A) Labour Cost Computation and Control

By Sudha Agarwal
Chartered Accountant

Contents - A) Labour Cost

Introduction Steps in Control & Reduction of labour cost Departments involved in labour cost control and reduction I. Personnel Department labour Turnover Measurement of labour Turnover Causes of labour Turnover Cost of labour Turnover II. Time Keeping Methods of Time Keeping Time Booking and its Methods

Contents - A) Labour Cost

III. Work Study Method Study: Work Measurement: Job Evaluation: Methods of Job Evaluation: Merit Rating: Difference Between Merit Rating and Job Evaluation: Time And Motion Study: IV. Payroll and V. Cost Accounting

Contents - A) Labour Cost

Methods of Wages Payment I. Time Rate System A] At ordinary levels. B] At high wage levels and C] Graduated time rate II. Piece Rate A] Straight piece rate B] Piece rate with guaranteed day rates and C] Differential piece rates III. Bonus Systems A] Individual Bonus for Direct Workers B] Group Bonus for Direct Workers C] Bonus for Indirect Workers IV. Indirect Monetary Incentives A] Profit Sharing B] Co-partnerships V. Non monetary incentives like job security, social and general welfare, sports, medical facilities etc.

Introduction
Labour Cost important element of cost essential to compute the labour cost in a scientific manner there should be proper systems and processes and documentation Low productivity results in higher labour cost per unit while higher productivity will reduce the labour cost per unit.

Steps in Control & Reduction of labour cost

a)

b)

c)

Classification of labour cost: classified into direct cost and indirect cost. Direct labour cost is variable in nature and can be controlled by strictly adhering to the norms and standards set by the management. Indirect labour cost can be controlled by establishing labour budgets and comparing the actual indirect labour cost with the budgeted labour cost Production Planning: Production planning includes activities like planning, scheduling, routing, machine loading, product and process engineering, work study labour Budget: A labour budget can be prepared which will set the target for the labour cost which will again facilitate comparison between the budgeted labour cost and the actual labour cost.

Steps in Control & Reduction of labour cost

d)

labour Standards: Standards can be set for labour cost against which the actual labour cost can be compared. Standard labour cost is the cost, which should have been incurred for producing a particular quantity of production. labour Performance Report: These reports will give an idea about the efficiency and productivity of the labour.

e)

f)

Incentive Schemes: Offering monetary and non-monetary incentives can help to improve the productivity substantially there should be a periodic review of the incentive schemes and therefore incentive schemes report should be prepared at periodic intervals.
labour Cost Accounting: to generate and maintain records for time keeping, time booking, idle and overtime, impact of incentive schemes, per unit of labour, cost due to labour turnover and other relevant records

g)

Departments involved in labour cost control and reduction

I. Personnel Department II. Time Keeping III. Work Study IV. Payroll and V. Cost Accounting

I. Personnel Department

1. 2. 3. 4.

responsible for various activities like recruitment, training, transfer, termination, implementation of incentive schemes and maintaining records regarding the labour force labour cost control starts from the recruitment of labour force Recruitment should be made only when a labour Requisition is received from the concerned department. Personal Record Card for each employee maintained for each employee which contains entire information about the employee also performs other important functions like maintenance of statutory records required under various labour laws, recording of absenteeism, labour turnover, disciplinary action etc The following functions performed by Personnel department are detailed :labour Turnover Measurement of labour Turnover Causes of labour Turnover Cost of labour Turnover

Format of Labour Requisition

Format of Personnel Record Card

1. Labour Turnover

also called as attrition labour turnover should not be very high as it will result into double loss to the organisation, the first one is that an experienced employee will be lost and secondly new person who is replacing the old one, may not have same qualifications and experience and till he is accustomed to the new job, his productivity is bound to be low. suitable training will have to be given to him resulting in additional expenditure. some proportion of labour turnover is actually necessary, as it will bring in fresh ideas in the organisation.

