vice versa. Therefore, cost is the dependent
variable and volume is the independent variable.
 Usually the independent variable is denoted by x and plotted horizontally, while the
dependent variable is denoted by y and plotted vertically.
 Normally the first step is to plot the collected data on a scatter diagram. If the variables are
related, a pattern will emerge.

(d) There is no pattern; the points appear to plot "randomly".
(b) There appears to be a linear relationship (close to a straight line) but the relationship is "negative"
in that one variable is decreasing as the other is increasing.
(c) There is a clear curvilinear relationship.
(a) May also be curvilinear but less obviously so and more data would be needed before taking any
analysis further.
Linear Regression
Where there is a linear relationship between two variables:
 Linear regression can be used to quantify the relationship between them.

 The correlation coefficient can be used to describe that relationship.
 The coefficient of determination can be used to interpret the strength of the relationship.

Line of Best Fit

The "line of best fit" is the straight line which best fits a set of data so as to enable an estimate to be
made of the values of y (cost) for different values of x (output).
 If all the sets of data were to plot on a straight line it would be possible to draw a line through
them without any degree of subjectivity. If, however, they do not all lie on a straight line it
would be subjective to estimate the line of best fit "by eye".
 The criterion of "least squares" is therefore used to identify the line of best fit (i.e. that line
which minimises the sum of the squares of the vertical deviations of the points from the line ):
The regression equation can be used for predicting values of y from a given x value.
(1) If the value of x is within the range of our original data, the prediction is known as Interpolation.
(2) If the value of x is outside the range of our original data, the prediction is known as Extrapolation.
In general, interpolation is much safer than extrapolation.

Correlation Coefficient (r)

The reliability of predictions obviously depends on how closely the line fits the pairs of data.
 If the data fits the line perfectly, it is said to be "perfectly" correlated.

 If there is no pattern at all, the variables are said to be uncorrelated.
The degree of correlation (r) is calculated as follows:
r Values
 The value of r can range from +1 to –1.
 When r = +1 there is perfect positive linear correlation, i.e. all points lie on a straight line with
a positive (upward sloping) gradient.
 When r = –1 there is perfect negative linear correlation; i.e. all points lie on a straight line with
a negative (downward sloping) gradient.
 As r tends to 0, the less close is the linear relationship.
For other values of r, the meaning is not so clear. It is generally taken that if r > 0.8, then there is
strong positive correlation and if r < – 0.8, there is strong negative correlation.


Interpretation of r—Cause and Effect
A high correlation between two variables does not necessarily justify the conclusion that a causal
relationship exists.
 There may be no direct connection at all, in which case the correlation is termed a "spurious
correlation".
This can occur for two reasons:
1. There may be an indirect connection whereby both x and y depend on a third variable.
2. The correlation may be due entirely to chance.
Coefficient of Determination (r2)

The coefficient of determination measures the extent to which the total variation in the dependent
variable is due to its relationship with the independent variable.
 It indicates the proportion of the variance of the dependent variable from its mean value,
which is explained by the independent variable.
 It is a measure of the cause of the variation—unlike the correlation coefficient.
 It is calculated by squaring the correlation coefficient.
Time Series Analysis

Time series—a sequence of numerical data points in successive order, recorded at uniform time
Components of a Time Series
A time series is a set of data recorded over a period of time.
It could be made up of:
Trend (T)
The "long-term" effect when fluctuations have been smoothed out.
Cyclical variation (C)
A cyclical fluctuation over a number of years (e.g. a five-yearly cycle of booms and depressions).
Seasonal variation (S)
An annual cycle of variations due to seasonal influences.
Random elements (R)intervals over a period of time.
Randomly occurring residual variations due to non-recurring influences.

Calculation of the Trend
Methods
Linear regression can be used only if the trend is linear. In this case, it provides the optimum results
as it spans all the data.
Otherwise the moving average method must be used. However, some data at each end is "lost" in
the averaging process. Also, for an even number of periods per cycle (e.g. a quarterly cycle), the
moving average must be centred by averaging in pairs.
Moving Average
The steps required for a moving average are:
Calculate a "moving" total for the number of periods which make up a normal cycle (usually a year).
Calculate a "moving" average by dividing the moving total by the number of periods in a normal
cycle. This is the trend figure (T).*
As a trend figure is required for each specific period, where the moving average is made up of an even
number of periods, the trend figure must finally be found by averaging two of the moving average
figures.
Calculation of Seasonal or Cyclical Variations
Additive Model
For each trend value (T), calculate A – T where A is the actual data
Average all the values for the same period in a cycle (e.g. all the figures relating to Quarter 1) so
that one average is obtained for each of the periods in the normal cycle.
Quarterly data will have four averages, one for each quarter.
A final adjustment is made so that the total of the averages is equal to nil.
The resulting values are the seasonal (S) or cyclical (C) values.
Forecast = Trend + Seasonal variation
Multiplicative Model
When using the multiplicative model, A is expressed as a percentage (%) of T and the result is a
seasonal index. The seasonal figures are tabulated to calculate the average seasonal index for each
quarter.
Forecast = Trend × Seasonal variation

Index numbers
Notations
The following notations are used to illustrate how simple index numbers are calculated for one or
more variables:
P Price of individual items
P0 Price of individual items in base year
p1 Price of individual items in current year
Q Quantity of individual items
q0 Quantity of individual items in base year
q1 Quantity of individual items in current year
Simple indices
Chain base index numbers

A chain base index number expresses each year’s value as a percentage of the value for the previous
year.
Weighted price index

𝑠𝑢𝑚 𝑜𝑓 (𝑝𝑟𝑖𝑐𝑒 𝑖𝑛𝑑𝑒𝑥 × 𝑤𝑒𝑖𝑔ℎ𝑡)
𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝑝𝑟𝑖𝑐𝑒 𝑖𝑛𝑑𝑒𝑥 =
𝑠𝑢𝑚 𝑜𝑓 𝑤𝑒𝑖𝑔ℎ𝑡


CH # 8 Management Responsibilities and Performance Measurement
Performance measures for cost centres
Productivity
This is the quantity of the product or service produced (output) in relation to the resources put in
(input). For example, so many units produced per hour, or per employee, or per tonne of material. It
measures how efficiently resources are being used.
Cost per unit=Total costs ÷ number of units produced.

For the manager of a cost centre which is also a production centre one of the most important
performance measures will be cost per unit. This is simply the total costs of production divided by the
number of units produced in the period.
Measures of performance using the standard hour

Definition
A standard hour is the amount of work achievable, at the expected level of efficiency, in an hour.
Illustration
X Co manufactures three products (A, B and C) in one of its production cost centres. It is expected that
10 units of product A can be manufactured per direct labour hour, 25 units of product B and 20 units
of product C.
The standard hour for product A is, therefore, 10 units, product B is 25 units and product C is 20 units.
The standard hour is especially useful as a common measure for combining heterogeneous
(dissimilar) products so that manufacturing performance for a cost centre (or production unit) as a
whole can be assessed.
Example
Budgeted production of the three products (A, B and C) in period 1 is:
Product A 12,400 units
Product B 10,000 units
Product C 18,500 units

The total budgeted direct labour hours for period 1 in the cost centre, based on the standard hour
data above, is:
Product A 1,240 hours (12,400 units ÷ 10 units per hour)
Product B 400 hours (10,000 units ÷ 25 units per hour)
Product C 925 hours (18,500 units ÷ 20 units per hour)
2,565 hours
It can be seen that the budgeted production of the three different products can be combined into an
overall labour activity measure and this also can be applied to the actual production volumes, using
the same data about the standard hour of each product. This enables the effect of changes in the
production mix to be measured.
Example
In period 1, the actual production output of the three products was:
Product A 13,300 units
Product B 9,600 units
Product C 18,000 units
A total of 2,430 direct labour hours were worked in period 1.
Taking these actual results into account and the data concerning the standard hour of each product,
the total expected direct labour hours for the actual production output in period 1 can be calculated
as follows:
Product A 1,330 hours (13,300 units ÷ 10 units per hour)
Product B 384 hours (9,600 units ÷ 25 units per hour)
Product C 900 hours (18,000 units ÷ 20 units per hour)
2,614 hours
Using the above data about the budgeted direct labour hours, the actual direct labour hours and the
expected direct labour hours to manufacture the actual output, a series of ratios can be calculated to
measure the performance of the cost centre as a whole in period 1 and to understand the causes. The
ratios are:

