Final Study Document

MANAGERIAL ACCOUNTING
STUDY NOTES FOR
101: MANAGERIAL ACCOUNTING
By:
Prof. SUPRIYA DESAI
Course:
MASTER OF BUSINESS ADMINISTRATION
1
COURSE PLANNER:
A. General Information :
Course: Compulsory Generic Core
Semester: Semester I
Credits: 3 Credits
Subject Code: 101
Name of the facilitator: Prof. Supriya Desai
B. Recommended Reference Book:

1. Management Accounting, Khan and Jain, Tata McGraw Hill
2. Managerial Accounting, Dr. Mahesh Abale and Dr. Shriprakash Soni
3. Management Accounting, Dr. Mahesh Kulkarni
4. Accounting for Management, S. N. Maheshwari
C. Comprehensive Concurrent Evaluation (CCE):

CCE 1: Online Test
CCE 2: Class Test
CCE 3: Quiz
CCE 4: Situation Analysis
CCE 5: Case Study
D. Relation of Learnings with Placement Profiles:

Management Accountant, Management Trainee, Project Finance,
Accounting Manager, Financial Analyst
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SYLLABUS
Generic Core Courses (Compulsory) – Semester I

Semester I 101 – Managerial Accounting
3 Credits LTP: 2:1:1 Compulsory Generic Core Course
Course Outcomes: On successful completion of the course the learner will be able to:
CO# COGNITIVE ABILITIES COURSE OUTCOMES
CO101.1 REMEMBERING DESCRIBE the basic concepts related to Accounting,
Financial Statements, Cost Accounting, Marginal
Costing, Budgetary Control and Standard Costing
CO101.2 UNDERSTANDING EXPLAIN in detail, all the theoretical concepts
taught through the syllabus
CO101.3 APPLYING PERFORM all the necessary calculations through the
relevant numerical problems
CO101.4 ANALYSING ANALYSE the situation and decide the key financial
as well as non-financial elements involved in the
situation
CO101.5 EVALUATING EVALUATE the financial impact of the decision
1. Basic Concepts: Forms of Business Organization. Meaning and Importance of

Accounting in Business Organization, Basic concepts and terms used in accounting, Capital
& Revenue Expenditure, Capital & Revenue Receipts, Users of Accounting Information.
Accounting Concepts and Conventions, Fundamental Accounting Equation, Journal, Ledger
and Trial Balance. (4+2)
2. Financial Statements: Meaning of Financial Statements, Importance and Objectives of

Financial Statements. Preparation of Final Accounts of the sole proprietary firm. (7 + 2)
3. Cost Accounting: Basic Concepts of Cost Accounting, Objectives, Importance and

Advantages of Cost Accounting, Cost Centre, Cost Unit, Elements of Cost, Classification and
Analysis of Costs, Relevant and Irrelevant Costs, Differential Costs, Sunk Cost, Opportunity
Cost, Preparation of Cost Sheet. (8 + 2)
4. Short Term Business Decision Techniques – Marginal Costing: Meaning, Principles,

Advantages and Limitations, Contribution, P/V Ratio, Break-Even Point (BEP), Cost Volume
Profit (CVP) Analysis, Short Term Business Decisions–Product Mix Decisions, Make or Buy
(Outsourcing) Decisions, Accept or Reject Special Order Decisions, Shutting Down
Decisions. (8 + 2)
5. Exercising Control – Budgetary Control & Standard Costing: Budgetary Control:

Meaning of Budget and Budgeting, Importance, Advantages and Disadvantages, Functional
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Budgets–Raw Material Purchase & Procurement Budget, Cash Budget and Flexible Budget.
Standard Costing: Meaning, Importance, Advantages and Disadvantages, Cost Variance
Analysis. Material Variances– Material Cost Variance, Material Rate Variance, Material
Usage Variance, Material Mix Variance and Material Yield Variance. Labour Variances –
Labour Cost Variance, Labour Rate Variance, Labour Efficiency Variance, Labour Mix
Variance, Labour Idle Time Variance and Labour Yield Variance. (8 + 2)
Note: Numerical Problems will be asked on the following –

1. Final Accounts of Sole Proprietary Firm
2. Preparation of Cost Sheet
3. Marginal Costing and Short-Term Business Decisions
4. Raw Material Purchase & Procurement Budget, Cash Budget, Flexible Budget
5. Material Variances and Labour Variances
Suggested Text Books:

1. Management Accounting, Khan and Jain, Tata McGraw Hill
2. Fundamentals of Management Accounting, H. V.Jhamb
3. Managerial Accounting, Dr. Mahesh Abale and Dr. Shriprakash Soni
4. Management Accounting, Dr. Mahesh Kulkarni
Suggested Reference Books:

1. Financial Cost and Management Accounting, P.Periasamy
2. Financial Accounting for Management, Shankarnarayanan Ramanath, CENGAGE Learning
3. Accounting For Management, S. N. Maheshwari
4. Management Accounting, MadhuVij
5. Fundamentals of Management Accounting, H. V.Jhamb
6. Cost and Management Accounting, M. N. Arora
7. Financial Accounting for Managers, Sanjay Dhmija, Pearson Publications
8. Management Accounting, Mr. Anthony Atkinson, Robert Kaplan, Pearson
9. Accounting For Management, Jawarhar Lal
10. Accounting, Shukla Grewal
11. Management Accounting, Ravi Kishore
12. Accounting for Managers, Dearden and Bhattacharya
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ASSESSMENT: CONTINUOUS CONCURRENT EVALUATION

CCE 1: Online Test
CCE 2: Class Test
CCE 3: Learning Diary
CCE 4: Situation Analysis
CCE 5: Case Study
CO# Cognitive Abilities Course Outcomes Assessment

CO101.1 Remembering DESCRIBE the basic concepts related to CCE 1: Online Test
Accounting, Financial Statements, Cost
Accounting, Marginal Costing, Budgetary
Control and Standard Costing
CO101.2 Understanding EXPLAIN in detail, all the theoretical concepts CCE 2: Class Test
taught through the syllabus.
CO101.3 Applying PERFORM all the necessary calculations CCE 3: Learning Diary
through the relevant numerical problems.
CO101.4 Analyzing ANALYSE the situation and decide the key CCE 4: Situation Analysis
financial as well as non-financial elements
involved in the situation.
CO101.5 Evaluating EVALUATE the financial impact of the CCE 5: Case Study
decision.
CCE- CO Mapping
Managerial Accounting (101)

Course Semester:
Type: GC Credits: 3 1
ONLINE CLASS QUIZ SITUATION CASE
Course Cognitive
TEST TEST (GROUP ANALYSIS STUDY Total
Outcome Ability
(GROUP E) (GROUP A) D) (GROUP B) (GROUP B)
1 Remembering 30 30
2 Understanding 30 30
3 Applying 30 30
4 Analysing 30 30
5 Evaluating 30 30
30 30 30 30 30 150
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CO Attainment Level
Course Cognitive Attainment Level

Outcome Ability
3 2 1 0
24 or more 21 to 23.99 15 to 20.99 less than 15
1 Remembering 80% or more 70% - 79.99% 50% - 69.99% < 50%
2 Understanding 70% or more 60% - 69.99% 50% - 59.99% < 50%
3 Applying 70% or more 60% - 69.99% 50% - 59.99% < 50%
4 Analysing 65% or more 55% - 64.99% 50% - 54.99% < 50%
5 Evaluating 65% or more 55% - 64.99% 50% - 54.99% < 50%
O & A+ A B+ & B C, P & F
CO- PO Mapping:
Managerial Accounting (101)

Course Type: GC Credits: 3 Semester: 1
Course Outcome Remembering Understanding Applying Analysing Evaluating
Programme Outcome
Generic & Domain 3 3 3 3 3
Knowledge
Problem Solving & 2 0 2 0 0
Innovation
Critical Thinking 1 1 1 1 2
Effective 0 0 0 0 0
Communication
Leadership & Team 0 0 0 0 0
Work
Global Orientation & 0 0 0 2 2
Cross Cultural
Appreciation
Entreprenuership 0 0 0 0 0
Environment & 0 0 0 0 0
Sustainability
Social Responsiveness 0 0 0 0 0
& Ethics
Life Long Learning 3 2 2 2 1
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UNIT 1: BASIC CONCEPTS
Business Organization:
• A business organization is an individual or group of people that collaborate to

achieve certain commercial goals.
• Some business organizations are formed to earn income for owners. Other business
organizations, called nonprofits, are formed for public purposes.
Forms of Business Organizations:
1. Sole proprietorship:
A sole proprietorship, also known as the sole trader or simply a proprietorship, is a type
of business entity that is owned and run by one natural person and in which there is no
legal distinction between the owner and the business.
The owner is in direct control of all elements and is legally accountable for the finances of
such business and this may include debts, loans, loss etc.
The owner receives all profits (subject to taxation specific to the business) and has
unlimited responsibility for all losses and debts.
Every asset of the business is owned by the proprietor and all debts of the business are the
proprietors.
Characteristics:
1. Has direct control of all elements: Single person is the owner in this type of business. That
person is responsible for all the things relating to the business. He himself bears all the risk
and organize the whole business. On the closure of business he is personally liable for all
gains and losses.
2. Entitled to all profits and Losses: The sole proprietor alone is entitled to all the profits and
losses of the business. He bears the complete risk and there is nobody to share the profits
or losses.
3. Formation: A sole proprietorship can be set up easily and quickly. No legal formalities
and expenditure are involved in the establishment of a proprietorship.
4. Membership: It is formed by one person only, who is also the registered shareholder.
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5. Liability of the owner: The liability of the owner is unlimited i.e. if the business fails the
owner is responsible for all the debts of the business, even if he has to sell personal
properties to repay these debts.
6. Management and control: A business is under the control of one person i.e. the owner.
However, the owner employs managers and subordinates to assist him in day to day
activities of the business.
7. Sources of capital: i) Owners savings. ii) Bank borrowing in terms of loans. iii) Borrowing
from other individuals.
8. Dissolution of the business: A sole proprietorship business can be dissolved at the owner’s
will or by court order if it is found out that the business is engaged in the illegal practice.
Merits of Sole Proprietorship:
1. Easy formation: A sole proprietorship can be set up easily and quickly. No legal
formalities and expenditure are involved in the establishment of a proprietorship. There is
no need to associate others or to enter into any agreement. Only a license may be needed in
special cases. The proprietor can start business operations as and when he desires.
Similarly, a sole proprietorship can be closed down very easily and quickly.
2. Better Control: The sole proprietor enjoys complete freedom of action. No legal
formalities are to be complied with and there is no government interference in day-to-day
operations.
3. The sole beneficiary of profits: The proprietor alone is entitled to receive all the profits of
the business and he alone has to bear all losses. There is a direct relationship between
effort and reward.
4. Quick decisions: The sole proprietor is completely free to take decisions and to implement
them. He need not consult others or seek their approval. Quick decisions and prompt
actions help to improve the efficiency of business operations.
5. Inexpensive Management: The management of proprietorship is inexpensive, as the

proprietor himself is the manager, cost of management is very low. Borrowing capacity is
high due to the unlimited personal liability of the owner.
6. Flexibility: A sole proprietorship is small in size and has a simple management structure.
Therefore, it can be adapted easily to suit the changing conditions in the market. The line of
business can be easily changed or modified.
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Demerits of Sole Proprietorship:
1. Limited Resources: The financial resources of a proprietor are very limited. His funds are
not adequate enough to start large-scale operations.
2. Lack of Continuity: Sole proprietorship does not enjoy continuity of existence. It is depen-
dent on the life of the proprietor. The business may come to a standstill due to the illness,
insolvency and death of the proprietor. His successors may not be capable enough to carry
on the business successfully.
3. Unlimited Liability: The proprietor is personally liable for all the losses of the business.
Fear of loss of personal property due to the failure of business makes the proprietor very
cautious and conservative. As a result, the business may fail to grow and keep pace with
new developments in its particular field.
4. Not Suitable for Large Scale Operations: Due to limitations of capital and management,
proprietorship business cannot grow and expand to a large size. Its goodwill and
bargaining position are also weak. Therefore, the sole proprietorship is suitable only for
small and simple businesses.
5. Limited Managerial Expertise: The managerial ability of the proprietor is limited. All the
qualities such a judgment, wisdom, etc. required for success in business are rarely found in
one person the proprietor is overburdened with too many tasks. He may commit errors of
judgment and his decisions may be hasty. A sole proprietorship cannot afford to employ
professional experts. As a result, the benefits of the division of labor are not available.
2. Partnership Firm
‘Partnership’ is an association of two or more persons who pool their financial and
managerial resources and agree to carry on a business, and share its profit.
The persons who form a partnership are individually known as partners and collectively a
firm or partnership firm.
Characteristics:
1. Two or More Persons: As against proprietorship, there should be at least two persons
subject to a maximum of ten persons for banking business and twenty for non-banking
business to form a partnership firm.
2. Contractual Relationship: Partnership is formed by an agreement-oral or written-among

the partners.
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3. Sharing Profits and Business: There is an agreement among the partners to share the
profits earned and losses incurred in partnership business.
4. Existence of Lawful Business: Partnership is formed to carry on some lawful business and
share its profits or losses. If the purpose is to carry some charitable works, for example, it is
not regarded as a partnership.
5. Principal-Agent Relationship: The partnership firm may be carried on by all partners or

any of them acting for all. While dealing with the firm’s transactions, each partner is
entitled to represent the firm and other partners. In this way, a partner is an agent of the
firm and of the other partners.
6. Unlimited Liability: Like proprietorship, each partner has unlimited liability in the firm.
This means that if the assets of the partnership firm fall short to meet the firm’s obligations,
the partners’ private assets will also be used for the purpose.
7. Voluntary Registration: Registration of partnership firm is not compulsory
8. Restriction on transferability of share: No partner can transfer his share to any outside
person without seeking the consent of all other partners.
Types of Partnership:
• Partnership at-will: Such a partnership exists on the will of the partners. That is, it
can be brought to an end whenever any partner gives notice of his intention to do
so.
• Particular partnership: A particular partnership is formed for undertaking a

particular venture. It comes to an end automatically with the completion of the
venture.
• Partnership for a fixed duration: Such partnership is for a fixed period of time say 2
years, 5 years or any other duration.
Merits of Partnership Firm:
1. Ease in formation: Partnership is a contractual agreement between the partners to run an

enterprise. Hence, it relatively eases to form. Legal formalities associated with formation
are minimal. Though, the registration of a partnership is desirable, but not obligatory.
2. The pooling of financial resources: Many partners invest capitals and there is higher
flexibility in the capital because a new partner can be agreed to be associated and investing
can be increased.
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3. The pooling of managerial skills: Many partners use their own ideas and innovation
capacity. So there is unlimited managerial ability. As there are more than one owners in
partnership, all the partners are involved in decision making. Usually, partners are pooled
from different specialized areas to complement each other. Thus, the old maxim of “two
heads being better than one” aptly applies to the partnership.
4. Balanced business decisions: In partnership, decisions are taken with the consultation of
all the partners. So naturally the decisions are wiser and more beneficial.
5. Sharing of risks: the losses of the firm are shared by all the partners as per their agreed
profit-sharing ratios. Thus, the share of loss in the case of each partner will be less than that
in case of proprietorship.
6. Benefits of Specialization: Division of labor can be introduced which increases the

efficiency in the management. One partner may take care of purchases, another sale, a third
accounts and so on. There is specialization in decision making. So there can be fewer
chances of taking wrong decisions
7.Secrecy:In partnership it is
not compulsory to publish the accounts. So, the business secrecy remains
within partners. This factor is very helpful for the successful operation of the business.
Demerits of Partnership Firm:
1. Unlimited Liability: The liability of the partners is joint, several and unlimited. It means
partners will be held responsible to pay off debts and obligations of the firm even out of
their private estate.
2. Instability: A partnership firm lacks stability. The life of partnership is affected by events
like retirement, death and insolvency of the partners. Death or withdrawal of one partner
causes the partnership to come to an end. So, there remains uncertainty in the continuity of
partnership.
3. Limited Capital: There is low investment, may be higher than in sole trading but not
sufficient for large scale production resulting in limited areas of operation.
No doubt, in partnership, capital, is greater as compared to a sole proprietorship, but it is
small as compared to Joint Stock Company. So, a business cannot be expanded on
a large scale.
4. Non-transferability of share: Partners cannot transfer their share without the consent of
other partners. There may be conflict when done otherwise.
5. Possibility of Conflicts: Differences and disputes among the partners are very common.
These conflicts harm the firm as a whole. Many persons are the owners of a partnership
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firm. There can be misunderstanding and jealousy among them and these cause problems
in the operation of business and profit-making
6. Difficulties of expansion: As financial resources of a

partnership are limited as compared to Joint Stock Company, so it is
not possible to engage the services of higher technical and qualified persons. This causes th
e failure of a business, sooner or later.
7. Lack of institutional confidence: As there is

