JKSC TB 2 Nov 23

INTER CA.
– COSTING
SERVICE COSTING OR
OPERATING COSTING
THEORY SECTION
It is followed by those companies which are providing services for e.g., Transport
companies, School & Colleges, Hospitals, Theaters, Hotels etc.
We have to calculate Total cost of providing service.
Type of Industry Unit of Cost
1. Goods Transport Company → Tonne Kms. (per tonne per km.)
2. Passenger Transport Co → Passenger kms. (per passenger per km.)
3. Hotels → Room Days (per room per day)
4. Hospitals → Per Bed per day or
Per Patient per day
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INTER CA. – COSTING
CLASSWORK SECTION
Question 1
Mr. X owns a bus which runs according to the following schedule:
(i) Delhi to Chandigarh and back, the same day.
Distance covered: 250 km. one way.
Number of days run each month : 8
Seating capacity occupied 90%.
(ii) Delhi to Agra and back, the same day.
Distance covered: 210 km. one way
Seating capacity occupied 85%
(iii) Delhi to Jaipur and back, the same day.
Distance covered: 270 km. one way
Seating capacity occupied 100%
(iv) Following are the other details:
Cost of the bus ` 12,00,000
Salary of the Driver ` 24,000 p.m.
Salary of the Conductor ` 21,000 p.m.
Salary of the part-time Accountant ` 5,000 p.m.
Insurance of the bus ` 4,800 p.a.
Diesel consumption 4 km. per litre at ` 56 per litre
Road tax ` 15,915 p.a.
Lubricant oil ` 10 per 100 km.
Permit fee ` 315 p.m.
Repairs and maintenance ` 1,000 p.m.
Depreciation of the bus @ 20% p.a.
Seating capacity of the bus 50 persons.
Passenger tax is 20% of the total takings. Calculate the bus fare to be charged from
each passenger to earn a profit of 30% on total takings. The fares are to be indicated per
passenger for the journeys:
(i) Delhi to Chandigarh (ii) Delhi to Agra and (iii) Delhi to Jaipur.
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Question 2
SMC is a public school having five buses each plying in different directions for the transport
of its school students. In view of a large number of students availing of the bus service
the buses work two shifts daily both in the morning and in the afternoon. The buses are
garaged in the school. The work-load of the students has been so arranged that in the
morning the first trip picks up senior students and the second trip plying an hour later
picks up the junior students. Similarly, in the afternoon the first trip takes the junior
students and an hour later the second trip takes the senior students home.
The distance travelled by each bus one way is 8 km. The school works 25 days in a month
and remains closed for vacation in May, June and December. Bus fee, however, is payable
by the students for all 12 months in a year.
The details of expenses for a year are as under:
Driver’s salary ` 4,500 per month per driver
Cleaner’s salary ` 3,500 per month
(Salary payable for all 12 months)
(one cleaner employed for all the five buses)
Licence fee, taxes, etc. ` 8,600 per bus per annum
Insurance ` 10,000 per bus per annum
Repairs & maintenance ` 35,000 per bus per annum
Purchase price of the bus ` 15,00,000 each
Life of each bus 12 years
Scrap value of bus at the end of life ` 3,00,000
Diesel cost ` 45.00 per litre
Each bus gives an average mileage of 4 km. per litre of diesel.
Seating capacity of each bus is 50 students.
The seating capacity is fully occupied during the whole year.
Students picked up and dropped within a range up to 4 km. of distance from the school
are charged half fare and fifty per cent of the students travelling in each trip are in this
category. Ignore interest. Since the charges are to be based on average cost you are
required to:
(i) Prepare a statement showing the expenses of operating a single bus and the fleet of
five buses for a year.
(ii) Work out the average cost per student per month in respect of –
(A) students coming from a distance of upto 4 km. from the school and
(B) students coming from a distance beyond 4 km. from the school.
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Question 3
A transport company has a fleet of three trucks of 10 tonnes capacity each plying in
different directions for transport of customer's goods. The trucks run loaded with goods
and return empty. The distance travelled, number of trips made and the load carried per
day by each truck are as under:
Truck No. One way Distance No. of trips per Load carried per trip /
Km day day tonnes
1 16 4 6
2 40 2 9
3 30 3 8
The analysis of maintenance cost and the total distance travelled during the last two
years is as under
Year Total distance travelled Maintenance Cost
1 1,60,200 46,050
2 1,56,700 45,175
The vehicles operate 24 days per month on an average.
Required
(i) Calculate number of km.
(ii) Calculate number of Ton km.
(iii) Calculate maintenance of cost
Question 4
A Mineral is transported from two mines – 'A' and 'B' and unloaded at plots in a Railway
Station. Mine A is at a distance of 10 km., and B is at a distance of 15 km. from railhead
plots. A fleet of lorries of 5 tonne carrying capacity is used for the transport of mineral
from the mines. Records reveal that the lorries average a speed of 30 km. per hour, when
running and regularly take 10 minutes to unload at the railhead. At mine 'A' loading time
averages 30 minutes per load while at mine 'B' loading time averages 20 minutes per
load.
Drivers' wages, depreciation, insurance and taxes are found to cost ` 9 per hour operated.
Fuel, oil, tyres, repairs and maintenance cost ` 1.20 per km.
Draw up a statement, showing the cost per tonne-kilometer of carrying mineral from
each mine.
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Question 5
Global Transport Ltd. charges ` 90 per ton for its 6-ton truck lorry load from city ‘A’ to
city ‘B’. The charges for the return journey are ` 84 per ton. No concession or reduction in
these rates is made for any delivery of goods at intermediate station ‘C’.
In January 20X8, the truck made 12 outward journeys for city ‘B’ with full load out of
which 2 tons were unloaded twice in the way at city ‘C’. The truck carried a load of 8 tons
in its return journey for 5 times but was once caught by police and ` 1,200 was paid as
fine. For the remaining trips the truck carried full load out of which all the goods on load
were unloaded once at city ‘C’. The distance from city ‘A’ to city ‘C’ and city ‘B’ are 140 km.
and 300 km. respectively.
Annual fixed costs and maintenance charges are ` 60,000 and `12,000 respectively.
Running charges spent during January 20X8 are ` 2,944.
You are required to find out the cost per absolute ton-kilometre and the profit for January, 20X8.
Question 6
A company is considering three alternative proposals for conveyance facilities for its
sales personnel who has to do considerable traveling, approximately 20,000 kilometres
every year. The proposals are as follows:
(i) Purchase and maintain its own fleet of cars. The average cost of a car is ` 6,00,000.
(ii) Allow the Executive use his own car and reimburse expenses at the rate of ` 10 per
kilometer and also bear insurance costs.
(iii) Hire cars from an agency at ` 1,80,000 per year per car. The company will have to
bear costs of petrol, taxes and tyres.
The following further details are available:
Petrol ` 6 per km. Repairs and maintenance ` 0.20 per km.
Tyre ` 0.12 per km. Insurance `1,200 per car per annum
Taxes ` 800 per car per annum Life of the car: 5 years with annual mileage of
20,000 km.
Resale value: ` 80,000 at the end of the fifth year.
Work out the relative costs of three proposals and rank them.
Question 7
BHG Toll Plaza Ltd built a 60 km. long highway and now operates a toll plaza to collect
tolls from passing vehicles using the highway. The company has estimated that a total
of 12 crore vehicles (only single type of vehicle) will be using the highway during the 10
years toll collection tenure.
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Toll Operating and Maintenance cost for the month of April 2020 are as follows:
(i) Salary to –
 Collection Personnel (3 Shifts and 4 persons per shift) - ` 550 per day per
person
 Supervisor (2 Shifts and 1 person per shift) - ` 750 per day per person
 Security Personnel (3 Shifts and 6 persons per shift) - `450 per day per person
 Toll Booth Manager (2 Shifts and 1 person per shift) - `900 per day per person
(ii) Electricity – ` 8,00,000
(iii) Telephone – ` 1,40,000
(iv) Maintenance cost – ` 30 Lakh
Monthly depreciation and amortisation expenses will be ` 1.50 crore. Further, the company
needs 25% profit over total cost to cover interest and other costs.
Required:
(i) CALCULATE cost per kilometer per month.
(ii) CALCULATE the toll rate per vehicle.
Question 8
AD Higher Secondary School (AHSS) offers courses for 11th & 12th standard in three
streams i.e. Arts, Commerce and Science. AHSS runs higher secondary classes along with
primary and secondary classes, but for accounting purpose it treats higher secondary as
a separate responsibility centre. The Managing committee of the school wants to revise
its fee structure for higher secondary students. The accountant of the school has provided
the following details for a year:
Amount (`)
Teachers’ salary (25 teachers × ` 35,000 × 12 months) 1,05,00,000
Principal’s salary 14,40,000
Lab attendants’ salary (2 attendants × ` 15,000 × 12 months) 3,60,000
Salary to library staff 1,44,000
Salary to peons (4 peons × ` 10,000 × 12 months) 4,80,000
Salary to other staffs 4,80,000
Examinations expenditure 10,80,000
Office & Administration cost 15,20,000
Annual day expenses 4,50,000
Sports expenses 1,20,000
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Other information:
(i)
Standard 11 & 12 Primary &
Arts Commerce Science Secondary
No. of students 120 360 180 840
Lab classes in a year 0 0 144 156
No. of examinations in a year 2 2 2 2
Time spent at library per year 180 hours 120 hours 240 hours 60 hours
Time spent by principal for 208 hours 312 hours 480 hours 1,400 hours
administration
Teachers for 11 & 12 standard 4 5 6 10
(ii) One teacher who teaches economics for Arts stream students also teaches commerce
stream students. The teacher takes 1,040 classes in a year, it includes 208 classes
for commerce students.
(iii) There is another teacher who teaches mathematics for Science stream students
also teaches business mathematics to commerce stream students. She takes 1,100
classes a year, it includes 160 classes for commerce students.
(iv) One peon is fully dedicated for higher secondary section. Other peons dedicate their
15% time for higher secondary section.
(v) All school students irrespective of section and age participates in annual functions
and sports activities.
Required:
(i) CALCULATE cost per student per annum for all three streams.
Question 9
A lodging home is being run in a small hill station with 100 single rooms. The home offers
concessional rates during six off- season months in a year. During this period, half of
the full room rent is charged. The management’s profit margin is targeted at 20% of the
room rent. The following are the cost estimates and other details for the year ending on
31st March 20X7. [Assume a month to be of 30 days].
(i) Occupancy during the season is 80% while in the off- season it is 40% only.
(ii) Total investment in the home is ` 200 lakhs of which 80% relate to buildings and
balance for furniture and equipment.
(iii) Expenses:
- Staff salary [Excluding room attendants] : ` 5,50, 000
- Repairs to building : ` 2,61,000
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- Laundry charges : `80, 000

- Interior : ` 1,75,000
- Miscellaneous expenses : ` 1,90,800
(iv) Annual depreciation is to be provided for buildings @ 5% and on furniture and
equipment @ 15% on straight-line basis.
(v) Room attendants are paid ` 10 per room day on the basis of occupancy of the rooms
in a month.
(vi) Monthly lighting charges are ` 120 per room, except in four months in winter when
it is ` 30 per room.
You are required to work out the room rent chargeable per day both during the season
and the off-season months on the basis of the foregoing information.
Question 10
ABC Hospital runs a Critical Care Unit (CCU) in a hired building. CCU consists of 35 beds
and 5 more beds can be added, if required.
Rent per month - ` 75,000
Supervisors – 2 persons – ` 25,000 Per month – each
Nurses – 4 persons – ` 20,000 per month – each
Ward Boys – 4 persons – ` 5,000 per month – each
Doctors paid ` 2, 50,000 per month – paid on the basis of number of patients
attended and the time spent by them
Other expenses for the year are as follows:
Repairs – ` 81,000
Food to Patients – ` 8,80,000
Other services to patients – ` 3, 00,000
Laundry charges – ` 6,00,000
Medicines – ` 7,50,000
Other expenses – ` 10, 80,000
Administration expenses allocated – ` 10,00,000
It was estimated that for 150 days in a year 35 beds are occupied and for 80 days only
25 beds are occupied.
The hospital hired 750 beds at a charge of ` 100 per bed per day, to accommodate the
flow of patients. However, this does not exceed more than 5 extra beds over and above
the normal capacity of 35 beds on any day.
You are required to calculate profit per Patient day, if the hospital recovers on an average
` 2,000 per day from each patient.
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Homework section
Question 1
From the following data pertaining to the year 20X7-X8 prepare a cost statement
showing the cost of electricity generated per kwh by Chambal Thermal Power Station.
Total units generated 10,00,000 kwh
(`)
Operating labour 15,00,000
Repairs & maintenance 5,00,000
Lubricants, spares and stores 4,00,000
Plant supervision 3,00,000
Administration overheads 20,00,000
5 kWh. of electricity generated per kg. of coal consumed @ ` 4.25 per kg. Depreciation
charges @ 5% on capital cost of ` 2,00,00,000.
Question 2
Sanziet Lifecare Ltd. operates in life insurance business. Last year it launched a new term
insurance policy for practicing professionals ‘Professionals Protection Plus’. The company
has incurred the following expenditures during the last year for the policy:
`
Policy development cost 11,25,000
Cost of marketing of the policy 45,20,000
Sales support expenses 11,45,000
Policy issuance cost 10,05,900
Policy servicing cost 35,20,700
Claims management cost 1,25,600
IT cost 74,32,000
Postage and logistics 10,25,000
Facilities cost 15,24,000
Employees cost 5,60,000
Office administration cost 16,20,400
Number of policy sold- 528
Total insured value of policies- `1,320 crore
Required:
(i) CALCULATE total cost for Professionals Protection Plus’ policy segregating the costs
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into four main activities namely (a) Marketing and Sales support, (b) Operations, (c)
IT and (d) Support functions.
(ii) CALCULATE cost per policy.
(iii) CALCULATE cost per rupee of insured value.
Question 3
GTC has a lorry of 6-ton carrying capacity. It operates lorry service from city A to city
B. It charges ` 2,400 per ton from city ‘A’ to city ‘B’ and ` 2,200 per ton for the return
journey from city ‘B’ to city ‘A’. Goods are also delivered to an intermediate city ‘C’ but no
concession or reduction in rates is given. Distance between the city ‘A’ to ‘B’ is 300 km and
distance from city ‘A’ to ‘C’ is 140 km.
In January 2020, the truck made 12 outward journeys for city ‘B’. The details of journeys
are as follows:
Outward journey No. of journeys Load (in ton)
‘A’ to ‘B’ 10 6
‘A’ to ‘C’ 2 6
‘C’ to ‘B’ 2 4
Return journey No. of journeys Load (in ton)
‘B’ to ‘A’ 5 8
‘B’ to ‘A’ 6 6
‘B’ to ‘C’ 1 6
‘C’ to ‘A’ 1 0
Annual fixed costs and maintenance charges are ` 6,00,000 and ` 1,20,000 respectively.
Running charges spent during January 2020 are ` 2,94,400 (includes ` 12,400 paid as
penalty for overloading).
You are required to:
CALCULATE the cost as per (a) Commercial ton-kilometre. (b) Absolute ton- kilometre
Question 4
Refer Question 8 of Classwork Section. Now Solve following additional required parts.
(i) If the management decides to take uniform fee of ` 1,000 per month from all higher
secondary students, CALCULATE stream wise profitability.
(ii) If management decides to take 10% profit on cost, COMPUTE fee to be charged from
the students of all three streams respectively.
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Question 5
The data given relates to "Vasanth Talkies" mini theatre, for the year ending 31st March,
2018.
Salaries
` `
1 Manager 800 p.m. Carbon 7,235
10 Gate-keepers 200 p.m. each Miscellaneous Expenditure 5,425
2 Operators 400 p.m. each Advertisement 34,710
4 Clerks 250 p.m. each Administrative Expenditure 18,000
Electricity & Oil 11,655 Hire of print 1,40,700
The premises are valued at ` 6,00,000 and the estimated life is 15 years. Projector and
other equipments cost ` 3,20,000 on which 10% depreciation is to be charged.
Daily three shows are run throughout the year. The total capacity is 625 seats which is
divided into three classes as follows
Janata circle 250 seats
Sanman circle 250 seats
Lord's circle 125 seats
Ascertain rate per man-show assuming that:
(a) 20% of the seats remain vacant, and
(b) Weightage to be given to the three classes in the ratio of 1:2:3.
Determine the rates for each class if the management expects 30% return on gross
proceeds. Ignore entertainment taxes
Question 6
In order to develop tourism, ABCL airline has been given permit to operate three flights
in a week between X and Y cities (both side). The airline operates a single aircraft of 160
seats capacity. The normal occupancy is estimated at 60% throughout the year of 52
weeks. The one-way fare is ` 7,200. The cost of operation of flights are:
Fuel cost (variable) ` 96,000 per flight
Food served on board on non-chargeable basis ` 125 per passenger
Commission 5% of fare applicable for all booking
Fixed cost:
Aircraft lease ` 3,50,000 per flight
Landing Charges ` 72,000 per flight
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Required:
(i) Calculate the net operating income per flight.
(ii) The airline expects that its occupancy will increase to 108 passengers per flight if
the fare is reduced to ` 6,720. Advise whether this proposal should be implemented
or not.
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IMPORTANT THEORY QUESTIONS FOR EXAMINATION

