Cost Accounting/Series-2-2005(Code3016)

Cost Accounting Level 3 Model Answers Series 2 2005 (Code 3016)

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Cost Accounting Level 3 Series 2 2005

How to use this booklet

Model Answers have been developed by Education Development International plc (EDI) to offer additional information and guidance to Centres, teachers and candidates as they prepare for LCCI International Qualifications. The contents of this booklet are divided into 3 elements: (1) Questions – reproduced from the printed examination paper (2) Model Answers – summary of the main points that the Chief Examiner expected to

see in the answers to each question in the examination paper, plus a fully worked example or sample answer (where applicable)

(3) Helpful Hints – where appropriate, additional guidance relating to individual

questions or to examination technique Teachers and candidates should find this booklet an invaluable teaching tool and an aid to success. EDI provides Model Answers to help candidates gain a general understanding of the standard required. The general standard of model answers is one that would achieve a Distinction grade. EDI accepts that candidates may offer other answers that could be equally valid.

© Education Development International plc 2005 All rights reserved; no part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise without prior written permission of the Publisher. The book may not be lent, resold, hired out or otherwise disposed of by way of trade in any form of binding or cover, other than that in which it is published, without the prior consent of the Publisher.

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Cost Accounting Level 3 Series 2 2005 QUESTION 1 Company Z manufactures gateposts from second hand timbers. Firewood is generated as a by-product from the process. The customer’s requirement for the next two periods is 3,800 and 3,000 gateposts respectively. The following information is available: Manufacturing (1) Each timber is cut into four units. (2) All units are inspected. (3) Rejection rate of 40% is expected. (4) Acceptable units are coated in a preservative and sold as gateposts. (5) Rejected units are sold as firewood. Stock Holding (1) Stock of finished gateposts will be maintained, at the end of each period, at 25% of the estimated

sales for the following period. (2) Second-hand timbers are ordered in quantities of 1,000 units at a reorder level of 200 units. Delivery is expected the next day. (3) Stock levels at start of first period: Second-hand timbers 300 units Finished gateposts 950 units Costs (1) Second-hand timbers £5 per unit (excluding delivery costs) (2) Preservative £40 per 100 gateposts (3) Direct labour £3 per gatepost (4) Fixed overheads £7,200 per period (absorbed using a rate, recalculated each period, per gatepost manufactured) (5) Second-hand timbers are delivered at a cost of £400 per 1,000 units. This cost is payable by Company Z. (6) Firewood is sold at £0.50 per unit. The revenue generated is used to reduce the cost of gateposts. REQUIRED: (a) Calculate the total number of second-hand timbers required for manufacturing the customer’s

requirements in the first period. (4 marks)

(b) Calculate the stock value (£’s) at the end of the first period for both:

(i) second-hand timbers (5 marks)

(ii) f

inished gateposts (9 marks) The company uses the FIFO method of pricing stock issues. (c) Calculate the revenue, from the sale of firewood in the first period, if all rejected units are sold.

(2 marks)

(Total 20 marks)

CONTINUED ON THE NEXT PAGE 4

Model Answer for Question 1 (a) Manufacturing requirement for gateposts in first period: Customers requirement for gateposts 3,800 Less opening stock of gateposts 950 Add closing stock of gateposts (3,000 x 25%) 750 Manufacturing requirement 3,600 Second hand timber units required for manufacturing allowing for a 40% rejection rate (3,600 / [0.6 x 4]) 1,500 (b) (i) Closing stock of second hand timbers: Opening stock of timbers (units) 300 Add two deliveries of 1,000 units 2,000 2,300 Less timbers required for manufacturing (units) 1,500 Closing stock (units) 800 £ Timber value of closing stock (£5 x 800) 4,000 Supplier delivery cost (£400 x 800 / 1,000) 320 Value of closing stock 4,320 or £ Timber value per unit 5.00 Delivery cost per unit (£400/1,000) 0.40 Unit cost of timbers 5.40 Value of closing stock (£5.40 x 800) 4,320

(ii) Closing stock of gateposts: £ Timber cost of gateposts (£5 x 750 / [0.6 x 4]) 1,562.5 Preservative (£40 x 750 / 100) 300.0 Direct labour (£3 x 750) 2,250.0 Supplier delivery cost (£400 x 750 / [0.6 x 4 x 1,000]) 125.0 Fixed overheads (£7,200 x 750 / 3,600) 1,500.0 5,737.5 Less sale of firewood (£0.50 x 750 / 0.4 x 0.4) 234.38 Value of closing stock 5,503.12

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Model Answer for Question 1 continued or £ Timber cost of gateposts per unit (£5 x /[0.6 x 4]) 2.083 Preservative cost per unit (£40 / 100) 0.400 Direct labour per unit 3.000 Supplier delivery cost per unit (£400 / [0.6 x 4 x 1000]) 0.166 Fixed overheads per unit (£7,200 / 3,600) 2.000 7.65 Less sales of firewood per unit (£0.50 / [0.4 x 4] 0.3125 Unit cost of finished gateposts £7.3375 Value of closing stock (750 x £7,3375)) £5,503.12 (c) Income from rejected timber (£0.50 x (1,500 x 0.4 x 4) £1,200

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QUESTION 2 A company, which produces a single component for the motor industry, has budgeted to make 40,000 units in a year. The components sell for £100 each. The standard unit variable production costs are as follows: Direct Material A 2 kg at £11.50 per kg Direct Material B 4 kg at £1.90 per kg Direct labour 1.5hrs at £10 per hour Variable overheads Absorbed at £6 per direct labour hour Fixed factory overheads, absorbed at a predetermined rate based on machine hours, are expected to be £800,000 for the year and are expected to occur evenly. Budgeted machine time required to produce one unit of the component is 5 hours. The following actual information is available for the first three months of the year: Opening stock of component 2,000 units Sales of component 9,500 units Closing stock of component 1,900 units Actual fixed overheads for the three months were equal to the budget. Actual variable costs per unit were as per standard cost. REQUIRED: (a) Calculate for the first three months of the year: (i) the total cost of production (ii) the over/under absorption of fixed production overheads.

(10 marks) (b) Prepare a trading account, for the first three months of the year in absorption costing format, clearly showing any over/under absorption of overheads.

(6 marks) (c) (i) Explain the meaning of both over-absorption and under-absorption of fixed production

overheads. (2 marks)

(ii) State two reasons for over/under absorption of production overheads. (2 marks)

(Total 20 marks)

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Model Answer for Question 2 (a) Workings Machine time for one unit 5 hours Budgeted output 40,000 units Total machine hours 200,000 hours Budgeted fixed production overheads £800,000 Fixed production overhead absorption rate £4.00 per machine hour (i) Cost of Production £ Unit cost of Production Material A 23.00 Material B 7.60 Direct labour 15.00 Variable overheads 9.00 Total Variable Costs 54.60 Production in the first three months (units) Sales 9,500 Closing stock 1,900 Less opening stock 2,000 Production 9,400 Total Cost of Production for the first three months: Variable cost (9,400 x 54.60) 513,240 Fixed cost (800,000 / 4) 200,000 Total cost 713,240 (ii) Over/under absorption of fixed overheads Actual fixed overheads (800,000/4) 200,000 Overheads absorbed (9,400 x 5 x 4) 188,000 Under absorption (½) 12,000 (b) Trading Account for the first three months £ £ Sales (9,500 x 100) 950,000 Opening stock (2,000 x 74.6) 149,200 Cost of production (9,400 x 74.6) 701,240 850,440 Less Closing stock (1,900 x 74.6) 141,740 Cost of sales 708,700 241,300 Less under absorbed overheads 12,000 Gross Profit 229,300 OR Cost of sales = 9,500 x £74.6 = £708,700 Workings Unit cost of production = (unit variable + fixed cost per unit) = £54.60 + (5hrs x £4.00 per machine hour) = £74.60 (c) (i) Over absorption means that the overheads charged to the cost of production are greater than the overheads actually incurred. Under absorption means that insufficient overheads have been included in the cost of

production.

(ii) Actual overhead costs are different from budgeted overheads. The actual activity level is different from the budgeted activity level.

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QUESTION 3 The following information was extracted from the accounts of a manufacturing company for the year ended 31 December Year 4: Sales £600,000 Profit £140,000 Contribution to sales ratio 40%

REQUIRED: (a) Calculate the fixed cost and the breakeven point (in revenue) for Year 4.

(5 marks) The company is considering updating their manufacturing system. The new system, if installed, would increase the annual fixed cost by 10% and reduce the unit variable cost by 10%.

REQUIRED: (b) Advise the company if this update to their manufacturing system is financially worthwhile.

(3 marks) (c) Calculate, for the updated manufacturing system, the contribution to sales ratio and the

breakeven point (in revenue). (4 marks)

(d) Draw a single profit/volume chart for the year ended 31 December Year 4 showing the profit

arising from:

(i) the existing manufacturing system (ii) the updated manufacturing system had it been installed at the start of Year 4.

Clearly show on the chart the breakeven point and the margin of safety for each manufacturing

system. (8 marks)

(Total 20 marks)

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Model Answer for Question 3 (a) Fixed Costs for Year 4: Sales (£) 600,000 Contribution/Sales Ratio 40% Contribution (£) [Sales x C/S Ratio] 240,000 Profit (£) [as given] 140,000 Fixed Costs (£) [Contribution - Profit] 100,000 Break-even point for Year 4: Fixed Costs (£) [as above] 100,000 C/S Ratio [as above] 40% Break-even point [Fixed costs / C/S Ratio] £250,000 (b) Updated Manufacturing System: Increase in fixed cost (£) (0.1 x 100,000) 10,000 Decrease in variable cost (£) (0.1 x [600,000 - 240,000]) 36,000 Net cost decrease 26,000 Advise the company the updated manufacturing system would be financially worthwhile. For the same sales, as Year 4, an additional profit of £26,000 would be made. (c) Contribution/Sales Ratio: Contribution (£) (240,000 + 36,000) 276,000 Sales (£) 600,000 Contribution/Sales Ratio [276,000/600,000 x 100%] 46% Break-even Point: Fixed Costs (£) (100,000 + 10,000) 110,000 C/S Ratio 46% Break-even point £239,130

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Model Answer for Question 3 continued (d) (i) and (ii) Profit Volume Chart Title Headings Lines Fixed costs Breakeven points Margin of safeties Profit Volume Chart

200

150

100

50

0

–50

–100

–150 100 200 300 400 500 600

Updated system Existing system

Break-even points

Margins of safety

Margins of safety

Prof

it / L

oss

(£00

0)

Sales Revenue (£000)

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QUESTION 4 A company manufactures and sells a single product. Due to a fall in sales demand the company has been operating some way below maximum capacity. The company has prepared the following report, for the year just ended, which indicates that demand is now increasing. Management of the company, however, is concerned that the report also indicates a large adverse cost variance. Budget Actual Variance Production/Sales (units) 9,000 10,000 1,000F Sales revenue (£) 108,000 119,000 11,000F Direct materials (£) 45,000 47,500 2,500A Direct labour (£) 22,500 25,500 3,000A Production overheads (£) 18,000 19,000 1,000A Selling and distribution costs (£) 4,000 4,150 150A Administration costs (£) 5,000 5,050 50A Total costs (£) 94,500 101,200 6,700A Profit (£) 13,500 17,800 4,300F The following points have been revealed concerning the budget: (1) Production overheads would be £22,500 at the maximum annual capacity of 12,000 units. (2) Selling and distribution costs include a fixed element of £1,750. (3) Administration costs are fixed. REQUIRED: (a) Briefly explain the main differences between a flexible and a fixed budget.

(4 marks) (b) Prepare a revised report for the year just ended, in the above format, using a flexed budget.

(12 marks) (c) Describe the possible reasons for the variances on the direct materials and direct labour costs.

(4 marks)

(Total 20 marks)

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Model Answer for Question 4 (a) Fixed Budget A fixed budget is normally set prior to the start of an accounting period and used for planning purposes. It is based on one level of activity. Flexible Budget

A flexible budget, used for control purposes, changes in response to changes in activity by recognising different cost behaviour patterns.

(b) Flexed Actual Variance Budget Production/sales (units) 10,000 10,000 0 £ £ £ Sales revenue 120,000 119,000 1,000A Direct materials 50,000 47,500 2,500F Direct labour 25,000 25,500 500A Production overheads 19,500 19,000 500F Selling and distribution costs 4,250 4,150 100F Administration costs 5,000 5,050 50A Total costs 103,750 101,200 2,550F Profit 16,250 17,800 1,550F Workings £ Actual sales/production units 9,000 + 1,000 10,000 Flexed sales budget 108,000 / 9,000 x 10,000 120,000 Actual sales 108,000 + 11,000 119,000 Sales variance 1,000A Flexed direct mat budget 45,000 / 9,000 x 10,000 50,000 Actual direct material 45,000 + 2,500 47,500 Direct material variance 2,500F Flexed direct lab budget 22,500 / 9,000 x 10,000 25,000 Actual direct labour 22,500 + 3,000 25,500 Direct labour variance 500A Production overheads = Fixed o/h + (unit variable o/h x units) 22,500 = Fixed o/h + (unit variable o/h x 12,000) 18,000 = Fixed o/h + (unit variable o/h x 9,000) 4,500 = (unit variable o/h x 3,000) Variable cost = £1.50 per unit Fixed overheads = 22,500 - (1.50 x 12,000) 4,500 Flexed prod o/h budget = 4,500 x (1.50 x 10,000) 19,500 Actual prod o/h 18,000 + 1,000 19,000 Prod o/h variance 500F Selling and distribution Variable cost (9,000 units) = 4,000 – 1,750 = 2,250 (0.25 per unit) Flexed selling/dist budget = 1,750 + (0.25 x 10,000) 4,250 Actual selling/dist = 4,000 + 150 4,150 Selling/dist variance 100F

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Model Answer for Question 4 continued (c) Materials costs may be favourable because of wastage below standard or prices below standard. Labour costs may be adverse because of an increase in the time taken to complete the work or an unexpected rise in labour rate.

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QUESTION 5 A company produces a single product. The company uses standard costing and has produced the following budgeted and actual Manufacturing and Trading accounts for a period:

Budgeted Manufacturing and Trading Account Sales and Production units 625 £ £ Sales 62,500 Variable costs 27,500 Fixed overheads 15,000 Standard cost 42,500 Gross profit 20,000

Actual Manufacturing and Trading Account Sales and Production 600 £ £ Sales 63,000 Variable costs 27,190 Fixed overheads 15,610 Actual cost 42,800 Gross profit 20,200 The following information has also been provided: (1) Fixed overheads are absorbed at a predetermined rate based on direct labour hours. (2) Standard direct labour is 2 hours per unit. (3) Actual direct labour worked was 1,320 hours.

REQUIRED: (a) Calculate the following variances:

(i) sales price (2 marks)

(ii) sales volume profit (2 marks)

(iii) cost. (1 mark) (b) Reconcile the budgeted gross profit with the actual gross profit using the variances calculated in part (a).

(3 marks) (c) Calculate the following fixed overhead variances:

(i) expenditure (2 marks)

(ii) volume (2 marks)

(iii) capacity (2 marks)

(iv) efficiency. (2 marks) (d) Explain the difference between an ideal and an attainable standard.

(4 marks)

(Total 20 marks)

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Model Answer for Question 5 (a) Sales and Cost Variances (i) Sales Price Variance (600 x £100) - £63,000 3,000F (ii) Sales Volume Profit (625 x £32) - (600 x £32) 800A (iii) Total Cost Variance (600 x £68) - £42,800 2,000A Workings Budgeted Standard Price per unit £62,500 / 625 = £100 Budgeted Standard Profit per unit £20,000 / 625 = £32 Budgeted Standard Cost per unit £42,500 / 625 = £68 (b) Profit Reconciliation £ £ Budgeted Profit 20,000 Sales Price Variance 3,000F Sales Volume Profit Variance 800A Total Cost Variance 2,000A 200F Actual Profit 20,200

(c) Fixed Overhead Variance (i) Expenditure Variance £15,610 - £15,000 610A (ii) Volume Variance £15,000 - (600 x 2 x £12) 600A (iii) Volume Capacity Variance [(625 x 2) – 1,320] x £12 840F (iv) Volume Efficiency Variance [(600 x 2) – 1,320] x £12 1,440A

Workings Overhead absorption rate = £15,000 / (625 x 2) = £12 per direct labour hour Syllabus Topic 5: Standard costing and variances (5.4) (d) Ideal Standard A standard which makes no allowance for normal loss, waste and machine down time and therefore only attainable under most favourable conditions. Attainable Standard Standards set at a level which assumes efficient levels of operation but includes allowances for normal loss, waste and machine down time.

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QUESTION 6 The following trial balance was extracted from the cost ledger of a manufacturing company at the beginning of Month 2: Trial Balance £000 £000 Raw material control account 50 Work in progress control account 120 Finished goods control account 80 Production overhead control account 5 Financial ledger control account 245 250 250 During Month 2 the following transactions took place: £000 Raw material purchases 120 Returns to suppliers 2 Material issued from store 110 Factory wages 100 Indirect production expenses 80 Work completed at cost 300 Production cost of sales 280 Sales 460 Notes: (1) 10% of raw material issues from stores are indirect. (2) 90% of factory wages are direct labour. (3) Factory overheads are absorbed at the rate of 120% of the direct labour wage.

REQUIRED: (a) Record the above transactions in the Cost Ledger accounts for Month 2.

(16 marks) (b) Prepare a Costing Profit & Loss Account for Month 2.

(1 mark) (c) Close the accounts at the end of Month 2 and prepare a Trial Balance as at the beginning of

Month 3. (3 marks)

(Total 20 marks)

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Model Answer for Question 6 (a) Raw Material Control Account £000 £000 Opening Balance 50 Financial Ledger Control 2 Financial Ledger Control 120 Work in Progress Control 99 Production Overhead Control 11 Closing Balance 58 170 170

Wages Control Account

£000 £000 Financial Ledger Control 100 Work in Progress Control 90 Production Overhead Control 10 100 100

Production Overhead Control Account

£000 £000 Raw Material Control 11 Opening Balance 5 Wages Cont 10 Work in Progress Control 108 Financial Ledger Control 80 Closing Balance 12 113 113

Work in Progress Control Account

£000 £000 Opening Balance 120 Finished Goods Control 300 Raw Material Control 99 Closing Balance 117 Wages Control 90 Production Overhead Control 108 417 417

Finished Goods Control Account

£000 £000 Opening Balance 80 Production Cost of Sales 280 Work in Progress Control 300 Closing Balance 100 380 380

Production Cost of Sales Account

£000 £000 Finished Goods Control 280 Profit/Loss 280 280 280

Sales Account

£000 £000 Profit/Loss 460 Financial Led Control 460 460 460

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Model Answer for Question 6 continued

Financial Ledger Control Account £000 £000 Raw Material Control 2 Opening Balance 245 Sales 460 Raw Material Control 120 Closing Balance 263 Wages Control 100 Production Overhead Control 80 Profit 180 725 725 (b) Costing Profit & Loss Account for Month 3 £000 £000 Production Cost of Sales 280 Sales 460 Profit to Financial Led Control 180 460 460

(c) Trial Balance at beginning of Month 3 £000 £000 Raw Material Control 58 Production Overhead Control 12 Work in Progress Control 117 Finished Goods Control 100 Financial Ledger Control 263 275 275

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