Management Accounting Notes

Fixed cost: a cost that remains constant within a given period of time and range of activity in spite of fluctuation in production

process account for e.g., chemical manufacturers, paints, foods, explosives, soap making etc. • Costs are computed for each process over a period of time i.e., production for a process during a given period • The cost unit in case of process costing is a process • Each process for the total output is the same and generally production is continuous • Comparatively less control is required since the work in process gets standardized • Completion of the job is not awaited for accounting cost per unit is computed by dividing the total cost by process output • It not necessary under process costing goods are for mass consumption and hence they may be produced on a continuing basis Normal loss concept It is inherent nature of process loss which will have to be there if production is undertaken • It is unavoidable loss • It is estimated in advance • It also name as standard loss Valuation: It is bond by the good units that is per unit cost of one finished product is inflated Total cost – Realizable value of normal loss Input – Normal loss This is inflated cost Normal loss is represented by scrap that it is credited to the process account Abnormal loss is basically actual loss – Normal loss Abnormal gain – It is due to the control over the production, the actual loss is less than the normal loss due to the various reasons labour efficiency etc. if the actual loss is within the predetermined units then there would be normal loss but if the actual loss is less than the predetermined limit then there would be always a abnormal gain Operating costing it is the method of costing which is used by those industries which are engaged in service rendering industry the cost of each service unit is ascertained by preparing cost sheet for e.g., bus companies, electricity companies, railway companies

Direct cost The expense on material and labour economically and easily traceable to a product, service or job are considered as direct cost. In the process of manufacture or production of articles, materials are purchased, labourers are employed and the wages are paid to them, certain other expenses are also incurred directly. All of these take an active and direct part in the manufacturer of a particular commodity. Hence are called direct costs Indirect cost: The expenses incurred on those items which are not directly chargeable to production are known as indirect costs. For e.g., In production salaries of timekeepers, storekeepers foremen are paid certain expenses for running the administration are incurred all of these cannot be conveniently allocated to production and hence are called indirect costs Relevant cost: A cost which influences the decision. These cost generally effects the decision. The following are relevant cost Differential cost and Opportunity cost Differential cost is a change in the total cost as a result of increase or decrease in production by one unit. In other words the differential cost can also be defined as the difference in the total cost of the proposal in comparison to the total cost of non-proposal

Specific fixed cost: are those fixed cost which influenced as a result of proposal to close down a production or tertiary and thus are relevant for the purpose of decision making. In addition these cost are also relevant for any decision provided it has to be specifically specified Overhead/indirect cost: The expenditure on labour, materials or services which cannot be economically identified with specific saleable cost unit Semi-Variable cost: A cost containing both fixed and variable components and which is thus partly affected by fluctuation in the level of activity

Contract costing: it is the variation of job costing as under this method of costing the work is done as per the specification of the customer such as an org which are engaged in civil construction work, mechanical engineering work etc. in this method cost of each contract is ascertained by preparing cost account sheet, by preparing public account. In case of ship-builders, printers, building contractors etc. this system of costing is used. Batch costing: This method of costing which is also variation of job costing the work is done as per the specification given by the customer, how work is done? Not for the quantity ordered by the customer but for the economical batch quantity. Economic batch quantity means that the manufacture should consider both handling as well as ordering cost while deciding for the batch. Unit costing: Is the method of costing which is the variation of process costing. As production under this method is carried out on mass and repetitive scale. However, the production is carried out in one stage in comparison to various stages in process costing. The cost is ascertained by preparing unit cost sheet for e.g., brickmaking, flour mills, paper mills, cement manufacturing etc. Multiple costing: it is a method of costing in which more than one method of costing is used simultaneously in case of shipping, building industry, company has to be use job costing as shipping, building industry company has to be use in job costing as ship is to be build as per specification given by the customer. In addition it also require one of contract costing as a lot of civil construction work. Mechanical and electrical work is involve further there is also need of using process costing/unit costing as many items are to be produced within the organization on mass and repetitive skill. The cost under multiple costing ascertained first by preparing contract cost sheet, unit cost sheet and then finally merging these figures into job cost sheet e.g., are motorcars, engines, machine tools, type writers radio cycle etc.

Cost in t

Common Fixed cost: Are those fixed cost which are common to the various cost centres or cost units. These cost are not influenced by any proposal expect the proposal to close down the company or plant or organization and thus these are irrelevant for the purpose of decision making. However this cost is used to ascertained the total cost by charging it through the purpose of absorbption of fixed overhead