2. Measurement of labour Turnover:

a)

b)

c)

d)

Additions Method: number of employees added during a particular period is taken into consideration labour Turnover = Number of additions/Average number of workers during the period * 100 Separations Method: number of employees left during a particular period is taken into consideration labour Turnover = Number of separations/ Average number of workers during the period * 100 Replacement Method: neither the additions nor the separations are taken into consideration number of employees replaced is taken into consideration labour Turnover = Number of replacements/Average number of workers during the period * 100 Flux Method: takes into consideration the additions as well as separations labour Turnover = [Number of additions + Number of separations] /Average number of workers during the period *100 labour Turnover = [Number of replacements + Number of separations] /Average number of workers during the period *100

3. Causes of Labour Turnover

1.

Avoidable Causes: These causes include the following :Dissatisfaction with the job Dissatisfaction with the working hours Dissatisfaction with the working environment Relationship with colleagues Relationship with the superiors like supervisors Dissatisfaction with monetary and non monetary incentives Other reasons such as lack of facilities like insurance, absence of promotion, lack of proper training etc.

3. Causes of Labour Turnover

2.

Unavoidable Causes: These causes include the following:Personal betterment Retirement Death Illness or accident Change in locality Termination Marriage National service Other reasons like lack of residential facilities, family commitments, attitude etc.

4. Cost of labour Turnover

1.

Preventive Costs: costs incurred for preventing the labour turnover Cost of personnel administration which includes expenditure incurred in maintaining good relationships between the management and the workers. Cost of medical services incurred for improvement in medical facilities and also for motivating the employees. Expenditure incurred on welfare measures like sports facilities, transport, housing, cultural activities, canteens etc. Certain schemes like pension, gratuity schemes and other post retirement benefits

4. Cost of labour Turnover

2.

Replacement Costs: These costs are incurred for removing the effect of the labour turnover and include the following costs. Cost of recruitment and training of new workers Loss of output due to delay in recruiting new workers Loss due to inefficiency of new workers Cost of increased spoilage Cost of tool and machine breakage

II. Time Keeping

maintaining record of each workers time in and time out during regular working period and reporting the time of each worker for each department, operation or production order responsible for recording the attendance time of each worker accurately. ensure punctuality and discipline in the company and will have a positive impact on the morale of each worker. Time keeping is a statutory requirement also and therefore accurate recording of time should be ensured. The role of this department includes :1) Methods of Time Keeping 2) Time Booking and its Methods

1) Methods of Time Keeping

a)

Time Recording Clocks or Clock Cards: Each worker punches the card given to him when he comes in and goes out The time and date is automatically recorded in the card Each week or month a new card is prepared and given to the worker so that weekly/monthly calculation of wages will be possible same card may also be continued till the worker either leaves the service or retires from the service. limitation of this method, the records do not show the productive time of the worker, For showing the productive time, separate records showing time booking are to be prepared time booking records can also be combined with time keeping records so that there is no need to keep dual records

1) Methods of Time Keeping

b)

c)

Disc Method: A disc, which bears the identification number of each worker, is given to each one When the worker comes in, he picks up his disc from the tray kept near the gate of the factory and drops in the box or hooks it on a board against his number The box is removed at starting time The time keeper will record in an Attendance Register any late arrivals and workers leaving early Time consuming and prone to errors as it is manual Attendance Records: every worker signs in an attendance register against his name there may be large queues for signing the muster little control over marking the attendance time and hence there may be irregularities in time recording

2) Time Booking Methods

1) Daily Time Sheet: In this method, each worker records the time spent by him on the work during the day, for which a sheet is provided to each worker. The time is recorded daily and hence accuracy is maintained. However, the main limitation of this method is lot of paper work is involved as daily sheets are maintained on daily basis by each worker 2) Weekly Time Sheets: The only difference between the daily time sheet and weekly time sheet is that these time sheets are maintained on weekly basis. This means that each worker prepares these sheets weekly rather than daily. This helps in reducing the paper work to a great extent. The only care to be taken is that since the information is filled up on weekly basis, there may be inaccuracies and hence filling the information should be done on daily basis only 3) Job Ticket: Job tickets are given to all workers where time for commencing the job is recorded as well as the time when the job is completed. The job tickets are given for each job and the recording of the time as mentioned above helps to ascertain the time taken for each job. After completing one job, the worker is given another job 4) Labour Cost Card: This card is meant for a job, which involves several operations or stages of completion. Instead of giving one card to each worker, only one card is passed on to all workers and time taken on the job is recorded by each one of them. This card shows the aggregate labour cost of the job or the product 5) Time and Job Card: This card is a combined record, which shows both, the time taken for completion of the job as well as the attendance time. Therefore there is no need to keep separate record of both, time taken and attendance time.