Question 1
Explain briefly, what do you understand by Operating Costing. How are composite units
computed? (3 Marks, November 2009)
Answer
Operating Costing: It is method of ascertaining costs of providing or operating a service.
This method of costing is applied by those undertakings which provide services rather
than production of commodities. This method of costing is used by transport companies,
gas and water works departments, electricity supply companies, canteens, hospitals,
theatres, schools etc.
Composite units may be computed in two ways:
(a) Absolute (weighted average) tones kms, quintal kms etc.
(b) Commercial (simple average) tonnes kms, quintal kms etc.
Absolute tonnes-kms are the sum total of tonnes kms arrived at by multiplying various
distances by respective load quantities carried.
Commercial tonnes-kms, are arrived at by multiplying total distance kms, by average
load quantity.
Question 2
What do you understand by operating costing? How are composite units computed?
(4 Marks, November 2012)
Answer
Meaning of Operating Costing: Operating Costing is a method of ascertaining costs of
providing or operating a service. This method of costing is applied by those undertakings
which provide services rather than production of commodities. This costing method is
usually made use of by transport companies, gas and water works departments, electricity
supply companies, canteens, hospitals, theatres, schools etc.
Computation of composite units: When two units are merged into one it is called Composite
units. It is explained with example as follows.
Composite units i.e. tonnes kms., quintal kms. etc. may be computed in two ways.
(i) Absolute (weighted average) tonnes-kms.
Absolute tonnes-kms, are the sum total of tonnes-kms., arrived at by multiplying
various distances by respective load quantities carried.
(ii) Commercial (simple average) tonnes-kms. Commercial tonnes-kms., are arrived at
by multiplying total distance kms., by average load quantity.
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CONTRACT COSTING
THEORY SECTION
Contract costing is mainly followed by those companies which are in the business of
construction. There are two parties:
1.
Contractor (Seller) 2. Contractee (Buyer)
Contractor is the person who undertakes construction activity.
Contractee is the person on whose behalf the construction activity is undertaken.
Contract price means selling price of contract.
Format of contract account
In the books of contractor
Contract account for the year ending
To Material xx By Material xx
To Direct labour xx [return / transfer to other
To Direct expenditure xx contract / sold (cost) /
Lost by fire,
To Depreciation on Plant & Machinery xx transferred to P & L A/c]
To Other Expenses xx By Work in progress
To P & L A/c (Notional profit) xx Work certified xx
Work uncertified xx
Material at site xx
By P & L A/c (Loss) xx xx
xx xx
NOTES:
1. Closing work in progress of 1st year will become opening work in progress in 2nd
year.
2. Material sold can be recorded either at cost price or at selling price. If it is recorded
at selling price then profit / loss on sale is to be transferred to P & L A/c.
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3. Work Certified:
It represent that portion of contract work which is completed & for which certificate
of completion is received either from the Architect or from Surveyor. Work certified is
always valued at contract price.
4. Work Uncertified:
It represent that portion of contract work which is completed & for which certificate
of completion is not received. Work uncertified is always valued at cost price.
5. Progress Payment Received:
It represents advance received from the contractee against work certified.
Cash / Bank A/c Dr.
To Contractee's A/c
6. Retention Money:
It represent amount retained by the contractee till the completion of contract. From
retention money we can find out progress payment received.
E.g. : Retention money is 20% that means payment received will be 80% of work
certified.
* Calculation of Total Estimated Profit on Completion of Contract
Contract Price xx
Less: Total Estimated Cost
Cost already incurred xx
(+) Further estimated cost to be incurred xx xx
Estimated Profit xx
* If there is loss in contract in any year then entire loss is to be transferred to

P & L A/c.
* In the year of completion following entry is to be recorded.

Entry for Sale :
Contractee's A/c Dr.
To Contract A/c
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classwork SECTION
Question 1
Pioneer Construction Company Ltd. obtained a contract for the erection of a multi-storey
building. Building operation started in July, 2018. The contract price was ` 9,00,000. On
30th June, 2019, the end of the year, the cash received on account was ` 3,60,000 being
80% of the amount on the surveyor’s certificate.
The following additional information is given:
`
Materials issued to contract 1,80,000
Materials on hand at site as on 30th June, 2019 7,500
Wages 2,46,600
Plant purchased specially for contract and to be depreciated at 10% per 30,000
annum
Direct Expenses 12,900
General overheads allocated to contract 7,600
Work finished but not yet certified (at cost) 15,000
You are required to prepare the contract account for the year ending 30th June, 2019.
Question 2
A Contractor prepares his accounts for the year ending 31st March each year. He
commenced a contract on 1st July, 2018.
The following information relates to the contract as on 31st March, 2019:
`
Materials issued 2,51,000
Labour charges 5,65,600
Salary to Foreman 81,300
A machine costing ` 2,60,000 has been on the site for 146 days, its working life is estimated
at 7 years and its final scrap value at ` 15,000.
A supervisor, who is paid ` 8,000 p.m. has devoted one-half of his time to this contract.
Materials in hand at site cost ` 35,400 on 31st March, 2019.
The Contract Price is ` 20 lakhs. On 31st March,2019 two thirds of the contract was
completed. The Architect issued certificates covering 50% of the contract price, and the
contractor had been paid ` 7,50,000 on account.
Prepare Contract A/c and show how much profit or loss should be included in financial
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accounts to 31st March, 2019.
Question 3
Crystal Construction Ltd., engaged in contract works, has the following Trial Balance on
31st December 2019:
Debit (`) Credit (`)
Share capital (Shares of ` 10 each) 35,180
Profit & Loss A/c on 1st January 2019 2,500
Provision of depreciation on Plant & Tools 6,300
Contractee’s A/c (Contract 707) 1,28,000
Creditors 8,120
Land & Building (at cost) 7,400
Plant & tools at stores (at cost) 5,200
Bank Balance 4,500
Contract No.707
Materials issued 60,000
Direct labour 83,000
Expenses 4,000
Plant and tools at site (at cost) 16,000
1,80,100 1,80,100
Contract No.707 having a contract price of ` 2,40,000/- was begun on 1st January,2019,
and the contractee pays 80% of the work completed and certified. The cost of work
done since certification is estimated to be ` 1,600/-. After the above Trial Balance was
extracted on 31st December, 2019 plant costing ` 3,200/- was returned to the stores
and materials at site on that date were valued at ` 3,000/-. Provision is to be made for
depreciation on all plant and tools at 12.5% on cost.
Prepare contract no. 707 account showing the computation of profit, if any, for which the
credit may properly be taken in 2019 and prepare the Balance sheet for the construction
company as on 31st December 2019.
Question 4
Deluxe Ltd. undertook a contract for ` 5,00,000 on 1st July 2018. On 30th June 2019,
when the account were closed, the following details about the contract were gathered:
`
Materials purchased 1,00,000
Wages paid 45,000
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General Expenses 10,000

Plant purchased 50,000
Materials on hand as on 30-6-2019 25,000
Wages Accrued as on 30-6-2019 5,000
Work certified 2,00,000
Cash received 1,50,000
Work uncertified 15,000
Depreciation of plant 5,000
The above contract contained an escalation clause which read as follows :

“In the event of prices of materials and rates of wages increasing by more than 5%, the
contract price would be increased accordingly by 25% of the rise in the cost of materials
and wages beyond 5% in each case”.
It was found that since the date of signing the agreement the prices of materials and
wage rates increased by 25% and 20% respectively. The value of work certified does not
take into account the effect of the above clause.
Prepare the contract account. Workings should form part of the answer.
Question 5
A contractor has entered into a long term contract at an agreed price of ` 1,75,000
subject to an escalation clause for materials and wages as spelt out in the contract and
corresponding actuals are as follows :
Materials Standard Actual
Qty (tonnes) Rate (`) Qty (tonnes) Rate (`)
A 5,000 5 5,050 4.80
B 3,500 8 3,450 7.90
C 2,500 6 2,600 6.60
Labour Hours Hourly Rate Hours Hourly Rate
(`) (`)
X 2,000 7.00 2,100 7.20
Y 2,500 7.50 2,450 7.50
Z 3,000 6.50 3,100 6.60
Reckoning the full actual consumption of material and wages the company has claimed
a final price of ` 1,77,360. Give your analysis of admissible escalation claim and indicate
the final price payable.
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Question 6
A firm of contractors undertook a contract for ` 6,00,000 on 1st July, 2018. The following
expenses were incurred upto December 31, 2018:
Materials charged directly 7,500
Materials issued from stores 52,500
Wages 30,000
Direct charges 3,000
The amount of work certified was ` 1,20,000/- out of which the contractors received 75%
in cash.
The transactions for the year 2019 were as under:
Materials issued from stores 1,35,000
Direct charges 6,000
Wages 60,000
The cost of special plant issued on Jan. 1, 2019 for the contract was ` 1,20,000/-. Further
work certified during the year amounted to ` 3,30,000/-; 75% of which was received.
Work done and not certified as on 31-12-2019 was valued at ` 22,500/- Special plant
is to be depreciated at 25% p.a on the original cost. Materials on site were valued at `
15,000/-.
The contract was completed on 30-04-2020 upto which date the following further
expenses were incurred:
Materials charged directly 10,500
Materials issued from stores 60,000
Wages 22,500
Direct Expenses 2,025
The general overheads for each year is to be taken at 5% of the materials consumed and
wages paid during the year. On 30-04-2020 the plant was valued at ` 75,000/-. The
materials at site were sold for ` 10,500/- and those returned to stores amounted to `
19,500/-.
You are required to prepare Contract Account & Contractee's Account for the years 2018,
2019 & 2020.
Question 7
MNP Construction Ltd. commenced a contract on April 1, 2018. The total contract was for
` 17,50,000. It was decided to calculate Actual profit as well as estimated profit.
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Actual expenditure in 2018-2019 and estimated expenditure in 2019-2020 are given

below.
2018-2019 2019-2020
(Actuals) (Estimated)
` `
Materials issued 3,00,000 5,50,000
Labour : Paid 2,00,000 2.50.000
Outstanding at end 20,000 30,000
Plant purchased 1,50,000 ----
Expenses : Paid 75,000 1,50,000
Prepaid at end 15,000 ----
Plant returned to store (historical cost) 50,000 1,00,000
(On 31.3.2019) (On 31.12.2019)
Material at site 20,000 50,000
Work certified 8,00,000 Full
Work uncertified 25,000 ----
Cash received 6,00,000 Full
The plant is subject to annual depreciation @ 25% of WDV. The contract is likely to be
completed on 31st December, 2019. Prepare the Contract A/c Determine the profit on the
contract for the year 2018-2019.Also compute Estimated Profit of the Contract.

