CAF-03 Basics of cost accounting

Lecture # 1 (Basics) Lecture # 1 (Over all)

Basics of cost accounting

Class work
1. Syllabus outline and topics
Syllabus Grid Teaching Weightage
Ref Hours
A Costs Associated with Production 45-50 35-45
B Cost Flow 20-30 20-30
C Cost Management Planning and Decisions 45-50 30-40
Total 110-130 100

Grid A: Costs Associated with Production

ICAP study text chapter Topic
Basics of cost accounting
Chapter 1 Inventory valuation
Chapter 3 Accounting for overheads
Chapter 4 Activity based costing
Chapter 5 Labour costing
Chapter 10 Marginal and absorption costing
Grid B: Cost Flow
ICAP study text chapter Topic
Chapter 6 Cost flow in production
Chapter 7 Job order and service costing
Chapter 8 Process costing
Chapter 9 Joint and by-product costing
Chapter 11 & 12 Standard costing and variance analysis
Chapter 13 Target costing
Grid C: Cost Management Planning and Decisions
ICAP study text chapter Topic
Chapter 2 Inventory management
Chapter 14 Cost-volume-profit (CVP) analysis
Chapter 15 Relevant costing principles
Chapter 16 Decision making techniques

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2. Chapter wise past paper analysis

Grid A: Costs Associated with Production

SPR 22 AUT 22 SPR 23 Model
Total
Chap. Topic paper
Marks
Q M Q M Q M Q M
Chapter 1 Inventory 7 15
valuation
Chapter 3 Accounting for 5 8 4 8 9 16 1,4 15
overheads
Chapter 4 Activity based
costing
Chapter 5 Labour costing 3 8 1 8

Chapter 10 Marginal and 8 17 3 10 3 9

absorption costing

Grid A: Costs Associated with Production

SPR 22 AUT 22 SPR 23 Model
Total
Chap. Topic paper
Marks
Q M Q M Q M Q M
Chapter 6 Cost flow in 9 15
production
Chapter 7 Job order and
service costing
Chapter 8 Process costing 9 14 7 8 8 20 7 19
(a,c)
Chapter 9 Joint and by- 7 8
product costing (b)
Chapter 11 Standard costing 6 8 8 19 3 8 2 9
& 12 and variance
analysis
Chapter 13 Target costing 2 7

Grid A: Costs Associated with Production

SPR 22 AUT 22 SPR 23 Model
Total
Chap. Topic paper
Marks
Q M Q M Q M Q M
Chapter 2 Inventory 1 8 2,5 18 2,4 18 8 13
management
Chapter 14 Cost-volume-profit 4 10 6 7 6 10
(CVP) analysis
Chapter 15 Relevant costing 1 10 5 10
principles
Chapter 16 Decision making 7 20 9 14 5 10
techniques

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CAF-03 Basics of cost accounting

Lecture # 2 & 3 (Basics) Lecture # 2 & 3 (Over all)

Basics of cost accounting

Class work
1. Difference between Financial accounting and cost accounting

Financial accounting Cost and management accounting

It is legal requirement for public limited It is optional and only produced if benefit of
companies information exceeds cost incurred in deriving it
Only reports past Concerned with future as well as past
Used by external users Used by internal users
Prepared in accordance with IFRSs No requirement to follow IFRSs
Normally published annually (detailed) or semi- May be prepared at monthly, weekly or daily
annually / quarterly (summarized) basis
Basic purpose is preparation of financial Prepared for decision making. Planning and
statements control

2. Discussed different cost classifications as follows:

i) Product and period costs
ii) Fixed and variable costs
Example 1
Crescent took a monthly trip of students to Minar e Pakistan. The bus cost for each trip is Rs. 15,000 and
burger cost per student is Rs. 800. Number of students participating in this monthly activity are as
follows:
No. of Total bus Total burger Per student Per student Total trip
Month
students cost cost bus cost burger cost cost
A B C = (A x 800) B/A

September 30
October 50
November 70

Example 2:
Identify which of the following costs should be classified as variable, fixed, stepped or semi-variable
costs:
i) Each salesman is paid a commission of Rs. 10,000 per month plus Rs. 2 per unit sold.
ii) Machine operator is paid wages at the rate of Rs. 400 per hour worked.
iii) Goods are stored in a 3rd party warehouse where storage cost is charged as follows:
- Rs. 40,000 per month for upto 5,000 units
- Rs. 55,000 per month for units more than 5,000 but less than or equal to 7,000
- Rs. 80,000 per month for units more than 7,000
iv) Factory manager is paid a monthly salary of Rs. 120,000.
v) Direct material cost of Rs. 20 per unit.
vi) Electricity bill.
vii) Machine is serviced for Rs. 20,000 after use of every 2,000 hours.

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CAF-03 Basics of cost accounting

Example 3
A company manufactures and Sells leather jackets. Following are some of the related costs.
1. Cost of leather used in manufacturing jackets
2. Maintenance contract for general office photocopy machine
3. Lubricants for sewing machines
4. Factory telephone bill (fixed line rent plus call charges)
5. Interest on running finance facility
6. Wages of security guard for factory
7. Chief accountant’s salary
8. Transportation charges paid on purchases of basic raw material
9. Toll taxes paid for delivery vehicles
10. Samples sent to customers
11. Cost of advertising products in newspaper
12. Auditor’s fee
13. Wages of cutting machine operators
14. Wages of store keeper in material storeroom
15. Wages of fork lift drivers who handle raw material
16. Cost of painting business name on delivery vehicles
Required:
You are required to group costs which are listed above and numbered 1 to 16 in the following
classifications (each cost is intended to belong to only one classification).
i) Direct material cost
ii) Direct labour cost
iii) Factory overheads cost
iv) Selling and distribution costs
v) Administration costs
vi) Finance cost

Example 4:
Following expenses relate to Fine Toys for the year ended December 31, 2018:
i) Factory rent for the year was Rs. 240,000.
ii) Insurance premium paid for factory assets was Rs. 80,000 for the year.
iii) Transportation paid for purchase of raw material to the transport company at the rate of Rs. 5
per unit. Total raw material purchased during the year was 50,000 units at a price of Rs. 60 per
unit.
iv) Direct labor was paid at the rate of Rs. 10 per hour. Total direct labor hours worked for the
year were 40,000 hours.
v) Machinery repairs were carried out during the year as follows:
- Rs. 20,000 for annual scheduled repairs
- Rs. 5,000 for parts replacement after every 2,000 hours usage.
During the year machinery was used for 6,000 hours.
vi) Electricity bill for the year comprises of following:
- Rs. 24,000 being fixed annual charge
- Rs. 5 per unit consumed. During the year 11,000 units of electricity were consumed.
vii) Other fixed factory overheads for the year amount to Rs. 90,000.

Required:
Calculate total variable production costs and fixed production costs for the year.

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CAF-03 Basics of cost accounting

Example 5:
Identify fixed and variable costs from the following list:
1) Annual token tax of vehicle Rs. 25,000
2) Fuel of generator Rs. 300 / liter
3) Staff salary Rs. 500,000 per month
4) Direct material Rs. 150 / unit
5) Depreciation Rs. 175,000 using reducing balance method.

Example 6:
Following information relates to the year ending 31 December 2023:
1. Direct material cost is Rs. 600 / unit
2. Direct labour cost is Rs. 150 / hour. Each unit of product requires 3 labour hours
3. The factory rent is Rs. 175,000 per quarter
4. Depreciation of plant and machinery is Rs. 250 per machine hour
5. Depreciation of other assets is Rs. 180,000 for the year using straight line method
6. Manager’s salary is Rs. 90,000 per month
7. Fuel cost for plant and machinery is Rs. 25 per machine hour
8. Variable repair and maintenance is Rs. 50 per machine hour
9. Total repair and maintenance cost for the year (including variable portion) is Rs. 730,000
10. Total 50,000 units were produced. Plant and machinery was used for total 4,000 machine hours

Required:
Calculate total fixed cost and total variable cost for the year ending 31 December 2022.

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CAF-03 Basics of cost accounting

Lecture # 4 (Basics) Lecture # 4 (Over all)

Basics of cost accounting

Class work
1. Practice of percentage calculations
Q-1:
Total sales for the year Rs.620 million. Total commission for the year Rs.92 million
Required: commission as %age of sale?
Q-2:
Total sales for the year Rs.320 million. Selling expenses are 5% of sales
Required: Amount of selling expenses?
Q-3:
Sales 30,000. Calculate G.P if:
i) G.P margin is 20%
ii) G.P markup is 25%
Q-4:
G.P is 50,000. G.P margin is 20%
Required: Calculate COS
Q-5:
G.P markup is 35% Sale is Rs 270,000
Required: Calculate G.P
Q-6:
COS is Rs 240,000.G.P margin is 40%
Required: Calculate G.P
Q-7:
An asset was purchased for a total price of 257,400 (inclusive of 17% refundable sales tax).
Required: Calculate cost of plant
Q-8:
Total sales for the year are Rs. 423,400 (inclusive of 16% sales tax)
Required: Calculate amount of sales tax
Q-9:
Our customers settle their accounts after deducting 7% withholding tax. Total receipts during the
year were Rs. 297,600.
Required: Calculate total sales for the year
Q-10:
Sales for the year 2022 are Rs. 593,750. These sales are 25% higher than last year.
Required: Calculate sales of 2021
Q-11:
Rent of 2020 is Rs. 500,000. It will increase by 10% in 2021, 12% in 2022 and it will decrease by
5% in 2023.
Required: Calculate rent for 2021, 2022 and 2023
Q-12:
Process loss is 6% and output is 235,000 units.
Required: Calculate input units
Q-13:
Sales for the year are 285,000. These are expected to increase by 20% in next year.
Required: Calculate sales of 2022

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CAF-03 Basics of cost accounting
Q-14:
Following information pertain to Katas Industries Limited for the year ended 30 June 2020:
(i) Purchase of raw material:
Rs. in '000
Purchase price 96,100
Discount on bulk purchases 3,290
Early settlement discounts 1,580
(ii) Cost incurred at various locations:
Warehouse
Description Factory Head Sales Raw Finished
office office material goods
----------------------- Rs. in '000 --------------------------
Salaries & wages 9,200* 2,000 3,800 860 640
Depreciation 3,500 1,250 750 150 120
Rent 3,640 - 2,360 380 160
Utilities 2,780 940 1,230 450 235
*75% of factory salaries & wages vary with the level of production
(iii) Breakup of inventories:
1 July 30 June
2019 2020
--------- Rs. in '000 ------
Raw material 6,800 8,500
Work in progress 1,980 1,600
Finished goods 8,960 12,000
(iv) Due to a machine break down, raw material costing Rs. 1,560,000 was lost
during the production process.

Required:
Prepare statement of cost of goods manufactured for the year ended 30 June 2020. (Also show total
prime cost) (08)
[Q-1, Aut-20]

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CAF-03 Inventory valuation

Lecture # 5 (Inventory valuation) Lecture # 5 (Over all)

Basics of cost accounting

Class work
1. Practice of percentage calculations from lecture 4

Inventory valuation
Class work
Question 1
Ahmad traders started its operations on February 1, 2022. During first year of its operations 60,000 units
were imported from China in single lot incurring following expenses:
Rs.
Purchase price (subject to trade discount of 10%) 1,200,000
Import duties 72,000
L/C charges 48,000
Insurance in transit 24,000
Clearence charges 120,000
Refundable taxes 160,000
Octroi / freight charges 240,000
Transportation to godown 36,000
Godown rent (per month) 50,000
Fire and theft insurance 20,000
At the end of first (i.e., 31 December 2022), out of this lot 5,600 units are still in inventory.
Required:
Total cost of closing inventory as at 31 December 2022.

