Costing System of Frank Burgess Organizationâ€Myassignmenthelp.com

Question: Explain On Costing System Of Frank Burgess Organization? Answer: Introduction The costing system has assumed a place of special importance in the organization owing to the benefit it possesses. It is designed in a manner that helps in evaluation of the costs that are incurred by the business. The system is composed of processes, control, reports, etc that are developed to report to the management with respect to costs, revenues, and profitability. Product costing system is utilized by various organizations so that an evaluation can be done of the manufactured goods (Venanci, 2012). Product costing provides advantages to the organization in various aspects. The product costing system helps in tracking the expenses and provides a strong track of the expenses. In the absence, the organization might suffer. Purpose of a product costing system Product Costing System is the system used by management of different organizations to assess the product costs of the goods manufactured or purchased for the purpose of resale. The costs of goods incurred prior to its sale are termed as product costs. In the case where the goods are manufactured, the product costs are the expenses incurred during the manufacturing process. Whereas, in case the goods have been purchased, the product costs are the expenses incurred to purchase the inventory and freight and cartage expenses incurred to purchase the inventory (Vanderbeck, 2013). Once the cost of products manufactured is assessed, the other costs that are incurred for making the product saleable are added to the cost of products manufactured and the total product costs are then termed as the cost of sales. This total process constitutes product costing system. The main purpose of product costing system is to assess the above-said costs step by step so that the total cost of sales can be a rrived at and the final profit be calculated for the whole process (Larry Christopher, 2012). Other purposes of product costing system are: It helps in calculation of Costs of goods manufactured per product, evaluation of the cost at the different process of production, comparison of the product costs incurred with the budgeted costs and find the deviations if any. It helps in supporting in a make or buy decision (Spiceland et. al, 2011). Further, it helps the management in the formulation of policies, fixation of the selling prices of the product and having attention on product wise profitability. Further, the product costing system helps in identifying over and under application of overheads which helps in understanding the effects of over and under application and introducing a system to fully absorb entire overheads over the production process. A proper product costing system is essential so that no cost is left unchanged to the product or service as the case may be. For example service sector costing and job costing. In the case in an organization there is a lack of proper product costing system, this shall lead to unrecorded expenses or overstated incomes which both are not good for the financial health of an organization because it shall ultimately affect under or overstatement of profits. Secondly, the product might be under priced or over priced which may also hurt the reputation of the company. In an imperfect market situation where sales are mainly dependent upon the product pricing, it is paramount important that product is currently priced (entire costs are absorbed) so that the product is able to meet out the competition in the market. For e.g, if Pepsi has to compete in the market, it has to keep its prices competitive with its competitors like Coca-Cola because a small change in their price may lead to a huge change in sales volume. In case vice versa happens that is Coca-Cola changes its prices, Pepsi has to equally react to the prices that are cut down its cost or profit margin so as to remain in the competition. Hence, a product costing system should be correct and well implemented in an organization. Schedule of Cost of goods manufactured or Cost of Goods sold Schedule of Cost of Goods Manufactured and Cost of Goods Sold Cost Sheet Amount($) Opening Stock- Raw Material 12,000 Add : Raw Material Purchased (as per Appendix-A) 1,80,000 Less : Closing Stock- Raw Material 12,000 Cost of Raw Material consumed 1,80,000 Direct Labour Cost 1,82,000 Prime Cost 3,62,000 Add: Factory Overheads Insurance- Factory 14,000 Indirect Labour Cost 1,18,000 Add: WIP- Opening Stock 4,500 Less: WIP -Closing Stock 33,500 Factory Cost 4,65,000 Add: Administrative Costs Salary 24,000 Cost of Production of Goods Manufactured 4,89,000 Add: Opening Stock - Finished Goods 11,000 Add: Other Administrative Costs Repair- Factory 8,000 Depreciation - Factory Building 8,000 Depreciation - Factory Equipment 16,000 Depreciation - Office Equipment 1,800 Less: Closing Stock - Finished Goods 16,000 Cost of Production of Goods sold 5,17,800 Some Items that have been