Cost in thousand rupe Cost in thousa

Cost accounting is a specified field of accounting in which proper cost ascertained with an objective of insuring cost control and cost reduction Cost control and cost reduction is the objective of the costing cost control and cost reduction can be ensured through the technique of costing such as margin costing, standard costing, budgeting etc . Cost control achieves the cost target as it’s objective while cost reduction is directed to explore the possibility of improving the targets themselves. Thus cost control ends when targets are achieved while cost reduction has no visible end. It is a continues process The effect of cost control and cost reduction will lead to • Optimum utilization of resources • Minimization of waste and loses • Control over wasteful expenditure • Optimum decision • Proper performance evaluation All of these will lead to optimization and minimization of profit Difference between management accounting and financial accounting • Legal requirements: There is a statutory requirement for public limited companies to produce annual financial regardless of whether or not management regards this information as useful. MA by contrast, is entirely optional and information should be produced only if it is considered that the benefits from the use of the information by management exceed the cost of collecting it • Focus on individual parts or segments of the business: FA reports describe the whole of the business whereas MA focuses on small parts of the organization • Generally accepted accounting principles: FA statements must be prepared to conform with the legal requirements and the generally accepted accounting principles established by the regulatory bodies such as the FA. These requirements are essential to ensure the uniformity and consistency that is needed for external financial statements. Outside users need assurance that external statements are prepared in accordance with generally accepted accounting principles. MA are not required to adhere to generally accepted accounting principles when providing managerial information for internal purposes • Time dimension: FA reports what has happened in the past in an org whereas MA is concerned with future information as well as past information • Report frequency: A detailed set of financial accounts is published annually and less detailed accounts are published semi-annually. Management requires information quickly if it is to act on it. Management accounting reports may be prepared daily, weekly or monthly intervals Marginal cost Marginal cost is a change in the total cost as a result of increase or decrease in production by one unit provided fixed cost remain same. In other words marginal cost is the sum of variable cost that is marterial + labour + variable overhead cost

Opportunity cost: It is the cost of loosing best next opportunity as a result of proposal under consideration. Thus the proposal do influence this cost and on such opportunity cost is relevant for the purpose of decision making. There are two occasions under which the concept of opportunity cost emerges first when company has received a special order at a time when the particular resource is fully utilized or occupied Second When the company has in its possession some sunk cost at the time of proposal under consideration and such sunk cost of next best alternative use shall be opportunity cost Sunk cost: It is the cost already incurred in past on the resources which are now not in relevant use. This expenditure remain influenced as a result of a proposal under consideration and thus relevant for the purpose of decision making. If sunk cost has some other alternative use in addition to use its proposal under consideration, it will give rise to an opportunity cost and this opportunity cost shall be relevant for the purpose of decision making. Investment in plant and machinery are prime examples of such cost

Out of pocket expenses/cost it is the cost which are involving cash outlook as a result of proposal under consideration this cost is considered relevant for the purpose of decision making and normally used for export decision, make or buy decision etc.

Imputed cost are notional (imaginary) cost which are considered in the costing as a part of the cost for the purpose of evaluating performance the example of imputed cost are rent on own building and interest on own capital Committed cost are those fixed cost which are committed to be incurred and no managerial decision under any circumstance will make any change in the committed fixed cost. Majority of fixed cost are (legal) statuory cost like payment of bonus under payment of bonus act, wages under the minimum wages act, third party insurance under the motor vehicle act

Job costing: the cost of each job ascertained by preparing job cost sheet it tie ht method of cost in which work is done as per the specification of the customer

Discretionary fixed cost are those fixed cost which can be influenced by managerial decision for e.g., comprehensive insurance whether to be taken or not is a managerial decision and so the expenditure on comprehensive insurance excluding third party insurance is discretionary fixed cost which is influenced by managerial decision

Process costing it is the method used in those organization where mass and repetitive production are produced in various stages (in process) the cost of each process ascertained by preparing process cost sheet or

Main points for WASTE AND SCRAP • Waste is a residue (left out) which has no measurement/ability value. It can be visible waste like dust and it can be invisible – waste like acqua pressure

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Scrap is a residue having measurement/ability value for example cutting, boring etc. • Spoilage is a sub standard work which is beyond reftification • Defective is a sub standard work which can be rectified by incurring reftification cost Waste- Normal waste, if normal waste no separate cost of waste is worked out. Rather the effect of waste is spread over. The other goods unit by inflating the cost Abnormal waste: the cost of abnormal waste is worked out separately on the basis as valuation of other units and this cost is excluded as a part of cost by transferring it to costing profit and loss accounts Scrap If identifiable if scraps identifiable to a particular bob and process the amount realized on the sale of scrap is credited to the amount of their particular job and process • If not identifiable the amount of realization is booked under a separate standing order number and its effect is spread over the various cost centre on some suitable basis • If amount realize on sale of scraps normal, the amount so realize can be taken as miscellaneous income and transferred to profit and loss account Abnormal scrap in case of abnormal scrap the value of scrap is first worked out on some basis as valuation of other units and ater giving the credit of realization from scrap to this value the net value is transferred to costing profit and loss account

Se

Spoilage if spoilage is inherit to the manufacturing process, it is treated as normal loss and the effect of spoilage is automatically reflected on other units by inflating the cost • If the spoilage is because of bad workmen ship, the cost of spoilage is worth out on the same basis as cost of other unit and charge to the department responsible for this spoilage • If spoilage is due to the procurement of material the cost of spoilage is charged to the procurement department • If spoilage is on account of abnormal reason the cost of spoilage is charged to the costing profit and loss account

