Cost Accounting: Methods & Applications

This assignment delves into the world of cost accounting, exploring diverse costing methods such as standard costing, activity-based costing, and target costing. It examines their applications in lean manufacturing environments and how they contribute to informed decision-making in organizations. The assignment emphasizes the practical relevance of cost accounting concepts through real-world examples and case studies.

Management Accounting

TABLE OF CONTENTS
INTRODUCTION...........................................................................................................................1
TASK 1............................................................................................................................................1
1.1 Classification of cost..............................................................................................................1
1.2 Calculation of unit cost and total job cost for job 444...........................................................2
1.3 Computation of cost of exquisite by making use of absorption costing technique...............3
1.4 Analysis of cost data of exquisite using appropriate techniques...........................................5
TASK 2............................................................................................................................................6
2.1 Analysis of cost report by completing the table and commenting on variance.....................6
2.2 Various performance indicators used to identify areas for potential improvements.............7
2.3 Different ways to reduce costs, enhance value and quality...................................................7
TASK 3............................................................................................................................................8
3.1 Purpose and nature of budgeting process to the budget holders............................................8
3.2 Selection of appropriate budgeting methods in accordance with the needs of organization.9
3.3 Preparation of production and material purchase budget......................................................9
3.4 Preparation of cash budget...................................................................................................11
Task 4.............................................................................................................................................12
4.1 Computation of variances along with the identification of possible causes and
recommendation for corrective actions.....................................................................................12
4.2 Operating statements includes both budgeted and actual results.........................................15
4.3 Management report in accordance with the identified responsibility centres.....................15
Conclusion.....................................................................................................................................16
References......................................................................................................................................17

INTRODUCTION
Management accounting is the process of preparing management reports and accounts
that provides timely and accurate information (financial and statistical) which is required by the
manager to make short term or day to day decisions. Management accounting generates
periodical reports for company's internal audiences such as top level managers and middle level
managers. Management reports show the amount of sale revenue generated, available cash, trend
charts, variance analysis and other statistics (Kont, 2013).
Organizations operate in a very dynamic and in a competitive environment. So effective
decision making is important for the organizational success and survival. Therefore reports
provided by the management accountant to the managers will help them in making timely and
appropriate decisions. The present report emphasizes on nature and role of management
accountant, users of the management reports, difference between financial accounting and
management accounting and purpose of the costing techniques.
TASK 1
1.1 Classification of cost
Cost classification is the process of grouping costs according to their nature and common
characteristics. These classification makes the information related to costs meaningful. Cost
classification is the first step towards decision making process relating to costs (Vanderbeck,
2012). Following are the important ways to classify costs:
1. Classification of the costs on the basis of its element – On the basis of the element, costs
can be classified into material, labour and overhead.
 Direct Material – Direct material includes raw materials which are used to
manufacture finished product and it becomes integral part of the product which can
be allocated directly to a specific unit.
 Direct Labour – Direct labor means cost incurred in relation to those employees who
are engaged in the manufacturing process (Zawawiand Hoque, 2010). These costs can
be easily traced to a specific unit.
 Overhead – Overhead includes cost of indirect material, indirect labour and other
expenses which cannot be allocated to a specific unit.
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2. Classification of the costs on the basis of its function – On the basis of function, costs can
be classified into production costs, administration costs, selling costs and distribution
costs.
 Production costs – These costs are incurred in the course of manufacturing finished
goods. It includes cost of raw material, labour and other indirect factory costs. For
example – power, rent, depreciation etc (Lucey, 2002).
 Administration costs – These costs includes general administration costs incurred by
the organization for its smooth functioning such as audit fee, printing and stationary,
Rent of office building etc.
 Selling costs – It includes all those costs which are incurred in relation to selling of
goods and services such as salesmen salary, packing charges, advertisement,
warehousing charges etc.
 Distribution costs – It includes costs incurred at the time of dispatching finished
goods to consumer such as agent's commission, carriage outward etc.
3. Classification of the costs on the basis of its nature - On the basis of nature, costs can be
classified into direct costs and indirect costs.