no need by law to publish accounts in partnership, so people lose confidence and
avoid dealing and entering into a contract with such firm
8. Risks of implied authority: Each partner is an agent for the partnership business. Hence,
the decisions made by him bind all the partners. At times, an incompetent partner may lend
the firm into difficulties by taking wrong decisions. The risk involved in decisions taken by
one partner is to be borne by other partners also. Choosing a business partner is, therefore,
much like choosing a marriage mate life partner.
3. Joint Hindu Family Business
• The Joint Hindu Family (JHF) business is a form of business organization found only
in India. In this form of business, all the members of a Hindu undivided family own
the business jointly. The affairs of the business are managed by the head of the
family, who is known as the “KARTA”.
• A Joint Hindu Family business comes into existence as per the Hindu Inheritance
Laws of India. In a joint Hindu family business only the male members get a share in
the business by virtue of their being part of the family. The membership is limited
up to three successive generations. Thus, an individual, his sons(s), and his
grandson(s) become the members of a Joint Hindu Family by birth. They are also
called “Co-parceners”.
• The term co-parceners implies that such an individual has got the right to ask for a
partition of the Joint Hindu Family business and to have his separate share. A
daughter has no right to ask for a partition and is, therefore, not a co-parcener.
Characteristics:
1. Legal Status: The business of the Joint Hindu Family is controlled and managed under
Hindu law.
2. Membership: The membership of the family can be acquired only by birth. As soon as a
male child is born in the family, he becomes a member. Membership requires no consent or
agreement.
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3. Management: All the affairs of a Joint Hindu Family are controlled and managed by one
person who is known as ‘Karta’ or ‘Manager’. The Karta is the senior-most male member of
the family. He works in consultation with other members of the family but ultimately he
has a final say. The members of the family have full faith and confidence in Karta. Only
Karta is entitled to deal with outsiders. But other members can deal with outsiders only
with the permission of Karta.
4. Liability: The liability of each member of the Joint Hindu Family business is limited to the
extent of his share in the business. But the liability of the Karta is unlimited as, it extends to
his personal property.
5. Fluctuating Share: The individual share of each co-parcener keeps on fluctuating. This is
because, every birth of a male child in the family adds to the number of co-parceners and
every death of a co-parcener reduces the number.
6. Continuity: A Joint Hindu Family business continues to exist on the death of any co-
parcener.
7. Implied Authority of Karta: In a joint family firm, only Karta has the implied authority to
contract debts and pledge the credit and property of the firm for the ordinary purpose of
the businesses of the firm.
8. Sharing of Profits and Losses: According to the Hindu Succession Act, 1956, all the
members of Hindu Undivided Family have equal rights to share the profits as well as losses
of the business.
Merits of Joint Hindu Family Business:
1. Prompt Decision: The Karta is the only person who exercises control and direction over
the business. He may not consult anyone in taking decisions. This ensures prompt or quick
decisions. Being the sole master, he takes prompt decisions and takes advantage of the
opportunity.
2. Freedom in managing: The management of Joint Hindu Family Business is centralized in

the hands of Karta of family. In this business, Karta takes all decisions and gets them
implemented with the help of other members. No other member interferes in his
management.
3. Sharing of knowledge and experience: A Joint Hindu Family business is generally run by a
senior member of the family called as Karta or the Manager, and he had the full authority to
conduct the business activities and business operations.
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4. Unlimited liability of the Karta: The liability of Karta is unlimited because he is the only
deciding authority whereas the liability of co-parceners is limited up to their share in the
capital of the family.
5. Continued existence: This organization enjoys a long and stable life as it is not affected
due to death, insolvency, the insanity of any of its member. In other words, if Karta dies or
becomes incapable of managing the business then the succeeding co-parceners will act as
Karta.
6. Secrecy: In Joint Hindu Family Business, all the decisions are taken by the ‘Karta’ himself.
He is in a position to keep all the affairs to himself and maintains perfect secrecy in all
matters.
Demerits of Joint Hindu Family Business:
1. Limited resources: The capital is limited only up to the resources of one family. This is not
sufficient to meet the business requirements for expansion. Thus the size of the business
remains small. The Karta cannot take advantage of economies of large size due to limited
finance.
2. Lack of motivation: All the members of the family are entitled to equal share whether
they put in work or not. There is no relation between efforts and rewards. Hence, there is
less motivation to put in more effort.
3. Misuse of power by Karta: The management of a Joint Hindu Family Business is

centralized in the hands of Karta of the family. No other member can interfere in his
management. This may lead to the misuse of power and the Karta may use the power for
his personal interest.
4. Instability: The continuity and stability of the firm depend upon good relations among
the family member’s but in practice it is not possible. Therefore there may be results in the
discontinuation of the firm. However in many cases there is continuity of business.
5. No entry for non-family members: Only family members can get entry into the business.
Outsiders are not allowed to interfere in the family business. So there is less scope for
increasing the capital of family members.
6. No legal status: Like Sole trading concern, the Joint Hindu family business lacks legal
status. The registration of this type of business is not compulsory. The members and the
firm do not have a separate entity.
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4. Company:
• It is a voluntary association of persons to carry on a business that has a separate

legal status and is subject to certain legal regulations.
• It is an association of persons who generally contribute money for some common

purpose. The money so contributed is the capital of the company. The persons who
contribute capital are its members.
• The proportion of capital to which each member is entitled is called his share,
therefore members of a company are known as shareholders and the capital of the
company is known as share capital.
• The total share capital is divided into a number of units known as ‘shares’. The
companies are governed by the Indian Companies Act, 1956. The Act defines a
company as an artificial person created by law, having a separate entity, with
perpetual succession and a common seal.
Characteristics:
1. Artificial person: A company is an artificial person which is created by the law. It has no
physical shape as a natural person but has almost all the rights of a natural person. It can
sue others and can be sued.
2. Separate legal entity: A company is an artificial company so it has its own separate legal
entity from its members. It can own assets, property, enter into contracts, sue or can be
sued by anyone in the court by the law. Its shareholders cannot be held liable for any
conduct of the company.
3. Common seal: A company is an artificial person. So, it cannot sign any contract in its
name. Therefore, all the documents and contract papers require the affixing of the seal. Any
documents with the common seal are only taken into consideration.
4. Perpetual existence: A company is established by the law and the law brings it to an end.
So, many shareholders may transfer their share and the new person may come in their
place but it does not affect the existence of the company.
5. Limited liability: The liability of the shareholder is limited to the extent of the value of
shares held or the amount guaranteed by them. If the company is unable to pay to the
creditors then the shareholder won't pay anything more than what is to be paid to the
company.
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6. Transferability of shares: The shares of the joint-stock company can be transferable from
one person to another without prior permission of the company management. They are
free to transfer their shares.
7. Membership: In case of private company minimum members should be two and

maximum fifty. While in a public company minimum member should be seven but there is
no restriction on the maximum members.
8. Management: The shareholder select the Board of Directors in the annual general
meeting. So all the management is conducted by the Board of Directors. Shareholders are
not allowed to participate directly in the management. The important decisions are taken
by following the principles of democracy in the annual general meeting and the board of
director meeting.
9. Capital: A joint-stock company divides its capital into a large number of parts with each
value where each part of capital is called share. These shares are purchased by the general
public as well as the promoters to be the shareholders of the company.
10. Publication of financial statements: A joint-stock company should publish the audited
financial statements yearly in a renowned national newspaper. These statement helps to
provide information to the general public and other stakeholders.
Merits of Company:
1. Limited liability: Limited liability is the significance of the Joint Stock Company. The
shareholders should not pay the excess debt of the company by selling their
private/personal property. Shareholders are liable up to the invested amount. Due to the
provision of limited liability potential investors are attracted towards a joint-stock
company.
2. Continuity of existence: The life of a joint-stock company is not affected by death, lunacy,
and insolvency of the members. Therefore, a joint-stock company has a long term life. Even
if there are any changes in management, the board of directors or some member may come
or go, the function of the company is not affected.
3. Benefits of large scale operations: Joint Stock Company has an association of different
managerial skill because different members are associated with it. Due to the sufficient
capital and competency of the members (directors) joint-stock company has the possibility
of large scale operation. Hence, a joint-stock company has a large-scale operation.
4. Professional management: Due to its large financial resources and continuity, a company
can avail of the services of expert professional managers. Employment of professional
managers having managerial skills and little financial stake results in higher efficiency and
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more adventurous management benefits of specialization and bold management can be

secured.
5. Social benefit: Company form of organizations has helped increase productivity and
improves the living standards of people. It has generated employment for a large number
of persons. It has improved the quality of goods and reduced prices. Company organization
has contributed tax revenues for the Government and has helped the growth of profes-
sional management. In this way the joint-stock company has helped to improve the quality
of life all over the world.
6. Transfer of shares: Joint Stock Company has the provision of free transfer of shares. No
one is compelled to join and leave the company. Permission or mutual consent is not
needed to transfer the shares of a joint-stock company.
7. Large financial resources: Company form of ownership enables the collection of huge
financial resources. The capital of a company is divided into shares of small denominations
so that people with small means can also buy them. Benefits of limited liability and
transferability of shares attract investors. Different types of securities may be issued to
attract various types of investors. There is no limit on the number of members in a public
company.
Demerits of Company:
1. Difficult legal formalities: It is difficult to establish and run. It has to follow difficult legal
formalities in comparison to sole trading and a partnership firm. It is rigidly observed by
rules, regulations or laws of the government because it collects capital from the general
public.
2. Lack of secrecy: A Joint-stock company has an obligation to disclose the accounts to an

insider as well as an outsider. The planned policies and strategies of the joint-stock
company are transparent because they are discussed in the Annual General Meeting. The
company has to publish its statements of financial affairs every year.
3. Delay in decision making: Sometimes a business organization has to take the quick
decision but the quick decision is not possible in a joint-stock company. The major decision
of the company must be passed from the Annual General Meeting. So, a long time is
required to pass the decision. Thus, business delays grabbing the opportunities of an
external environment.
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4. Speculation of share: There is the possibility of speculation of share in a joint-stock

company. Some shareholders have an inside approach with directors. Those shareholders
can take undue advantage when they misuse the inside approach with directors.
5. Management of oligarchy: Management oligarchy means the rule of the minority. The
shareholders elect few directors in the annual general meeting. Those few directors
rule/control over the activities of a large number of shareholders. This is known as an
oligarchy.
6. Conflict of interest: Different parties are involved in a joint-stock company. They are
shareholders, creditors/bankers, and employees. Different parties have different interest. If
the interest of one party is addressed, it negatively impacts the interest of others.
Therefore, a joint-stock company has demerits of conflict of interest.
7. Neglect the minority: Joint Stock Company gives priority to majority shareholders.
Minority shareholders are neglected in the Annual General Meeting and election. Only the
majority of shareholders are given priority to take the decision of the joint-stock company.
Minority shareholders are boycotted to run productive business activities.
8. Groupism: Unhealthy groupism can be seen in the joint-stock company in the period of
the election. Constructive groupism is fruitful but destructive groupism is harmful to the
company. Unhealthy groupism leads to the failure of the company. So, a joint-stock
company should be able to minimize unhealthy groupism.
ACCOUNTING:
Accounting is defined as “the art of recording, classifying and summarizing in terms of

money, transactions and events of a financial character and interpreting the results
thereof.”
Accounting covers the following activities:
• Identifying the transactions and events of a specific entity

• Measuring the identified transactions and events
• Recording
• Classifying
• Summarising
• Analyzing
• Interpreting
• Communicating
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Importance of Accounting:
1. Helps in evaluating the performance of the business – The accounting records

reflect the results of operations as well as the statement of financial position. Also,
various balance sheet and profit & loss accounts ratios are calculated which help
user of financial statements to analyze the performance of an entity. For example
debt-equity ratio, Current ratio, Turnover ratio etc. Also, we can compare previous
period accounting data with the current period as well as budgeted figures for
variance analysis.
2. Helps to manage and monitor cash flow – The working capital and cash requirement
of an enterprise can be duly taken care by the proper accounting system.
3. Helps business to be statutory compliant – Proper business accounting ensures
timely recording our liabilities which needs to be paid within the prescribed
timeline. This includes provident fund, pension fund, VAT, sales tax, Income tax.
Timely payment of liabilities helps enterprises to be statutory compliant.
4. Helps to create a budget and future projections – Accounting data helps an
enterprise to prepare budget and forecast for a future period. Business trends are
projected based on past data produced by the accounting system.
5. Helps in filing financial statements with regulators, stock exchanges and filing of tax
returns – Enterprises are required to file the financial statements with ROC. In case
of listed entities the same is required to be filed with stock exchanges as well. For
both indirect and direct tax filing purposes, financial statements and other financial
information are required.
6. Facilitate rational Decision Making- Any economic or any decision regarding the
business organization is made depending on the financial statement of the
organization. A financial statement is as a result of accounting. Without proper
accounting in a business organization, the executives can't make a sounding
decision since they will be operating in blindness hence making it impossible to
achieve organization objectives.
7. Information to Investors- Financial statements and accounts are used to represent
the organization to the stakeholders such as debtors, creditors, government, and
investors, customers and employees. Many investors will run away from your
organization if you lack financial records and accounts to presents so as they can
know the business progress
8. Other information – The accounting system provides a number of qualitative and
quantitative customized reports which are required in day to day business activities.
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Capital and Revenue Expenditure:
BASIS FOR CAPITAL EXPENDITURE REVENUE EXPENDITURE

COMPARISON
Meaning The expenditure incurred in Expenses incurred in regulating day
acquiring a capital asset or to day activities of the business.
improving the capacity of an
existing one, resulting in the
extension in its life years.
Term Long Term Short Term
Capitalization Yes No
Shown in Income Statement & Balance Income Statement
Sheet
Outlay Non-recurring Recurring
Benefit More than one year Only in the current accounting year
Earning Seeks to improve earning Maintain earning capacity
capacity capacity
Matching Not matched with capital Matched with revenue receipts
concept receipts
Capital and Revenue Receipts:
20
End-users of accounting information:
Internal Users:
Management: for analyzing the organization's performance and position and taking
appropriate measures to improve the company results.
Employees: for assessing a company's profitability and its consequence on their future
remuneration and job security.
Owners: for analyzing the viability and profitability of their investment and determining
any future course of action.
External Users:
Creditors: for determining the creditworthiness of the organization. Terms of credit are set
by creditors according to the assessment of their customers' financial health. Creditors
include suppliers as well as lenders of finance such as banks.
Tax Authorities: for determining the credibility of the tax returns filed on behalf of the
company.
Investors: for analyzing the feasibility of investing in the company. Investors want to make
sure they can earn a reasonable return on their investment before they commit any
financial resources to the company.
Customers: for assessing the financial position of its suppliers which is necessary for them
to maintain a stable source of supply in the long term.
Regulatory Authorities: for ensuring that the company's disclosure of accounting

information is in accordance with the rules and regulations set in order to protect the
interests of the stakeholders who rely on such information informing their decisions.
Research Scholars: Accounting information, being a mirror of the financial performance of a

business organization, is of immense value to the research scholar who wants to make a
study into the financial operations of a particular firm. To make a study into the financial
operations of a particular firm the research scholar needs detailed accounting information
relating to purchases, sales, expenses, cost of materials used, current assets, current
liabilities, fixed assets, long-term liabilities and shareholders’ funds which is available in
the accounting records maintained by the firm.
Financial Institutions: Bank and financial institutions that provide loan to the business are
interested to know credit-worthiness of the business. The groups, who lend money need
21
accounting information to analyses a company’s profitability, liquidity and financial

position before making a loan to the company. Further, they keep a constant watch on the
operating results and financial position of the business through accounting data.
Accounting Concepts & Conventions:
Accounting concepts:
1. Separate Entity Concept