• Production volume ratio
• Capacity utilisation ratio
• Efficiency ratio
Production volume ratio
The production volume ratio measures how the actual production output for a period, measured in
direct labour hours, compares with that budgeted for a production cost centre. It is calculated as:
(Expected direct labour hours of actual output ÷ budgeted direct labour hours) × 100%.
A ratio of > 100% will indicate above budget production volume and vice versa.
The production volume ratio can be further analysed by:
• The number of hours worked compared with budget (measured by the capacity utilisation
ratio).
• The efficiency with which the output is produced (measured by the efficiency ratio).
Capacity utilisation ratio
The capacity utilisation ratio measures whether the total direct labour hours worked in a production
cost centre in a period was greater or less than what was budgeted. It is calculated as:
(Actual direct labour hours worked ÷ budgeted direct labour hours) × 100%.
A ratio of > 100% will indicate that more direct labour hours were worked than budget and vice versa.
Efficiency ratio
The efficiency ratio measures whether the production output for a period in a production cost centre
took more or less direct labour time than expected. It is calculated as:
(Expected direct labour hours of actual output ÷ actual direct labour hours worked) × 100%.
A ratio of > 100% will indicate greater labour efficiency than budgeted and vice versa.
Example
Continuing to use the above data concerning the total budgeted, actual and expected direct labour
hours in period 1 for the production cost centre, the three ratios can be calculated as follows:
Production volume ratio:

2,614 expected direct labour hours of actual output
÷ 2,565 budgeted direct labour hours
× 100%
= 101.9%
Capacity utilisation ratio:
2,430 actual direct labour hours worked
÷ 2,565 budgeted direct labour hours
× 100%
= 94.7%
Efficiency ratio:
2,614 expected direct labour hours of actual output
÷ 2,430 actual direct labour hours worked
× 100%
= 107.6%
Analysis
It can be seen, from the above ratios, that the actual output in the production cost centre in the
period, measured in expected direct labour hours, was 1.9% higher than budget (it may be noted that
the total number of product units manufactured was the same as budget, but the units of one product
are not comparable, in terms of production effort, with another).
The over-budget production activity occurred despite the fact that utilisation of capacity was only
94.7% of the budgeted utilisation. This was because direct labour efficiency was 7.6% better than
expected – ie fewer hours than expected were required to produce the actual output.
The relationship between the three ratios can be demonstrated as follows:
Production volume 101.9% = [(capacity utilisation 94.7 × efficiency 107.6) ÷ 100] or, alternatively,
[(capacity utilisation 0.947 x efficiency 1.076) x 100]
Efficiency, capacity utilisation and production volume

𝐸𝑓𝑓𝑖𝑐𝑖𝑒𝑛𝑐𝑦 𝑟𝑎𝑡𝑖𝑜 =
𝐴𝑐𝑡𝑢𝑎𝑙 ℎ𝑜𝑢𝑟𝑠 𝑤𝑜𝑟𝑘𝑒𝑑

𝐴𝑐𝑡𝑢𝑎𝑙 𝐻𝑜𝑢𝑟𝑠
𝐶𝑎𝑝𝑎𝑐𝑖𝑡𝑦 𝑢𝑡𝑖𝑙𝑖𝑧𝑎𝑡𝑖𝑜𝑛 𝑟𝑎𝑡𝑖𝑜 =

𝑃𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑜𝑛 𝑣𝑜𝑙𝑢𝑚𝑒 𝑟𝑎𝑡𝑖𝑜 =
𝐴𝑐𝑡𝑢𝑎𝑙 𝑃𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑜𝑛
𝑃𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑜𝑛 𝑣𝑜𝑙𝑢𝑚𝑒 𝑟𝑎𝑡𝑖𝑜 =
𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝑃𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑜𝑛
Performance measures for profit centers

Ratios and percentages are useful performance measurement techniques.
The net profit margin (net profit to sales ratio) is calculated as (profit sales) 100%.
Profit margin
The net profit margin (net profit to sales ratio) is calculated as
Net profit ÷ sales×100%.
The net profit margin provides a simple measure of performance for profit centres.
Investigation of unsatisfactory profit margins enables control action to be taken, either by
reducing excessive costs or by raising selling prices.
Profit margin may be calculated using either net profit or operating profit. You should always
state which margin you have calculated – 'net profit margin' or 'operating profit margin'.
The operating profit is the difference between the value of sales (excluding sales tax) and the
costs incurred during operations (total operating expenses
Gross profit margin

The gross profit margin is calculated as
Gross profit ÷sales ×100%
Gross profit is the difference between the value of sales (excluding sales tax) and the cost of
the goods sold.
Gross profit markup

The gross profit margin is calculated as
Gross profit ÷ cost of sales ×100%

Cost/sales ratios
When target profits are not met, further ratios may be used to shed some light on the
problem.
1. Production cost of sales ÷sales

2. Distribution and marketing costs ÷sales
3. Administrative costs ÷sales
Subsidiary ratios can be used to examine problem areas in greater depth. For example, for
production costs the following ratios might be used.
1. Material costs ÷sales value of production
2. Works labour costs ÷sales value of production
3. Production overheads ÷sales value of production
Performance measures for investment centres

Return on capital employed (ROCE) or return on investment (ROI)) shows how much profit has
been made in relation to the amount of resources invested.
Return on capital employed (ROCE)

Return on capital employed (ROCE) (also called Return on investment (ROI)) is calculated as
(profit÷capital employed) ×100%
It shows how much profit has been made in relation to the amount of resources invested.
ROCE is generally used for measuring the performance of investment centres; profits alone do
not show whether the return is sufficient when different values of assets are used
ROCE may be calculated in a number of ways, but profit before interest and tax is usually
used.
Similarly all assets of a non-operational nature (for example, trade investments and intangible
assets such as goodwill) should be excluded from capital employed.
Profits should be related to average capital employed. In practice many companies calculate
the ratio using year-end assets. This can be misleading. If a new investment is undertaken
near to the year end, the capital employed will rise but profits will only have a month or two of
the new investment's contribution.
What does the ROCE tell us?
What should we be looking for?
There are two principal comparisons that can be made.
 The change in ROCE from one year to the next

 The ROCE being earned by other entities
Residual income (RI)

Residual income (RI) is an alternative way of measuring the performance of an investment
centre. It is a measure of the centre's profits after deducing a notional or imputed interest
cost.
An alternative way of measuring the performance of an investment centre, instead of using
ROCE, is residual income (RI). Residual income is a measure of the centre's profits after
deducting a notional or imputed interest cost (calculated on the whole of the capital employed
– not just on borrowed funds).
This interest cost may be based on the company's cost of capital.
Residual income (RI) = profit before interest and tax - Notional interest charge for invested
capital
Asset turnover
Asset turnover measures how efficiently the assets of the business are being used.
Asset turnover is a measure of how well the assets of a business are being used to generate
sales. It is calculated as
(sales ÷ capital employed).