Question 2
Following are the transactions relating to Babar Azam trading corporation for the month of October 2023:
Date Description units rate
01-10-23 Opening stock 200 50
04-10-23 Purchases 600 55
09-10-23 Sales 350
14-10-23 Purchases 400 58
19-10-23 Sales 450
24-10-23 Sales 200
29-10-23 Purchases 180 62
Required: Calculate cost of closing stock and cost of sales using:
i) FIFO (Periodic)
ii) AVCO ((Periodic)
iii) FIFO (Perpetual)
iv) AVCO (Perpetual)

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CAF-03 Inventory valuation

Lecture # 2 (Inventory valuation) Lecture # 6 (Over all)

Inventory valuation
Class work
Question 1
Gamma Electronics is engaged in sale of various electronic appliances for household and office use. One
of the products is Hexa-120. Following transactions relate to Hexa-120 for the month of April 2023:
Date Transaction Units Cost (Rs.)
01-04 Opening stock 200 22
02-04 Purchase 500 25
05-04 Sale 480 -
09-04 Purchase 100 28
10-04 Purchase returns (2nd April purchase) 20 -
15-04 Sale 230 -
19-04 Drawings 40 -
21-04 Sale returns:
- Out of 5th April sale 60 -
- Out of 15th April sale 10 -
27-04 Purchase 150 30
30-04 Goods lost by fire 10 -
Required:
Calculate total cost of closing stock as at April 30, 2023 using:
i) FIFO (Periodic)
ii) AVCO ((Periodic)
iii) FIFO (Perpetual)
iv) AVCO (Perpetual)
Question 2
Standard Limited (SL) is in the business of buying and selling electric ovens. It follows perpetual inventory
system and uses weighted average method for valuation of inventory. Following information is extracted
from SL’s records for the month of February 2021:
(i) Opening inventory consisted of 220,000 units having an average cost of Rs. 7,000 per unit
(ii) 280,000 units were purchased on 5 February 2021, at Rs. 7,200 per unit.
(iii) 180,000 units were sold to Khurram Limited (KL) on 10 February 2021.
(iv) 5,000 defective units were returned by KL on 12 February 2021.
(v) 30% of the defective units returned to SL, had a manufacturing fault and were returned to the
supplier on 15 February 2021. Remaining defective units were damaged due to mishandling at the
warehouse. These units were disposed of as scrap on 20 February 2021 for Rs. 2,000 per unit.
(vi) 5,000 units were sent to KL on 22 February 2021 in replacement of the defective units returned.
(vii) 150,000 units were sold on 25 February 2021.
On 28 February 2021, a physical stock count was carried out and the following was discovered:
▪ 4,500 units were identified as obsolete having net realizable value of Rs. 6,000 per unit.
▪ 500 units were found missing.
Required:
Prepare necessary journal entries to record the above transactions relating to inventory. (09)
[Q-4, Spring 21]

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CAF-03 Inventory valuation

Lecture # 5 (Inventory valuation) Lecture # 9 (Over all)

Class work
Question-1
Quality Limited (QL) is a manufacturer of washing machines. The company uses perpetual method for
recording and weighted average method for valuation of inventory.
The following information pertains to a raw material (SRM), for the month of June 2010.
(i) Opening inventory of SRM was 100,000 units having a value of Rs. 80 per unit.
(ii) 150,000 units were purchased on June 5, at Rs. 85 per unit
(iii) 150,000 units were issued from stores on June 6.
(iv) 5,000 defective units were returned from the production to the store on June 12.
(v) 150,000 units were purchased on June 15 at Rs. 88.10 per unit.
(vi) On June 17, 50% of the defective units were disposed off as scrap, for Rs. 20 per unit, because
these had been damaged on account of improper handling at QL.
(vii) On June 18, the remaining defective units were returned to the supplier for replacement under
warranty.
(viii) On June 19, 5,000 units were issued to production in replacement of the defective units which were
returned to store.
(ix) On June 20, the supplier delivered 2,500 units in replacement of the defective units which had been
returned by QL.
(x) 150,000 units were issued from stores on June 21.
(xi) During physical stock count carried out on June 30, 2010 it was noted that closing inventory of
SRM included 500 obsolete units having net realizable value of Rs. 30 per unit. 4,000 units were
found short.
Required:
Prepare necessary journal entries to record the above transactions. (15)
[Spring 2015, Q # 5]

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CAF-03 Inventory valuation

Home work
Soya Fry Limited manufactures Cooking Oil. Following information is available with
respect to purchases and overheads for the year ended 31 December 2014.
Details of purchases: Rs.’000
Raw material purchased (including 17% sales tax which is refundable) 60,500
Packing material purchased 2,050
Settlement discount received on raw material purchases 400
Transportation cost relating to raw material (70%) and packing material (30%) 300
Details of overheads:
Rent 2,700
Salaries and wages 2,500
Other variable overheads 5,000
Other fixed overheads 1,500
Other information:
(i) The break-up of rent is as follows:
Rs. in
‘000’
Factory 2,000
Warehouse (50% for raw material, 10% for packing material and 40% 500
for finished goods)
Shelf spacing in super markets 200
Break-up of salaries and wages, other variable and fixed overheads is as follows:
Allocation between
Manufacturin Administratio
g n
Salaries and wages *60% 40%
Other variable overheads 80% 20%
Other fixed overheads 60% 40%
*Manufacturing salaries includes 70% direct wages to labourers working in the
factory which vary with the level of production.
(ii) Opening and closing inventories are as follows:
1-Jan-2014 31-Dec-2014
-----------Rs. in ‘000’---------
Packing material 700 285
Raw material 5,000 7,780
Finished goods 2,962 4,162
Work in process 1,950 3,000
Required:
Prepare cost of goods manufactured statement for the year ended 31 December 2014. (17)
[Spring 2015, Q # 5]

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CAF-03 Inventory valuation

Lecture # 6 (Inventory valuation) Lecture # 10 (Over all)

Class work
Question-1
Superior Enterprises is engaged in the business of supplying four different products to four different industries. The
details relating to the movement of inventory and related expenditures are as follows:
Items Opening Bal. Quantity Invoice Import Duties Quantity Sold
Purchase Value
Qty. Value Refundable Non refundable Qty. Value
A 30 60,000 360 810,000 120,000 90,000 350 1,015,000
B 60 90,000 780 1,560,000 200,000 150,000 800 2,080,000
C 40 120,000 560 1,820,000 250,000 200,000 580 2,320,000
D 80 200,000 600 1,650,000 - - 350 1,155,000
The following information is available:
(i) The transportation charges up to the company's godown are Rs. 100 per unit.
(ii) The transportation charges from the company's godown to the customers' premises are approximately Rs.
150 per unit.
(iii) 25% of the closing stock of item A has been damaged due to mishandling and can only be sold at 60% of its
selling price.
(iv) A new product has been introduced by a competitor. It is similar to product C and is being marketed at Rs.
3,200 per unit. The management of Superior Enterprises is of the opinion that in future, it will also have to
reduce the price of C to Rs. 3,500 per unit.
Required:
Compute the value of the stock as at December 31, 2007.

Home work
Question-2
XYZ Limited manufactures four products. The related data for the year ended December 31, 2009 is given below:
A B C D
Opening stock:
- Units 10,000 15,000 20,000 25,000
- Cost (Rs.) 70,000 120,000 180,000 310,000
- NRV (Rs.) 75,000 110,000 180,000 300,000
Production in units 50,000 60,000 75,000 100,000
Costs of goods produced (Rs.) 400,000 600,000 825,000 1,200,000
Variable selling costs (Rs.) 60,000 80,000 90,000 100,000
Closing stock (units) 5,000 10,000 15,000 24,000
Unit cost of purchase from market (Rs.) 10.50 11.00 11.50 13.00
Selling price per unit (Rs.) 10.00 12.00 12.00 12.50
Damaged units included in closing stock 300 600 800 1,500
Unit cost to repair damaged units (Rs.) 3.00 2.00 2.50 3.50
Stock valuation method in use Weighted Weighted
FIFO FIFO
Average Average
The company estimates that in January 2010 selling expenses would increase by 10%.
Required:
Compute the amount of closing stock that should be reported in the balance sheet as on December 31, 2009. (15)

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CAF-03 Inventory valuation

Lecture # 7 (Inventory valuation) Lecture # 11 (Over all)

Class work
Question-1
(a) Identify any four situations under which the cost of inventories may exceed its net realisable value (02)
(b) Orange Limited (OL) manufactures four products. The information related to its inventory of each product for the
year ended 30 June 2021 is as follows:
A B C D
Closing inventory (units) 15,000 25,000 5,000 8,000
Cost per unit using weighted average method (Rs.) 800 700 900 1,275
Retail price per unit inclusive of 10% sales tax (Rs.) 1,144 990 1,320 1,980
Variable selling cost per unit (Rs.) 80 75 100 110
Defective units (included in closing inventory) 2,400 4,000 - -
Rework cost per defective unit (Rs.) 260 320 - -
Additional information:
• During physical inventory count of Product C, a discrepancy of 900 completed units was observed. On
investigation, it was found that 5,600 units supplied to a customer were erroneously recorded as 6,500 units.
• The defective units can be sold in the market at 60% of the current retail price without incurring any rework and
selling costs.
• Due to decrease in raw material prices, the products similar to B and D, offered by the competitors, are available
in the market at a discount of 15% and 20% respectively, of OL’s current retail price. OL would have to adjust
its sales prices accordingly.
Required:
(i)Prepare entries to record the adjustments that need to be incorporated for correct valuation of inventory (10)
(ii)Determine the adjusted value of inventory as at 30 June 2021. (03)

Home work

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CAF-03 Inventory valuation

Lecture # 8 (Inventory valuation) Lecture # 12 (Over all)

Class work

Question-1
Mehanti Limited (ML) produces and markets a single product Wee. Two chemicals Bee and Gee are used in the
ratio of 60:40 for producing 1 liter of Wee. ML follows perpetual inventory system and uses weighted average
method for inventory valuation. The purchase and issue of Bee and Gee for May 2012, are as follows:
Date Bee Gee
Receipt Issue Receipt Issue
Litre Rate Litre Litre Rate Litre
02-05-2012 - - 450 110 -
05-05-2012 - - 560 - - 650
09-05-2012 - - 300 - - 300
12-05-2012 420 52 - 700 115 -
18-05-2012 - - 250 - - 150
24-05-2012 500 55 - 250 124 -
31-05-2012 - - 500 - - 450
Following further information is also available:
(i) Opening inventory of Bee and Gee was 1,000 litres at the rate of Rs. 50 per litre and 500 litres at the rate of
Rs. 115 per litre respectively.
(ii) The physical inventories of Bee and Gee were 535 litres and 140 litres respectively. The stock check was
conducted on 01 June and 31 May 2012 for Bee and Gee respectively.
(iii) Due to contamination, 95 litres of Bee and 105 litres of Gee were excluded from the stock check. Their net
realisable values were Rs 20 and Rs. 50 per litre respectively.
(iv) 250 litres of Bee which was received on 01 June 2012 and 95 litres of Gee which was issued on 31 May
2012 after the physical count were included in the physical inventory.
(v) 150 litres of chemical Bee was held by ML on behalf of a customer, whereas 100 litres of chemical Gee was
held by one of the suppliers on ML’s behalf.
(vi) 100 litres of Bee and 200 litres of Gee were returned from the production process on 31 May and 01 June
2012 respectively.
(vii) 240 litres of chemical Bee purchased on 12th May and 150 litres of chemical Gee purchased on 24 th May
2012 were inadvertently recorded as 420 litres and 250 litres respectively.
Required:
(a) Reconcile the physical inventory balances with the balances as per book.
(b) Determine the cost of closing inventory of chemical Bee and Gee. Also compute the cost of contaminated
materials as on 31 May 2012. (15 marks)
[Autumn 12, Q-4]

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CAF-03 Inventory valuation
Solution 1
Orange limited
Value of inventory (using AVCO);
Rs
A (W-1) 92,520
B (W-2) 89,440
C (W-3) 67,000
D (W-4) 926,970
1,175,930