 Direct costs – All those costs which are directly attributable to a specific unit are
called direct costs.
 Indirect costs – All those costs which cannot be identified with a specific unit or
individual cost center are called as indirect costs (Fullerton, Kennedy and Widener,
2013).
4. Classification of the costs on the basis of its behavior - On the basis of behavior, costs
can be classified into fixed costs, variable costs and semi variable costs.
 Fixed costs – These costs remain fixed irrespective of change in volume of finished
product. For example – rent, depreciation, salary etc (Kaplan and Atkinson, 2015).
 Variable costs – These costs change in the direct proportion to the volume of output
such as raw material, labour.
 Semi variable costs – These costs remain fixed up to a certain level of output and vary
if output crosses that certain limit. For example – telephone bills (Hansen, Mowenand
Guan, 2007).
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1.2 Calculation of unit cost and total job cost for job 444
Particulars Amount (£)
Direct cost
Direct material 200
Direct labour 270
Indirect cost
Variable production overhead 180
Fixed production overhead 120
Cost per unit 770
Units to be produced 200
Total cost 770*200 154000
Working note
Fixed production overhead= (Budgeted overhead / total direct labor hours) * Direct labor hours
used in Job 444=(£80000 / 20000 hours) * 30 hours=£120
In accordance with the above computation it can be said that per unit cost of job 444 is
£3.85 and total cost of this job will be £770.
1.3 Computation of cost of exquisite by making use of absorption costing technique
Machine
shop X
Machine
shop Y Assembly Stores
Maintenanc
e Total
Material cost £400,000.00 £300,000.00 £100,000.00 £800,000.00
Labor cost £90,000.00 £60,000.00 £37,500.00 £187,500.00
Indirect
wages and
supervision £100,000.00 £99,500.00 £92,500.00 £10,000.00 £60,000.00 £362,000.00
Indirect
materials £100,000.00 £100,000.00 £40,000.00 £4,000.00 £9,000.00 £253,000.00
Light and
heating £10,000.00 £5,000.00 £15,000.00 £15,000.00 £5,000.00 £50,000.00
Rent £20,000.00 £10,000.00 £30,000.00 £30,000.00 £10,000.00 £100,000.00
Insurance £7,947.02 £4,966.89 £993.38 £496.69 £596.03 £15,000.00
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and
machinery
Depreciation
of machinery £79,470.20 £49,668.87 £9,933.77 £4,966.89 £5,960.26 £150,000.00
Insurance of
building £5,000.00 £2,500.00 £7,500.00 £7,500.00 £2,500.00 £25,000.00
Salaries of
works
management £24,000.00 £16,000.00 £24,000.00 £8,000.00 £8,000.00 £80,000.00
Total cost of
overhead £346,147.00 £287,636.00 £219,927.00 £79,964.00 £101,056.00
Machine shop X Machine shop Y Assembly Total
Store £39,982.00 £29,987.00 £9,995.00 £79,964.00
Maintenance £45,807.00 £32,338.00 £20,211.75 £101,056.00
Total £434,906.00 £349,961.00 £250,133.00
Particulars Description
Indirect wages and supervision As per the provided amount.
Indirect materials As per the provided amount.
Light and heating On the basis of area occupied
Rent On the basis of area occupied
Insurance and machinery On the basis of book value of machine
Depreciation of machinery On the basis of book value of machine
Insurance of building On the basis of area occupied
Salaries of works management On the basis of number of employees.
Material cost £400,000.00 £300,000.00 £100,000.00
per unit material 8 8 8
A/B no. of units 50000 37500 12500
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Overhead absorption rate
Machinery X= 434906/80000=5.44
Machinery Y= 349960/60000= 5.83
Assembly=250134/10000=25.01
Computation of absorption rate
£ £
Materials 8
Labour 15
Overheads
X (0.8*5.44) 4.34
Y (.6*5.83) 3.5
Assembly (.1*25.01) 2.5
Total cost 33.35
1.4 Analysis of cost data of exquisite using appropriate techniques
Overhead absorption rate on the basis of labour hours
Machinery X= 434908/200000= 2.17
Machinery Y= 349960/150000= 2.33
Assembly=250134/20000= 2.15
£ £
Materials 8
Labour 15
Overheads
X (2*2.17) 4.34
Y (1.5*2.33) 3.5
Assembly (1*1.25) 1.25
Total cost 32.09
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On the basis of the above computation it has been evaluated that, with the alteration in
absorption rate from machine hour to labour hour there is a significant change in per unit
absorption rate. Therefore, according to the costing standard norms, absorption from labour
hours is considered as the suitable and reliable method.