Key Points


Exercise
Q 1 For which of the following types of business unit would residual income be suitable measure of
performance?
A. Cost centre.
B. Revenue centre.
C. Profit centre.
D. Investment centre.
Solution with Explanation
Q 2 The performance of an investment centre is measured by residual income. In a particular

period, the investment centre had fixed assets of $200,000 and net current assets of $ 40,000.
Its annual profits were as follows;
$ $
Sales price 217,000
Direct costs of the division 175,000

Apportioned head office costs 15,000

Total divisional costs 190,000
Profit 27,000
The national interest on capital is 8%
What was the residual income for the centre for the year?
A. $7,800
B. $11,000
C. $22,800
D. $26,000
Q 3 Which of the following measures of performance is unsuitable for a profit centre?

A. Sales income per employee.
B. Profit as a percentage of sales revenue
C. Return on capital employed.
D. Cost per machine hour operated.

Q 4 Which of the following statement is incorrect?

A. There may be several investment centres within a single organization.
B. There may be several cost centres within an investment centre.
C. There may be several cost centres within a profit centre.
D. There may be several profit centres within a cost centre.
Q 5 A company operates a retail supermarket chain selling a range of grocery and household
products. It has branches throughout the country and is reviewing the range of goods to be
stocked in each of these branches.
How might the company best analyse its profitability for this purpose.
A. By area of the country.
B. By contract with each supplier
C. By customer payment method.
D. By product line stocked.

Q 6 Which of the following is true about the productivity (which is a performance measure)?
1. It is a cost centre performance measure.
2. It checks how efficiently recourses are being used.
3. It measures the quantity of output in relation to the input.
A. Only 1 and 2 above.

B. Only 1 and 3 above.
C. Only 2 and 3 above.
D. All 3 statements are correct.
Q 7 Which of the following ratios might not be a useful means of determining the reasons for
profit margins not being met?
A. Admin cost ÷ sales
B. Production cost of sales ÷ sales.
C. Capacity ratio.
D. Material cost ÷ sales.

Q 8 The information is given :

Capital employed $900,000
Net profit after deducting tax but before interest $15,000
Tax $1,000
Interest $500
What will be the ROCE?
A. 1.67%
B. 1.78%
C. 2%
D. 2.35%
Q 9 A company with capital employed of $500,000 earns ROCE of 25%. Another investment of
$60,000 was made for 7 years. The average net profit from his investment would be $15,000.
The notional interest on the total amount invested is 15%.
What will be the residual income?

A. $65,000.
B. $56,000.
C. $41,000.
D. $50,000.
Q 10 The following information is given:

Gross profit $16,000
Notional interest 15% of capital employed
Depreciation $1,000
What will be the residual income?

A. $8,750.
B. $8,000.
C. $7,750
D. $6,750.

Q 11 The following information is given :
Sales 1,500 units

Selling price per unit $10
Cost of sales $1,000
Financing expenses $500
Admin expenses $700
What is the GP margin?
A. 93.3%
B. 85.33%
C. 92%
D. 74%
Q 12 The following info is given:

Gross profit margin 15%
Cost of sales $100,000
Selling expenses $5,000
Financing expenses $1,000
What is the net profit?

A. $11,647
B. $12,647
C. $15,647

D. $16,000

Net profit $170,000
Selling expenses $5,000
Admin expenses $4,000
Direct cost $9,000
What will be the gross profit?

A. $188,000
B. $161,000
C. $179,000
D. $166,000

Q 14 The gross profit margin of a company has increased from 15% in 2013 to 20% in2014.
Which of the following is true regarding this?

A. The cost of sales has decreased.
B. The non-manufacturing expenses have decreased.
C. The cost of sales has increased
D. There has been no change as such in the cost of sales.

Fixed assets $50,000
Current assets $10,000
Current liabilities $2,000
Net profit $20,000
What is the return on investment?

A. 34.5%
B. 31.75%
C. 30%
D. 27%

Q 16 Which of the following is incorrect about customer rejects ÷ total sales ratio?
A. It tells what percentages of sales were rejected.
B. It checks the company’s quality control procedures.
C. It is a means of measuring performance for revenue centres.
D. It makes a comparison between cost of sales and total sales.
Q 17 The net profit of a business for a year is $ 10,000 and the total capital, or net assets, of the
business are $ 80,000 at the end of the year. What is the return on capital employed?
Q 18 Southern plc consist of four divisions:

Aaron is an investment centre.

Lewis is a cost centre.
Orkney is a profit centre.
Shetland is an investment centre.
Which divisions may use return on capital employed (ROCE) as a performance measure?
A. Orkney and Lewis.
B. Shetland and Orkney.
C. Lewis and Aaron.
D. Aaron and Shetland.
Q 19 Data relates to the following four divisions:
Number of computers sold by each sales person

Sales person Strada Maxl Shilling Zebra
Alan 13 15 25 10
Bertha 12 20 15 15
Colin 14 20 20 20
Delia 15 15 15 15
The sales price for each type of computer is $1,000.
Commission is paid on computer sales as follows:

Strada 8% x the selling price

Maxl 12% x the selling price

Shilling 16% x the selling price
Zebra 24% x the selling price
How much commission will Delia earn for selling Strada and Zebra computers?
A. $7,200
B. $1,200
C. $3,600
D. $4,800
Q 20 The following information is available for product X.
Total fixed cost $6,000

Variable cost $100 per unit
Selling price $200 per unit
Units sold 100 units
What is the profit to sales ratio for product X?
A. 80%
B. 40%
C. 50%
D. 20%

Q 21 A law firm provides a range of services to clients, who are mixture of business, government
and private clients. It has offices in three cities in different parts of the country. The firm’s
senior partners are reviewing the range of services the firm provides, with a view to
specializing more in the future.
How might the firm best analyse its profitability for its purpose?
A. Profitability of each office.
B. Profitability of each type of service provided.
C. Profitability of each type of client.
D. Profitability of each employee.
Q 22 The following information is related to an investment centre for a period:

Sales revenue $160,000
Variable cost $96,000
Fixed cost $52,000

Cost of capital 10%
Which of the following is correct and is the most appropriate measure of the performance of
the investment centre general manager in the period?
A. Contribution/sales margin of 40 %
B. Net profit of $12,000
C. Residual income of $ 4,000
D. Return on capital employed of 5%
Q 23 Five retail outlets generate the sale revenue of Ahmed Limited. The administration
department at head office purchases all of the paper work produced by the retail outlets:
What is the manager of the administration department responsible for?

A. Costs only
B. Sales and costs
C. Sales and profits
D. Profits only

Q 24 Which is the best description of responsibility accounting?

A. Employees will be held responsible for all decisions they make
B. Managers delegate responsibility for performance to employees
C. Directors delegate responsibility for performance to manager s
D. Managers bear responsibility for the revenues and costs of their area of the
business
Q 25 The following statements relate to responsibility accounting:

1. Managers are held responsible for all costs incurred by their cost centre
2. Shared costs should be apportioned between the cost centres that incur them
3. Cost Centre costs will be collected by allocating a cost code to the cost.
Which of the statements above are correct?
A. 1 and 2 only
B. 1 and 3 only
C. 2 and 3 only
D. All three

Q 26 A manager in a division has his performance measured on the basis of the amount of
profit the division makes in relation to the capital invested in the division.
Which of the following is the manager responsible for?
A. A cost centre
B. A revenue centre
C. A profit centre
D. An investment centre
Q 27 Which of the following would not be a measure of productivity in a manufacturing

organization?
A. Cost per unit of production
B. Production per employee
C. Production per hour

D. Units produced per kilogram of materials
Q 28 You are given the following information about a business.

Gross profit margin 30%
Gross profit $240,000
Non-manufacturing expenses $106,000
What is the operating profit margin (to two decimal places)?
A. 4.72%
B. 16.75%
C. 33.97%
D. 55.83%
Q 29 Which of the following is the best description of residual income?