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Homework Section
Question 1
A construction company undertaking a number of contracts furnished the following data
relating to its incomplete contracts as on 31st March, 2019:
Contract No. (` in lakhs)
723 726 729 731
Expenses for the year ended 31.3.2019
Direct Materials 5.22 1.80 1.98 0.80
Direct Wages 2.32 4.32 3.90 2.16
Overheads (Excluding Depreciation) 1.06 2.60 2.62 1.05
Plant issued at cost 5.00 3.50 2.75 3.00
Materials at site on 1-4-2018 0.75 — — —
Materials at site as on 31-3-2019 0.45 0.20 0.08 0.05
Work certified till 31-3-2018 4.65 — — —
Work certified during the year 2018-2019 12.76 13.26 7.56 4.32
Work uncertified as on 31-3-2019 0.84 0.24 0.14 0.18
Progress payments received during the year 9.57 9.00 5.75 3.60
Depreciation at 20% per annum is to be charged on plant issued. While the contract no.
723 was carried over from last year, the remaining contracts were started in the 1st week
of April 2018.
Required:
Determine the profit/loss in respect of each contract for the year ended 31st March, 2019.
Question 2
A railway contractor makes up his accounts to 31st March. Contract No.SER/15 for
construction of a culvert between Bhilai and Raipur commenced on 1st July, 2018. The
costing records yield the following information at 31st March, 2019.
Materials charged out to site ` 31,540
Labour 75,300
Foreman’s Salary 11,700
A machine costing ` 25,000 has been on the site for 73 days. Its working life is estimated
at five years and its final scrap value at ` 1,000.
A Supervisor, who is paid ` 18,000 per annum, has spent approximately six months on
this contract. All other expenses and administration cost amounted to ` 17,000.
Materials at site at the end of the year cost ` 2,500.
525
The contract price is ` 3,00,000. At the end of the year two thirds of the contract was
completed for which amount the Architect’s certificate has been issued and ` 1,60,000
has so far been received on account.
Prepare a Contract account for the year ending 31st March, 2019.
526
Question 1
Write note on cost-plus-contracts. (Nov. 2000, 2 Marks)
Answer
These contracts provide for the payment by the contractee of the actual cost of manufacture
plus a stipulated profit, mutually decided between the two parties.
The main features of these contracts are as follows:
1. The practice of cost-plus contracts is adopted in the case of those contracts where the
probable cost of the contracts cannot be ascertained in advance with a reasonable
accuracy.
2. These contracts are preferred when the cost of material and labour is not steady
and the contract completion may take number of years.
3. The different costs to be included in the execution of the contract are mutually agreed,
so that no dispute may arise in future in this respect. Under such type of contracts,
contractee is allowed to check or scrutinize the concerned books, documents and
accounts.
4. Such a contract offers a fair price to the contractee and also a reasonable profit to
the contractor.
5. The contract price here is ascertained by adding a fixed and mutually pre-decided
component of profit to the total cost of the work.
Question 2
Write notes on Escalation Clause. (Nov. 2000, 2 Marks, May 1994, 4 Marks)
Answer
Escalation Clause: This clause is usually provided in the contracts as a safeguard against
any likely changes in the price or utilization of material and labour. If during the period
of execution of a contract, the prices of materials or labour rise beyond a certain limit,
the contract price will be increased by an agreed amount. Inclusion of such a term in a
contract deed is known as an 'escalation clause'
An escalation clause usually relates to change in price of inputs, it may also be extended
to increased consumption or utilization of quantities of materials, labour etc. In such a
situation the contractor has to satisfy the contractee that the increased utilization is not
due to his inefficiency.
527
Question 3
What are the main advantages of cost plus contract?
(2 Marks, May 2008; November 2009)
Answer
Costs plus contracts have the following advantages:
1. The contractor is assured of a fixed percentage of profit. There is no risk of incurring
any loss on the contract.
2. It is useful especially when the work to be done is not definitely fixed at the time of
making the estimate.
3. Contractee can ensure himself about “the cost of the contract”, as he is empowered
to examine the books and document of the contractor to ascertain the veracity of
the cost of the contract.
Question 4
Explain the terms Retention money in contract costing.
(4 Marks, November 2011)
Answer
Retention money in contract Costing:
A the default risk in contract contractor does not receive the full payment of work certified
by the surveyor of work certified by the surveyor. Contractee retains some amount to be
paid after some time, when it is ensured that there is no default in the work done by the
contractor. If any deficiency or defect is noticed it is to be rectified by the contractor before
the release of the retention money. Thus retention money provides a safe guard against

528
MATERIAL COST CONTROL,

STOCK VALUATION AND STOCK
CONTROL
THEORY SECTION
A. How To Purchase [Raw Materials]

Step Document Copies From To Copies With
1. Purchase Requisition 3 Stores Purchase Stores
Form Purchase
Account
2. Letters Purchase Suppliers
3. Quotations Suppliers Purchase
4. Purchase Order 5 Purchase Suppliers Purchase
Suppliers
Stores
Receiving
Accounts
5 Delivery Challan 2 Suppliers Receiving Suppliers
Dept. Receiving
6. Goods Received Note 5 Receiving Suppliers Receiving
OR Receiving Report Dept. Suppliers
OR Material Inward Purchase
Note Stores
Accounts
7. Material Outward 5 Stores Suppliers Stores
Note [For Purchase Suppliers [2]
Return] Accounts
Outward
register
8. Raw Materials 2 Production Stores Production
Requisition Form Stores
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9 Raw Materials Issue 3 Stores Production Stores

Form Production
Accounts
10 R.M. Returns Forms 3 Production Stores Production
[Memo] Stores
Accounts
11 Raw Materials 2 Production Another Prod. Production
Transfer Form Dept Another
Prod.depts.
B. HOW MUCH TO BUY / MANUFACTURE AT A TIME:

(i) Total Ca or Acquisition cost or ordering cost :
The Acquisition cost is that cost which we specifically incur, every time the order
for buying the raw material is placed. The examples are paper & other stationery
cost that we incur for preparing the purchase requisition, purchase order etc., the
postage cost incurred for inviting the quotations, telephone expenses to be incurred,
fuel or carriage inward and so on.
The acquisition cost, as such, depends on the number of times that we buy but the
number of times that we buy itself would depend on how much we buy every time.
The more we buy at a time, the less the number of times we buy & therefore the less
would be our Ca. Thus, to minimise Ca, we should buy less no. of times.
It should be noted that expenses which are unaffected by the number of times
we buy are not acquisition costs at all (e.g. Salary of purchase department staff,
depreciation of vehicles etc.)
(ii) Total Ci or carrying cost:

This cost depends on the average stock that we carry in our inventory. The average
stock is half of how much we buy every time.
Interest cost, real or notional, that we incur on investments in our inventory or the
insurance premium that we pay to insure the stock against certain risk are examples
of carrying cost items.
The more we buy at a time, the more would be our investment and accordingly, the
more would be our carrying cost. To minimise Ci, we must buy less at a time so that
the investment & consequently, the carrying cost would get reduced.
It should be noted that expenses which are unaffected by quantity of stock that we
keep are not Ci items (e.g. salary of store keeper, depreciation or rent warehouse
530
etc.). Also unless instructed otherwise any change in purchase price or rate of interest
would change Ci.
(iii) Ca v/s Ci :
These two cost items are equally strong but conflicting cost items. If one tries to
minimise one of them the other would automatically increase. For example, to
minimise Ca, we should buy less number of times which means we should buy more
at a time. But if we buy more at a time, the Ci would increase.
The EOQ does one very important job of striking a good balance between the two by
making the two equal.
B. WHEN TO BUY:
(1) Re-order level (ROL):
This is the stock level which, when reached, signifies that the action should be
taken to procure fresh quantity of raw material. The ROL has to be such that
the stock out is eliminated completely.
If the stock-out is not to occur, then, we must find out the maximum-possible
requirements of raw material during the maximum possible lead time that
lapses before we get fresh quantity of Raw Material.
Therefore ROL= Maximum consumption in maximum lead time + safety stock /
buffer stock / base stock (if given).
(2) Maximum (possible) stock:

After ROL is reached & before we get the fresh quantity, at least some consumption
would take place out of ROL quantity. If we want maximum possible stock, the
consumption should be minimum possible. Just after that consumption is over,
we would get fresh quantity of Raw Material which would be Re-order quantity
(which could be EOQ or other than EOQ).
Therefore Maximum possible stock = ROL ¬– Minimum consumption in minimum
lead time + Re-order quantity.
(3) Minimum (desirable) stock:

The minimum desirable level is the usual stock. Once our stock level reaches
below minimum level, it signifies that the conditions are unusual & unless
some urgent steps are taken, the stock-out may occur. However as long as the
conditions are normal we have nothing to worry about.
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The maximum lead time & the maximum consumption occur only rarely & so is
the case with minimum consumption & minimum lead time. These are extremes
& do not occur regularly. What happens usually is the average lead time &
average consumption. In other words as long as reduction from ROL is equal to
average consumption in average lead time, we have nothing to worry about as
that is something very normal and it happens in every inventory cycle. It is only
when, the stock goes below that level, that must make us worry.
Therefore, the minimum stock = ROL – Average consumption in average lead
time.
(4) Average stock =

(5) Danger Level:
1. Level at which emergency purchase action is made to replenish stock.
2. Level at which stocks are issued only on "most needed" basis.
Average consumption x Emergency lead time
532
CLASSWORK SECTION
Question 1
Calculate the Economic Order Quantity from the following information. Also state the
number of orders to be placed in a year.
Consumption of materials per annum : 10,000 kg.
Order placing cost per order : ` 50
Cost per kg. of raw materials : `2
Storage costs : 8% on average inventory
Question 2
(i) Compute E.O.Q. and the total material cost for the following:
Annual Demand = 5,000 units
Unit price = ` 20.00
Order cost = ` 16.00
Storage rate = 2% per annum
Interest rate = 12% per annum
Obsolescence rate = 6% per annum
(ii) Determine the total cost that would result for the items if an incorrect price of
` 12.80 is used.
Question 3
G. Ltd. produces a product which has a monthly demand of 4,000 units. The product
requires a component X which is purchased at ` 20. For every finished product, one unit
of component is required. The ordering cost is ` 120 per order and the holding cost is
10% p.a.
You are required to calculate:

(i) Economic order quantity.
(ii) If the minimum lot size to be supplied is 4,000 units, what is the extra cost, the
company has to incur?
(iii) What is the minimum carrying cost, the company has to incur?
533
Question 4
ZED Company supplies plastic crockery to fast food restaurants in metropolitan city. One
of its products is a special bowl, disposable after initial use, for serving soups to its
customers.
Bowls are sold in pack 10 pieces at a price of ` 50 per pack.
The demand for plastic bowl has been forecasted at a fairly steady rate of 40,000 packs
every year. The company purchases the bowl directly from manufacturer at ` 40 per pack
within a three days lead time. The ordering and related cost is ` 8 per order. The storage
cost is 10% per annum of average inventory investment.
Required:
(i) Calculate Economic Order Quantity.
(ii) Calculate number of orders needed every year.
(iii) Calculate the total cost of ordering and storage bowls for the year.
(iv) Determine when should the next order to be placed. Assuming that the company
does maintain a safety stock and that the present inventory level is 333 packs with
a year of 360 working days.
Question 5
X. Ltd. for some time had been buying the inventory at random till recently when it
switched over to EOQ system of buying.
The firm’s annual requirement is 12,000 units. The cost of carrying inventory is ` 15 per
unit per annum. The ordering cost is ` 400 per order.
One supplier has approached the purchase manager with a proposal that if the company
buys all 12,000 units at a time, then he would give 10% discount in the purchase price
which is ` 100 per unit.
Decide whether the proposal should be accepted or not.
Question 6
JP Limited, manufacturer of a special product, follows the policy of EOQ (economic order
quantity) for one of its components. The components details are as follows:
`
Purchase price per components 200
Cost of an order 100
Annual cost of carrying one unit in inventory 10% of purchase price
Total cost of inventory carrying and ordering per annum 4,000
The company has been offered a discount of 2% on the price of the component, provided
534
the lot size is 2,000 components at a time.

You are required to :
(i) Compute the EOQ
(ii) Advise whether the quantity discount offer can be accepted. (Assume that the
inventory carrying cost does not vary according to discount policy)
(iii) Would your advise differ if the company is offered 5% discount on a single order.
Question 7
A company manufactures a product from a raw material, which is purchased at ` 60
per kg. The company incurs a handling cost of ` 360 plus freight of ` 390 per order.
The incremental carrying cost of inventory of raw material is ` 0.50 per kg. per month.
In addition, the cost of working capital finance on the investment in inventory of raw
material is ` 9 per kg. per annum. The annual production of the product is 1,00,000 units
and 2.5 units are obtained from one kg of raw material.
Required
(i) Calculate the economic order quantity of raw materials.
(ii) Advise, how frequently should orders for procurement be placed.
(iii) If the company proposes to rationalize placement of orders on quarterly basis, what
percentage of discount in the price of raw materials should be negotiated?
Question 8
(a) EXE Limited has received an offer of quantity discounts on its order of materials as
under:

Category Price per ton (`) Ton (Nos.)
1 1,200 Less than 500
2 1,180 500 and less than 1,000
3 1,160 1,000 and less than 2,000
4 1,140 2,000 and less than 3,000
5 1,120 3,000 and above.
The annual requirement for the material is 5,000 tons. The ordering cost per order is
` 1,200 and the stock holding cost is estimated at 20% of material cost per annum.
You are required to compute the most economical purchase level.
(b) What will be your answer to the above question if there are no discounts offered
and the price per ton is ` 1,500?
535
Question 9
Two components, A and B are used as follows:
Normal usage 50 per week each
Maximum usage 75 per week each
Minimum usage 25 per week each
Re-order quantity A: 300; B: 500
Re-order period A: 4 to 6 weeks
B: 2 to 4 weeks
Calculate for each component (a) Re-ordering level, (b) Minimum level, (c) Maximum
level, (d) Average stock level.
Question 10
From the details given below, calculate:
(i) Re-ordering level (ii) Maximum level
(iii) Minimum level (iv) Danger level.
Re-ordering quantity is to be calculated on the basis of following information:
Cost of placing a purchase order is ` 20
Number of units to be purchased during the year is 5,000
Purchase price per unit inclusive of transportation cost is ` 50
Annual cost of storage per units is ` 5.
Details of lead time: Average- 10 days, Maximum- 15 days, Minimum-5 days.
For emergency purchases - 4 days.
Rate of consumption: Average: 15 units per day, Maximum: 20 units per day
Question 11
A Company uses three raw materials A, B and C for a particular product for which the
following data apply:
Raw Usage Re-order Price Delivery period (In weeks) Re-order Minimum
Material per quantity per Kg Minimum Average Maximum level level (Kgs.)
unit of (Kgs.) (`) (Kgs)
Product
(Kgs.)
A 10 10,000 10 1 2 3 8,000 ?
B 4 5,000 30 3 4 5 4,750 ?
C 6 10,000 15 2 3 4 ? 2,000
Weekly production varies from 175 to 225 units, averaging 200 units of the said product.
536
What would be the following quantities:

(i) Minimum stock of A,
(ii) Maximum stock of B,
(iii) Re-order level of C,
(iv) Average stock level of A.
Question 12
Aditya Ltd. produces a product ‘Exe’ using a raw material Dee. To produce one unit of Exe,
2 kg of Dee is required. As per the sales forecast conducted by the company, it will able
to sale 10,000 units of Exe in the coming year. The following is the information regarding
the raw material Dee:
(i) The Re-order quantity is 200 kg. less than the Economic Order Quantity (EOQ).
(ii) Maximum consumption per day is 20 kg. more than the average consumption per
day.
(iii) There is an opening stock of 1,000 kg.
(iv) Time required to get the raw materials from the suppliers is 4 to 8 days.
(v) The purchase price is ` 125 per kg.
There is an opening stock of 900 units of the finished product Exe.
The rate of interest charged by bank on Cash Credit facility is 13.76%.
To place an order company has to incur ` 720 on paper and documentation work.
From the above information find out the followings in relation to raw material Dee:
(a) Re-order Quantity
(b) Maximum Stock level
(c) Minimum Stock level
(d) Calculate the impact on the profitability of the company by not ordering the EOQ.
[Take 364 days for a year].
Question 13
IPL Limited uses a small casting in one of its finished products. The castings are purchased
from a foundry. IPL Limited purchases 54,000 castings per year at a cost of ` 800 per
casting.
The castings are used evenly throughout the year in the production process on a 360-days-
per-year basis. The company estimates that it costs ` 9,000 to place a single purchase
order and about ` 300 to carry one casting in inventory for a year. The high carrying
costs result from the need to keep the castings in carefully controlled temperature and
humidity conditions, and from the high cost of insurance.
537
Delivery from the foundry generally takes 6 days, but it can take as much as 10 days.
The days of delivery time and percentage of their occurrence are shown in the following
tabulation:
Delivery time (days) 6 7 8 9 10
Percentage of occurrence 75 10 5 5 5
Required:
(i) Compute the economic order quantity (EOQ).
(ii) Assume the company is willing to assume a 15% risk of being out of stock. What
would be the safety stock? The re-order point?
(iii) Assume the company is willing to assume a 5% risk of being out of stock. What
would be the safety stock? The re-order point?
(iv) Assume 5% stock-out risk. What would be the total cost of ordering and carrying
inventory for one year?
(v) Refer to the original data. Assume that using process re-engineering the company
reduces its cost of placing a purchase order to only ` 600. In addition company
estimates that when the waste and inefficiency caused by inventories are considered,
the true cost of carrying a unit in stock is ` 720 per year.
(a) Compute the new EOQ.
(b) How frequently would the company be placing an order, as compared to the
old purchasing policy?
Question 14
M/s Tyrotubes trades in four wheeler tyres and tubes. It stocks sufficient quantity of tyres
of almost every vehicle. In year-end 20X1-X2, the report of sales manager revealed that
M/s Tyrotubes experienced stock-out of tyres.
The stock-out data is as follows:
Stock – out of Tyres No. of times
100 2
80 5
50 10
20 20
10 30
0 33
M/s Tyrotubes loses ` 150 per unit due to stock-out and spends ` 50 per unit on carrying
of inventory.
Determine optimum safest stock level.
538
Question 15
An invoice in respect of a consignment of chemicals A and B provides the following
Information:
(`)
Chemical A: 10,000 Kgs. at ` 10 per Kg. 1,00,000
Chemical B: 8,000 Kgs. at ` 13 per Kg. 1,04,000
Basic custom duty @ 10% (Credit is not allowed) 20,400
Railway freight 3,840
Total cost 2,28,240
A shortage of 500 kgs. in chemical A and 320 kgs. in chemical B is noticed due to normal
breakages. You are required to determine the rate per kg. of each chemical, assuming a
provision of 2% for further deterioration.
STOCK VALUATION AND STOCK CONTROL
Question 16
The following transactions in respect of material Y occurred during the six months ended
30th June, 20X1:
Month Purchase (units) Price per unit (`) Issued units
January 200 25 Nil
February 300 24 250
March 425 26 300
April 475 23 550
May 500 25 800
June 600 20 400
Required:
(i) The Chief Accountant argues that the value of closing stock remains the same no
matter which method of pricing of material issues is used. Do you agree? Why or
why not? Detailed stores ledgers are not required.
(ii) When and why would you recommend the LIFO method of pricing material issues?
539
Question 17
The following information is extracted from the Stores Ledger:
Material X
Opening Stock Nil
Purchases:
Jan. 1 100 @ ` 1 per unit
Jan. 20 100 @ ` 2 per unit
Issues:
Jan.22 60 for Job W 16
Jan. 23 60 for Job W 17
Complete the receipts and issues valuation by adopting the First-In-First-Out, Last- In-
First-Out and the Weighted Average Method. Tabulate the values allocated to Job W 16,
Job W 17 and the closing stock under the methods aforesaid and discuss from different
points of view which method you would prefer.
Question 18
From the following details, draw a plan of ABC selective control:
Items Units Unit cost (`)
1 7,000 5.00
2 24,000 3.00
3 1,500 10.00
4 600 22.00
5 38,000 1.50
6 40,000 0.50
7 60,000 0.20
8 3,000 3.50
9 300 8.00
10 29,000 0.40
11 11,500 7.10
12 4,100 6.20
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To solve the above question, We must calculate value, value percentage & quantity
parentage. It is calculated as follows
Items Units Unit Cost Value Value % Quantity %
1 7,000 5.00 35,000 9.84 3.20
2 24,000 3.00 72,000 20.24 10.96
3 1,500 10.00 15,000 4.22 0.68
4 600 22.00 13,200 3.71 0.27
5 38,000 1.50 57,000 16.02 17.35
6 40,000 0.50 20,000 5.62 18.26
7 60,000 0.20 12,000 3.37 27.40
8 3,000 3.50 10,500 2.95 1.37
9 300 8.00 2,400 0.68 0.14
10 29,000 0.40 11,600 3.26 13.24
11 11,500 7.10 81,650 22.95 5.25
12 4,100 6.20 25,420 7.14 1.88
Total 2,19,000 3,55,770 100.00 100.00
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HOMEWORK SECTION
Question 1
Aditya Agro Ltd. produces edible oils of different varieties. The monthly demand pattern
for the finished products are as follows:
Mustard oil 45,000 Litre
Soybean oil 15,000 Litre
Olive oil 3,000 Litre
To produce one litre of Mustard oil, Soybean oil and Olive oil, 5 kg. of mustards, 6 kg. of
soybeans and 4.5 kg. of olives are required respectively. There is no opening and closing
stock of materials.
Aditya Agro Ltd. can purchase the materials either from the farmers directly or from
the wholesale market. The company can purchase any quantity of materials from the
wholesale market but in case of purchase from the farmers, it has to purchase the minimum
specified quantity of materials at a time. Following is the material-wise summary related
with the purchase of materials:
Wholesale Farmers
Market
Mustard:
Minimum Quantity to be purchased Any quantity 13,50,000 kg.
Purchase price per kg. (`) 15.00 12.50
Government Tax* 2% ---
Transportation cost per purchase 6,000 15,000
Sorting and piling cost per purchase --- 1,200
Loading cost per 50 kg. 10.00 5.00
Unloading cost per 50 kg. 2.00 2.00
Soybean:
Minimum Quantity to be purchased Any Quantity 2,70,000 kg.
Government Tax** --- ---
Transportation cost per purchase 9,000 12,000
Sorting and piling cost per purchase --- 800
Unloading cost per 50 kg. 2.00 2.00
Olive:
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Minimum Quantity to be purchased Any Quantity 1,62,000 kg.

Import duty*** --- 10%
Transportation Cost per purchase (`) 3,000 11,000
Sorting and piling cost per purchase 1,800 ---
Unloading cost per 50 kg 2.00 2.00
The company is paying 12.5% p.a. as interest to its bank for cash credit facility and
` 100 per 100 kg. as rent to the warehouse.
* Government tax for Mustard will be added to the purchased price of mustards.
** There was no Government tax for Soybean.
*** Import duty will be added to purchase price.
You are required to