TASK 2
2.1 Analysis of cost report by completing the table and commenting on variance.
Jeffrey & Son's job cost sheet is prepared as under:
Budgeted Output ( 2000 Units)
Actual Output
( 1900 Units)
Particular Per unit cost Total cost
Per unit
cost
Total
cost
Budgeted -
Actual
Material 12 24000 12 22800 1200
Labour 9 18000 10 19000 -1000
Fixed Overhead 15000 15000 0
Electricity 8000 7625 375
Maintenance 5000 4800 200
Total 35 70000 36.43 69225 775
Working note:
Material = 12£*1900 Units = 22800£
Labour cost = 10£ * 1900 Units = 19000£
Variable cost - Electricity =8000£-5000£/2000-800 = 3.75 per unit
Fixed electricity = 8000£ - 3.75*2000 = 500£
Variable cost = 3.75£*1900 units = 7125£
Maintenance cost = 5000£ - 200£ = 4800£
Variance interpretation:
On the basis of above computation it has been identified that, material variance has
increased to £1200 and the main reason behind this is that constantly changing production and
material prices per unit remain constant to £12. Other than this, labour cost variance has shown
increasing amount of £1000 because of the reason that labour rate has raised from £9 to £10.
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On the other hand this, electricity charges increased from expected figures of £7625 to
£8000, despite of constant per unit variable electricity charges of £3.75. However, fixed costs of
entire process remain same despite of change in level of production. Henceforth, it can be
analysed that, negative variances of labour rate and total material costs has impacted the entire
course of the functioning for the cited organisation. However, it is the duty of senior authority to
make sure that they undertake suitable and reliable strategies and tactics to reduce company’s
material and labour costs so that adverse effects can be eliminated or mitigated.
2.2 Various performance indicators used to identify areas for potential improvements
There are several performance indicators that senior authority of Jeffrey and Son’s can
use in order to analyze the actual performance of business against the expected (Maher, Lanen
and Rajan, 2006).
 Annual report: Through the means of annual report, management can easily evaluate and
analyze the financial statements of business so that actual position can be evaluated.
Furthermore, in case of decreasing business volume and profitability and increasing costs
of sales, management can undertake potential measures by employing suitable
operational strategies.
 Quality of product and services: By constantly monitoring the production process at each
level will assist in analyzing and evaluating the quality of products and services
(Popeskoand Novak, 2008). Further, through the help of this management can identify
loopholes in operating performance due to which quality of product is hampered
adversely.
 Customer Satisfaction: Lastly, improvement in employee performance can be measured
by considering the feedbacks or reviews from the customers. By the means of this, cited
firm can bring further improvements as per the requirement of target audience to retain
them for long term.
2.3 Different ways to reduce costs, enhance value and quality
At present, there are several tools and techniques through the help of which Jeffery and
Son’s can easily attain objective of reducing costs and enhancing value for the business:
 Total quality management: With the help of this technique, management can ensure
improvement in the quality of operational activities conducted by the business. The main
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purpose of TQM is to enhance the overall production process of Jeffrey and Son’s by
resolving different loopholes (Balakrishnan and Cheng, 2005).
 JIT and EOQ: The main purpose of both these tools is to help the firm in minimizing its
storage and carrying costs of products and services. Employing JIT and EOQ will help in
purchasing raw materials as per the demand in the market so that wastage or dead stock
can be reduced which leads to reduction in unwanted inventory of business.
 Management Audits: By the means of this approach, Jeffery and Son’s can monitor
performance of workforce and ensure the standard outcomes (Ruiz-de-Arbulo-Lopez,
Fortuny-Santos and Cuatrecasas-Arbós, 2013). Furthermore, frequent audits will help in
motivating employees in enhancing their performance as per the standards set which
directly leads to enhancement in overall production process.