Defective: In case of defective the problem of treatment is treatment of reftification

CONTRIBUTION TYPE OF LOSSES TYPE OF GAINS

Ste

Break even analysis System of analysis which determines probable profit at any level of activity. It portrays the relationship between cost of production, volume of production and the sale value. The cost of production is divided into fixed and variable costs, and at different levels of production, changes are bound to occur in such costs. The effect of profit on account of such variations is studied through break-even analysis. Break even analysis helps in taking managerial decisions • It helps in forecasting the profit fairly and accurately • Its is helpful in setting up flexible budgets, since on the basis of cost-volume profit relationship one can ascertain the costs, sales and profits at different levels of activity • It assists in performance evaluation for purposes of management control • Its helps in formulating price policy by projecting the effect which different price structures will have on costs and profits • It helps in determining the amount of overhead cost to be charged at various levels of operations, since overhead rates are generally pre-determined on the basis of a selected volume of production

Break even point The point which breaks the total cost and the selling price evenly to show the level of output or sales at which there shall be neither profit not loss, is regarded as break-even point. At this point, the revenue of the business exactly equals its cost. If production is enhanced beyond this level, profit shall accrue to the business, and if it is decreased from this level, loss shall be suffered by the business

Fixe

Budget is a financial/quantitative statement prepared prior to define period of time for attaining the given objective • It is a numerical statement which expresses the plans, policies and programmes of an enterprise for a specific period of time in future • It is prepared in advance of the period during which is to operate • It relates to a definite future period • It is based on a predetermined objective

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It is prepared for the implementation of the policy formulated by the management

Cost-Volume-Profit Analysis Types of Costs Total Variable Cost Variable Cost Per Unit Variable costs per unit do not change as activity increases. Variable Costs Example Consider Grand Canyon Railway. Variable Costs Example Total Fixed Cost Mixed Costs • Contain fixed portion that is incurred even when facility is unused & variable portion that increases with usage. • Example: monthly electric utility charge • Fixed service fee • Variable charge per kilowatt hour used Mixed Costs Relevant Range is a band of volume in which a specific relationship exists between cost and volume. • Outside the relevant range, the cost either increases or decreases. • A fixed cost is fixed only within a given relevant range and a given time span. Relevant Range Objective 2 • Use CVP analysis to compute breakeven point. Assumptions of CVP Analysis • Expenses can be classified as either variable or fixed. • CVP relationships are linear over a wide range of production and sales. • Sales prices, unit variable cost, and total fixed expenses will not vary within the relevant range. • Volume is the only cost driver. • The relevant range of volume is specified. • Inventory levels will be unchanged. • The sales mix remains unchanged during the period. Contribution Margin Income Statement Sales- Variable Costs Contribution Margin- Fixed Costs Operating Income Computing Break-Even Point The unique sales level at which a company earns neither a profit nor incurs a loss. Sales – Variable Costs – Fixed Costs = 0 Break-Even Point • Unit contribution margin is replaced with contribution margin for a composite unit. • A composite unit is composed of specific numbers of each product in proportion to the product sales mix. • Sales mix is the ratio of the volumes of the various products. Computing Multiproduct Break-Even Point The resulting break-even formula for composite unit sales is: Computing Multiproduct Break-Even Point A company sells windows and doors. They sell 4 windows for every door. Process Costing Treatment of process losses • Normal loss • Abnormal loss • Abnormal gain / effectiveness • Cost of normal loss must form part of cost Treatment of normal loss • Ascertain the quantity of normal loss expected and credit it to the concerned process account, debiting normal loss account. the amount being it’s expected realisable value • On sale of the scrapped units, credit it to the normal loss account, debiting cash account. Treatment of abnormal loss • Ascertain the quantity of abnormal loss • Abnormal loss units = actual loss – expected loss • Or expected output – actual output Cost of abnormal loss must not form part of cost • Determine the cost of abnormal loss and credit to the concerned process account, debiting abnormal loss account. • On sale of the abnormal scrap, credit the proceeds to abnormal loss account • Balance in the abnormal loss account to be transferred to costing profit and loss account. Cost of abnormal loss • Cost of abnormal loss : • normal cost of normal output x abnormal loss (units normal output for short: NC OF NO X A.L N.O. NC of N.O = total cost incurred in the process till the end – expected realisable value of normal loss Normal output = input – normal loss Or actual output + abnormal loss Or actual output – abnormal gain Treatment of abnormal gain • Ascertain the quantity of abnormal gain • Ascertain the cost of abnormal gain in the same way as we determined the cost of abnormal loss • Debit the cost to the process account and credit to abnormal gain account. Adjusting abnormal gain against normal loss • That part of the normal loss that cannot be sold because of abnormal gain should be adjusted against abnormal gain. The accounting entry will be: • Abnormal gain dr To normal loss account

Balance of abnormal gain is to be transferred to costing profit & loss account