(i) Calculate the purchase cost of each material
(a) from Wholesale market
(b) from the Farmers
(ii) Calculate Economic Order Quantity of each material under the both options.
(iii) Recommend the best purchase option for the material ‘olive’.
Question 2
From the following data for the year ended 31st December, 20X1, calculate the inventory
Turnover ratio of the two items and put forward your comments on them.
Material A (`) Material B (`)
Opening stock 1.1.20X1 10,000 9,000
Purchase during the year 52,000 27,000
Closing stock 31.12.20X1 6,000 11,000
Question 3
A Company manufactures a special product which requires a component ‘Alpha’. The
following particulars are collected for the year 20X1:
(i) Annual demand of Alpha 8,000 units
(ii) Cost of placing an order ` 200 per order
(iii) Cost per unit of Alpha ` 400
(iv) Carrying cost p.a. 20%
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The company has been offered a quantity discount of 4 % on the purchase of ‘Alpha’
provided the order size is 4,000 components at a time.
Required:
(i) Compute the economic order quantity
(ii) Advise whether the quantity discount offer can be accepted.
Question 4
‘AT’ Ltd. furnishes the following store transactions for September, 20X1:
1-9-X1 Opening balance 25 units value ` 162.50
4-9-X1 Issues Req. No. 85 8 units
6-9-X1 Receipts from B & Co. GRN No. 26 50 units @ ` 5.75 per unit
10-9-X1 Return to B & Co. 10 units
15-9-X1 Receipts from M & Co. GRN. No. 33 25 units @ ` 6.10 per unit
19-9-X1 Received replacement from B & Co. GRN No. 38 10 units
20-9-X1 Returned from department, material of
M & Co. MRR No. 4 5 units
22-9-X1 Transfer from Job 182 to Job 187 in the dept. 5 units
MTR 6
29-9-X1 Transfer from Dept. “A” to Dept. “B” MTR 10 5 units
30-9-X1 Shortage in stock taking 2 units
Write up the priced stores ledger on FIFO method and discuss how would you treat the
shortage in stock taking.
Question 5
Raw materials ‘AXE’ costing ` 150 per kg. and ‘BXE’ costing ` 90 per kg. are mixed in equal
proportions for making product ‘A’. The loss of material in processing works out to 25% of
the product. The production expenses are allocated at 40% of direct material cost. The
end product is priced with a margin of 20% over the total cost.
Material ‘BXE’ is not easily available and substitute raw material ‘CXE’ has been found for
‘BXE’ costing ` 75 per kg. It is required to keep the proportion of this substitute material
544
in the mixture as low as possible and at the same time maintain the selling price of the
end product at existing level and ensure the same quantum of profit as at present.
You are required to compute the ratio of the mix of the raw materials ‘AXE’ and ‘CXE’.
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Question 1
List five types of inefficiency in the use of materials that may be discovered as the result
of investigating material quantity variances. What measures may be taken in each such
situation to prevent their recurrence?
Answer
The five types of inefficiency in the use of materials that may be discovered as a result of
investigating materials quantity variances are as follows :
1. Purchase of inferior quality of materials.
2. Inefficient labour force leading to excessive utilisation of materials.
3. Defective machines, tools and equipments and bad or improper maintenance leading
to breakdowns resulting in excessive usage of materials.
4. Inaccurate technical specifications and slackness in inspection may cause more
rejections, resulting in greater requirement of materials for rectification of defects.
5. Faulty material processing.
The measures which may be taken in each of the above situations to prevent their
recurrence in future are as below :
1. To ensure the purchase of proper quality of material, each lot of material
purchased should be inspected in accordance with the terms and conditions
of purchase before they are accepted and issued for production. The extent
of inspection may depend on the circumstances. For instance, when materials
are of small value or where the quality of raw materials does not appreciably
affect the final product, the inspection may not be very rigid. In such a case,
inspection may be carried out by taking random samples. However, for
materials of vital importance like raw materials for explosive factories or for
pharmaceutical concerns where material cost is high, a rigid or strict inspection
will be necessary.
2. Labour inefficiency can be reduced by adopting following measures :
(a) Imparting on-the-job training to workers.
(b) Supervising the workers while performing the jobs.
(c) Evaluating workers performance.
(d) Incorporating incentive schemes for workers.
(e) Reducing labour turnover ratio.
3. The wastage of material can also be reduced by properly maintaining machines,
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tools and other equipment. The concern should adopt a policy of preventive
maintenance. The use of such a policy will reduce machine down time and
over-consumption of materials. Besides this, workers must be educated to
realise fully the importance of tools and equipment in their day-to-day work.
4. A reduction in the number of defective units, in this case may automatically
bring down the excessive consumption of material required for rectification
of defects. Reduction in the number of defectives can be achieved by laying
down accurate technical specifications, standards for materials and tactfully
handling the problem of slackness.
5. Faulty material processing also results in excess consumption of material.
The supervisors at the shop floor level should educate and guide the workers
properly so that they make use of the correct procedure laid down for processing
raw materials.
Question 2
Discuss briefly how the following items are to be treated in costs :
(i) Carriage inwards raw materials
(ii) Storage losses
(iii) Cash discount received
(iv) Insurance costs on stocks of raw materials.
Answer
(i) Carriage inwards on raw materials: It represents the expenditure incurred in bringing
raw materials to factory from outside. This expense is directly allocated to materials
and thus forms a part of the .cost of such materials. When this is not practicable
and allocation to specific items of materials is difficult, the expense is treated as
manufacturing overhead and is charged to cost of production at a re-determined
rate. In some of the undertakings the practice is to charge these expenses as a
percentage of cost, weight or some other physical unit of material.
(ii) Storage losses: The losses arising out of storage of material can be classified into
two categories. The treatment of losses under each category in Cost Accounts is as
under:
(a) Losses due to reasons like evaporation, shrinkage, absorption and moisture, etc.
are considered as normal losses. Such losses are absorbed by good production
units by inflating the cost of material issued for production.
(b) Losses due to fire, flood, storm, theft etc. are treated as abnormal losses. If
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these losses are heavy and are not recoverable from the insurance authorities,
it is preferred to charge them to Costing Profit and Loss Account.
(iii) Cash discount received: It is an allowance given by the vendor for prompt payment
of material price. The opinion among accountants about its treatment differs. Two
prevalent approaches for treating the cash discount received are as follows:
(a) The cash discount received in the course of materials buying should be deducted
from the invoice price of the materials. This way the discount received will
reduce the purchase price of the materials.
(b) It may be treated as an item of financial nature and therefore be kept outside
the purview of cost accounting. However, it can be dealt in the following manner.
The full invoice price should be charged to the material account crediting the
suppliers with the net invoice price, and the discount earned account with
the amount of cash discount received. If the prompt payment could not be
made, the discount lost is debited to the discount lost account. Any difference
between the discount earned and discount lost may be treated as an item of
administrative overhead.
(iv) Insurance costs on stocks of raw materials : The amount paid as insurance costs
(insurance premium) on stocks of raw materials is meant for covering the risk which
may arise due to fire, theft, riot etc. The insurance cost is apportioned over different
materials on the basis of their value. This cost may be charged directly to the cost
of material.
Question 3
Distinguish between spoilage and defectives in a manufacturing company. Discuss their
treatment in cost accounts and suggest a procedure for their control.
Answer
Spoilage can be defined as the materials which are badly damaged in the course of
manufacturing operations to the extent that they cannot be rectified economically and
hence taken out of process, to be disposed of in some manner without further processing.
Spoilage may be either normal or abnormal.
Defective products are such semi-finished or finished products produced by a
manufacturing unit, which are not in conformity with laid-down standard or dimensional
specifications. Defectives produced can be re-worked or reconditioned by the application
of additional materials, labour and / or processing and brought to the point of either
standard or sub-standard product. The costs incurred for reconditioning are known as
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the "Costs of re-operations of the defectives". Defective production may be the result
of various causes such as sub-standard materials, bad-workmanship, carelessness in
planning, laxity in inspection etc.
The difference between spoilage and defectives is that while spoilage cannot be repaired
or reconditioned, defectives can be rectified and transformed, either back to standard
production or to seconds.
Treatment of spoilage and defectives in Cost Accounting : Under Cost Accounts normal spoilage
costs (i.e., which is inherent in the operation) are included in cost either by charging the
loss due to spoilage to the production order or charging it to production overhead so that
it is spread over all products. Any value realised from the sale of spoilage is credited
to production order or production overhead account, as the case may be. The cost of
abnormal spoilage (i.e. arising out of causes not inherent in manufacturing process) are
charged to the Costing Profit and Loss Account. When spoiled work is the result of rigid
specifications the cost of spoiled work is absorbed by good production while the cost of
disposal is charged to production overheads.
The problem of accounting for defective work is the problem of accounting of the costs of
rectification or rework.
The possible ways of treatment are as below :
(i) Defectives that are considered inherent in the process and are identified as normal
can be recovered by using the following methods:
(a) Charged to good products: The loss is absorbed by good units. This method is
used when 'seconds' have a normal value and defectives rectified into 'seconds'
or 'first' are normal.
(b) Charged to general overheads: When the defectives caused in one department are
reflected only on further processing, the rework costs are charged to general
overheads.
(c) Charged to the departments overheads: If the department responsible for
defectives can be identified then the rectification costs should be charged to
that department.
(d) Charged to Costing Profit and Loss Account: If defectives are abnormal and are
due to causes beyond the control of organisation; the rework cost should be
charged to Costing Profit and Loss Accounts.
(ii) Where defectives are easily identifiable with specific jobs the re-work costs are
debited to the job.
Procedure for the control of Spoilage and Defectives : To control spoilage, allowance for
a normal spoilage should be fixed up and actual spoilage should be compared with
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standard set. A systematic procedure of reporting would help control over spoilage.
A spoilage report (as below) would highlight the normal and abnormal spoilage,
the department responsible, the causes of spoilage and the corrective action taken
if any.
Control of defectives may cover the following two areas :
(a) Control over defectives produced
(b) Control over reworking costs.
For exercising effective control over defectives produced and the cost of reworking,
standards for normal percentage of defectives and reworking costs should be
established.
Question 4
Define (i) Replacement Price and (ii) Standard Price. Discuss the objectives of these methods
of pricing of materials and state the circumstances in which they are used.
Answer
(i) Replacement Price is defined as the price at which it is possible to purchase an item,
identical to that which is being replaced or revalued.
(ii) A Standard Price may be defined as a predetermined price fixed for a specified period
on the basis of all factors which may affect future price.
Under Replacement Price method, materials issued are valued at the replacement
costs of the items. This method pre-supposes the determination of the replacement
cost of the materials at the time of each issue, viz., the cost at which identical
materials could be currently purchased. The product cost under this method is at
current market price which is the main objective of the replacement price method.
Replacement Price method is used to value material issues in periods of rising prices
because the cost of material considered in cost of production would be able to
replace the materials at the increased price. This method is used to find the true cost
of production.
The fixation of Standard Price takes into account the quantity of materials to be
purchased, possibility of price fluctuations, etc. The Standard Price is used for
comparison with actual prices from period to period and to measure the efficiency of
the purchase of materials. This is used in conjunction with Standard Costing System
for control purposes and is a tool to the management if fluctuations in prices are not
violent.
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Question 5
Explain the distinction between waste and scrap in the manufacturing process. Discuss
their treatment in cost accounts and suggest a procedure for control.
Answer
Waste: It represents that portion of basic raw materials, which is either lost or which
evaporates or shrinks during a manufacturing process. It may be visible or invisible. But
it has no recovery value.
Scrap: The incidental residue arising from the manufacturing operations, small in quantity
and low in value, recoverable without further processing.
From the definitions of waste and scrap stated above it is quite apparent that waste
cannot be realised whereas scrap can be. Scrap is always visible whereas waste may or
may not be.
Waste can be differentiated as normal and abnormal. Normal waste is absorbed in the
cost of net output, whereas abnormal waste is transferred to the Costing Profit and Loss
Account.
For effective control of waste, normal allowances for yield and waste should be made
from past experience, technical factors and special features of the material process
and product. Actual yield and waste should be compared with anticipated figures and
appropriate actions should be taken where necessary. Responsibility should be fixed on
purchasing, storage, maintenance, production and inspection staff to maintain quality of
the materials and other standards. A systematic procedure for feedback of Achievements
against standards laid should be established.
Scrap may be treated in Cost Accounts in the following ways:
(i) Where the value of scrap is negotiable, it may be excluded from costs. In other
words, the cost of scrap is borne by good units and income from scrap is treated as
other income.
(ii) If the scrap value is considerable, the net sale proceeds of scrap (Gross sales proceeds
of scrap—the cost of selling scrap) is deducted from the material cost or factory
overhead. Under this method the material cost or factory overhead recovery rate
are reduced on account of sale proceeds of scrap. However, no distinction is made
between various processes or jobs.
(iii) Where the various jobs or processes give rise in varying amount of scrap, the scrap
from each job or process is recorded separately and the sale proceeds from the
same credited to the particular job or process. This method is useful where scrap is
of considerable value and does not arise uniformly. However, this would necessitate
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the scrap being identified with various jobs or processes. For this purpose detailed
records for scrap will be required.
Control of scrap really arises at the maximum effective utilization of the raw
material. Scrap control does not, therefore, start in the production department; it
starts from the stage of product designing. Thus the most suitable type of materials,
the appropriate size, the right type of equipment and personnel would help getting
maximum quantity of finished product from a given raw material.
The procedure for control of scrap should start with establishing a standard of
scrap with each department, job or process, taking into consideration the nature of
material, the nature of the manufacturing operation, the use of proper equipment,
the size of the material, the employment of proper personnel and defining areas
of responsibility. It is also necessary to establish a scheme of scrap reporting. The
actual scrap should be compared with the predetermined standard, and the reasons
for the difference, if any, should be investigated, corrective action taken, whenever
the actual scrap is found to be more than what is normally allowed. Also, it is to be
ensured that proper supervision is exercised at the scrap generation stage.
Question 6
What is ABC analysis? Discuss its role in a sound system of material control.
Answer
ABC analysis is a technique through which selective control can be exercised over the
various items of inventory. These days the manufacturing units have such a large number
of items in their stores that it is often not possible for the management to pay minute
attention to each and every item. A system is therefore divided by which these items are
classified according to their importance and then selective control exercised. ABC analysis
or Selective Inventory Control is a technique whereby the measure of control over an item
of inventory varies directly with its usage value. In other words, the high value items are
controlled more closely than the items of low value.
To classify the various items according to their usage value, the following procedure is
adopted:
(a) The quantity or the number of parts expected to be used for production in the given
period is estimated.
(b) The quantity as estimated above is multiplied by the unit value of the item.
(c) All the items are then re-arranged according to their usage value in a descending
order.
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(d) It would normally be found that a small number of items add upto a very high value.
Thus 5 to 10 percent of total items may constitute 70 to 85 percent of material cost.
Such items are classified as A items. Another 10 to 20 percent of total items may
represent 10 to 20 percent of the total material cost. These items may be categorised
as B items. The rest, i.e. 70 to 85-percent of items, though numerous, will thus form
only 5 to 10 percent of total material cost. These may be called C items.
This classification thus highlights the more significant items. Management can then
exercise a very close control over A items. It may apply occasional control over B
items. As regards C items, it may exercise control only in a general manner. For
example, it may order the quantities of C items annually or once in six months or so.
It is obvious that since C items do not have a high value, the total investment in such
items will not be large.
Regarding A items, the management will have to define the stock levels, i.e.,
maximum, minimum, reordering and danger very carefully. Also a close check on
the consumption of these items will have to be kept. The economic order quantity for
each of the items in this category should be worked out. Similarly other technique
of inventory control should also be applied to A items. It would be appreciated that
since A items constitute the bulk of the investment in the total inventory, it would
be worthwhile to bring them under close control and to apply modern management
inventory control techniques.
ABC analysis helps the management in the following ways:
(1) The investment in inventories is optimised through a close and direct control
over A items. This would naturally release funds which can then be channelised
into more profitable areas. This would raise the overall return on investment
earned by the unit.
(2) The ordering and carrying costs are reduced since the management would
attempt to optimise such costs so far as they relate to the bulk of the items.
(3) If the management seeks to exercise direct control over all the items of
inventory, the inventory control system would become very expensive. ABC
analysis therefore cuts down the cost of the system and relates its cost to the
attendant benefits.
(4) The main objectives of inventory control are fulfilled under this system at the
minimum cost. With scientific control of inventories, the stock turnover rate can
be maintained at comparatively high levels.
The concept of ABC analysis can be used in areas other than inventory also.
This technique basically emphasises that where the items to be controlled are
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numerous, one should categorise them according to their importance. Close

control should then be exercised on the most significant category. On the less
important categories, the degree of control maybe related to the benefit from
control.
Thus finally it may be concluded that ABC analysis plays an important role for
a sound system of material control.
Question 7
Distinguish between: Perpetual Inventory System and continuous stock taking.
Answer
(a) Distinction between Perpetual Inventory System and Continuous Stock taking
Perpetual Inventory System: It is a system of stock control followed by the stores
department. Under this system, a continuous record of receipt and issue of material
is maintained by the stores department. In other words, in this system, stock control
cards or bin cards and the stores ledger show clearly the receipts, issues and balance
of all items in stock at all times. This system facilitates planning of production and
ensures that production is not interrupted for want of materials and stores.
Continuous Stock taking: It means physical verification of stores items on a continuous
basis to reveal the position of actual balances. Such a verification is conducted
round the year, thus covering each item of store twice or thrice. Any discrepancies,
irregularities or shortages brought to the notice, as a result of continuous stock
verification are reported to the appropriate authorities for initiating necessary
rectification measures. This system works as a moral check as stores staff and acts
as a deterrent to dishonesty.
A perpetual inventory system is usually supported by a programme of continuous
stock taking. That is continuous stock taking is complementary to the perpetual
inventory system. Sometimes the two terms are considered synonymous but it is not
so. The success of the perpetual inventory system depends upon the maintenance
and upto date writing up of (i) the stores ledger and (ii) bincards/stock control cards,
Continuous stock taking, ensures the veracity of figures shown by the above records.
Question 8
Distinguish amongst :
1. Spoilage
2. Salvage
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3. Rectification
How are they treated in Cost Accounts.
Answer
1. Spoilage: It is the term used for materials which are badly damaged in manufacturing
operations, and they cannot be rectified economically and hence taken out of process
to be disposed of in some manner without further processing. Spoilage maybe either
normal or abnormal.
Normal spoilage (i.e., which is inherent in the operation) costs are included in costs
either by charging the loss due to spoilage to the production order or charging it to
production overhead so that it is spread over all products. Any value realised from
spoilage is credited to production order or production overhead account, as the case
may be.
The cost of abnormal spoilage (i.e., arising out of causes not inherent in manufacturing
process) are charged to the Costing Profit and Loss Account. When spoiled work is the
result of rigid specification, the cost of spoiled work is absorbed by good production
while the cost of disposal is charged to production overhead.
To control spoilage, allowance for normal spoilage should be fixed and actual
spoilage should be compared with standard set. A systematic procedure of reporting
would help control over spoilage. A spoilage report should highlight the normal and
abnormal spoilage, the department responsible, the causes of spoilage and the
corrective action taken, if any.
Salvage: Salvaged material refers to the material retrieved from the spoiled work.
Salvage is the process by which salvaged material is retrieved. The salvaged units of
material are usable in the production.
The value of salvaged material may be credited to the account to which spoilage is
charged.
Rectification: It means bringing back the defective units either to standard units of
production or as seconds, by reworking. The work of rectification in small concern's
is usually entrusted to the production shop, whereas in big concerns, a separate
department carries out the task. Before the start of rectification work an estimate
of the cost of rectification is prepared and compared with the excess value to be
obtained after rectification. The concern only goes ahead with the task of rectification
if the aforesaid comparison is found favourable.
The task of rectification is usually carried out under a 'Rectification Work Order', and
all costs of re-work are collected against this work order for material, labour and
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overhead.
If the defective production is inherent in the process of manufacture, and arises as a
normal consequence of productive activities and if it can be identified with specific
jobs, the rectification cost is charged to the jobs as the cost of manufacturing good
units of the product. This will have the effect of adding to the cost of the jobs. If
the expenditure on rectification is considered abnormal, it is excluded from product
costs and charged to Costing Profit and Loss Account.
Question 9
How are normal and abnormal loss of material arising during storage treated in Cost
Accounts? (May 2001, 5 Marks)
Answer
Cost Accounts treatment of normal and abnormal loss of material arising during storage.
The difference between the book balance and actual physical stock, which may either be
gain or loss, should be transferred to Inventory Adjustment Account pending scrutiny to
ascertain the reason for the difference.
If on scrutiny, the difference arrived at is considered as normal, then such a difference
should be transferred to overhead control account and if abnormal, it should be debited
to costing profit and loss account.
In the case of normal losses, an alternative method may be used. Under this method the
price of the material issued to production may be inflated so as to cover the normal loss.
Question 10
Distinguish clearly Bincards and Stores Ledger. (May 1999, 4 Marks)
Answer
Both bin cards and stores ledger are perpetual inventory records. None of them is a
substitute for the other. These two records may be distinguished from the following points
of view:
(i) Bin card is maintained by the store keeper, while the stores ledger is maintained by
the cost accounting department.
(ii) Bin card is the stores recording document whereas the stores ledger is an accounting
record.
(iii) Bin card contains information with regard to quantities i.e. their receipt, issue and
balance while the stores ledger contains both quantitative and value information in
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respect of their receipts, issue and balance.