TASK 3
3.1 Purpose and nature of budgeting process to the budget holders.
Purpose of budgeting:
Budgeting is very important part of the organization's planning process. It is basic need in
the budgeting process that managers or budget holders should be able to predict that whether the
organization will generate profits in future or not. The purpose of budgeting is to know
performance of the business in financial terms if certain plans and strategies are carried out. It
also includes three aspects.
1. Forecasting of income and expenditure.
2. It is a decision making tool (Blocher, Chen and Lin, 2008)
3. It is a tool to monitor performance of the business.
With the help of this, decision making process for the managers becomes easy and they make
smart and effective judgment for the future functioning of business. Along with this, it also
helps in making comparison between actual and budgeted standard of performance.
Nature of budgeting:
In the budgetary statement of an organization, estimation is made with the help of actual
values generated through previous accounting period. However, with this estimation managers of
Jeffery and Son’s can compute the expected amount of cash from the sales and other primary
activities of business. In doing so, managers have to consider three major aspects which are
material, labour and production expenditure. Further, the amount of expenditure is deducted
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from the estimated profit to evaluate deficit or surplus position of business from operations
(Shank and Fisher, 2006). Lastly, the budget is reviewed by the senior authority of Jeffery and
Son’s so that they can make decisions regarding practical applicability of business operations.
3.2 Selection of appropriate budgeting methods in accordance with the needs of organization
There are various types of budgets prepared by the firm to adequately allocate financial
resources and make optimum utilisation to generate desired results and outcomes. Furthermore,
as per the needs and wants of company, managers prepare budgets and herein, following are the
budgeting techniques used by financial manager of Jeffery and Son Ltd:
 Operational budgeting: In this, managers of Jeffery and Son Ltd prepares budgets on the
basis of different operations which consist of production, selling and distribution etc
(Ifandoudasand Gurd, 2010). However, considering the flexibility of these budgets they
can be prepared on the basis of annual, monthly or quarterly.Furthermore, through the
means of these budgets strategies are employed by the firm to carry out the operations.
 Zero Based budgeting: Managers undertakes this type of budgeting approach whenever
they have base of previous reporting period. However, this budgetis prepared when there
is huge change in the conditions of target market or company is developing a new
product. Further, there is no measures of forecasting is done in this budget which indeed
leads to generate high possibility of variances (Berger, 2011).
 Incremental budgeting: It is a budgeting technique which is based on slight changes from
the preceding period’s estimated results or actual outcomes. However, it is considered as
the traditional means of budgeting because in this budgets are prepared by making the use
of information from previous reporting period.
On the basis of above identified different methods the most appropriate and suitable
technique of preparing the budgets for Jeffrey and Son’s smake is operational budgeting.
Rationale behind this is that it will help in preparing different budgets for different operations so
that activities can be carried out in effective manner (Zimmerman and Yahya-Zadeh, 2011).
3.3 Preparation of production and material purchase budget
Operating as a manufacturing unit it is important for the senior authority of Jeffery and
Son Ltd to prepare production material purchase budget so that, raw materials required for future
functioning can be identified. While on the other hand, material purchase budget is prepared with
the aim of identifying the total quantity of material that is required by the production unit from
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supplier to produce the expected number of units (Ward, 2012). Following are the production
and material purchase budget for Jeffery and Son Ltd:
Production budget:
Particulars July August September October
Sales 105000 90000 105000 110000
Op. Stock 11000 13500 15750 16500
94000 76500 89250 93500
Cl stock (15% of the following
month) 13500 15750 16500 15000
Production 107500 92250 105750 108500
The main purpose of company is to focus on having finished stocks at the end of each
month which is equal to the 15% of the following month’s expected sales:
 July closing stock = 15% * August sales = 15% * 90000 = 13500
 August closing stock = 15% September sales = 15% * 105000 = 15750
 September closing stock = 15% * October sales = 15% * 110000 = 16500
 October closing stock = 15% * November sales = 15% * 100000 = 15000
Material purchase budget:
Particulars July September October
Material Require (2 per kg) 215000 184500 211500
Less- Opening stock 52000 45000 52500
Total 163000 139500 159000
Add- Closing stock 46125 52875 54250
Purchase 209125 191250 212875
Material Usage Budget:
Formula: Production quantity in Units * Kilograms/ units
 July Material usage = 107500 units * 2Kg = 215000 kg
 August Material usage = 92250 units * 2Kg = 184500kg
 September Material usage = 105750 units * 2Kg = 211500 kg
 October Material usage = 108500 units * 2Kg = 217000 kg
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Closing Stock = It is required to 25% of the next month requirements.
