ACCOUNTING

FOR
MANAGERIAL
DECISIONS
MCO-05
MCOM STUDY GUIDE
(NUMERICALS INCLUDED)

Santosh Sharma
SANTOSH SIR CLASSES
 Contents

Units Name of the Chapters Pg. No

1 Accounting an Overview 2
2 Basic Cost Concept 7
3 Financial Statements 10
4 Understanding Financial Statements 12
5 Techniques of financial analysis 13
6 Statement of changes in financial position 15
7 Cash Flow Analysis 16
8 Basic concepts of budgeting 17
9 Preparation and Review of Budgets 20
10 Approaches to Budgeting 21
11 Basic Concepts of Standard Costing 23
12 Variance Analysis - I 26
14 Responsibility Accounting 27
15 Marginal Costing 28
16 Break even analysis 30
17 Relevant Costs for decision making 32
18 Reporting to Management 33
19 Recent developments in accounting 35
20 Some Important Numerical 38
21 TEE June Numerical 40

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 MCO-05 (MCOM)

Accounting for Managerial Decisions

[Numerical included]

Unit-1: Accounting an Overview

Definition of Accounting
“Accounting is an art of recording, classifying and summarizing in a significant manner and in terms of money,
transactions and events which are in part of at least of a financial character and interpreting the results there of.”

Objectives of Accounting
1. Systematic Recording: The main object of accounting is to keep systematic records of the business
transactions. There are many transactions that take place every day such as purchase and sale of goods, cash
receipts and payments, etc. It is necessary that all these transactions should be recorded in a proper order.
It helps to know the profits or losses and financial position of the firm.
2. Finding Profits or Losses: A business always aims at earning profits. It is the primary object of a business.
Therefore, it is very important to find profits earned or losses incurred by the business at the end of a year.
Thus, accounting provides all these information to the businessman.
3. Finding Financial Position: Accounting helps to find the financial position of business at the end of a year.
Financial position is ascertained by valuing assets and liabilities. This is done by preparing a statement called
the Balance Sheet. A Balance Sheet provides necessary information about the financial strength of a business.
4. Providing information to the interested parties: This is also one of the most important objects of
accounting. There are various interested parties like bankers, creditors, tax authorities, investors, etc. These
parties have interest in the operation of a business enterprise. The accounting information is communicated
to them in the form of an annual report.

Interested Parties in Accounting information

1.Owners or shareholders: They contribute the required capital and take risk of business. Therefore, they
are interested to know the result of operations and financial position of the company.
2.Creditors: The creditors are those who supply goods and services on credit to the firm. The accounting
information helps them to assess the ability of the enterprise to what extent of credit can be granted.
3.Government: The government may be interested in accounting information of a business on account of
taxation, labour and corporate laws.
4.Employees: The employees of the enterprise are also interested to know the state of affairs of the
organization in which they are working so as to know how safe their interests are in the organization.
5.Public: An ordinary citizen may be interested to know the accounting information to measure the
performance of government company like banks, gas electricity companies.

Branches of Accounting.
There are mainly three branches of accounting:
1.Financial Accounting
2.Cost Accounting
3.Management Accounting
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Meaning of Financial Accounting
Financial accounting is defined as an art of recording, classifying and summarising in a significant manner in terms
of money transactions and events which are in part at least of a financial character and interpreting the results there
of. The object of financial accounting is to find out the profitability and financial position of the business for which
two important statements are prepared in financial accounting such as Income & Expenditure Statement and
Balance Sheet.

Functions or Processes of financial accounting

i)Identifying financial transactions: The very first function of financial accounting is to identify the type of
transactions that has taken place.
ii)Recording a financial transaction: These transactions are systematically recorded and pass through the
journals and ledgers. only those transactions are recorded which are measurable in terms of money.
iii)Classifying and summarising a financial transaction: The next function of financial accounting is to classify
the financial transactions into different types so that it will be easy to find out the financial position of the
company.
iv)Interpreting financial information: The recorded financial data is interpreted in such a manner that the end
users can make a meaningful judgement about the financial position and profitability of the business.
v)Communication or sharing of financial information: The information so recorded and measured should
be communicated to the users. This communication is done through statements and reports. These statements
should be reliable and accurate.

Limitations of Financial Accounting

1)Historic nature: Financial accounting provides information only about the past events and not about future
events. It does not tell us what should be done to improve efficiency of the business. It just records the
transactions that took place in the past.
2)Actual cost: As we know that the prices of goods and assets changes quite frequently. It does not record the
current prices of assets and liabilities rather at historical cost or original cast. So, actual value of assets and
liabilities are not depicted by financial accounting.
3)Quantitative information: Financial accounting only records those factors which are expressed in quantity.
It does not consider the qualitative aspect of transactions. For example, efficiency and loyalty of employees,
their motivation level, attitude, etc. Therefore, it makes financial accounting incomplete.
4)Not helpful in decision making: Financial accounting does not provide sufficient information to take
strategic decisions. It fails to provide information regarding future.
5)Not reliable: Information provided by financial accounting are not reliable because there may be some
mistakes or undervaluation or over valuation of profits and losses while recording transactions. So, a
company generally get its accounts checked by a Chartered Accountant.
6)Manipulation of accounts: There is a possibility that the inventory and stock values are over or
undervalued. The profit may be shown more or less to get more remuneration, to pay more dividends or to
raise share prices.

Meaning of Cost Accounting

Cost accounting is that branch of accounting which helps to ascertain the cost of the product. It includes accounting
procedures relating to recording of all income and expenditure and preparation of periodical statements and reports
with the object of ascertaining and controlling costs. In short, cost accounting is the process of accounting for costs.

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Functions or Advantages of Cost Accounting
1)To find the cost of product or service.
2)To reduce wastages and cost of production.
3)It helps to compare costs of different periods.
4)It helps to prepare tenders and quotations.

Meaning of Management Accounting

Management accounting is an art of identifying, measuring, analysing, interpreting and communicating financial
information to managers. It helps management to take decisions. Management accounting also prepares financial
reports for management groups such as shareholders, creditors, and tax authorities. So, it is the application of
professional information to assist the management in the formation of policies, planning and controlling the
operations of the business enterprise.

Roles and functions of Management Accountant

i)Planning and controlling: A Management accountant establishes and maintains an integrated plan for the
control of operations. His planning involves setting standards, profit planning, programs for capital investing,
sales forecasting and preparing budgets.
ii)Reporting and interpreting: He measure the performance against given plans and standards. He evaluates
the performance of each plan to find any loopholes. The results of the operations are interpreted to all the
levels of management and the owners of the business.
iii)Evaluation of policies and programs: He is responsible to evaluate various policies and programmes. The
effectiveness of policies and programs are required to achieve the objectives of the organization.
iv)Tax administration: The management accountant has to ensure that the government taxes are paid in time.
He also supervises and coordinates in preparing the reports to different government agencies.
v)Protection of assets: The management accountant has to assure physical protection of the assets of the
business through adequate internal control and proper insurance coverage.

Accounting Concepts
Accounting has certain principles which are to be followed strictly to maintain uniformity. These principles are
known as ‘Generally Accepted Accounting Principles’. These principles are adopted by all the accountants universally
while recording accounting transactions. Accounting concepts can be classified into two groups:
A.Concepts at the recording stage.
B.Concepts at the reporting stage.

Concepts at the Recording Stage

1.Business Entity Concept
2.Money Measurement Concept
3.Historical Record Concept
4.Cost Concept
5.Dual Aspect Concept

1)Business Entity concept: According to this concept, the business and its owner are two different aspects.
Owner of the business is different from the business. He is regarded as liability. The business firm has its own
identity and it is quite separate from its owner. A company has its own identity and an artificial person. It
can enter into contracts with third parties. It has a common seal for this purpose.

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 2)Money Measurement Concept: According to this concept, only those transactions and events are recorded
in the books of accounts which can be expressed in terms of money such as purchases, sales, salaries etc.
Qualitative transactions have no place in accounting like honesty, loyalty, attitude, ethics, etc. cannot be
expressed in terms of money. So, these are not recorded at all.
3)Historical Record Concept: According to this concept, we record only those transactions which have
actually taken place in the business during a particular period of time or past and not those transactions
which may take place in future. All the transactions are to be recorded in chronological order.
4)Cost concept: According to this concept, fixed assets are recorded in the books of accounts at the price at
which they are purchased. Depreciation may be charged every year to get the actual value of the asset.
5)Dual Aspect concept: According to this concept, every business transaction has two affects, debit and credit.
Therefore, it is also known as double entry system. For every debit there is an equal and opposite credit.

Concepts at the time of Reporting Stage

1.Going Concern Concept
2.Accounting Period Concept
3.Matching Concept
4.Conservation Concept
5.Consistency Concept
6.Full disclosure Concept

1)Going concern concept: According to this concept, it is assumed that every business enterprise would
continue for a long period of time. The business has a perpetual succession. It will not close down in the near
future.
2)Accounting Period concept: All the financial statements are prepared for a particular period. This is
generally taken as one year or 12 months. The calendar year starts from January to December and accounting
year starts from April to March.
3)Matching concept: According to this concept the sum of costs should be deducted from the sum of revenues
to get the net result of that period. All the revenues earned during an accounting period should match with
the expenses. Therefore, adjustments are to be made for all outstanding expenses, accrued incomes, prepaid
expenses.
4)Conservation concept:Conservatism refers to the policy of choosing the procedure that leads to
understatement of assets or revenues and overstatement of liabilities or costs. Therefore, the accountants
generally follow the rule that anticipate no profit but provide for all possible losses.
5)Consistency concept: It means that there should not be a change in accounting methods from year to year.
Comparisons are possible only when a consistent policy of accounting is followed. If there are frequent
changes in the accounting treatment, then it makes them less reliable.
6)Full disclosure concept: According to this concept, the financial statements should be prepared honestly
and all the information should be recorded with their true value. All the financial statements should be
prepared in such a way that they clearly disclose the correct position of the business to outsiders.