III. Work Study

In any incentive system, the bonus is paid by comparing the standard performance/production with the actual performance The Work Study which includes, the job study, and the method study ensures the fixation of standard time to do a particular job and thus has become extremely important in the designing of the incentive system Work Study components are discussed below :Method Study: Work Measurement: Job Evaluation: Methods of Job Evaluation: Merit Rating: Difference Between Merit Rating and Job Evaluation: Time And Motion Study:

III. Work Study

Method Study: Method Study has the following stages :A. Method Study is generally conducted for the jobs, which involve complex operations as well as costly operations. B. Information about the job like, purpose, location, sequence, relationship with other work, methods of working, operators, requirement of skilled workers, facilities required etc. should be collected. C. The crucial step is that after studying the relevant aspects of the job, there should be development of the improved method of doing the job. An improved method of job might change the location and sequence of the work, methods of production and the layout for the job. The improved method will result in more efficiency, more simplicity and effectiveness and job will be done in a better manner. D. The developed method should be applied in doing the job. E. For any new method, a follow up is always required. Thus Method Study ensures efficient use of resources by reducing unnecessary work and helps to achieve highest production.

III. Work Study

Work Measurement: - used for the following purposes. A. Incentive wage schemes which require data about the time allowed and time taken for a particular job. B. Improving utilization of men, machines and materials. C. Assisting in production control D. Assist in setting labour standards E. Cost control and reduction The following stages are involved in work measurement A. Selection of work B. Measuring the actual time taken in the work done C. Making comparison between the standard time and the actual time

III. Work Study

Job Evaluation:is a technique of analysis and assessment of jobs to determine their relative value within the firm It helps in developing a systematic and rational wage structure as well as job structure. Job evaluation aims at removing the controversies and disputes relating to salary between the employers and employees. Thus the employees and also the employer remain satisfied Another important objective of job evaluation is to bring fairness and stability in the wage and salary structure so as to ensure full cooperation of workers in implementing various policies of the employers. Job evaluation discloses characteristics and conditions relating to different jobs. This is very useful at the time of recruiting of workers as only suitable workers can be recruited.

III. Work Study

Methods of Job Evaluation:Point Ranking Method: In this method each job is analyzed in terms of various job factors or characteristics. The characteristics are skills required, efforts involved, working conditions, hazards, responsibility and so on. Each job factor is given weightage or points depending upon its value for the job. For example, for certain jobs, maximum value is assigned to experience while for some jobs, education may be the most crucial factor. Finally each job is ranked in the order of points or weights secured by them. The wage structure can be suitably designed according to the points assigned to each job. The method is quite sound in principle but difficulties may be faced in assigning the weights to each job. Ranking Method: In this method, jobs are ranked in order of importance on the basis of skills required, experience requirements, working conditions etc. Jobs are rearranged in an order, which can be either from the lowest to the highest or in the reverse. Wage scales are determined in terms of ranks. This method is quite simple to operate and less costly. In a large organization, where jobs are quite complex, this method is not beneficial. Grading Method: This method is an improvement over the ranking method. Under this method, each job is analyzed in terms of a predetermined grade and then assigned a grade or class. Grades are established after making an investigation of job factors, such as complexity in the job, supervision, responsibility, education etc.

III. Work Study

Merit Rating:Job evaluation is the rating of the job in order to bring rationality in the wage and salary structure in the organization. On the other hand merit rating is the comparative evaluation and analysis of individual merits of the employees It aims at evaluation and ranking the individual employees in order to plan and implement rational promotional policies in the organization.