W-1 Product A
Closing units = 30 + 360 - 350 = 40 units
Rs
Cost:
(60,000 + 810,000 + 90,000 + 36,000) ÷ (30 + 360) = 2,554
NRV:
Normal
Sale price [1,015,000 / 350] 2,900
Cost to sell (150)
2,750
Damaged
Sale price [2,900 x 60%] 1,740
Cost to sell (150)
1,590
Value:
Normal [40 x 75% x 2,554] 76,620
Damaged [40 x 25% x 1,590] 15,900
92,520
W-2 Product B
Closing units = 60 + 780 - 800 = 40 units
Cost Rs
(90,000 + 1,560,000 + 150,000 + 78,000) ÷ (60 + 780) = 2,236
NRV:
Sale price [2,080,000 / 800] 2,600
Cost to sell (150)
2,450
Value:
[40 x 2,236] 89,890
W-3 Product C
Closing units = 40 + 560 - 580 = 20 units
Cost: Rs
(120,000 + 1,820,000 + 200,000 + 56,000) ÷ (40 + 560) = 3,660
NRV: Rs
Sale price 3,500
Cost to sell (150)
3,350

Value:
[20 x 3,350] 67,000

W-4 Product D
Closing units = 80 + 600 - 350 = 330 units

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CAF-03 Inventory valuation
Cost: Rs
(200,000 + 1,650,000 + 60,000) ÷ (80 + 600) = 2,809
NRV:
Sale price [1,155,000 / 350] 3,300
Cost to sell (150)
3,150

Value:
[330 x 2,809] 926,970

Answer

Product A Product B Product C Product D

UNITS ………………………….Units……………………..
Opening stock [A] 10,000 15,000 20,000 25,000
Manufactured [B] 50,000 60,000 75,000 100,000
[C] 60,000 75,000 95,000 125,000
Sale (bal.) [D] (55,000) (65,000) 80,000 (101,000)
Closing stock [E] 5,000 10,000 15,000 24,000

Cost/Value ………………………………….Rs………………………….
Opening stock [F] 70,000 110,000 180,000 300,000
Manufactured [G] 400,000 600,000 825,000 1,200,000
Total [H] 470,000 710,000 1,005,000 1,500,000

Cost per unit of closing stock

FIFO basis [G+B] - - 11.00 12.00
AVCO basis [H+C] 7.83 9.47 - -

NRV per unit

Sales price 10.00 12.00 12.00 12.50
Selling cost (1.20) (1.25) (1.24) (1.09)
NRV for normal units 8.80 10.65 10.76 11.41
Repair cost (3.00) (2.00) (2.50) (3.50)
NRV for damaged units 5.80 8.65 8.26 7.91

Value of closing inventory ……………………………..Units……..……………………….

Units
Normal [Total-Damaged] 4,700 9,400 14,200 22,500
Damaged 300 6,000 800 1,500
Total 5,000 10,000 15,000 24,000

Value ………………………………………..Rs………………………………
Normal 36,801 89,018 152,792 256,725
(4,700 x7.83) (9,400x9.47) (14,200x10.76) (22,500x11.41)
Damaged 1,740 5,190 6,608 11,865
(300 x 500) (600 x 8.65) (800 x 8.26) (1,500 x 7.91)
38,541 94,208 159,400 268,590

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CAF-03 Inventory valuation

Lecture # 9 (Inventory valuation) Lecture # 13 (Over all)

Class work
(A) Reconcile the physical inventory balances with the balances as per book.
Reconciliation (Bee) Liters
Bal. as per physical count (1st June) 535
Add: Contaminated Stock 95

Less: Receipt of June, 1 (250)

Third party stock (150)

Balance as per books (W-1) 230
(W-1) (Bee)
Reconciliation (Gee) Liters
st
Balance as per physical count (31 May) 140
Less: Issued after Count (95)
Actual Physical as on 31.5.20X3 45
Add: Contaminated stock 105
Stock with 3rd party 100
Stock as per books (W-2) 250
(W-1) (Bee)
Receipts Issues Balance
Date
Units PUC TC Units PUC TC Units PUC TC
1-5-X3 1,000 50 50,000
5-5- X3 560 50 28,000 440 50 22,000
9-5- X3 300 50 15,000 140 50 7,000
12-5- X3 420 52 21,840 560 51.5 28,840
18-5- X3 250 51.5 12,875 310 51.5 15,965
24-5- X3 500 55 27,500 810 53.66 43,465
31-5- X3 500 53.66 26,830 310 53.66 16,635
31-5- X3 (100) (53.66) 5366 410 53.66 22,001
31-5- X3 (180)* (52) (9,360) 230 54.96 12,641
(Adj)
*Purchases of 240 liters erroneously recorded as 420 liters now corrected. It is assumed that the error was
highlighted on 31st May or later.
(W-2) (Gee)
Receipts Issues Balance
Date
Units PUC TC Units PUC TC Units PUC TC
1-5- X3 500 115 57,500

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2-5- X3 450 110 49,500 950 112.63 107,000

5-5- X3 650 112.63 73,210 300 112.63 33,790
9-5- X3 300 112.63 33,789 - - -
12-5-X3 700 115 80,500 700 115 80,500
18-5- X3 150 115 17,250 550 115 63,250
24-5- X3 250 124 31,000 800 117.81 94,250
31-5- X3 450 117.81 53,015 350 117.81 41,235
31-5- X3 *(100) 124 12,400 250 115.34 28,835
*Purchases of 150 liters were erroneously recorded as 250 liters. It is assumed that error is highlighted on 31st May
20X3.
b) Determine the cost of closing inventory of chemical Bee and Gee. Also compute the cost of contaminated
materials as on 31 May 20X3.
Valuation of Bee
As on 31 May 20X3
Units PUC TC
Balance as per books 230 54.96 12,641
Less: contaminated stock (BV) (95) (54.96) (5,221)
Add: contaminated stock (NRV) 95 20 1,900
Balance as per books as on 31 May 20X3 230 40.52 9,320
Above calculated stock include 95 liters of contaminated stock @ 20/ liter i.e. its NRV
Thus the cost of closing inventory of Bee is Rs. 9,320 and cost of contaminated material would be Rs. 1,900
included above.
Valuation of Gee
As on 31 May 20X3
Units PUC TC
Stock as per books 250 115.34 28,835
Less: Contaminated stock (BV) (105) (115.34) (12,110.70)
Add: Contaminated stock (NRV) 105 50 5,250
Value of stock as on 31 May 20X3 250 87.90 21,974.30

Thus the cost of closing inventory of Gee is Rs. 21,974.30 including the cost of contaminated material Rs. 5,250.
Above calculated stock include 105 liters of contaminated material at its NRV i.e. Rs. 50/ liter.

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Accounting for overheads

Class work
Question-1
1 unit of a product requires 6 kgs of material and 10 hrs of direct labour. Material cost is Rs. 600 per kg
and direct labour cost is Rs. 400 per hour. FOH is included in product cost at Rs. 140 per direct labour
hour.
Required
Calculate product cost per unit.
Question-2
1 unit of a product requires 4 kgs of material and 3 hrs of direct labour. Material cost is Rs.100 per kg and
direct labor cost is Rs 250 per hour. FOH is included in product cost at 50% of direct material cost.
Required
Calculate product cost per unit.
Question-3
Budgeted information for the year 2025 is as follows:
Production 500 units
Total Direct material cost Rs.12,500
Total Direct labour cost (Rs.50 per hour) Rs 500,000
Total FOH Rs.75,000
Machine hours 5 hours per unit
Required
a) Calculate overhead absorption rate (OAR) based on:
(i) Direct labour hours (ii) Machine hours (iii) Production units
(iv) Direct labour cost (v) Direct material cost (vi) Prime cost
b) For each part calculated in (a) above, calculate product cost per unit using OAR calculated in each
part. above
Question-4
Alpha Ltd. provided following data for the month of April, 2018:
Budgeted direct labour hours 25,600
Budgeted machine hours 80,000
Budgeted units of product 500,000
Rs.
Budgeted direct material cost 1 million
Budgeted direct labour cost 0.64 million
Budgeted Factory overheads cost
Fixed FOH 0.3 million
Variable FOH 0.5 million

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Required
Calculate predetermined factory overheads absorption rate based on:
a) Direct labour hours d) Direct labour cost
b) Machine hours e) Direct material cost
c) Units of product f) Prime cost

Question-5
Cost accounting department of Zain Ltd. made the following estimates for the coming year:
Factory overheads cost Rs. 525,000
Direct material cost Rs. 750,000
Production volume 40,000 units
Direct labour cost Rs. 300,000
Direct labour time 60,000 hours
Required
1) Calculate predetermined factory overheads absorption rate based on:
a) Direct labour hours b) Direct material cost
b) Direct labour cost
1) Calculate total production cost of job No. 924 by using each absorption rate from part (1), if job
No. 924 requires:
• Direct material cost Rs. 20,000
• Direct labour cost (1,400 labour hours) Rs. 8,400

Question-6
Rashid Ltd. produces three products. Company has provided estimated factory overheads cost of Rs.
100,000 which is based on estimated machine hours for the next month.
Following estimated information is also provided for the next month:
Product A Product B Product C
Budgeted production units 5,000 10,000 15,000
Budgeted machine hours per unit 2 2.5 1
Actual information is as under:
Product Product Product
A B C
Direct material cost per unit Rs. 10 Rs. 12 Rs. 8
Direct labour cost per unit Rs. 9 Rs. 6 Rs. 7
Actual production units and actual machine hours were same as budgeted.
Required
(i) Calculate plant wide factory overheads absorption rate based upon machine hours.
(ii) Calculate cost per unit for each product using above absorption rate.
(iii) Calculate sale price per unit if company adds markup equal to 20% of cost.

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Home work
Question-7
Budgeted info for the year 2025 is as follows:
Direct material cost Rs.600,000
Direct labour cost (400 per hour) Rs.100,000
Repair and maintenance Rs.60,000
Indirect labour Rs.140,000
Indirect material Rs.30,000
Fuel & power Rs.70,000
Depreciation Rs.95,000
Other FOH Rs.25,000
Production 1,000 units
Machine hours 3 hrs per unit
Required
Calculate OAR based on all 6 basis.
Question-8
Rehman Ltd. estimates its factory overheads cost for the next year amounting Rs. 1.5 million. It is
estimated that 400,000 units will be produced at direct material cost of Rs. 600,000 and production ofthese
units will required 300,000 direct labour hours at an estimated wages cost of Rs. 1,800,000. The machines
will run about 500,000 hours.
Required
Calculate predetermined factory overheads absorption rate based on:
a) Direct labour hours d) Direct labour cost
b) Machine hours e) Direct material cost
c) Units of product f) Prime cost
Question-9
Cost accounting department of Haris Ltd. made the following estimates for the coming year:
Factory overheads cost Rs. 800,000
Direct material cost Rs. 1,200,000
Production volume 100,000 units
Direct labour cost Rs. 1,000,000
Direct labour time 80,000 hours
Machine hours 50,000 hours
Required
1) Calculate predetermined factory overheads absorption rate based on:
a) Direct labour hours b) Direct material cost
b) Direct labour cost d) Machine hours
2) Calculate total production cost of job No. 110 by using each absorption rate from part (1), if job
No. 110 requires:
• Direct material cost Rs. 72,000
• Direct labour cost (2,500 labour hours) Rs. 64,000
• Machine hours 2,800 hours
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Lecture # 2 (Overheads) Lecture # 14 (Over all)

