ACCA F2 Management Accounting - 2010 - Study text

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Chapter 10: Process costing

JP1 has a sales value of $40 per unit when it is output from the process.

JP2 does not have a sales value at the split-off point, but can be sold for $80 per unit

after further processing costs of $15 per unit.

Required

Apportion the process costs between the joint products on the basis of:

 units produced

 sales value.

Answer

Units basis

Process cost per unit =

Process costs

Number of units produced

$135,880

(5,000 + 3,000)

= $16.985

Costs:

JP1: 5,000 units × $16.985

84,925

JP2: 3,000 units × $16.985

50,955

135,880

Sales value basis (or sales value minus further processing costs)

Sales

value per

unit

Sales value less

further processing

cost

Units

Total

value

JP1 40

5,000 200,000

JP2

3,000 195,000

395,000

Common process costs $135,880

Apportionment of overhead as % of sales value 34.4%

Costs: Total cost

Units Cost per

unit

JP1: $200,000 × 34.4%

68,800

5,000 13.76

JP2: $195,000 × 34.4%

67,080

3,000 22.36

135,880

7.3 Definition of by-products

In some process manufacturing systems, when two or more different products are

produced, any product that

does not have a substantial sales value is called a by-

product.

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7.4 Cost accounting treatment of by-products

Since a by-product does not have any substantial value, there is no sense in charging

it with a share of the common processing costs.

 Instead, the sales value of the by-product is deducted from the common

processing costs.

 If there are joint products, the common processing costs are apportioned after

deducting the sales value of the by-product from the total costs of the process.

 The sales value of the by-product is recorded as a credit entry in the process

account, together with the cost of the finished joint products.

Example: by-product and joint products

Two joint products JP1 and JP2, are produced from a common process. During

March, 9,000 units of materials were input to the process. Total costs of processing

(direct materials and conversion costs) were $135,880.

 Output was 5,000 units of JP1 and 3,000 units of JP2 and 1,000 units of by-

product BP3.

 JP1 has a sales value of $40 per unit when it is output from the process.

 JP2 does not have a sales value at the split-off point, but can be sold for $80 per

unit after further processing costs of $15 per unit.

 BP3 has a sales value of $1.58 per unit.

Required

Apportion the process costs between the joint products on the basis of sales value.

Answer

Common process costs

Total process costs 135,880

Deduct: Sales value of by-product (1,000 × $1.58)

(1,580)

134,300

Apportionment of cost between joint products on a sales value basis

Sales value

per unit

Sales value less further

processing cost

Units

Total

value

JP1 40

5,000 200,000

JP2

3,000 195,000

395,000

Common process costs $134,300

Apportionment of overhead as % of sales value 34.0%

Chapter 10: Process costing

Costs: Total cost

Units Cost per

unit

JP1: $200,000 × 34%

68,000

5,000 13.60

JP2: $195,000 × 34%

66,300

3,000 22.10

134,300

These costs would be shown in a process account as follows.

Process account

Units

Units $

Input costs 9,000

135,880

By-product

(Bank account)

1,000 1,580

JP1 5,000 68,000

JP2 3,000 66,300

9,000

135,880

9,000 135,880

Practice multiple choice questions

1 The input to a production process in one-month period was 12,000 units. There was

no opening inventory. Output during the period was 11,000 units. Direct materials

costs were $60,000 and conversion costs were $15,240. What was the cost of the

abnormal loss in the month?

A $2,508

B $2,640

C $3,960

D $4,104 (2 marks)

The input to a production process in one-month period was 3,600 units. There was

no opening inventory. Output during the period was 3,200 units. Direct materials

costs were $15,000 and conversion costs were $5,160. Normal loss is one-sixth of the

quantity input. What was the value of the abnormal gain in the month?

A $1,120

B $1,260

C $1,344

D $1,440 (2 marks)

3 A company has a manufacturing process and uses the weighted average cost

method of inventory valuation. In one month, opening inventory consisted of 500

units, 100% complete for direct materials and 60% complete for conversion costs. Its

total value was $8,955, consisting of direct materials of $7,935 and conversion costs

of $1,020.

During the month, a further 1,500 units of direct materials were input to the process,

costing $25,605, and conversion costs in the month were $5,440. Direct materials are

added in full at the start of the process. Closing work in process was 400 units, 100%

complete for direct materials and 25% complete for conversion costs.

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What was the value of the closing work-in-process at the end of the month?

A $7,048

B $7,088

C $7,168

D $10,000 (2 marks)

A company has a manufacturing process and uses the FIFO method of inventory

valuation. In one month, opening inventory consisted of 400 units, 100% complete

for direct materials and 75% complete for conversion costs. Its total value was

$2,920, consisting of direct materials of $2,200 and conversion costs of $720.

