2 Contents COURSE MANUAL. Cost Accounting AC303. Modibbo Adama University of Technology Open and Distance Learning Course Development Series

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2 2 Contents COURSE MAUAL Cost Accounting AC303 Modibbo Adama University of Technology Open and Distance Learning Course Development Series

3 2017 Academic Collective. All rights reserved. o part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior permission of the copyright owner Academic Collective. Institution: mail@cdl.mautech.edu.ng Website:

4 4 Contents Course Development Team Credits All illustrations (photos and charts) used are sourced from except otherwise indicated. Credits / source are properly placed by the image.

5 Cost Accounting Contents Course Development Team 4 Credits 4 List of Figures... 1 About this Course Manual 2 How this Course Manual is structured... 2 Course overview 5 Welcome to Cost Accounting AC Cost Accounting AC303 is this course for you?... 5 Course outcomes... 6 Study Skills... 6 Timeframe... 6 eed help?... 7 Academic Support... 7 Assessments... 7 Study Session 1 8 Process Costing... 8 Introduction Defining Process Costing Process Losses and Wastages Accounting Treatment Of ormal And Abnormal Process Losses Opening Work In Progress Session Review Assessment Resources Study Session 2 22 Cost Ledger Account Introduction Interlocking System of Accounts Integrated System of Accounts Method of Reconciliation... 40

6 ii Contents Session Review Assessment Resources Study Session 3 51 Absorption and Marginal Costing Introduction Defining Absorption and Marginal Costing Difference In Profit Under Marginal And Absorption Costing Session Review Assessment Resources Study Session 4 67 Cost-Volume-Profit Analysis Introduction Break-Even Analysis Methods of Break-Even Analysis Session Review Assessment Resources Study Session 5 84 Budgets and Budgetary Control Introduction Concept Of Budget And Budgetary Control Functional Budget Session Review Assessment Resources Study Session 6 97 Standard Costing Introduction Defining Standard Cost Types of Standards Variance Analysis

7 Session Review Assessment Resources Feedback to SAQ Items 119 Glossary of Terms 124 References 125

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9 AC303 Cost Accounting List of Figures Figure 4.1: Break-Even Chart For Illustration One 79 Figure 4.2: Contribution Chart for Illustration One 80 Figure 4.3: Profit Volume Graph 81 Figure 6.1: Variance Analysis Chart 101 1

10 About this Course Manual About this Course Manual Cost Accounting AC303 is provided to you by MAUTECH-CDL, AS IS. Module is adapted to ODL format under the Academic Collective by EDUTECHportal.org. How this Course Manual is structured Course overview The course overview gives you a general introduction to the course. Information contained in the course overview will help you determine: If the course is suitable for you. What you can expect from the course. How much time you will need to invest to complete the course. Where to get help. Course assessments. We strongly recommend that you read the overview carefully before starting your study. The course content The course is broken down into Study Sessions. Each Study Session comprises: An introduction to the Study Session content. Learning outcomes. Study Session preview. ew terminology. Structured content of the study session with a variety of focus articles, learning activities and learning devices. Study Session review. Self Assessments. Resources for further studying. 2

11 AC303 Cost Accounting Your comments After completing Cost Accounting we would appreciate it if you would take a few moments to give us your feedback on any aspect of this course. Your feedback might include comments on: Course content and structure. Course reading materials and resources. Course assessments. Course duration. Your constructive feedback will help us to improve and enhance this course. You can forward your comments to feedback.mautech@edutechportal.org 3

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13 AC303 Cost Accounting Welcome to Cost Accounting AC303 Course overview This course examines the concepts and procedures underlying the development of a cost accounting system for managerial decisions, control, and performance reporting. Topics include cost measurement and cost control; cost-volume-profit analysis; job costing; activity-based costing; tools for planning and control; master budgeting and responsibility accounting; flexible budgeting and variance analysis; management control systems; cost information for decision making; relevant information; pricing decisions; cost management; strategic profitability analysis; cost allocation and revenues; measurement and control of overhead costs; and revenues and sales variances. This course manual supplements and complements a blend of resources & platforms: AC303 Audiobook available via Audio Resources Library app on your official mobile device and accessible online at: AC303 Courseware available in your course pack as a disk, it is also downloadable from your course website: Schoolboard offers a multi-channel platform for you to discuss with content experts and other learners from across the nation and the globe at large. You may also use the platform to enrich your learning with engaging webinars, articulate presentations, smart puzzles, audiobooks, podcasts, interactive gloassaries, smart quizzes, case studies and discussions. Schoolboard comes with updates and is accessible on web and on app. It is also linkable from your course CD. Cost Accounting AC303 is this course for you? This course is an introduction to Cost Accounting as a Management tool. Emphasis will be placed upon the application of cost accounting theory in the solution of problems and case studies. Introduction to Accounting is a prerequisite to the course. 5

14 About this Course Manual Course outcomes Upon completion of Cost Accounting AC303, you will be able to: explain the terminology, basic concepts and principles of cost accounting. prepare cost of goods manufactured statement. analyze transactions and prepare accounting entries for job costing and process costing. apply cost accounting theory to problem solving. discuss options in strategic decision-making by applying management accounting concepts. Study Skills Being a self-learner has become increasingly feasible due to Open and Distance Learning (ODL) Systems. Studying a course or obtaining a certificate for career advancement can occur from the comfort of your home, on your own time, and at your own pace. You can be a successful higher education student by self learning, it isn't magic! But it does require desire, dedication and a lot of work. Active listening to your audiobook, desktop publishing on your laptops, reading comprehension in your course manual, notetaking in the white margins, stress management, time management, assessment taking, and memorization are study skills required for a self learner. If you really want to learn how to become a successful student, then you should explore the links that follow: Timeframe This is a 15 week course. It requires a formal study time of 12 hours. We recommend you take an average of one to two hours for an extra personal study on each Study Session. You can also benefit from online discussions with your course tutor. 6

15 AC303 Cost Accounting eed help? You may contact via any of the following channels for information, learning resources and library services. CDL Student Support Desk For technical issues (computer problems, web access, and etcetera), please visit: or send mail to Academic Support A course facilitator is commissioned for this course. You have also been assigned an academic tutor to provide learning support. See contacts of your course facilitator and academic advisor at the course website: Assessments Generally, there are two types of assessment: formative assessment and summative assessment. With regards to your formative assessment, there are three basic forms of assessment in the course: in-text questions (SELF-CHECKs), self assessment questions (SAQs), and tutor marked assessment (TMAs). This manual provides you with SELF-CHECKs and SAQs. Feedbacks to the SELF-CHECKs are placed immediately after the questions, while the feedbacks to SAQs are at the rear of manual. You will receive your TMAs as assignments at the MAUTECH schoolboard platform. Some of your TMAs will be graded and will constitute 30 percent of your course marks. Feedbacks to TMAs will be provided by your tutor in not more than 2 weeks after entries. Your summative assessment is your final examination. AC303 exam is in multiple choice / essay format; and it carries 70 percent of your total earning in the course. Schedule dates for submitting assignments and engaging in course activities is available on the course website. 7

16 Study Session 1 Process Costing Study Session 1 In this study session, we will be looking at process costing. We will begin by explaining what process costing is all about. Thereafter, we will highlight its different processes. Likewise, we will discuss process losses and wastages. As such, we will examine the normal and abnormal process loss. In the same vein, we will describe the accounting treatment of normal and abnormal process losses. We will end the session by looking at how to open work-in-progress. Learning Outcomes When you have studied this session, you should be able to: 1.1 define process costing 1.2 describe process losses and wastages 1.3 explain the accounting treatments of normal and abnormal process losses 1.4 illustrate how to open a work-in-progress Process Costing Defining Process Costing Process Losses and Wastages Accounting Treatment of ormal and Abnormal Process Losses Opening Work in Progress This Study Session requires a one hour of formal study time. You may spend an additional two hours for revision. 8

17 AC303 Cost Accounting Terminologies is a costing method where manufacturing activities are continuous and the units of output are substantially uniform. A system of process costing is employed in mass production industries where like units usually pass through a series of production stages, which are called, processes, for example, the chemical, cement, oil, paint, textile, food processing, soap making, etc. Raw materials move down the production line through a number of processes in a particular sequence and are compiled for each process or department by preparing a separate for each process. The essential stages in process costing procedure are: 1. The factory is divided into a number of processes and an account is maintained for each process. 2. Each process account is debited with material cost, labour cost, direct expenses and overheads allocated or apportioned to the process. 3. The output of a process is transferred to the next process in the sequence. In other words, the finished output of one process becomes the input of the next process. 4. The finished output of the lost process (i.e. the final product) is transferred to the finished goods account. Illustration 1 A product passes through three distinct processes to completion. These processes are numbered respectively, 1, 2 and 3. During the week ended 31 st January 1000 units are produced. The following information in obtaining: Process 1 Process 2 Process 3 Materials 6,000 3,000 2,000 Labour 5,000 4,000 5,000 Direct expenses 1,000 2,000 1,000 9

18 Study Session 1 Process Costing The overhead for the period were 2,800 apportioned to the processes on the basis of labour cost. You are required to purpose process accounts showing total cost and cost per unit. Solution Process 1 Account Materials Labour Direct expenses Overheads Per unit () Total () 6,000 5,000 1,000 1, ,000 Output transferred to process 2 Per unit () Total () 13,000 13, * Overhead = = 1,000 Process 2 Account Transfer From process 1 Materials Labour Direct expenses Overhead Per unit () Total () 13,000 3,000 4, ,000 Output transferred to process 3 Per unit () Total () 21,000 21,000 Process 3 Account Transfer from Process 2 Materials Labour Direct expenses Overheads Per unit () Total () 21,000 2,000 5,000 1,000 1,000 30,000 Output transferred to finished stock Per unit () Total () 30,000 30,000 Finished Stock Account From process 3 Per unit () 1,000 Total () 30,000 In industries, which employ process costing, a certain amount of loss account of loss occurs at various stages of production. It is easy, for example, to observe that the weight or volume or 10

19 AC303 Cost Accounting quantity of units produced is less than the weight or volume or quantity of material input. Such a loss may arise due to chemical reaction, evaporation, use of inferior material, shrinkage, inefficiencies, etc. It, therefore, becomes very important to keep accurate records of both input and output. Process losses may be classified into: 1. ormal loss 2. Abnormal loss Certain losses are inherent in the production process and cannot be eliminated. For example, liquids may evaporate, part of cloth cut to make a suit may be lost, and losses occur in cutting wood to make furniture. These losses occur under efficient operating conditions and are referred to as normal or uncontrollable losses. In addition to losses that cannot be avoided, there are some losses that are not expected to occur under efficient operating conditions. For example the improper mixing of ingredients, the use of inferior materials and incorrect cutting of cloth. These losses are not an inherent part of the production process and are referred to as abnormal or controllable losses. ormal and abnormal losses require a different accounting treatment. ormal losses are absorbed by the completed good production whereas abnormal losses are not included in the process costs but are removed from the appropriate process account and reported separately as an abnormal loss. This is normally determined from experience as a percentage of input. When such a loss is not physically present, then it cannot have any value. However, when normal loss happens to be physically present in the form of scrap, then it may have some value, i.e. it may be sold at some little price. Whenever scrapped material has any value, it is credited to the process account. Unlike normal loss, the abnormal loss is not absorbed by good production; rather it is transferred to costing profit and loss account. The following procedure is adopted for the treatment of abnormal loss. 1. ormal losses are treated in the manner described above 11

20 Study Session 1 Process Costing 2. Upon consideration of normal loss, determine the cost per unit in that process using the formulae below. 3. Illustration 2 Cost Per Unit Total Cost - Value Units introduced - Units of ormal (if any) of normal loss 4. The value of the abnormal loss is computed by multiplying the cost per unit (calculated above) by the number of units of abnormal loss. 5. Credit the relevant process account with the quantity and value of the abnormal loss. 6. The balance figure in the process account is the cost of units produced in the process this can also determine by simply multiplying the cost per unit with the number of good units produced. 7. Open Abnormal Loss Account and debit it with the quantity and value of abnormal shown in the Process Account. Sale proceeds from abnormal loss (scrap) are credited to Abnormal Loss Account. Any balance left in this account is a net loss and transferred to costing profit and loss account. Fifty units are introduced into a process at a cost of Ten aira each. The total additional expenditure incurred by the process is 300 of the units introduced, 10% are normally spoiled in the course of manufacture, and these possess a scrap value of 2.50 each. Owing to an accident, only 40 units are produced. You are required to prepare: 1. Process Account, and 2. Abnormal Loss Account Solution Process Account Units Units Materials ormal loss Expenses 300 Abnormal loss Transfer to next process Cost Per Unit = = Total Cost - Value Input - ormal of ormal (if any) loss (in units) 12

21 AC303 Cost Accounting Abnormal Loss Account Units Units Process A/C Sale profit and loss A/C Abnormal Gain On certain occasions, the actual loss in a process may be less than the normal loss, in which case a gain is obtained which is termed as Abnormal gain. The value of the gain is calculated in the same way as the abnormal loss. It is shown on the debit side of the Process Account and credit side of the Abnormal Gain Account. The resulting gain is credited to profit and loss account. Illustration 3 Using the figures of illustration 2 except that output is 47 units, shows how the process account will be prepared. Also, prepare Abnormal Gain Account. Solution When the normal output is 45 units and actual output is 47 units, there is an abnormal gain of 2 units. Or Abnormal gain = ormal (expected) loss Actual Loss ormal loss = 50 10% = 5 units Actual loss = = 3 units Abnormal Gain = 5 3 = 2 units Process Account Units Units Materials Expenses 300 ormal loss Abnormal Gain 2 35 ext process units 50 5 = =

22 . Study Session 1 Process Costing Abnormal Gain Account Units Units ormal loss A/C (short fall in sale of normal loss) Profit & Loss A/C Process A/C Illustration 4 A product passes through three processes A, B and C. The normal process of each process is as follows; Process A 3%, Process B 5% and Process C 8%. Wastage of process A was sold at 25kobo per unit, that of Process B at 50kobo per unit and that of Process C at 1 per unit. 10,000 units were issued to process A in the beginning of October 2007 at a cost of 1 per unit. The other expenses were as follows: Process A () Process B () Process C () Sundry materials 1,000 1, Labour 5,000 8,000 6,500 Direct expenses 1,050 1,188 2,009 Actual output 9,500 units 9,100 units 8,100 units Prepare the Process Accounts, assuming that there were no openings or closing stock. Also, give the abnormal loss and abnormal gain accounts. Materials Sundry materials Labour Direct Expenses Units 10,000 10,000 10,000 1,000 5,000 1,050 17,050 Process A Account ormal loss Abnormal loss Transfer to process B Units ,500 10, * 16,625 17,050 Value of abnormal loss 17, , units From process A Sundry materials Labour Abnormal gain Units 9, ,575 16,625 1,500 1, * 27,538 Process B Account * Abnormal Gain 27, units 225 9, ormal loss Transfer to process C Units 475 9,100 9, ,300 27,538 14

23 AC303 Cost Accounting Units Process C Account Units From process B 9,100 27,300 ormal loss Sundry materials 500 (8% of 9,100) Labour 6,500 Abnormal loss * Direct expenses 9,100 2,009 36,309 Finished goods 8,100 9,100 34,425 36,309 * Abnormal Gain 36, units 1,156 9, Abnormal Loss Account Process A Process C Units ,506 Sales of scrap Process 25K Process 1 Profit & Loss A/C Units ,506 ormal loss (shortfall in the sale of normal 50K per unit) Profit & Loss A/C Abnormal Gain Account Units Process B Units Equivalent Production During a particular period, in measuring units produced, allowance is allowed for partly processed units i.e. work-in-progress. For example, if 50,000 units are fully processed with 20,000 units partly processed. If the 20,000 units partly completed were 40% complete, we could express this as an equivalent production of 58,000 fully completed units i.e. 50,000 units + 20,000 40% = 50, ,000 units = 58,000 units Opening and Closing Work-in-progress In our attempt to simplify the introduction of a process costing system, we have initially ignored the problem of opening and closing work-in-progress. When opening and closing stocks of work-inprogress exists, unit costs cannot be computed by simply dividing the total cost by the number of units still in process. For example, if 8,000 units were started and completed during a period and another 15