Accounting for overheads

Class work
1) Solved question 1, 2, 3, 4, 5 and 6 from lecture 13 handout
2) Solved ICAP past paper question (Spring 2008, Q-2)
Question-10
a) Explain the treatment of under-absorbed and over-absorbed factory overheads. Give three reasons for
under-absorbed / over absorbed factory overheads. (06)
b) On December 1, 2007 Zia Textile Mills Limited purchased a new cutting machine for Rs. 1,300,000
to augment the capacity of five existing machines in the Cutting Department. The new machine has
an estimated life of 10 years after which its scrap value is estimated at Rs. 100,000. It is the policy of
the company to charge depreciation on straight line basis.
The new machine will be available to Cutting Department with effect from February 1, 2008. It is
budgeted that the machine will work for 2,600 hours in 2008. The budgeted hours include:
− 80 hours for setting up the machine; and
− 120 hours for maintenance.
The related expenses, for the year 2008 have been estimated as under:
i) Electricity used by the machine during the production will be 10 units per hour @ Rs. 8.50 per
unit.
ii) Cost of maintenance will be Rs. 25,000 per month.
iii) The machine requires replacement of a part at the end of every month which will cost Rs. 10,000
on each replacement.
iv) A machine operator will be employed at Rs. 9,000 per month.
v) It is estimated that on installation of the machine, other departmental overheads will increase by
Rs. 5,000 per month.
Cutting Department uses a single rate for the recovery of running costs of the machines. It has been
budgeted that other five machines will work for 12,500 hours during the year 2008, including 900
hours for maintenance. Presently, the Cutting Department is charging Rs. 390 per productive hour for
recovery of running cost of the existing machines.
Required:
Compute the revised machine hour rate which the Cutting Department should use during the year
2008. (08)
(Spring 2008, Q.2)

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Home work
Question-11
(a) List any two examples of bases for absorption of factory overheads. Also briefly discuss how a
base should be selected.
(b) Venus Limited (VL) is a manufacturer of consumer goods. Below are the details related to
overheads of its production department for the year:
Total machine hours available (2500 hours per machine) 7,500
Machine maintenance hours (150 hours per machine) 450
Departmental overhead absorption rate per productive machine hour Rs. 850

The management of VL has decided to replace one of its existing machines having zero book
value with a new machine which will cost Rs. 1,200,000 and has a useful life of 10 years. The
machine will be available for use from the beginning of next year and is expected to run for 2,500
hours during the next year including:
(i) 80 hours for setting up the machine; and
(ii) 110 hours for machine maintenance.
The estimated overheads for the year related to the new machine are given below:

Electricity consumption per hour Rs. 180

Annual maintenance cost Rs. 200,000
Indirect labour cost Rs. 50,000
It has also been decided that from the beginning of next year, one of the managers from another
department will be moved to the production department for monitoring the line efficiency. The
manager’s salary is Rs. 30,000 per month.
Required:
Compute the revised overhead absorption rate for the production department for the next year.(06)
(Autumn 2022, Q.4)

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Lecture # 3 (Overheads) Lecture # 15 (Over all)

Accounting for overheads

Class work
1) Provided solution of question 4, 7, 8 and 9 from lecture 13 handout:
Solution 4
Rs 800,000
(a) OAR = 25,600 hours = Rs. 31.25 per direct labour hour
Rs 800,000
(b) OAR = 80,000 hours
= Rs. 10 per machine hour
Rs 800,000
(c) OAR = 500,000 units
= Rs. 1.6 per unit
Rs 800,000
(d) OAR = x 100 = 125% of diect labour cost
Rs 640,000
Rs 800,000
(e) OAR = Rs 1,000,000
x 100 = 80% of diect material cost
Rs 800,000
(f) OAR = Rs 1,640,000
x 100 = 48.78% of prime cost
Solution 7
420,000
(i) OAR = 2,500
= Rs. 168 per labour hour
420,000
(ii) OAR = 3000
= Rs. 140 per machine hour
420,000
(iii) OAR = 1000
= Rs. 420 per unit
420,000
(iv) OAR = = 42% of labour cost
1,000,000
420,000
(v) OAR = = 70% of material cost
600,000
420,000
(vi) OAR = x 100 = 26.25% of prime cost
1,600,000

Solution 8
Rs 1,500,000
(a) OAR = 300,000 = Rs. 5 per direct labour hour
Rs 1,500,000
(b) OAR = 500,000
= Rs. 3 machine hour
Rs 1,500,000
(c) OAR = 400,000
= Rs. 3.75 per unit
Rs 1,500,000
(d) OAR = 1,800,000
x 100 = 83.33% of direct labour cost
Rs 1,500,000
(e) OAR = x 100 = 250% of direct material cost
600,000
Rs 1,500,000
(f) OAR = 2,400,000
x 100 = 62.5% of prime cost

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Solution 9
Part 1
Rs 800,000
(a) OAR (labour hour) = 80,000 = Rs. 10 of direct labour hour
Rs 800,000
(b) OAR (material cost) = 1,200,000
x 100 = 67% of direct material cost
Rs 800,000
(c) OAR (labour cost) = 1,000,000
x 100 = 80% of direct labour cost
Rs 800,000
(d) OAR (machine hour) = 50,000
= Rs. 16 per machine hours

Part 2

2) Solved question 10 (Spring 2008, Q-2) from lecture 14 handout.

3) Little discussion of question 11 (Autumn 2022, Q-4) from lecture 14 handout and provided solution:
Solution (Autumn 2022, Q-4)
Budgeted Total FOH cost of 3 machine
Revised OH absorption Rate =
Budgeted total productive machine hour of 3 machine
Rs 5,140,800 (w−2)
= = Rs. 733.35 per machine hour
7,010 hours (w−1)

(W-1) Revised budgeted total productive machine hour of 3 machine: Hours

Budgeted hours of remaining 2 machine (5000-300) 4,700
Budgeted hours of remaining new machine (2,500-80-110) 2,310
7,010
(W-2) Revised budgeted total FOH of 3 machines
Total budgeted FOH of 2 existing machines (Rs850x4700) 3,995,000
Total budgeted FOH of 1 new machine:
Depreciation [1,200,000 / 10] 120,000
Electricity [2,310 hrs x Rs 180] 415,800
Annual maintenance 200,000
Indirect labour cost 50,000
Managers salary [12 months x Rs30,000] 360,000
1,145,800
5,140,800

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4) Started discussion on departmental rate system and solved ICAP past paper question 6
(Autumn 2008)
Question-12 (Autumn 2008, Q-6)
Ternary Engineering Limited produces front and rear fenders for a motorcycle manufacturer. It
has three production departments and two service departments. Overheads are allocated on the
basis of direct labour hours. The management is considering to change the basis of overhead
allocation from a single overhead absorption rate to departmental overhead rate. The estimated
annual overheads for the five departments are as under:
Production Departments Service Departments
Fabrication Phosphate Painting Inspection Maintenance
-------------------------Rs. in 000--------------------------------
Direct materials 6,750 300 750
Direct labour 1,200 385 480
Indirect material 30 75
Other variable overheads 200 70 100 30 15
Fixed overheads 480 65 115 150 210
Total departmental expenses 8,630 820 1,445 210 300

Maximum production capacity 20,000 25,000 30,000

Direct labour hours 24,000 9,600 12,000
Machine hours 9,000 1,000 1,200
Use of service departments:
Maintenance - Labour hours 630 273 147
Inspection - Inspection hours 1,000 500 1,500
Required:
(a) Compute the single overhead absorption rate for the next year. (06)
(b) Compute the departmental overhead absorption rates in accordance with the following:
• The Maintenance Department costs are allocated to the production department on the
basis of labour hours.
• The Inspection Department costs are allocated on the basis of inspection hours.
• The Fabrication Department overhead absorption rate is based on machine hours
whereas the overhead rates for Phosphate and Painting Departments is based on direct
labour hours. (10)

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Home work
Question-13
The estimated overheads likely to be incurred relating to a cost center with two major machines installed
are as under:
Rupees
Supervision 8,000
Indirect employees, wages 10,000
Earned leave 5,000
Maintenance cost 15,000
Power 20,000
Depreciation 5,000
Rent of building 2,500
65,000
Details of various allocations of the cost centers are as under
Machine1 Machine2 Total
Running hours 5,000 1,000 6,000
1) Supervision cost Rs 4,000 4,000 8,000
2) Capital cost of machine Rs 20,000 5000 25,000
3) Indirect employees No 8 2 10
4) Total employees No 20 5 25
5) Maintenance hours 600 120 720
6) Kilowatt hours 100,000 20,000 120,000
7) Floor Space Sq. ft 5,000 5,000 10,000

Required: Calculate machine hour rate for each machine. (10)

(Autumn 2003, Q-3)

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CAF-03 Accounting for overheads

Lecture # 4 (Overheads) Lecture # 16 (Over all)

Accounting for overheads

Class work
1) Discussed calculation of department wise OAR and some common apportionment basis.
2) Solved question 12 (Autumn 2008, Q-6) from lecture 15 handout.
3) Solved following question:
Question-14
Alpha Limited is preparing its departmental budgets and product cost estimates for the next Year. The
costs and related data for the year ending 31 December 2014 have been estimated as follows:
Machining Assembly Finishing Maintenance Total
Rupees in ‘000
Costs:
Direct wages 274 146 328 - 746
Indirect wages 46 27 36 137 246
Direct materials 365 46 18 - 429
Indirect materials 68 18 36 91 213
Power 465
Light and heat 46
Depreciation 108
Rent and rates 114
Warehousing cost 98
Other related data:
Machining Assembly Finishing Maintenance Total
Direct labor hours 12,000 8,000 16,000 6,000 42,000
Machine hours 40,000 2,000 3,000 45,000
No. of employees 6 4 8 3 21
Floor area (m2) 1000 400 300 300 2000
Net book value of fixed assets (Rs 000) 20,000 8,000 3,000 4,000 35,000
80% of the maintenance department’s time is used in the maintenance of machines whereas the remaining
time is consumed in cleaning and maintenance of factory buildings.
Required:
Calculate appropriate overhead absorption rates for the machining, assembly and finishing Departments. (12)
(Spring 2014, Q. 2)

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Home work
Question-15
The factory overhead budget of a manufacturing company for the year ending June 30, 2006 is as
follows:
Rupees
Indirect wages 1,627,920
Insurance – labour 114,240
Supervision 514,080
Machine maintenance wages 485,520
Supplies 257,040
Power 828,240
Tooling cost 285,600
Building insurance 14,280
Insurance of machinery 399,840
Depreciation -machinery 856,800
Rent and rates 371,280
5,754,840
At present, overheads are absorbed into the cost of the company’s products at 70% of direct wages. The
company is considering changing to a separate machine hour rate of absorption for each of its four
different machine groups.
The following are some further details of costs and machine groups:
Machine groups
A B C D Total
Tooling costs (Rs.) 115,958 88,042 55,832 25,768 285,600
Supervision (Rs.) 159,340 145,471 111,877 97,392 514,080
Supplies (Rs.) 118,634 79,089 19,772 39,545 257,040
Machine maintenance hours 3,000 2,000 4,000 1,000 10,000
Number of indirect workers 6 6 2 2 16
Total number of workers 26 34 15 10 85
Floor space (Sq.ft.) 3,000 2,400 1,600 1,000 8,000
Capital cost of machines (Rs.’000) 3,200 2,400 1,000 1,800 8,400
Horse-power hours 55,000 27,000 8,000 15,000 105,000
Machine running hours 30,000 60,000 25,000 10,000 125,000
Required:
(a) Calculate a machine hour rate for each group of machines;
(b) Calculate the overhead to be absorbed by product no. 123 involving:
Machine group Hours
A 8
B 3
C 1
D 4
(c) Calculate the overhead to be absorbed by each unit of product 123 if the labour cost is Rs.1,200 and
the present method of absorption is used. (15)
(Autumn 2005, Q. 4)

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Lecture # 5 (Overheads) Lecture # 17 (Overall)

Accounting for overheads
Class work
Question no 1
The expenses of the production and service departments of a company for a year are as follows:
Expenses before distribution of Service provided
Department service department costs (%age)
Rs. ‘000’ Deptt. X Deptt. Y
Production department – A 500 50 40
–B 400 30 50

Service department –X 100 - 10

–Y 60 20 -
Required:
Allocate the service departments expenses to production departments by:
i) Repeated distribution method
ii) Simultaneous equation method (13)

Home work
QUESTION 2
Zaiqa Limited (ZL) is engaged in the business of manufacturing fruit jam. It has three production and two service
departments. Following information is available from ZL’s records for the month of August 2013:
Rupees
Rent and rates 85,000
Indirect wages 60,000
General lighting 75,000
Power 150,000
Depreciation machinery 50,000
Following further information relating to the departments is also available:
Production departments Service departments
Selection Jam making Bottling Storage Distribution
Direct wages (Rs.) 60,000 80,000 32,000 8,000 20,000
Power consumed (KWH) 1,000 6,000 2,000 1,000 -
Floor area (Sq. ft.) 1,500 2,000 1,250 1,000 500
Light points (Nos.) 10 20 15 5 10
Production hours 1,533 3,577 1,815 - -
Labor hours per bottle 0.10 0.25 0.15 - -
Cost of machinery (Rs.) 600,000 1,200,000 900,000 300,000 -
After production, the jam bottles are finally packed in a carton consisting of 12 bottles. The services department’s
costs are apportioned as follows:

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CAF-03 Accounting for overheads

Production Departments Service Departments

Selection Jam making Bottling Storage Distribution
Storage 10% 30% 40% - 20%
Distribution 20% 50% 30% - -

Raw and packing material costs of Rs. 36 and labor cost of Rs. 25 is incurred on each bottle.
Required:
Calculate the cost of each carton. (16)
(Autumn 2013 Q#4)
QUESTION-3
Salman Limited (SL) has two production departments, PD-A and PD-B, and two service Departments,
SD-1 and SD-2. A summary of budgeted costs for the year ending June 2015 is as follows:
PD-A PD-B SD-1 SD-2 Total
………….Rs. in ‘000’…………
Direct labour 5,400 3,648 - - 9,048
Direct material 13,500 9,120 - - 22,620
Indirect labour 1,900 600 50 20 2,570
Indirect materials 900 1,100 150 55 2,205
Factory rent - - - - 1,340
Power cost - - - - 1,515
Depreciation - - - - 3,500
Other related data is as follows:
PD-A PD-B SD-1 SD-2
Production (units) 2,250 800 - -
Direct labour hours (per unit) 20 38 - -

Machine hours 19,250 12,250 2,800 700

Kilowatt hours (000) 800 600 50 150
Floor area (square feet) 5,000 4,000 500 500
Basis of overhead application Machine Direct
Hours labor hours - -
SL allocates the costs of service departments applying repeated distribution method.
Details of services provided by SD-1 and SD-2 to the other departments are as follows:
Service department PD-A PD-B SD-1 SD-2
SD-1 30% 65% - 5%
SD-2 55% 35% 10%
Required:
Compute the departmental overhead absorption rate. (10)
(Autumn 2014 Q # 7 (b))

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QUESTION-4:
Nitrate Ltd (NL), producing industrial chemicals, has three production and two service departments. The
annual overheads are as follows:
Rs.'000'
Production departments:
A 56,000
B 50,000
C 38,000
Service departments:
X 16,500
Y 10,600
The service departments' costs are apportioned as follows:
Service
Production departments
Departments
A B C X Y
Service department X 20% 40% 30% - 10%
Service department Y 40% 20% 20% 20% -
Required:
Apportion costs of service departments using simultaneous equation method and repeated distribution
method. (15)
(Q.2 March 2012)
QUESTION-5:

From the following information, allocate overheads of service departments to individual producing
departments by adopting algebraic method:

Departmental
overheads before
distribution of Service Provided
Service
Departments Departments Dept Y Dept Z
Producing Dept – A Rs 6,000 40 % 20 %
Producing Dept – B Rs 8,000 40 % 50 %
Service – Y Rs 3,630 - 30 %
Service – Z Rs 2,000 20 % -

Total Departmental Overheads Rs 19,630 100 % 100 %

(10)

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Q no 13(Lecture 15)
Solution:
Step 1: Budgeted FOH Distribution sheet

FOH costs Basis Total (Rs) Machine (Rs) Machine2(Rs)

Supervision Given 8,000 4,000 4,000
Indirect wages cost No. of indirect employees 10,000 8,000 2,000
Earned leave Total No. of employees 5,000 4,000 1,000
Maintenance cost Maintenance hours 15,000 12,500 2,500
Power cost Kilowatt hours 20,000 16,667 3,333
Depreciation of machines Capita cost of machines 5,000 4,000 1,000
Rent of building Floor space 2,500 1,250 1,250
65,500 50,417 15,083
Step 2: Machine hour rate (FOH Absorption rate based on machine hours)

Budgeted FOH cost of machine 1

Machine 1 Absorption rate =
budgeted machine hours

Rs. 50,417
Machine 1 Absorption rate =5,000 machine hours= Rs. 10.08 per machine hour

Budgeted FOH cost of machine 2

Machine 2 Absorption rate = budgeted machine hours

Rs. 15,083
Machine 1 Absorption rate =1,000 machine hours= Rs.15.08 per machine hour

Q no 15 (Lecture 16)
Solution
Step 1 : Budgeted Factory Overhead Distribution Sheet
Cost Basis Total (Rs) A (Rs) B (Rs) C (Rs) D (Rs)
Indirect wages Indirect worker 1,627,920 610,470 610,470 203,490 203,490
Labour insurance Total workers 114,240 39,944 45,696 20,160 13,400
supervision Given 514,080 159,340 145,471 111,877 97,392
Machine Maintenance 485,520 145,656 97,104 194,208 48,552
Maintenance wages hours
Supplies Given 257,040 118,634 79,809 19,772 39,545
Power Horse power 828,240 433,840 212,976 63,104 118,320
hours
Tooling Cost Given 258,600 115,958 88,042 55,382 25,768
Building insurance Floor space 14,280 5,355 4,284 2,856 1,786
Insurance of Capital cost 399,840 152,320 114,420 47,600 85,680
machine
Depreciation of Capital cost 856,800 326,400 244,800 102,000 183,600
machinery
Rent Floor space 371,280 139,230 111,384 74,256 46,410
Total Budgeted Overhead 5,754,840 2,242,147 1,753,556 895,155 863,982

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Step 2: Machine Hours rate (Absorption rate based on machine hours)

𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝐹𝑂𝐻 𝑐𝑜𝑠𝑡 𝑅𝑠 2,242,147

Machine A =
𝑚𝑎𝑐ℎ𝑖𝑛𝑒 𝑟𝑢𝑛𝑛𝑖𝑛𝑔 ℎ𝑜𝑢𝑟𝑠 30,000 𝑚𝑎𝑐ℎ𝑖𝑛𝑒 ℎ𝑜𝑢𝑟𝑠

=Rs.74.74 per machine hours

𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝐹𝑂𝐻 𝑐𝑜𝑠𝑡 𝑅𝑠 1,753,55
Machine B 𝑚𝑎𝑐ℎ𝑖𝑛𝑒 𝑟𝑢𝑛𝑛𝑖𝑛𝑔 ℎ𝑜𝑢𝑟𝑠
= 60,000 𝑚𝑎𝑐ℎ𝑖𝑛𝑒 ℎ𝑜𝑢𝑟𝑠

=Rs 29.23 per machine hours

𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝐹𝑂𝐻 𝑐𝑜𝑠𝑡 𝑅𝑠 85,155
Machine C =
𝑚𝑎𝑐ℎ𝑖𝑛𝑒 𝑟𝑢𝑛𝑛𝑖𝑛𝑔 ℎ𝑜𝑢𝑟𝑠 25,000 𝑚𝑎𝑐ℎ𝑖𝑛𝑒 ℎ𝑜𝑢𝑟𝑠

=Rs 35.81 per machine hours

𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝐹𝑂𝐻 𝑐𝑜𝑠𝑡 𝑅𝑠 863,982
Machine D 𝑚𝑎𝑐ℎ𝑖𝑛𝑒 𝑟𝑢𝑛𝑛𝑖𝑛𝑔 ℎ𝑜𝑢𝑟𝑠
= 10,000 𝑚𝑎𝑐ℎ𝑖𝑛𝑒 ℎ𝑜𝑢𝑟𝑠

=Rs 86.40 per machine hour

b) overhead absorbed to product No.123 by using machine hour rate

FOH absorbed to product 123 Rs

Machine A (Rs.74.74 per MH x 8 MH per unit) 598
Machine B (Rs.29.23 per MH x 3 MH per unit) 88
Machine C (Rs.35.31 per MH x 1MH per unit) 36
Machine D (Rs.86.30 per MH x 4 MH per unit) 345
1,067

C) overhead absorbed to product No.123 under present method

FOH cost absorbed =present FOH absorption rate x Actual labour cost

= 70% of Direct Labour cost

= 0.7 x Rs.1200

= Rs.840

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Lecture # 6 (Overheads) Lecture # 18 (Overall)

Class work
1. Discussed question 13 (from lecture 15 handout) and question 15 (from lecture 16 handout).
Solutions to these questions were provided in lecture 17 handout.
2. Discussed concept of reciprocal / non-reciprocal servicing of service departments [SDs] for
allocation of costs of service departments and solved following questions.
Question-16 (Illustration)
Asghar Limited (AL) has two production departments, PD-A and PD-B, and three service Departments,
SD-1, SD-2 and SD-3. Total budgeted departmental overheads after primary distribution (i.e., before
distribution of service departments costs are as follows:
PD-A PD-B SD-1 SD-2 SD-3
FOH expenses (Rupees) 800,000 1,000,000 200,000 150,000 400,000
Budgeted direct labour hours 12,000 18,000 - - -
SDs provide support as follows:
SD-1 40% 60% - - -
SD-2 80% 20% - - -
SD-3 50% 50% - - -
Required: Calculate overhead absorption rate for each production department.
Question-17 (Illustration)
Assume all data is same as in question 16 above, except SDs provide support as follows:
PD-A PD-B SD-1 SD-2 SD-3
SD-1 40% 60% - - -
SD-2 50% 20% 15% - 15%
SD-3 40% 40% 20% - -
Required: Calculate overhead absorption rate for each production department.
Question-18 (Spring 09, Q-5)
The expenses of the production and service departments of a company for a year are as follows:
Expenses before distribution Service provided
Department of service department costs (%age)
Rs. ‘000’ Deptt. X Deptt. Y
Production department – A 500 50 40
–B 400 30 50

Service department –X 100 - 10

–Y 60 20 -
Required:
Allocate the service departments expenses to production departments by:
i) Repeated distribution method
ii) Simultaneous equation method (13)
Question-19 (Spring 2004, Q-8)
From the following information, allocate overheads of service departments to individual producing
departments by adopting algebraic method:
Departmental overheads before Service Provided
Departments distribution of Service Departments Dept Y Dept Z
Producing Dept – A Rs 6,000 40 % 20 %
Producing Dept – B Rs 8,000 40 % 50 %
Service – Y Rs 3,630 - 30 %
Service – Z Rs 2,000 20 % -

Total Departmental Overheads Rs 19,630 100 % 100 %

(10)

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Home work
Question-20 (Autumn 14, Q-7[b]
Salman Limited (SL) has two production departments, PD-A and PD-B, and two service Departments,
SD-1 and SD-2. A summary of budgeted costs for the year ending June 2015 is as follows:
PD-A PD-B SD-1 SD-2 Total
………….Rs. in ‘000’…………
Direct labour 5,400 3,648 - - 9,048
Direct material 13,500 9,120 - - 22,620
Indirect labour 1,900 600 50 20 2,570
Indirect materials 900 1,100 150 55 2,205
Factory rent - - - - 1,340
Power cost - - - - 1,515
Depreciation - - - - 3,500
Other related data is as follows:
PD-A PD-B SD-1 SD-2
Production (units) 2,250 800 - -
Direct labour hours (per unit) 20 38 - -

Machine hours 19,250 12,250 2,800 700

Kilowatt hours (000) 800 600 50 150
Floor area (square feet) 5,000 4,000 500 500
Basis of overhead application Machine Direct
Hours labor hours - -
SL allocates the costs of service departments applying repeated distribution method.
Details of services provided by SD-1 and SD-2 to the other departments are as follows:
Service department PD-A PD-B SD-1 SD-2
SD-1 30% 65% - 5%
SD-2 55% 35% 10%
Required:
Compute the departmental overhead absorption rate. (10)

Question- 21 (Spring 2012, Q-2)

Nitrate Ltd (NL), producing industrial chemicals, has three production and two service departments. The
annual overheads are as follows:
Rs.'000'
Production departments:
A 56,000
B 50,000
C 38,000
Service departments:
X 16,500
Y 10,600
The service departments' costs are apportioned as follows:
Production departments Service Departments
A B C X Y
Service department X 20% 40% 30% - 10%
Service department Y 40% 20% 20% 20% -
Required:
Apportion costs of service departments using simultaneous equation method and repeated distribution
method. (15)

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Lecture # 7 (Overheads) Lecture # 19 (Overall)

Accounting for overheads
Class work
Question-21 (Autumn 2004, Q-2)
The AJFA & Co is preparing its production overhead budgets and therefore need to determine the
apportionment of these overheads to products. Cost center expenses and related information have been
budgeted as below:
Machine Machine
Total Assembly Canteen Maintenance
Shop A Shop B
Direct Wages Cost (Rs.) 518,920 128,480 99,640 290,800 --- ---
Indirect Wages (Rs.) 313,820 34,344 36,760 62,696 118,600 61,420
Consumable Material
(incl. Maintenance) (Rs.) 67,600 25,600 34,800 4,800 2,400
Rent & Rates (Rs.) 66,800
Building Insurance (Rs.) 9,600
Heat & Light (Rs.) 13,600
Power expenses (Rs.) 34,400
Depreciation of Machine (Rs.) 160,800
Area (Square feet) (Rs.) 90,000 20,000 24,000 30,000 12,000 4,000
Value of Machines (Rs.) 1,608,000 760,000 716,000 88,000 12,000 32,000
Power Usage (%) 100% 54% 40% 3% 1% 2%
Direct Labour (Hours) 72020 16020 12410 43590
Machine Usage (Hours) 54,422 14,730 37,632 2,060
The proportion of Maintenance cost center time spent for other cost centers is:
Machine Shop A 45%
Machine Shop B 40%
Assembly 13%
Canteen 2%
Required: Allocate the overhead expenses by using the appropriate bases of apportionment. (12)
Question-22 (Autumn 13, Q-4)
Zaiqa Limited (ZL) is engaged in the business of manufacturing fruit jam. It has three production and two
service departments. Following information is available from ZL’s records for the month of August 2013:
Rupees
Rent and rates 85,000
Indirect wages 60,000
General lighting 75,000
Power 150,000
Depreciation machinery 50,000

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CAF-03 Accounting for overheads
Following further information relating to the departments is also available:
Production departments Service departments
Jam
Selection Bottling Storage Distribution
making
Direct wages (Rs.) 60,000 80,000 32,000 8,000 20,000
Power consumed (KWH) 1,000 6,000 2,000 1,000 -
Floor area (Sq. ft.) 1,500 2,000 1,250 1,000 500
Light points (Nos.) 10 20 15 5 10
Production hours 1,533 3,577 1,815 - -
Labor hours per bottle 0.10 0.25 0.15 - -
Cost of machinery (Rs.) 600,000 1,200,000 900,000 300,000 -
After production, the jam bottles are finally packed in a carton consisting of 12 bottles. The services
department’s costs are apportioned as follows:
Production Departments Service Departments
Selection Jam making Bottling Storage Distribution
Storage 10% 30% 40% - 20%
Distribution 20% 50% 30% - -
Raw and packing material costs of Rs. 36 and labor cost of Rs. 25 is incurred on each bottle.
Required:
Calculate the cost of each carton. (16)

Home work
Question-23 (Autumn 06, Q-1)
Hi-way Engineering Limited uses budgeted overhead rate for applying overhead to production orders on a
direct labour cost basis for department A and on a machine hour basis in department B. The company made
the following forecasts for August 2006:
Dept. A Dept. B
Budgeted factory overhead (Rs.) 216,000 225,000
Budgeted direct labour cost (Rs.) 192,000 52,500
Budgeted machine hours 500 10,000
During the month, 50 units were produced in Job no. CNG-011. The job cost sheet for the month depicts
the following information.
Dept. A Dept. B
Material issued (Rs.) 1,500 2,250
Direct labour cost (Rs.) 1,800 1,250
Machine hours 60 150

Actual data for the month were as follows:

Factory overhead (Rs.) 240,000 207,000
Direct labour cost (Rs.) 222,000 50,000
Machine hours 400 9,000
Required:
a) Compute predetermined overhead rates for each department. (2)
b) Work out the total costs and unit cost of Job no. CNG-011. (4)
c) Compute the over / under applied overhead for each department (2)

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CAF-03 Accounting for overheads
Question-24 (Spring 11, Q-2)
Amber Ltd (AL) manufactures a single product. Following information pertaining to the year 2010 has been
extracted from the records of the company's three production departments:
Material Labour Machine
Department
Rs. million Hours
A 80 200,000 400,000
Budgeted B 150 500,000 125,000
C 120 250,000 350,000
A 80 220,000 340,000
Actual B 150 530,000 120,000
C 120 240,000 320,000
AL produced 3.57 million units during the period. The budgeted labour rate per hour is Rs.120. The
overheads for department-A is budgeted at Rs.5 million, for department-B at 15% of labour cost and for
department-C at 5% of prime cost of the respective departments. Actual overheads for department A, B and
C are Rs.5.35 million, Rs.8.90 million and Rs.7.45 million respectively.
Overheads are allocated on the following basis:
Department-A Machine hours
Department-B Labour hours
Department-C % of prime cost
There was no beginning or ending inventory in any of the production departments.
Required:
(a) Budgeted overhead application rate for each department. (5)
(b) The total and departmental actual cost for each unit of product. (8)
(c) The over or under applied overhead for each department. (3)

Question-25 (Spring 22, Q-5)

California Limited (CL) runs a factory which has two production departments AB and AC, and two service
departments SA and SB. CL allocates the cost of service departments using simultaneous equation method.
A summary of budgeted overheads for the year ending 31 December 2022 is as follows:
Rs. in '000
Factory rent 2,500
Fuel cost 1,800
Depreciation 2,000
Electricity and other utilities 1,100
Other related information is given below:
Production department Service department
Total
AB AC SA SB
Machine hours 22,000 12,000 - - 34,000
Labour hours 8,000 10,000 - - 18,000
Floor area (square feet) 6,000 4,500 900 600 12,000
SA - % of services 40% 40% - 20%
SB - % of services 45% 40% 15% -
Machine hours Labour
Basis of overhead absorption
hours
The per hour fuel consumption of machines in department AC is 50% more than that of machines in
department AB.
Required:
Compute the departmental overhead absorption rate. (08)

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CAF-03 Accounting for overheads
Answer-19 [Spring 2004, Q-8]
A (Rs) B (Rs) Y (Rs) Z (Rs)
Production overhead cost 6,000 8,000 3,630 2,000
Allocation of Service Department cost
Cost of Y (W-1) – 40%,40%,20% 1,800 1,800 (4,500) 900
Cost of Z (W-2) – 20%,50%,30% 580 1,450 870 (2,900)
8,380 11,250 0 0
(W–1) Algebraic Method
Y = Rs. 3,630 + 0.3Z
Z = Rs. 2,000 + 0.20Y
Y = Rs. 4,500
Z = Rs. 2,900
Answer-20 [Autumn 2014, Q-7(b)]
Allocation Total PD-A PD-B SD-1 SD-2
basis ----------------------------------------Rs. in 000----------------------------------------
Indirect labour Given 2,570 1,900 600 50 20
Indirect materials Given 2,205 900 1,100 150 55
Factory rent Floor area 1,340 670 536 67 67
Power Kilowatt hrs. 1,515 758 568 47 142
Depreciation Machine hrs. 3,500 1,925 1,225 280 70
11,130 6,153 4,029 594 354
Allocation of service departments cost:
SD-1 30:65:5 178 386 (594) 30
SD-2 55:35:10 211 134 39 (384)
SD-1 30:65:5 12 25 (39) 2
SD-2 55:35:10 1 1 0 (2)
6,555 4,576 - -
Base Machine hrs. Direct labour hrs.
Machine / Direct labour hours 19,250 30,400 (800 x 38)
Overhead absorption rate per hour Rs. 340.52 150.53
Answer-21 [Spring 2012, Q-2]
Simultaneous equations method
Allocation of service department cost:
A B C X Y
Cost before allocation 56,000 50,000 38,000 16,500 10,600
Allocation of:
Cost of X (20:40:30:10) 3,800 7,600 5,700 (19,000) 1,900
Cost of Y (40:20:20:20) 5,000 2,500 2,500 2,500 (12,500)
64,800 60,100 46,200 - -
Workings:
X = 16,500 + 0.2Y
Y = 10,600 + 0.1X
X = 19,000
Y = 12,500
Repeated Distribution Method
A B C X Y
Cost before allocation 56,000 50,000 38,000 16,500 10,600
Allocation of:
Cost of X (20:40:30:10) 3,300 6,600 4,950 (16,500) 1,650
Cost of Y (40:20:20:20) 4,900 2,450 2,450 2,450 (12,250)
Cost of X (20:40:30:10) 490 980 735 (2,450) 245
Cost of Y (40:20:20:20) 98 49 49 49 (245)
Cost of X (20:40:30:10) 10 20 15 (49) 5
Cost of Y (40:20:20:20) 2 1 1 - (5)
64,800 60,100 46,200 - -

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CAF-03 Accounting for overheads

Lecture # 8 (Overheads) Lecture # 20 (Overall)

Class work
1. Discussed question 23 (Hi-way engineering), question 24 (Amber Limited) and question 25
(California Limited) from lecture 19 handout.
2. Solved following quetion
Question-26 (Spring 2021, Q-5)
Bright Limited (BL) is engaged in the manufacturing of two products, Shine and Glow. Both these products
are processed through two production departments, A and B, while department X and Y provide services
to both the production departments. Below is a summary of the indirect costs incurred by BL for
manufacture of 100,000 units of Shine and 60,000 units of Glow during the year ended 31 December 2020:

Rs. in '000
Salaries and wages 115,000
Depreciation of machinery 80,000
Building insurance 25,000
Electricity 60,000
280,000
Other information related to the four departments is given below:
Department Department Department Department Total
A B X Y
Cost of machinery (Rs. in '000) 250,000 150,000 400,000
Floor Area (square feet) 15,000 6,000 6,000 3,000 30,000
No. of employees 150 50 25 25 250
Services provided by
− Department X 80% 20% - - -
− Department Y 75% 15% 10% - -
The overhead absorption rates used by BL for allocation to Shine and Glow are Rs. 1,800and Rs. 1,700 per
unit respectively. Any under/over absorbed overheads are adjusted tocost of sales.

Required:
(a) Compute product-wise actual overheads for Shine and Glow. (08)
(b) Compute the product-wise under / over absorbed production overheads. (02)
(Q.5 Spring 2021)

Home work
On next page

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 CAF-03 Accounting for overheads
Question-27 (Spring 2016, Q-5)
Omega Industries Limited (OIL) produces two products Alpha and Beta. These products are processed
through Fabrication and Finishing departments. Quality control and Logistics departments provide all the
necessary support for the production.
OIL allocates production overheads to Alpha and Beta at a pre-determined rate of Rs. 1,300 and
Rs. 500 per unit respectively. Any under/over absorbed overheads are adjusted to cost of sales.
Following actual data has been extracted from the cost records of OIL for the month of December - 2015:
Quality
Particulars Fabrication Finishing Logistics Total
control
Indirect labour Rs. in '000 1,500 1,200 500 400 3,600
Factory rent Rs. in '000 - - - - 2,000
Power Rs. in '000 - - - - 1,200
Depreciation - Plant Rs. in '000 - - - - 9,000
Other information: - - - - -
Cost of plant Rs. in '000 32,000 20,000 2,000 6,000 60,000
Floor area Square feet 10,000 5,000 3,000 2,000 20,000
Power KWH 50,000 40,000 4,000 6,000 100,000
Hours worked for Alpha 70% 60% - - -
Hours worked for Beta 30% 40% - - -
Services provided by: - - - - -
- Quality control 40% 60% - - 100%
- Logistics 60% 35% 5% - 100%

8,000 units of Alpha and 10,000 units of Beta were produced during the month of December 2015.
Required:
(a) Compute product wise actual overheads for Alpha and Beta. (10)
(b) Prepare journal entries to record:
(i) Applied production overheads; and
(ii) Under/Over absorbed production overheads (02)
Question-28 (Autumn 2017, Q-3)
Opal Industries Limited (OIL) produces various products which pass through Processing and Finishing
departments. Logistics and Maintenance departments provide necessary support for the production.
Following information is available from OIL’s records for the month of June 2017:
(i)
Departments Overhead costs Direct labour horns
Budgeted Actual Budgeted Actual
------Rupees------ ------Hours-----
Processing *560,000 536,000 14,000 14,350
Finishing *320,000 258,000 10,000 9,800
Logistics - 56,700 - -
Maintenance - 45,000 - -
*including apportionment of overhead costs of support departments
(ii) Costs of support departments are apportioned as under:
Processing Finishing Logistics Maintenance
Logistics 50% 40% - 10%
Maintenance 35% 45% 20% -
Required:
(a) Allocate actual overhead costs of support departments to production departments using repeated
distribution method. (05)
(b) Compute under/over applied overheads for the month of June 2017. (03)

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CAF-03 Accounting for overheads
Answer-23 [Autumn 2006, Q-1]
a) Predetermined Departmental FOH absorption rate
Budgeted FOH cost Rs.216,000
Dept A x 100 = x100
Budgeted Direct labour cost Rs.192,000
=112.5% of direct labour cost
Budgeted FOH cost Rs.225,000
Dept B x 100 = x100
Budgeted machine hours 10,000 machine hours
= Rs.22.50 per machine hour

Dept A (Rs) Dept B (Rs) Total (Rs)

Direct material cost 1,500 2,250 3,750
Direct labour cost 1,800 1,250 3,050
FOH cost absorbed (W-1) 2,025 3,375 5,400
Total cost of 50 units 5,235 6,875 12,200

Per unit cost

Per unit cost = Total Cost of units Units produced
Per unit cost = Rs. 12, 200 = Rs. 244 per unit 50 units

(W – 1) FOH cost absorbed

Department A = FOH absorption rate of Dept. A x Actual labour cost of Dept. A
= 112.5 % x Rs. 1,800
= Rs. 2,025
Department B = FOH absorption rate of Dept. B x Actual machine hours of Dept. B
= Rs. 22.5 per machine hour x 150 hours = Rs. 3,375
c) Under (over) absorbed Factory overheads
Dept A Dept B
(Rs) (Rs)
Actual Factory overhead 240,000 207,000
Absorbed factory overhead: 249,750
(Rs.222,000 x 112.5%)
(9,000 hours x Rs.22.5 per machine hour) (202,500)
= under / (over) absorbed factory overheads (9,750) 4500
Answer-24 [Spring 2011, Q-2]
(a) Budgeted FOH application rate
Department A = Rs.5 million / 0.4 million machine hours = Rs.12.5 per machine hour
Department B = Rs.9 million / 0.5 million labour hour = Rs. 18 per labour hour
Department C = (Rs.7.5 million / Rs.150 million) x 100 = 5% of prime cost

(b) Total and departmental actual cost per unit

Department A B C Total
-----------------Rs. In ‘000’-----------------
Material 80,000 150,000 120,000 350,000
Labour @ Rs.120 per hour 26,400 63,600 28,800 118,800
Prime cost 106,400 213,600 148,800 468,800
Actual FOH 5,350 8,900 7,450 21,700
Total cost (Rs in 000) 111,750 222,500 156,250 490,500
Units produced (Rs in 000) 35,700 35,700 35,700 35,700
Actual cost per unit of production 31.30 62.32 43.77 137.39
(c) Over or under applied FOH for each department
Department A B C Total
Rs. in'000’
Applied FOH 4,250 9,540 7,440 21,230
Actual FOH 5,350 8,900 7,450 21,700

Over / (Under) applied FOH (Rs in 000) (1,100) 640 (10) (470)
Note: It is assumed that actual labour wages rate and budgeted labour rate is same.

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CAF-03 Accounting for overheads
Answer-25 [Spring 2022, Q-5]
Departmental FOH absorption rates
Step 1 – Allocation of budgeted overheads cost to production departments (Rs.’000)
FOH expenses Base Total Dept. AB Dept. AC Dept. SA Dept. SB
Factory rent Floor area 2,500 1,250 938 187 125
Fuel cost @ Rs. 45 per Machine hours 1,800 990 810 - -
machine hour
Depreciation Machine hours 2,000 1,294 706 - -

Electricity cost Floor area 1,100 550 412 83 55

7,400 4,084 2,866 270 180
Service departments:
Dept. SA 40:40:20 122 122 (306) 62
Dept. X 45:40:15 109 97 36 (242)
Departmental FOH 4,315 3,085 0 0
Machine/Labour hours (in
thousands) 22 10
FOH rate per hour 196.14 308.49
(W1) Fuel cost per machine hour
Total Fuel cost = Rs. 1,800,000
Fuel cost per machine hour for dept. AB = X
Fuel cost per machine hour for dept AC = 1.50X
Machine hours for AB = 22,000
Machine hours for AC = 12,000

(22,000X) + (12,000 x 1.5X) = 1800,000

X = 45 or Rs. 45 per machine hour

(W2) Simultaneous equation

Let X = Cost of service department SA
Let Y = Cost of service department SB
X = 270 + 0.15Y
Y = 180 + 0.20 X
Solve the equation simultaneously then
X = 306
Y = 242

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CAF-03 Accounting for overheads
Answer 27:
Actual overheads Distribution Sheet
Cost Basis Total (Rs.) Fabrication Finishing (Rs.) Quality control Logistics
(Rs.) (Rs.) (Rs.)
Indirect labor Given 3,600,000 1,500,000 1,200,000 500,000 400,000
Factory rent Floor area 2,000,000 1,000,000 500,000 300,000 200,000
Power cost KWH 1,200,000 600,000 480,000 48,000 72,000
Depreciation Plant cost 9,000,000 4,800,000 3,000,000 300,000 900,000
Total Budgeted Overheads 15,800,000 7,900,000 5,180,000 1,148,000 1,572,000
Allocation of service dept:
Quality control (40:60) 943,000 550,000 79,000 (1,572,000)
Logistics (60:35:5) 491,000 736,000 (1,227,000) --
9,334,000 6,466,000
Step 2: Allocation to product Alpha and Beta

Alpha Beta Total

Actual no. of units 8,000 10,000
------Rs.in 000------
Overheads allocation on the basis of hours worked: Fabrication dept.
in the ratio of 70:30 6,534 2,800 9,344
Finishing dept. in the ratio of 60:40 3,880 2,586 6,466
10,414 5,386 15,800
Accounting entries for absorption of overheads
Debit Credit
Rs. In ‘000
1 Work in process (8,000 Rs. 1,300) + (10,000 Rs. 500) 15,400
Factory overhead control account 15,400
(Overhead charged to production at predetermined rate)
2 Cost of sales (Rs. 15,800 – Rs. 15,400) 400
Factory overhead control account 400
(Overheads under applied charged to cost of sales)

Answer 28
Req (a) – Actual FOH Distribution Sheet
Processing (Rs.) Finishing (Rs.) Logistics (Rs.) Maintenance (Rs.)
Actual overheads 536,000 258,000 56,700 45,000
Allocation of service:
Logistics 28,350 22,680 (56,700) 5,670
50,670
Maintenance 17,735 22,801 10,134 (50,670)
Logistics 5,067 4,054 (10,134) 1,013
Maintenance 355 456 202 (1,013)
Logistics 101 81 (202) 20
Maintenance 7 9 4 (20)
Logistics 2 2 (4) --
587,617 308,083 -- --

Req (b) –FOH under/over applied

Departmental FOH absorption rates
• Processing Department FOH Rate = Rs. 560,000 ÷ 14,000 = Rs 40 per labour hour
• Finishing Department FOH Rate = Rs. 320,000 ÷ 10,000 = Rs. 32 per labour hour
Departmental FOH variance
Processing Dept. Finishing Dept.
Actual FOH cost (Rs.) 587,617 308,083
Applied FOH cost (Rs.)
(Rs. 40/hour x 14,350 hours) (Rs. 32/hour x 9,800 hours) = under/(over) applied (574,000) (313,600)
FOH 13,617 (5,517)

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CAF-03 Activity based costing [ABC]

Lecture # 1 (ABC) Lecture # 22 (Over all)

Accounting for overheads
Class work
1. Discussed question 27 (Omega Industries Limited) and question 28 (Opal Industries Limited)
from lecture 21 handout.

Activity based costing

Class work
1. Started discussion on activity based costing and solved following illustrations:
Question-1 (Illustration)
A company manufactures two products, C and D, for which the following information is available:
Product C Product D Total
Budgeted production (units) 1,000 4,000 5,000
Labour hours per unit/in total 8 10 48,000
Number of production runs required 13 15 28
Number of inspections during production 5 3 8
Total production set up costs Rs. 140,000
Total inspection costs Rs. 80,000
Other overhead costs Rs. 96,000
Other overhead costs are absorbed on a labour hour basis.
Required:
Using activity-based costing, what is the overhead cost per unit of each product

Question-2 (Illustration)
A company manufactures two products, A and B, for which the following information is available:
Product A Product B Total
Budgeted production (units) 2,500 5,000 7,500
Net book value of assets 500,000 500,000 1,000,000
Floor area 25% 75% 100%
Machine hours 2,000 3,000 5,000
Power Rs. 200,000
Repair and maintenance – Machine Rs. 90,000
Rent and rates Rs. 60,000
Light and heat Rs. 40,000
Depreciation Rs. 50,000
Required:
(a) Calculate overhead cost per unit for each product using a single overhead cost per machine hour.
(b) Calculate overhead cost per unit for each product after distributing individual overheads in
appropriate ratios.

Home work
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 CAF-03 Activity based costing [ABC]
Question-3 (ICAP study text example 1)
Giga Incorporations is at the leading edge of paint-spraying technology. It has three customers A, B and C, who
produce G-101, G-102 and G-103 products respectively. These products are finished by Giga Incorporation after
final completion. Product G-101 requires 6 coats of paint, product G- 102 requires 4 coats and product G-103
requires 3 coats of paint. All products are of different shapes and sizes therefore, different quantities of paint are
needed. Paint is delivered in batches of various sizes, depending upon the finishing required
Products Litres per unit
G-101 7
G-102 5
G-103 4

Production details for each product are budgeted as follows for the coming month:
Description G-101 G-102 G-103
Units sprayed 500 400 300
Batches of paint required 10 8 6
Machine attendant time in minutes 45 60 50
Cost of paint per unit Rs. 550 500 450
Machine attendants are paid Rs. 86 per hour.
Estimated overheads in the coming month are given below:
Rupees
Paint stirring and quality control 50,000
Electricity 150,000
Filling of spraying machines 90,000
Cost drivers used for each activity are as follows:
Activity Cost driver
Paint stirring and quality control Batches of paint
Electricity Coats of paint
Filling of spraying machines Litres of paint
Required:
Calculate the unit cost of each product using activity-based costing.
Solution-3
Calculation of Cost per unit of each product
G-101 G-102 G-103
Paint 550.00 500.00 450.00
Labour at Rs. 86 per hour 64.50 86.00 71.67
Paint stirring and quality control W-1 41.67 41.67 41.67
Electricity W-2 163.64 109.09 81.82
Filling of spraying machines W-3 94.03 67.16 53.73
Unit cost 913.84 803.92 698.89