III. Work Study

Difference Between Merit Rating and Job Evaluation:Job evaluation is the assessment of the relative worth of jobs within a business enterprise and merit rating is the assessment of the employees with respect to a job Job evaluation helps in establishing a rational wage and salary structure. On the other hand, merit rating helps in fixing fair wages for each worker in terms of his competence and performance Job evaluation brings uniformity in wages and salaries while merit rating aims at providing a fair rate of pay for different workers on the basis of their performance

III. Work Study

Time And Motion Study:is essential for designing an incentive system. Time study determines the time to be spent on the job. Standard time is the time that should be taken for completing a particular job under standard or normal working conditions For fixation of standard time, motion study is necessary Thus, the motion study precedes the time study Motion study means dividing the job into fundamental elements or basic operations of the job or process and studying them in detail to eliminate the unnecessary elements or motions After eliminating unnecessary motions, the time that should be taken to perform these motions is decided with the help of a stop-watch In the time so fixed, some allowance is added in the same for normal idle time, which is due to fatigue, change of job, change of tools, preventive maintenance of machines and so on Thus standard time for a job or process is arrived at

IV. Payroll
Functions of this department are :To compute the wages employees To prepare a detailed wages sheet showing the gross wages payable, various deductions and other payroll liabilities. To maintain individual employee payroll records To prepare department wise summaries of wages Compilation of labour statistics for management. To install and implement an effective internal check system for preventing frauds and irregularities in payment of wages To detect and prevent ghost workers

V Cost Accounting dept.

The Cost Accounting department is responsible for analyzing the labour cost for the purpose of computation and control of the same. It is responsible for the accumulation and classification of all cost data of which labour cost is one of the important component. The cost accounting department classifies the labour cost into direct and indirect, compares the actual labour cost with the budgeted cost, compute unit labour cost and compiles the data for further analysis of the labour cost. The data generated can be useful for various purpose including decision making by the management.

Methods of Wages Payment

I. Time Rate System A] At ordinary levels. B] At high wage levels and C] Graduated time rate II. Piece Rate A] Straight piece rate B] Piece rate with guaranteed day rates and C] Differential piece rates III. Bonus Systems A] Individual Bonus for Direct Workers B] Group Bonus for Direct Workers C] Bonus for Indirect Workers IV. Indirect Monetary Incentives A] Profit Sharing B] Co-partnerships V. Non monetary incentives like job security, social and general welfare, sports, medical facilities etc.

I. Time Rate System

A) At Ordinary Levels: rate of payment of wages per hour is fixed and payment is made accordingly on the basis of time worked irrespective of the output produced Workers get guarantee of minimum income irrespective of the output produced main limitation of this method is that it does not offer any incentive to the efficient workers. B) At High Wage Levels: workers are paid at time rate but the rate is much higher than that is normally paid in the industry or area paid according to the time taken and overtime is not normally allowed C) Graduated Time Rate: paid as per the production achieved by them

II. Piece Rate System

A) Straight Piece Rate: rate per unit is fixed method is simple &productivity can be increased substantially resulting in lowering the cost per unit. B) Differential Piece Rates: the rate per standard per hour of production is increased as the output level rises The increase in rates may be proportionate to the increase in output For deciding the efficiency, comparison is made between the standard production and actual production of the worker If the actual production is more, the worker qualifies for higher rate of wages The major systems of differential piece rate system :Taylors Differential Piece Rate System Merrick Differential Piece Rate System Gantt Task Bonus Plan

a) b) c)

a)Taylors Differential Piece Rate System

According to Taylor, there are only two classes of workers, efficient and inefficient while efficient workers should be encouraged to the maximum possible extent, the inefficient workers should be penalized if the workers are efficient, they should be paid @ 120% of the normal piece rate and if they are inefficient, they should be paid @ 80% of the normal piece rate. For measuring efficiency, each worker will be given a standard production quantity to be produced in the time allowed for the same and the actual production produced should be compared with the same.