2. Dual aspect concept
3. Money measurement concept
4. Going concern concept
5. Cost concept
6. Matching concept
7. Accounting period concept
8. Realization concept
9. Accrual concept
10. Verifiable & evidence concept
1. Separate Entity Concept: This concept is also called the business entity concept which
says that business is regarded as separate & distinct from the owner. The business has its
own entity & therefore its affairs are to be distinguished from the affairs of anybody else
even the owners. Even the proprietor is considered as a creditor to the business & hence
his capital is shown as liability in the balance sheet. In the absence of this concept, affairs of
the firm will be mixed up with the private affairs of the proprietor & true picture of the firm
will not be available
Example: If the proprietor draws some goods from the business for personal use, it is not
treated as a sale but the value of those goods consumed is debited to drawings account and
reduced from his capital account.
2. Dual aspect concept: This concept is the foundation on which whole accounting is based
and it says that all business transactions are regarded as having a dual effect. In other
words one account is debited while the other account is created with an equal amount i.e.
every debit has a corresponding credit. Hence, in accounting terms, assets are equal to
liabilities & capital.
Example: Sold goods of Rs. 10,000/-. Here the two aspects are goods are going out & cash is
coming in.
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3. Money measurement concept: All transactions are recorded in terms of money. Money has
to act as not only as a medium of exchange but as a mean of indicating the value of the
commodity. Transactions which cannot be expressed in terms of money fall beyond the
scope of accounting. This concept makes accounting information more meaningful and
useful for the analysis of financial statements.
Example: Business unit has 4 acres of land; 2000kgs of material will not give a clear idea
about its assets. The real meaning will follow only when all are measured in common unit
which is money.
4. Going concern concept: This concept indicates that accounting is made on the assumption
that a business will continue in the future and will use its assets in operations rather than
selling them. It assumes that business will continue to operate in future & that it has no
intention of liquidation or of curtailing materially the scale of operations.
Example: Machinery is purchased assuming that it will benefit over a long period and the
business will not be liquidated sooner
5. Cost concept: It implies that the resources of a business are to be recorded at their cost.
The market price, realizable value etc should not be considered which recording the
transactions in books. The transactions will be recorded at the amounts actually paid.
Example: Purchased a plot for Rs. 80,000/-, the market price of which is Rs. 84,000/- will
be recorded at Rs. 80,000/- only.
6. Matching concept: It indicates a close relationship between costs & revenue. To ascertain
profit made or loss incurred by the business, it is necessary that the revenues of the period
should match the costs (expenses) of the period.
Example: If goods are purchased at Rs. 4,000/-. The cash balance of business will be
reduced & assets will increase.
7. Accounting period concept: The term periodicity refers to segmentation of the existence
of an organization into a time period called the accounting period. A period, usually of
twelve months is selected to find out profit or loss of the business & ascertain the financial
position of the business. Acceptance of this concept necessitates the closing of the book of
accounts and hence requires the following assumptions:
a. Accounts should be maintained on an accrual basis

b. Unpaid income & expenses related to the accounting year should be accounted for.
Example: 1st April to 31st of March is the general accounting year.
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8. Realization concept: According to this concept, the profit on the sale is regarded as
earned at the time when the goods & services are passed on to the purchaser. No profit is
considered to have been earned until it is either realized in cash or the other party involved
is legally liable to pay the amount for the sale of goods. This concept does not only mean
the receipt of income in cash but income is said to be realized as a right to receive the
income is created.
Example: Credit sales of Rs. 50,000/- to Ramrao. Here the seller creates a legal right to
receive the income.
9. Accrual concept: In this concept the revenue is reckoned (count) to the period in which it
was realized rather than received & cost is applied to the period benefiting from the
services rather than when paid. In other words outstanding or prepaid expenses & incomes
relating to that period are considered in this concept.
Example: Salary for the month of January 2014 will be considered as outstanding in that
month if not paid.
10. Verifiable & evidence concept: This concept says that all accounting transactions should
easily be verifiable and should generally be based on objective evidence free from any bias.
All transactions should be supported by business documents such as invoices, bank
statements, vouchers, etc
Accounting Conventions:
1. Convention of conservatism: It says that “Anticipate no profit and provide for all possible
losses”. This indicates that, provide for all probable losses and expenses but do not credit
any probable future profit. On this basis, the closing stock is valued at cost or market price
whichever is lower; provision in accounts is made for all losses though not yet suffered e.g.
RDD. This concept thus presents the accounting information correctly & avoids
unwarranted optimism in preparing final accounts.
The following are the conservative practices adopted in accountancy:
a. Fixed assets are shown at cost minus depreciation

b. Current assets are shown at cost or market price whichever is lower
c. Not providing for a discount on creditors
d. Providing for doubtful debts & discount on debtors, etc
2. Convention of consistency: Accounting policies, methods, rules & practices should remain
unchanged from one year to another. Then only the results of a business concern can be
compared from one year to another. Consistency has to be followed in particular in respect
of the calculation of depreciation, valuation of material, treatment of revenue & capital
24
expenditure, etc. A change in these methods will mean change in the amount of expenditure
or income & the value of the asset. Once a method or a policy is adopted it should be
consistently followed.
3. Convention of Full disclosure: All material facts should be disclosed in the final accounts.
The companies act has made several provisions for disclosure of essential information, the
object of which is to make the financial statements more useful & to give less scope for
misinterpretation. Even the significant events occurring after the end of the accounting
year but before preparation of the balance sheet are to be disclosed. This will help the
readers of financial statements to understand the performance of business correctly. Full
disclosure includes the change in methods or policies adopted.
4. Convention of materiality: Materiality means the relative importance & is related to the
convention of the disclosure. Disclosure is necessary for financial accounts only for
material facts. Materiality depends not only on the size of the amount spent but also on its
nature.
The Accounting Equation:
• The resources controlled by a business are referred to as its assets. For a new
business, those assets originate from two possible sources:
• Investors who buy ownership in the business
• Creditors who extend loans to the business
• Assets (Resources) = Liabilities + Owners Equity (Claims on the resources)
JOURNAL:
• Journal is a book of original entry in which business transactions are initially

recorded in chronological order. It records all daily transactions of the business in
the order in which they occur
• The record of business transactions in the journal is known as “Journal Entry” & the
process is known as “Journalizing.”
• A journal entry is an analysis of the effects of the transaction on the accounts,

usually accompanied by an explanation(narration)
Format:
Date Particulars L.F. Debit (Rs.) Credit (Rs.)
25
Date: Date on which transaction has been recorded

Particulars: Two aspects of the transaction i.e. the two accounts being affected
L.F.: Ledger Folio means page no. in the ledger where the same transaction is recorded.
Debit: Amount to be debited
Credit: Amount to be credited.
LEDGER:
• A ledger is the principal book or computer file for recording and totaling monetary
transactions by account, with debits and credits in separate columns and a
beginning balance and ending balance for each account.
• The ledger is a permanent summary of all amounts entered in supporting journals

which list individual transactions by date. Every transaction flows from a journal to
one or more ledgers.
• Ledgers include:
• Sales ledger, records accounts receivable. This ledger consists of the financial
transactions made by customers to the company.
• Purchase ledger records money spent for purchasing by the company.
• For every debit recorded in a ledger, there must be a corresponding credit so that
the debits equal the credits in the grand totals.
Format:
Date Particulars J.F. Amount Date Particulars J.F. Amount
TRIAL BALANCE:
• If you recollect the steps in the accounting procedure you find that at first the
transactions are entered in the Journal. From this books items are posted in the
ledger in their respective accounts. Finally, at the end of the accounting year these
accounts are balanced.
• To check the accuracy of posting in the ledger a statement is prepared with two
columns i.e. debit column and credit column which contain debit balances of
accounts and credit balances of accounts respectively.
26
• Total of the two columns are if equal, it means the ledger posting is arithmetically
correct. This statement is called Trial Balance.
• Trial Balance may be defined as a statement which contains balances of all ledger
accounts on a particular date.
• Trial Balance consists of a debit column with all debit balances of accounts and
credit column with all credit balances of accounts. The totals of these columns if
tally it is presumed that ledger has been maintained correctly.
• It helps:
 To check the arithmetical accuracy
 To help in preparing Financial Statements
 Helps in locating errors
 Helps in comparison
Format:
Particulars Debit (Rs.) Credit (Rs.)
27
UNIT 2: FINANCIAL STATEMENTS
Meaning of Financial Statements: A financial statement is a collection of data organized

according to logical and consistent accounting procedures. Its purpose is to convey an
understanding of some financial aspects of a business firm.
“The financial statements provide a summary of the accounts of a business enterprise, the
balance sheet reflecting the assets, liabilities and capital as on a certain date and the
income statement showing the results of operations during a certain period.” Thus, the
term ‘financial statements’ generally refer to two statements:
(i) The position statement or the balance sheet; an
(ii) The income statement or the profit and loss account.
Importance of Financial Statements:
1. Importance of the Balance Sheet: The balance sheet shows the financial position of the
company and provides detailed investments of the companies asset investments. The
balance sheet also contains the companies debt and equity levels. This capital mix helps
investors and creditors understand the position and companies performance.
2. Importance of Income Statement: Income statement format contains sales, expenses,

losses, and profit. Using these statements can help investors evaluate the companies past
performance and determine the future cash flows.
3. Importance of Cash Flow Statement: Cash flow statement shows the inflow and the
outflow of the cash flow in and out of the business during the financial period. This gives
the investors an idea if the company has enough funds to pay for its expenses and
purchases.
4. To the Management: The complexities and the size of the business make it necessary for
the management to have up to date, accurate and detailed information of the business and
the financial position. The financial position helps the management in understanding the
performance of the company in comparison to the other businesses and the sector.
Providing management with accurate information enables them to form accurate policies
for the companies and take correct decisions
5. To the Shareholders: Shareholders are the owners of the business but do not take part in
making decisions and day to day activities. However, these results are shared to the
shareholders at the AGM meetings held annually. These statements enable the
28
shareholders to understand how the company has been performing. It also enables them to
judge the present and future performance. Financial statements are the most important
source of information for current and prospective customers. They also need it to
understand the dividend payout ratio and forecast the future dividends
6. To the Creditors and the Lenders: Factors like liquidity, debt, profitability are all judged
by the important metrics in the financial statements. Creditors and Lenders are most
concerned about the companies debt position. If the debt level is higher than the other
companies in the same industry it means that the company is over-leveraged. Analyzing
these statements will help them decide if they want to continue and decide the future
course of action
7. To the Employees: There are companies which present a different financial statement for
its employees. Employees need business information for mainly two reasons their current
wage and future salary appraisals. They will be interested in knowing the current condition
as well as the future earnings
8. To the Government: This is another importance of the financial statements is that the
government uses financial statements for taxation purpose. The government uses the
business performance of these companies in various sectors to asses the economies
performance
9. To the Company: Financial Statements helps the company in debt management, trend
analysis, tracking, liability management and compliance.
Type of accounts:
Classification of Accounts:
Personal Account Impersonal Account
Natural Artificial Representative Real Nominal
Tangible Intangible Expense Incomes

s& & Gains
Losses
29
Personal Account:
Natural persons: Real person. E.g.: Ramesh A/c

Artificial persons: Corporate bodies which have legal existence. E.g. Firms A/c, Company
A/c
Representative persons: Outstanding or Accrued expenses & incomes.
• RULES:
 Debit the Receiver of the benefit
 Credit the Giver of benefit.
Real Account:
Tangible real account: Which are in physical form, can be touched, felt & measured. E.g.
Building A/c, Cash A/c
Intangible real account: Have no physical existence, cannot be touched or measured. E.g.
Goodwill A/c, Patents A/c.
• RULES:
 Debit what comes in.

 Credit what goes out.
Nominal Account:
The account of all expenses, losses, income, gains are nominal account. E.g. Rent, Salary,
Rates, Lightening, Insurance, commission, interest, etc.
• RULES:
 Debit all Expenses & Losses

 Credit all Incomes & Gains.
30
Proforma of TRADING ACCOUNT for the year ended 31st March, 20XX
Particulars Amount Amount Particulars Amount Amount

To Opening Stock XXXX By Sales XXXX
To Purchases XXXX Less: Returns XXXX XXXX
inwards/ Sales return
Less: Returns outwards/ XXXX XXXX By Closing Stock XXXX
Purchase Return
To Freight XXXX By Gross Loss c/d XXXX
(Balancing Figure)
To Carriage/ Cartage Inward XXXX
To Customs Duty XXXX
To Wages XXXX
Add: Outstanding XXXX
Less: Prepaid XXXX XXXX
To Factory Expenses XXXX
To Direct Expenses XXXX
To Gas, Water & Fuel XXXX
To Royalty on Production XXXX
To Import Duty XXXX
To Gross Profit c/d XXXX
(Balancing Figure)
TOTAL XXXX TOTAL XXXX
31
Proforma of PROFIT AND LOSS ACCOUNT for the year ended 31st March, 20XX
Particulars Amount Amount Particulars Amount Amount

To Gross Loss b/d XXXX By Gross Profit b/d XXXX
To Salaries By Commission Earned XXXX
Add: Outstanding XXXX By Discount Received XXXX
Less: Prepaid XXXX XXXX By Interest Received XXXX
To Office and Administrative XXXX By Gain on Sale of XXXX
Expenses Fixed Assets
To Rent, Rates & Taxes XXXX By Dividend Received XXXX
To Lighting XXXX By Insurance Claims XXXX
To Legal Charges XXXX By Rent Received XXXX
To Postage & Printing XXXX By Tax refund XXXX
To Insurance XXXX By Discount on XXXX
Creditors
To Audit Fees XXXX By Bad Debts XXXX
Recovered
To Carriage Outward XXXX By Net Loss XXXX
(Transferred to capital
account)
To Advertisement Expenses XXXX
To Commission/ Brokerage XXXX
To Bad Debts XXXX
Less: Provision for Bad XXXX XXXX
debts
To Interest on loans XXXX
To Bank Charges XXXX
To Legal Charges XXXX
To Discounts and Rebate XXXX
To Repairs & Renewals XXXX
To Depreciation XXXX
To Loss by Fire XXXX
To Miscellaneous/ General XXXX
Expenses
To Travelling Expenses XXXX
To Entertainment Expenses XXXX
To Net Profit (Transferred to XXXX
capital account)
32
Proforma of BALANCE SHEET as on 31st March, 20XX
Liabilities Amount Amount Assets Amount Amount

Capital Account XXXX Land & Buildings XXXX
Less: Drawings XXXX Add: Purchase XXXX
Add: Interest XXXX Less: Depreciation XXXX XXXX
Add: Net Profit XXXX
Less: Net Loss XXXX XXXX Plant & Machinery
Reserves & Surplus XXXX Furniture & fittings
Loans & Advances XXXX Business Premises
Add: Interest XXXX XXXX Vehicle
Bills Payable XXXX
Sundry Creditors XXXX Cash at Bank
Bank Overdraft XXXX Cash in Hand
Outstanding Expenses XXXX Bills Receivable
Debtors XXXX
Less: Bad Debts XXXX
Less: Provision XXXX XXXX
Closing Stock XXXX
Investments
Goodwill
Patents
Copy Rights
Trade Marks
Government Securities
33
Confusing Items:
1. Returns: If the amount is given on the debit side of trial balance the amount is to be
deducted from Sales. If the amount is given on the credit side of trial balance the
amount is to be deducted from Purchases.
2. Discount/ Commission/ Rent/ Interest/ Premium: If the amount is given on the
debit side of trial balance the amount is to be recorded on the debit side of P & L a/c.
If the amount is given on the credit side of trial balance the amount is to be recorded
on the credit side of P & L a/c.
3. Carriage/ Freight: If it is not specified that is carriage is inward or outward, record
it in trading & write a note stating the same.
4. Wages & Salaries: Will be recorded in Trading Account
5. Salaries & Wages: Will be recorded in P & L a/c
6. Outstanding Expense: If given in trial balance record it on the Liability side
7. Prepaid Expense: If given in the trial balance record it on the asset side
8. If only trade expenses is given- P & L a/c Debit side
If only general expenses is given- P & L a/c Debit side
If both are given trade expenses will be recorded in trading a/c debit side and
general expenses will be recorded in P& L a/c debit side.
34
Adjustments:
Items of Treatment in Trading Treatment in Profit & Loss Treatment in Balance Sheet
Adjustment A/c A/c
Closing Stock Shown on the Credit side Shown on the assets side
Outstanding/ Added to the respective Added to the respective Shown on the Liabilities
Accrued direct expense on the direct expense on the side
Expenses debit side debit side
Prepaid Deducted from the Deducted from the Shown on the assets side
Expenses/ respective direct expense respective direct expense
unexpired on the debit side on the debit side
expenses
Accrued Added to the respective Added to the respective Shown on the assets side
Income/ direct income on the direct income on the credit
outstanding credit side side
income
Income Deducted from the Deducted from the Shown on the Liabilities
received in respective direct income respective direct income side
advance/ on the credit side on the credit side
Prepaid income
Depreciation Shown on the debit side Shown on the assets side by
way of deduction from the
value of the respective fixed
asset.
Additional Bad- Shown on the debit side Shown on the assets side by
Debts way of deduction from the
amount of debtors.
Provision for Shown on the debit side Shown on the assets side by
Doubtful Debts way of deduction from the
amount of debtors.
Provision for Shown on the debit side Shown on the assets side by
Discount on way of deduction from the
Debtors amount of debtors.
Interest on Shown on the debit side Shown on Liability side by
Capital way of addition in Capital
Interest on Shown on the credit side Shown on Liability side by
Drawings way of addition in Drawings
Goods Shown on the credit side Shown on the debit side
distributed as
free samples
Drawings Shown on the debit side Shown on Liability side by
way of addition in Drawings
Goods lost by Shown on the credit side Shown on the debit side Shown on the assets side
fire (total Loss) (net loss) (insurance claim)
35
Numericals:
Illustration 1:
From the following trial balance of Shri. Bharat Bhushan, prepare final accounts as on 31st
March, 2019:
Particulars Debit Credit