Accounting Standards
Accounting standards are generally accepted accounting principles which provide the basis for accounting policies
and for preparation of financial statements. The object of these standards is to provide a uniformity in financial
reporting and to ensure consistency and comparability of the information provided by the business firms. Thus,
accounting standards provide useful information to the users to interpret published reports.
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Objectives of Accounting Standards
a) To serve the needs of users for decision making purposes.
b) To ensure transparency, consistency and reliability of information.
c) To make accounting information more meaningful and useful.
d) To improve overall quality of presentation and reporting.

Importance of Accounting Standards

1) It helps the investors to assess the return and risk involved in evaluating the various investment proposals.
2) it raises the standards of audit while reporting the financial statements to the management.
3) It helps the government and other interested parties to frame economic policies, tax planning, market
analysis and investment decisions.
4) It helps to compare the financial position and operating results of similar enterprises.
5) It helps in the development of international trade and commerce.

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 Unit-2: Basic Cost Concept

Types of Costs.
Costs can be classified on the basis of:
A) Functions
B) Identity
C) Variability
D) Controllability
E) Decision making

A. On the basis of functions:

1.Manufacturing cost: Administrative costs are those costs which relate to factory operations. These include
direct material cost direct labour cost and manufacturing overheads.
2.Administrative cost: These costs are incurred for the general administration and management of the firm.
For example, salaries of the office staffs, rent of the office building, depreciation, repairs.
3.Selling cost: These costs are incurred while selling goods and services. For example, cost of warehousing,
advertising, salesman's salaries.
4.Distribution cost: These costs are incurred during the distribution of goods and services. These include
packing cost, carriage, insurance freight, etc.

B. On the basis of identity

1.Direct cost: Those costs which are incurred in the manufacturing of the goods and services directly are called
direct cost. For example, raw materials, labour and direct expenses.
2.Indirect cost: Those costs which are not directly concerned with manufacturing of goods and services are
called indirect cost. For example, factory rent, salaries, factory lighting.

C. On the basis of variability

1.Fixed cost: Those costs which do not change with production are called fixed costs. They remain fixed if
there is production or not. For example, factory rent, salaries.
2.Variable cost: Those costs which change with production are called variable cost. These costs increase with
increase in production. For example, cost of raw materials, direct wages, power.
3.Semi variable cost: Those costs which are partly fixed and partly variable are called semi variable cost. For
example, telephone, power consumption, depreciation, repairs.

D. On the basis of Controllability

1.Controllable cost: Those costs which can be controlled by a particular person or management are called
controllable costs. For example, raw materials, power.
2.Uncontrollable costs: Those costs which cannot be controlled by a person or management are called
uncontrollable costs. For example, factory rent, salaries.

E. On the basis of decision making

1.Differential cost: It is the result of change in the total cost from an alternative course of action. The
difference in the total cost maybe due to change in the methods of production, change in sales volume.
2.Sunk cost: These costs result from past expenditure. These costs cannot be changed and management has
no control over such costs. For example, past cost of raw materials, past costs of long-term assets.
SANTOSH SHARMA 7
 3.Opportunity cost: The cost incurred by sacrificing one product for the other is called opportunity cost. For
example, if we manufacture more of rice in place of machines.

Distinguish between variable, fixed and semi-variable costs.

Fixed cost Variable cost Semi variable cost

These costs remain constant These costs change with volume of These costs are partly fixed and partly
irrespective with the change in production. variable.
production.
These costs decrease when These costs increase when These costs also increase when
production increases. production increases. production increases.
The prices of these costs do not change The prices of these costs change in The prices of these costs may or may not
in the short run. the short run. change in the short run.
Examples of fixed costs are cost of Examples of variable costs are cost of Examples of semi variable costs are telephone
machines, land and building, raw materials, wages of workers, cost of bills, repairs, depreciation,
furniture and fixtures, equipment’s fuel and power, etc. etc
etc.

What is Cost Unit and Cost Centre?

Cost unit is the unit of measurement of cost. It is the quantity of product for which price is quoted to the consumers.
For example, price per kg or tonne.
A cost centre is the location, person or and equipment for which costs may be ascertained and used for the purpose
of control. There are four types of cost centre, such as:
i)Process cost centre
ii)Production cost centre
iii)Operation cost centre
iv)Service cost centre

Elements of cost.
There are three elements of cost
1.Materials:All those materials which are used as raw materials in manufacturing a product are called
materials. These may be direct material and indirect material. Direct materials are directly utilised in the
production process. For example, direct raw materials, packing materials. All materials which are not directly
used in the production process are called indirect materials. For example, oil, printing and stationery.
2.Labour: The workers employed in converting the raw materials into finished products are called labour.
These maybe direct labour and indirect labour.
3.Expenses: All those expenses which are incurred in the production of goods and services are called expenses.
Expenses may be direct expenses and indirect expenses.

Methods of costing
There are mainly six methods of costing such as:
1.Job Costing
2.Contract Costing
3.Batch Costing
4.Unit Costing
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 5.Process Costing
6.Operating costing

1)Job Costing: In this method, costs are calculated for each job or work separately. This method is suitable for
industries like printing, repairs, construction.
2)Contract Costing: This type of costing is done in companies where a contract or project has been undertaken.
For example, construction of roads buildings, bridges.
3)Batch Costing: This method is used in those companies where production is done in batches. Each batch
consists of the same products and uniform stages of production. This method is suitable for industries
engaged in pharmaceuticals, readymade garments, toy manufacturing.
4)Unit Costing: In this method cost are determined for a single product. The cost per unit is found by dividing
the total cost by the total number of units produced. This method is suitable for industries like paper mills,
cement industries, textile industries.
5)Process costing: This method is suitable for those production process which undergoes different processes.
This type of cost costing is used in Industries like chemicals, Textiles, bakeries.
6)Operating costing: This type of costing is done in service sectors. For example, railways, hotels, Nursing
homes.

A short note on Cost Sheet

• A cast sheet is a statement showing the various components of total cost of output for a certain period which
acts as a guide to pricing decisions and cost control.
• It is a document which provides for the assembly of the detailed cost of a cost unit.
• It is prepared at regular interval of time like weekly, monthly, etc.

Objectives of Cost Sheet

A cost sheet is prepared for the following purposes:
1.It shows cost per unit and total cost.
2.It gives details regarding material, labour, overhead, etc.
3.It helps to compare different costs.
4.It helps the management to take decisions.

Contents of Cost Sheet

A cost sheet contains the following information:
1)Name of the product and cost unit.
2)Period for which it is prepared.
3)Output of the period.
4)Components of cost
5)Change in stock.
6)Cost of goods sold.
7)Profit or loss.

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 Unit-3: Financial Statements

Meaning of Financial Statements

The process of collecting, recording, classifying and presenting financial data to the management and external
agencies are called financial statements. All the transactions and events are recorded in the books of accounts for a
particular period. These are prepared to find the profit and loss and financial position of the business for a certain
period.

Objectives and nature of Financial Statements

1.To make investment and financial decisions
2.To estimate future cash flow.
3.To find the net assets value or net worth of the business
4.To provide fair wages, good working conditions and job security to workers.
5.To compute taxation and subsidy policy.

Types of Financial Statements

We generally prepare four types of accounts in financial statements such as:
i)Manufacturing account,
ii)Trading account,
iii)Profit and loss account
iv)Balance sheet.

I. Manufacturing account: This account is prepared by those organizations which are engaged in the
manufacturing or production of goods and services. Important contents of manufacturing account are work
in progress, raw materials consumed, direct expenses, factory overheads, scrap, violent power, wages, etc.
By preparing this account we can find the cost of production of a particular product.
II. Trading account: A trading account is prepared to find the gross profit or gross loss of an enterprise. The
important items which are placed in the debit side of trading account are opening stock, purchases, direct
expenses, carriage inwards, freight, import and export duty, custom duty, octroi, wages and salaries of
factory workers, fuel coal and power, factory lighting, Forman’s salary, etc. Items which appear in the credit
side of trading account are sales, closing stock and abnormal losses.
III. Profit and loss account: This account is prepared to find out the profit or loss of a business enterprise. It
takes into account all the operating and non-operating. expenses such as salaries, commission, trade
expenses, advertisement, rent paid and received, abnormal losses, etc.
IV. Balance sheet: A balance sheet is a statement of assets and liabilities which help us to find the financial
position of a business enterprise on a particular date. It takes into account all the fixed and current assets
and liabilities. All the types of assets are recorded in balance sheet such as fixed assets, intangible assets,
current assets, liquid or quick assets fictitious assets, contingent assets, etc., Similarly a balance sheet records
all types of liabilities like long term liabilities, current liabilities and contingent liabilities.

Advantages of Financial statements

1.Financial statements help to take economic decisions. Financial statements provide information relating to
the strength and weaknesses of the enterprise and its ability to meet its commitments.

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 2.These statements are quite helpful for investment decisions. An informed investor is always in a position
to take appropriate and timely decision on investment. Financial statements provide necessary information
regarding profitability, dividend policy, net worth, etc.
3.These statements help to take employees decisions. Employees and trade unions use financial statements
to analyse risk and growth potential of a company. This helps to settle industrial disputes and avoid lockout
and strikes. This also helps to develop a sense of belonging among the workers.
4.These statements help creditors and bankers to know the correct position of the company. Creditors make
use of the financial statements mainly to find the ability of the company to pay its current liabilities. They can
also assess the value of stock and other assets which can be accepted as security against credits granted.
5.Financial statements help to know about the competitors’ strengths and weaknesses. Competitors analyse
financial statements to judge the ability of competitor to with stand competition.
6.Financial statements help the government to frame policies and programmes on taxes, duties, etc. A firm can
compare the previous policies of the government with the present.

Limitations of Financial Statements

1.Financial statements are generally prepared for a certain period. They do not reveal the true position of a
business enterprise. It does not give any idea about the earning capacity overtime. They are not accurate
figures.
2.Financial statements are not realistic. They are prepared on the basis of accounting principles and concepts.
3.These statements only tell us about the financial position of the company and completely ignore the non-
financial matter of the company. Thus, information relating to the development of skill and efficiency of
employees, the reputation of management, public image of the firm, etc. are not found in financial statements.
4.These are historical in nature. These statements record events and transactions that took place in the past
and do not tell anything about the future events.
5.The figures provided through financial statements are not reliable because there may be some mistakes
while recording and posting the transaction.