 July = 92250 Units*2 Kg*25% = 46125 Kg
 August = 105750 units*2kg *25% = 52875 Kg
 September = 108500 Units*2Kg*25% = 54250 Kg
3.4 Preparation of cash budget
In general cash budget is defined as the budget which helps in identifying the all the
transactions that are related to cash taken place during the course of accounting period. However,
the main purpose of preparing this budget is to identify actual position of firm whether it is in
surplus or deficit (Drury, 2005). Furthermore, it consist of all the incomes and expenditure
incurred by Jeffery and Son Ltd during the course of functioning within one year. However,
surplus position of cash budget indicates the strong financial position of business and vice-verse.
Particulars July August September
Cash inflows
Sales receipt 900000 731250 864000
Total cash inflows 900000 731250 864000
Cash outflow
Purchase 365969 334668 372531
Labour 322500 276750 317250
Variable overhead 108500 98350 100350
Fixed overhead 75000 87500 87500
Total cash outflow 871969 797288 877731
Net cash flow 28031 66038 13631
Opening cash balance 16000 44031 22007
Closing cash balance 44031 (22007) (35638)
Interpretation:
On the basis of above, opening balance of cash indicates that, sales of previous year has
been profitable for the Jeffery and Son Ltd. However, comparing the amount generated through
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cash receipts to expenditure it can be said that, company’s position in month of July is relatively
good as it generated positive closing balance of 44031. But contradicting to this, the balances of
August and September are showing negative outcomes which clearly indicates that the sales
strategies employed by the Jeffery and Son Ltd are not effective in terms of generating higher
business volume. Furthermore, it is recommended that management should employee more
promotional strategies and tactics so that large number of people attracted to buy the goods and
commodities of Jeffery and Son Ltd which leads to increase in sales performance.
TASK 4
4.1 Computation of variances along with the identification of possible causes and
recommendation for corrective actions
Calculation of Budgeted cost for 4000 Units are as follows:
Particular Per unit cost Budgeted
Sales (A) 4 16000
Material 0.96 3840
Labour 0.8 3200
Fixed Overhead 4800
Total Cost (B) 2.96 11840
Profit (A - B) 1.04 4160
Working Note:
Sales = 4000 * 4£ = 16000£
Material cost = 0.4kg*2.40£*4000 = 3840£
Labour cost = 8£*6/60*4000 = 3200£
Fixed overhead = 4800£
Calculation of variance
Particular Budgeted Fixed Actual
Sales 16000 14000 13820
Material 3840 3360 3420
Labour 3200 2800 2690
Fixed overhead 4800 4800 4900
Profit 4160 3040 2810
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Sales variance
Particulars Variance
Sales volume variance ( -50*1.04) -520 (Adverse)
Sales price variance ( 14000 - 13820) 180 (A)
Particulars Formula Calculation Net variance
Material price
variance
AQ*(SP-AP) 1425(2.4£ - 2.4£) Zero
Material usage
variance
(SQ-AQ)*SP [( 3500 *0.4)-(1425)*
(2.40)]
60(Adverse)
Total 60 (Adverse)
The labor variance
Particulars Formula Variance Net variance
Labour rate variance (SR-AR)*SH [(8£-7.8£)*350] 70 (f)
Labour efficiency
variance
(SH-AH)*SR [(3500*0.1)-(345)]*8£ 40(f)
Fixed overhead variance
Particulars Variance Net variance
Budgeted fixed
production overhead
4800
Actual fixed overhead 4900
Fixed overhead
expenditure variance
Budgeted -Actual 4800 - 4900 100 (A)
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Variance Possible cause Corrective actions
Sales variance The main reason behind sales
variance could be the
inflation rate which leads to
increase in selling price of the
products and services. There
are various other causes of
sales variance such as
offering poor quality of
products, decrease in
purchasing power of target
audience and unawareness of
customers (Method of
costing. 2014).