Bharat’s Capital 2,00,000
Land & Building 87,000
Plant & Machinery 17,500
Goodwill 20,000
Bharat’s Drawings 22,600
Cash in hand 1,795
Opening Stock 27,000
Wages 10,000
Purchases 70,000
Purchase return 1,000
Carriage Inward 600
Traveler’s Commission & Expenses 6,000
Insurance Premium 2,000
Motor Car 3,000
Carriage Outward 1,400
Sales 96,000
Sales Return 2,000
Salaries 15,000
Bank Charges 105
Reserve for Doubtful Debts 1,500
Debtors 20,000
Creditors 7,500
TOTAL 3,03,000 3,03,000
Adjustments:
1. The closing stock was valued at Rs.46,000/-
2. Insurance premium amounting to Rs.800/- is prepaid
3. Outstanding salaries amount to Rs.1,000/-
4. Depreciation is to be charged on Plant & Machinery at 10% & Motor Car at 20%
5. Create a Reserve for Doubtful debts at 10% on debtors.
36
Illustration 2:
Prepare Trading, Profit & Loss Account & Balance Sheet from the following trial balance of
Mr. Kumar

Stock at Commencement 60,000
Kumar’s Drawings 22,000
Trade Expenses 1,350
Salaries 11,200
Advertising 840
Discount 600
Bad debts 800
Business Premises 12,000
Furniture & Fixtures 10,000
Cash in hand 2,060
Kumar’s Capital 70,000
Purchase Returns 2,600
Purchases 1,50,000
Sales Return 5,400
Wages 7,000
Conveyance Charges 1,320
Rent, rates, taxes & insurance 5,600
Interest 430
Sundry Debtors 92,000
Sales 2,50,000
Sundry Creditors 60,000
Bank Overdraft 20,000
TOTAL 4,02,600 4,02,600
Adjustments:
1. Stock at the end was Rs.90,000/-
2. Outstanding rent was Rs.500/- and outstanding wages Rs.400/-.
3. Prepaid Insurance Rs.300/- & Prepaid Salaries Rs.700/-
4. Write off Rs.800/- as further bad debts
5. Provide for doubtful debts at 5% on Debtors
6. Provide depreciation on Premises at 2.5%, on Plant at 7.5% and Furniture &
Fixtures at 10%
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Illustration 3:
From the following Trial Balance of Shri. Khanna, prepare Trading & P& LA/c for the
year ended 31.3.19 and Balance sheet as on the date:

Opening stock 1,20,000
Salaries & Wages 12,000
Railway Freight 5,000
Purchases 1,20,00
Bills receivable 1,200
Rent 7,500
Sales 2,53,000
Reserve for Bad debts 1,000
Sundry Creditors 32,600
Return Outwards 1,500
Bad Debts 300
Traveling Expenses 6,000
Commission 1,000
Repairs to plant 1,200
Cash at Bank 2,400
Buildings 50,000
Return Inwards 1,000
Office Expenses 5,000
Drawings 6,500
Capital 50,000
Maharashtra Bank Loan 54,000
TOTAL 3,93,100 3,93,100
Adjustments:
1. Closing stock amounted to Rs.35,000/-
2. Unexpired insurance amounting to Rs.500/- is included in office expenses
3. Office expenses due but not paid Rs.300/-
4. Make provision for unpaid salaries Rs.1,200/-
5. The commission received but not earned Rs.400/-
6. Provide interest on capital @ 5%
7. Depreciate Plant & Machinery @ 5% and building at 2.5%
8. Provide reserve at 5% for bad debts.
38
Illustration 4:
The following is the trial balance extracted from the books of Mr. Anant as on 31 st
March,2019. Prepare Trading and Profit & Loss account for the year ended 31st March,
2019 and Balance Sheet as on that date.
Particulars Debit Rs. Credit Rs.

Capital Account 1,00,000
Machinery 78,000
Furniture 2,000
Sales 1,27,000
Purchases 60,000
Returns 1,000 750
Opening stock 30,000
Discount 425 800
Debtors 45,000
Creditors 25,000
Salaries 7,550
Wages 10,000
Carriage outward 1,200
Provision for bad debts 525
Rent 10,000
Advertisement 2,000
Cash 6,900
Adjustments:
1. Closing stock was valued at Rs.34,220
2. Allow interest on capital @ 10% p.a.
3. Depreciate machinery at 10% p.a.
4. Provision for bad debts is to be kept at 5%
5. Mr. Anant has taken goods worth Rs.5,000 for personal use and distributed goods
worth Rs.1,000 as free samples.
39
Illustration 5:
The trial balance of Mr. Eknath as on 31st March, 2019 was as follows:

Capital 2,50,000
Drawings 7,500
Investments 1,00,000
Motor Vehicles 80,000
Office Furniture 20,000
Office Equipment’s 60,000
Cash in hand 5,500
Purchases 4,75,000
Sales 7,55,000
Returns 15,000 10,000
Carriages 3,500
Opening stock 1,40,000
Custom duty & Clearing charges 30,000
Debtors 1,76,000
Salaries 25,000
Trade expenses 3,000
General expenses 6,000
Bad debts 2,500
Reserve for bad debts 7,500
Discount 1,000 500
Creditors 1,26,000
Prepaid insurance 1,000
Outstanding salary 2,000
TOTAL 11,51,000 11,51,000
Adjustments:
1. Closing Stock was valued at Rs.80,000/-
2. Depreciation Motor Vehicle And Office Equipment’s at 10%
3. Create 5% Reserve for doubtful debts on debtors
4. Goods costing Rs.1000/- was taken for personal use by Mr. Eknath & it was included
in debtors
5. Goods worth Rs.10000/- were destroyed by fire and the insurance company
admitted for Rs.8000/-
40
Assignment:
Illustration 1:
From the following trial balance of Shri. Jain, Prepare final accounts for the year ended
31.3.2019:

Capital 36,000
Drawings 3,000
Purchases 20,000
Return Inward 500
Return Outward 800
Office furniture 6,000
Buildings 8,000
Office expenses 1,200
Opening stock 7,000
Sundry expenses 400
Rent, rates & taxes 600
Wages & salaries 8,000
Sales cash 10,000
Sales credit 20,000
Carriage inward 200
Carriage outward 300
Bills payable 900
Travelling & Conveyance 750
Reserve for bad debts 1,200
Bad debts 300
Sundry debtors 12,000
Insurance premium 300
Cash in hand 500
Cash at bank 2,500
Sundry creditors 3,850
Adjustments:

2. Depreciation on office furniture and building at 10%
3. Rent outstanding Rs.150/-
4. Insurance prepaid amounted to Rs.100/-
5. Maintain reserve for doubtful debts at 5% on sundry debtors.
41
Illustration 2:
From the following trial balance prepare final accounts for the year ending 31.3.2019

Salaries and wages 40,600
Freight & Clearing charges 6,725
Commission 12,750
Printing & Stationery 6,400
Rent, Rates & Taxes 35,250
Telephone charges 3,715
Postage & Telegram 6,280
Capital 3,08,860
Drawings 28,000
Insurance 1,200
Purchases 7,92,000
Sales 6,40,000
Return inward 3,400
Return outward 12,000
Sundry debtors 1,00,000
Sundry creditors 1,80,000
Bad debts 6,000
Doubtful debts reserve 12,000
Cash at bank 16,935
Cash in hand 1,275
Motor car expenses 7,675
Motor car 18,000
TOTAL 11,52,860 11,52,860
Adjustments:
1. Depreciation to be provided on furniture & fixture at 10% & motor car at 20%
2. Insurance is paid for the year ended 30.6.2019
3. Rent outstanding was Rs.750/-
4. Commission due to salesman was Rs.3,250/-
5. The closing stock was valued at Rs.3,08,400/-
6. It was decided to bring doubtful debts reserve to Rs.5,000/-
42
Illustration 3:
From the following trial balance of Mrs. Sumitra prepare the final account of the year ended
31st March, 2019.

Drawings 3,000
Stock 44,000
Capital 1,00,000
Sales 3,02,000
Returns 6,000 2,000
Purchases 1,90,000
Salaries 10,000
Carriage outwards 1,400
Wages 24,000
Insurance 1,600
Discount received 200
Postage 800
Sundry debtors 70,400
Furniture 24,000
Cash in hand 9,800
Machinery 80,000
Rent and taxes 1,200
Printing & stationery 400
TOTAL 4,68,400 4,68,400
Adjustments:

2. Outstanding liabilities: wages Rs.2,000/- Salaries Rs.930/-
3. Goods distributed as free samples worth Rs.2,000/-
4. Interest on capital @7% p.a. was to be provided
5. Prepaid insurance was Rs.100/-
6. Depreciate machinery by 5% and furniture by 10%
7. Create a reserve for bad debts @5% on sundry debtors.
43
Illustration 4:
Prepare Final account from the following trial balance as on 31st December, 2015:

Plant (Addition Rs.1,500 on 1st Oct, 4,875
15)
Drawings 2,500
Wages 2,500
Purchases 17,250
Carriage 350
Rent, rates &taxes 875
Insurance 240
Motor van 10,000
Salaries 875
Bad debts 475
Cash at bank 125
Capital 50,000
Sales 28,500
R.D.D 250
Outstanding expenses 250
Interest 50
TOTAL 83,750 83,750
Adjustments:
1. Closing stock: Cost Price Rs.20,000/- and Market price Rs.25,000/-

2. Charge 10% p.a. interest on capital
3. Charge interest on drawings Rs.125
4. Depreciate plant at 10% p.a.
5. Withdrew goods worth Rs.500 for personal use, but it is not recorded in the books
44
Illustration 5:
You are required to prepare the Trading & P& L A/c of Mrs. Patel for the year ended 31st
March, 2015 and Balance sheet as at that date.

Bills Payable 25,000
Bills Receivable 15,000
Cash 10,000
Loans 20,000
Capital 72,000
Deadstock 14,400
Opening Stock 12,800
Salaries 7,200
Leasehold premises 48,000
Purchases 1,52,000
Carriage outwards 1,000
Balance at bank 15,000
Trade debtors 14,000
Reserves for bad debts 560
Return outwards 4,800
Carriage inwards 4,000
Discount allowed 2,800
Sales 2,08,000
Return inwards 8,400
Trade creditors 16,000
Discount received 2,240
Drawings 20,800
Insurance 2,000
Rent 1,200
TOTAL 3,48,600 3,48,600
Adjustments:
1. The closing stock was valued at Rs.14,400/-

2. Deadstock to be depreciated by 10%
3. Salaries due but not paid amount to Rs.600/-
4. From trade debtors a sum of Rs.2,000/- is to be written off as bad debts
5. Provision for bad & doubtful debts is to be raised to Rs.1,200/-
6. Insurance paid in advance amounts to Rs.400/-
7. Prepaid rent amount to Rs.800/-
45
UNIT 3: COST ACCOUNTING
Basic concepts of cost Accounting:
The Institute of Cost & Works Accountants (ICWA) defines Cost Accountancy as, “the
application of costing & cost accounting principles, methods & techniques for the
ascertainment of costs & profitability.” It covers the aspects of costing, cost control,
budgetary control & cost audit.
Objectives of cost accounting:
1. Ascertainment of cost per unit: Though the selling price of the product is influenced
by market conditions, it is still possible to determine the selling price within the
market constraints. For this purpose, it is necessary to rely upon data supplied by
cost accountants.
2. To make a correct analysis of cost: Correct analysis is done by both processes/
operations & by different elements of cost.
3. Control: Cost accountancy helps in identifying unprofitable activities, losses or
inefficiencies in any form
4. To determine selling price: It provides requisite data for fixation of the selling price.
5. To ascertain Profit: The profit of any activity can be ascertained by matching the
cost & revenue of that activity. The purpose of this step is to determine to cost profit
or loss of any activity on an objective basis.
6. To assist the management: It assists the management in the control of the stock of
raw materials, consumable stores, works in progress & finished goods, so that the
capital locked upon these stocks can be kept at a minimum.
7. To provide a basis for operating policy: Cost data helps the management in
formulating the policies & decision making. Hence the availability of cost data is a
must for all the levels of management
8. To prepare cost estimates: Many times, it is required to take new jobs by the
manufacturing concern or to introduce a new product as per customer requirement.
Cost estimates are to be made before manufacturing.
9. To fix standards for measuring efficiency: In order to measure the performance of
various business activities, management needs a proper base in order to evaluate
the performance. Standard cost is one of the means of evaluating the performance.
10. To provide advice to the management: For making a choice between the different
course of action, it is necessary to make a comparison of the outcomes, which may
be arrived under different alternatives. Such a comparison is possible with the help
of cot accounting information.
46
Advantages of Cost Accounting:
1. Elimination of Wastes, Losses and Inefficiencies: A good cost accounting system

eliminates wastes, losses and inefficiencies by fixing a standard for everything.
2. Cost Reduction: New and improved methods of production are followed under the cost
accounting system. It leads to cost reduction.
3. Identify the reasons for Profit or Loss: A good cost accounting system highlights the
reasons for increasing or decreasing profit. If so, the management can take remedial action
to maintain the profitability of the concern. There is no possibility of shutting down of any
product or process or department.
4. Advises on Make or Buy Decision: On the basis of cost information, the management can
decide whether to make or buy a product in the open market. The management can rightly
choose the best out of many alternatives. Sometimes, spare capacity can be used profitably.
5. Price Fixation: The total cost of a product is available in the costing records. It is highly
useful for price fixation of a product.
6. Cost Control: Budgets are prepared and standards are fixed under the cost accounting
system. The expenses are not permitted beyond the budget amount. The actual
performance is compared with the standard to find the variation. If there is any variation,
find out the reasons and the management can exercise control. Period to period cost
comparison also helps cost control.
7. Assist the Government: Government can collect reasonable tax from the company and
exercise price control.
8. Help the Trade Union: Bonus calculation is very easy for the trade union. Reasonable
remuneration is also fixed on the basis of cost accounting information.
9. Marginal Analysis of Cost: It is done for facilitating the short-term decisions especially
during the depression period.
10. Fixation of Responsibility: Responsibility centers are fixed under the cost accounting
system. If responsibility is fixed, it becomes difficult to evade the responsibility of
performance and leads to effective performance.
11. Helps to Prepare Financial Accounts: The information like the value of closing
materials, work in progress and finished goods are necessary to prepare financial accounts.
This information is supplied by the costing records and helps to prepare financial accounts
without any further delay.
47
12. Prevention of Frauds: Introducing a cost audit can prevent frauds. If so, correct and
reliable data was available from the costing records which are highly useful to the
government, shareholders, the creditors and the like.
Disadvantages or Limitations of Cost Accounting
1. Only past performances are available in the costing records but the management will be
making the decision for the future.
2. The cost of the previous year is not the same in the succeeding year. Hence, cost data are
not highly useful.
3. The cost is ascertained on the basis of full utilization of capacity. If capacity is partly
utilized, the cost may not be true.
4. Financial character expenses are not included for cost calculation. Hence, the calculated
cost is not correct always.
5. In cost accounting, costs are absorbed on a pre-determined rate. It leads to over

absorption or under absorption of overheads.
6. Cost Accounting fails to solve the problems relating to work-study, time and motion
study and operation research.
7. Installation of the Cost Accounting System requires the maintenance of many costing
records. It results in heavy expenditure.
8. Delay in receiving costing information does not result in taking quality decision by the
management.
9. Rigid Cost Accounting System does not serve all purposes.
Classification of Costs:
(A) On the basis of Functions:

1. Manufacturing Cost: All expenditure incurred in the course of production, from the
acquisition of material to primary packing of the finished product. It is also termed
as Production or factory cost. E.g. Power, lightning, factory rent, etc.
2. Administrative cost: All cost incurred for general administration & operation control
is administrative costs. E.g. Salary, rent on the office building, etc.
3. Selling cost: Expenses exclusively incurred for the sale of goods. E.g. cost of
warehousing, advertising, etc.
48
4. Distribution costs: Expenses on dispatch of goods to the customers including

transportation are distribution costs. E.g. packing for transportation, carriage
outward, etc.
(B) On the basis of Identity with the product:

1. Direct Costs: These costs are incurred for & conveniently identified with a
particular cost unit, process or department. Cost of raw materials used & wages is
common examples of direct costs.
2. Indirect costs: These costs are incurred for the benefit of a number of cost units,
processes or departments. These costs cannot be conveniently identified with a
particular cost unit or cost center. Insurance, managerial salary, etc. are indirect
costs.
(C) On the basis of variability:

1. Fixed Costs: These costs remain constant in the total amount over a wide range of
activity for a specified period of time, i.e. these do not increase or decrease when the
volume of production changes. E.g. rent, salary to managerial staff, etc. But the fixed
cost per unit decreases when the volume of production increases and vice versa.
2. Variable Costs: These costs tend to vary in direct proportion to the volume of
output. In other words, when the volume of output increases, the total variable cost
also increases & vice versa.
3. Semi variable: This cost includes both a fixed & variable component, i.e. these are
partly fixed & partly variable. Semi variable cost often a fixed element below which
it will not fall at any level of output. The variable element either changes at a
constant rate or in lumps.
(D) On the basis of Controllability:

1. Controllable Costs: These are the costs which may be directly regulated at a given
level of management authority. They are generally controllable by department
heads. E.g. cost of raw material may be controlled by purchasing in larger quantities.
2. Non-controllable costs: These are the costs which cannot be influenced by the action
of a specified member of an enterprise. For example, It is very difficult to control
costs like factory rent, managerial salary, etc.
(E) On the basis of the time period:

1. Historical costs: These are the costs which are ascertained after these have been
incurred. These are actual costs and are available after the completion of the
manufacturing operations.
49
2. Pre-determined costs: These are future costs which are ascertained in advance of
production on the basis of a specification of all the factors affecting cost. These costs
are extensively used for the purpose of planning & control.
(F) On the basis of Normality:

1. Normal Costs: They are the costs which are normally incurred on expected lines at a
given level of output. This cost is a part of the cost of production.
2. Abnormal costs: These costs are not normally incurred at a given level of output.
Such cost is over & above the normal cost & is not treated as a part of the cost of
production.
(G) On the basis of Nature:

1. Product costs: These are the costs which are necessary for production & which will
not be incurred if there is no production. These consist of direct material, direct
labor, etc.
2. Period costs: These are the costs which are not necessary for production & are
written off as expenses in the period in which these are incurred. Such costs are
incurred for a time period & are charged to P&L A/c for the period. E.g. Travelling
expenses, etc.
(H) On the basis of Elements:

1. Material Costs: they are the cost of components used as input of finished product or
cost that helps in conversion to finished goods.
2. Labour Costs: It includes wages & salaries paid to the employees as remuneration
for services rendered in the process of production & sale
3. Expenses: costs other than material & labor cost, required for production & sale is
known as an expense.
Special costs for management decision making:
Relevant Costs: Not all the costs are relevant for specific decisions. A relevant cost is a
cost whose magnitude will be affected by the decision being made. Whether a cost is
relevant or not depends upon the circumstances.
1. Marginal Cost: It is the additional cost of producing one additional unit. Marginal
costing (variable costing) is the technique of charging only variable costs to
products. Inventory is also valued at variable cost only. Fixed cost is treated as
period cost & written off in P& L A/c of the period. It helps in decision making like
make or buy, pricing of products, etc.
2. Opportunity Cost: It is the sacrifice involved in accepting an alternative under
consideration. It is the cost that measures the benefit that is lost or sacrificed when
50
the choice of one course of action requires that other alternative courses of action
be given up. It is a pure decision making cost. It is an imputed cost that doesn’t
require cash outlay & is not recorded in the accounting books.
3. Differential/ Incremental Costs: This cost may be regarded as the difference in total
cost resulting from a contemplated change. It is, an increase or decrease in the total
cost that results from an alternative course of action. It is ascertained by subtracting
the cost of one alternative from the cost of another alternative.
4. Out of pocket cost: There are certain costs which require cash payment to be made
(rent) whereas many costs do not require cash outlay (depreciation). Out of the
pocket costs are those cost that involves cash outlay or requires the utilization of
current resources. They may be either fixed (managers salary) or variable (raw
materials).
5. Imputed costs: These are hypothetical costs which are specially computed outside
the accounting system for the purpose of decision making. Interest on capital
invested is a common type of imputed costs as they are not included in the costs. It
is considered necessary to take it into account when deciding about the alternative
capital investment projects to avoid an erroneous decision.
6. Sunk Costs: It is an expenditure made in the past that cannot be changed & over
which management has no control. These costs are not relevant for decision making
about the future. The book value of an asset currently being used is not relevant in
the decision of replacing it. Not all irrelevant costs are sunk cost.
7. Replacement cost: This is the cost at which there could be the purchase of an asset
identical to that which is being replaced. It is the current market cost of replacing
the asset. When management considers the replacement of an asset, it has to keep in
mind its replacement cost & not the cost at which it was purchased earlier.
8. Conversion cost: It is the cost of converting raw material into a finished product. The
term is used to denote the sum of direct labor & factory overheads cost in the
production of a product. It is factory cost minus direct material cost.
9. Shutdown cost: It is that part of fixed cost that has been incurred even if the factory
is shut down or closed temporarily, due to non-availability of raw material, shortage
of labor, etc. rent, insurance, maintenance, etc.
Cost Unit and Cost Centre:

“Cost Unit is a unit of products , service or time in relation to which cost may be ascertained
or expressed”. The examples of cost unit are:
Industry Cost Unit

Automobile Number
Aircraft Number
Bicycle Number
Brewery Per dozen bottle
51
Building Per square foot

Cable Per meter
Cement Per tonne
Hospital Per bed
Electricity KWH
Iron & Steel Per tonne
Paper Ream
Soft drinks Per case of 24 bottles
Sugar Kilogram
Transport Kilometer
“Cost Centre is the location, person or item of equipment or group of these for which the
cost may be ascertained and used for the purpose of control”
Cost center may be like: Production Cost center, Service Cost Centre, Sales Cost Centre, etc.
Cost Sheet
Cost Sheet is a statement of cost showing the total cost of production and profit or loss
from a particular product or service. A Cost Sheet shows the cost in a systematic manner
and element-wise. A typical format of the Cost Sheet is given below.
Preparation of cost sheet:

Cost sheet is a systematic arrangement of cost data prepared to know stage-wise costs
for assessment of the production process.
COST SHEET – FORMAT
Particulars Amount Amount

Opening Stock of Raw Material ***
Add: Purchase of Raw materials ***
Add: Carriage Inward ***
Add: Purchase Expenses ***
Less: Purchase Return ***
Less: Purchase Allowance ***
Less: Purchase Discount ***
Less: Closing Stock of Raw Materials ***
Raw Materials Consumed ***
Direct Wages (Labour) ***
Direct Charges/ Expenses
Prime cost (1) ***
Add :- Factory Over Heads:
Cleaning charges of factory ***
Factory Rent ***
Factory Power ***
Indirect Material ***
52
Indirect Wages ***

Supervisor Salary ***
Drawing Office Salary ***
Factory Insurance ***
Cost of research and experiments
Depreciation of factory land and building
Depreciation of factory plant & machinery
Drawing office salaries
Factory managers salary
Fuel, gas and water
Haulage
Lighting and heating
Labour welfare expenses
Loose tools
Oil and lubricants
Property tax on factory building
Repairs and maintenance
Consumable Stores
Factory Asset Depreciation
Works cost Incurred ***
Add: Opening Stock of WIP ***
Less: Closing Stock of WIP ***
Less: Sale of scrap
Works cost (2) ***
Add:- Administration Over Heads:-
Office Rent ***
Asset Depreciation ***
Cleaning charges ***
General Charges ***
Audit Fees ***
Air conditioning charges of office ***
Directors fees and remuneration ***
General expenses
Managers salary
Insurance
Legal fees
Office lighting and heating
Office repairs and maintenance
Office salaries
Postage and telegram
Printing and stationary
Sundry expenses
Telephone charges
Bank Charges
Counting house Salary
53
Other Office Expenses

Cost of Production (3) ***
Add: Opening stock of Finished Goods ***
Less: Closing stock of Finished Goods ***
Cost of Goods Sold ***
Add:- Selling and Distribution OH:-
Salesman Commission ***
After-sales service ***
Sales man salary ***
Traveling Expenses ***
Advertisement ***
Brokerage and commission ***
Carriage outward ***
Debt collection expenses
Discount allowed
Depreciation of delivery van
Showroom rent
Delivery van/ man expenses
Catalogue and Price list
Sales Tax
Bad Debts
Cost of Sales (5) ***
Profit (balancing figure) ***
Sales ***
Notes:-
The following items are of purely financial nature and thus excluded while preparing
a cost sheet:
Abnormal Idle time Interest paid on the loan
Abnormal wastage Interest on fixed deposits
Cash discount allowed Loss due to theft
Capital expenditure Preliminary expenses
Goodwill Income tax
Dividend Paid transfer fees/ transfer to reserves
Interest on debentures underwriting commission
Share premium/ discount Donation
R.D.D Provision for Tax
54
Problems On Cost Sheet:
Illustration 1:
Group the following indirect expenses into the following categories:
i. Production overheads
ii. Administrative overheads
iii. Selling overheads
iv. Distribution overheads
Factory rent Plant Maintenance Market research
Postage & telegram Cost of free samples Warehouse rent
Upkeep of delivery van Director’s fees Lubricating oil
Maintenance of cranes Carriage outwards Advertising
Works managers salary Cost of idle time in factory Labour wages
Storekeeper’s wages Cash discount allowed Protective clothing
Cost office expenses Commission to travelers Office salaries
Traveling expenses for selling Wages to maintenance workers Depreciation of

plant
Illustration 2:
The following figures have been extracted from the books of SE ltd. for the year ending 31st
March, 2014
Particulars Rs.
Direct Material 80,000
Direct wages 40,000
Indirect wages 10,000
Direct expenses 12,000
Electric power 1,000
Depreciation of office building 1,000
Depreciation of plant & machinery 2,000
Directors fees 2,000
Oil & waste 200
Lubricants 300
Consumable stores 1,000
Bad debts 2,000
Postage & telegraph 500
Lighting- Factory 1,000
55
Lighting- Office 400

Carriage outwards 300
Office printing & stationery 500
Storekeepers wages 1,200
General selling expenses 2,000
Traveling expenses 1,000
Telephone charges 800
Rent factory 2,000
Rent office 1,000
Manager’s salary 3,000
General factory expenses 500
From the above calculate: Prime cost, Factory cost, Cost of production & Cost of sales.
Illustration 3:
The following data have been extracted from the books of M/s Kapoor Industries Ltd. for
the year ending 31st March, 2014.
Particulars Rs.
Opening stock of raw material 25,000
Purchase of raw material 25,000
Closing stock of raw material 40,000
Expenses on purchase of raw material 5,000
Wages- direct 75,000
Wages- indirect 10,000
Other direct charges 15,000
Rent & rates- factory 5,000
Rent & rates- office 500
Consumption of indirect materials 500
Depreciation of plant & machinery 1,500
Depreciation of Office furniture 100
Salary- office 2,500
Salary- salesman 2,000
Other factory expenses 5,700
Other office expenses 900
Managing Director’s remuneration 12,000
Bad debts written off 1,000
Advertisement expenses 2,000
Traveling expenses of salesmen 1,100
Carriage & freight outward 1,000
Sales 2,50,000
Advance income tax paid 15,000
The Managing Director has the overall charge of the company and his remuneration is to be
allocated at Rs.4, 000 to the factory, Rs.2, 000 to the office & Rs.6, 000 to the selling
operations.
56
Problem 4:
From the following information calculate the details of Prime cost, Factory Cost, Cost of
Production and Total Cost for Archana Ltd.
Particulars Amount
Direct material 750000
Indirect material 290000
Direct wages 26000
Indirect wages 14500
Factory rent 4500
Office rent 7000
Plant & Machinery depreciation 16850
Office furniture depreciation 12250
Salaries- office staff 56000
Salaries- sales staff 25000
Directors fees 200000
Printing and stationery 31000
Legal fees 800
Showroom rent and rates 56000
Advertisement expenses 75000
Telephone bill of factory 16000
Telephone bill of office 18000
Salesman's mobile expenses 8000
Depreciation of sales office furniture 2500
Problem 5:
M/s Anand Ltd. has furnished the following details. Prepare a cost sheet determining the
cost of sales for M/s Anand Ltd. as on 31st March, 2019.
Particulars Amount
Office appliances 20400
Plant & machinery 460000
Buildings 150000
Opening stock:
Finished Goods 78000
Raw material 138000
Work in progress 198000
Raw material purchased 322000
Carriage inward 14000
Direct labor 162000
Indirect labor 20000
Repairs and maintenance 16000
Factory supervision 10000
57
Rates and taxes 9300

Office salaries 9600
Heat and power 70000
Advertisement 32500
Salesman's commission 33500
Interest on borrowed funds 3000
Accrued expenses:
Direct labor 8000
Indirect labor 1000
Interest on borrowed funds 1000
Closing stock:
Finished goods 100000
Raw material 150000
Work in progress 180000
Additional Information:
1. Charge depreciation on: plant and machinery @ 10%, building @ 5%, office
appliances @ 5%
2. Distribute heat and power to factory, office and selling in the ratio 8:1:1
3. Depreciation on building to be charged to factory, office and selling in the ratio 7:2:1
4. Rates and taxes to be charged to factory and office in the ratio of 2:1
ASSIGNMENT
Illustration 1:
Calculate Prime cost, Factory cost, Cost of production, Cost of sales and profit from the
following information:
Direct Material 100000
Direct wages 30000
Wages of foreman 2500
Electric power 500
Lighting (75% factory and 25% office) 2000
Storekeepers wages 1000
Oil & water 500
Rent (2/3 factory and 1/3 office) 7500
Repairs and renewals:
Factory plant 3500
Office premises 500
Transfer to reserves 1000
Discount on shares written off 500
Dividend 2000
Depreciation:
Factory Plant 500
Office premises 1250
Consumable stores 2500
Managers salary 5000
Directors fees 1250
58
Office stationery 500

Telephone charges 125
Postage & telegram 250
Salesman's salary 1250
Traveling expenses 500
Advertising 1250
Warehouse charges 500
Sales 189500
Income tax 10000
Managers salary distributed in the ratio of 2:1:1
Illustration 2:
The associates ltd. produced 2000 completed units of their main product, Product ‘X’
during the month ended 31st July 2019 and the following figures were available for that
year:
Opening stock (400 units) 18000
Closing stock (800 units) 36000
Opening stock of raw material 3000
Purchase of raw material 17000
Carriage inward 600
Closing stock of raw material 2600
Direct wages 24000
Indirect wages 600
Power 9000
Direct expenses 12000
Repairs to machinery 400
Indirect material 1600
Depreciation of plant 400
Opening stock of WIP 2400
Closing stick of WIP 3000
Office salaries 9200
Sundry expenses 1800
Repairs to the office building 400
Depreciation of building 600
Traveling expenses 1200
Agent commission 3000
Bad debts 200
Delivery van expenses 600
Sales 104000
Drawing office salaries 1000
Sale of scrap 1000
59
UNIT 4: SHORT TERM BUSINESS DECISIONS TECHNIQUES-

MARGINAL COSTING
Introduction:
Marginal Costing is not a method of costing like job, batch or contract costing. It is in fact a
technique of costing in which only variable manufacturing costs are considered while
determining the cost of goods sold and also for valuation of inventories.
Definition:
Marginal Cost is defined as, ‘the change in aggregate costs due to change in the volume of
production by one unit’.
Marginal Costing has been defined as, ‘Ascertainment of cost and measuring the impact on
profits of the change in the volume of output or type of output. This is subject to one
assumption and that is the fixed cost will remain unchanged irrespective of the change.’
Features of Marginal Costing:

1. Appropriate and accurate division of total cost into fixed and variable by picking out a
variable portion of semi-variable costs also.
2. Valuation of stocks such as finished goods, work-in-progress is valued at variable cost
only.
3. The fixed costs are written off soon after they are incurred and do not find a place in
product cost or inventories.
4. Prices are based on Marginal Cost and Marginal Contribution.
5. It combines the techniques of cost recording and cost reporting.
Advantages or Merits or Applications of Marginal Costing:

1. Marginal costing system is simple to operate than absorption costing because they do not
involve the problems of overhead apportionment and recovery.
2. Marginal costing avoids, the difficulties of having to explain the purpose and basis of
overhead absorption to management that accompanies absorption costing.
3. It is easier to make decisions on the basis of marginal cost presentations, e.g., marginal
costing shows which products are making a contribution and which are failing to cover
their avoidable (i.e., variable) costs.
4. Marginal costing is essentially useful to management as a technique in cost analysis and
cost presentation. It enables the presentation of data in a manner useful to different levels
of management for the purpose of controlling costs. Therefore, it is an important technique
in cost control.
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5. Future profit planning of the business enterprises can well be carried out by marginal
costing. The contribution ratio and marginal cost ratios are very useful to ascertain the
changes in selling price, variable cost etc. Thus, marginal costing is greatly helpful in profit
planning.
6. When a business concern consists of several units and produces several products and
evaluation of the performance of such components can well be made with the help of
marginal costing.
7. It is helpful in forecasting.
8. When there are different products, the determination of the number of units of each
product, called Optimum Product Mix, is made with the help of marginal costing.
9. Similarly, optimum sales mix i.e., sales of each and every product to get maximum profit
can also be determined with the help of marginal costing.
10. Apart from the above, numerous managerial decisions can be taken with the help of
marginal costing, some of which may be as follows:-
a) Make or buy decisions,
b) Exploring foreign markets,
c) Accept an order or not,
d) Determination of selling price in different conditions,
e) Replace one product with some other product,
f) Optimum utilisation of labour or machine hours,
g) Evaluation of alternative choices,
h) Subcontract some of the production processes or not,
i) Expand the business or not,
j) Diversification,
k) Shutdown or continue,
Limitations of Marginal Costing:

(1) It may be very difficult to segregation of all costs into fixed and variable costs.
(2) Marginal Costing technique cannot be suitable for all type of industries. For example, it
is difficult to apply in ship-building, contract industries etc.
(3) The elimination of fixed overheads leads to difficulty in the determination of selling
price.
(4) It assumes that the fixed costs are controllable, but in the long run all costs are variable.
(5) Marginal Costing does not provide any standard for the evaluation of performance
which is provided by standard costing and budgetary control.
(6) With the development of advanced technology fixed expenses are proportionally
increased.
Therefore, the exclusion of fixed cost is less effective.
(7) Under marginal costing elimination of fixed costs results in the undervaluation of stock
of work in progress and finished goods. It will reflect in true profit.
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(8) Marginal Costing focuses its attention on the sales aspect. Accordingly, contribution and
profits are determined on the basis of sales volume. It does not consider other functional
aspects.
(9) Under Marginal Costing semi-variable and semi-fixed costs cannot be segregated
accurately.
Tools and Techniques of Marginal Costing:
1. Contribution:
In common parlance, the contribution is the reward for the efforts of the entrepreneur or
owner of a business concern. From this, one can get in his mind that contribution means
profit. But it is not so. In Costing terminology, contribution means not only profit but also
fixed cost. That is why; it is defined as the amount recovered towards fixed cost and profit.
Contribution can be computed by subtracting the variable cost from sales or by adding
fixed costs and profit.
Symbolically, C = S-V
Where C = Contribution S = Selling Price V = Variable Cost
Also C = F+P
Where F = Fixed Cost P = Profit
S-V = F+P
The contribution is helpful in the determination of profitability of the products and/or
priorities for the profitability of the products. When there are two or more products, the
product having more contribution is more profitable.
2. Profit Volume Ratio (P/V Ratio) or Contribution Ratio:

P/V ratio or contribution ratio is the association of two variables. It is the ratio of
Contribution to Sales.
Symbolically, P/V ratio = Contribution ÷ Sales x 100
⇒ Contribution = Sales x P/V ratio
⇒ Sales = Contribution ÷ P/V ratio
When cost accounting data is given for two periods, then:

P/V ratio = Change in Contribution ÷ Change in Sales x 100 or,
P/V ratio = Change in Profit ÷ Change in Sales x 100
3. Break-Even Point:
The Break-Even Point is a level of production where the total costs are equal to the total
revenue, i.e. sales. Thus at the break-even level, there is neither profit nor loss. Production
level below the break-even-point will result in the loss while production above the break-
even point will result in profits.
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Break-even point [in units] = Fixed Cost / Contribution per Unit

Break-even point [in Rs.] = Fixed Cost / Profit Volume [P/V] Ratio
Assumptions of Break-Even Point:

1. Production and sales are the same, which means that as much as is produced is sold out
in the market. Thus there is no inventory remaining at the end.
2. Fixed cost remains same irrespective of the production volume.
3. Variable cost varies with the production. It changes in the same proportion that of the
production. Hence it has a linear relationship with the production. In other words, the
variable cost per unit remains the same.
4. Selling price per unit remains the same irrespective of the quantity sold.
4. The margin of Safety:

The Margin of Safety is the difference between the actual sales and break-even sales. At the
break-even point there is neither any profit nor loss. Hence any firm will always be
interested in being as much above the break-even level as possible. The margin of safety
explains precisely this thing and the higher the safety margin the better it is.
The margin of safety is computed as follows.
The margin of Safety = Total Sales – Break-Even Sales
Margin of Safety = Profit / P/V ratio
5. Cost Volume Profit Analysis (CVP):

CVP is a planning process that management uses to predict the future volume of activity,
costs incurred, sales made and profits received. It is a mathematical equation that
computes how changes in costs and sales will affect income in future periods. CVP analysis
classifies all costs as either fixed or variable. Techniques of CVP analysis include breakeven
point, contribution, Profit volume ratio and the margin of safety.
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6. Others:
Various formulae that are used in the chapter to find out different results are as follows:
Profit = (Sales x P/V ratio) – Fixed Cost

Sales value to earn the desired profit = (Fixed Cost + desired profit) ÷ P/V ratio
Required units to earn the desired profit = (Fixed Cost + desired profit) ÷ Contribution per
unit
Fixed cost = (Sales x P/V ratio) – Profit
Total sales = Break-even sales + Margin of safety sales
Break-even sales = Total sales – Margin of safety sales
The margin of safety sales = Total sales – Break-even sales
Fixed cost = Break-even sales x P/V ratio
The margin of Safety = Actual Sales – Break-Even Sales.
Illustration 1:
XYZ Ltd. is manufacturing three products, A, B and C. All the products use the same raw
material which is available to the extent of 61,000 kg only. The following information is
available from the books and records of the company.
Particulars Product A Product B Product C
Selling price per unit Rs.100 Rs.140 Rs.90
Variable cost per unit Rs.75 Rs.110 Rs.65
Raw material requirement per unit [kg] 5 8 6
Market demand - units 5000 3000 4000
Advise the company about the most profitable product mix and also compute the amount of
profit resulting from such product mix if the fixed costs are Rs.1, 50,000
Illustration 2:
A Company budgets for production of 150000 units. The variable cost per unit is Rs.14 and
fixed cost per unit is Rs.2 per unit. The company fixes the selling price to fetch a profit of
15% on cost.
Required,
A. What is the break-even point? B] What is the profit/volume ratio? C] If the selling price is
reduced by 5%, how does the revised selling price affects the Break-Even Point and the
Profit/Volume Ratio? D] If a profit increase of 10% is desired more than the budget, what
should be the sales at a reduced price?
Illustration 3:
The following figures are available from the records of Venus Traders as on 31st March
Figures: In Lakhs of Rs.
Particulars 2006 2007
Sales 150 200
Profits 30 50
Calculate:a) Profit/Volume ratio and total fixed expenses b) Break-Even Sales
c) Sales required to earn a profit of Rs.90 lakhs d) Profit/Loss that would
arise if the sales were Rs.280 lakhs
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Illustration 4:
A factory engaged in manufacturing plastic buckets is working to 40% capacity and
produces 10,000 buckets per annum. The present cost break up for one bucket is as under,
Material Rs.10 Labour Rs.3 Overheads Rs.5 [60% fixed]
The selling price is Rs.20 per bucket.
If it is decided to work the factory at 50% capacity, the selling price falls by 3%. At 90%
capacity, the selling price falls by 5% accompanied by a similar fall in the price of the
material.
You are required to calculate the profit at 50% and 90% capacities and also show break-
even points for the same capacity production.
Illustration 5:
From the following particulars, you are required to calculate:
(i) P/V Ratio
(ii) BEP for sales;
(iii) The margin of Safety;
(iv) Profit when sales are Rs.2, 00,000/-
(v) Sales required to earn a profit of Rs.40, 000/-
Year Sales Profit
I Rs. 2,40,000 18,000
II Rs. 2,80,000 26,000
You may make possible assumptions. Also evaluate the effect on II year’s profit of
(a) 20% decrease in sales quantity.
(b) 20% decrease in sales quantity accompanied by a 10% increase in the sales price and a
reduction of Rs. 3,500/- in fixed costs
Illustration 6:
How many chocolates, having a unit cost of Rs.4 and selling price of Rs.5/-, must a vendor
sell in a funfair to recover Rs.1800 fees paid by him for getting a selling stall and additional
cost of Rs.800/- to install the stall.
Illustration 7:
The sales turnover and total cost of Sugar Ltd. are as under:
Year Sales Total Cost
2018 Rs. 1,50,000 1,60,000
2019 Rs. 1,80,000 1,75,000
You are required to calculate: Profit Volume ratio, Fixed cost, break-even point, sales to
earn a profit of Rs.40000 and variable cost for 2019.
Illustration 8:
Following cost information about ABC Lld. Is available:
Cost of Element Variable cost Fixed cost
(% of sales)
Direct Materials 32.8%
Direct Labor 28.4%
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Factory overheads 12.6% 1,89,900

Distribution expenses 4.1% 58,400
Administrative expenses 1.1% 66,700
Budgeted sales for the next year are 18,50,000. You are required to calculate:
1. Break even sales volume
2. Profit as budgeted sales volume
3. Profit if actual sales: drop by 10% and then increase by 5% of budgeted sales.
ASSIGNMENT:
Illustration 1:
Ram Ltd. has prepared the following budget estimates for the year 2014-15
Sales units 15,000
Fixed expenses 34,000
Sales value 1, 50,000
Variable cost Rs.6 per unit
1. Find out P/V ratio, break-even sales & margin of safety
2. Calculate revised P/V ratio, break-even sales & margin of safety in the following cases:
(a) Decrease of 10% in selling price
(b) Increase of 10% in variable cost
(c) Increase in sales volume by 2000 units
Illustration 2:
From the following information calculate:
(I) P / V Ratio
(2) Break-Even Point
Total sales Rs. 5, 00,000
Selling price per unit Rs. 100
Variable cost per unit Rs. 60
Fixed cost Rs. 1, 20,000
Illustration 3:
The following figures for profit and sales obtained from the accounts of X Co. Ltd.
Year Sales Profit

2011 20,000 2,000
2012 30,000 4,000
Calculate:
(a) P/V Ratio (c) B.E. Sales (e) Sales to earn a profit of Rs.5,000.
(b) Fixed cost (d) Profit at sales Rs.40, 000
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Problems of Short Term Business Decisions:
Illustration 1:
Present the following information to show a clear picture to the management of Shlok Ltd.
a. The marginal cost of the product and the contribution per unit
b. B. the total contribution and profit resulting from each of the following mixtures.
Product Direct Material Price Direct Labour Selling Price Per
Per Unit Price Per Unit Unit
Gold 15 8 35
Silver 10 4 20
Fixed cost is Rs.1200. Variable expenses are allotted to products as 75% of direct wages.
Sales Mixtures:
a. 100 units if Gold and 200 units of Silver
b. 150 units if Gold and 140 units of Silver
c. 200 units if Gold and 110 units of Silver
Illustration 2:
Shruti Ltd. manufacturing and markets three products A, B and C. all the three products are
from the same set of machines. Production capacity is limited as the capacity of the
machine is limited. From the following data, show the priorities for products A, B and C
with a view to maximizing profit.
Particulars Product A Product B Product C
Raw Material Cost Per Unit 14 18 22
Direct Labor Cost Per Unit 3 3 3
Other Variable Cost Per Unit 2 3 5
Selling Price Per Unit 30 40 50
Standard Machine Time required per unit 45 30 40
Problems on Make or Buy (Outsourcing) Decision:

Illustration 1:Pratibha Ltd. is producing a part at a cost of Rs.22 per unit. The composition
of the cost is as follows:
Particulars Rs.
Materials 6
Wages 8
Overhead- Variable 5
Overhead- Fixed 3
Total Cost 22
Presently the firm has been incurring a total fixed of Rs.30,000 for manufacturing the
current production of 10000 units. An outsider is ready to supply the same component, in
all aspects identical in features, for Rs.20 per unit. On inquiry, it is found from the firm that
the machine that is manufacturing the parts would remain idle as the machinery cannot be
utilized elsewhere. (a) Should the offer be accepted (b) Would your answer be different, if
the outside firm reduces the price to Rs.18, after negotiation. What is the impact of Fixed
cost in the decision-making process
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Illustration 2:
Dilip & Co. manufactures automobile accessories and parts. The following are the total
processing costs for each unit
Particulars Rs.
Direct Materials cost 25000
Direct Labor cost 40000
Variable factory overhead 30000
Fixed cost 250000
The same units are available in the domestic market. The purchase price of the component
is 110000 per unit. The fixed overhead would continue to be incurred even when the
component is bought from outside, although there would be a reduction to the extent of
10000 per unit. However, this reduction does not occur, if the machinery is rented out. You
are required to calculate:
a. Should the part be made or bought, considering that the present capacity when
released would remain idle?
b. In case, the released capacity can be rented out to another manufacturer for
22500per unit, what should be the decision?
Illustration 3: Sakshi & Co. has been purchasing a separate part from an outside source
@33per unit. Sakshi’s daughter swara after completion of her MBA has come up with a
proposal to improve profitability. She has put up a proposal that the spare part is produced
in the factory itself, utilizing the available free space in the factory shed. For this purpose a
machine costing 240000 with an annual capacity of 60000 units and a life of 10 years, will
be required. A foreman with a monthly salary of 1800 will have to be engaged. Materials
required will be 9 per unit and wages 6 per unit. Variable overheads are 150% of direct
labor. The firm can easily raise funds @ 9% p.a. There is a guaranteed requirement for the
part, presently, for a period of 12 years. The expected volume is 8000units. Suggest the
firm for the purchase or making the spare part, based on the daughter's advice.
Pricing Decisions:
Illustration 1:
Total fixed cost and selling price per unit is 54000 and 60 respectively. Variable cost per
unit is 42. On the basis of the following information, how much units company should sell
to recover their cost and what happened if the price is increased and decreased by 10%.
Illustration 2:
Fresh Product Limited Manufactures the ‘Axe’ body sprays. The company expects a profit
for the year 2016 700000 from the manufacture of ‘Axe’ body sprays after charging the
fixed cost 500000. The ‘Axe’ body spray is sold @ 25per unit and has a variable unit cost
10. Market sensitivity tests suggest the following responses to price changes.
Alternative Selling price reduced by Quantity sold increase by

Alfa 6% 10%
Beta 8% 20%
Sigma 10% 25%
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Evaluate these alternatives and state which should be adopted for the forthcoming year on
the basis of profitability and assuming cost structure unchanged from 2019.
Accept or Reject Special Order Decisions:

Illustration 1:
Five-star hotel rents out a room at 5000 per night, during tourists seasons, as following
calculations:
Particulars Rs.
Caretakers wages 1500
Electricity and gas charges 500
Cleaners wages 800
Fixed cost 1000
Profit 1200
During offseason, Happy Tourist has offered to hire 10 rooms @3200 per night for 40
nights. Advise the management on financial grounds whether rooms should be rented out
to the tourist's company?
Illustration 2:
Unique Hardware Industries manufactures one product toolboxes. Company is operating at
60% of its normal capacity. It sells the toolboxes at 50each. An income statement for the
year ended 31st July, 2019 is as follows:
Particulars Rs. Rs.
Sales (60000 units @ 50) 3000000
Less: Costs-
1. Direct Material 600000
2. Direct wages 900000
3. Fixed manufacturing overheads 450000
4. Variable manufacturing overheads 150000
5. Administration & Selling overheads 400000 2500000
Profit 500000
A leading automobile company Bajaj Group has offered to purchase 40000 toolboxes as per
their specifications. The toolboxes will differ significantly from usual design and the buyer
will market the toolboxes under its own private label. Thus, these toolboxes will not
compete with Distinctive Hardware’s regular toolboxes.
The Bajaj Group has offered Unique Hardware Industries Rs.27.50 per toolbox. Direct labor
and variable manufacturing overheads will be at the same unit cost as Unique Hardware
Industries regular toolboxes. Direct material will amount to Rs.7.50 per toolbox. Shipping
cost to be borne by Unique Hardware will amount to Rs.0.50 per toolbox.
You are required to state on financial grounds should the special order be accepted.
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Illustration 3:
The Ponds Snow Company manufactures and sells direct to consumers 10000 jars of
‘Ponds Snow’ per month @6.25 per jar. The company's normal production capacity is
20000 jars of snow per month. As the analysis of cost for 10000 jars is given below:
Particulars Rs.
Direct Material 5000
Direct Labor 12375
Power 700
Jars 3000
Miscellaneous Expenses 2150
Fixed Cost 39775
Total Cost 63000
The company has received an offer for the export under a different brand name of 120000
jars of snow at 10000 jars per month at 3.75 paise a jar. You are required to suggest the
company whether the export offer should be accepted or not?
Shutting Down Decisions:

Illustration 1:
Variable cost is Rs.30 per unit and the fixed cost is 250000. Selling price is 35 per unit and
25000 units can be sold @ Rs.35. is it sensible to continue production.
Illustration 2:
Shrikrishna Ltd. is ungagged in 3 different lines of production. Their production cost per
unit and selling price are as under:
Particulars Product P Product Q Product R
Production Units 6000 4000 10000
Material Cost 36 52 60
Wages 14 18 20
Variable Overheads 4 6 6
Fixed Overheads 8 16 18
Total Cost 62 92 104
Profit 18 28 18
Selling Price 80 120 122
The management wants to discontinue the Product Line ‘Q’ and Gives you the assurance
that production in two other lines will increase by 50%. Therefore, it needs to discontinue
the line which produces Product ‘Q’.
a. Do you agree to the scheme in principle? If so, do you think that the line which
produces Product ‘Q’ should be discontinued.
b. Give your comments and show the necessary statements to support your decision.
Illustration 3:
The annual flexible budget of a company is as follows:
Production Capacity 40% 60% 80% 100%
Direct material 24000 36000 48000 60000
Direct Labor 32000 48000 64000 80000
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Production Overheads 22800 25200 27600 30000

Administration & Selling overheads 11600 12400 13200 14000
Selling & Distribution Overheads 12400 13600 14800 16000
Total Cost 102800 135200 167600 200000
Considering trading difficulties, the company is operating at 50% capacity. The selling price
has had to be lowered to what the directors maintain is an uneconomic level and they are
considering whether or not their single factory should be closed down until the trade
recession has passed.
A market research consultant M/s Bhide & Shah has advised that in about twelve months
time there is every indication that sales will increase to about 755 of normal capacity and
that the revenue to be produced from sales in the second year will amount to 180000. The
present revenue from sales @ 50% capacity would amount to only 99000 for a whole year.
If the directors decide to close down the factory for the year, it is estimated that:
a. The present fixed cost would be reduced to 22000 a year
b. Closing down costs (redundancy payments, etc) would amount to 15000
c. Necessary maintenance of plant would cost 2000 pa
d. On reporting the factory, the cost of overhauling plant, training and engagement of
new personnel would amount to 8000
Prepare a statement for the directors presenting in such a way as to indicate whether or
not it is desirable to close the factory.
71
UNIT 5: EXERCISING CONTROL- BUDGETARY CONTROL AND STANDARD

COSTING
Budgetary Control:
Budgeting is one such technique of cost accounting with the twin objectives of facilitating
planning and ensuring control. The budget has been defined by CIMA U.K. as, ‘A financial
and/or quantitative statement prepared prior to a defined period of time, of the policy to
be pursued during that period for the purpose of achieving a given objective.’
A budget is a statement that is always prepared prior to a defined period of time. Budget is
prepared either in quantitative details or monetary details or both. Budgetary Control is
actually a means of control in which the actual results are compared with the budgeted
results so that appropriate action may be taken with regard to any deviations between the
two.
Budgetary control has the following stages.