Distinguish between Revenue and Capital Expenditure

Revenue Expenditure Capital Expenditure

These are incurred for the normal functioning of the These are done to acquire fixed assets.
business enterprise.
These are short-run expenditures. These are long-run expenditures.
This expenditure does not create any assets. These create assets of the firm.
For ex: salaries, interest, subsidies, etc. For ex: machinery, land & building, plant, etc.

What is Deferred Revenue Expenditure?

Expenditures whose benefits is likely to be available for more than one year are called deferred revenue
expenditure. For example, expenditure incurred on advertising campaign to introduce a new product. These are not
routine expenditure and it’s benefit will not completely exhaust in one accounting year but it will continue over few
more years. Therefore, these expenses are capital in nature and therefore are not charged to profit and loss account.

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 Unit-4: Understanding Financial Statements
Meaning of Reserves
The part of earning or profits which is kept aside by the management for a general or specific purpose is known as
reserve. It is only possible when a company has sufficient profit and surplus. Reserves are created to deal with the
future contingencies and for investment purpose. Retained earnings is one of the best sources of reserve and finance
for a company.
Types of Reserves
A firm usually creates the following types of reserves:
1.Revenue Reserve
2.Specific Reserve
3.Capital Reserve
4.Secret Reserve
1)Revenue reserves: These reserves are also known as free reserves. These are created to meet a contingent
liability. These contingencies reserves are created to meet any sudden obligation that arise while the normal
functioning of a firm. For example, settlement of a pending lawsuit or to meet any trading loss.
2)Specific Reserves: When reserve is created for a specific purpose, it is known as specific reserve. It may be
created to maintain a stable rate of dividend or to meet redemption of debentures within a stipulated period of
time. For example, dividend equalisation reserve, debenture redemption reserve, etc.
3)Capital Reserve: A reserve which is created not out of divisible profits but from capital gains is called capital
reserves. Such a reserve is not available for distribution among shareholders as dividend. It is generally created
out of capital profits such as profit from securities premium, profit on reissue of forfeited shares, profit on sale
of fixed assets, etc.
4)Secret Reserve: Areserve which is not disclosed in the balance sheet is known as a secret reserve. The
Companies Act 1956, has in fact prohibits creation of secret reserve because it conceals the actual financial
position of the firm. It can be created by writing off excessive depreciation, undervaluing the assets, creating
excessive provisions for bad-debts, etc. Secret reserve is created to meet exceptional losses, to bring down the
market value of shares, to maintain dividend rate, to minimise tax liability, et cetera.
Meaning of Provisions
The amount written off or retained by way of providing depreciation, renewals in the value of assets and providing
for any loan liability is called provision. A provision is created either against the loss in the normal course of business
or against unknown liability. The exact amount of provision cannot be determined accurately but is estimated only.
Distinguish between Provision and Reserve
Provision Reserve
A provision is a charge against the profits A reserve is simply a part of profit.
A provision is created to meet a known liability It is created to strengthen the financial position and to
meet any future contingencies.
A provision is shown as a deduction out of the A reserve is shown separately on the liability side
assets concerned. of the Balance Sheet.
A provision is never invested outside business. Reserves may be invested outside business
A provision is not available for the purpose of distributing Reserves are always available to be distributed as
dividend. dividends.
Provisions have to be created whether there is A reserve is created only when there is sufficient profit.
profit or loss

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 Unit-5: Techniques of financial analysis
Meaning of Ratio Analysis
Ratio analysis is the process of computing, determining and explaining the relationship between the component
items of financial statements in terms of ratios.
Types of Accounting Ratios
There are basically four types of accounting ratios:
1.Liquidity Ratio
2.Solvency Ratio
3.Activity or Turnover Ratio
4.Profitability Ratio
1)Liquidity ratio: Business needs liquid funds to pay the amount due to stakeholders as and when it is due. The
ratios which are calculated to measure it are known as liquidity ratio. These are of two types such as: Current
ratio and liquid ratio.
2)Solvency ratio: The ratios which measure the solvency position of a business are known as solvency ratios.
These are of five types such as:
a)Debt equity ratio,
b)Debt ratio,
c)Proprietary ratio,
d)Total assets to debt ratio,
e)Interest coverage ratio.
3)Activity or Turnover ratio: This refers to the ratios that are calculated for measuring the efficiency of
operation of business based on utilization of resources. Therefore, they are also known as efficiency ratios.
These are of six types such as:
a)Stock turnover ratio,
b)Debtors’ turnover ratio,
c)Creditor’s turnover ratio,
d)Investment turnover ratio,
e)Fixed assets turnover ratio,
f)Working capital turnover ratio.
4)Profitability ratio: It refers to the analysis of profits in relation to sales or funds employed in the business
and the ratios calculated to meet this object are known as profitability ratios.

Objectives of Ratio Analysis

i)To provide a deep analysis of the profitability, liquidity, solvency and efficiency levels in the business.
ii)To provide information for future projections and estimates.
iii)To know the areas of the business which need more attention.
Advantages of Ratio Analysis
i)It is helpful in comparative analysis
ii)It helps to identify the problematic areas
iii)It helps to understand the efficacy of decisions
iv)It helps to simplify the complex accounting figures and bring out their relationships.
Limitations of Ratio Analysis
a)The financial statements may not reveal the true state of affairs and so the ratios also not give the true picture
of the business organization.

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 b)Ratio analysis completely ignores the changes in the price levels.
c)Account ratios do not provide any information about the qualitative or non-monetary aspects of transactions
d)Ratio analysis doesn't help in forecasting.

Some important formulae

Current Assets
Current Liabilities
1.Current Ratio =

2ikRti= Quick Assets

.Qucao= Current Liabilities

3.Quick Assets = Current Assets – Stock – Prepaid expenses

4DbtEitRti= Long−term debts

.e-quyao= Shareholders funds

5.Shareholders’ funds = Equity Share Capital + Reserves + Preference Share Capital – Fictitious Assets

6.Long-term debts = Debentures + Long-term loans

Total debt
Total Assets
7.Debt Ratio =

8PitRti= Shareholders Funds

.roprearyao= Capital Employed

9StkTRti= Cost of Goods Sold

Average Stock
.ocurnoverao

10.Cost of Goods Sold = Opening Stock + Purchases + Direct expenses – Closing Stock

11AStk= Opening Stock+Closing Stock

.verageoc 2

Gross Profit 100

𝑥
12GPfitRti=
.rossroao Sales

Net Profit 100

𝑥
13NtPfitRti=
.eroao Sales

Operating Expenses
𝑥 100
Sales
14.Operating Ratio =

15.Operating Expenses = Cost of Goods Sold + Selling Expenses + Administrative Expenses

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 Unit-6: Statement of changes in financial position

Meaning of Funds Flow Statement

Funds Flow Statement is a statement prepared to analyse the changes in the financial position of a company between
opening and closing Balance Sheets. It shows the inflow and outflow of funds for a particular period. It is prepared
to explain the changes in the Working Capital of a Company. The Funds Flow Statement helps in answering the
following questions: -
• Where have the profits gone?
• Why is there an imbalance existing between liquidity position and profitability position of an enterprise?
• Why is the concern financially solid in spite of losses?

Advantages of Fund Flow Statements

1.The Funds Flow Statement analysis helps the management to test whether the working capital has been
effectively used or not and the working capital level is adequate or inadequate for the requirements of the
business.
2.The working capital position helps the management in taking policy decisions regarding payment of
dividend etc.
3.The Funds Flow Statement analysis helps the investors to decide whether the company has managed the
funds properly.
4.It also indicates the credit worthiness of a company which helps the lenders to decide whether to lend money
to the company or not.
5.It helps the management to take policy decisions and to decide about the financing policies and capital
expenditure for the future.

Distinguish between Fund Flow Statement and Cash Flow Statement.

Both Funds flow statement and Cash Flow Statement are used in analysis of part transactions of a business firm.
However, there are some differences between the two as given below:

Funds Flow Statement Cash Flow Statement

Funds Flow Statement is based on the Accrual In case of Cash Flow Statement, only the transactions
System of Accounting. effecting Cash or Cash equivalents are
taken into consideration
Funds Flow Statement analyses the sources and The Cash Flow Statement only considers the
application of funds of long-term nature. increase or decrease in Current Assets or Current
Liabilities.
Funds Flow Statement is more useful for long-term Cash Flow Analysis is more useful for identifying and
financial planning. correcting the liquidity problems of the firm.
Funds Flow Statement balances the funds generated Cash Flow Statement starts with the opening balance of
from various sources with various uses to which cash and reaches to the closing balance
they are put. of cash.

SANTOSH SHARMA 15
 Unit-7: Cash Flow Analysis
Meaning of Cash Flow Statement
A cash flow statement shows inflow and outflow of cash and cash equivalents from various activities of a company
during a specific period. The primary objective of cash flow statement is to provide useful information about cash
flows of an enterprise during a particular period under various heads operating activities, investing activities and
financing activities.
Advantages of Cash flow statements
1.It helps to evaluate changes in net assets of an enterprise.
2.It is useful in assessing the ability of the enterprise to generate cash and cash equivalents.
3.It helps to compare the different financial data.
4.It helps to analyse past events and accordingly future actions can be planned out.

Format of Cash Flow Statement

Net Profit before tax and extra-ordinary items
Add:
Depreciation
Goodwill / Patents written-off
Proposed dividend
Loss on sale of fixed assets
Less:
Profit on sale of fixed assets
Operating Profit before working capital changes
Add:
Increase in liability
Decrease in assets
Less:
Decrease in liability
Increase in assets
Cash generated from Operations
Less:Income tax
A.Cash Flow from Operating Activities
Add
Sale of fixed assets (Machinery, Land & Building, Investments)
Less
Purchase of fixed assets (Machinery, Land & Building, Investments)
B.Cash Flow from Investing Activities
Add
Issue of Equity share capital
Raising of Bank loans
Less
Redemption of Debentures
Dividend paid / Dividend tax paid
Payment of loans
C.Cash Flow from Financing Activities
A+B+C
Less: Cash & Cash equivalents at the beginning
Cash & Cash equivalent at the end

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 Unit-8: Basic concepts of budgeting

Define Budgeting
Budgeting is a process of preparing plans for future course of action. It is a process of collecting and comparing data
to find out the deviations and taking corrective actions. This helps in performance analysis, cost estimation,
minimising wastage and better utilization of resources. Budgeting involves two processes such as budget and
budgetary control. Budget is a planning function whereas budget control is a controlling technique.