In order to reduce the
negative variance of sales,
Jeffery and Son Ltd has to
minimize the costs of
products as well as enhance
the quality. Furthermore has
to employ effective marketing
strategies to enhance the
awareness about products and
services.
Material variance The major reason behind this
variance is the increasing of
quantity expected for
producing a single unit.
By the means of employing
qualified and skilled labour
will minimize the increasing
costs of material as well as
helps in saving (Standard
Costs and Variance Analysis.
2007).
Labour variance Labour variance arises due to
difference in labor rate and
labor hour (Cinquini and
Tenucci, n.d.).
However, currently the labour
rate at Jeffery and Son Ltd is
7.8 which is low and
positively affecting the course
of company. Along with this,
budgeted and actual labour
hours are 400 and 345. In
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order to remove this company
should bring changes in its
labour policies and provide
them suitable opportunities to
mitigate such variance.
Profit variance This variance occurs due to
change is sales, materials and
labour expected and actual
values.
Jeffery and Son Ltd should
employ suitable and reliable
sales strategy as well as select
appropriate supplier to get
materials at budgeted figures
and enhance the efficiency of
workforce for mitigating the
labour variance.
4.2 Operating statements includes both budgeted and actual results
The main purpose behind preparing reconciliation operating statements is that it helps
Jeffery and Son Ltd in determining the cause of variance between actual and budgeted profits.
Through means of this statement, management can undertake effective measures so that negative
variance can be minimized and activities of business can be carried out in better and reliable
manner (Popeskoand Novak, 2008). Following is the reconciliation statement of Jeffery and Son
Smake:
Particular Per unit Budgeted(4000 Units) Per unit Actual(3500) Variance
Sales 4 16000 3.94 13820 -2180
Material 0.96 3840 0.97 3420 420
labour 0.8 3200 0.77 2690 510
Fixed
Overhead 4800 4900 -100
Total 2.96 11840 3.14 11010 830
Operating
profit 1.04 4160 0.8 2810 1350
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4.3 Management report in accordance with the identified responsibility centres
To,
The Management of Jeffery and Son’s
Subject: Modifications in the Departments
Date: 14th January 2016
On the basis of above reconciliation statement, there are various departments of Jeffery
and Son’s Ltd has to bring modification in their approach so that variances can be avoided or
prevented.
 Selling department: In this department, sales manager has to make smart and accurate
estimation of sales price so as to avoid the negative variance. In order to do so,
management of Jeffery and Son’s Ltd has to carry out market research so that they can
identify the demand of products as well as the spending power of target audience so
that sales price can be set accordingly (Lucey, 2002).
 Production department: According to the current situation, wastage of raw materials
during the production process is one of the major concern for the senior authority of
Jeffery and Son’s Ltd. However, in order to reduce this concern, management has to
indulge latest technological equipment’s or machinery so that production process can
be enhanced and optimum utilisation of available resources can be made.
 Human resource department: Considering the present position, labour variance is
showing positive results as compared to other department. Therefore, it is important for
the Jeffery and Son’s Ltd to indulge more training and development sessions so that
employees can be motivated to improve their skills and abilities and carry out work in
effective and efficient manner (Kont, 2013).
CONCLUSION
In summing up the above report it has been observed that, management accounting plays
a crucial role in making smart and effective decisions regarding future contingency. However, it
also helps in employing suitable tools and techniques through the means of which management
can identify the gap of loopholes within the functioning and accordingly introduce potential
measures to improve the further situation. In addition to this, use of performance indicators
overall performance of Jeffery and Son’s Ltd has been identified with the means of which
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management has been recommended suitable and reliable strategies to enhance the overall
functioning of business and generate higher profits.
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