1. Developing Budgets
2. Recording Actual Performance
3. Comparison of Budgeted and Actual Performance
4. Corrective Action
Benefits of Budgeting:
1. Budgeting facilitates the planning of various activities and ensures that the working of
the organization is systematic and smooth.
2. Budgeting is a coordinated exercise and hence combines the ideas of different levels of
management in the preparation of the same.
3. Any budget cannot be prepared in isolation and therefore coordination among various
departments is facilitated automatically.
4. Budgeting helps planning and controlling income and expenditure so as to achieve
higher profitability and also act as a guide for various management decisions.
5. Budgeting is an effective means for planning and thus ensures sufficient availability of
working capital and other resources.
6. It is extremely necessary to evaluate the actual performance with predetermined
parameters.
Budgeting ensures that there are well-defined parameters and thus the performance is
evaluated against these parameters.
7. As the resources are directed to the most productive use, budgeting helps in reducing the
wastages and losses.
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Types of Budgets:
I. On the basis of Area of Operation
A. Functional Budgets
B. Master Budget
II. On the basis of Capacity Utilization
A. Fixed Budget
B. Flexible Budgets
III. On the basis of Time
A. Short Term
B. Medium Term
C. Long Term
1. Material Purchase Budget: This budget shows the quantity of materials to be

purchased during the coming year. For the preparation of this budget, the production
budget is the starting point if it is the key factor. If the raw material availability is the key
factor, it becomes the starting point. This budget is prepared in quantity as well as in the
monetary terms and helps immensely in the planning of the purchases of raw materials.
Availability of storage space, financial resources, various levels of materials like maximum,
minimum, re-order and economic order quantity are taken into consideration while
preparing this budget. A separate material utilization budget may also be prepared as
preparation of material purchase budget.
2. Cash Budget: A cash budget is an estimate of cash receipts and cash payments prepared
for each month. In this budget all expected payments, revenue as well as the capital and all
receipts, revenue and capital are taken into consideration. The main purpose of the cash
budget is to predict the receipts and payments in cash so that the firm will be able to find
out the cash balance at the end of the budget period. This will help the firm to know
whether there will be surplus cash or deficit at the end of the budget period. It will help
them to plan for either investing the surplus or raise the necessary amount to finance the
deficit. Cash Budget is prepared in various ways, but the most popular form of the same is
by the method of Receipt and Payment method.
3. Flexible Budgets: A flexible budget is a budget that is prepared for different levels of
capacity utilization. It can be called as a series of fixed budgets prepared for different levels
of activity. For example, a budget can be prepared for capacity utilization levels of 50%,
60%, 70%, 80%, 90% and 100%. The basic principle of a flexible budget is that if a budget
is prepared for showing the results at say, 15, 000 units and the actual production is only
12, 000 units, the comparison between the expenditures, budgeted and actual will not be
fair as the budget was prepared for 15, 000 units.
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Therefore a flexible budget is developed for a relevant range of production from 12, 000
units to 15, 000 units. Even if the production slips to 8, 000 units, the manager has a tool
that can be used to determine the budgeted cost at 9, 000 units of output. The flexible
budget thus, provides a reliable basis for comparisons because it is automatically geared to
changes in production activity. Thus a flexible budget covers a range of activity, it is flexible
i.e. easy to change with variation in production levels and it facilitates performance
measurement and evaluation.
While preparing a flexible budget, it is necessary to study the behavior of costs and divide
them in fixed, variable and semi-variable. After doing this, the costs can be estimated for a
given level of activity. It is also necessary to plan a range of activity. A firm may decide to
develop a flexible budget for activity level starting from 50% to 100% with an interval of
10% in between. It is necessary to estimate the costs and associate them with the chosen
level of activity. Finally the profit or loss at different levels of activity will be computed by
comparing the costs with the revenues.
Format of Cash Budget:

In thebooks of _____________________________
Cash Budget for ___________________________
Particulars January February March April
(A) Opening cash balance ------- ------- ------- -------
(B) Budgeted/ Estimated Cash receipts:
1. Cash Sales
2. Collection from Debtors/ Customers
3. Interest on Investment
4. Issue of shares/ Debentures
5. Call money on shares
6. Gift from --------
7. Bank loan
8. Temporary overdraft
9. Sale of assets
(C) Total Cash Balance Available (A + B)
(D) Budgeted/Estimated cash payments
1. Cash purchases
2. Payment to creditors/suppliers
3. Wages and salaries
4. Manufacturing expenses
5. Office and administration expenses
6. Selling expenses/ commission
7. Research expenses
8. Other expenses
9. Purchase of plant/ assets
10. Advance tax payment
11. Rent
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12. Dividend
13. Interest on loan/ Repayment
14. Drawings
15. Preliminary expenses
(D) Total
(E) Closing Balance (C-D) ------- ------- ------- -------
Illustration 1:
ABC Co. wished to arrange overdraft facilities with its bankers during the period April 2014
to June 2014 when it will be manufacturing mostly for the stock. Prepare a Cash Budget for
the above period from the following data, indicating the extent of the bank facilities the
company will require at the end of each month.
Particulars Sales Purchases Wages
February 2014 1, 80,000 1, 24,800 12, 000
March 1, 92,000 1, 44,000 14, 000
April 1, 08,000 2, 43,000 11, 000
May 1, 74,000 2, 46,000 10, 000
June 1, 26,000 2, 68,000 15, 000
Additional Information:
1. 50% of the credit sales are realized in the month following the sales and the remaining
50% in the second month following. Creditors are paid in the month following the month of
purchases. There are no cash sales or cash purchases
2. Cash at the bank [overdraft] estimated on 1st April 2019 is Rs.25, 000
Illustration 2:
A newly started company wishes to prepare Cash Budget from January. Prepare a cash
budget for the first six months from the following estimated revenue and expenses.
Month Total Sales Materials Wages Overheads
Production Selling &
Distribution
January 20,000 20,000 4,000 3,200 800
February 22,000 14,000 4,400 3,300 900
March 28,000 14,000 4,600 3,400 900
April 36,000 22,000 4,600 3,500 1,000
May 30,000 20,000 4,000 3,200 900
June 40,000 25,000 5,000 3,600 1,200
Cash balance on 1st January was Rs.10,000. New machinery is to be installed at Rs.20, 000
on credit, to be repaid by two equal installments in March and April; sales commission
@5% on total sales is to be paid within a month following actual sales.
Rs.10, 000 being the amount of 2nd call may be received in March. Share premium
amounting to Rs.2, 000 is also obtained with the 2nd call. Period of credit allowed by
suppliers — 2months; period of credit allowed to customers — 1month, delay in payment
of overheads 1 month. Delay in payment of wages for ½ month. Assume cash sales to be
50% of total sales.
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Illustration 3:
Summarized below are the Income and Expenditure forecasts for the month March-August,
2019
Month Credit Credit Wages Mfg. Office Selling
Sales Purchases Expenses Expenses Expenses
March 60,000 36,000 9,000 4,000 2,000 4,000
April 62,000 38,000 8,000 3,000 1,500 5,000
May 64,000 33,000 10,000 4,500 2,500 4,500
June 58,000 35,000 8,500 3,500 2,000 3,500
July 56,000 39,000 9,000 4,000 1,000 4,500
August 60,000 34,000 8,000 3,000 1,500 4,500
You are given the following further information
1. Plant costing Rs.16, 000 due for delivery in July. 10% on delivery and balance after
3months.
2. Advance tax Rs.8, 000 is payable in March and June
3. Period of credit allowed, Suppliers 2 months and customers 1 month
4. Lag in payment of manufacturing expenses and wages is a half month
5. Lag in payment of all other expenses one month
6. Cash balance on 1st May 2019 is Rs.8, 000
Prepare Cash Budget for three months starting from 1st May 2008
Illustration 4:
Prepare a Cash Budget in respect of six months from July to December from the following
information.
Month Sales Mat. Wages Production Admin Selling Dist. R&D
Rs.000 Rs.000 Rs.000 O/H O/H O/H O/H O/H
Rs.000 Rs. Rs Rs Rs
April 100 40 10.0 4.4 3,000 1,600 800 1,000
May 120 60 11.2 4.8 2,900 1,700 900 1,000
June 80 40 8.0 5.0 3,040 1,500 700 1,200
July 100 60 8.4 4.6 2,960 1,700 900 1,200
Aug. 120 70 9.2 5.2 3,020 1,900 1,100 1,400
Sept 140 80 10.0 5.4 3,080 2,000 1,200 1,400
Oct 160 90 10.4 5.8 3,120 2,050 1,250 1,600
Nov 180 100 10.8 6.0 3,140 2,150 1,350 1,600
Dec 200 110 11.6 6.4 3,200 2,300 1,500 1,600
The cash balance as on 1st July was expected Rs.1, 50, 000
Expected Capital Expenditure:
Plant and Machinery to be installed in August to a cost of Rs.40, 000 will be payable on
September 1st. The extension to the Research and Development Department amounting to
Rs.10,000 will be completed on August 1st, payable Rs.2, 000 per month from the date of
completion. Under a hire purchase agreement Rs.4, 000 is to be paid each month.
The Cash Sales of Rs.2, 000 per month are expected. No commission is payable. However a
commission of 5% on credit sales is to be paid within the month following the sale.
76
Period of credit allowed by suppliers 3 months, the credit allowed to customers 2 months,
delay in payment of overheads 1 month, wages are paid in the following month.
An income tax of Rs.1, 00, 000 is due to be paid on October 1st. A preference share dividend
of 10% on Rs.2, 00, 000 is payable on November 1st. 10% calls on the ordinary share
capital of Rs.4, 00, 000 is due on July 1st and September 1st.
The dividend from investments amounting to Rs.30, 000 is expected on November 1st.
Illustration 5:
Prepare a Cash Budget for the three months ending 30th June, 2014 from the information
given below: (a)
MONTH SALES MATERIALS WAGES OVERHEADS
February 14,000 9,600 3,000 1,700
March 15,000 9,000 3,000 1,900
April 16,000 9,200 3,200 2,000
May 17,000 10,000 3,600 2,200
June 18,000 10,400 4,000 2,300
(b) Credit terms are: Sales / Debtors: 10% of sales are on cash, 50% of the credit sales are
collected next month and the balance in the following month.
Creditors: Materials 2 months Wages 1/4 month Overheads 1/2 month.
(c) Cash and bank balance on 1st April, 2012 is expected to be Rs.6,000.
(d) Other relevant information is:
(i) Plant and machinery will be installed in February 2012 at a cost of Rs.96, 000. The
monthly installment of Rs.2, 000 is payable from April onwards.
(ii) Dividend @ 5% on the preference share capital of Rs.2, 00,000 will be paid on 1st June.
(iii) Advance to be received for sale of vehicles Rs.9, 000 in June.
(iv) Dividends from investments amounting to Rs.1, 000 are expected to be received in
June.
77
FORMAT OF FLEXIBLE BUDGET:

Particulars Level of Capacity
60% 80% 100%
A. Fixed Expenses
1. Management salaries
2. Rent and taxes
3. Sundry office expenses
4. Depreciation of machinery
Total (A)
B. Semi Variable Expenses:
1. Plant maintenance
2. Selling expenses
3. Distribution expenses
4. Indirect labour
5. Salesman salary
6. Sundry expenses
Total (B)
C. Variable Expenses:
1. Material
2. Labour
3. Direct expenses
4. Variable overheads
Total (C)
(D) Total (A+B+C)
Profit/Loss
Sales
Illustration 1: [Flexible Budget]

A factory engaged in manufacturing plastic toys is working at 40% capacity and produces
10,000 toys per month. The present cost breaks up for one toy is as under.
Material: Rs.10
Labor: Rs.3
Overheads: Rs.5 [60% fixed]
The selling price is Rs.20 per toy. If it is decided to work the factory at 50% capacity, the
selling price falls by 3%. At 90% capacity, the selling price falls by 5% accompanied by a
similar fall in the price of the material. You are required to prepare a statement showing
the profits/losses at 40%, 50% and 90% capacity utilization.
Illustration 2:
For the production of 10,000 units the following are budgeted expenses:
Per Unit
Direct Materials 48
Direct Labour 24
Variable Overheads 20
Fixed Overheads (Rs.1,20,000) 12
78
Variable Expenses (Direct) 4

Selling Expenses (10% fixed) 12
Administration Expenses (Rs.40,000 4
fixed)
Distribution Expenses (20% fixed) 4
128
Prepare a budget for the production of 7,000 units and 9,000 units.
Illustration 3:
Draw up a flexible budget for overhead expenses on the basis of the following data and
determine the overhead rates at 70%, 80% and 90%
Plant Capacity At 80% capacity

Variable Overheads:
Indirect labour 12,000
Stores including spares 4,000
Semi Variable:
Power (30% - Fixed: 70% -Variable) 20,000
Repairs (60%- Fixed: 40% -Variable) 2,000
Fixed Overheads:
Depreciation 11,000
Insurance 3,000
Salaries 10,000
Total overheads 62,000
Estimated Direct Labour Hours 1,24,000
Illustration 4:
The following data are available for a manufacturing company for a yearly period.
Particulars Rs. in Lakhs
FIXED EXPENSES: Wages and Salaries 9.5
Rent, Rates and Taxes 6.6
Depreciation 7.4
Sundry Administrative Expenses 6.5
SEMI-VARIABLE EXPENSES: Maintenance and Repairs 3.5
Indirect Labor 7.9
Sales Department’s Salaries 3.8
Sundry Administrative Expenses 2.8
Particulars Rs. in Lakhs

