Frank, the owner of the company is of the view that accounting is not very important for the company and accounting is all about deducting all expenses from the income. He finds no relevance to look at the cost before setting up the price he wants to set the price based on the price that has been set by his competitors. Frank has a very less knowledge about the cost accounting systems so somebody needs to provide him with all the information related to it. Before adopting the proper cost accounting in his company he should first know the advantages, uses and types of product costing system (Alex, 2012).
Product Costing System means recording all the expenses and incomes of the company. The income and expenses belonging to any department whether factory, administrative or selling should be recorded. This will give a clear picture to the accountant about the revenue and expenses of departments separately (Ball, 1984). It will help the department incurring huge expenses to identify where the money has been spent and keep a control over it. In case, there is any department whose income is considerably low then the reason should be found out and corrective measures should be taken. Product costing system helps in ascertaining profit and valuing closing stock and work in progress. Product costing system makes the preparation of cost sheet easier. The costing system is affected by the volume of production and therefore the company can easily determine the correct volume of goods that should be produced. It is necessary to record expenses only then Frank will be able to charge a profit on the goods as he needs to recover the cost incurred first.
Frank should know that there are two types of costing system and he should adopt such system after doing a detailed analysis. The following are the two types-
The first work of Frank is to select an appropriate product costing system after the choice is made he needs choose a suitable cost allocation system. The cost allocation system are-
Product costing is a complex system but should be adopted by all the companies because ie helps to increase the efficiency of the working in an organisation. It helps to reduce the expenses and increase the profits. It helps the company to have relevant information that is required to take decisions as we know the success of the company is based on the decisions made by the management.
The following schedule is showing the cost of goods sold and cost of goods manufactured:
|
Particulars |
Amount |
|
Opening stock of raw materials |
12000 |
|
Add: Purchases of raw materials |
180000 |
|
Less:closing stock of raw materials |
12000 |
|
Direct wages |
182000 |
|
Prime cost |
362000 |
|
Add:Factory overhead |
|
|
Insurance |
14000 |
|
Repairs and maintainence |
8000 |
|
Land tax |
4500 |
|
Factory buiding depreciation |
8000 |
|
Factory equipment depreciation |
16000 |
|
Work cost incured |
412500 |
|
Add: Opening work in process |
4500 |
|
Less: closing work in process |
33500 |
|
Works cost |
383500 |
|
Add: Administrative overhead |
|
|
Administrative salaries |
24000 |
|
Indirect labour cost |
118000 |
|
General liability insurance |
2400 |
|
Depreciation on office equipment |
1800 |
|
Cost of production |
529700 |
|
Add: Opening stock of finished goods |
11000 |
|
Less: Closing stock of finished goods |
16000 |
|
Cost of goods sold |
524700 |
|
Add: Selling and distribution expense |
|
|
Advertisement expense |
12000 |
|
Sales salaries |
90000 |
|
Travel and entertainment expense |
14100 |
|
Cost of sales. |
640800 |
|
WIP |
|||
|
Particulars |
Amount |
Particulars |
Amount |
|
To Bal b/d |
4,500 |
By Finished Goods |
3,33,000 |
|
To Raw Material |
1,80,000 |
By Bal c/d |
33,500 |
|
To Direct Labour |
1,82,000 |
||
|
3,66,500 |
3,66,500 |
||
|
Raw Material |
|||
|
Particulars |
Amount |
Particulars |
Amount |
|
To Bal b/d |
12,000 |
By WIP |
1,80,000 |
|
To Accounts Payable |
1,80,000 |
By Bal c/d |
12,000 |
|
1,92,000 |
1,92,000 |
||
|
Manufacturing Overheads |
|||
|
Particulars |
Amount |
Particulars |
Amount |
|
To Actual Overheads |
1,68,500 |
By Finished Goods |
1,56,000 |
|
By Bal c/d |
12,500 |
||
|
1,68,500 |
1,68,500 |
||
|
COGS |
|||
|
Particulars |
Amount |
Particulars |
Amount |
|
To Finished Goods |
4,84,000 |
By Bank |
4,84,000 |
|
4,84,000 |
4,84,000 |
||
|
Accounts Payable |
|||
|
Particulars |
Amount |
Particulars |
Amount |
|
To Bank |
1,84,000 |
By Bal b/d |
12,000 |
|
To Bal c/d |
8,000 |
By Raw Material |
1,80,000 |
|
1,92,000 |
1,92,000 |
||
|
Finished Goods |
|||
|
Particulars |
Amount |
Particulars |
Amount |
|
To Bal b/d |
11,000 |
By COGS |
4,84,000 |
|
To Overheads |
1,56,000 |
||
|
To WIP |
3,33,000 |
By Bal c/d |
16,000 |
|
5,00,000 |
5,00,000 |
Under the traditional system of costing, which is one of the systems for the allocation of expense there arises a problem of under and over recovery of overhead sometimes. The company has to treat them correctly so that they can ascertain the correct profits of the organisation.
