Cost Accounting

Level 3

Model Answers
Series 2 2005 (Code 3016)

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Cost Accounting Level 3

Series 2 2005

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(3)

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Cost Accounting Level 3

Series 2 2005
QUESTION 1 Company Z manufactures gateposts from second hand timbers. Firewood is generated as a by-product from the process. The customers requirement for the next two periods is 3,800 and 3,000 gateposts respectively. The following information is available: Manufacturing (1) Each timber is cut into four units. (2) All units are inspected. (3) Rejection rate of 40% is expected. (4) Acceptable units are coated in a preservative and sold as gateposts. (5) Rejected units are sold as firewood. Stock Holding (1) Stock of finished gateposts will be maintained, at the end of each period, at 25% of the estimated sales for the following period. (2) Second-hand timbers are ordered in quantities of 1,000 units at a reorder level of 200 units. Delivery is expected the next day. (3) Stock levels at start of first period: Second-hand timbers 300 units Finished gateposts 950 units Costs (1) Second-hand timbers 5 per unit (excluding delivery costs) (2) Preservative 40 per 100 gateposts (3) Direct labour 3 per gatepost (4) Fixed overheads 7,200 per period (absorbed using a rate, recalculated each period, per gatepost manufactured) (5) Second-hand timbers are delivered at a cost of 400 per 1,000 units. This cost is payable by Company Z. (6) Firewood is sold at 0.50 per unit. The revenue generated is used to reduce the cost of gateposts. REQUIRED: (a) Calculate the total number of second-hand timbers required for manufacturing the customers requirements in the first period. (4 marks) (b) Calculate the stock value (s) at the end of the first period for both: (i) econd-hand timbers (ii) inished gateposts The company uses the FIFO method of pricing stock issues. (c) Calculate the revenue, from the sale of firewood in the first period, if all rejected units are sold. (2 marks) (Total 20 marks) (9 marks) (5 marks) f s

Model Answer for Question 1 (a) Manufacturing requirement for gateposts in first period: Customers requirement for gateposts Less opening stock of gateposts Add closing stock of gateposts (3,000 x 25%) Manufacturing requirement Second hand timber units required for manufacturing allowing for a 40% rejection rate (3,600 / [0.6 x 4]) (b) (i) Closing stock of second hand timbers: Opening stock of timbers (units) Add two deliveries of 1,000 units Less timbers required for manufacturing (units) Closing stock (units) Timber value of closing stock (5 x 800) Supplier delivery cost (400 x 800 / 1,000) Value of closing stock or Timber value per unit Delivery cost per unit (400/1,000) Unit cost of timbers Value of closing stock (5.40 x 800) (ii) Closing stock of gateposts: Timber cost of gateposts (5 x 750 / [0.6 x 4]) Preservative (40 x 750 / 100) Direct labour (3 x 750) Supplier delivery cost (400 x 750 / [0.6 x 4 x 1,000]) Fixed overheads (7,200 x 750 / 3,600) Less sale of firewood (0.50 x 750 / 0.4 x 0.4) Value of closing stock 5.00 0.40 5.40 4,320 1,562.5 300.0 2,250.0 125.0 1,500.0 5,737.5 234.38 5,503.12 4,000 320 4,320 3,800 950 750 3,600 1,500

300 2,000 2,300 1,500 800

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Model Answer for Question 1 continued or Timber cost of gateposts per unit (5 x /[0.6 x 4]) Preservative cost per unit (40 / 100) Direct labour per unit Supplier delivery cost per unit (400 / [0.6 x 4 x 1000]) Fixed overheads per unit (7,200 / 3,600) Less sales of firewood per unit (0.50 / [0.4 x 4] Unit cost of finished gateposts Value of closing stock (750 x 7,3375)) (c) Income from rejected timber (0.50 x (1,500 x 0.4 x 4) . 2.083 0.400 3.000 . 0.166 2.000 7.65 0.3125 7.3375 5,503.12 1,200

QUESTION 2 A company, which produces a single component for the motor industry, has budgeted to make 40,000 units in a year. The components sell for 100 each. The standard unit variable production costs are as follows: Direct Material A Direct Material B Direct labour Variable overheads 2 kg at 11.50 per kg 4 kg at 1.90 per kg 1.5hrs at 10 per hour Absorbed at 6 per direct labour hour

Fixed factory overheads, absorbed at a predetermined rate based on machine hours, are expected to be 800,000 for the year and are expected to occur evenly. Budgeted machine time required to produce one unit of the component is 5 hours. The following actual information is available for the first three months of the year: Opening stock of component Sales of component Closing stock of component 2,000 units 9,500 units 1,900 units

Actual fixed overheads for the three months were equal to the budget. Actual variable costs per unit were as per standard cost. REQUIRED: (a) Calculate for the first three months of the year: (i) (ii) the total cost of production the over/under absorption of fixed production overheads. (10 marks) (b) Prepare a trading account, for the first three months of the year in absorption costing format, clearly showing any over/under absorption of overheads. (6 marks) (c) (i) (ii) Explain the meaning of both over-absorption and under-absorption of fixed production overheads. (2 marks) State two reasons for over/under absorption of production overheads. (2 marks) (Total 20 marks)

Model Answer for Question 2 (a) Workings Machine time for one unit Budgeted output Total machine hours Budgeted fixed production overheads Fixed production overhead absorption rate 5 hours 40,000 units 200,000 hours 800,000 4.00 per machine hour 23.00 7.60 15.00 9.00 54.60 9,500 1,900 2,000 9,400

(i)

Cost of Production Unit cost of Production Material A Material B Direct labour Variable overheads Total Variable Costs Production in the first three months (units) Sales Closing stock Less opening stock Production

Total Cost of Production for the first three months: Variable cost (9,400 x 54.60) 513,240 Fixed cost (800,000 / 4) 200,000 Total cost 713,240 (ii) Over/under absorption of fixed overheads Actual fixed overheads (800,000/4) Overheads absorbed (9,400 x 5 x 4) Under absorption () 200,000 188,000 12,000

(b) Trading Account for the first three months Sales (9,500 x 100) Opening stock (2,000 x 74.6) Cost of production (9,400 x 74.6) Less Closing stock (1,900 x 74.6) Cost of sales Less under absorbed overheads Gross Profit OR Cost of sales = 9,500 x 74.6 = 708,700 Workings Unit cost of production = (unit variable + fixed cost per unit) = 54.60 + (5hrs x 4.00 per machine hour) = 74.60 (c) (i) Over absorption means that the overheads charged to the cost of production are greater than the overheads actually incurred. Under absorption means that insufficient overheads have been included in the cost of production. (ii) Actual overhead costs are different from budgeted overheads. The actual activity level is different from the budgeted activity level. 7 149,200 701,240 850,440 141,740 708,700 241,300 12,000 229,300 950,000

QUESTION 3 The following information was extracted from the accounts of a manufacturing company for the year ended 31 December Year 4: Sales Profit Contribution to sales ratio REQUIRED: (a) Calculate the fixed cost and the breakeven point (in revenue) for Year 4. (5 marks) The company is considering updating their manufacturing system. The new system, if installed, would increase the annual fixed cost by 10% and reduce the unit variable cost by 10%. REQUIRED: (b) Advise the company if this update to their manufacturing system is financially worthwhile. (3 marks) (c) Calculate, for the updated manufacturing system, the contribution to sales ratio and the breakeven point (in revenue). (4 marks) (d) Draw a single profit/volume chart for the year ended 31 December Year 4 showing the profit arising from: (i) (ii) the existing manufacturing system the updated manufacturing system had it been installed at the start of Year 4. 600,000 140,000 40%

Clearly show on the chart the breakeven point and the margin of safety for each manufacturing system. (8 marks) (Total 20 marks)

Model Answer for Question 3 (a) Fixed Costs for Year 4: Sales () Contribution/Sales Ratio Contribution () [Sales x C/S Ratio] Profit () [as given] Fixed Costs () [Contribution - Profit] Break-even point for Year 4: Fixed Costs () [as above] C/S Ratio [as above] Break-even point [Fixed costs / C/S Ratio] (b) Updated Manufacturing System: Increase in fixed cost () (0.1 x 100,000) Decrease in variable cost () (0.1 x [600,000 - 240,000]) Net cost decrease 600,000 40% 240,000 140,000 100,000 100,000 40% 250,000 10,000 36,000 26,000

Advise the company the updated manufacturing system would be financially worthwhile. For the same sales, as Year 4, an additional profit of 26,000 would be made. (c) Contribution/Sales Ratio: Contribution () (240,000 + 36,000) Sales () Contribution/Sales Ratio [276,000/600,000 x 100%] Break-even Point: Fixed Costs () (100,000 + 10,000) C/S Ratio Break-even point 276,000 600,000 46% 110,000 46% 239,130

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Model Answer for Question 3 continued (d) (i) and (ii) Profit Volume Chart Title Headings Lines Fixed costs Breakeven points Margin of safeties Profit Volume Chart 200

Updated system 150 Existing system

100

50 Break-even points Profit / Loss (000)

Margins of safety Margins of safety

50

100

150

100

200

300

400

500

600

Sales Revenue (000)

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QUESTION 4 A company manufactures and sells a single product. Due to a fall in sales demand the company has been operating some way below maximum capacity. The company has prepared the following report, for the year just ended, which indicates that demand is now increasing. Management of the company, however, is concerned that the report also indicates a large adverse cost variance. Production/Sales (units) Sales revenue () Direct materials () Direct labour () Production overheads () Selling and distribution costs () Administration costs () Total costs () Profit () Budget 9,000 108,000 45,000 22,500 18,000 4,000 5,000 94,500 13,500 Actual 10,000 119,000 47,500 25,500 19,000 4,150 5,050 101,200 17,800 Variance 1,000F 11,000F 2,500A 3,000A 1,000A 150A 50A 6,700A 4,300F

The following points have been revealed concerning the budget: (1) Production overheads would be 22,500 at the maximum annual capacity of 12,000 units. (2) Selling and distribution costs include a fixed element of 1,750. (3) Administration costs are fixed. REQUIRED: (a) Briefly explain the main differences between a flexible and a fixed budget. (4 marks) (b) Prepare a revised report for the year just ended, in the above format, using a flexed budget. (12 marks) (c) Describe the possible reasons for the variances on the direct materials and direct labour costs. (4 marks) (Total 20 marks)

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Model Answer for Question 4 (a) Fixed Budget A fixed budget is normally set prior to the start of an accounting period and used for planning purposes. It is based on one level of activity. Flexible Budget A flexible budget, used for control purposes, changes in response to changes in activity by recognising different cost behaviour patterns. (b) Production/sales (units) Sales revenue Direct materials Direct labour Production overheads Selling and distribution costs Administration costs Total costs Profit Workings Actual sales/production units Flexed sales budget Actual sales Sales variance Flexed direct mat budget Actual direct material Direct material variance Flexed direct lab budget Actual direct labour Direct labour variance Production overheads 22,500 18,000 4,500 Variable cost Fixed overheads Flexed prod o/h budget Actual prod o/h Prod o/h variance Flexed Budget 10,000 120,000 50,000 25,000 19,500 4,250 5,000 103,750 16,250 9,000 + 1,000 108,000 / 9,000 x 10,000 108,000 + 11,000 45,000 / 9,000 x 10,000 45,000 + 2,500 22,500 / 9,000 x 10,000 22,500 + 3,000 = Fixed o/h + (unit variable o/h x units) = Fixed o/h + (unit variable o/h x 12,000) = Fixed o/h + (unit variable o/h x 9,000) = (unit variable o/h x 3,000) = 1.50 per unit = 22,500 - (1.50 x 12,000) = 4,500 x (1.50 x 10,000) 18,000 + 1,000 4,500 19,500 19,000 500F Actual 10,000 119,000 47,500 25,500 19,000 4,150 5,050 101,200 17,800 Variance 0 1,000A 2,500F 500A 500F 100F 50A 2,550F 1,550F 10,000 120,000 119,000 1,000A 50,000 47,500 2,500F 25,000 25,500 500A

Selling and distribution Variable cost (9,000 units) = 4,000 1,750 = 2,250 (0.25 per unit) Flexed selling/dist budget = 1,750 + (0.25 x 10,000) Actual selling/dist = 4,000 + 150 Selling/dist variance

4,250 4,150 100F

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Model Answer for Question 4 continued (c) Materials costs may be favourable because of wastage below standard or prices below standard. Labour costs may be adverse because of an increase in the time taken to complete the work or an unexpected rise in labour rate.

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QUESTION 5 A company produces a single product. The company uses standard costing and has produced the following budgeted and actual Manufacturing and Trading accounts for a period: Budgeted Manufacturing and Trading Account Sales and Production units Sales Variable costs Fixed overheads Standard cost Gross profit 62,500 27,500 15,000 42,500 20,000 Actual Manufacturing and Trading Account Sales and Production Sales Variable costs Fixed overheads Actual cost Gross profit The following information has also been provided: (1) Fixed overheads are absorbed at a predetermined rate based on direct labour hours. (2) Standard direct labour is 2 hours per unit. (3) Actual direct labour worked was 1,320 hours. REQUIRED: (a) Calculate the following variances: (i) (ii) sales price sales volume profit (2 marks) (2 marks) (1 mark) 27,190 15,610 42,800 20,200 600 63,000 625

(iii) cost.

(b) Reconcile the budgeted gross profit with the actual gross profit using the variances calculated in part (a). (3 marks) (c) Calculate the following fixed overhead variances: (i) (ii) expenditure volume (2 marks) (2 marks) (2 marks) (2 marks) (4 marks) (Total 20 marks) 14

(iii) capacity (iv) efficiency. (d) Explain the difference between an ideal and an attainable standard.

Model Answer for Question 5 (a) Sales and Cost Variances (i) (ii) Sales Price Variance Sales Volume Profit (600 x 100) - 63,000 (625 x 32) - (600 x 32) (600 x 68) - 42,800 62,500 / 625 = 100 20,000 / 625 = 32 42,500 / 625 = 68 3,000F 800A 2,000A 200F 20,200 20,000 3,000F 800A 2,000A

(iii) Total Cost Variance Workings Budgeted Standard Price per unit Budgeted Standard Profit per unit Budgeted Standard Cost per unit (b) Profit Reconciliation Budgeted Profit Sales Price Variance Sales Volume Profit Variance Total Cost Variance Actual Profit (c) Fixed Overhead Variance (i) (ii) Expenditure Variance Volume Variance

15,610 - 15,000 15,000 - (600 x 2 x 12) [(625 x 2) 1,320] x 12 [(600 x 2) 1,320] x 12 15,000 / (625 x 2) 12 per direct labour hour

610A 600A 840F 1,440A

(iii) Volume Capacity Variance (iv) Volume Efficiency Variance Workings Overhead absorption rate = =

Syllabus Topic 5: Standard costing and variances (5.4) (d) Ideal Standard A standard which makes no allowance for normal loss, waste and machine down time and therefore only attainable under most favourable conditions. Attainable Standard Standards set at a level which assumes efficient levels of operation but includes allowances for normal loss, waste and machine down time.

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QUESTION 6 The following trial balance was extracted from the cost ledger of a manufacturing company at the beginning of Month 2: Trial Balance Raw material control account Work in progress control account Finished goods control account Production overhead control account Financial ledger control account During Month 2 the following transactions took place: Raw material purchases Returns to suppliers Material issued from store Factory wages Indirect production expenses Work completed at cost Production cost of sales Sales 000 120 2 110 100 80 300 280 460 000 50 120 80 250 000

5 245 250

Notes: (1) 10% of raw material issues from stores are indirect. (2) 90% of factory wages are direct labour. (3) Factory overheads are absorbed at the rate of 120% of the direct labour wage. REQUIRED: (a) Record the above transactions in the Cost Ledger accounts for Month 2. (16 marks) (b) Prepare a Costing Profit & Loss Account for Month 2. (1 mark) (c) Close the accounts at the end of Month 2 and prepare a Trial Balance as at the beginning of Month 3. (3 marks) (Total 20 marks)

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Model Answer for Question 6 (a) Opening Balance Financial Ledger Control Raw Material Control Account 000 000 50 Financial Ledger Control 2 120 Work in Progress Control 99 Production Overhead Control 11 Closing Balance 58 170 170 Wages Control Account 000 000 100 Work in Progress Control 90 Production Overhead Control 10 100 100

Financial Ledger Control

Production Overhead Control Account 000 000 Raw Material Control 11 Opening Balance 5 Wages Cont 10 Work in Progress Control 108 Financial Ledger Control 80 Closing Balance 12 113 113 Work in Progress Control Account 000 Opening Balance 120 Finished Goods Control Raw Material Control 99 Closing Balance Wages Control 90 Production Overhead Control 108 417 Finished Goods Control Account 000 80 Production Cost of Sales 300 Closing Balance 380 Production Cost of Sales Account 000 280 Profit/Loss 280 Sales Account Profit/Loss 000 460 460 Financial Led Control 000 460 460

000 300 117 417

Opening Balance Work in Progress Control

000 280 100 380

Finished Goods Control

000 280 280

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Model Answer for Question 6 continued Financial Ledger Control Account 000 2 Opening Balance 460 Raw Material Control 263 Wages Control Production Overhead Control Profit 725 000 245 120 100 80 180 725

Raw Material Control Sales Closing Balance

(b)

Costing Profit & Loss Account for Month 3 000 Production Cost of Sales 280 Sales Profit to Financial Led Control 180 460 Trial Balance at beginning of Month 3 000 000 Raw Material Control 58 Production Overhead Control 12 Work in Progress Control 117 Finished Goods Control 100 Financial Ledger Control 263 275 275

000 460 460

(c)

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