VARIABLE EXPENSES [ AT 50% CAPACITY]
Materials 21.7
Labor 20.4
Other Expenses 7.9
Total 98.0
79
Assume that the fixed expenses remain constant at all levels of production. Semi variable
expenses remain constant between 45% and 65% capacity, increasing by 10% between
65% and 80% capacity and by 20% between 80% and 100% capacity.
Sales at various levels are,
At 50% Rs.100 lakhs At 60% Rs.120 lakhs At 75% Rs.150 lakhs
At 90% Rs.180 lakhs At 100% Rs.200 lakhs
Prepare a flexible budget for the year at 60% and 90% capacity utilization and calculate the
profits/losses at those levels
Illustration 5:
The following information relates to the production activities of Goodwish Ltd for 3 months
ending on 31st December, 2014
Particulars Amount in Rupees
Fixed Expenses:
Management Salaries 2,10, 000
Rent and Taxes 1,40, 000
Depreciation of Machinery 1,75, 000
Sundry Office Expenses 2,22, 000
Total Fixed Expenses 7,47, 000
Semi – Variable Expenses at 50% capacity
Plant Maintenance 62, 500
Labor 2,47, 000
Salesmen’s salaries 72, 500
Sundry Expenses 65, 000
Total Semi-Variable Expenses 4,47, 000
Variable Expenses
Materials 6,00, 000
Labour 6,40, 000
Salesmen’s commission 95, 000
Total Variable Expenses 13,35, 000
It is further noted that semi-variable expenses remain constant between 40% and 70%
capacity, increase by 10% of the above figures between 70% and 85% capacity and
increase by 15% of the above figures between 85% and 100% capacity. Fixed expenses
remain constant whatever the level of activity may be. Sales at 60% capacity are Rs.25, 50,
000, at 80% capacity Rs.34, 00, 000 and at 100% capacity Rs.42, 50, 000.
Assuming that all items of produce are sold, prepare a Flexible Budget at 60%, 80% and
100% productive capacity.
Raw Material Purchase and Procurement Budget:
Illustration 1:
60% of P and 40% of Q are mixed to produce product ‘K’. budgeted loss is 10%. Expected
sales of product ‘K’ were 20000 units. Closing stock 20% desired of expected sales. Opening
stock 6000kgs. Closing stock of material desired 1/10 consumption and opening stock
80
1000kgs and 600kgs of P and Q respectively. Their budgeted prices were 200 per kg and 10
per kg. Find out budgeted purchases.
Illustration 2:
Budgeted sales of Product ‘X’ were 1200 units. It was desired to have a closing stock equal
to 25% of budgeted sales. The opening stock was 1000 units. Manufacturing of one unit of
Product ‘X’ requires 5 kgs of the material of ‘A’ and 3 kgs material of ‘B’. There budgeted
prices were Rs.20per kg and Rs.10per kg. 1/10 consumption was desired closing stock of
material. Opening stocks were 2000 and 150kgs of A and B respectively. Prepare Material
Consumption Budget.
Production Budget:
Illustration 1:
From the following information, you are required to prepare Production Budget of Rahul
Ltd. manufacturing three products namely P, Q and R.
Product Estimated stock at the Estimated stock at the Estimated sales as per
beginning of the end of the budget sales budget
budget period period
A 5000 units 6400 units 21600 units
B 4000 units 3850 units 19200 units
C 6000 units 7800 units 23100 units
Illustration 2:
A company manufactures two products, ‘A’ and ‘B’. Forecasts of the units to be produced
sold in the first seven months of the year is given below.
Product Jan Feb Mar Apr May Jun Jul
A 1000 1200 1600 2000 2400 2400 2000
B 2000 2800 2400 2000 1600 1600 1800
It is anticipated that-
a. There will be jo work in progress at the end of any month
b. Finished units equal to half the sale for the next month will be in stock at the end of
each month (including the previous December).
Budgeted production and production costs for the whole year are as follows:
Particulars Product ‘A’ Product ‘B’
Product (units) 22000 24000
Direct material per unit 12.50 19
Direct labor per unit 4.50 7
Total factory overheads 66000 96000
apportioned
Prepare for the six months period ending June-
a. The production budget for each month
b. A summarized production cost budget.
81
Standard Costing (Variance Analysis):
Meaning: Standard Costing is “the preparation and use of standard costs, their comparison
with actual cost and the analysis of variances to their causes and points of incidence”.
Advantages of Standard Costing:

(i) Standard Costing serves as a guide to the management in several management functions
while formulating prices and production policies etc.
(ii) More effective cost control is possible under standard costing if the same is reviewed
and analyzed at regular intervals for improvements and immediate action can be taken if
deviations from standards are found out which, ultimately, leads to cost reduction.
(iii) Analysis of variance and its measurement helps to detect inefficiencies and mistakes
which enable the management to investigate the reasons.
(iv) Since standard costs are predetermined costs they are very useful for planning and
budgeting. It also helps to estimate the effect of changes in Cost-Price-Volume relationship
which also helps the management for decision-making in the future.
(v) As the standard is fixed for each product, its components, materials, process operation
etc. it improves the overall production efficiency which also ultimately reduces cost and
thereby increases profit.
(vi) Once the Standard Costing System is implemented it will lead to saving cost since most
of the costing work can be eliminated.
(vii) Delegation of authority and responsibility becomes effective by setting up standards
for each cost center as the supervisors or executives of each cost center will know the
standard which they have to maintain.
(viii) This system also helps to prepare Profit and Loss Account promptly for a short period
in order to know the trend of the business which helps the management to take decisions
promptly.
(ix) Standard costing also is used for inventory valuation purposes. Stock can be valued at a
standard cost which can reduce the fluctuation of profit for different methods of valuation
for the same.
(x) The efficiency of labor is promoted.
(xi) This system creates cost-consciousness among all employees, executives and top
management which increase efficiency and productivity as well.
Disadvantages of Standard Costing:
(i) Since Standard Costing involves a high degree of technical skill, it is, therefore, costly.
(ii) The executives are liable for those variances that are found from actions which are
actually controllable by them. Thus, in order to fix up the responsibilities, it becomes
necessary to segregate variances into non-controllable and controllable portions although
that is not an easy task.
(iii) Standards are always changing since the conditions of the business are equally
changing. So, standards are to be revised in order to make them comparable with actual
results.
82
(iv) Standards are either too liberal or rigid since the same are based on average past
results, attainable good performance or theoretical maximum efficiency. So, if the
standards are very high, it will adversely affect the morale and motivation of the
employees.
Computation of Variances
Variance is the difference between the standard cost and the actual cost. In other words it
is the difference between what the cost should have been and what the actual cost is.
Element wise computation of variances is given in the following paragraphs.
A] Material Variances:
In the material variances, the main objective is to find out the difference between the
standard cost of material used for actual production and the actual cost of material used.
Thus the main variance in this category is the cost variance, which is thereafter broken
down into other variances.
I] Material Cost Variance: This variance shows the difference between the standard cost
of material consumed for actual production and the actual cost. It is computed as:
Material Cost Variance= Standard Cost of Material Consumed for Actual Production –
Actual Cost
If the actual cost of material consumed is less than the standard cost of material consumed,
the variance is ‘favorable’, otherwise it is adverse.
II] Material Price Variance: One of the reasons for the difference between the standard
material cost and actual material cost is the difference between the standard price and
actual price. Material Price Variance measures the difference between the standard price
and actual price with reference to the actual quantity consumed. The computation is as
shown below:
Material Price Variance= Actual Quantity [Standard Price – Actual Price]
III] Material Quantity [Usage] Variance: This variance measures the difference between
the standard quantity of material consumed for actual production and the actual quantity
consumed and the same is multiplied by standard price. The computation is as shown
below.
Material Quantity [Usage] Variance= Standard Price [Standard Quantity – Actual
Quantity]
The total of Price Variance and Quantity Variance is equal to Cost Variance
Material Cost Variance = Material Price Variance + Material Quantity Variance
Material Mix Variance: In the case of several products, two or more types of raw materials
are mixed to produce the final product. In such cases, the standard proportion of the
mixture is decided in advance. For example, in manufacturing one unit of product ‘P’,
material A and B may have to be mixed in a standard proportion of 3:2. This is called a
standard mix. However, when the actual production begins, the actual proportion of mix
may have to be changed due to several reasons like non-availability of a particular material
83
etc. In such cases material mix variance arises. The mix variance is computed in the
following manner.
Material Mix Variance = Standard Cost of Standard Mix – Standard Cost of Actual Mix
Material Yield Variance: In any manufacturing process, some unavoidable loss always
takes place. Thus if the input is 100, output maybe 95, 5 units being a normal or
unavoidable loss. The normal loss is always anticipated and taken into consideration while
determining the standard quantity. Yield variance arises when the actual loss is more or
less than the normal loss. The computation of yield variance is as given below.
Material Yield Variance = SYR [Actual Yield – Standard Yield]
SYR = Standard Yield Rate, i.e. standard cost per unit of standard output.
Reconciliation: Quantity Variance = Mix Variance + Yield Variance.
Illustration 1:
Calculate Material Variances from the following details.
The standard quantity of materials for producing 1 unit of finished product ‘P’ is 5 kg. The
standard price is Rs.6 per kg. During a particular period, 500 units of ‘P’ were produced.
Actual material consumed was 2700 kg at a cost of Rs.16, 200.
Illustration 2:
Calculate Material Price and Mix variance from the following
Standard Actual
Material A – 20 kg @ Rs.5 20 kg @ Rs.6
Material B – 30 kg @ Rs.4 20 kg @ Rs.3
Material C – 50 kg @ Rs.6 60 kg @ Rs.5
Total – 100 kg Total – 100 kg
Illustration 3:
The standard mix to produce one unit of product is as follows:
Material A: 60 units @ Rs.15 per unit = 900
Material B: 80 units @ Rs.20 per unit = 1,600
Material C: 100 units @ Rs.25 per unit = 2,500
240 units 5,000
During the month of July, 10 units were actually produced & consumption was as follows:
Material A: 640 units @ Rs.17.50 per unit = 11,200
Material B: 950 units @ Rs.18.00 per unit = 17,100
Material C: 870 units @ Rs.27.50 per unit = 23,925
2460 units 52,225
Calculate all material variances
Illustration 4:
The standard material cost to produce a ton of chemical X is given below:
300 kg of material A @ Rs.10 per kg 400 kg of material B @ Rs.5 per kg
500 kg of material C @ Rs.6 per kg
During a particular period, 100 tons of mixture X was produced from the usage of
84
35,000 kg of material A @ Rs.9 per ton 42,000 kg of material B @ Rs.6 per ton
53,000 kg of material C @ Rs.7 per ton
Calculate material cost, price, and usage and mix variances.
Illustration 5:
Calculate all material varinces
Material Standard Actual
Qty. Price Total Qty. Price Total
A 500 6 3000 400 6 2400
B 400 3.75 1500 500 3.60 1800
C 300 3 900 400 2.80 1120
Total 1200 1300
Less: 10% Normal Loss 120 220
actual
loss
1080 5400 1080 5320
ASSIGNMENT:
Illustration 1:
S.V. Ltd. manufactures a single product, the standard mixes of which are as follows:
Material A 60% at Rs.20 per kg Material B 40% at Rs.10 per kg
Normal loss in the production is 20% of input. Due to the shortage of material A, the
standard mix was changed and the actual mix was as follows:
Material A 105 kg at Rs.20 per kg
Material B 95 kg at Rs.9 per kg
The actual loss was 35 kg, while the actual output was 165 kg. Calculate all material
variances.
[B] Labour Variances:
Like the material variances, labor variances arise due to the difference between the
standard labor cost for actual production and the actual labor cost. The following variances
are computed in case of direct labor.
I] Labour Cost Variance: This variance is the main variance in case of labor and arises due
to the difference between the standard labor cost for actual production and the actual labor
cost. The computation of this variance is.
Labour Cost Variance = Standard Labour Cost for Actual Production – Actual Labour Cost
This variance will be favorable is the actual labor cost is less than the standard labor cost
and adverse if the actual labor cost is more than the standard labor cost.
II] Labour Rate Variance: One of the reasons for labor cost variance is the difference
between the standard rate of wages and actual wages rate. The labor rate variance
indicates the difference between the standard labor rate and the actual labor rate paid. The
computation is
Labour Rate Variance: Actual Hours Paid [Standard Rate – Actual Rate]
85
This variance will be favorable if the actual rate paid is less than the standard rate. The
labor rate variance is that portion of direct labor cost variance, which is due to the
difference between the labor rates.
III] Labour Efficiency Variance: It is of paramount importance that the efficiency of labor
is measured. For doing this, the actual time taken by the workers should be compared with
the standard time allowed for the job. The standard time allowed for a particular job is
decided with the help of time and motion study. The efficiency variance is computed as:
Labour Efficiency Variance = Standard Rate [Standard Hours for Actual Output – Actual
Hours worked]
This variance will be favorable is the actual time taken is less than the standard time.
IV] Labour Mix Variance or Gang Composition Variance: This variance is similar to the
material mix variance and is computed in the same manner. In doing a particular job, there
may be a particular combination of the labor force, which may consist of skilled, semi-
skilled and unskilled workers. However due to some practical difficulties, this composition
may have to be changed. How much is the loss caused due to this change or how much is
the gain due to this change is indicated by this variance. The computation is:
Labour Mix Variance = Standard Cost of Standard Mix – Standard Cost of Actual Mix.
V] Labour Yield Variance: This variance indicates the difference between the actual
output and the standard output based on actual hours. In other words, a comparison is
made between the actual production achieved and the production that should have been
achieved in the actual number of working hours. The variance will be favorable is the actual
output achieved is more than the standard output. The computation is done in the
following manner.
Labour Yield Variance = Average Standard Wage Rate Per Unit [Actual Output – Standard
Output]
VI] Idle Time Variance: This variance indicates the loss caused due to abnormal idle time.
While fixing the standard time, normal idle time is taken into consideration. However if the
actual idle time is more than the standard/normal idle time, it is called as abnormal idle
time.
Idle Time Variance = Abnormal Idle Time X Standard Rate.
Illustration 1:
From the given information calculate:
Labour cost variance, Labour rate variance, labour efficiency variance, Idle time variance.
Standard hours= 4000
Actual Hours= 5000
Standard rate= Rs.3 per hour
Actual rate= Rs.2.50 per hour
Machinery breakdown= 200 hours
Illustration 2:
Standard hours for manufacturing two products, M and N are 15 hours per unit and 20
hours per unit respectively. Both products require an identical kind of labor and the
standard wage rate per hour is Rs.5. In a particular year, 10, 000 units of M and 15, 000
units of N were produced. The total labor hours worked were 4, 50, 000 and the actual
86
wage bill came to Rs.23, 00,000. This includes 12, 000 hours paid for @ Rs.7 per hour and
9400 hours paid for @ Rs.7.50 per hour, the balance having been paid at Rs.5 per hour. You
are required to calculate labor variances. [ICWAI Inter]
Illustration 3:
The standard output of production EXE is 25 units per hour in the manufacturing
department of a company employing 100 workers. The standard wage rate per labor hour
is Rs.6.
In a 42 hours week, the department produced 1040 units of the product despite 5% of the
time paid were lost due to an abnormal reason. The hourly wage rate actually paid was
Rs.6.20, Rs.6 and Rs.5.70 respectively to 10, 30 and 60 of the workers. Compute various
relevant labor variances.
Illustration 4:
The standard cost card for a product shows,
Material cost 2 kg @ Rs.2.50 each = Rs.5.00 per unit Labour 2 hours @ Rs.10 each = Rs.20
per unit. The actual which have emerged from business operations are as follows.
Production – 8,000 units, material consumed – 16,500 kg @ Rs.2.40 each = Rs.39, 600
Wages paid 18,000 hours @ Rs.8 each = Rs.1, 44, 000
Calculate appropriate material and labour variances.
87

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MANAGERIAL ACCOUNTING

STUDY NOTES FOR

101: MANAGERIAL ACCOUNTING

B. Recommended Reference Book:

C. Comprehensive Concurrent Evaluation (CCE):

D. Relation of Learnings with Placement Profiles:

Generic Core Courses (Compulsory) – Semester I

1. Basic Concepts: Forms of Business Organization. Meaning and Importance of

2. Financial Statements: Meaning of Financial Statements, Importance and Objectives of

3. Cost Accounting: Basic Concepts of Cost Accounting, Objectives, Importance and

4. Short Term Business Decision Techniques – Marginal Costing: Meaning, Principles,

5. Exercising Control – Budgetary Control & Standard Costing: Budgetary Control:

Note: Numerical Problems will be asked on the following –

Suggested Text Books:

Suggested Reference Books:

ASSESSMENT: CONTINUOUS CONCURRENT EVALUATION

CO# Cognitive Abilities Course Outcomes Assessment

Managerial Accounting (101)

Course Cognitive Attainment Level

Managerial Accounting (101)

UNIT 1: BASIC CONCEPTS

• A business organization is an individual or group of people that collaborate to

Forms of Business Organizations:

Merits of Sole Proprietorship:

5. Inexpensive Management: The management of proprietorship is inexpensive, as the

Demerits of Sole Proprietorship:

2. Contractual Relationship: Partnership is formed by an agreement-oral or written-among

5. Principal-Agent Relationship: The partnership firm may be carried on by all partners or

7. Voluntary Registration: Registration of partnership firm is not compulsory

• Particular partnership: A particular partnership is formed for undertaking a

Merits of Partnership Firm:

1. Ease in formation: Partnership is a contractual agreement between the partners to run an

6. Benefits of Specialization: Division of labor can be introduced which increases the

Demerits of Partnership Firm:

6. Difficulties of expansion: As financial resources of a

7. Lack of institutional confidence: As there is

3. Joint Hindu Family Business

Merits of Joint Hindu Family Business:

2. Freedom in managing: The management of Joint Hindu Family Business is centralized in

Demerits of Joint Hindu Family Business:

3. Misuse of power by Karta: The management of a Joint Hindu Family Business is

• It is a voluntary association of persons to carry on a business that has a separate

• It is an association of persons who generally contribute money for some common

7. Membership: In case of private company minimum members should be two and

more adventurous management benefits of specialization and bold management can be

2. Lack of secrecy: A Joint-stock company has an obligation to disclose the accounts to an

4. Speculation of share: There is the possibility of speculation of share in a joint-stock

Accounting is defined as “the art of recording, classifying and summarizing in terms of

Accounting covers the following activities:

• Identifying the transactions and events of a specific entity

1. Helps in evaluating the performance of the business – The accounting records

Capital and Revenue Expenditure:

BASIS FOR CAPITAL EXPENDITURE REVENUE EXPENDITURE

Capital and Revenue Receipts:

End-users of accounting information:

Regulatory Authorities: for ensuring that the company's disclosure of accounting

Research Scholars: Accounting information, being a mirror of the financial performance of a

accounting information to analyses a company’s profitability, liquidity and financial

Accounting Concepts & Conventions:

1. Separate Entity Concept

a. Accounts should be maintained on an accrual basis

Example: 1st April to 31st of March is the general accounting year.

The following are the conservative practices adopted in accountancy: