Manufacturing Account Worked Example

Question 17

End of year
 Factory profit %

Opening Opening inventory at transfer value

= Opening inventory at cost + mark-up
= 32 000 + (20% X 32000)
= $38 400

Opening provision for unrealized profit

= Opening inventory at transfer price – Opening
inventory at cost = 38 400 – 32 000 = $6 400

Or Opening provision for unrealized profit

Closing = Markup X opening inventory at cost
= 20% X 32 000 = $6 400

Total rent = 24 000 + 16 000 = $40 000

MA – ¾ X 40 000 = $30 000; IS – ¼ X 40 000 = $10 000
Manufacturing Account for the year ended 31 July 2016
Cost of raw materials consumed
Opening inventory Raw Materials 14800
Add Purchases of Raw Materials 207600
Add carriage inwards of Raw Materials 6800
229200
Less closing inventory of Raw Materials (16400)
Cost of raw materials consumed 212800
Add Direct Costs
Direct wages (168 000 + 3 500) 171500
Prime Cost 384300
Add Factory overheads
Indirect factory wages 51400
Factory overheads (155 000 – 24 000 + 30 000) 161000 212400
596700
Work-in-Progress
Opening inventory work-in-progress 23500
Less closing inventory work-in-progress (20200)
Decrease in work-in-progress 3300
Cost of production at cost price 600000
Add Factory profit (20% X 600 000) 120000
Cost of production at transfer price 720000
 Income Statement for the year ended 31 July 2016
Revenue 986000
Less returns inwards (12000)
Net Revenue 974000
Less cost of sales
Opening Inventory finished goods (Transfer price) 38400
Add cost of production (transfer price) 720000
758400
Less closing inventory finished goods (transfer price) (54000) (704400)
Gross profit 269600
Less Expenses
Carriage outwards 17500
Office overheads (194 000 – 16 000 + 10 000) 188000 (205500)
Profit on trading 64100
Add factory profit 120000
Provision for unrealized profit
Opening provision for unrealized profit (W1) 6400
Less closing provision for unrealized profit (W2) (9000)
Increase in provision for unrealized profit (2600)
Realised manufacturing profit 117400
Profit for the year 181500
Working 1 (W1)
Opening provision for unrealized profit
= (Factory profit / Cost of production transfer price) X Opening inventory transfer price
= (120 000 / 720 000) X 38 400 = $6 400

Working 2 (W2)
Closing provision for unrealized profit
= (factory profit / cost of production transfer price) X Closing inventory transfer price
= (120 000 / 720 000) X 54 000 = $9 000

Or
Closing provision for unrealized profit
= Closing inventory transfer price – closing inventory cost
= 54 000 – 45 000 = $9 000
Closing inventory at cost = Closing inventory transfer price / (1 + Mark-up)
= 54 000 / (1 + 0.2) = 54000 / 1.2 = $45 000

Statement of financial position extract as at 31 July 2016

Current Assets
Closing Inventory
- Raw materials 16400
- Work-in-progress 20200
- Finished goods (at cost) (W3) 45000
81600

Working 3 (W3)
Closing inventory finished goods at cost
= Closing inventory transfer price – closing provision unrealized profit
= 54 000 – 9 000 = $45 000
To remove the unrealized profit from the value of inventory from the income
statement so that profit and assets are not overstated to comply with the prudence
concept.
Inventory should be valued at lower of cost and net realizable value in accordance
with IAS 2. So, the unrealized profit should be removed from value of inventory by
maintaining a provision for unrealized profit.
The profit element should be removed from the value of inventory since the profit
has not yet been realized, to comply with the realization concept.

Advantages:
- Will get more customers through her sister’s business
- Less inventory to store, storage cost will reduce and risk of goods becoming
obsolete will decrease.

Disadvantages:
- Might not charge a profit to his sister, profit will fall
- If sister’s business fails, he will not be paid for goods provided to her
- His sister will become his competitor, increase in competition
- Less inventory will be available, might not be able to meet increase in
demand, might lose customers