During the month, a further 2,000 units of direct materials were input to the process,

costing $12,200, and conversion costs in the month were $3,060. Direct materials are

added in full at the start of the process. Closing work in process was 500 units, 100%

complete for direct materials and 40% complete for conversion costs.

What was the value of the finished output from the process during the month?

A $14,365

B $14,620

C $14,790

D $14,820 (2 marks)

The input to a production process in one-month period was 8,000 units. There was

no opening inventory. Output during the period was 7,000 units. Direct materials

costs were $30,400 and conversion costs were $11,040. Normal loss is 5% of input.

All direct materials are input at the beginning of the process, and loss occurs 60% of

the way into the process. What was the cost of the abnormal loss in the month?

A $2,940

B $3,272

C $3,300

D $5,672 (2 marks)

6 Two joint products JP1 and JP” are output from a common process, and a by-

product BP1 is also produced from the same process. The by-product has a sales

value of $1.50 per unit. Data for the current month are as follows:

Input 6,000 units: cost $57,000 (direct materials $42,000, conversion costs $15,000)

Output: 3,000 units of JP1, 2,000 units of JP2 and 1,000 units of BP1.

Common processing costs are shared on the basis of the quantities of joint products

produced.

What is the cost of the output of JP2 in the month?

A $18,500

B $19,000

C $22,200

D $22,800 (2 marks)

Paper F2

Management Accounting

CHAPTER

Budgeting

Contents

1 Thebudgetingprocess

2 Preparingfunctionalbudgets

3 Fixed,flexibleandflexedbudgets

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The budgeting process

 The nature of budgets

 Purposes of budgeting

 Preparing the budget

 The master budget

 Functional budgets

 Principal budget factor

 Stages in the budget process

1 The budgeting process

1.1 The nature of budgets

A budget is a formal plan, expressed mainly in financial terms and covering all the

activities of the entity. It is for a specific period of time, typically one year. When

budgets are prepared annually, they are for the next financial year.

The total budget period (one year) may be sub-divided into shorter control periods

of one month or one quarter (three months).

1.2 Purposes of budgeting

Budgets have several purposes.

 To convert long-term plans (strategic plans) into more detailed shorter-term

(annual) plans.

 To ensure that planning is linked to the long-term objectives and strategies of the

organisation.

 To co-ordinate the actions of all the different parts of the organisation, so that

they all work towards the same goals. (This is known as ‘goal congruence’.) One

of the benefits of budgeting is that is covers all activities, so the plan should try

to ensure that all the different activities are properly co-ordinated and working

towards the same objective.

 To communicate the company’s plans to the individuals (managers and other

employees) who have to put the plans into action.

 To motivate managers and employees, by setting targets for achievement, and

possibly motivating them with the incentive of bonuses or other rewards if the

targets are met.

 To provide guidelines for authorising expenditure. Expenditure might not be

permitted unless it has been planned in the budget or unless it is within the

budgeted expenditure limits for the department.

Chapter 11: Budgeting

 To identify areas of responsibility for implementing the plans. For each part of

the budget, an individual manager should be made responsible for achieving the

budget targets for performance.

 To provide a benchmark against which actual performance can be measured.

 To control costs. Costs can be controlled by comparing budgets with actual

results and investigating any differences (or variances) between the two. This is

known as budgetary control.

1.3 Preparing the budget

Preparing the annual budget is a major activity for many entities. In many medium-

sized and large companies, there is a well-defined process for budget preparation,

because a large number of individuals have to co-ordinate their efforts to prepare

the budget plans. The budgeting process may take several months, from beginning

to eventual approval by the board of directors.

The budget process might be supervised and controlled by a special committee (the

budget committee). This consists of senior managers from all the main areas of the

business. The committee co-ordinates the various functional budgets submitted to it

for review, and gives instructions for changes to be made when the draft budgets

are unsatisfactory or the functional budgets are not consistent with each other.

Although the budget committee manages the budget process, the functional

budgets are usually prepared by the managers with responsibility for the particular

aspect of operations covered by that functional budget.

Budget manual

To guide everyone involved in the budgeting process, there should be a budget

manual or budget handbook. This should set out:

 the key objectives of the budget

 the planning procedures and the timetables to follow when preparing the

budget

 instructions about the budget details that must be included in the functional

budgets

 responsibilities for preparing the functional budgets (sales budget, production

budget, materials budgets, labour budget and overhead expenditure budgets)

 details of the budget approval process. The budget must be approved by the

budget committee and then by the board of directors.

1.4 The master budget

The ‘master budget’ is the final approved budget. It is usually presented in the form

of financial statements - a budgeted income statement and a budgeted balance sheet

for the end of the financial year.

Paper F2: Management Accounting

However the master budget is the result of a large number of detailed plans, many

of them prepared at a departmental or functional level. To prepare the master

budget, it is therefore necessary to prepare functional budgets first.

1.5 Functional budgets

A functional budget is a budget for a particular aspect of the entity’s operations. The

functional budgets that are prepared vary with the type of business and industry. In

a manufacturing company, functional budgets should include:

 a sales budget

 a production budget

 a budget for production resources and resource costs (such as a materials cost

budget and a labour cost budget)

 a materials purchasing budget

 expenditure budgets for every overhead cost centre and general overhead costs.

1.5 Principal budget factor

The budgeting process begins with the preparation of functional budgets, which

must be co-ordinated and consistent with each other. To make sure that functional

budgets are co-ordinated and consistent, the first functional budget that should be

prepared is the budget for the principal budget factor.

The principal budget factor (also called the key budget factor) is the factor in the

budget that will set a limit to the volume and scale of operations.

Sales demand (sales volume) as the principal budget factor

Normally, the principal budget factor is the expected sales demand. When this

happens, the expected sales demand should set a limit on the volume of production

(or volume of services). A company might have the capacity to increase its

production and output, but producing larger quantities has no purpose unless the

extra quantities can be sold.

A company will therefore prepare a budget on the basis of the sales volumes that it

hopes or expects to achieve. When sales demand is the principal budget factor, the

sales budget is the first functional budget that should be prepared.

A principal budget factor other than sales volume

Sometimes, there is a different limitation on budgeted activity. There might be a

shortage of a key resource, such as machine time or the availability of skilled labour.

When there is a shortage of a resource that will set a limit on budgeted production

volume or budgeted activity, the first functional budget to prepare should be the

budget for that resource.

In government, the principal budget factor for each government department is often

an expenditure limit for the department. The department must then prepare a

Chapter 11: Budgeting

budget for the year that keeps the activities and spending plans of the department

within the total expenditure limit for the department as a whole.

1.6 Stages in the budget process

The budgeting process for a manufacturing company is probably more complex

than for many other types of organisation, and manufacturing company budgets are

more likely to be the subject of an examination question than budgets for companies

in other industries. This chapter therefore describes the budgeting process for a

manufacturing company.

The stages in setting the budget might be as follows.

 Stage 1: Identify the principal budget factor (or key budget factor). The principal

budget factor is normally sales volume.

 Stage 2: Prepare the functional budget or plan for the principal budget factor.

Usually, this means that the first functional budget to prepare is the sales

budget.

 All the other functional budgets should be prepared within the limitation of the

principal budget factor. For example, even if the company has the capacity to

produce more output, it should not produce more than it can sell (unless it

formally decides to increase the size of the finished goods inventory, in which

case the production volume will be higher than the sales volume).

 Stage 3: Prepare the other functional budgets, in logical sequence where

necessary. When the sales budget has been prepared, a manufacturing

organisation can then prepare budgets for inventories (= plans to increase or

reduce the size o fits inventories), a production budget, labour budgets and

materials usage and purchasing budgets. Expenditure budgets should also be

prepared for overhead costs (production overheads, administration overheads

and sales and distribution overheads). Overhead costs are usually prepared for

each cost centre individually.

 Stage 4: Submit the functional budgets to the budget committee for review and

approval. The functional budgets are co-ordinated by the budget committee,

which must make sure that they are both realistic and consistent with each other.

 Stage 5: Prepare the ‘master budget’. This is the budget statement that

summarises the plans for the budget period. The master budget might be

presented in the form of:

− a budgeted income statement for the next financial year

− a budgeted balance sheet as at the end of the next financial year

− a cash budget or cash flow forecast for the next financial year.

 It should be possible to prepare the master budget statements from the

functional budgets.

 Stage 6: The master budget and the supporting functional budgets should be

submitted to board of directors for approval. The board approves and authorises

the budget.

 Stage 7: The detailed budgets are communicated to the managers responsible for

their implementation.

 Stage 8: Control process. After the budget has been approved, actual

performance should be monitored by comparing it with the budget. Actual

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results for the period should be recorded and reported to management. These

results should be compared with the budget, and significant differences should

be investigated. The reasons for the differences (‘variances’) should be

established, and where appropriate control measures should be taken.

Comparing actual results with the budget therefore provides a system of control.

The managers responsible for activities where actual results differ significantly

from the budget will be held responsible and accountable.

The planning process (budgeting) should therefore lead on to a management

monitoring and control process (budgetary control).

ACCA F2 Management Accounting - 2010 - Study text - Emile Woolf Publishing

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