What is Budgetary control?

It is a tool of control to achieve the budgeted goals. It may be defined as preparing budgets relating to responsibilities
of executives and continuous comparing the actual with budgeted performance. Budgetary control is the technique
which uses budgets as a means of controlling all aspects of the business and to assist the management in allocating
responsibility and authority, measuring the performance of employees, analysis of variations and evaluation of
performance

Objectives of Budgeting
1) To control cost and maximise profits.
2) To run production activities efficiently.
3) To coordinate the different functions of an enterprise.
4) To calculate deviations from budgeted results with the previous results.
5) If there are any deviations, corrective actions can be taken.
6) To predict short term and long-term financial positions.

Essentials of effective Budgeting.

1.There should be well planned organisational structures.
2.Authority and responsibility should be clearly defined.
3.A budget committee should be formed consisting of all top management executives.
4.There should be a good accounting system which provides accurate and timely information.
5.Variations or deviations should be reported immediately and appropriate actions to be taken.
6.Budgeting should be well supported by top management.
7.Staff should be strongly and properly motivated towards the systems.

Advantages of Budgeting
1. Budgeting leads to maximum utilization of resources.
2. It is helpful in better coordination between different functions or activities of a business organization.
3. Budgeting is the process of self-examination which is essential for the success of any organization.
4. Budgeting helps to fix goals and push up the forces towards their achievements.
5. It creates the basis for measuring performance of different departments.

Limitations of Budgeting
i)Budgeting is not an exact science because it depends on certain amount of judgment is present while
preparing budgeting plans.
ii)The top management should provide its absolute support in preparing budgeting otherwise it would be a
useless activity.
iii)Budgeting should be followed by control action which is often lacking in many organizations
SANTOSH SHARMA 17
 iv) Installing budgeting system is a very lengthy process and takes time
v) It requires experienced manpower and technical staff which makes budgeting a costly affair

Essentials of establishing a Budgeting System

a.Budget centre: It refers to different sections of an organization where budgetary control measures are to be
applied. Budgets are prepared in consultation with budget centre heads. Different budgets are prepared for
different sections.
b.Budget committee: It refers to the group of representatives from various departments of an organization.
The departmental heads form a committee and discuss about the budget to be prepared.
c.Budget officer: Heis the person to be appointed to coordinate the activities of the budget. He collects all the
necessary data and information from various sources and helps to prepare budget.
d.Budget manual: It is a document which lays down the details of the organizational setup with duties and
responsibilities of executives including the budget committee and procedures to be followed for developing
budget.
e.Budget Period: This is the time period for which the budget is prepared. It may be short term or long term.
A detailed budget is generally prepared for one year.
f.Budget key factor: It is defined as the factor which at a particular time will limit the activities of an
enterprise. It is temporary in nature and is prepared for a short Time.
g.Level of activity: These are prepared on the basis of information provided about future conditions. For this
a detailed analysis and survey is done, discussions are made and after that final reports are prepared.
h.Preparation of budget: After the consideration of all the above factors, now final budget is prepared. It
means the budget should originate at the lowest level of management and coordinated at high level.

Types of Budgets
Budgets can be classified in the following categories
1.On the basis of time
2.On the basis of function
3.On the basis of flexibility

1.On the basis of time

Budgets can be classified into 3 types on the basis of time such as
a.Long term budget: These budgets are generally prepared from 5 to 10 years. It is concerned with
planning of the operations of a firm for a long period of time.
b.Short term budget: These budgets are prepared for a period of less than 5 years. Generally, short-term
budgets are prepared for a period of one to 2 years.
c.Current budget: These budgets are generally prepared for a week for a month. These are prepared on
the basis of prevailing conditions and circumstances.

2.On the basis of function

We can divide budgets on the basis of function into following types such as:
i)Sales budget: This is the most important budget on which all the other budgets are prepared. The sales
manager is responsible for preparation and execution of sales budget. He forecasts total sales in terms of
quantity, value, items, areas, etc.
ii)Production budget: It forecasts quantity of production in terms of items, areas, periods, etc. The works
manager is responsible for the preparation of production budget.
SANTOSH SHARMA 18
 iii)Cost of production budget: It forecasts the cost of production. Separate budgets are prepared for
different elements of costs such as direct materials budget, direct labour budget, factory overheads
budget, office overheads budget, selling and distribution overhead budget.
iv)Purchase budget: This budget forecasts the quantity and value of purchases required for production. It
gives quantity wise and period wise information about the materials to be purchased.
v)Research budget: It relates to the research work to be done for the improvement in quality of products
or research for new products.
vi)Financial budget: It refers to preparing a budget for the amount of capital, different types of assets to
be purchased and investments proposals.
vii)Cash budget: It forecasts the amount of cash receipts and cash payments and the likely balance of cash
in hand at the end of different periods.
viii) Master budget: It is a summary budget incorporating all functional budgets in a capsule form. It
interprets different functional budgets and helps in the preparation of projected income statement and
the Balance Sheet. It contains details regarding sales, production costs, cash position and key account
balances like debtors, fixed assets, bills receivables, bills payables, etc. It is generally prepared by the
budget officer and requires the approval of the budget committee before it is put into operation.

3.On the basis of flexibility

Budgets can be divided on the basis of flexibility into two types:
a.Fixed budget
b.Flexible budget

Distinguish between fixed and flexible budgeting.

Fixed budgeting Flexible budgeting

A budget prepared on the basis of standards or fixed level of A budget prepared for each level of activity is termed as
activity is called fixed budgeting. flexible budgeting.
It doesn't change with the change in activity. It changes with the change in activity.
It is prepared when the output and sales do not fluctuate from It is prepared when the production and sales change
year to year. every year.
It has a narrow scope and not prepared quite often. It is a dynamic budget and is prepared more frequently.

It follows a certain standard. It doesn’t follow any standard or trend.

SANTOSH SHARMA 19
 Unit-9: Preparation and Review of Budgets

What is a Cash Budget?

A cash budget is a summary statement of the firms expected cash inflows and outflows over a projected time. Cash
budget is also known as cash flow statement and is prepared for a maximum period of one year.

Methods of preparing Cash Budget

There are basically three methods of preparing cash budget such as:
1. Receipts and Payments Method
2. Adjusted Profit and Loss Account Method
3. Balance Sheet Method
1)Receipts and payments method: Under this method, all receipts are added and out of that total of all
payments is deducted to arrive at the balance in hand. The credit allowed to debtors, the credit allowed
by the suppliers, the delay in the payment of wages and other expenses are the factors which are taken
into account to determine the net receipts and payments.
2)Adjusted profit and loss account method: Under this method, profit is taken as equivalent to cash and
necessary adjustments are done in respect of non-cash transactions. The net estimated profit is taken as
the base and non-cash items like depreciation, outstanding expenses, provisions, etc. are deducted. The
capital receipts, reduction in debtors, stocks, increase in liabilities, issue of share capital and debentures
are other items which are added to compute the total cash receipts.
3)Balance Sheet method: Under this method, at the end of budget period a projected balance sheet is
drawn up showing the various assets and liabilities, accept cash and bank balances. The balancing figure
would be closing cash balance. Thus, under this method closing balances other than cash will have to be
found out first to be put in the budgeted balance sheet.

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 Unit-10: Approaches to Budgeting

Define Zero-based Budgeting (ZBB).

As the name says “Zero-based budgeting” is an approach to plan and prepare the budget from the scratch. Zero-
based budgeting starts from zero, rather than a traditional budget that is based on previous budgets. With this
budgeting approach, we need to justify each and every expense before adding it to the actual budget. The primary
objective of zero-based budgeting is the reduction of unnecessary costs. To create a zero-base budget involvement
of the employees is required.

Advantages of ZBB
1.Efficiency: Zero-based Budgeting helps a business in the allocation of resources efficiently (department-
wise) as it does not look at the previous budget numbers, instead looks at the actual numbers
2.Accuracy: Against the traditional budgeting method that involves mere some arbitrary changes to the earlier
budget, this budgeting approach makes all departments relook every item of the cash flow and compute their
operation cos
3.Cost Reduction: This methodology helps in cost reduction to a certain extent as it gives a true picture of
costs against the desired performance.
4.Budget inflation: As mentioned above every expense is to be justified. Zero-based budget compensates for
the weakness of incremental budgeting of budget inflation.
5.Coordination and Communication: Zero-based budgeting provides better coordination and
communication within the department and motivation to employees by involving them in decision-making.
6.Reduction in redundant activities: This approach leads to identifying optimum opportunities and more
cost-efficient ways of doing things by eliminating all the redundant or unproductive activities

Disadvantages of ZBB
1)High Manpower Turnover: The foundation of zero-based budgeting itself is zero. The budget under this
concept is planned and prepared from the scratch and require the involvement of a large number of
employees. Many departments may not have adequate human resources and time for the same.
2)Time-Consuming: Zero-based budgeting approach is highly time-consuming for a company than traditional
budgeting approach, which is a far easier method.
3)Lack of Expertise: Providing an explanation for every item and cost is a problematic task and requires
training for the managers. This makes the method expensive.

What is Performance Budgeting?

A performance budget is a budget that refers to programs, functions, and performance that reflects the estimated
expenses and revenues of the companies, government, or statutory bodies. It is a budget that provides the objective
and purpose for raising funds and proposed activities and programs to be accomplished.It is aimed to improve the
efficiency of the people involved in performing the budgeted task as per the budget.

Characteristics of Performance Budgeting

1.Better Management
2.Transparency & Accountability
3.Improved Communication
4.Decision making

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 1)Better Management:It helps in improving management skills and implementing the management
processes more efficiently. In addition, it helps in identifying the organizational objectives, evaluating the
program performances, and understanding the problems with the operations and structure of the program.
2)Transparency & Accountability: The resources are categorized according to the programs and provide
performance indicators. It finds solution-based accountability management responsible for the objectives
they have to achieve.
3)Improved Communications: It helps enhance the communications as there are personal responsibilities
in performing their work, which will result in clear and improved communication to avoid any delay in
achieving the program’s objective and helps in the individual performances of the management.
4)Decision Making: With the help of proper information, the management can implement techniques for
improvement and take appropriate actions to resolve the issues involved.

Advantages of Performance Budgeting

1.Clear Purpose: It provides a clear purpose for budgeting and understanding of the performance of the
persons involved. It becomes easier to access the deviations and the performances and correct them.
2.Improvement in Performance: It helps to improve the performance, as there will be a continuous check on
the deviations and performances to remove the errors and correct the deviations. Therefore, this will help
improve the performance.
3.Sets Accountability: Since this budget provides a clear understanding of the roles to be performed and tasks
to be completed by the persons, it provides accountability to every person for their roles and tasks, and they
will be held accountable for their part of the work.
4.Transparency: It succeeds in making transparency in the budgeted task and their performances, as it fixes
the roles and responsibility which will help in providing clear transparency in the processes.

Disadvantages of Performance Budgeting

a)It is difficult for the long-term processes as there is a continuous update in the processes;
b)There can be the possibility of manipulation of data;
c)There is a requirement for a robust system of accounting;
d)These budgets are subjective.

Budgetary Control Ratios

Three important ratios are commonly used by the management to find out whether the deviations of actuals from
budgeted results are favourable or unfavourable. These ratios are:
1. Activity Ratio
2. Capacity Ratio
3. Efficiency Ratio
Standard hours for actual production
× 100
Budgeted hours
1)Activity Ratio =

× 100
Actual hours worked

Budgeted hours
2)Capacity ratio =

𝑆𝑡𝑎𝑛𝑑𝑎𝑟𝑑 ℎ𝑜𝑢𝑟𝑠 𝑓𝑜𝑟 𝑎𝑐𝑡𝑢𝑎𝑙 ×100

𝑝𝑟𝑜𝑑𝑢𝑐𝑡𝑖𝑜𝑛
3Effiiti=
)cencyrao 𝑎𝑐𝑡𝑢𝑎𝑙 ℎ𝑜𝑢𝑟𝑠

SANTOSH SHARMA 22
 Unit-11: Basic Concepts of Standard Costing

Standard Costing
Standard costing is a technique of cost accounting which compares the standard cost of each product with the actual
cost to determine the efficiency of the operation. When actual cost differs from the standards, the difference is called
variance. If the variance is large immediate corrective actions are taken.

Advantages of Standard Costing

1.Standard costing helps to measure the efficiency of the performance because it compares the standard
performance with the actual performance.
2.It helps to fix prices of goods and services. As the standards are set by studying all the existing conditions.
It helps the management in the formulation of production and price policies in advance.
3.It helps to control costs. The variances help the management to locate inefficiencies and take appropriate
actions.
4.It enables the management to determine responsibilities and facilitates the principles of management by
exception.
5.It simplifies valuation of stock and reduces a lot of clerical work because stock is valued at standard cost
and any difference between the standard cost and actual cost is transferred to variance account.
6.It helps to fix and formulate incentives and rewards for employees those who perform above the standards
set. In this way, it increases their morale.

Limitations of Standard Costing

1)It is quite difficult to set standards as it requires a lot of scientific analysis of time study, motion study and
fatigue study.
2)Standard costing is not suitable for small scale enterprises because to conduct and formulate standards
is expensive. professionals have to be appointed to carry out the task of standard costing.
3)It is not suitable for those organisations which do not follow a certain standard. Moreover, it can be applied
in industries where goods are produced only. It is not applicable to service industries.
4)It is difficult to classify controllable and uncontrollable variances. Therefore, fixing responsibility is not
easy.
5)It is not suitable to those industries which are subject to frequent technological changes. This results in
frequent changes in standards which is quite hectic.

Objectives of Standard Costing

1.Cost control
2.Helps in management
3.Developing cost consciousness
4.Fixing prices
5.Formulating policies

1.Cost control: The most important objective of standard costing is to control the cost of production without
compromising the quality of the products. It aims at producing good quality of products at the cheapest
possible cost.

SANTOSH SHARMA 23
 2.Helps in management: Standard cost helps to set standards for costs for different products. This helps the
management to compare the standard cost with actual cost. Standard costing also helps management to
control the cost by reducing the wastages. As a result, management can control and manage costs effectively.
3.Developing cost consciousness: Standard costing aims at developing a positive attitude to reduce cost. It
makes the employees to recognise the importance of efficient operations so that costs can be reduced by joint
efforts.
4.Fixing prices: Another object of standard costing is to help the management to determine the prices of
products. it also helps the management in the areas of profit planning. Management can compare the costs
with competitors price and it helps in fixing the prices of its own products.
5.Formulating policies: It helps the management to frame policies and strategies for future course of action.
In fact, standard costing supplies all the ingredients to management to prepare future course of action.

Distinguish between Standard Costing and Budgeting.

Standard costing Budgeting

Standard costing is prepared on the basis of technical Budgets are prepared on the basis of standard
information. cost and historical cost.
Standard costs are generally related to manufacturing of a Budgets are prepared for various purposes and
product. different functional areas.
Standard costs aim at reducing the cost. Budgets emphasizes cost levels which should
not be exceeded.
Standard cost is determined usually by Cost Budgets are usually prepared by Financial
Accountants. Accountant.
Standard costing is useful in controlling and reducing Budgets generally set maximum limits of
costs. expenditures

Requisites for the success of Standard Costing

a)Establishment of cost centres
b)Classification of accounts
c)Types of standards
d) Setting standard costs
a.Establishment of cost centres: A cost centre is a location, person or an item of equipment whose cost is
ascertained. A centre which relates to persons is known as personal centre. The centre which relates to
location or equipment is known as impersonal cost centre.
b.Classification of accounts: Accounts are classified to meet a required purpose. Classification may be on
the basis of functions, revenue or assets and liabilities. Codes and symbols are used to facilitate speedy
collection and analysis of accounts.
c.Types of Standards: There are mainly four types of standards used such as ideal standard, expected
standard, normal standard and basic standard
• An ideal standard is one which is set up under ideal conditions. The ideal conditions may be
maximum production or sales. As these conditions change frequently, this standard doesn't have any
practical value.
• An expected standard is the standard which is actually expected to be achieved in the budget. These
standards are normally set on short term basis and is more realistic than ideal standards.

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 • Normal standards represent an average figure based on the average performance of the past after
taking into account the fluctuations caused by the seasonal and cyclic changes. It is a challenging type
of standard.
• Basic standard is fixed in relation to a base year. It is similar to that used in statistics when
calculating an index number. It is established for a long period of time and is not adjusted frequently.
d.Setting standard costs: The success of a standard costing depends on the reliability and accuracy of the
standards. Every activity should be taken into account while establishing standards. The responsibility of
setting standards should be given to one specific person generally to a standard costing committee or to a
cost accountant. He must ensure that the standards are set accurately.

SANTOSH SHARMA 25
 Unit-12: Variance Analysis - I

Meaning of Variance
Variance means the difference between a standard cost and the actual cost incurred during a period. Thus, variance
analysis means the measurement of the deviation of actual performance from the standard performance. variance
may be favourable or unfavourable.
If the actual cost is less than the standard cost the variance is said to be favourable and if the actual cost is more than
the standard cost the variance is said to be unfavourable or adverse.

Classification of Variances
Variances may be divided into two parts like: Cost variance and Sales variance
A.Cost Variance: It is related to the cost of the product. Cost variance again divided into three types such as
1.Material Cost Variance (MCV)
2.Labour Cost Variance (LCV)
3.Overhead Cost Variance (OCV)

B.Sales Variance: It is related to the sales of a product.It is divided into two parts such as:
1.Sales Price Variance (SPV)
2.Sales Volume Variance (SVV)

Some important formulae (For Numerical)

1. Material Cost Variance = Standard Cost - Actual Cost

2. Material Price Variance = (Standard Price - Actual price) Actual quantity
3. Material Usage Variance = (Standard Quantity - Actual Quantity) Standard Price
4. Material Cost Variance = Material Price Variance + Material Usage Variance
5. Labour Cost Variance = Standard Labour Cost - Actual Labour Cost
6. Labour Rate Variance = (Standard Labour Rate - Actual Labour Rate) Actual Time
7. Labour Efficiency Variance = (Standard Time - Actual Time) Standard Labour Rate
8. Labour Idle Time Variance = Idle Time x Standard Rate

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 Unit-14: Responsibility Accounting
Define Responsibility Accounting.
Responsibility accounting is a method of budgeting and performance reporting. Responsibility accounting focuses
on people and not on things. Responsibility accounting is a system of management accounting where specific
individuals are made responsible for accounting in particular areas of cost control. If the cost increases, the
concerned person is held responsible. In this system, responsibility is assigned based on knowledge and skills of the
person.
Principles of Responsibility Accounting
1. Establishing responsibility centres
2. Limits to controllable costs
3. Flexible budgeting
4. Performance reporting
1)Establishing Responsibility Centres: A responsibility centre is an organizational unit to carry out some
functional activity by a specific manager made responsible. For example, in a revenue centre, the manager is
responsible for generating revenues up to the budgeted levels. The manager of the concerned department is
expected to achieve some target rate of return on investment.
2)Limits to Controllable Costs: Once the responsibility centres have been established in a company, costs and
revenues under the control of each unit need to be indicated. Generally, costs of raw materials, labour and
supplies are controllable whereas fixed costs are non-controllable. Responsibility centre should ensure that
the controllable costs are within limits.
3)Flexible Budgeting: Responsibility accounting starts with the assumption that budgets are flexible. They have
to be prepared for several levels of activity instead of one static level. Comparison of actual results is made
against the budget targets freshly prepared for that level. Flexible budgeting makes comparison of actual costs
with budgeted costs that have frequent changes in production volume.
4)Performance Reporting: Each responsibility centre has to periodically report about its performance that is
the feedback. Report has both financial and statistical parts. Performance reports will disclose the actual costs
incurred, the budgeted costs and the variance. The purposes is to take timely and corrective action.
Advantages of Responsibility Accounting
1.It helps to establish a system of control.
2.It helps to compare actual costs with budgeted costs.
3.It helps to control and reduce costs.
4.It helps to take managerial decisions regarding the pricing of the product.
5.It motivates an employee to work hard and pushed his morale. he feels responsible for doing the work
assigned to him.
6.It leads to specialization because an expert person is appointed to do a particular piece of work.
Essentials of success of Responsibility Accounting
1) It requires support of all levels of management through participative budgeting.
2) The manager should be held responsible for costs.
3) Controllable and non-controllable costs should be separated.
4) It should achieve the objectives and goals of the organization.
5) There should be delegation of authority and responsibility.
6) motivation of the individual by developing standards of performance together with incentives.
7) timely reporting and analysis of difference between goals and performance.
8) follow up and corrective actions need to be applied.

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 Unit-15: Marginal Costing
What is Marginal Costing?
In marginal costing costs are classified into fixed and variable costs. Marginal cost is equal to the increase in the total
variable cost with the increase in one unit of production Marginal costing is a technique by which marginal costs
such as variable cost is charged as cost. Variable costs are written off against contribution. It is the change in the total
cost when one additional unit of commodity is produced.

Features of Marginal Costing

a)All costs are classified into fixed and variable costs.
b)Fixed costs are considered periodic costs and variable costs are considered as product cost
c)Fixed costs are not included in the production costs
d)Stock of work in progress and finished goods are valued at marginal costs.
e)The difference in the value of opening stock and closing stock does not affect the unit cost of production as
all the production costs are variable costs

A short note on Profit-Volume Ratio

Profit-volume ratio is a relationship between contribution and sales. In other words, it is the ratio between
contribution per product to turnover of the product. Profit volume ratio shows the soundness of the company’s
product. It is used to determine break-even point and how the profit changes with change in volume. The profit
volume ratio can be improved by increasing contribution. Contribution can be improved by increasing the selling
price, decreasing the marginal or variable cost and giving importance to those products which have higher profit
volume ratio.
PVRi Sales−VC Contribution
/ato= Salesor Sales

Uses or advantages of Marginal Costing

1.Helps in fixing prices.
2.Helps in exploring markets.
3.Helps in profit planning.
4.Helps in making purchase decisions.
5.Helps in introducing new products.

1)Price fixation: Under marginal costing, fixed costs are ignored and prices are determined on the basis of
variable costs or marginal cost. Pricing is fixed with the help of marginal costing rather than full costing. The
firm should continue its production activities so long as the selling price is more than the most marginal costs.
If the selling price is less than marginal cost loss will be more than the fixed costs. Hence the firm should fix
the price equal to or above the marginal cost.
2)Exploring additional market: A firm can increase its total profits by accepting a special order or by exploring
additional market. The additional contribution earned will be the additional profit to the firm. But when
additional order is accepted at a price below the present price it should not affect the normal market and
goodwill of the company.
3)Profit planning: Marginal costing is very helpful to achieve the planned profits. The separation of costs into
fixed and variable costs help the management to evaluate profit. A firm can find the actual cost of the product
which helps to fix best price.

SANTOSH SHARMA 28
 4)Key factor or limiting factors: The marginal costing provides that the product with highest contribution per
unit is preferred. But it is possible as long as the firm can produce with the available scarce resources. These
scarce resources are called key factors or limiting factors. A limiting factor puts limit on production and profit
of the firm.
5)Sales mix decision: In marginal costing, profit is calculated by subtracting fixed cost from contribution. it
means management should try to maximise contribution. When a business firm produces variety of line of
products then the problem of best sales mix arises. The best sales mix is that which yields the maximum
contribution. A firm has to choose the best combination of the products.

Limitations of Marginal Costing

1.It is very difficult to classify the different types of cost into fixed, variable, controllable & non-controllable
costs. This makes marginal costing impractical.
2.This type of costing is not suitable for external reporting. It can be used for internal use only.
3.Marginal costing is expensive because expert professionals are to be recruited to carry out the work of
marginal costing.
4.This type of costing is not suitable for all types of organizations. It can only be used in large business firms
because small firms cannot afford to employ highly professional persons.
5.This type of costing lacks in long term goals. It can be used for short run only.

SANTOSH SHARMA 29
 Unit-16: Break even analysis

Meaning of Breakeven Analysis.

Breakeven analysis is the study of cost-volume-profit relationship. It helps to find out the point where costs and total
sales revenue is the same. It determines the output where total costs are equal to total revenue. At this point, there
is no profit no loss. It is used to determine the profitable position at any level of output. It is a logical extension of
marginal costing. It helps the management to take managerial decisions.

Breakeven Point (BEP)

It is the point where sales revenue equals the costs to make and sell the product and no profit or loss is reported. In
other words, breakeven point is a point where total revenues and total expenses are equal. It is the point of zero

Breakeven point → Cost = Revenue.

profit and loss.

Methods to calculate BEP

There are mainly two methods used to calculate breakeven point namely
1.Mathematical Method.
2.Graphical Method.

1.Mathematical method: Under this method, breakeven point can be calculated either by equation method or
contribution margin method.
a.In equation method, the following formula is used to find breakeven point
Sales - variable cost - fixed cost = profit
Sales - variable cost = fixed cost + profit
Sales - variable cost = contribution
b.In contribution margin method, we use the following formula to find breakeven point
Contribution per unit = selling price per - variable cost
Contribution = S.P – V.C
Total contribution = Sales Revenue - Total Variable Cost.

2.Graphical method: In graphical method, fixed cost, variable cost and sales revenues are shown on X axis and
units are shown on Y axis. The breakeven point is that point at which the total cost line and total sales line
intersect each other. This point is called no profit no loss point. The area on the left-hand side of the breakeven
point shows the last zone. The area on the right-hand side of the breakeven point shows the profit zone. The
angle formed by sales value line and total coastline is known as angle of incidence. This concept can be better
understood from the following diagram:

SANTOSH SHARMA 30
Assumptions in Breakeven Analysis
1.All costs can be divided into two parts such as fixed cost and variable cost.
2.Fixed costs remain constant at various levels of activity.
3.Variable costs change directly with production.
4.Selling price per unit remains constant at all levels of activity.
5.Technology and methods of production remains constant at all levels of activity.
6.There is no opening stock and closing stock.
7.There is a linear relationship in total costs and total revenues.
8.Capital invested in the business is ignored.

A short note on Profit-Volume Graph

It is the graphical representation of the relationship between profit and volume. It shows profit or loss at different
levels of output. It is also known as PV graph. The following steps are taken to construct profit volume graph:
a. Fixed costs and profits are shown on the Y axis.
b. Sales are shown on the X axis.
c. Area above the X axis is a profit area and area below it is the loss area.
d. At zero output the loss is equal to fixed cost

Some important formulae

1. Contribution = Sales - Variable Cost

2BEPi F.C
S.P−V.
C
.(unts)=

3BIPl F.C
.(vaue)= PV Ratio

4PVi Contribution
.rato= Sales

FC+Desired Profit

Contribution per unit

5. Sales volume required to earn a desired profit (units) =

FC+Desired Profit
PV Ratio
6. sales volume required to earn a desired profit (value) =

SANTOSH SHARMA 31
 Unit-17: Relevant Costs for decision making

Meaning of Differential Costing

Differential cost is the difference between the costs of alternatives. It is also known as relevant cost. It is calculated
as total cost and then the difference is calculated between the two levels of production. Both variable costs and fixed
costs may be differential cost when there is a change in both these costs. Decision cannot be taken only on the basis
of differential cost analysis as other factors like government policies, social and financial factors, investment and the
behaviour of the workers also influence the decision-making process.

Practical applications of Differential Costing

1.It is quite often used in the decision-making process by the management.
2.It helps to fix selling price of products.
3.It helps in exploring new markets
4.It helps in taking buying or production decisions
5.Find out the alternative methods of production
6.It helps to take decisions on adding or dropping a product line
7.It helps to take decisions regarding replacement of machinery.

SANTOSH SHARMA 32
 Unit-18: Reporting to Management

Meaning of Management Reporting

The process of providing information to the management is known as management reporting. These reports are
provided to the various levels of management on regular basis. The effectiveness of reporting depends on the timing
of presentation. Reporting is concerned with proper selection of financial and operating data, arranging information
in a proper order, analysing and interpreting the data and then reporting it to the management through an
appropriate method.

Objectives of Reporting
1.Providing accounting information to the management.
2.The main object of reporting is to help the management to take right decisions.
3.Reporting motivates the people and increases their efficiency.
4.The ultimate aim of reporting is to maximise the profits of the organization.
5.Reporting helps in better control of the operations of an organization.

Types of Reports
The following are the different types of reports prepared in an organisation:
i)Users Report
ii)Reports based on information
iii)Reports based on nature
iv)Functional classification of reports
I. Users reports: There are many internal and external users of business enterprise such as employees,
bankers, creditors, etc. These reports may be internal users report, special reports, routine reports,
management level reports and external users’ reports
II. Reports based on information: It can be divided into two types of reports such as operating reports and
financial reports.
Operating reports convey the information regarding the operations of the business. Operating reports maybe
further subdivided into information reports and control reports.
Financial reports show the financial position of the company like profit and loss and the position of assets
and liabilities.
III. Reports based on nature: These reports may be enterprise reports, control reports and investigative
reports.
Enterprise reports give a detailed description of the various operating activities and financial position of the
business. These reports are made for external users.
Control reports are prepared to help the managers in controlling the operations of the business.
Investigative reports are prepared to investigate a particular problem.
IV. Functional classification of reports: These reports are prepared on the basis of a particular function of the
department. These may be classified as individual activity report and joint activity report

Modes of Reporting
There are basically three modes of reporting such as: w
1)Written Reporting
2)Graphical Reporting
3)Oral Reporting
SANTOSH SHARMA 33
 1.Written Reporting: As the name implies, this type of reporting is done in writing. This is the most common
and popular form of reporting. It depicts information about financial statements, information on conferences
and accounting ratios. The reporter must ensure that the language and presentation should be easy to
understand so that management can take good decisions.
2.Graphic Reporting: These reports are submitted in the form of graphs, diagrams, pictures and charts. These
reports are prepared when quick action is needed. This type of reporting is very attractive and one can easily
understand the data by observation.
3.Oral Reporting: Oral reporting may take place in the form of group meeting, conferences, presentation,
video conferencing and individual talks. This method of reporting is not very reliable and accurate.

Essentials of a good Report

1.Accurate: The research report should be accurate and relevant to the problem. It should not contain any
unnecessary data which is useless for the management. The information provided in the report must be true
and reliable. It should contain to answer of the problem.
2.Simplicity: The research report should be simple to understand. The language and the presentation of the
report should be such that the reader can easily understand the contents of the report.
3.Reliability: A research report should be reliable and trustworthy. All the data and information provided in
the research report should be accurate and relevant to the management so that it can take decisions and
frame policies on the basis of reports.
4.Economical: A research report should be economical and less expensive. A researcher should take all
possible steps to minimise the cost of research and keep the expenditure within the budget level.
5.Timeliness: A research report should be completed within the stipulated time period. It should be made
available when the management needs it the most. Therefore, a researcher should finalize the report within
the time frame given to him.
6.Completeness: A research report should be complete in all respects. There should not be any loopholes or
mistakes in the research report. It must be relevant and answer the question of the problem. All the areas of
research should be clearly defined in the report.

SANTOSH SHARMA 34
 Unit-19: Recent developments in accounting

A short note on Inflation Accounting

Inflation refers the rise in the price level of the goods and services during a given period of time. Inflation rate is the
percentage change in the price level from the previous. As we know, cost of assets are always shown on historical or
original cost in accounting. But the value of assets fluctuates every year. So, there is a need to find the present values
of assets. Inflation accounting is all about calculating the current value. The main object of inflation accounting is to
correct conventional historical cost accounts. Inflation accounting is used to provide information that is useful to
present and potential investors and creditors in making decisions. For example, depreciation is provided every year
so that present value of the asset can be ascertained.

Objectives of Inflation Accounting

1.To show the real profit and loss for a period.
2.To show the real value of assets and liabilities instead of historical cost
3.To ensure that sufficient funds will be available to replace the various assets.

Human Resource Accounting

Human resource accounting is the accounting for people as an organizational resource. It involves measuring the
costs incurred by business firms to recruit, select, hire, train and develop human assets. It also involves measuring
the economic value of people to the organization.Human resource accounting is the process of identifying and
measuring data about human resource and communicating this information to interested parties.Human resource
accounting is primarily involved in measuring the various aspects related to human assets. Its basic purpose is to
facilitate the effective management of human resources by providing information to acquire, develop, retain, utilize,
and evaluate human resources.

Objectives of Human Resource Accounting

1)To provide cost value date for managerial decisions regarding acquiring, developing, allocating and
maintaining human resource so as to attain cost effective organizational objectives.
2)To provide information for effectiveness of human resource utilization.
3)To provide information for determining the status of human asset whether it is developing or depleting.
4)To assist in the development of effective human resource management practices by classifying the financial
consequences of these practices.

Advantages of Human Resource Accounting

i)It helps in giving valuable information to the management for effective planning and managing human
resources.
ii)It helps in the measurement of standard cost of recruiting, selecting, hiring and training people.
iii)Organization can select a person with highest expected realizable values.
iv)Human resource accounting can change the attitude of managers completely, thereby, they would try to
maximize the expected value of human resources and effective use of human resources in the organization.
v)It also provides necessary data to devise suitable promotion policy congenial work environment and job
satisfaction to the people.
vi)An organisation can choose the best team of employees to work with them. Because employees are selected
on the basis of their skills and expertise.

SANTOSH SHARMA 35
A short note on Social Accounting
It is a new concept in accounting but rapidly gaining importance. Social accounting is a framework whereby a firm
prepare accounts for its social performance. Every organisation should be socially responsible. An organization can
draw action plan to improve its performance which have a positive impact on the community. it should also ensure
that. It is held accountable to its key stakeholders. The social report represents the disclosure of the company’s social
performance. Social accounting is about being answerable to the people affected by a firm’s actions.
Today’s informed consumers are increasingly concerned with the ethical characteristics of a business. and
companies that have values closely aligned with social demands are better placed to recruit and retain talented
employees. Social indicators of social accounting are:
• Quality of management
• Human rights
• Environmental protection
• Health and safety
• Stakeholder relationships
• Corporate social investment
• Employment generation
• Products and services

Write a short note on Environmental Accounting.

Environmental accounting is defined as the accountant’s contribution towards environmental sensitivity in
organization. It focuses on the social responsibility of a business organization. It gained importance in the year 1990.
The main object is to protect the environment. Environmental accounting, also called green accounting, refers to
modification of the System of National Accounts to incorporate the use or depletion of natural resources.
Environmental accounting is a vital tool to assist in the management of environmental and operational costs of
natural resources. It aims at contributing towards environmental consciousness in organisations. It requires
organization to forecast the potential environmental impact of their activities and accordingly estimate contingent
liabilities and create provisions for environmental risk. The role of environmental accountant is to disclose
information like environmental costs, liabilities, provisions and contingencies, ecological data, environmental
policies, targets and achievements.
Objectives of Environmental Accounting
i)To assist professionals to gain knowledge.
ii)To provide relevant information about the environment.
iii)To provide information about the company’s affairs to the external users

Strategic Cost Management.

Cost management focuses on reducing cost to maximise profits. In today's world, every organisation has three main
objectives:
1.To produce good quality of goods and services.
2.To increase the value to the customers.
3.To maximise profits.
In order to achieve these objectives, costs have to be managed strategically. Therefore, Strategic Cost Management
describes cost management that focuses on strategic issues. To maximise profit, it is the endeavour of every
enterprise to have a control over the cost so that they can earn desired profits. Hence, controlling cost is very
important function for achieving the budgeted profit.

SANTOSH SHARMA 36
Cost control aims at:
• Setting standards for each cost element,
• Comparing the actuals against the standard,
• Analysing the variance.
• Taking necessary corrective steps, to keep the costs within the budgeted level.
• A planned reduction in cost to maximise the profits.
• It is a programme to reduce the cost permanently.
• The main object is to reduce the cost without compromising the quality of the products.
• The Strategic cost management helps to achieve the objectives of the enterprise. It coordinates all the other
elements in order to control costs.

Activity-based Costing.
Activity based costing is a method of assigning overheads and indirect costs to products. It helps to control costs and
frame an appropriate pricing strategy. It identifies all the different types of costs involved in manufacturing a
product. It helps to divide each activity into cost pools. Each cost pool is assigned cost drivers like units or hours.
Then cost driver rate is calculated.
Advantages
• It is a more accurate and reliable method of finding the cost of a product.
• It helps to understand the different overheads and eliminates the unnecessary expenses.
• It helps in taking managerial decisions.

Traditional Costing Activity based Costing

In this type of costing, only the cost of the product is In this type of costing, all the different products involved in the
determined. production process are identified and
determined.
Thistypeofcostingiseasytoimplementandexecute. Thisisacomplextypeofcostinganddifficultto implement.

It can be used for external reporting. It cannot be used for external reporting and only the
information about costs is provided to the management
internally.
In traditional costing only single overhead rate is In activity-based costing multiple activity rates are
calculated. calculated.

SANTOSH SHARMA 37
 Important Numerical

1.A company is producing a product and sells it at Rs.20 per unit. Variable cost is Rs.12 per unit and
fixed cost is Rs.80000 per annum. Calculate
a)Break-even point,
b)PV Ratio,
c)Sales volume required to earn a profit of Rs.60000 per annum.
Solution:
Contribution = S.P – V.C
Contribution = Rs. (20 – 12)

Fixed cost 80000

= Rs.8

a.∴ Breakeven point (units) = Contribution per unit = 8

= 10000 units

Total Contribution 10000 × 8

Total Sales 10000 ×20 = 0.4
b.P/V Ratio = =

FixedCost 80000
∴ Breakeven point (value) =
P/V Ratio = 0.4 = 𝑅𝑠. 200000

Fixed cost+expected profit 80000 +60000

Contribution per unit 8
=
c.SalesvolumerequiredtoearnRs.60000profits(units)=
= 17500 units

Fixed cost+expected profit 80000+6000

=0
SalesvolumerequiredtoearnRs.60000profits(value)= P/V Ratio 0.4
= Rs. 350000

2.Standard time for a month = 4000 hours, Standard Wage Rate = Rs. 2.25 per hour, No. of labourers
employed = 30, Average working days in a month = 25, No. of hours a worker works per day = 7
hours, Total wage bill in a month = Rs. 13,125, Idle time due to power failure = 100 hours
Calculate:
a)Labour Cost Variance
b)Labour Rate Variance
c)Labour Efficiency Variance
d)Labour Idle Time Variance

Solution:
Actual Time = No. of workers x No. of days worked x No. of hours worked

= 30 x 25 x 7 = 5250 hours

Total wage bill 13125

Actual wage rate = Actual Time = 5250 = 𝑅𝑠. 2.25

SANTOSH SHARMA 38
 a)Labour Cost Variance = Standard Cost – Actual Cost
= (Standard Time x Standard Rate) – (Actual Time x Actual Rate)
= (4000 x 2.25) – (5250 x 2.50)
= 9000 – 13,125 = Rs. 4125 (A)

b)Labour Rate Variance = Actual Time (Standard Labour Rate – Actual Labour Rate)
= 5250 (2.25 – 2.50)
= Rs. 1,312.50

c)Labour Efficiency Variance = Standard Labour Rate (Standard Time – Actual Time)
= 2.25 (4000 – 5250)
= Rs. 2812.50 (A)

d)Labour Idle Time Variance = Idle Time x Standard Rate

= 100 x 2.25 = Rs. 225

Q.3 During the year 2017, S. Ltd. Made sales of Rs. 8,00,000. Its gross profit ratio is 25% and net profit ratio
is 10%. The stock turnover ratio was 10 times. Calculate:
a) Gross Profit
b) Net Profit
c) Cost of Goods sold
d) Operating expenses