a)Taylors Differential Piece Rate System

Illustration: From the following particulars, calculate the earnings of workers X and Y and also comment on the labour cost. Standard time allowed: 20 units per hour, Normal time rate: Rs.30 per hour Differential to be applied: 80% of piece rate when below standard, 120% of piece rate at or above standard. In a particular day of 8 hours, X produces 140 units while Y produces 165 units Solution: Standard production per day is 20 units 8 hours = 160 units Worker X produces 140 units which means he is below standard and will get wages @ 80% of the normal piece rate. Xs earnings: Normal piece rate = Rs.30 per hour/20 units = Rs.1.5 per unit 80% of the normal piece rate = Rs.1.20 per unit, Earnings = Rs.1.20 * 140 units = Rs.168, labour cost per unit = Rs.168/140 units = Rs.1.20 Ys Earnings: Y has produced more than the standard production of 160 units and hence he will get wages @ 120% of normal piece rate. Normal piece rate = Rs.30 per hour/20 units = Rs.1.50 per unit. 120% of normal piece rate = Rs.1.80 per unit, Earnings = Rs.1.80 * 165 units = Rs 297 labour cost per unit = Rs.1.80 Comment: labour cost increases from Rs.1.20 per unit to Rs.1.80 per unit.

b) Merrick Differential Piece Rate System

c) Gantt Task Bonus Plan

is a combination of time rate, bonus and piece rate plan This method assures minimum wages even too less efficient workers and hence is a preferred method of payment of wages. also offers reasonably good incentive to efficient workers.

Problem 1

X, Y and Z are three workers working in a manufacturing company and their output during a particular 40 hours week was, 96, 111 and 126 units respectively. The guaranteed rate per hour is Rs.10 per hour, low piece rate is Rs.4 per unit, high piece rate is Rs.6 per unit. High task is 100 units per week. Compute the total earnings and labour cost per unit under Taylor, Merrick and Gantt Task Bonus Plan.

Solution to Problem 1

III. Bonus Systems

A) Individual Bonus for Direct Workers The bonus to be paid to the workers is computed on the basis of savings in the hours individual bonus schemes commonly used are as follows :i) Halsey Premium Plan ii) Halsey-Weir Premium Plan iii) Rowan Plan iv) Barth Variable Sharing Plan

i) Halsey Premium Plan

This plan was introduced by F.A. Halsey, an American engineer. Standard time is fixed for a job and if the actual time taken is less than the same, the worker becomes eligible for bonus. bonus is paid equal to wages of 50% of the time saved. A worker is assured of time wages if he takes longer time than the allowed time. The formula for computing the total wages is as follows. Total Earnings = H * R + 50% [S H] R Where, H = Hours worked, R = Rate per hour, S = Standard time Illustration: Time allowed for a job is 48 hours; a worker takes 40 hours to complete the job. Time rate per hour is Rs.15. Compute the total earnings of the worker. Solution: Total Earnings = H * R + 50% [S H] R Total Earnings = 40 * Rs.15 + 50% [48 40] Rs.15 Total Earnings = Rs.600 + Rs.60 = Rs.660

ii) Halsey-Weir Premium Plan

Under this method, there is only one difference as compared to the Halsey Plan and that is instead of 50% bonus for the time saved, it is 331/3rd % of the time saved. Accordingly the formula for this method is modified as follows : Total Earnings = H * R + 33 1/3% [S H] R H = Hours worked. R = Rate per hour. S = Standard time

iii) Rowan Plan

This premium bonus plan was introduced by Mr. James Rowan. It is similar to that of Halsey plan in respect of time saved but bonus hours are calculated as the proportion of the time taken which the time saved bears to the time allowed and they are paid for at time rate. The formula for computation of total earnings is as follows. Total Earnings = H * R + [S H]/S * H * R Where H = Hours worked, R = Rate per hour, S = Standard time

iv) Barth Variable Sharing Plan

the total earnings are calculated as follows: Total Earnings = Rate per hour / Standard hours * Actual hours worked

III) Bonus Systems

B) Group Bonus for Direct Workers :Many times output of individuals cannot be measured. Similarly, the output of individual is dependent on the performance of the group The total amount of bonus, which is determined according to productivity, can then be shared equally or in agreed proportion between the group members. Various group bonus plans are discussed below:Budgeted Expenses Bonus: Under this system, bonus is based on the savings in actual total expenditure compared with the budgeted expenditure.