24 Study Session 1 Process Costing 2,000 units were partly completed then these two items cannot be added together to ascertain the units cost. We must convert the work-in-progress into finished equivalents earlier referred to as equivalent production so that the unit cost can be obtained. To do this, we must estimate the percentage degree of completion of the work-in-progress and multiply this by the number of units in progress at the end of the period. If for instance, the 2,000 partly completed units were 50% complete, we could express this as an equivalent production of 1,000 fully completed units. This would then be added to the completed production of 8,000 units to give a total equivalent production of 9,000 units. The cost per unit can then be calculated in the normal way. For example, if the cost for the period were 18,000 then the cost per unit completed would be 2, and the distribution of cost would be as follows; Completed units transferred to next process 2) = 16,000 Work-in-progress (1,000 equivalent 2) = 2,000 = 18,000 Furthermore, a complication may arise concerning equivalent units such that in any given stock of work-in-progress not all of the element that makes up the total cost may have reached the same degree of completion. For example, materials may be 70% partially complete, while labour and overheads may only be 60% and 55% partially complete respectively. Where such situation arises, separate equivalent production calculations must be made for each element of cost. Illustration 5 In a given period, production and cost data were as follows: Materials 5,115 Labour 3,952 Overheads 3,000 12,067 Production was 1400 fully complete units and 200 partly complete. The degree of completion of the 200 units WIP was as follows: - Materials 75% Complete Labour 60% Complete Overheads 50% Complete Calculate the total equivalent production, the cost per complete unit and the value of the WIP. Cost element Equivalent unit in WIP Fully complete unit Total effective production Total cost () Cost per unit Material % = ,400 = 1,550 5, Labour % = ,400 = 1,550 3, Overheads % = ,400 = 1,550 3, , Total cost of complete units = 1, = 11, From the table it will be seen that the cost of a complete unit =

25 AC303 Cost Accounting 3. Value of WIP = Total cost Value of complete production OR = 12,067 11,060 = 1,007 Material = = 495 Labour = = 312 Overhead = = ,007 When opening stocks of work in progress exist, an assumption must be made regarding the allocation of this opening stock to the current accounting period to determine the unit cost for the period. Two alternative assumptions are possible. First, one may assume that opening work in progress is inextricably merged with the units introduced in the current period and can no longer be identified separately the weighted average method. Secondly, one may assume that the opening work in progress is the first group of units to be processed and completely during the current month the first in first out method. Using this method it is assumed that the first work done in a period is the completion of the opening WIP. The effect of this is that the closing WIP is valued at current period cost and part of the previous period s costs brought forward in the opening WIP valuation is attached to the cost of completed units. Weighted average method of valuation using the method on average unit cost is calculated using the total of the opening WIP valuation plus the current period costs. The effect of this is that both closing WIP and completed units are valued using the same average unit cost. Illustration 6 Process 2 receives units from process 1 and after carrying out work on the units transfers them to process 3. For one accounting period the relevant data were as follows: Opening WIP 200 units (25% complete) valued 2, units received from process 1 valued 4, units were transferred to process 3 Closing WIP 160 units (50% complete) The costs for the period were 16,580 and no units were scrapped It is required to prepare the process accounts for process 2 using. 1. The FIFO method of valuation 2. The weighted average method of valuation. 17

26 Study Session 1 Process Costing Solution Calculation of effective units of production Units Completed units transferred out 840 Add: Equivalent in closing WIP (160 50%) Less: Equivalent in opening WIP (200 20%) 50 Effective production for period 870 Period cost per unit Total cost for period Effective production for period 4,300 16,580 = WIP valuation % 24 = 1,920 Process 2 Account Opening WIP b/f From process 1 Process costs Units ,000 2,500 4,300 16,580 23,380 Transfer to process 3 Closing WIP Units , ,460* 1,920 23, units = 790 units 24 = 18,960 Opening WIP = 50 units = 2,500 21,460 Effective production for period 840 Add: Equivalent in opening WIP (160 50%) ,300 16,580 2,500 Average cost per unit 920 =

27 . AC303 Cost Accounting Process 2 Account Opening WIP From process 1 Process costs Units ,000 2,500 4,300 16,580 23,380 Transfer to process 3 Closing WIP Units ,000 21,347* 2,033-23,380 Self-Assessment Exercise 1. What are the basic differences between job order and process cost system? 2. Define ormal loss, Abnormal process losses and Abnormal gain explaining the possible causes. How are these dealt with in the cost accounts? 3. What is equivalent production? How is it computed? 4. Gongola Perfume Manufacturing Company turns out the product by processing liquid ingredient in two different processes i.e. A&B. The following details are given for the month ended April 30 th, Process A Input: Material AY 12, per litre Material BY 8, per litre Processing labour: per litre ormal loss: 10% of input volume The output was 18,400 litres and it becomes input for process B. Scrap was sold at 50K per litre. There was no work in progress at the beginning or end of the month. Process B Introduced: Material: CY 13, per litre DY 8, per litre Scent vapour Processing labour per hour ormal loss: 10% of input volume. The output was 32,000 litres and it was transferred to bottling department. There was work in progress at the beginning of the month but 4,000 litres were in process at the end. Ending work in process was estimated to be 80% complete so as to labour and 60% complete so as to overhead. B: Overhead 8,000 incurred by the 2 processes were absorbed on the basis of processing labour hours. 19

28 Study Session 1 Process Costing Required From the information given above, prepare the necessary accounts and statements. Under this section, we explained that Process costing is a costing method where manufacturing activities are continuous and the units of output are substantially uniform. We also explained that a system of process costing is employed in mass production industries where like units usually pass through a series of production stages, which are called, processes. We pointed-out under this section that certain losses are inherent in the production process and cannot be eliminated, these losses occur under efficient operating conditions and are referred to as normal or uncontrollable losses. We also explained that in addition to losses that cannot be avoided, there are some losses that are not expected to occur under efficient operating conditions. These losses are not an inherent part of the production process and are referred to as abnormal or controllable losses. We explained that normal and abnormal losses require a different accounting treatment. ormal losses are absorbed by the completed good production whereas abnormal losses are not included in the process costs but are removed from the appropriate process account and reported separately as an abnormal loss. We noted that when opening stocks of work in progress exist, an assumption must be made regarding the allocation of this opening stock to the current accounting period to determine the unit cost for the period. Two alternative assumptions are possible. First, one may assume that opening work in progress is inextricably merged with the units introduced in the current period and can no longer be identified separately the weighted average method. Secondly, one may assume that the opening work in progress is the first group of units to be processed and completely during the current month the first in first out method. What is the accounting treatment of normal and abnormal process? In your own words describe the concept of equivalent unit with an example. 20

29 AC303 Cost Accounting Production was 1400 fully complete units and 200 partly complete. The degree of completion of the 200 units WIP was as follows: In a given period, production and cost data were as follows: Materials 8000 Labour 4000 Overheads 2,000 Materials Labour Overheads 14,000 50% Complete 40% Complete 60% Complete Calculate the total equivalent production, the cost per complete unit and the value of the WIP. Articulate Presentation This is a complimentary resource to facilitate the quick delivery of this session. It is available in your course pack (Schoolboard disc / online page) and also linked here. Schoolboard Access your schoolboard app, or visit to access updated online activities and resources related to the units of this Study Session. 21

30 Study Session 2 Cost Ledger Account Study Session 2 In this study session, we will be discussing the cost ledger account. We will begin by explaining interlocking systems of accounting. We will also look at the records and integrated system of accounting. Moving on, we will describe reconciliation of cost and financial accounts profit. Thereafter, we will highlight the different reasons for disagreement in profit and loss account. Learning Outcomes When you have studied this session, you should be able to: 2.1 describe an interlocking system of account 2.2 discuss integrated systems of accounts 2.3 highlight different method of reconciliation Cost Ledger Account Interlocking Sytem of Accounting Integrated System of Accounting Methods of Reconcilition This Study Session requires a one hour of formal study time. You may spend an additional two hours for revision. 22

31 AC303 Cost Accounting Terminologies The term interlocking accounts is an accounting system in which the cost accounting unit is maintained separately from the financial accounting unit. The implication of this is that separate ledgers are maintained for the cost accounting system and the financial accounting system. Using an interlocking system of accounts, the basic accounting data are used in the normal manner in the financial accounts and then the data and documents passed to the cost department. There the source data on costs will be re-classified into the functional analysis necessary for costing purposes. In a system where separate ledgers are maintained, there will always be disagreement between the results disclosed by either financial or cost accounts. The disagreement can only be eliminated by creating a link between the two sets of accounts in order to facilitate easy reconciliation. In order to create the linkage between cost and financial accounts, an additional memorandum account frequently termed cost ledger control account must be opened. The memorandum account, however, does not form part of the double-entry bookkeeping system. In the memorandum accounts, only those costs relating to production, selling and distribution and administration will be posted to it item by item. However, items such as expenses of new share issues, discount on issues of shares, fines, goodwill written off, dividends received from investments etc. do not concern the cost accountant and will not be recorded in the memorandum account since they will not be transferred to the cost accounts. For example, wages paid will be debited to wages account and also at the same time debited to memorandum cost ledger control account and credited to the cash account. The principal accounts to be found in the cost ledger are as follows; 1. Stores Ledger Control Account 2. Work-In-Progress (W-I-P) Control Account 3. Finished Goods Control Account 4. Production Overhead Control Account 5. Administration Overhead Control Account 6. Selling and Distribution Overhead Control Account 23

32 Study Session 2 Cost Ledger Account 7. Wages Control Account 8. Cost of Sales Control Account 9. Sales Control Account 10. Costing Profit and Loss Account 11. Cost Ledger Adjustment Account Items vii, viii and ix will be closed at the end of each accounting period, by transfer to other accounts or to the costing profit and loss account. The main purpose of the Cost Ledger Adjustment Account is to maintain the double-entry principle in the cost ledger. The focal point of cost accounting system under the interlocking system is to determine the cost of production, valuation of the stock, and the determination of profit on manufacture. Hence, personal accounts (like debtors and creditors) and real accounts (like fixed assets, cash, and bank account) are not maintained within the cost accounting system. Where, therefore, there is a transaction affecting those accounts, the corresponding entry to complete the double-entry will be made through the cost ledger adjustment account. For example, when raw materials are brought in, stores ledger control is debited. ormally, the corresponding credit should be creditors or cash depending on whether the materials are paid for by cash or bought on credit. However, creditors and cash accounts are financial accounting records that are not kept in the cost ledger. To make room for the corresponding accounts to be credited, cost ledger adjustment account is utilised. In general, when an entry is made in the cost accounts and there is no other account in the cost ledger to take care of the corresponding double entry because the relevant corresponding account is only available in the financial accounts. Then the cost ledger adjustment account is utilised to keeping the double entry system working. In addition, at the end of the period, the costing profit is transferred to cost ledger adjustment account to facilitate the preparation of the ending trial balance. It should, however, be noted that there is no double entry connection between the financial accounts and the cost account, although the use of the memorandum control account, enables the two sets of account to be kept in agreement. Bookkeeping Under Interlocking System of Accounts Raw Materials Purchase 500,000 Debit: Stores ledger control account 500,000 Credit: Cost Ledger Adjustment Account Issues of direct materials to production from stores 500, ,000 Debit: Work-In-Progress Control A/C 290,000 Credit: Stores control A/C 290,000 24

33 AC303 Cost Accounting Purchase of direct materials directly for a job not going through the stores 120,000 Debit: Work-In-Progress control A/C 120,000 Credit: Cost Ledger Adjustment A/C 120,000 Issue of indirect materials to production 50,000 Debit: Production overhead control A/C 50,000 Credit: Stores ledger control A/C 50,000 Issue of indirect material for administration or selling function 40,000 Debit: Admin. or selling & dist. dh control A/C 40,000 Credit: Store ledger control A/C 40,000 Utilisation of direct wages 80,000 Debit; Work-In-Progress control A/C 80,000 Credit: Wages control account 80,000 Utilisation of indirect wages in production department 35,000 Debit: Production overhead control A/C 35,000 Credit: wages control A/C 35,000 Indirect wages incurred on admin. or selling function 70,000 Debit: Admin. or selling & distr. O/H control A/C 70,000 Credit: Wages control A/C 70,000 25

34 Study Session 2 Cost Ledger Account Debit: Wages control A/C 180,000 Effecting payment on wages 180,000 Credit: Cost ledger adjustment A/C 180,000 Absorbing production overhead into cost of production 140,000 Debit: Work in progress control A/C 140,000 Credit: Production overhead control A/C 140,000 Absorbing Admin., selling & distribution expenses into jobs 72,000 Debit: Cost of sales A/C 72,000 Credit: Admin. or selling & distr. Of H control A/C 72,000 Completion of jobs valued 540,000 Debit: Finished goods control A/C 540,000 Credit: Work in progress control A/C 540,000 Sale of goods: To record the cost aspect of it 1. Debit: Cost of sale-account 2. Credit: Finished goods control account To record the benefit aspect of it 1. Debit: Cost ledger, adjustment account 2. Credit: Sales control account 26

35 AC303 Cost Accounting Illustration one The following balances appeared in the books J & Raps Co. Ltd. Cost ledger adjustment A/C 15,200 Stores ledger control A/C 8,750 Work-In-Progress A/C 4,280 Finished goods control A/C 2,170 15,200 15,200 On 31 st December 2006, the following information was supplied Purchase of materials Purchase of materials for special jobs Direct wages Indirect factory wages Administration salaries Selling and distribution salaries Administration expenses Production expenses Selling and distribution expenses Material issued for factory maintenance Materials issued for production Returns to suppliers Production overhead absorbed by production Administration overheads absorbed finished goods Selling overhead recovered on sales Products finished during the year Finished goods sold at cost Sales 60,640 1,950 38,627 9,543 6,731 4,252 9,546 10,432 6,430 2,586 56, ,410 15,150 9, , , ,000 27

36 Study Session 2 Cost Ledger Account You are required to record the entries in cost ledger for the year 2006 and prepare a trial balance. Solution Cost Ledger Stores Ledger Control Account Balance b/d 8,750 W-I-P control A/C 56,501 Cost ledger Adj. A/C 60,640 Production O/H control A/C 2,586 Cost ledger Adj. A/C 312 Balance c/d 9,991 69,390 69,390 Wages and Salaries Control Account Cost ledger Adj. A/C 59,153 59,153 W-I-P control A/C Production O/H control A/C Admin. O/H control A/C Selling & distr. O/H control 38,627 9,543 6,731 4,252 59,153 Production Overhead Control Account Cost ledger Adj. A/C Stores ledger control A/C Wages & salaries control A/C Overhead Adj. A/C 10,432 2,586 9, ,410 W-I-P control A/C 23,410 23,410 28

37 AC303 Cost Accounting Work-In-Progress Control Account Balance b/d 4,280 Finished goods control A/C 118,517 Cost ledger Adj. A/C 1,950 Balance b/d Stores ledger control A/C 56,501 6,251 Wages & salaries control A/C 38,627 Production O/H control A/C 23, , ,768 Balance b/d 6,251 Finished Goods Control Account Balance b/d 2,170 Cost of sales A/C 133,382 Admin. O/H Control A/C 15,150 Balance c/d 2,455 W-I-P Control A/C 118, , ,837 Balance b/d 2,455 Administration Overhead Control Account Cost ledger Adj. A/C 9,546 Finished goods control A/C 15,150 Wages & salaries control A/C 6,731 Overhead Adj. A/C 1,167 69,390 16,277 29

38 Study Session 2 Cost Ledger Account Selling and Distribution Overhead Control Account Cost ledger Adj. A/C 6,340 Cost of sales control A/C 9,515 Wages & salaries control A/C 4,252 Overhead Adj. A/C 1,167 10,682 10,682 Cost of Sales Control Account Selling & distr. O/H control A/C Finished goods control A/C 9, , ,897 Cost P&L A/C 142,897 69,390 Overhead Adjustment Account Admin. O/H Control A/C 1,127 Production O/H control A/C 849 Selling & Distr. O/H control A/C 1,671 Costing P&L A/C 1,445 Costing Profit and Loss Account Cost of sales A/C Overhead Adj. A/C Cost ledger Adj. A/C (profit) 142,897 1,445 16, ,000 Cost ledger Adj. A/C (sales) 155, ,000 30

39 AC303 Cost Accounting Cost Ledger Adjustment Account Stores ledger control A/C (returns) Costing P&L A/C (sales) Balance c/d ,000 18,697 Balance b/d Stores ledger control A/C W-I-P control A/C Wages & salaries control A/C 15,200 60,640 1,950 59,153 Production O/H control A/C 10,432 Admin. O/H control A/C 9,546 Selling & Distr. O/H control A/C Costing P&L A/C 6,430 10, ,009 Balance c/d 18, ,009 Trial Balance as at 31 st December, 2006 Cost ledger adjustment A/C Stores ledger control A/C Work in progress control A/C Finished goods control A/C DR 9,991 6,251 2,455 18,697 CR 18,697 18,697. otional Items It is possible in some organisations, particularly small ones, certain items are been provided by the owner of the business, for example, capital instead of borrowed capital using own building in place of renting a structure. Usually, no payment is made in respect of these factors of production. 31

40 Study Session 2 Cost Ledger Account Under financial accounting system, such classes of expenses will not be recorded in the books of account simply because it is prohibited by the concept of objectivity. However, the aim of the cost accounting system is to determine a realistic cost of production and should, therefore, include such notional expenses, if not true cost and management efficiency cannot be truly or objectively ascertained and inter-firm comparison will also be of limited value. However, such items do not cause disagreement between cost and financial accounts since entries made cancel out. This is a single comprehensive accounting system in which the cost and financial accounts are combined in one set of accounts with no division between financial and cost accounts. Unlike interlocking accounting system, instead of having a double entry in cost accounting for some transactions, only one debit and one credit are required. Under this system, the emphasis is placed on functional analysis e.g. administrative overheads, rather than analysis by nature e.g. salaries, telephone, etc. To this end, it means the regular control accounts like work-in-progress, finished goods production overhead, etc. will still be maintained and in addition real and personal accounts which were earlier omitted in the cost ledger under the interlocking system would now be incorporated since the two systems have been integrated. The implication of this is that the entries that were correspondingly passed to the cost ledger adjustment accounts would now be passed through those real or personal accounts as appropriate, i.e. bank, debtors, creditors, plants and machinery, etc. Hence, there will be no need for the cost ledger adjustment account. Illustration Two amtra Manufacturing Ltd operates an integrated system of accounting and it is required to record the following balance and transactions in the ledger accounts and prepare final accounts at the month s end. Opening balance as at 1 st June, 2005 are: Issued share capital 250,000 Reserves 65,000 Depreciation provision 38,000 (plant) Creditors control 42,750 Buildings 80,000 Plants & machinery (at cost) 146,000 Bank 23,291 Debtors 49,856 Stock: Raw Materials 41,200 Work-In-Progress 24,266 Finished goods 30, , ,750 32

41 AC303 Cost Accounting The following information is supplied regarding the month s transaction: Purchase of Raw Materials 122,600 Gross wages and salaries Production direct wages (including 6,800 24,910 accrued) Production indirect wages 6,253 Production salaries 2,985 Administrative salaries 11,085 Selling and distribution salaries 6,219 Expenses: Production control 4,286 Administration 7,017 Selling and distribution salaries 4,935 Cash payment: Creditors 155,296 Salaries and wages 41,025 Cash Receipts: Debtors 185,473 Discount allowed 2,100 Discount Received 3,926 Material Issued: Production 83,621 Works maintenance 6,509 Overhead Recovered: Production 28,750 Administration 18,500 Selling and distribution 10,800 Provisions: Depreciation on plant 9,520 Bad debts 4,100 Factory cost of completed production 155,000 Factory cost of goods sold 173,000 Sales 220,800 33

42 Study Session 2 Cost Ledger Account Solution: Share Capital A/C Balance b/d 250,000 Reserve A/C Balance b/d 65,000 Depreciation Provision (Plant) A/C Balance c/d 47,520 47,520 Balance b/d 38,000 Production O/H control A/C 9,520 47,520 Balance b/d 47,520 Creditors Control A/C Bank 155,296 Discount received 3,926 Balance c/d 22, ,588 Balance b/d 42,750 Stores control A/C 122,600 Production O/H control A/C 4,286 Admin. O/H control A/C 7,017 Sell. & Distr. O/H contr. AC 4, ,588 Balance b/d 22,366 Buildings A/C Balance b/d 80,000 34