Solution:
a)Gross Profit = 25% of 8,00,000 = Rs. 2,00,000

b)Net Profit = 10% of 8,00,000 = Rs. 80,000

c)Cost of Goods sold = Sales – Gross Profit

= Rs. (8,00,000 – 2,00,000) = Rs. 6,00,000

d)Operating expenses = Gross Profit – Net Profit

= Rs. (200000 – 80000) Rs. 1,20,000

SANTOSH SHARMA 39
 TEE June 2022 Numerical Solution

I)Victor limited disclosed the following particulars:

9%, 80,000 preference shares of ₹10 each fully paid ₹8,00,000
50,000 equity shares of ₹10 each fully paid ₹5,00,000
30,000 equity shares of ₹10 each ₹8 paid up ₹2,40,000
20,000 equity shares of ₹10 each ₹6 paid up ₹1,20,000

The directors proposed dividend of 15% on equity shares and resolved to make the following
appropriations:
a)Transfer to General Reserve as per the provisions of section 205
b)Transfer to dividend Equalisation Fund ₹1,75,000
c)Transferred to debenture Redemption Fund ₹1,00,000
d)Transfer to Investment Allowance Reserve ₹1,25,000

The net profit before tax for the year amounted to ₹12,50,000. You are required to prepare Profit
and Loss Appropriation Account. Provide for income tax @ 50% and corporate dividend tax @
12.5%.

Solution:
Profit and Loss Appropriation Account
To General Reserve ₹31,250 By Net Profit after tax ₹6,25,000
(12,50,000-50% Income Tax)
To Dividend Equalisation Fund ₹75,000
To Debenture redemption Fund ₹1,00,000
To Investment Allowance Reserve ₹1,25,000
To Proposed dividend:
Preference dividend ₹72,000
Equity dividend ₹1,29,000
To Corporate Dividend Tax @
12.5% on (₹72,000 + ₹1,29,000) ₹25,125
To Balance c/d ₹67,625
₹6,25,000 ₹6,25,000

• As per the statutory requirement, transfer of 5% of the net profit after tax has been made to General
Reserve.
• Corporate dividend tax has been provided on total dividend

II)From the following particulars compute Leverage ratios:

Balance sheet of Raja limited as on 31st March 2005
Liabilities Amount Assets Amount
Equity Share Capital ₹40,000 Land ₹22,000
8% Preference Share Capital ₹20,000 Building ₹24,000
Reserves ₹10,000 plant and machinery ₹38,000

SANTOSH SHARMA 40
 Profit and loss account ₹5000 Furniture ₹5000
10% debentures ₹45,000 Sundry debtors ₹22,000
Trade creditors ₹9000 Stock ₹13,000
Outstanding expenses ₹2000 Cash ₹14,000
Provision for taxation ₹3000 Prepaid expenses ₹2000
Proposed dividend ₹6000
₹1,40,000 ₹1,40,000

Solution:
Leverage Ratios:
I. Debt-Equity Ratio = Long term debt / Equity

Long term debt = 10% debentures = ₹45,000

Equity = Equity share Capital + 8% Preference shares Capital + Reserves + P & L A/C
= ₹40,000 + ₹20,000 + ₹10,000 + ₹5000 equal to ₹75,000

Debt- Equity ratio = 45,000 / 75,000 = 0.6 : 1

II. Total Debt Equity Ratio = Total Debt / Equity

Total debt = 10% Debentures + Creditors + Proposed dividend

= 45,000 + 9000 + 2000 + 3000 + 6000 = ₹65,000

Equity = ₹75,000

Total Debt Equity Ratio = 65,000 / 75,000 = 3/5 = 0.87 : 1

III. Proprietary Ratio = Proprietors funds / Total Assets

Total Assets = Land + Building + Plant and Machinery + Furniture + Current Assets
= 22,000 + 24,000 + 38,000 + 5000 + 51,000 = ₹1,40,000

Proprietary Ratio = 75,000/1,40,000 = 15/28 = 1 : 1.87

IV. Capital Gearing Ratio = Equity Capital / Fixed Interest-Bearing Securities

Equity capital = Equity Share Capital + Reserves + P & L A/C

= 40,000 + 10,000 + 5000 = 55,000

Fixed Interest-Bearing Securities = 10% Debentures + 8% Preference Share Capital

∴ Capital Gearing Ratio = 55,000 / 65,000 = 11 / 13 = 0.85 : 1

=45,000 + 20,000 = ₹65,000

SANTOSH SHARMA 41
 III)XY Co. Ltd, a manufacturer of product P, uses standard cost system gives you the following details
for 1000 kg of product P
Ingredients Qtyinkg Price / kg Cost
A 800 2.50 2000
B 200 4.00 800
C 200 1.00 200
Input 1200
Output 1000

Actual records indicate:

A = 1,57,000 kgs @ ₹2.40
B = 38,000 kgs @ 4.20
C = 36,000 kgs @ ₹1.1
Actual finished production for the month of January is 2,00,000 kgs
Calculate
1.Material cost variance
2.Material price variance
3.Material mix variance
4.Material yield variance
5.Material usage variance

Solution:
1)Material Cost Variance = Std. Cost - Actual Cost
Material A = (1,60,000 kg x ₹2.50) – (1,57,000 kgs x ₹2.40)
= ₹4,00,000 - ₹3,76,800
= ₹23,200 (F)
Material B = (40,000 kgs x ₹4) – (38,000 kgs x ₹4.20)
= ₹1,60,000 - ₹1,59,600
= ₹400 (F)
Material C = (40,000 kg x ₹1) – (36,000 kgs x ₹1.10)
= ₹40,000 - ₹39,600
= 400 (F)
Total Material Variance of A, B and C= (23,200 + 400 + 400) = ₹24,000 (F)

2)Material Price Variance = (Std. Price - Actual Price) Actual Qty.

Material A = (2.50 - ₹2.40) x 1,57,000
= ₹15,700 (F)
Material B = (₹4.00 - ₹4.20) x 38,000
=₹7600 (A)
Material C = (₹1.00 - ₹1.10) x 36,000
=₹3600 (A)
Total Material Price Variance of A, B & C= (15,700 – 7600 – 3600) = ₹4500 (F)

3)Material Mix Variance = (Revised Std. Mix - Actual Mix) x Std. Price

SANTOSH SHARMA 42
 Std. Material
Revised Std. Mix = Total Std.Material × Total Actual Material

800
1200 × 231000 = 1,54,000 Kg
Material A =

200
1200 × 231000 = 38,500 Kg
Material B =

200
1200 × 231000 = 38,500 Kg
Material C =

MMV of Material A = (1,54,000 – 1,57,000) x ₹2.50

= ₹7500 (A)
MMV of Material B = (38,500 - 38,000) x ₹4
= ₹2000 (F)
MMV of Material C = (38,500 – 36,000) x ₹1.00
= ₹2,500 (F)
Total Material Mix Variance of A, B and C= (-7500 + 2000 + 2500) = ₹3000 (A)

4)Material Yield Variance = (Actual Yield – Std. Yield) Std. Output Price
Std. Yield = Actual Usage of Material / Std. Usage per unit of Output
= 2,31,000 kg / 1.2 kg (1200 -1000)

Std. Material Cost per unit of output = ₹3000 ÷1000 output

=1,92,500 Kg

=3
Material Yield Variance = (Actual Yield – Std. Yield) x Std. Output Price
= (2,00,000 – 1,92,500) x ₹3
= 22,500 (F)

5)Material Usage Variance = (Std. Qty. for actual output – Actual Qty.) x Std. Price
Material A = (1,60,000 kg - 1,57,000 kg) x ₹2.50
= ₹7500 (F)
Material B = (40,000 kg -38,000 kg) x ₹4
= ₹8000 (F)
Material C = (40,000 kg -36,000 kg) x ₹1
= ₹4000 (F)
Total Material Usage Variance of A, B and C= (7,500 + 8000 + 4000) = ₹19,500 (F)

IV)The cost data of XYZ limited is as follows:

Product X Product-Y Product-Z Total (Rs.)

Sales 80,000 1,00,000 20,000 2,00,000
variable cost 50,000 60,000 10,000 1,20,000
Contribution 30,000 40,000 10,000 80,000
Fixed cost 50,000
Profit 30,000

SANTOSH SHARMA 43
 Calculate:
1. Break Even Point
2. Break-even point if Sales mix ratio is changed to 30 : 50 : 20

FC × Sales 50,000 × 2,00,000

Solution:

a)BEP (value) = Sales−VC = 2,00,000−1,20,000 = 1,25,000

b)Change in Sales Mix Ratio:

New Sales Mix = 30 : 50 : 20
Sum of the ratio 30 + 50 + 20 = 100

30
Product-X =
100 × 2,00,000 = 60,000

50
Product-Y = 100 × 2,00,000 = 1,00,000

20
Product-Z =
100 × 2,00,000 = 40,000

Variable Cost Ratio = VC / Sales

VCR of Product-X = 50,000/80,000 = 5/8
VCR of Product-Y = 60,000/1,00,000 = 3/5
VCR of Product-Z = 10,000/20,000 = 1/2

Product X Product-Y Product-Z Total (Rs.)

Sales 60,000 1,00,000 40,000 2,00,000
Variablecost 5/8of60,000=37,500 3/5 of 1,00,000= 60,000 1/2 of 40,000= 20,000 1,17,500
Contribution 22,500 40,000 20,000 82,500
(Sales-VC)
Fixed cost 50,000
Profit 30,000

FC × Sales 50,000×2,00,000
Break-even point after change in sales mix = Sales−VC = 2,00,000−1,17,500 = 1,21,212.12

SANTOSH SHARMA 44