A. Profits after interest and tax but before depreciation
B. Profit before interest, tax and depreciation
C. Profit before tax less a national interest charge
D. Profit after tax, interest and depreciation

Q 30 A manager has responsibility for both costs incurred and revenues earned by his area of the
business
This means that the manager is responsible for which one of the following?
A. Cost centre
B. Revenue centre
C. Profit centre
D. An investment centre
Q 31 Performance ratios calculated for a company for a month were:

Production efficiency ratio 109.8%
Production volume ratio 112.0%
What was the production capacity ratio?

A. 125.5%
B. 102.0%
C. 98.0%
D. 123.0%
Q 32 A company planned to produce 10,400 units in a standard allowed time of 4,160

hours.11,230 units were produced and the actual time taken was 4,600 hours.
What was the efficiency ratio (to the nearest whole number)?
A. 111%
B. 108%
C. 102%
D. 98%

Q 33 The standard time for the manufacture of a product is 4 hour per unit.
For recent period the following figures applied:
Budget output 2,500 units
Actual output 2,200 units
Actual hour worked 7,400
What was the activity (volume) ratio?
A. 118.9%
B. 74.0%
C. 88.0%
D. 135.1%
Q 34 Performance ratio calculated for a company for a month were:

What was the production capacity ratio?
A. 112.2%
B. 101.8%
C. 104.1%
D. 98.2%

CH # 1
Business Organization and Accounting
Office organisation and functions

The office in an organisation is a centre for information and administration.
Office functions
There are a number of areas or functions to be administered and managed within a business. For
example, the 'head office' of say a manufacturing, retailing or service business may cover the
following areas:
 Purchasing
 Personnel/human resources
 General administration
 Finance
 Selling and marketing
The function of the purchasing department will be to ensure that the business purchases from
suppliers providing the best overall deal in terms of price, service, delivery time and quality. The
purchasing department will also be responsible for ensuring that only necessary purchases are made
by the business.
Any business that employs a significant number of people is likely to have a personnel function or
human resources function as it is often called in larger organisations. This area of the office will be
responsible for the hiring and firing of staff, for training of staff and for the general welfare of the
employees.
General administration functions are very wide-ranging but might include secretarial support, dealing
with telephone queries and arranging matters such as rent of properties.
The finance function is also very wide-ranging. On a day-to-day level the accounts department will
deal with sending invoices to customers, receiving invoices from suppliers, payment of suppliers,
receiving money from customers and making other payments such as purchases of non-current assets
and payment of employees. The higher levels of management in the accounting function may also be
responsible for management of the cash balances and for the overall financing of the organisation.
The selling and marketing function will deal with all aspects of taking sales orders, advertising, and
any sales personnel.
Organisation charts

Organisation charts are a traditional way of depicting the various roles and relationships of the
formal structure. They are a simplified and standardised way of showing:
 The units (eg departments) into which the organisation is divided and how they relate to each
other
 Formal communication and reporting channels
 The structure of authority, responsibility and delegation
 Any problems in these areas, such as excessively long lines of communication, lack of
coordination between units or unclear areas of authority.
Functional departmentation
Functional organisation involves setting up departments for people who do similar jobs. Primary
functions in a manufacturing company might be production, sales, finance, and general
administration.
Sub-departments of marketing might be selling, distribution and warehousing.
Geographical departmentation
Where the organisation is structured according to geographic area, some authority is retained at
Head
Office but day-to-day operations are handled on a territorial basis (eg Southern region, Western
region).
Many sales departments are organised territorially.
Product/brand departmentation
Some organisations group activities on the basis of products or product lines. Some functional
departmentation remains (eg manufacturing, distribution, marketing and sales) but a divisional
manager is given responsibility for the product or product line, with authority over personnel of
different functions.
Centralisation/decentralisation
In many organisations administrative functions are carried out at head office as much as is possible.
When this is the case, the administration function is said to be centralised.
A centralised administration department involves as many administrative tasks as possible being

carried out at a single central location, such as head office

When administrative tasks are carried out at various separate locations, the administration function
is said to be de-centralised. This may be appropriate when there is a large geographical spread
between local offices or where substantially different activities are performed in separate locations.
Advantages of a centralised administration office

 Consistency – for example, the same account codes are likely to be used no matter which part
of the organisation submits an invoice. Everyone uses the same data and information.
 Decisions are made at one point and so are easier to co-ordinate.
 It gives better security/control over operations and it is easier to enforce standards.
 Head office is in a better position to know what is going on. Senior managers in an
organization can take a wider view of problems and consequences.
 Decisions are made that benefit the organisation as a whole, rather than just the local office.
 Senior management can keep a proper balance between different departments or functions eg
by deciding on the resources to allocate to each.
 Quality of decisions is (theoretically) higher due to senior managers' skills and experience.
 Crisis decisions are taken more quickly at the centre, without need to refer back, get authority
etc.
 There may be economies of scale available, for example, in purchasing computer equipment
and supplies.
 Administration staff are in a single location and more expert staff are likely to be employed.
Career paths may be more clearly defined.
 Standardisation of policies, systems, procedures and documentation.
 Specialised staff can be used.
 Duplication of services can be avoided and thus costs reduced.
Advantages of a decentralised administration office.

 Local offices do not have to wait for tasks to be carried out centrally
 No reliance on head office. Local offices are more self-sufficient
 A system fault or hold-up at head office will not affect the organisation at a local level
 Procedures may be tailored to suit local offices
 Decisions are made by people with knowledge of local situations. Geographically dispersed
organisations should often be decentralised on a regional/area basis
 Decisions can be made more quickly because no need for head office approval
 Local managers are able to make their own decisions, which may help motivate them
 More opportunities for junior managers to take on responsibility – important since job
challenge and entrepreneurial skills are highly valued in today's work environment
 There may be greater continuity between functional and general management, which may
enable junior managers to make the transition to senior management more smoothly

 Top managers are free to focus on matters affecting the organisation as a whole, and are not
overly burdened or stressed with local concerns
 Easier to identify separate spheres of responsibility, which may result in improved controls,
performance measurement and accountability
Policy manual
A policy manual should help to ensure that all personnel follow procedures and best practices.
As you will be starting to realise in any reasonable sized business there will be a lot of different
transactions and roles being carried out by many different people in the organisation. As with any
entity, in order for the management to keep control of the activities there will have to be some form
of rules and procedures.
For example, there must be authorisation policies for the purchase of non-current assets, procedures
for choosing new suppliers, procedures for accepting new customers, limits on business expenses etc.
In smaller organisations where only a handful of individuals are involved in the transactions of the
business such procedures and best practices can be communicated orally by management. However
in larger organisations where there are very many people carrying out functions possibly at a number
of different geographical locations then a more formal procedure is needed to ensure that the correct
procedures and practices are followed.
This often takes the form of a policy manual which will set out the required procedures for all of the
various functions of the business. Every employee will be expected to have read the areas relevant to
their functions and the policy manual should always be readily available for easy reference.
Although a policy manual is to be recommended as a form of control over the activities of employees
care must be taken that strict adherence to the rules does not create inflexibility and in cases of doubt
a more senior member of the staff should be consulted.
Main types of transactions of a business

The main types of transactions that most businesses enter into are sales, purchases, paying expenses,
paying employees and purchasing non-current assets.
It was mentioned earlier that businesses come in all shapes and forms however there will be a
number of types of transactions which will be common to most businesses:
 Making sales
 Paying employees
 Making purchases Purchasing non-current assets

