Understanding Cost Concepts and Methods

This assignment delves into the fundamental principles of cost accounting. It examines different types of costs, their classification based on behavior and relevance, and various costing methods employed by organizations. Students are expected to demonstrate a clear understanding of these concepts and apply them to analyze cost structures and make informed business decisions.

MANAGEMENT
ACCOUNTING
1

Table of Contents
INTRODUCTION................................................................................................................................4
TASK 1.................................................................................................................................................4
1.1 Classify different types of cost with examples for Bittern Manufacturers Ltd..........................4
1.3 Meaning and comparative evaluation of variable and absorption costing system....................6
1.4 Analysis of cost data using appropriate technique and its purpose............................................7
TASK 2 ................................................................................................................................................8
TASK 3 ................................................................................................................................................8
3.1 Explain the purpose and nature of budgeting process adopted..................................................8
3.2 Meaning of budgeting method used for Antonio Ltd and its need with required advices and
suggestions.......................................................................................................................................9
3.3 Preparation of budget and purpose of the method...................................................................10
3.4 Preparing budgets for Antonio Ltd..........................................................................................10
TASK 4...............................................................................................................................................11
4.1 Identify calculation of variances and its possible causes and corrective actions.....................11
4.2 Preparing operating statement to deduce budgeting profit......................................................13
4.3 Report findings to the management.........................................................................................14
CONCLUSION..................................................................................................................................14
REFERENCES...................................................................................................................................16
2

Index of Tables
Table 1: Comparative analysis of variable and absorption costing......................................................7
Table 2: Calculation of Bittern Ltd's cost and profitability using variable costing .............................8
Table 3: Calculation of Bittern Ltd's cost and profitability using absorption costing ........................9
Table 4: Material purchase budget of Antonio Ltd ............................................................................11
Table 5: Trade payable budget of Antonio Ltd ..................................................................................11
Table 6: Cash budget of Antonio Ltd. ................................................................................................11
Table 7: Calculation of total sales ......................................................................................................12
Table 8: Calculation of variances for Toscanini Ltd...........................................................................12
Table 9: Reasons for variance and corrective actions ........................................................................13
Table 10: Operating reconciliation statement of Toscanini Ltd..........................................................14
Illustration Index
Illustration 1: Element of cost .............................................................................................................5
Illustration 2: Cost behaviour ..............................................................................................................6
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INTRODUCTION
Management accounting is the process of examining and evaluating financial business
performance, cost report and market analysis to take better decisions for the success of an
organizations. Bittern Ltd is a manufacturing organization which sell single product to the
customers on a uniform selling price. This assignment explore the study of cost classification,
methods and techniques to ascertain product cost. Moreover, various types of performance
indicators will be determined and suggestions will be acquired to reduce cost, and improve quality
and business value for Next Plc. Furthermore, budgeting methods and budgets like trade payable,
cash and raw material budget will be prepared for Antonio Ltd. In end, variance will be analysed to
take decisions to remove negative results and achieve targets.
TASK 1
1.1 Classify different types of cost with examples for Bittern Manufacturers Ltd.
Cost means the payments made by Bittern Ltd to produce goods or services. Different types
of costs are explained below:
Cost Element:
Illustration 1: Element of cost
(Source: Drury, 2013)
Being a manufacturing organization. Bittern Ltd, definitely incur expenses on the three
elements, that are material, labour and overheads, enumerated hereunder:
Material: Cost of input raw material in the production process so as to get desired finished
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goods is called material cost includes both direct or indirect cost.
Labour: Cost of hiring workers to put their best efforts in handling machines and producing
required quantity of goods, is known as labour cost (Drury, 2013). For instance, Bittern Ltd
has to pay wages to the labourers is called labour cost.
Overhead: Expenditures except material and labour that are incur in the manufacturing
process are known as overheads like excise duty, royalty, cost of moulds etc.
Cost behaviour:
Illustration 2: Cost behaviour
(Source: Stewart, Wang and Willgoose, 2013)
Fixed cost: All the expenditures which do not change in the proportionate to the volume
produced by Bittern Ltd, called fixed cost. Example, cost of depreciation, insurance, rent
etc. With reference to the case study, Bittern Ltd incurred fixed cost of 5000 GBP.