Let us get our concepts clear about overhead and how they are charged. Overhead are the indirect expenses that the company has to bear during the production process. A predetermined rate based on labour hours, machine hours or direct material is charged from the customers. The rate that is charged from the customer is based on the estimated overhead and not the actual figures. When the actual information is available to us we can check the correctness of the overhead rate (Berman, Knight, & Case, 2013)..
It is possible that the pre determined rate may not match with the actual overhead rate then in such a case the company may have to face following two situations-
Over recovery- The situation when the overhead recovered from the customer is more than the actual overhead incurred. For example, the company recovered $ 10 per unit from the customers and it estimated that the total production will be 2000 units. Later, when the actual figures were ascertained it was found that $18000 was actual incurred. So, in this case the amount recovered from the customer is $20000 whereas the amount actually incurred is $18000.
Under recovery- Under recovery is just the opposite of over recovery. In under recovery, the overhead expenses incurred are more than the overhead recovered from the customer. Suppose, the actual overhead incurred is $20000 but the recovery from customers is only $17000. The difference of $3000 is the under recovery which is a loss for the company.
There are different reasons for the under/over recovery of overheads. The under/over recovery should be treated as follows-
If the under/ over recovery happens due to the negligence or fault of the management then it should be transferred to the profits and loss account. The loss because of under recovery will be reflected on the debit side of the account whereas gains due to over recovery will be shown on the credit side.
If the reason of under/over recovery is seasonal variation then it should be carried forward to the subsequent years and adjusted accordingly.
Under/over recovery may also be the result of changes in the price level. In respect of goods that are already sold the amount of under/over recovery should be transferred to profit and loss account. But in respect of goods that are still lying in the stock, a supplementary rate has to be charged.
Supplementary rate can be calculated by dividing the amount of under/over recovery by the number of unit produced.
If the under/over recovery is due to any other reason that is not stated above then it should be charged to profit and loss account.
These two situations have an adverse impacts on the company because over recovery of the overhead increases the price of the goods sold which creates burden on the customers. So, there is a high chance of losing a market share and low demand of the goods. In the under recovery, the company is not able to recover the overhead to the full extent and so a part of the expense has to be borne by the company which results in losses. It is therefore very important for the company to choose its product costing system wisely and also use the cost allocation system in an efficient manner (Cafferky, & Wentworth, 2010).
It has already been discussed earlier that there are two approaches of product costing system- Traditional costing system and Activity Based Costing System. The concept of traditional accounting system has already been explained in the earlier answer. Now, we will understand the concept of Activity Based Costing and also determine whether Frank should adopt this system in his organisation of not.
Activity Based Costing is one of the cost allocation system in which the cost is distributed among various departments according to the service that has been used by them individually. This system should be adopted by the manufacturing concerns that produce different or unique type of products. The burden of these cost lie only on the departments who takes its benefits the other departments has no burden of such expenses. This system is very helpful in the determination of cost of individual departments. A company should first analyse this system properly before implementing it. He should know the various advantages as well as disadvantages of adopting this system in his company.