 Paying expenses
For each of these functions we will consider the key personnel involved in initiating, processing and
completing the transaction.
Making sales
In a retail organisation sales made on the shop floor. However, in a manufacturing organisation there
will normally be a sales and marketing function whose responsibility is to market the organisation's
products and take orders from customers. Often the day-to-day responsibility for taking orders will be
with the salesmen and women. This may be done over the telephone or may be via personal visits to
customers or potential customers.
If a sale is being made to an existing customer, provided that customer has not exceeded their credit
balance then the procedure will be for the sales person to take details of the order and pass those
details to the stores department for despatch and to the accounts department for invoicing of the
customer.
However if the sale is to a new customer then a more senior level of management will have to be
involved because if the sale is to be on credit, the credit status of the new customer must be
determined and a decision made as to whether sales on credit should be made to this customer.
Once the goods have been despatched to the customer, responsibility then passes to the accounting
function to invoice the customer for the goods and to ensure that payment is received.
Making purchases
The making of purchases will initially be started by either the purchasing department or the stores
department. The need for the purchase of more goods will be recognised by, for example, the stores
manager when he realises that an item of inventory is running low. He will then complete a purchase
requisition which must be authorised and then the purchasing function will determine the most
appropriate supplier on the basis of price, delivery and quality. An order will be placed by the
purchasing function and the goods will normally be received by the stores department.
After this, responsibility then goes to the accounting department which will await the arrival of the
invoice for the goods from the suppliers, will check that the invoice is accurate and for goods that
have in fact been received and then in due course pay the amount due to the supplier.
Paying expenses
Organisations will incur a variety of expenses such as rent and rates, insurance, telephone bills,
energy bills, advertising expenses etc. In some cases these will be incurred by a specific department of
the business such as the marketing department entering investing in an advertising campaign or

alternatively the receipt of the telephone bill will be part of the general administration of the
business.
When bills for expenses are received they will be passed to the accounting function which will check
that the expense has been incurred or is reasonable and then will process the expense for payment.
Paying employees
Every week and/or every month the employees of the business must be paid. For this process to take
place there are a lot of calculations to be made and a lot of paperwork to be filled out. In larger
organisations there will be payroll department which will deal with this otherwise it will be the
responsibility of the payroll clerk in the accounting function.
The payroll function will determine the gross pay for each employee, based upon a variety of different
remuneration schemes and then will calculate the statutory and other deductions that must be made
and will then calculate the net pay due to the employee. Finally the payroll function must then
organise the method of payment to the employees.
Purchasing non-current assets

From time to time an organisation will need to purchase non-current assets. These are assets that are
to be used in the business for the medium to long term rather than being purchased for resale. This
will include items such as machinery, cars, computer equipment, office furniture etc.
In order for the purchase of non-current assets to be put in motion the manager of the department
which requires the asset must firstly fill out a purchase requisition. As most non-current assets are
relatively expensive this will probably have to be authorised by more senior management. Once the
requisition has been authorised the purchasing function will then find the most appropriate supplier
for the assets.
Once a purchase order has been placed the details will then be passed to the accounting function
which will then process and pay the invoice when it is received. It will be necessary to verify or check
that employees and payments are valid during this process, this is covered in the following section.
QUESTION Business personnel
Which of the following personnel in an organisation would not be involved in the purchase of
materials?
A Credit controller
B Stores manager
C Accounts clerk

D Purchasing manager
ANSWER
A The credit controller deals with credit customers not the purchase of materials
Control over transactions

In order for management to control the transactions of the business there must be a system of
authorisation of transactions in place.
As you may have noticed in the last section any transaction that a business is involved in will tend to
involve a number of different people within the organisation. You will have also noticed the
requirement for transactions to be authorised.
The management of a reasonably large business cannot have the time to personally be involved in
every transaction of the business. However in order to keep control of the sources of income of the
business and the expenditure that the business incurs it is important that transactions are authorised
by a responsible member of the management team.
In particular this means that management must have control over the following areas:
 Sales on credit made to new customers. If a sale is made on credit the goods are sent out with
a promise from the customer to pay in the future therefore the management of the business
must be as certain as they can be that this new customer can, and will, pay for the goods. This
means that the credit controller must be happy that the new customer has a good credit
rating and is fairly certain to pay for the goods.
 Purchases of goods or non-current assets and payments for expenses. This is money going out
of the business therefore it is essential that these are necessary and valid expenditures so a
responsible official must authorise them.
 One of the largest payments made by most organisations is that of the wages bill for their
employees. It is essential that only bona fide employees are paid for the actual hours that
they have worked therefore authorisation of the payroll is a very important part of any
business. 11
Double entry bookkeeping – basic principles

Refer to FA1 knowledge
Cost ledger accounting

Cost accounting is the accumulation of costs for inventory valuation in order to meet the
requirements of external reporting and also for internal profit measurement. In other words it
produces information for both financial accounting and management accounting.
For primary books refer to FA1 knowledge
Integrated system
An integrated system is one which combines the cost accounting and financial accounting functions in
one system of ledger accounts. An integrated system combines the cost accounting and financial
accounting functions into one system of ledger accounts. This gives a saving in terms of time and cost.
However it has the disadvantage of trying to fulfil two purposes with one set of ledger accounts
despite the differences between financial accounting and management accounting requirements
Interlocking system
An interlocking system has a separate cost ledger for the cost accounting function and a separate
financial ledger for the financial accounting function.
An interlocking system is one where separate ledgers are kept for the cost accounting function (the
cost ledger) and the financial accounting function (the financial ledger). The cost ledger and financial
ledgers will each include a control account. Many organisations will have the usual debit and credit
entries made to the financial accounting system, which also contains a memorandum cost ledger
account which will have posted all items which are transferred to the cost accounting system.
Within the cost ledger there is a control account to provide a place to record items that are of a
financial accounting nature.
For example, when an invoice is received for materials, the materials control account will be debited
but instead of crediting the payables account, as the cost ledger does not record payables, the credit
is to the cost ledger control account. This means that the cost ledger does not keep a separate record
of payables. This would also be the case with trade receivables: rather than debiting a receivables
account when a sale is made, the cost ledger control account is debited instead.
The use of the control accounts as described above means that double entries can be made for all
transactions. This preserves the integrity of the double entry system.
Although an interlocking system allows easier access to cost accounting information, it is more time
consuming to prepare two sets of ledger accounts and the two ledgers will need reconciling on a
regular basis to ensure that they are in agreement.
Computerised accounting systems

A computerised accounting system will allow much quicker and more accurate entries to the
accounting system.
Almost all businesses now use some form of computerised accounting system.
In a full ledger computerised system the computer system will normally maintain the following
ledgers:
 General or main ledger (for all asset, liability, income and expense accounts)
 Receivables ledger – accounts for each customer
 Payables ledger – accounts for each supplier
 Cash books – including the main cash book and the petty cash book
The system may also contain detailed inventory records and a programme for dealing with payroll.
Accounting using a computerised system involves inputting data, processing it according to

accounting rules contained in the software, and producing output ('the accounts' or other
management reports).
Computerised accounting therefore follows a data processing cycle of input, process, and output.
 (Data is collected. There has to be a system or procedure for ensuring that all the data
required is collected and made available for processing. The quality, accuracy and
completeness of the data will affect the quality of information produced.
 Data is processed into information, perhaps by summarising it, classifying it and/or analysing
it. For example, a receivables ledger system may process data relating to customer orders so
as to:
o Produce a report of the total sales for the day/week
o Record the total value of invoices issued in the receivables control account in the
general ledger
 Files are updated to incorporate the processed data. Updating files means bringing them up to
date to record current transactions. Updating the personal ledgers and the receivables control
account are file updating activities to keep the receivables ledger records up to date.
 Data is communicated. Continuing the example of the receivables ledger system, output may
consist of customer statements and management reports.
In terms of accounting systems and databases, a data file is a collection of records with similar
characteristics. Examples of data files include the receivables ledger, the payables ledger and the
general ledger.
A record in a file consists of data relating to one logically definable unit of business information. A
collection of similar records makes up a file. For example, one record in the receivables ledger file
would be one customer account.