1.

III) Bonus Systems

2.

Cost Efficiency Bonus: In this method, standards are set for expenses like material, labour and overheads. The actual expenditure against these standards is measured and if there is a savings in actual expenditure as compared to the standards, a portion of such savings is distributed as bonus amongst the workers. Pristman System: In this method, production standards are set in units or points and actual production is compared with the standards. If the actual production exceeds the standard, the workers are paid additional wages equal to the percentage in output over standard. Obviously no bonus is payable if actual production does not exceed the standard production.

3.

4.

Towne Profit Sharing Plan: In this method standards are set for costs [mainly labour cost] and the actual cost is compared with the standards. If there is a saving in the costs, the saving is shared by workers and supervisory staff in agreed proportion. The principle behind this method is that if there is a saving in the cost, not only the workers but the supervisory staff should also get the reward because the cost reduction is the joint efforts of both the types of staff. Hence both, workers and supervisors share it. Waste Reduction Bonus: This system of bonus is based on savings in the material cost. If there is a saving in the material cost, the workers share the same in the agreed proportion. This system is generally used in industries where cost of material is very high.

5.

III) Bonus Systems

6.

Rucker Plan: The amount of bonus is linked with value added in this system. The value added is obtained by deducting the cost of material and services from sales value. In other words, value added is the total of labour, overheads and profits. Under this plan, employees receive a constant proportion of value added. For example, if the target ratio of labour cost to value added is 70%, and the actual ratio comes to 68%, 2% of the actual value added is distributed as group bonus, so that the ratio of direct labour cost to value added is maintained at 70%. Normally instead of distributing the entire bonus, some proportion is distributed and the remaining is transferred to reserve fund. Scanlon Plan: This method is similar to the Rucker plan as discussed above except that the ratio of labour cost to the sales is taken instead of direct labour cost to added value. Normally bonus is paid based on average of last three years ratios. A part of the bonus may be transferred to bonus equalization fund for future use when the workers do not get bonus under this scheme. C) Bonus System for Indirect Workers: Indirect workers do not take part in the production process directly but they play important role in the production process. It is difficult to chalk out a bonus system for indirect workers, as there is a difficulty in measuring their output. However it is advisable to plan a bonus system for indirect workers in order to motivate them for better productivity. Bonus to indirect workers is paid on the basis of output of the department, saving in time or expenditure against the budgeted, product quality, reduction of waste and scrap and reduction of labour turnover.

7.

IV) Indirect Monetary Incentives

These methods aim at giving additional remuneration based on the prosperity of the concern. The following schemes fall in this category. Profit Sharing: In this system, the profits of the organization are shared by workers in agreed proportion. The Payment of Bonus Act in India makes it mandatory to pay minimum bonus of 8.33% of salary and maximum bonus of 20% of salary to the workers. Co-partnership: In this system, the workers get an opportunity to participate in the ownership of the organization and to receive the part of share of profits. The employees are given assistance to purchase shares of the company. Thus the employees get dividend and bonus also. These schemes help to boost the morale of workers to a great extent.

V) Non-Monetary Incentives

These incentives are given in addition to monetary incentives for further boosting the moral of the employees. Though these benefits do not result in additional remuneration, they help to improve productivity by boosting the morale of the employees. Some of the non-monetary incentives are as follows :- Free education and training. - Medical benefits - Subsidized canteens - Superannuation benefits like pensions, gratuity, life assurance schemes - Sports and recreation facilities, housing facilities, long service awards. - Job security, promotion schemes - Benevolent funds and welfare funds.

Problem 1

Problem 2

Solution to Problem 2

Problem 3

Solution to Problem 3

Solution to Problem 3

Problem 4

Solution to Problem 4

Problem 5

Solution to Problem 5

Solution to Problem 5

Thank You