excluded from the schedules are : Advertisement 12,000 Sales- Salary 90,000 Travel Entertainment- Sales 14,100 General Liability Insurance 2,400 Land Tax- Factory 4,500 The reason for exclusion of these items from the Cost of Production of Goods Manufactured and Cost of Production of Goods sold is that these expenses are not directly related to the production of goods. These expenses are of indirect nature and shall be included while calculating Cost of Sales (Shim Siegel, 2009). Only those expenses have been included above which are directly correlated with the production of goods. T-Accounts Answer- 2 Raw Materials Particulars Particulars Opening Balance 12,000 Raw Material Used / Transferred to 1,80,000 Purchase of Raw Material 1,80,000 Manufacturing Account (Appendix -A) (balancing figure) Closing Balance 12,000 Total 1,92,000 Total 1,92,000 Work in Process Particulars Particulars Opening Balance 4,500 By WIP tfrd to Finished Goods 4,65,000 (balancing figure) Tfr from Raw Material A/c 1,80,000 Direct Labour (5200 hrs @ 1,82,000 $ 35) Overheads : Indirect Labour Cost 1,18,000 Factory Insurance 14,000 Closing Balance 33,500 Total 4,98,500 Total 4,98,500 Finished Goods Particulars Particulars Opening Balance 11,000 Cost of Sales 5,17,800 Tfr from WIP Account 4,65,000 (balancing figure) Overheads : Salary 24,000 Repair- Factory 8,000 Depreciation - Factory Building 8,000 Depreciation - Factory Equipment 16,000 Depreciation - Office Equipment 1,800 Closing Balance 16,000 5,33,800 Total 5,33,800 Manufacturing Overheads Particulars Particulars Actual Overheads 1,68,500 WIP Account - Overheads 1,32,000 (Total Shown) Under/ Over Application of Overheads 36,500 (balancing figure) Total 1,68,500 Total 1,68,500 Accounts Payable/ creditors Particulars Particulars Opening balance 12,000 Payment to Sundry Creditors 1,80,000 Purchases during the period 1,80,000 (Appendix-A) Closing Balance 12,000 Total 1,92,000 Total 1,92,000 Cost of Goods Sold Particulars Particulars Finished Stock A/c 5,17,800 Transfer to Costing Profit and Loss A/c Selling Distribution Overheads (balancing figure) 6,40,800 Advertisement 12,000 Sales- Salary 90,000 Travel Entertainment- Sales 14,100 General Liability Insurance 2,400 Land Tax- Factory 4,500 Total 6,40,800 Total 6,40,800 Over or under application of overheads When product costing is done by an organization, the management pre-determines the overheads that they estimate to get incurred. While the product is getting manufactured there may be differences between the actual cost being incurred and the estimated costs. Such estimated costs are applied to different processes of manufacturing using a pre-determined overhead rate. Such differences are found out by the accounts team at the end of the production process. Such differences result in over or under application of overheads. Where the applied overheads are more than the actual overheads, it is said to be a case of over application of overheads and where the actual overheads are more, it is said to be under applied overheads (Needles powers, 2013). This can be understood by this example In the above example, the overheads in the month of June 2016 have been over-applied by $2,500 ($15,000- $ 12,500). The over or under application of overheads create a difference in the profitability that was estimated by the organization at the beginning of the period/ year as is done in almost every profit making organization. In order to minimize this difference, the management teams needs a lot of time and efforts so that the overhead rates can be determined with maximum accuracy levels as this pre-determined rate is the key factor in applying of overhead costs (Robinson Last, 2009). When the over or under application of overheads occur, the same are dealt by following methods by the organization: Adjusting the Over or under application to the cost of sales. The cost of sales is arrived at after accumulating all the selling and distribution expenses and adding them to the cost of goods sold. When there is under application or over application of overheads, the same is transferred to the cost of sales account. It is either done on annual basis or monthly (Lanen et. al,, 2008). When it is done monthly, the difference balance of overhead applied and actual overhead is treated as deferred income if over applied and deferred expenses if under applied and is carried forward month after month and finally adjusted with the cost of sales. Writing off the difference to Profit and Loss Account. By using this method, the difference that is the over or under application is transferred to the Profit and loss account so that it can be accounted for in the same accounting year. The drawback of using this method is that the inventory figures get overstated or understated due to the fact that these over or under applications should be properly apportioned between WIP, Finished Goods, and Cost of Sales (Needles, 2011). Adjusting the Over or under application to the Gross Profit. In this method, the over