A record is made up of several fields. A field is an item of data relating to a record. For example, a
customer record would include a field for the customers account number, another for the customer
name, another for their credit limit, and so on.
Records on a file should contain at least one key field. This is an item of data within the record by
which it can be uniquely identified. An example would be a unique code for each customer.
In older systems, files may be conventionally classified into transaction files, and master files. These
distinctions are particularly relevant in batch processing applications, described in a moment.
A transaction file is a file containing records that relate to individual transactions. For example, when
a company sells goods, the sales for each day may be recorded in the sales day book. The sales day
book entries are examples of transaction records in a transactions file.
A master file in such a system is a file containing reference data, such as customer names and
addresses, and also cumulative transaction data such as 'year to date' sales.
For example, in a payables ledger system, master file data would include:
(a) 'Standing' reference data for each supplier (supplier name and address, reference number,
amount currently owed etc), and
(b) Transaction totals for each supplier showing purchases, purchase returns and payments.
The terms transaction file and master file are not used much in modern processing, which prefers to
talk in terms of 'databases'.
Files are used to store data and information. The main types of data processing operations involving
files are file updating, file maintenance and file enquiry.
Data processing
Batch processing
Batch processing involves transactions being grouped and stored before being processed at regular
intervals, such as daily, weekly or monthly. Because data is not input as soon as it is received the
system will not always be up-to-date.
For example, payroll processing for salaried staff is usually done in one operation once a month. To
help with organising the work, the payroll office might deal with each department separately, and do
the salaries for department 1, then the salaries for department 2, and then department 3, and so on.
If this is the case, then the batch processing would be carried out by dividing the transaction records
into smaller batches eg one batch per department.

Transactions will be collected up over a period of time, and will then be dealt with together in a batch.
Some delay in processing the transactions must therefore be acceptable.
Batch input allows for good control over the input data, because data can be grouped into numbered
batches. The batches are dispatched for processing and processed in these batches, and printed
output listings of the processed transactions are usually organised in batch order.
If any records 'go missing' it is possible to locate the batch in which the missing record should belong.
Errors in transaction records can be located more quickly by identifying its batch number. A check can
be made to ensure that every batch of data sent off for processing is eventually received back from
processing, so that entire batches of records do not go missing.
The lack of up-to-date information means batch processing is usually not suitable for systems
involving customer contact. Batch processing is suitable for internal, regular tasks such as payroll.
Example: batch processing of receivables ledger application
A company operates a computerised receivables ledger using batch processing based on paper
records.
The main stages of processing are as follows.
Step 1 Sales invoices are hand-written in a numbered invoice book (in triplicate ie three copies per
invoice). At the end of the day all invoices are clipped together and a batch control slip is attached.
The sales clerk allocates the next unused batch number from the batch control book. He or she enters
the batch number on the control slip, together with the total number of documents and the total
value of the invoices. These details are also entered in the control book.
Step 2 The batch of invoices is then passed to the accounts department for processing. An accounts
clerk records the batch as having been received.
Step 3 The relevant account codes are written on the invoices and control slip. Codes are checked, and
the batch is keyed into the computerised receivables ledger system.
Step 4 The clerk reconciles the totals on the batch control slip with the totals for valid and rejected
data.
Step 5 The ledger update program is run to post data to the relevant accounts.
Step 6 A report is printed showing the total of invoices posted to the ledger and the clerk reconciles
this to the batch totals.

Step 7 All rejected transaction records are carefully investigated and followed up, usually to be
amended and then re-input with the next processing run.
Real-time, online processing

Real time, online processing involves transactions being input and processed immediately, in 'real
time'.
Online refers to a machine which is under the direct control of the main central processor for that
system. A terminal is said to be online when it communicates with the central processor. PCs have
their own processor, so are online by definition.
Online, real time processing is appropriate when immediate processing is required, and the delay
implicit in batch processing would not be acceptable.
Online systems are the norm in modern business. Examples include the following.
(a) As a sale is made in a department store or a supermarket, the item barcode is scanned on the
point of sale terminal and the inventory records are updated immediately.
(b) In banking and credit card systems whereby customer details are often maintained in a real-time
environment. There can be immediate access to customer balances, credit position etc and
authorisation for withdrawals (or use of a credit card).
(c) Travel agents, airlines and theatre ticket agencies all use real-time systems. Once a hotel room,
plane seat or theatre seat is booked up everybody on the system must know about it immediately so
that they do not sell the same holiday or seat to two (or more) different customers.
Most modern accounting software packages use real-time processing.
Most computerised ledger systems are fully integrated which means that when one transaction is
input on the computer it is recorded in all the relevant accounts and records. For example, if a
purchase invoice for materials is entered into the computer system an integrated system will
automatically make the following entries:
 Record the purchase in the general ledger accounts

 Record the invoice in the individual supplier's account in the payables ledger
 Increase the inventory balance for that type of material in the inventory records
A computerised system can also produce a variety of reports for management including:
 Inventory records
 Aged receivables listings
 Trial balances, income statements and statements of financial position
 Inventory valuations

 Payroll analysis
The main advantages of computerised accounting systems are that they are:
 Quicker than manual systems

 Generally more accurate, as large numbers of transactions can be processed according to
programmed rules
 Able to provide management with a variety of reports and analy
Key points


Exercise
Q 1 Which of the following statement about office manual is not correct?
A. They are particularly useful for dealing with out of ordinary situations
B. They can be used to check on the correct procedures in case of doubt
C. They can be used to help with the training of new staff
D. They help to maintain standards of performance

Q 2 What is a prime entry record in an accounting system?

A. A record of an important transaction, usually a high-level transaction
B. An entry in the ledger accounts
C. The first record of a transaction entered into the accounting system
D. A record of direct materials, direct labour and direct expenses costs
Q 3 Which of the following statements are correct?

1) In a system of interlocking accounts, financial accounts and management accounts
are recorded in the same ledger
2) The number of errors in a computerized accounting system should be less than if a
manual accounting system is used.
3) Transactions should be recorded more quickly in a computerized accounting system
than in a manual accounting system
A. Statements 1 and 2 only are correct
B. Statement 1 and 3 only are correct
C. Statement 2 only is correct
D. Statements 2 and 3 only are correct

Q 4 Which of the following best describes double entry bookkeeping?

A. A centre of exchange information between businesses
B. A system of recording business transaction in ledger
C. A system of recording an accounting transaction twice in the main ledger
D. A system of management accounting
Q 5 What is the most appropriate of an office?

A. A centre of exchanging information between businesses
B. A centre for information and administration
C. A place where information is stored
D. A room where many people using IT work

Q 6 Which one of the following is disadvantage of office manuals?

A. Strict interpretation of instructions creates inflexibility
B. The quality of service received from suppliers is reduced
C. They create bureaucracy and de-motivate staff
D. They do not facilities the induction and training of new staff
Q 7 Which one of the following is least likely to be carried out by an Accounts Department?
A. Arrangement of payment of payables
B. Calculation of wages and salaries to be paid
C. Dispatch of customer orders
D. Preparation of company financial records

Q 8 What is the main purpose of prime entry records?

A. To calculate the cash received and spent by a business
B. To prevent a large volume of unnecessary detail in the ledgers
C. To provide a monthly check on the double entry bookkeeping
D. To separate the transactions subject to sales tax from those that are exempt
Q 9 Which of the following is the correct chronological sequence for sales documents?
A. Enquiry—Order – Invoice payment
B. Order – Enquiry – Invoice – Payment
C. Enquiry – Order – Payment – Invoice
D. Enquiry – Invoice – Order – Payment

Q 10 Integrated accounts application packages have a number of advantages. Which of the

following in not one of term?
A. User-friendly, as the functions will be similar in each module
B. Tailored to suit the requirements of the business
C. Compatibility between the modules
D. Efficiency, as there is no need to quite one application to access another
Q 11 Payments to suppliers are entered into an integrated computerized accounting system.

Which of the following does not happen when these payments are entered into the
computerized system?
A. The supplier’s individual account is updated in the purchase ledger/payable ledger
B. The payables control account in the nominal ledger (main ledger) is debited
C. The bank account in the nominal ledger is credited
D. The receivables control account in the nominal ledger is credited

Q 12 Which of the following is not a purchasing department?