Variable cost: Expenses which are directly related to the volume of production are called
variable cost (Different types of cost, 2013). At higher production, variable cost will be
increase or vice versa. Like, material and labour's wages etc. Bittern Ltd production material
and distribution are considered as variable cost @ 10 and 1 GBP on each unit manufactured.
Semi-variable cost: It is a mixture of both fixed or variable as it remains fixed up to a pre-
specified production level and thereafter, fluctuates with the increase or decrease in output
such as electricity and telephone bill. Bittern Ltd labour cost is semi-variable, in which,
5000 GBP is a fixed expenditure and beyond this level, company incurred a variable cost of
2 GBP each unit produced.
Cost nature:
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Direct cost: All the Bittern Ltd's expenditures which have direct relationship with its
manufacturing operations are called direct expenses. All the direct expenditures are variable
in nature such as direct material, direct labour and direct overhead (Ruiz and et.al., 2013)
Indirect cost: Expenditures which can't be identifiable in relation to the production process
or a department are called indirect cost. This expenses may or may not be of variable nature
such as cost of factory building, machinery etc (Stewart, Wang and Willgoose, 2013).
1.2 Different costing method and explaining the costing method for Bittern Ltd
Costing method is regarded as the process to ascertain the production cost of Bittern Ltd. As
per CIMA, London, some of the costing methods available to Bittern Ltd are presented here below:
Job costing: This method helps to determine the cost of each work order which is separately
known as job. Every job order contains less quantity of goods than aggregate production and
have own specification (Braun, 2013). It is mainly used by car repairers, painters and
decorates who provide services according to customers orders.
Batch costing: This method is used by the enterprises where units are produced in batch. All
the batch are uniform in the terms of nature as well as design (Methods of costing and Types
of costing, 2016). In order to determine cost, each batch is treated as separate job. It is
highly used by bakeries and pharmaceutical firms to assess their product cost.
Process costing: In companies, where production is carried out into several stages or
processes than they use process costing to determine the cost of each completed process and
in end, total cost of the production can be identified easily.
Contract costing: Building contractors and engineers greatly use this method to assess the
cost of work done on long term contracts (Fisher and Krumwiede, 2015). For this purpose,
they keep a separate account for all the contracted work.
Absorption costing: Bittern Ltd, may use this method in which all the incurred direct and
indirect expenses are accumulated to measure total production cost and thereby take better
pricing decisions (Krumwiede and Walden, 2013).
1.3 Meaning and comparative evaluation of variable and absorption costing system
Costing techniques defines the process of cost calculation and thereby maintain effective
control and take decisions.
Absorption costing: This technique takes into account all the cost whether fixed or variable
in nature to identify total production cost. Henceforth, it is also called full costing method.
Variable Costing: This technique considers only the variable expenditures incurred by
Bittern Ltd to produce goods in required quantity. It avoids fixed cost as they are not affected by the
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changes in production output (Surbhi, 2015).
Table 1: Comparative analysis of variable and absorption costing
Difference basis Variable/Marginal costing Absorption/Full costing
Cost recognition Variable Fixed and variable
Profitability It is determined by identifying profit
volume ratio (PVR). Thus, fixed
expenditures do not have any impact
on Bittern Ltd's profitability (Surbhi,
2015).
Inclusion of fixed cost affect business
profit as higher the fixed cost
decrease profit or vice-versa.
Focus It pay focus on contribution per unit
which can be determined by
subtracting total variable cost from the
total revenue and then divided by the
number of units produced (Methods of
costing and Types of costing, 2016).
It pay focus on net profit per unit
determined by subtracting total cost
from the turnover and divided by the
total production volume of Bittern
Ltd (Krumwiede and Walden, 2013).
1.4 Analysis of cost data using appropriate technique and its purpose
Table 2: Calculation of Bittern Ltd's cost and profitability using variable costing
Particulars Calculation
At stable production
level, sales and
inventory
At stable sales and
fluctuating production
level and inventory
At stable production
level and fluctuating
sales and inventory
t1 t2 t3 t1 t2 t3 t1 t2 t3
Total sales Sales unit*£25 25000 25000 25000 20000 20000 20000 10000 24000 26000
Production
material
Unit
produced*£10 10000 10000 10000 15000 8000 7000 10000 10000 10000
Distribution
costs
Unit
produced*£1 1000 1000 1000 1000 1000 1000 600 400 100
Labour
(Variable
costs)
Unit
produced*£2 2000 2000 2000 3000 1600 1400 2000 2000 2000
Total costs
(Material
+Labour+Distri
bution cost) 13000 13000 13000 19000 10600 9400 12600 12400 12100
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Profitability
(Sales-Total
cost) 12000 12000 12000 1000 9400 10600 -2600 11600 13900
Cost per unit
Total
cost/Number of
units produced 13 13 13 12.67 13.25 13.43 12.6 12.4 12.1
Closing stock
(Units) Given 100 100 100 600 400 100 600 400 100
Closing stock
(in £)
Inventory
units*£13 1300 1300 1300 7600 5300 1342.86 7560 4960 1210
Table 3: Calculation of Bittern Ltd's cost and profitability using absorption costing
Particulars Calculation
At stable production
level, sales and
inventory
At stable sales and
fluctuating production
level and inventory
At stable production
level and fluctuating
sales and inventory
t1 t2 t3 t1 t2 t3 t1 t2 t3
Sales Sales unit*£25 25000 25000 25000 20000 20000 20000 10000 24000 26000
Production
material
Unit
produced*£10 10000 10000 10000 15000 8000 7000 10000 10000 10000
Distribution
costs
Unit
produced*£1 1000 1000 1000 1000 1000 1000 600 400 100
Labour
[£5000+(Unit
produced*£2)] 7000 7000 7000 8000 6600 6400 7000 7000 7000
Overheads 5000 5000 5000 5000 5000 5000 5000 5000 5000
Total costs
(Material
+Labour+Distri
bution
+Overheads) 23000 23000 23000 29000 20600 19400 22600 22400 22100
Profitability
(Sales-Total
cost) 2000 2000 2000 -9000 -600 600
-
12600 1600 3900
Cost per unit
Total
cost/Number of
units produced 23 23 23 19.33 25.75 27.71 22.6 22.4 22.1
Closing stock
(Units) Given 100 100 100 600 400 100 600 400 100
Closing stock
(in value)
Inventory
units*£13 2300 2300 2300 11600 10300 2771.43 13560 8960 2210
TASK 2
Enclosed in power point presentation.
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TASK 3
3.1 Explain the purpose and nature of budgeting process adopted
Forecasting is an essential and very difficult task of the managers. Budget is a financial plan
in which Antonio Ltd's managers will estimate their potential business expenditures and revenues
(Lloyd and et.al., 2015). The main objectives of the budgeting process is to forecast possible
revenue, spendings and profit as well. Moreover, this financial plan assist Antonio Ltd's
management to analyse targets with the actual results and thereby take better quality of decisions
through which targets can be achieved (Citi, 2013). Thus, it can be said that budgeting process assist
management in their decision-making process.
The nature of Antonio Ltd's budgeting process are outlined here as under:
Initially, financial manager is required to forecast future expenses and revenue by the
analysis of historical budget. In such respect, cash inflow can be determined by the identification of
potential sales through operations. However, its disbursement can be estimated by determining the
amount that will be needed to spend on material purchase, labour's wages and other overheads.
After this determination, Antonio Ltd' net cash position can be determined by subtracting total cash
outflow from the probable income (Biza, Kapingura and Tsegaye, 2015). It may indicate deficit
(high cash outflow than inflow) or surplus (high cash inflow than outflow) balance. After its
preparation, once it will be reviewed and modification will be done, if required. In last, constructed
budget will be sent to all the Antonio Ltd's department like purchase, sales, marketing, finance etc.
with the expectation, that targets will be achieved by continuous monitoring of operations with the
budgets (Parmenter, 2015).
3.2 Meaning of budgeting method used for Antonio Ltd and its need with required advices and
suggestions
Budgeting method is an essential part of management cost control system. It provides a
system of planning, coordination and controlling various business functions of Antonio Ltd
(Gössling, 2015). There are two budgeting methods, that are enumerated here as under:
Incremental budgeting: This method use previous period budget as a base and necessary
adjustment will be made by Antonio Ltd regarding introduction of new laws, inflation etc. In this
method, past year's budgeted amount will be increase by an appropriate percentage or amount.
Simplicity and easiness as market analysis is not required, is the benefit. However, assuming all the
historical operations will be carry out in future not can be seen realistic assumption in the present
dynamic business world (Citi, 2013). Moreover, it encourage unnecessary spendings which in turn,
reduce Antonio Ltd's profit.
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Zero-based budgeting: This method makes proper market evaluation so as to identify
activities or function which will be conducted in future. It is consider as an appropriate budgeting
method for Antonio Ltd to prepare their budgets. The reason behind such suggestion is managers
will focus their efforts to ensure optimum utilization of resources by effective allocation (Callaghan,
Hawke and Mignerey, 2014). Moreover, maximizing turnover and minimizing cost in order to drive
more profitability are the benefits of it. Through this, more realistic targets can be set and
communicated to the departments to achieve it in more effectual manner.
Flexible budget: Budget which can be adjusted according to the changes in production level
or level of activity is called flexible budget. It enables managers of the Antonio Ltd to compare their
actual results with the targets and helps to make solid decisions for the growth.
Fixed budget: Unlike flexible budgeting, fixed budget gives information regarding cost and
revenue at a certain or specified volume or activity may cause difficulties in deviation analysis.
3.3 Preparation of budget and purpose of the method
Antonio Ltd can identify the material quantity and cost which it will incur in the
forthcoming period to produce goods in required quantity (Biza, Kapingura and Tsegaye, 2015).
Table 4: Material purchase budget of Antonio Ltd
Particular June July Aug. Sept. Oct. Nov
Required material units 400 500 600 600 700 750
Add: Ending inventory 500 500 500 500 500 500
Total 900 1000 1100 1100 1200 1250
Less: Begining inventory 500 500 500 500 500 500
Material quantity need to be
purchased 400 500 600 600 700 750
Raw material price per unit 8 8 8 8 8 8
Total cost of material 3200 4000 4800 4800 5600 6000
Antonio Ltd, can determine their accounts or trade payable by constructing trade payable
budget, prepared hereunder:
Table 5: Trade payable budget of Antonio Ltd
Particulars June July August Sept. Oct. Nov.
Material trade payable 3200 4000 4800 4800 5600 6000
Overhead trade payable 280 320 320 320 320 400
Total trade payables 3480 4320 5120 5120 5920 6400
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3.4 Preparing budgets for Antonio Ltd
Cash budget is a summarized statement of probable cash revenue and expenditures for the
future year, for Antonio Ltd, it is prepared below:
Table 6: Cash budget of Antonio Ltd.
Particulars July Aug. Sept. Oct. Nov Dec.
Sales (w.n.1) 7600 9200 10400 11800 13200 14800
Total revenue 7600 9200 10400 11800 13200 14800
Cash expenditures
Purchase of raw material 3200 4000 4800 4800 5600 6000
Direct expenses with labour 3000 3600 3600 4200 4500 4500
Production overheads 1560 1600 1600 1600 1920 1920
New plant - - 2200 2200 2200 -
Advertisement cost 1000 - - 1500 - -
Total outflow 8760 9200 12200 14300 14220 12420
Deficit/Surplus -1160 0 -1800 -2500 -1020 2380
Initial cash balance 7500 13840 27680 53560 104620 208220
Closing cash position 6340 13840 25880 51060 103600 210600
Working note: 1.
Table 7: Calculation of total sales
Particulars July Aug. Sept. Oct. Nov Dec.
Cash sales 4800 6000 7200 7800 8400 9600
Credit sales (2 Months) 2800 3200 3200 4000 4800 5200
Total sales 7600 9200 10400 11800 13200 14800
Interpretation and suggestions: According to the budget, Antonio Ltd's cash revenue are
comparatively less hence, net cash position indicates deficit balance. Therefore, following
suggestions can be given to Antonio Ltd to remove adverse results and achieve target goals.
 Material cost can be controlled by finding overseas suppliers who will be ready to supply
material at cost effective prices.
 Hiring required number of skilled labourers at affordable wages rate help to maintain
Antonio ltd's labour cost (Baiocchi and Ganuza, 2014).
 Effective monitoring by the management helps to maintain production overheads.
 Strategic advertisement and marketing campaign, reasonable selling prices, attractive
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discounting offers helps to maximize Antonio Ltd's sales and profitability as well (Citi,
2013).
TASK 4
4.1 Identify calculation of variances and its possible causes and corrective actions
Difference between Toscanini Ltd's actual and budgeted targets are called variances, may be
positive/favourable or negative/unfavourable variance (Hope and Fraser, 2013).
Table 8: Calculation of variances for Toscanini Ltd
Formula Calculation Variance
Material variance
Price (Std price-Act.
Price)*Actual qty.
(2.4-2.4)*1425 Zero
Usage (std. Qty.-Actual
Qty)*Std. price
[(3500*0.4)-
(1425)]*2.40
60(A)
Labour variance
Rate (SR-AR)*SH (8-7.8)*350 units 70(f)
Efficiency (SH-AH)*SR (350-345)*8 40(f)
Overhead variance
Overhead variance Budgeted fixed
overhead – fixed
overhead variance
(4800 – 4900) 100 (A)
Sales volume variance
Volume (3040-4160) 1120 (A)
Price (AQ*SP)-Actual sales (14000 – 13820) 180 (A)
Table 9: Reasons for variance and corrective actions
Particular Reasons Corrective action
Material  Excessive use of material than target
quantity of 1400 Kg for 3500 units.
 Ineffective control of production
department manager over material
use.
 High wastage and spoilage of raw
material (Isa, Saleh and Sapiei, 2016).
 Material stolen by labourers and
 Effective policies to
ensure proper utilization
of purchased material
help to reduce cost by
eliminating wastage
(Hope and Fraser,
2013).
 Moreover, purchasing
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supervisors. department and
production department
should pay focus on
labour's activities to
avoid the loss of
material stolen (Shields,
2015).
Labour  Favour variance arisen because actual
wages rate to £7.78/hour than target
rate worth £8/hour.
 Skilled labourers use less hours of 345
hours while allocated hours was 350
hours.
 It is favourable because
it minimize labour cost
and increase business
profitability of Toscanini
Ltd (Kastberg and
Siverbo, 2016).
Overhead  Ineffective control of production
department over the operations drive
negative variance worth £100.
 Production department
managers and
supervisors should
monitor daily operations
with the targets to
control excessive
overheads (Whitecotton,
Libby and Phillips,
2013).
Sales  Less actual selling price to £3.94 than
target selling price of £4.
 Less sales unit to 3500 than target of
4000 units.
 Less Market demand (Shields, 2015).
 Ineffective marketing policies of
Toscanini Ltd.
 Increasing selling price.
 Effective marketing and
advertisement.
 Trade discounts for
purchasing goods in
bulk (Walters, 2015).
 Attractive discounting
offers.
 Introduction of
innovative features in
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the products.
4.2 Preparing operating statement to deduce budgeting profit
Table 10: Operating reconciliation statement of Toscanini Ltd
Variances Favorable (£) Adverse (£) Net (£)
Sales volume variance 1120
Sales price variance 180
Material price variance Zero
Material usage variance 60
Labor rate variance 70
Labor efficiency variance 40
Fixed overhead expenditure
variance
100
Total variances 110 (F) 1460 A
Total net variance 1350 (A)
Budgeted operating profit 4160
(-) Total net variance -1350
Actual operating profit 2810
4.3 Report findings to the management
To: Toscanini Ltd's Board of Directors
From: Management Analyst
Date: 7th July, 2016
From the conducted variance analysis, it should be reported to the cost centre that
Toscanini Ltd's incurred high cost on material and overheads. While, labour cost has been
effectively controlled. Excessive use of material either due to stolen or high wastage and
defectives are the reasons for high actual material cost. However, overheads cost is high because
ineffective control of the departmental manager. On the contrary to this, revenue centre of
Toscanini Ltd should be reported about less actual turnover worth £13820. Hence, sales
department should take decisions to increase demand by organizing an effective advertisement
campaign and marketing policies. By maximizing the sales and controlling cost, firm will be able
to accomplish its desired objectives and goals.
CONCLUSION
Above project report concluded that Bittern ltd, should apply absorption costing method to
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ascertain their product cost and pricing decisions. While, Next Plc has been suggested to reduce
their cost through negotiation, saving and curtailment of unnecessary spendings. While, quality and
value can be improved by TQM, high profitability, better use of technology and operating in
diversified market segment. Antonio Ltd, has been suggested to use zero-based budgeting to prepare
budget for the future period. While, in end, Toscanini's cost centre has been advised to control
material and overhead cost and revenue centre has been suggested to maximize turnover. So that, it
can achieve target goals and enjoy success to assure long run sustainability.
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