or under application are transferred to the gross profit. This method is not very widely used due to its limitations (Horngren Foster, 2008). Adjustment in Reserve Accounts In this method, the over or under applied costs are adjusted to the reserves account and shown in Balance Sheet. This method is also not recommendable as the over or under applied overheads should be adjusted in the same accounting year and should not be carried forward to next year. Another adjustment in inventories WIP Finished Goods and Cost of Sales is done so as to bring the accounts in line with the actual costs. The over or under applied overheads are distributed by using supplementary rates in WIP, Finished goods, and cost of sales (Horngren Foster, 2008). The best recommended method is an adjustment to cost of sales as the over or under applied costs is adjusted in it in the same accounting year. Evaluation of the instruction of ABC ABC stands for Activity Based Costing. This is a method of costing in which costs are attributed to different costs and processes. In other processes such as process costing, the costs are attributed to the processes and departments and then absorbed to different processes. In ABC, the costs are attributed to different major activities. In ABC, the major activities are first identified such as material purchasing and handling, quality testing of material, material ordering, setting up of the machine, etc (Charles, 2012). After identification of major activities, the cost drivers are defined for each kind of activity such as number of parts is a cost driver for material handling, number of hours is cost drivers for quality testing. The costs are then attributed to the activities using the cost drivers. ABC was introduced to overcome the shortcomings of other traditional costing systems. In order to evaluate the introduction of ABC for the said organization, following advantages and disadvantages of ABC shall be considered- Advantages- It helps the organization in attributing the costs to various activities which further helps in estimating the product costs with accuracy. It helps in co-relating the overhead costs to the products, services, and other market segments. As it focuses primarily on activities and not resources, the performance measurement gets more effective. Cost drivers help to better allocate the costs to different activities. Margins of profit and performance can be better measured with the help of ABC. However, the ABC concept is not free from deficiencies. The major loopholes that can be witnessed in the case of ABC are that it utilizes a lot of resources and manpower. Further, it is a tedious task to allocate costs to every activity. Moreover, it does not consider opportunity costs. Conclusion The said organization has not been keeping its accounts up to date since past many years. ABC system of costing should be introduced in an organization where proper cost records are maintained and the accountant is fully aware of costing and accounting procedure. The client, in this case, does not have a proper costing system nor has he employed any full time accountant , so our recommendation, in this case, is that before implementation of ABC, the client should fulfil two requirements mainly- keeping up to date costing and accounting records and secondly hiring a full-time accountant for preparation of books of accounts. ABC involves identification of key activities and allocating costs among those activities so that costs are allocated activity wise. So, in case the organization in the said question has implemented both the changes as suggested it can go ahead with the introduction of ABC system of costing. The main benefit of introducing ABC shall be proper allocation of overheads amongst activities which will help in proper cost allocation which will also help in proper and better product costing. ABC once implemented is an excellent method of cost distribution among activities rather than resources. References Charles, T.S 2012, Cost Accounting: A Managerial Emphasis, Pearson Education Horngren, C T Foster, G 2008, Cost Accounting: A Managerial Emphasis: United States Edition Lanen, W. N, Anderson, S Maher, M. W 2008. Fundamentals of cost accounting, NY: Hang Loose press. Needles, S. C 2011, Managerial Accounting, Nason , USA: South-Western Cengage Learning . Needles, B. E. Powers, M 2013, Principles of Financial Accounting. New York Press Robinson, M., Last, D 2009, Budgetary Control Model: The Process of Translation. Accounting, Organization, and Society, NY Press Shim, J. K Siegel, J G 2009, Modern Cost Management and Analysis, Barron's Education Series Spiceland, J., Thomas, W Herrmann, D 2011, Financial accounting, New York: McGraw-Hill/Irwin University Press Vanderbeck, E J 2013, Principles of Cost Accounting, Oxford university press Venanci, D 2012, Financial Performance Measures and Value Creation , State of art . New York: Springer. Larry M. W Christopher J. S2012, Managerial and Cost Accounting, Pearson Press