43 AC303 Cost Accounting Plant & Machinery A/C Balance b/d 146,500 Bank A/C Balance b/d 23,291 Debtors 185, ,764 Balance b/d 12,443 Creditors 155,296 Wages and Salaries 41,025 Balance c/d 12, ,764 Debtors Control A/C Balance b/d 46,856 Sales 220, ,656 Balance b/d 83,083 Bank 185,473 Discount allowed 2,100 Balance c/d 83, ,656 Stores Control A/C Balance b/d 41,200 Purchases 122, ,800 Balance b/d 73,670 Work-In-Progress 83,621 Production overhead 6,509 Balance c/d 73, ,800 35

44 Study Session 2 Cost Ledger Account Work-In-Progress Control A/C Balance b/d 23,291 Wages and salaries 24,910 Stores control 83,621 Production overhead 28, ,541 Balance b/d 6,541 Finished goods 155,000 Balance c/d 6, ,541 Finished Goods Control A/C Balance b/d 30,643 Work-In-Progress 155, ,643 Balance b/d 12,643 COGS 173,000 Balance c/d 12, ,643 Wages and Salaries Control A/C Bank 41,025 Deductions 3,600 Wages accrued c/d 6,800 51,425 Work-In-Progress 24,910 Production overhead 6,253 Production overhead 2,985 Admin. Overhead 11,058 Selling Distr. Overhead 6,219 51,425 Balance b/d 6,800 Production Overhead Control A/C Indirect wages 6,253 Salaries 2,985 Expenses (creditors) 4,286 Depreciation 9,520 Materials (stores) 6,509 29,553 Work-In-Progress 28,750 Under recovery ,553 36

45 AC303 Cost Accounting Salaries 11,058 Expenses (creditors) 7,017 Over recovery ,500 Administration Overhead Control A/C Cost of sales 18, ,541 Salaries 6,219 Expenses (creditors) 4, ,154 Selling and Distribution Overhead Control A/C Cost of Sales 10,800 Under recovery ,154 Discount Allowed A/C Debtors 2,100 Operating statement 2,100 Discount Received A/C Operating statement 3,926 Creditors 2,100 Finished goods 173,000 Admin. Overhead 18,500 Selling & Distr. Overhead 10, ,300 Cost of Sales A/C Operating statement 202, ,300 Production overhead 803 Selling & Distr. Overhead ,157 Overhead Adjustment A/C Admin. Overhead 425 Operating statement ,157 37

46 Study Session 2 Cost Ledger Account Operating statement 220,800 Sales A/C Debtors 220,800 Wages and Salaries Deduction Wages and Salaries 3,600 Provision for Bad Debt A/C Operating statement 4,100 Cost of sales 202,300 Provision for bad debt 4,100 Discount allowed 2,100 Overhead adjustment 732 et income (profit) 15, ,726 Share Capital Reserves et profit Owners equity Current Liabilities Creditors Accrued wages Wages deduction Operating Statement A/C Sales 220,800 Discount received 3, ,726 22,366 6,800 3, ,000 65,000 15, ,494 32, ,260 Fixed Assets Buildings Plant & Machinery Less Prov. For Deprn. et Fixed Assets Current Assets Stocks: Raw materials Work-in-progress Finished goods Debtors Less. Bad debt Prov Bank 146,500 47,520 73,670 6,541 12,643 83,083 4,100 80,000 98, ,980 92,854 78,983 12, ,260 We have already mentioned that under the interlocking system, two separate ledgers are maintained; one for the cost accounting system and one for the financial accounting system. We also mentioned that certain transactions are not recorded in the cost accounting system, even though, recorded in the financial accounting system. So also in the cost accounting system, 38

47 AC303 Cost Accounting certain items notional charges are recorded but not in the financial ledger. We are however, not interested in all the differences except those that affect the reported profits. For example, since notional charges are both reported as charges and as income within the cost ledger, they have no impact on profit except as regards stock valuation. Under this circumstance, the profit or loss shown by costing books may not agree with that shown by financial books. Therefore, it becomes necessary that profit or loss shown by the two sets of accounts is reconciled. It is important to note that the question of reconciliation of cost and financial account arises only under interlocking cost accounting system. However, under the integrated system of accounts, since cost and financial accounts are integrated into one set of books and only one profit and loss account is prepared, the problem of reconciliation does not arise. Below is a summary of those items that cause disagreement between the financial accounts profits and cost accounts profits. 1. Items shown only in financial accounts. These are categories into three. A. Purely financial changes-examples: i. Loss on sale of capital asset ii. Losses on investments iii. Discount on bonds, debentures etc. iv. Interest on bank loans v. Fines and penalties vi. Amount wrote off goodwill, preliminary, expenses etc. vii. Loss due to theft, pilferage etc. viii. Expenses related to the issue of shares etc. ix. Provision for bad debt B. Purely financial incomes Examples i. Profit arising from the sale of capital asset ii. iii. iv. Rent receivable Dividend and interest received on investments Interest received on bank deposits v. Transfer fees received vi. Discount received C. Appropriations of profit Examples 39