(iv) In the bin card entries are made at the time when transaction takes place. But in the
stores ledger entries are made only after the transaction has taken place.
(v) Inter departmental transfer of materials appear only in stores ledger.
(vi) Bin cards record each transaction but stores ledger records the same information in
a summarized form.
Question 11
What is Just in Time (JIT) purchases? What are the advantages of such purchases?
(May 1999, 3 Marks)
Answer
Just in time (JIT) purchases means the purchase of goods or materials such that delivery
immediately precedes their use.
Advantages of JIT purchases:
Main advantages of JIT purchases are as follows :
1. The suppliers of goods or materials cooperates with the company and supply
requisite quantity of goods or materials for which order is placed before the start of
production.
2. JIT purchases results in cost savings for example, the costs of stock out, inventory
carrying, materials handling and breakage are reduced.
3. Due to frequent purchases of raw materials, its issue price is likely to be very close
to the replacement price. Consequently the method of pricing to be followed for
valuing material issues becomes less important for companies using JIT purchasing.
4. JIT purchasing are now attempting to extend daily deliveries to as many areas as
possible so that the goods spend less time in warehouses or on store shelves before
they are exhausted.
Question 12
"To be able to calculate a basic EOQ certain assumptions are necessary. "List down these
assumptions. (November 1995, 2 Marks)
Answer
The computation of economic order quantity is subject to the following assumptions:
(i) Ordering cost (per order) and carrying cost (per unit/annum) are known and constant.
(ii) Anticipated usage (in units) of material for a period is uniform and known.
(iii) Cost per unit of the material (to be purchased) is known and it is constant.
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Purchase Officer
Question 13
How is slow moving and non-moving item of stores detected and what steps are necessary
to reduce such stocks? (November 2001, 4 Marks)
Answer
Detection of slow moving and non-moving item of stores:
The existence of slow moving and non-moving item of stores can be detected in the
following ways.
(i) By preparing and scanning periodic reports showing the status of different items or
stores.
(ii) By calculating the stock holding of various items in terms of number of days/ months
of consumption.
(iii) By computing ratios periodically, relating to the issues as a percentage of average
stock held.
(iv) By implementing the use of a well - designed information system.
Necessary steps to reduce stock of slow moving and non-moving item of stores :
(i) Proper procedure and guidelines should be laid down for the disposal of non-moving
items, before they further deteriorates in value.
(ii) Diversify production to use up such materials.
(iii) Use these materials as substitute, in place of other materials.

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EMPLOYEE COST AND DIRECT

EXPENSE
THEORY SECTION
1. Calculation of Labour Cost

(I) Time Rate System
Wages depends on Actual hours worked by worker.
→ Basic wages = Time taken (Actual hours worked) x Rate per hour
→ Bonus is to be paid only if workers are efficient.
Efficiency means either time remaining constant, worker are producing more
units or output remaining constant, workers takes less time.
Bonus
Halsey System Rowan System
Bonus = 50% of time saves x Rate per hour Bonus = Time saved x Basic wages
Time Allowed
Time Allowed: It represents standard time allowed by the company to produced

one unit and it includes Normal Idle Time.
Time Saved:
Time Allowed for Actual Production xx
Time taken for Actual Production xx
xx
Total Wages = Basic Wages + Bonus
Effective Rate per Hour =
or Hourly Earning
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(II) Piece Rate System

Single / Straight Piece Rate System
Wages = Units Produced x Rate per Unit
2. Labour Turnover
It represent change in labour force of a company over a period of time.
Effect of Labour Turnover

Due to Labour Turnover, total Cost will increase because we have to incurr many
expenses like settlement cost, recruitment cost, training cost etc.
Efficiency of new workers will be less than old workers in the beginning and due to
that production will decrease.
Labour Turnover Rate
1. Separation Method
L. T. R. =

2. Replacement Method
L. T. R. =
3. Flux Method
L. T. R. =

Labour Turnover due to new recruitment

L. T. R. =

The total no. of workers joining, including replacements are called accessions.
L. T. R. =

When no. of accessions are considered, the Labour turnover rate by flux method can
be calculated as under.
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L. T. R. =

3. Cost to Company (C to C)
It includes all expenses incurred by employer on employee for e.g. Basic Wages
Dearness allowance, Bonus, employer's contribution to Provident fund etc.
Labour hour rate =

All workers are issued job cards by the company. In this job card they have to record
details about actual hours worked on different jobs.
Labour Cost of Job = Labour hours as per job cards x Labour hour rate
Any difference between expected labour hours and total hours as per job card is due
to abnormal idle time. Labour cost of abnormal idle time is to be debited to costing
P & L A/c.
4. Over Time and its Treatment

Overtime premium: Overtime is the amount of wages paid for working beyond normal
working hours as specified by Factories Act or by a mutual agreement between the
workers union and the management. According to Factories Act of 1948, a worker is
entitled for overtime at double the rate of his wages (including allowances) if he works
beyond 9 hours in a day or 48 hours in a week even where the Act is not applicable,
the practice is to pay for overtime work at higher rates usually in accordance with
a standing agreement between the employer and the workers. Hence, payment of
overtime consists of two elements, the normal wages i.e., the usual amount, and
the extra payment i.e., the premium. This amount of extra payment paid to a worker
under overtime is known as overtime premium.
The overtime payment affects the productivity and cost in many ways as follows:
(i) During overtime period the efficiency of a worker is low. This causes reduced
productivity, thus during this period the productivity is lesser than the normal
one.
(ii) In their anxiety to earn more, the workers may not concentrate on work during
normal time and thus the output during normal hours may also fall.
(iii) The practice of resorting to overtime adversely affects workers’ health which may
lead to increase in accident rate and consequently a decrease in productivity.
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(iv) Due to overtime, it is not possible to carry out necessary maintenance of plants
and machinery. Such a situation results occasionally in a major breakdown and
hence accounts for the stoppage of production cycle.
(v) Reduced output and increased premium are responsible for bringing an increase
in cost of production.
Overtime premium is a part of total wages of overtime period. In cost accounting

the treatment of overtime premium will be as follows:
(i) If the overtime is resorted to at the desire of the customer, then the entire
amount of overtime including overtime premium should be charged to the job
directly.
(ii) If it is due to a general pressure of work to increase the output, the premium as
well as overtime wages may be charged to general overheads.
(iii) If it is due to the negligence or delay of workers of a particular department, it
may be charged to the concerned department.
(iv) If it is due to circumstances beyond control, it may be charged to Costing Profit
& Loss Account.
As regards the control of overtimes is concerned, it is difficult to eliminate it

completely. But it is not difficult to control it and to keep it to the barest minimum.
The procedure for control of overtime work involves the following steps :
1. Entire overtime work should be duly authorized after investigating the reasons
for it.
2. Overtime cost should be shown against the concerned department. Such a
practice should enable proper investigation and planning of production in
future.
3. If overtime is a regular feature, the necessity for recruiting more men and
adding a shift should be considered.
4. If overtime is due to lack of plant and machinery or other resources, steps may
be taken to install more machines, or to resort to sub-contracting
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CLASSWORK SECTION
Question 1
Two workmen, ‘A’ and ‘B’, produce the same product using the same material. Their
normal wage rate is also the same. ‘A’ is paid bonus according to the Rowan system,
while ‘B’ is paid bonus according to the Halsey system. The time allowed to make the
product is 50 hours. ‘A’ takes 30 hours while ‘B’ takes 40 hours to complete the product.
The factory overhead rate is ` 5 per man-hour actually worked. The factory cost for the
product for ‘A’ is ` 3,490 and for ‘B’ it is ` 3,600.
Required:
(i) Compute the normal rate of wages;
(ii) Compute the cost of materials cost;
(iii) Prepare a statement comparing the factory cost of the products as made by the
two workmen.
Question 2
Jigyasa Boutiques LLP. (JBL) takes contract on job works basis. It works for various fashion
houses and retail stores. It has employed 26 workers and pays them on time rate basis.
On an average an employee is allowed 2 hours for boutique work on a piece of garment.
In the month of March two workers Margaret and Jennifer were given 30 pieces and 42
pieces of garments respectively for boutique work. The following are the details of their
work:
Margaret Jennifer
Work assigned 30 pcs 42 pcs.
Time taken 28 hours 40 hours
Workers are paid bonus as per Halsey System. The existing rate of wages is ` 50 per hour.
As per the new wages agreement the workers will be paid ` 55 per hour w.e.f. 1st April.
At the end of the month March, the accountant of the company has calculated wages to
these two workers taking ` 55 per hour.
(i) From the above information calculate the amount of loss that the company has
incurred due to incorrect rate selection.
(ii) What would be the loss incurred by the JBL due to incorrect rate selection if it had
followed Rowan scheme of bonus payment.
(iii) Amount that could have been saved if Rowan scheme of bonus payment was
followed.
(iv) Do you think Rowan scheme of bonus payment is suitable for JBL?
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Question 3
(a) Bonus paid under the Halsey Plan with bonus at 50% for the time saved equals the
bonus paid under the Rowan System. When will this statement hold good? (Your
answer should contain the proof).
(b) The time allowed for a job is 8 hours. The hourly rate is ` 8. Prepare a statement
showing:
i. The bonus earned
ii. The total earnings of employee and
iii. Hourly earnings.
Under the Halsey System with 50% bonus for time saved and Rowan System for each
hour saved progressively.
Question 4
The finishing shop of a company employs 60 direct workers. Each worker is paid ` 400 as
wages per week of 40 hours. When necessary, overtime is worked up to a maximum of
15 hours per week per worker at time rate plus one-half as premium. The current output
on an average is 6 units per man hour which may be regarded as standard output. If
bonus scheme is introduced, it is expected that the output will increase to 8 units per man
hour. The workers will, if necessary, continue to work overtime up to the specified limit
although no premium on incentives will be paid.
The company is considering introduction of either Halsey Scheme or Rowan Scheme of
wages incentive system. The budgeted weekly output is 19,200 units. The selling price is
`11 per unit and the direct material cost is ` 8 per unit. The variable overheads amount
to ` 0.50 per direct labour hour and the fixed overhead is ` 9,000 per week.
Prepare a statement to show the effect on the company’s weekly profit of the proposal to
introduce (a) Halsey Scheme, and (b) Rowan Scheme.
Question 5
Mr. A. is working by employing 10 skilled workers. He is considering the introduction
of some incentive scheme - either Halsey Scheme (with 50% bonus) or Rowan Scheme
of wage payment for increasing the Employee productivity to cope with the increased
demand for the product by 25%. He feels that if the proposed incentive scheme could
bring about an average 20% increase over the present earnings of the workers, it could
act as sufficient incentive for them to produce more and he has accordingly given this
assurance to the workers. As a result of the assurance, the increase in productivity has
been observed as revealed by the following figures for the current month:
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Hourly rate of wages (guaranteed) ` 40

Average time for producing 1 piece by one worker at the previous 2 hours
performance (This may be taken as time allowed)
No. of working days in the month 25
No. of working hours per day for each worker 8
Actual production during the month 1,250 units
Required:
(i) Calculate effective rate of earnings per hour under Halsey Scheme and Rowan
Scheme.
(ii) Calculate the savings to Mr. A in terms of direct labour cost per piece under the
schemes.
(iii) Advise Mr. A as regards to which scheme is to be selected.
Question 6
Wage negotiations are going on with the recognised employees’ union, and the
management wants you as the as an executive of the company to formulate an incentive
scheme with a view to increase productivity.
The case of three typical workers A, B and C who produce respectively 180, 120 and 100
units of the company’s product in a normal day of 8 hours is taken up for study.
Assuming that day wages would be guaranteed at ` 75 per hour and the piece rate would
be based on a standard hourly output of 10 units, calculate the earnings of each of the
three workers and the employee cost per 100 pieces under (i) Day wages, (ii) Piece rate,
(iii) Halsey scheme, and (iv) The Rowan scheme.
Question 7
The existing Incentive system of Alpha Limited is as under:
Normal working week 5 days of 8 hours each plus 3 late shifts of 3 hours each
Rate of Payment Day work: ` 160 per hour
Late shift: ` 225 per hour
Average output per operator for 49-hours week
i.e. including 3 late shifts : 120 articles
In order to increase output and eliminate overtime, it was decided to switch on to a
system of payment by results. The following information is obtained:
Time-rate (as usual) : ` 160 per hour
Basic time allowed for 15 articles : 5 hours
Piece-work rate : Add 20% to basic piece-rate
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Premium Bonus : Add 50% to time.

