Accounting Techniques for Decision Making

7/28/2019 Accounting Techniques for Decision Making

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AccountingTechniques for

decision making2


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(1)Opening stock of raw materials

+ purchase of raw materials

+ expenses on raw materials

closing stock of raw materials

(2) = raw materials consumed+ production usages

+ direct expenses viz

electricity

(3) = prime cost+ factory expenses

+ opening stock of work in

process

- Closing stock of work in

process

(4) = Factory cost+ Administrative expenses

(5) = Cost of production+ Selling and distribution

expenses

+ Opening stock of finished

stock

- Closing stock of finished stock

(6) = Cost of sales+ Profit

- losses

(7) = Selling price


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Costing has been defined as the techniques and process of ascertainingcost of products r cost of services.

Objectives:

i. To find out cost of products and cost of services

ii. To control cost of products and cost of services, so that it will not exceed thelimit laid down.

iii. To reduce cost of products and cost of services. Applications:

i. It facilitates preparation of estimates

ii. It helps in maximization of profit

iii. It helps in eliminating loss making activities

iv. It helps in taking following managerial decisions:a. Price fixation

b. Export price fixation

c. Make or buy decision

d. Continue or discontinue a product

e. Replacement of men by machines and machines by better machines

f. Profit planning Profit maximization is a key factor


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Marginal costing is the ascertainment of marginal cost by segregating fixed and variable costand measurement of the effect of variation in the volume of output or product mix on profitlevel.

Only prime cost plus variable overheads are included in finding out cost of production.

Fixed costs are treated as period cost and charged to costing profit and loss account and notto a product.

Applications:

i. Determination of optimum level of production.

ii. Continue or discontinue of a department an activity or a product line.

iii. Pricing of product or jobs.

iv. Export pricing

v. Make or buy decision

vi. Pricing based on limiting or key factors

vii. Expand or buy decisions

viii. Profit planning

ix. Hire or purchase decision Limitations:

i. The analysis of overheads into fixed or variables items may often present difficulties.

ii. Application of marginal costing is difficult in job costing and in joint products and by-products. The element of semi-variable cost creates problem.


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It is the level of activity or volume of sales at which company is neither

making profit nor incurring losses. It is a level of activities where there is no

profit no loss. If we go beyond that point there is a profit, if we work less

than that point there is a loss.

Applications: are same as applications of Marginal Costing.


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Example: 1

Satish company Ltd. has an unutilized capacity of 66,000 direct labour hours within its existing unutilizedcapacity. The company can produce any combination of product X, Y or Z without increase fixedcosts. The company has supplied the following data:-

P R O D U C T S

X Y Z

Estimated selling produce for unit Rs. 30 Rs. 36 Rs. 54

Variable Manufacturing Cost per unit Rs. 20 Rs. 24 Rs. 36

Fixed Cost (allocated) Rs. 4 Rs. 6 Rs. 8

Standard hours required to produce unit 4 hours 6 hours 8 hours

Estimated No. of units that cold be sold 7, 000 5, 000 4, 000

Which of the products and how many units of each product should you recommend to be produced andsold by the company?


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Example: 2

A company is, at present, working at 80% of its capacity and producing 8000 units pee annum. Itoperates flexible budgetory control system. The following figures are available from its budget:

80% 100%

Rs. Rs.

1. Sales 8, 00, 000 10, 00, 000

2. 2. Fixed Expenses 1, 50, 000 1, 50, 000

3. Semi- fixed expenses 1, 00, 000 1, 10, 000

4. Variable cost 4, 00, 000 5, 00, 000

5. Units made 8, 000 10, 000

You are required to determine the differential cost of producing 2000 units by increasing capacity to 100per cent.

What would you recommend for an export price for 2000 units. Taking into account that overseas pricesare much lower than indigenous price?


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Example: 3

Following information has been made available from the cost records of united automobiles Ltd.,manufacturing spare parts:

Direct materials per unit

X Rs. 8

Y Rs. 6

Direct wages

X 24 hours @ 25 paise per hour

Y 16 hours @ 25 paise per hourVariable overheads 150% of direct wages

Fixed overheads (total) Rs. 750

Selling price

X Rs. 25

Y Rs. 20

The directors want to be acquainted with the desirability of adopting any one of the following

alternative sales mixes in the budget for the next period.a. 250 units of X and 250 units of Y

400 units of Y only

400 units of X and 100 units of Y

150 units of X and 350 units of Y

State which of the alternative sales mixes you would recommend to the management.


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Example: 4

The sales turnover and profit during two years were as follows:-

Year Seles Profit

2010 Rs. 3, 00, 000 Rs. 40, 000

2011 Rs. 3, 40, 000 Rs. 50, 000

You are required to calculate

i. P/V ratio

ii. Break-even point

iii. The sales required to earn a profit of Rs. 80, 000

iv. The profit made when sales are Rs. 5, 00, 000

v. Margin of safety at a profit of Rs. 1, 00, 000


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Example: 5

An analysis of Sultan Manufacturing Co. Ld. Led to the following information:

Cost element Variable Cost Fixed Costs

(% of sales) Rs.

Direct material 32.8Direct labour 28.4

Factory overhead 12.6 1, 89, 900

Distribution overheads 4.1 58, 400

General administration overheads 1.1 66, 700

Budgeted sales are Rs. 18, 50, 000. You are required to determine:

i. The break-even sales volume ;

ii. The profit at the budgeted sales volume; and

iii. The profit if actual sales :

a. Drop by 10% and

b. Increase by 5% from budgeted sales.


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Example: 6

From the following particulars you are required to calculate:

i. P/V ratio

ii. Break-even point for sales.

iii. Profit or Loss when sales are Rs. 5, 00, 000/-

iv. Sales required to earn profit of Rs. 60, 000/-.

v. Safety margin in the year 2011.

Year Sales Profit

Rs. Rs.

2010 4, 00, 000 (-) 20, 000

2011 6, 00, 000 80, 000


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Example 7X chemicals ltd has two factories with similar plant

& machinery for manufacturing soda ash. The

board of directors of the company hasexpressed the desire to merge them and to runthem as one integrated unit. Following data areavailable in respect of these two factories.

Particulars X Y

Capacity in

operation

60% 100%

Turnover 120 lacs 300 Lacs

Variable cost 90 Lacs 220 Lacs

Fixed cost 25 Lacs 40 Lacs


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Find Out:

a. What should be the capacity of the mergedfactory to be operated for break even?

b. What is the profitability of working 80% of theintegrated capacity?

c. What turnover will give an overall profit of Rs.

60 lacs?


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Solution to Example 7Particulars X Y Xy merged Xy at 80%

60% Equivalen

t to 100%

Turnover 120 200 300 500 400

Less

Variable cost

90 150 220 370 296

Contribution 30 50 80 130 104

Less Fixed

Expenses

25 25 40 65 65

Profit 5 25 40 65 39

PV Ratio 25% 25% 26.67% 26% 26%

BEP Sales 100 100 150 250 250

Capacity of

mergedplant

capacity at

BEP

50%

Desired

Turnover=

(Fixed cost+Desired

(65+60)/X100

26 480.77

lacs

Example 8


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Example 8A factory is currently working at 50% capacity and

produces 10000 units. Estimate the profits of the

company when it works at 60% and 80% capacity.At 60% working raw material cost increases by 2%and selling price falls by 2%. At 80 % working, rawmaterial cost increases by 5% and selling price falls

by 5%.At 50% capacity working, the product costRs 180 per unit and is sold at Rs. 200 per unit. Theunit cost of Rs. 180 is made up as under.

Particulars Amt Rs.

Material 100Labour 30

Factory Overheads 30 (40% fixed)

Adm. Overheads 20(50% fixed)


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Example 9A multi product company has the following costs and output data for the last year.

The company proposes to replace product Z by product S. Estimated cost and output data are

Analyse the proposed changes and suggest what decision the company should take.

Particulars X Y Z

Sales mix 40% 35% 25%

Selling price 20 25 30

Variable cost 10 15 18

Total fixed

cost

150000

Total sales 500000

Particulars X Y S

Sales mix 50% 30% 20%

Selling price 20 25 28

Variable cost 10 15 14

Total fixed

cost

150000

Total Sales 500000

E l 10


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Example 10X ltd having an installed capacity of 100000 units of products is

currently operating at 70% utilisation. At current level of inputprices, The FOB unit cost works as follows.

The company required three foreign offers from differentsources as under.

Source A 5000 units at 55 per unit FOB.

Source B 10000 units at 52 per unit FOB.

Source C 10000 units at 51 per unit FOB.

Advise the company as to whether any or all the export order

should be exported or not.

Capacity utilisation(%) FOB cost(Rs)

70 97

80 92

90 87

100 82

Solution to example 10


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Solution to example 10Differential cost at different capacity utilisation

Gain or loss on various export orders

Capacit

y%

Prodn

@

differentlevel

FOB

unit

cost

Total

cost

Diff cost Dcu

70 70000 97 6790000

80 80000 92 7360000 570000 57

90 90000 87 7830000 470000 47

100 100000 82 8200000 370000 37

Export

order

Units Capacity

utilisatio

n

Dcu Total Fob

pric

e

Sales

revenue

Gain

A 5000 75% 57 285000 55 275000 (10000)

B 10000 85% 5000 @ 57

5000 @ 47

520000 52 520000 Nil

C 10000 95% 5000 @ 47

5000 @ 37

420000 51 510000 90000

1225000 1305000 80000

Example 11


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Example 11Calculate from the following data

1. The value of the output at which the business breakseven

2. The % of capacity at which it breaks out.

Particulars Budget for the

year 2012 basedon 100% capacity

Estimated Shut

Down expenses

Direct material 300000

Direct Wages 200000

Factory Expenses 300000 100000

Selling & Dist. Exp 100000 50000

Adm Exp 100000 500000

Net Sales 1200000

Example 12


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Example 12The following data are obtained from the records of xyz ltd.

There is no change in variable cost and that fixed exp are incurredequally in the two half year products.

Calculate for the year

1. PV ratio

2. Break even sales

3. % of margin of safety

4. If the desired profit is Rs.14000 calculate required sales value

5. If the desired profit is Rs.14000 and the current tax rate is 35%,calculate required sales value.

Particulars First 6 months Last 6 months

Sales 45000 50000Total cost 40000 43000

Example 13


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Example 13The accounts of a company are expected to reveal a profit of

1400000 after charging fixed cost of 100000 for the yearended 31st dec 2011. The selling price of the product is Rs.

50 per unit and variable cost per unit is Rs. 20.

Market investigations suggest the following responses to theprice changes.

Evaluate these alternatives and state which of the alternative on

profitability consideration should be adopted for the forthcoming year.

Alternatives Selling price

reduced by %

Qnty sold

increased by %1 5% 10%

2 7% 20%

3 10% 25%



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Solution to example 13Break even units

Break even units with profit=

(Fixed cost + desired profit)/cont per unit.

=(1000000+1400000)/30

=80000 units

Alternative 2 should be selected.

Alternati

ve

Units S.P per

unit

V.Cost

per unit

Cont

per unit

Total

cont

1 88000 47.50 20 27.50 2420000

2 96000 46.50 20 26.50 2544000

3 100000 45.00 20 25.00 2500000

Example 14


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Example 14V ltd budgets to make 100000 units of its product perfect. The

variable cost is Rs.10 per unit while fixed cost is Rs.600000.The companys finance director has suggested the cost plusapproach should be used for pricing with a mark up of 25%.

The marketing director disagreed and has supplied the followinginf.

As management accountant of the company analyse the aboveproposal and comment.

Price per unit Demand

18 84000

20 76000

22 70000

24 64000

26 54000



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Solution to example 14Since additional qnty can be sold only by reducing the selling price the max cont

and incremental cont will be revealed in decision making.

1. The optimum level of output is the point at which the total contribution ismax. Beyond the point, incremental cont. Becomes negative.

2. From the above, max cont is at 64000 units.

3. The finance directors suggestion of cost price plus would result in a price of(10+6)+25%=Rs.20 . At this level contribution is not max , it is still possibleto increase the price.

4. Since fixed cost Rs. 600000 are the same irrespective of the output.

Qnty S.P per

unit Rs.

V.C per

unit Rs.

Cont

per unit

Rs.

Total

cont Rs.

Increme

ntal

cont.Rs.

84000 18 10 8 672000

76000 20 10 10 760000 88000

70000 22 10 12 840000 8000064000 24 10 14 896000 56000

54000 26 10 16 864000 -32000

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Accounting Techniques for Decision Making