A. Ensuring that only required goods are purchased
B. Ensuring that suppliers used give the best prices
C. Negotiating discounts with suppliers
D. Paying suppliers’ invoice
Q 13 Which of the following about policy manual is true?

1) It helps to ensure that all personnel follow procedures
2) It helps to ensure best practices
3) All businesses are required by law to keep policy manuals for all activities
A. Statements 1 and 2 only
B. Statements 2 and 3 only
C. Statements 1 and 3 only
D. All 3 statements are true

Q 14 Which of the following is not a function of the accounting department?

A. Sending invoices to customers
B. Receiving invoices from suppliers
C. Making payments of all kinds
D. Taking sales order
Q 15 A section in company policy manual contains the terms ’segregation of duties ’ , ‘job
rotation’ and ‘need to know’
What policy is this section MOST likely to be describing?
A. Staff requirement procedures
B. Staff appraisal and training
C. Responsibility accounting
D. Personnel security controls

Q 16 A company completes a multi-part purchase order set when it purchases supplies.

Copies are for the supplier, warehouse, purchasing department and accounts department.
What is the purpose of the accounts department copy?
A. To place on order
B. To match against the invoice and goods received note
C. To compare with the supplier’s catalogue
D. To compare with the supplier’s advice note
Q 17 Ones materials have been bought, which of the following departments must receive a
copy of the invoice?
A. The accounts department
B. The stores department
C. The goods received department

D. The marketing department
Q 18 Which of the following is usually a function of the accounts department?

1) Payroll preparation
2) Negotiating prices and discounts with suppliers
3) Payment of suppliers’ invoices
4) Reporting difference between budget and actual performance to budget holders
A. 1 and 2 only
B. 3 and 4 only
C. 1,3 and 4 only
D. 2 and 3 only

Q 19 Which number of staff is MOST likely to raise a purchase requisition?

A. Cost clerk
B. Financial accountant
C. Purchase ledger clerk
D. Storekeeper
Q 20 Which of the following statements about office manual is not correct?

A. They are particularly useful for dealing with out of the ordinary situations
B. They can be used to check on the correct procedures in cases of doubt
C. They can be used to help with the training of new staff
D. They help to maintain standards of performance

Q 21 Which of the following features are characteristics of an integrated accounting system?

1) Management accounting and financial accounting ledger accounts are held in the
same ledger
2) There are no individual ledger accounts for receivables or payables
3) Transactions are coded for both financial accounting purposes and management
accounting purpose
A. 1 only
B. 1 and 2 only
C. 1 and 3 only
D. 2 and 3 only
Q 22 Company A buys goods from company B on credit

How will this transaction be recorded in company A’s books?
A. Dr Cash Cr Purchases
B. Dr Purchases Cr Creditors
C. Dr Creditor Cr Purchases
D. Dr Purchases Cr Cash


A. A debt entry may increase a liability
B. A debit entry may increase an asset
C. A credit entry may decrease a liability
D. A credit entry may decrease income
Q 24 Which of the following are books of the prime entry?

1) Cash book
2) General journal
3) Sales day book
4) Payroll
A. 1,2 and 3 only
B. 2 and 4 only
C. 1 and 4 only
D. 1 and 3 only

Q 25 A company operates a cost and financial accounts.

Which of the following accounts will NOT appear in the cost ledger?
A. Cost of sales account
B. Production overhead control account
C. Debtors control account
D. Work-in-progress control account
Q 26 H Limited sells goods to R Limited. The customer pays by cheque credit is involved.
In H’s accounting system, which of the following will record the details of this transaction?
A. A purchase invoice, the bank, the sales account
B. A sale invoice, the cash book, the customer’s account
C. A sale invoice, the cash book, the sales account
D. A sales invoice, the customer’s account ,the sales account

Q 27 Which of the following function is credit controller likely to perform?

A. Controlling wage levels
B. Controlling debtors for payment
C. Reducing costs
D. Increasing sales
Q 28 Which of the following will not be a function of the human resources department?
A. Hiring employees
B. Firing employees
C. Paying employees
D. Arranging training of employees

Q 29 The following statements relate to the policy manual of an organization:

1) Policies should be in place to deal with the authorization of purchase of fixed assets
2) Employees will need to know where to find the policy manual to refer to but need
not have read it
3) Strict adherence to the manual can lead to inflexibility
A. All 3
B. 1 and 2 only
C. 1 and 3 only
D. 2 and 3 only
Q 30 Purchase invoice are entered into an organization’s computer system at the end of each
day. What is this?
A. Batch processing
B. Real time on line processing
C. File maintenance
D. File updating


CH # 11
Cost Codes
Coding
For elements of cost and income to be correctly analysed, classified and recorded they must initially
be correctly coded for entry into the accounting records.
We have discussed the various types of income and expenditure, and the importance of ensuring that
these items are recorded accurately so as to ensure accurate management information. We will now
look at the practical aspects of ensuring this. In many organisations, income and expenditure items
are coded before they are included in the accounting records. Coded means giving something a code.
What exactly is a code?

A code is a system of words, letters, figures or symbols used to represent others.
Features of a good coding system

A good coding system will possess the both of the following features:
 Items each have a unique code

 Codes are uniform in structure and length
Types of code
Here are some examples of codes.
Sequential (or progressive) codes

Numbers are given to items in ordinary numerical sequence, so that there is no obvious connection
between an item and its code. For example:
000042 4 cm nails
000043 Office stapler
000044 Hand wrench
Block (or group classification) codes

These are an improvement on simple sequences codes, in that a digit (often the first one) indicates
the classification of an item. For example:
4NNNNN Nails
5NNNNN Screws

6NNNNN Bolts
(Note. 'N' stands for another digit; 'NNNNN' indicates there are five further digits in the code.)
Faceted codes
These are a refinement of block codes, in that each digit of the code gives information about an item.
For example:
(i) The first digit:
1 Nails
2 Screws
3 Bolts
(ii) The second digit:
1 Steel
2 Brass
3 Copper
(iii) The third digit:
1 50mm
2 60mm
3 75mm
A 60mm steel screw would have a code of 212.
Mnemonic codes
Meaning of mnemonic is a learning technique to aid the memory. Under this type of coding the code
means something, it may be an abbreviation of the object being coded. A well-known example of this
type of code is the three letter coding used for airports. For example:
LAX Los Angeles
SIN Singapore
CAI Cairo
LHR London Heathrow
Hierarchical codes

This is a type of faceted code where each digit represents a classification, and each digit further to the
right represents a smaller subset than those to the left. For example:
3 = Screws 32 = Round headed screws
31 = Flat headed screws 322 = Steel (round headed) screws and so on
Coding System
A coding system does not have to be structured entirely on any one of the above systems. It can mix
the various features according to the items which need to be coded.
Example: numeric codes

Type of account Code range
Non-current asset 1000 – 1999
Current asset 2000 – 2999
Current liability 3000 – 3999
Revenue 4000 – 4999
Long-term liability 5000 – 5999
Capital 6000 – 6999
Within each section, the codes can be broken down into smaller sections:
Fixtures and fittings 1000 – 1099
Land and buildings 1100 – 1199
Plant and machinery 1200 – 1299
Motor vehicles 1300 – 1399
And so on.
Gaps between the numbers used give scope for breaking the categories down further (for example,
there could be a separate account for each building) and for adding new categories if necessary.
This is an example of a block coding system.