The following are some of the advantages of Activity Based Costing. They are-
This system helps the organisation to identify the unnecessary and wasteful expenditures. When it comes to the knowledge of the company that such cost that has incurred is wasteful in nature it tries to minimize such cost. This helps in saving money in the other process as well.
Activity Based Costing makes it easy for the management to carry ot product pricing. It helps in allocating cost to different departments. The cost per unit is easily determined and so the company can set the selling price after the addition of profit.
This type of costing is not only useful to the production department but also to the selling and administrative departments. So, it helps to minimise cost in the other departments also,
The Activity Based Costing system brings improvement in the business process. There is a clear picture of the stream in which the company needs to improve and the areas in which it has already shown improvements.
This system helps us to identify the cost behaviour and brings to the knowledge of the company whether such data are accurate and reliable or not.
This system of costing helps the managers to take the decisions wisely an promptly without any confusion.
There are many advantages in Activity Based Costing but there are some disadvantages as well-
If the total overhead cost holds a very small proportion of the total cost then it will not necessarily help the company to reduce the cost. Also, if the overhead is in relation to the volume there are very less chances that there will be cost reduction.
Activity Based Costing may prove to be expensive but once it is properly implemented the cost are recovered in the form of savings. A lot of supervision and guidance is needed for the initial implementation of this system. This system is also considered to be complex.
The measurement of the cost and the cost drivers is a difficult part. It becomes necessary to update the Activity rates cost.
Activity Based Costing is not beneficial for smaller firms but it is very useful to the large manufacturing concerns. The firms that follow cost plus pricing system can get full benefits of this system. However, if there are any firms who takes into account market based prices then ABC costing may not be favourable. The manufacturing environment and the technology used may also affect the application of ABC costing.
The time taken to implement this costing system is considerably more because it requires a detailed study and analysis of different departments and processes of the organisation.
The wrong data that is used as an input may cause great damage to the entire company. So, a special attention and awareness should be present among everyone in the organisation while maintaining the records.
There may arise some difficulties in the selection of the cost drivers.
The ABC costing system has been explained properly along with the advantages and disadvantages. As we can figure out the advantages suppresses the disadvantages this system should be implemented by Frank. The disadvantages relates to initial implementation only so we can figure out that although it will take time but it will be beneficial for the company in the longrun.
References
Alex, K. (2012). Cost accounting (1st ed.). Chennai [India]: Pearson.
Ball, W. (1984). A sense of direction (1st ed.). New York: Drama Book Publishers.
Berman, K., Knight, J., & Case, J. (2013). Financial intelligence (1st ed.). Boston, Mass.: Harvard Business Review Press.
Cafferky, M., & Wentworth, J. (2010). Breakeven analysis (1st ed.). New York: Business Expert Press.
Essay Writing Service Features
Our Experience
No matter how complex your assignment is, we can find the right professional for your specific task. Contact Essay is an essay writing company that hires only the smartest minds to help you with your projects. Our expertise allows us to provide students with high-quality academic writing, editing & proofreading services.
Free Features
Free revision policy
$10Free bibliography & reference
$8Free title page
$8Free formatting
$8How Our Essay Writing Service Works
First, you will need to complete an order form. It's not difficult but, in case there is anything you find not to be clear, you may always call us so that we can guide you through it. On the order form, you will need to include some basic information concerning your order: subject, topic, number of pages, etc. We also encourage our clients to upload any relevant information or sources that will help.
Complete the order form
Once we have all the information and instructions that we need, we select the most suitable writer for your assignment. While everything seems to be clear, the writer, who has complete knowledge of the subject, may need clarification from you. It is at that point that you would receive a call or email from us.
Writer’s assignment
As soon as the writer has finished, it will be delivered both to the website and to your email address so that you will not miss it. If your deadline is close at hand, we will place a call to you to make sure that you receive the paper on time.
Completing the order and download