Required:
(i) Prepare a Statement showing hours worked, weekly earnings, number of articles
produced and labour cost per article for one operator under the following systems:
(a) Existing time-rate
(b) Straight piece-work
(c) Rowan system
(d) Halsey premium system
Assume that 135 articles are produced in a 40-hour week under straight piece work,
Rowan Premium system, and Halsey premium system above and worker earns half the
time saved under Halsey premium system.
Question 8
The standard hours of job X is 100 hours. The job has been completed by Amar in 60
hours, Akbar in 70 hours and Anthony in 95 hours.
The bonus system applicable to the job is as follows:-
Percentage of time saved to time allowed Bonus
(Slab rate)
Saving upto 10% 10% of time saved
From 11% to 20% 15% of time saved
The rate of pay is ` 1 per hour, Calculate the total earnings of each worker and also the
rate of earnings per hour.
Question 9
Both direct and indirect employees of a department in a factory are entitled to production
bonus in accordance with a group incentive scheme, the outline of which is as follows:
(a) For any production in excess of the standard rate fixed at 16,800 tons per month
(of 28 days) a general incentive of ` 1,500 per ton is paid in aggregate. The total
amount payable to each separate group is determined on the basis of an assumed
percentage of such excess production being contributed by it, namely @ 65% by
direct employee, @ 15% by inspection staff, @ 12% by maintenance staff and @ 8%
by supervisory staff.
(b) Moreover, if the excess production is more than 20% above the standard, direct
employees also get a special bonus @ ` 500 per ton for all production in excess of
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120% of standard.
(c) Inspection staff are penalized @ ` 2,000 per ton for rejection by customer in excess
of 2% of production.
(d) Maintenance staff are also penalized @ ` 2,000 per hour for breakdown.
From the following particulars for a month, compute production bonus earned by each
group:
(a) Actual working days : 25
(b) Production : 21,000 tons
(c) Rejection by customer : 500 tons
(d) Machine breakdown : 40 hours
Question 10
A, B and C were engaged on a group task for which a payment of ` 72,500 was to be
made. A’s time basis wages are ` 800 per day, B’s ` 600 per day and C’s ` 500 per day.
A worked for 25 days; B worked for 30 days; and C for 40 days. Calculate the share of
bonus to be distributed among the workers and total earnings thereof.

Question 11
It is seen from the job card for repair of the customer’s equipment that a total of 154
labour hours have been put in as detailed below:
Worker ‘A’ Worker ‘B’ Worker ‘C’
paid at ` 200 per paid at ` 100 per paid at ` 300 per
day of 8 Hours day of 8 hours day of 8 hours
Monday (hours) 10.5 8.0 10.5
Tuesday (hours) 8.0 8.0 8.0
Wednesday (hours) 10.5 8.0 10.5
Thursday (hours) 9.5 8.0 9.5
Friday (hours) 10.5 8.0 10.5
Saturday (hours) -- 8.0 8.0
Total (hours) 49.0 48.0 57.0
In terms of an award in an employee conciliation, the workers are to be paid dearness
allowance on the basis of cost of living index figures relating to each month which works
out @ ` 968 for the relevant month. The dearness allowance is payable to all workers
irrespective of wages rate if they are present or are on leave with wages on all working days.
Sunday is a weekly holiday and each worker has to work for 8 hours on all week days
and 4 hours on Saturdays; the workers are however paid full wages for Saturday (8 hours
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for 4 hours worked).

Overtime is paid twice of ordinary wage rate if a worker works for more than nine hours
in a day or fourty eight hours in a week. Excluding holidays, the total number of hours
works out to 176 in the relevant month. The company’s contribution to Provident Fund
and Employees State Insurance Premium are absorbed into overheads.
Work out the wages payable to each worker.
Question 12
In a factory, the basic wage rate is ` 100 per hour and overtime rates are as follows:
Before and after normal working hours 175% of basic wage rate
Sundays and holidays 225% of basic wage rate
During the previous year, the following hours were
worked
- Normal time 1,00,000 hours
- Overtime before and after working hours 20,000 hours
Overtime on Sundays and holidays 5,000 hours
Total 1,25,000 hours
The following hours have been worked on job ‘Z’

Normal 1,000 hours
Overtime before and after working hrs 100 hours.
Sundays and holidays 25 hours
Total 1,125 hours
You are required to calculate the labour cost chargeable to job ‘Z’ and overhead in each
of the following instances:
(a) Where overtime is worked regularly throughout the year as a policy due to the
workers’ shortage.
(b) Where overtime is worked irregularly to meet the requirements of production.
(c) Where overtime is worked at the request of the customer to expedite the job.
Question 13
During audit of account of the G Ltd., your assistant found errors in the calculation of the
wages of factory workers and he wants you to verify his work.
He has extracted the following information:
(i) The contract provides that the minimum wage for a worker is his base rate.
It is also paid for downtimes i.e.; the machine is under repair or the worker is without
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work. The standard work week is 40 hours. For overtime production, workers are
paid 150 percent of base rates.
(ii) Straight Piece Work – The worker is paid at the rate of ` 20 per piece.
(iii) Percentage Bonus Plan – Standard quantities of production per hour are established
by the engineering department. The workers’ average hourly production, determined
from his total hours worked and his production, is divided by the standard quantity
of production to determine his efficiency ratio. The efficiency ratio is then applied to
his base rate to determine his hourly earnings for the period.
Your assistant has produced the following schedule pertaining to certain workers of a
weekly pay roll:
Worker Wages Total Downtime Units Standard Base Gross
incentive plan hours hours produced units rate wages as
per book
Mohan* Straight piece 46 ---- 455 ---- 180 9,500
work
John Straight piece 44 ---- 425 ---- 180 8,500
work
Harish Percentage 40 4 250 200 220 12,000
bonus plan
* Total hours of Mohan include 6 overtime hours.
Prepare a schedule showing whether the above computation of workers’ wages is correct
or not. Give details.
Question 14
From the following information, calculate Labour turnover rate and Labour flux rate:
No. of workers as on 01.01.2013 = 7,600
No. of workers as on 31.12.2013 = 8,400
During the year, 80 workers left while 320 workers were discharged 1,500 workers were
recruited during the year of these, 300 workers were recruited because of exits and the
rest were recruited in accordance with expansion plans.
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Question 15
Corrs Consultancy Ltd. is engaged in BPO industry. One of its trainee executives in the
Personnel department has calculated labour turnover rate 24.92% for the last year using
Flux method.
Following is the some data provided by the Personnel department for the last year:
Employees At the beginning Joined Left At the
end
Data Processors 540 1,080 60 1,560

Payroll Processors ? 20 60 40
Supervisors ? 60 -- ?
Voice Agents ? 20 20 ?
Assistant Managers ? 20 -- 30
Senior Voice Agents 4 -- -- 12
Senior Data Processors 8 -- -- 34
Team Leaders ? -- -- ?
Employees transferred from the Subsidiary Company
Senior Voice Agents -- 8 -- --
Senior Data Processors -- 26 -- --
Employees transferred to the Subsidiary Company
Team Leaders -- -- 60 --
Assistant Managers -- -- 10 --
At the beginning of the year there were total 772 employees on the payroll of the company.
The opening strength of the Supervisors, Voice Agents and Assistant Managers were in the
ratio of 3 : 3 : 2.
The company has decided to abandon the post of Team Leaders and consequently all the
Team Leaders were transferred to the subsidiary company.
The company and its subsidiary are maintaining separate set of books of account and
separate Personnel Department.
You are required to calculate:
(i) Labour Turnover rate using Replacement method and Separation method.
(ii) Verify the Labour turnover rate calculated under Flux method by the trainee executive
of the Corrs Consultancy Ltd.
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Question 16
The management of B.R Ltd. is worried about their increasing employee turnover in the
factory and before analyzing the causes and taking remedial steps, it wants to have an
idea of the profit foregone as a result of employee turnover in the last year.
Last year sales amounted to ` 83,03,300 and P/V ratio was 20 per cent. The total number
of actual hours worked by the direct employee force was 4.45 lakhs. As a result of the
delays by the Personnel Department in filling vacancies due to employee turnover,
1,00,000 potentially productive hours were lost. The actual direct employee hours
included 30,000 hours attributable to training new recruits, out of which half of the hours
were unproductive.
The costs incurred consequent on employee turnover revealed, on analysis, the following:
Settlement cost due to leaving ` 43,820
Recruitment costs ` 26,740
Selection costs ` 12,750
Training costs ` 30,490
Assuming that the potential production lost as a consequence of employee turnover
could have been sold at prevailing prices, find the profit foregone last year on account of
employee turnover.
Question 17
In a factory working six days in a week and eight hours each day, a worker is paid at the
rate of ` 100 per day basic plus D.A. @ 120% of basic. He is allowed to take 30 minutes
off during his hours shift for meals-break and a 10 minutes recess for rest. During a week,
his card showed that his time was chargeable to:
Job X 15 hrs.
Job Y 12 hrs.
Job Z 13 hrs.
The time not booked was wasted while waiting for a job. In Cost Accounting, how would
you allocate the wages of the workers for the week?
Question 18
CALCULATE the earnings of A and B from the following particulars for a month and
allocate the employee cost to each job X, Y and Z:
A B
(i) Basic Wages (`) 10,000 16,000
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(ii) Dearness Allowance 50% 50%