Some types of account require more detail. For example, each customer needs a separate account,
although in the statement of financial position the total 'receivables' will be shown. Suppliers
(payables) also need an account each and a total for the statement of financial position.
Alphabetical codes, using part of the company or person's name, are common but, because names
can be duplicated, an additional code may be necessary.
Example: alphabetical codes

Customer Code
J Miller Co MIL 010
M Miller MIL 015
A Milton MIL 025
Some computer systems save time for operators by offering a 'menu' of accounts when part of the
name is typed in.
Some codes can help users to recognise the items they describe. For example, a shoe shop could code
their inventory by type of shoe, colour, size, style and male or female. A pair of red women's sandals,
size 5, style 19 could then become:
Shoe type Colour Size Style Male/Female
SA R 5 19 F
BO B 8 11 M
And the second item would be men's brown boots, size 8, style 11.
We have already stressed the importance of coding costs and revenues correctly for management
information (and financial accounting) purposes. The key to achieving this in any organisation is an
understanding of the coding list and any related guidance in the policy manual.
We have already explained that correct coding requires you to have a good understanding of the
organisation as well as the coding list. You need to know the following.
 The main activities of the organization

 The main sources of income
 The main items of expenditure
 Details of the organisational structure
In some cases, you may need to ask for help from other people in order to code transactions correctly.

An organisation chart can help to make sense of the coding structure. Here is a simple one for an
accounting firm divided into departments.
Coding errors
Coding errors can happen in a variety of ways, such as errors in keying in the original data and
applying the wrong code (because either the transaction or the coding structure have not been
understood).
When management information is produced, large errors are often obvious. For example, a doubling
of sales revenue in one month is rather unlikely unless there has been a sales campaign in that month.
It is more likely that a decimal point has been misplaced in a figure or another form of income has
been incorrectly coded to sales revenue.
The advantages of a coding system

(a) A code is usually briefer than a description, thereby saving clerical time in a manual system and
storage space in a computerised system.
(b) A code is more precise than a description and therefore reduces ambiguity.
(c) Coding facilitates data processing.
Key points


Exercise
Q 1 Hockey skill operates form three main sites. In analysis its cost (overheads) it uses a nine
digit coding system. A sample from the coding manual shows:
Sites Expenditure type Function
Whitby 100 Rent 410 Purchasing 600
Scraborough 200 Power 420 Finance 610

York 300 Heat and light 430 Production 620

Travel costs 500 Sales 630
Telephone and postage 520
The order of coding is: sit/expenditure/function
An invoice for the Whitby site for power would be coded as:
A. 100/420/600
B. 100/420/620
C. 100/420/610
D. 100/430/610
Q 2 In accounting systems, data is usually organized using codes.

Which of the following statements about codes is incorrect?
A. Using codes helps to improve the speed and accuracy of data processing
B. Using codes allows more data validation checks to be carried out
C. A hierarchical code structure makes it easier to find item on a code list, since
similar items are grouped
D. Codes in accounting reduce the need for accountants to understand the principles
of accounting

Q 3 A firm uses a unique code to identify each customer and customer account. The code
consists of the first three letter of the customer’s name, following by four digits.
Which one of the following will appear first, when the customers are stored into
descending order?
A. TRO1100
B. TRO1214
C. TOR1213
D. TOR1102
Q 4 Inventory codes used by an organization are eight-digit numerical codes.

Which of the following measures inn most likely to prevent errors with the input of the
inventory code number for each inventory transaction?
A. Existence check
B. Dual input of the inventory code
C. Verification check
D. Check digit check

Q 5 A firm uses a unique code to identify each customer. The first four letter of each name are
followed by four digits.
Which one of the following will appear first when customers are stored into descending
order?
A. ADAM0001
B. ADAA0099
C. ADDA0100
D. ABAB099
Q 6 The coding of product is done in the following format:

Production/type of expense/department
The following info is given:
Wages 012
Salaries 013
Product A 514
Product B 513
Dept. C 214

Dept. D 213
How will the wages relating to product A in department C be coded?
A. 012-514-214
B. 514-012-214
C. 214-514-012
D. 514-214-012
Data for question 7 and 8

The overhead expenses of Parkino Fences plc, a large public company, is coded using a
7-digit coding system, as follows.
Location Code# Type of expense Code # Function Code #
London 10 Rent 410 Buying 21
Birmingham 11 Machinery department 431 Production 22
Cardiff 12 Factory depreciation 432 Marketing 23
Glasgow 16 Travel 510 Finance 24
Manchester 17 Entertainment 511
Bristol 18 Subsistence 512
The coding for travelling expenses of salesman from the Bristol office is 1823510.
Q 7 The coding for the depreciation cost of the factory in Cardiff is:
A. 1221431
B. 1222431
C. 1221432
D. 1222432

Q 8 The coding for hotel expenses incurred by the accountant of the Manchester office on a
recent visit to head office in London is:
A. 1024512
B. 1724510
C. 1724511
Q 9 Consider the following statements.

1) When costs are coded is the sales tax inclusive amount that must be coded.
2) An alphanumeric code is one in which both letters and number appear
Which of the following is correct with regard to the above statements?


D. Statement 1 is incorrect but statement 2 is correct
Q 10 The fixed assets of a business are coded within the numerical range of 3000 to 3050.
The third digit in the code represents the type of non-current asset as follows.
1) Land and building
2) Plant and machinery
3) Motor vehicles
4) Fixtures and fittings
5) Office equipment
The final digit in the code represents the department of the organization where the non-
current asset is used as follows.
1) Factory
2) Stores
3) Warehouse
4) Accounts
5) General administration
What would be the code given to the purchase of a new desk for the chief accountant?
A. 3045
B. 3054
C. 3044
D. 3055

Q 11 What is the purpose of a coding structure?

A. To reduce the amount of human error
B. To share production costs between products
C. To avoid given managers too much information
D. To help place information into categories
Q 12 A computer coding structure is useful in:

A. Cost and management accounting
B. Financial accounting
C. Both cost and management accounting and financial accounting
D. Neither cost and management accounting or financial accounting


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Management Accounting F2

Masters’ Academy of Professional Studies +923215040978 Page 2

SMART criteria for objectives

• The longer term (five years plus)

• The whole organisation.

All managers are involved in day to day decisions.

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Benefits and limitations of external sources

Primary and secondary data

The problem with using secondary data

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Discrete and Continuous data

Methods of collecting Primary Data:

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Sampling methods compared

• produce a logical order for the material.

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• check that it meets the requirements of the document.

• ensure that it is complete and clear.

• Analysis – presenting the information required in a series of subsections.

Masters’ Academy of Professional Studies +923215040978 Page 9

Simple column charts

Masters’ Academy of Professional Studies +923215040978 Page 10

Simple bar chart

Simple line graphs

Masters’ Academy of Professional Studies +923215040978 Page 11

4 Column, bar and line charts for multiple data sets

Masters’ Academy of Professional Studies +923215040978 Page 12

5 Component/stacked column and bar charts (Chart 9)

Masters’ Academy of Professional Studies +923215040978 Page 13

6 Pie charts (Charts 10 and 11)

Masters’ Academy of Professional Studies +923215040978 Page 14

7 100% stacked column or bar charts

Masters’ Academy of Professional Studies +923215040978 Page 15

8 Scatter diagram or XY chart (Charts 14 and 15)

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Qualities of Good Management Information:

A Authoritative The source of the information should be reputable and reliable.

T Timely The information should be available when it is needed.

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Financial Accounting Vs. Management Accounting:

Financial accounts Management accounts

The format of published financial accounts The format of management accounts

Financial accounts concentrate on the Management accounts can focus on

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Cost accounting vs Management accounting

Information Type Quantitative. Quantitative and Qualitative.

Objective Ascertainment of cost of Providing information to managers to

Scope Concerned with ascertainment, Impart and effect aspect of costs.

Interdependency Can be installed without Cannot be installed without cost

Masters’ Academy of Professional Studies +923215040978 Page 20

Financial Vs. Non-Financial Information

Role of Trainee Accountant:

 Calculation of cost of production cost of department and revenue.

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