(iii) Contribution to provident Fund (on basic wages) 8% 8%
(iv) Contribution to Employee’s State Insurance (on basic 2% 2%
wages)
(v) Overtime (Hours) 10 --
The normal working hours for the month are 200. Overtime is paid at double the total of
normal wages and dearness allowance. Employer’s contribution to state Insurance and
Provident Fund are at equal rates with employees’ contributions. The two workers were
employed on jobs X, Y and Z in the following proportions:
Jobs X Y Z
Worker A 40% 30% 30%
Worker B 50% 20% 30%
Overtime was done on job Y.
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HOMEWORK SECTION
Question 1
You are given the following information of a worker:
(i) Name of worker : Mr. Roger
(ii) Ticket No. : 002
(iii) Work started : 1-4-19 at 8 a.m.
(iv) Work finished : 5-4-19 at 12 noon
(v) Work allotted : Production of 2,160 units
(vi) Work done and approved : 2,000 units
(vii) Time and units allowed : 40 units per hour
(viii) Wage rate : ` 25 per hour
(ix) Mr. Roger worked 9 hours a day.
You are required to calculate the remuneration of Mr. Roger on the following basis:
(i) Halsey plan and
(ii) Rowan plan
Question 2
A factory having the latest sophisticated machines wants to introduce an incentive scheme
for its workers, keeping in view the following:
(i) The entire gains of improved production should not go to the workers.
(ii) In the name of speed, quality should not suffer.
(iii) The rate setting department being newly established are liable to commit
mistakes.
You are required to devise a suitable incentive scheme and demonstrate by an illustrative
numerical example how your scheme answers to all the requirements of the management.
Question 3
The Accountant of Y Ltd. has computed employee turnover rates for the quarter ended
31st March, 20X1 as 10%, 5% and 3% respectively under ‘Flux method’, ‘Replacement
method’ and ‘Separation method’ respectively. If the number of workers replaced during
that quarter is 30, find out the number of workers for the quarter
(i) recruited and joined and
(ii) left and discharged and
(iii) Equivalent employee turnover rates for the year.
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Question 4
An article passes through five hand operations as follows:
Operation No. Time per article Grade of worker Wage rate per hour
(`)
1 15 minutes A 0.65
2 25 minutes B 0.50
3 10 minutes C 0.40
4 30 minutes D 0.35
5 20 minutes E 0.30
The factory works 40 hours a week and the production target is 600 dozens per week.
Prepare a statement showing for each operation and in total, (1) the number of operators
required, (2) the labour cost per dozen and (3) the total labour cost per week to produce
the total targeted output.
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Question 1
Distinguish between Idle Time and Idle Facilities. How are they treated in Cost Accounts?
Develop a system of control for Idle Time in a factory.
Answer
Idle time: It refers to the labour time paid for but not utilised on production. Idle time
thus represents the time for which wages are paid but no output is obtained. This is the
period during which the workers remain idle. It arises due to various reasons. According to
reasons, idle time can be classified into normal idle time and abnormal idle time. Normal
idle time is the time which cannot be avoided or reduced in the normal course of business.
For example, some labour time is bound to be lost due to the time taken by workers to
cover the distance between the factory gate and the department or the actual work place
where they are working. Sometime also elapses between the finishing of one job and
the starting of another job. Since a worker cannot work continuously for the whole day,
sometime is required during which he attends to this personal needs, such as taking lunch
or rest to avoid normal fatigue. It is thus obvious that normal idle time is unavoidable.
Abnormal idle time may arise because of inefficiency, mischief and misfortune such as
breakdown of machines for a long period, power failure, non-availability of materials,
etc. generally, it is avoidable and controllable. However, abnormal idle time arising on
account of strike, lockouts, floods, etc. may be uncontrollable. By proper care and caution
abnormal idle time can be reduced or eliminated to a very great extent.
Idle facilities: The terms facilities has a wider connotation. It may include production
capacity as well. Facilities may be provided by the fixed assets such as building space,
plant/equipment capacity etc., or by various service functions such as material services,
production services, personnel services etc., if a firm is not able to make full use of all
these facilities then the firm may be said to have idle facilities. Thus, idle facilities refer
to that part of total production facilities available which remain unutilized due to any
reason such as non-availability of raw-material, etc. Idle facilities differ from idle time.
A firm may have idle facilities even when it works full time; e.g., when facilities have been
provided on too large a scale.
Treatment of idle time in Cost Accounting: Treatment of idle time in coast accounting depends
upon its nature. The cost of normal idle time is charged to the cost of production. This
may be done by inflating the labour rate or the normal idle time may be transferred to
factory overhead for absorption through factory overhead absorption rate. In relative
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terms, the cost of normal idle time is generally nominal. As against normal idle time
cost, the cost of abnormal idle time sometime may be quite substantial. Since these costs
are beyond the control of the management and being abnormal in nature, they do not
form part of cost of production. Therefore, payment for them is not included in cost of
production and is transferred to costing profit and loss account.
Treatment of idle facilities in Cost Accounting: Normal idle facilities cost which arises due
to unavoidable reasons, should be included in the works overhead. On the other hand,
abnormal idle facilities cost which arises due to plants or machines/facilities remaining
idle on account of trade depression or for want of work etc., should be written off to
costing profit and loss account.
System of controlling idle time: The system of idle time control aims at controlling the time
for which a worker has been paid but has not been utilised for productive purposes. Such
a loss of time is know as idle time. The control of idle time requires the use of a proper
system of recording the idle time, ascertaining its reasons for occurrence and initiating
suitable administrative action to stop its reoccurrence.
To record the duration of idle time and to ascertain the reasons of its occurrence, the
format given as below may be used. This format not only records the time paid for but
also the standard time which a worker should take to produce a unit of output. The
time actually paid on comparison with standard time may reveal the element of idle
time, if any. After this the reasons for the occurrence of idle time should be ascertained
and stated in the suitable column of the format. In this way a statement of labour time
utilization is usually prepared. Such a statement is quite useful to the officers who are
concerned with the control of idle time. In fact it serve as a sound basis for their actions
to control idle time. Such a statement clearly points out to persons responsible for the
control of idle time the reasons for the occurrence of idle time.
Finally, the concerned officer may suggest the remedial measures to minimize the
occurrence of idle time in future.
Question 2
What do you understand by Overtime Premium?
What is the affect of overtime payment on productivity and cost?
Discuss the treatment of overtime premium in cost accounts and suggest a procedure for
control of overtime work.
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Answer
Overtime premium: Overtime is the amount of wages paid for working beyond normal
working hours as specified by Factories Act or by a mutual agreement between the
workers union and the management. According to Factories Act of 1948, a worker is
entitled for overtime at double the rate of his wages (including allowances) if he works
beyond 9 hours in a day or 48 hours in a week even where the Act is not applicable, the
practice is to pay for overtime work at higher rates usually in accordance with a standing
agreement between the employer and the workers. Hence, payment of overtime consists
of two elements, the normal wages i.e., the usual amount, and the extra payment i.e.,
the premium. This amount of extra payment paid to a worker under overtime is known
as overtime premium.
The overtime payment affects the productivity and cost in many ways as follows :
(i) During overtime period the efficiency of a worker is low. This causes reduced
productivity, thus during this period the productivity is lesser than the normal one.
(ii) In their anxiety to earn more, the workers may not concentrate on work during
normal time and thus the output during normal hours may also fall.
(iii) The practice of resorting to overtime adversely affects workers’ health which may
lead to increase in accident rate and consequently a decrease in productivity.
(iv) Due to overtime, it is not possible to carry out necessary maintenance of plants and
machinery. Such a situation results occasionally in a major breakdown and hence
accounts for the stoppage of production cycle.
(v) Reduced output and increased premium are responsible for bringing an increase in
cost of production.
Overtime premium is a part of total wages of overtime period. In cost accounting the
treatment of overtime premium will be as follows:
(i) If the overtime is resorted to at the desire of the customer, then the entire amount
of overtime including overtime premium should be charged to the job directly.
(ii) If it is due to a general pressure of work to increase the output, the premium as well
as overtime wages may be charged to general overheads.
(iii) If it is due to the negligence or delay of workers of a particular department, it may
be charged to the concerned department.
(iv) If it is due to circumstances beyond control, it may be charged to Costing Profit &
Loss Account.
As regards the control of overtimes is concerned, it is difficult to eliminate it completely.
But it is not difficult to control it and to keep it to the barest minimum.
The procedure for control of overtime work involves the following steps :
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1. Entire overtime work should be duly authorized after investigating the reasons for it.
2. Overtime cost should be shown against the concerned department. Such a practice
should enable proper investigation and planning of production in future.
3. If overtime is a regular feature, the necessity for recruiting more men and adding a
shift should be considered.
4. If overtime is due to lack of plant and machinery or other resources, steps may be
taken to install more machines, or to resort to sub contracting.
Question 3
What are piece-rate? What advantage and disadvantages are attributed to their use?
What principles should govern the determination and revision of piece-rates?
Answer
Piece Rate: It is that rate, which is paid to a worker for producing a single unit of output.
The wages of a worker under piece rate method are calculated by multiplying the number
of units of output produced by a pre-determined piece rate. For example, if the pre-
determined piece rate is ` 5 per unit and a worker has produced 200 units, then the total
wages to be paid will be ` 1,000.
To be more exact, the above type of piece rate method is known as straight piece rate. It
has another variation also, which is known as differential piece rate. Under differential
piece rate system, different piece rates are given to workers for different levels of efficiency.
Important advantage and disadvantages which are attributed to the use of piece rates
are as follows:
Advantages of piece rates:
1. The application of piece rate acts as an incentive to workers to produce more to
maximize their earnings.
2. Due to increase in output, the per unit total cost of production reduces.
3. Losses due to mishandling of machines and breakage of tools etc., are minimized, as
the workers understand fully their importance.
4. Workers are constantly on the lookout to develop improved methods of performing
jobs which may result in increased productivity.
5. The piece rate method is easily understood by workers and thus it is highly appreciated.
6. The use of piece rates reduces supervision costs.
Disadvantages of piece rates:
1. To maximize earnings, sometime sub - standard quality of goods are produced by
workers.
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2. Workers hardly have any consideration for the resources of the concern. They may
waste material and mishandle tools and machinery. Such an act on the part of
workers reduces the concern’s profitability.
3. The use of piece rate has no place for less efficient workers.
4. Due to continuous working for several hours, the health of workers is adversely
affected.
5. The determination of a piece rate acceptable to workers is a difficult task. In fact, it
is a disputable point between employees and employer.
Important principles of piece rate determination and revision :
Important principles which should govern the determination and revision of piece rates
are as follows:
1. Different piece rates should be determined for different types of jobs.
2. The piece rates determination should give due consideration to factors such as
requirement of jobs, conditions under which jobs would be performed, risk involved,
efforts involved while working on the job, etc.
3. The wage rate should be such that it guarantees a minimum living wage to ensure
a satisfactory standard of living.
4. It should reduce/stabilize labour turnover on its application.
5. It should act as an incentive to motivate workers in giving a higher output.
6. The wage rate should be able to reduce absenteeism and late coming.
7. It should be acceptable to trade unions.
8. It should be flexible and capable of being adapted to changed circumstances.
9. Piece rates should be revised as and when they are revised by other firms in the
industry or there is an increase in the cost of living index.
10. It may be revised at the end of the contract period as settled between management
and workers union.
Question 4
List down the factors to be considered before introducing a scheme of incentive to workers.
Answer
An incentive can be defined as the stimulation of effort and effectiveness on the part of
workers by offering monetary inducement or enhanced facilities. It means that incentive
can be given in monetary or non - monetary form to workers. It is usually linked with
the efforts made by individual workers or by their work group for increasing production.
By the implementation of such a scheme not only the workers but also the employer is
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benefited. Due to increased production the overhead cost is spread over a larger output
and thus per unit cost of production of the product is reduced.
Factors to be considered before introducing a scheme of incentives to workers.
1. The impact of the Scheme in motivating workers.
2. The impact of the scheme on workers performing:
(i) Quality job and thus giving a lower output
(ii) Routine job with a potential to give a higher output.
(iii) Job by using an automatic machine, where the possibility of increasing the
output beyond the fixed number does not exist.
3. The reaction of workers and union leaders towards the incentive scheme.
4. How for it is practicable to measure the performance of each worker, as it is necessary
for the calculation of incentive?
5. The extent of saving in cost of production per unit due to increased production.
6. The incentive schemes prevailing in other areas and industries or similar business.
7. The effect of incentive scheme on different sets of workers e.g., unskilled and skilled
workers.
8. The exactitude with which standards of performance can be laid down. As it is
necessary for the introduction of a scheme of incentives.
9. The cost of operating the scheme.
10. The capacity of the market to absorb the increased production because of the scheme
without reducing the selling price.
Question 5
Discuss the three methods of calculating labour turnover. (Nov. 2004, 3 Marks)
Answer
Methods of Calculating labour turnover
(i) Replacement method =

(ii) Separation method =

(iii) Flux method =

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Question 6
Discuss two types of Costs, which are associated with labour turnover.
(Nov. 2003, 3 Marks)
Answer
Two types of costs associated with labour turnover are:
(i) Preventive costs : These costs are incurred to keep the labour turnover rate at a low
level. They include costs of accommodation, transport facilities, medical services,
welfare schemes, pension schemes, environment improvement, lighting, heating,
air-conditioning etc. The rate of labour turnover is usually low, if a company incurs
higher preventive costs.
(ii) Replacement costs : These costs arise due to high labour turnover, e.g. cost of advertising,
recruitment, selection, training & induction, abnormal breakage and scrap, extra
wages & overheads etc., caused as a result of inefficient and inexperienced newly
recruited workers.
Question 7
Discuss the accounting treatment of Idle time and overtime wages.
(May 2003, 3 Marks)
Answer
Accounting treatment of idle time wages & overtime wages in cost accounts:
Normal idle time is treated as a part of the cost of production. Thus, in the case of direct
workers, an allowance for normal idle time is built into the labour cost rates. In the case
of indirect workers, normal idle time is spread over all the products or jobs through the
process of absorption of factory overheads.
Under Cost Accounting, the overtime premium is treated as follows :
• If overtime is resorted to at the desire of the customer, then the overtime premium
may be charged to the job directly.
• If overtime is required to cope with general production programme or for meeting
urgent orders, the overtime premium should be treated as overhead cost of particular
department or cost center which works overtime.
• Overtime worked on account of abnormal conditions should be charged to costing
Profit & Loss Account.
• If overtime is worked in a department due to the fault of another department the
overtime premium should be charged to the latter department.
581
Question 8
Discuss the effect of overtime payment on productivity (Nov. 2004, 3 Marks)
Answer
Effect of overtime payment on productivity: Overtime work should be resorted to only when
it is extremely essential because it involves extra cost. The overtime payment increases
the cost of production in the following ways:
1. The overtime premium paid is an extra payment in addition to the normal rate.
2. The efficiency of operators during overtime work may fall and thus output may be
less than normal output.
3. In order to earn more the workers may not concentrate on work during normal time
and thus the output during normal hours may also fall.
4. Reduced output and increased premium of overtime will bring about an increase
cost of production.
Question 9
State the circumstances in which time rate system of wage payment can be preferred in a
factory. (Nov. 2004, 3 Marks)
Answer
Circumstances in which time rate system of wage payment can be preferred :
In the following circumstances the time rate system of wage payment is preferred in a
factory.
1. Persons whose services cannot be directly or tangibly measured, e.g., general helpers,
supervisory and clerical staff etc.
2. Workers engaged on highly skilled jobs or rendering skilled services, e.g., tool making,
inspection and testing.
3. Where the pace of output is independent of the operator, e.g., automatic chemical
plants.
Question 10
Discuss briefly, how will you deal with casual workers and workers employed on outdoor
work in Cost Accounts. (May 2002, 4 Marks)
582
Answer
Causal and outdoor workers
Casual workers (badli workers) are employed temporarily, for a short duration to cope
with sporadic increase in volume of work. If the permanent labour force is not sufficient to
cope effectively with a rush of work, additional labour (casual workers) are employed to
work for a short duration. Outdoor workers are those workers who do not carry out their
work in the factory premises. Such workers either carry out the assigned work in their
homes (e.g., knitwear, lamp shades) or at a site outside the factory.
Casual workers are engaged on a daily basis. Wages are paid to them either at the
end of the day’s work or after a periodic interval. Wages paid are charged as direct or
indirect labour cost depending on their identifiability with specific jobs, work orders, or
department.
Rigid control should be exercised over the out-workers especially with regard to following:
1. Reconciliation of materials drawn/issued from the store with the output.
2. Ensuring the completion of output during the stipulated time so as to meet
comfortably the orders and contracts.
583

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INTER CA.

- Laundry charges : `80, 000

IMPORTANT THEORY QUESTIONS FOR EXAMINATION

* If there is loss in contract in any year then entire loss is to be transferred to

* In the year of completion following entry is to be recorded.

accounts to 31st March, 2019.

General Expenses 10,000

The above contract contained an escalation clause which read as follows :

Actual expenditure in 2018-2019 and estimated expenditure in 2019-2020 are given

IMPORTANT THEORY QUESTIONS FOR EXAMINATION

MATERIAL COST CONTROL,

A. How To Purchase [Raw Materials]

9 Raw Materials Issue 3 Stores Production Stores

B. HOW MUCH TO BUY / MANUFACTURE AT A TIME:

(ii) Total Ci or carrying cost:

(2) Maximum (possible) stock:

(3) Minimum (desirable) stock:

(4) Average stock =

You are required to calculate:

the lot size is 2,000 components at a time.

What would be the following quantities:

STOCK VALUATION AND STOCK CONTROL

Minimum Quantity to be purchased Any Quantity 1,62,000 kg.

You are required to

IMPORTANT THEORY QUESTIONS FOR EXAMINATION

numerous, one should categorise them according to their importance. Close

respect of their receipts, issue and balance.

EMPLOYEE COST AND DIRECT

1. Calculation of Labour Cost

Halsey System Rowan System

Time Allowed: It represents standard time allowed by the company to produced

(II) Piece Rate System

Effect of Labour Turnover

Labour Turnover due to new recruitment

Labour hour rate =

4. Over Time and its Treatment

Overtime premium is a part of total wages of overtime period. In cost accounting

As regards the control of overtimes is concerned, it is difficult to eliminate it

Hourly rate of wages (guaranteed) ` 40

Premium Bonus : Add 50% to time.

for 4 hours worked).

The following hours have been worked on job ‘Z’

Data Processors 540 1,080 60 1,560

(ii) Dearness Allowance 50% 50%

IMPORTANT THEORY QUESTIONS FOR EXAMINATION

(i) Replacement method =

(ii) Separation method =

(iii) Flux method =

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