W-1 G101 G102 G103 W-2 G101 G102 G103 W-3 G101 G102 G103
Units (A) 500 400 300 Units (A) 500 400 300 Units (A) 500 400 300
Batches 10 8 6 Coats per unit (B) 6 4 3 Litres per unit 7 5 4
(B)
OH share (B) 20,833 16,667 12,500 Total coats 3,000 1,600 900 Total coats 3,500 2,000 1,200
(10:8:6) (A X B) (A X B)
Unit cost (B/A) 41.67 41.67 41.67 OH share (C) 81,818 43,636 24,546 OH share (C) 47,015 26,866 16,119
(30:16:9) (35:20:12)
Unit cost (B/A) 41.67 41.67 41.67 Unit cost (C/A) 163.64 109.09 81.82 Unit cost (C/A) 94.03 67.16 53.73

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CAF-03 Accounting for overheads
Answer 27:
Actual overheads Distribution Sheet
Cost Basis Total (Rs.) Fabrication Finishing (Rs.) Quality control Logistics
(Rs.) (Rs.) (Rs.)
Indirect labor Given 3,600,000 1,500,000 1,200,000 500,000 400,000
Factory rent Floor area 2,000,000 1,000,000 500,000 300,000 200,000
Power cost KWH 1,200,000 600,000 480,000 48,000 72,000
Depreciation Plant cost 9,000,000 4,800,000 3,000,000 300,000 900,000
Total Budgeted Overheads 15,800,000 7,900,000 5,180,000 1,148,000 1,572,000
Allocation of service dept:
Quality control (40:60) 943,000 550,000 79,000 (1,572,000)
Logistics (60:35:5) 491,000 736,000 (1,227,000) --
9,334,000 6,466,000
Step 2: Allocation to product Alpha and Beta

Alpha Beta Total

Actual no. of units 8,000 10,000
------Rs.in 000------
Overheads allocation on the basis of hours worked: Fabrication dept.
in the ratio of 70:30 6,534 2,800 9,344
Finishing dept. in the ratio of 60:40 3,880 2,586 6,466
10,414 5,386 15,800
Accounting entries for absorption of overheads
Debit Credit
Rs. In ‘000
1 Work in process (8,000 Rs. 1,300) + (10,000 Rs. 500) 15,400
Factory overhead control account 15,400
(Overhead charged to production at predetermined rate)
2 Cost of sales (Rs. 15,800 – Rs. 15,400) 400
Factory overhead control account 400
(Overheads under applied charged to cost of sales)

Answer 28
Req (a) – Actual FOH Distribution Sheet
Processing (Rs.) Finishing (Rs.) Logistics (Rs.) Maintenance (Rs.)
Actual overheads 536,000 258,000 56,700 45,000
Allocation of service:
Logistics 28,350 22,680 (56,700) 5,670
50,670
Maintenance 17,735 22,801 10,134 (50,670)
Logistics 5,067 4,054 (10,134) 1,013
Maintenance 355 456 202 (1,013)
Logistics 101 81 (202) 20
Maintenance 7 9 4 (20)
Logistics 2 2 (4) --
587,617 308,083 -- --

Req (b) –FOH under/over applied

Departmental FOH absorption rates
• Processing Department FOH Rate = Rs. 560,000 ÷ 14,000 = Rs 40 per labour hour
• Finishing Department FOH Rate = Rs. 320,000 ÷ 10,000 = Rs. 32 per labour hour
Departmental FOH variance
Processing Dept. Finishing Dept.
Actual FOH cost (Rs.) 587,617 308,083
Applied FOH cost (Rs.)
(Rs. 40/hour x 14,350 hours) (Rs. 32/hour x 9,800 hours) = under/(over) applied (574,000) (313,600)
FOH 13,617 (5,517)

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CAF-03 Activity based costing [ABC]

Lecture # 2 (ABC) Lecture # 23 (Over all)

Activity based costing
Class work
1. Solved question 1 (Illustration) from lecture 22 handout.
2. Solved following questions:
Question-4 (ICAP study text example 2)
Rajput Enterprises manufactures two products, J and K, using the same equipment and similar processes.
An extract of the production data for these products for the month of June is shown below:
Product J Product K
Quantity produced in units 5,000 7,000
Direct labour hours per unit 1 2
Machine hours per unit 3 1
Set-ups in the period 10 40
Orders handled in the period 15 60
Overhead costs for the month of June are given below
Rupees
Machine related costs 220,000
Production run set-ups costs 20,000
Order handling costs 45,000
Total 285,000
Required:
Calculate overhead cost per unit for each product using activity-based costing.

Question-5 (ICAP study text comprehensive question 2)

Rizwan Industries has six standard products from stainless steel and brass. The company’s most popular
product is RI-11 and following budgeted data is given for product RI-11.
Cost driver Cost pool
Activity Cost driver
volume/year Rs.
Purchasing costs Purchase orders 15,000 750,000
Setting costs Batches produced 28,000 1,120,000
Material handling costs Material requisition 80,000 960,000
Inspection costs Inspections 28,000 700,000
Machining costs Machine hours 500,000 1,500,000

Rizwan manufacturing industries data relating to RI-11 for the month of July, 2021 is given below.
Description
Purchase orders 25
Output in units 15,000
Production batch size in units 100
Material requisition per batch 6
Inspections per batch 1
Machine hours per unit 0.1
Required:
Calculate the unit overhead cost of product RI-11 using activity-based costing

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CAF-03 Activity based costing [ABC]

Home work
Question-6 (ICAP study text example 1)
Mustajab Limited manufacturers four products, A, B, C and D. Output and cost data for the period just
ended are as follows:
Machine
Output Number of Material cost Direct labour
Products hours per
units production runs per unit Rs. hours per unit
unit
A 10 2 200 10 10
B 10 2 800 30 30
C 100 5 200 10 10
D 100 5 80 30 30
Overhead costs are given as under:
Overhead costs Rs
Short run variable costs 30,800
Set up costs 109,200
Expediting and scheduling costs 91,000
Material handling costs 77,000
Total 308,000
Labour cost per hour is Rs. 50.
Required:
Calculate unit cost for each product using Activity based costing.

Solution
A B C D
Direct materials 2,000 8,000 20,000 80,000
Direct labour 500 1,500 5,000 15,000
Production overheads
Short run variable cost W-1 700 2,100 7,000 21,000
Set up costs W-1 15,600 15,600 39,000 39,000
Expediting and scheduling costs W-1 13,000 13,000 32,500 32,500
Materials handling costs W-1 11,000 11,000 27,500 27,500
Total cost (A) 42,800 51,200 131,000 215,000
Unit produced (B) 10 10 100 100
Unit cost (A) / (B) 4,280 5,120 1,310 2,150
W-1
Activity Cost pool Rs. Cost Driver Rate per Cost driver
Short run variable costs 30,800 4,400 Rs. 7
machine hours per machine hour
Set up costs 109,200 14 Rs. 7,800
production runs per production run
Expediting and scheduling costs 91,000 14 Rs. 6,500
production runs per production run
Material handling costs 77,000 14 Rs. 5,500
production runs per production run

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CAF-03 Marginal and absorption costing

Lecture # 1 Lecture # 24 (Over all)

Marginal and absorption costing
Class work
1. Started discussion on marginal and absorption costing and drawn format of income statement for
both.

Activity based costing

Class work
1. Solved question 7 (Rizwan Industries) and question 28 (Opal Industries Limited) from lecture 21
handout.
2. Discussed Merits and demerits of ABC.

Home work
Question-7 (ICAP study text comprehensive example 3)
JAM Enterprises, is engaged in the manufacturing of fishing equipment for fishing industry since a
decade. Recently, some of other manufacturers newly entered in to the same business of JAM
Enterprises. As a result, a price competitive situation has occurred in the market, to handle this situation
JAM Enterprises wants to offer best prices for the products as compare to competitors; JAM Enterprises
changed his costing approach to ABC, from traditional full costing approach.
The following budgeted information is related to JAM Enterprises for the forthcoming period:
Activity Product J Product A Product M
Sales and production (units) 30,000 20,000 10,000
Selling price per unit 4,600 9,600 7,400
Prime cost per unit 3,100 8,300 6,400
Machine hours per unit 2.5 5.5 4.5
Labour hours per unit 7.5 3.5 3.5
The overheads that could be re-analyzed in to cost pools for the purpose of Activity based costing, are as
follows:
Cost pool Rs. 000 Cost driver Quantity for the period
Machine services 18,400 Machine hours 230,000
Assembly services 18,150 Direct labour hours 330,000
Set-up costs 1,200 Set-ups 250
Order processing 7,200 Customer orders 16,000
Purchasing 4,004 Supplier orders 5,600
Following estimates have also been provided for the period:
Cost drivers Product J Product A Product M
Number of set-ups 70 100 80
Number of customer orders 4,800 4,500 6,700
Number of supplier orders 1,800 2,200 1,600
Required:
Calculate the product-wise profit statement, using activity-based costing.

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 CAF-03 Marginal and absorption costing
Question-8 (ICAP study text example 3)
Star Limited produces three products, Sky, Moon and Sun and relevant data for the month of March 2021
is given in the following table.
Sky Moon Sun
Actual units produced and sold 500,000 150,000 250,000
Machine hours per unit 0.01 0.05 0.04
Number of production set-ups 4 6 20
Number of components 8 12 20
Number of customer orders 21 4 25
The overhead cost incurred by Star Limited during the month of March 2021 is given below
Rupees
Machining cost 36,000
Component cost 100,000
Set-up cost 180,000
Packing cost 150,000
Total 466,000
Required:
Calculate product-wise overhead cost in total and per unit using Activity based costing.
Solution 7 (JAM Enterprises)
Product wise profit statement
J A M
Sales and production (units) (A) 30,000 20,000 10,000
Selling price per unit (A X selling price per unit) 138,000 192,000 74,000
Cost per unit (w-1) (A X cost per unit [W-1]) (115,158) (182,728) (74,068)
Profit / (loss) 22,842 9,272 (68)
W-1: Cost per unit
J A M
Prime cost per unit 3,100 8,300 6,400
FOH cost per unit (w-2) 738.6 836.4 1,006.8
3,838.6 9,136.4 7,406.8
W-2: FOH cost per unit using ABC
Cost pool Cost driver Activity wise FOH rate J A M
Machine Machine hours 18,400,000
= 𝑅𝑠. 80 𝑝𝑒𝑟 𝑀𝐻 6,000 8,800 3,600
Service 230,000 (W − 2.1)
Assembly DL hours 18,150,000
service = 𝑅𝑠. 55 𝑝𝑒𝑟 𝐷𝐿𝐻 12,375 3,850 1,925
330,000 (W − 2.1)
Setup cost Set ups 1,200,000
= 𝑅𝑠. 4,800 𝑝𝑒𝑟 𝑠𝑒𝑡𝑢𝑝 336 480 384
250
Order Customer order 7,200,000
= 𝑅𝑠. 450 𝑝𝑒𝑟 𝑜𝑟𝑑𝑒𝑟 2,160 2,025 3,015
processing 16,000
4,004,000
Purchasing Supplies order = 𝑅𝑠. 715 𝑝𝑒𝑟 𝑜𝑟𝑑𝑒𝑟 1,287 1,573 1,144
5600
Product wise total FOH cost (A) 22,158 16,728 10,068
Units (B) 30,000 20,000 10,000
FOH cost per unit (A/B) 738.6 836.4 1,006.8
(W-2.1)
J A M Total
A Total units 30,000 20,000 10,000
B M.H per unit 2.5 5.5 4.5
AxB Total M.H 75,000 110,000 45,000 230,000
C LH per unit 7.5 3.5 3.5
AxC Total LH 225,000 70,000 35,000 330,000

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CAF-03 Marginal and absorption costing

Solution 3 (Giga Incorporations)

Cost pool Cost drivers Activity wise FOH cost G-101 G-102 G-103
Paint stirring & QC Batches of paint 540,000 / 24 20,833 16,667 12,500
= 2,083.33 per batches
Electricity Coats of paints 150,000 / 5,500(w-1) 81,818 43,636 24,546
=27.273 per coats
Filling of spraying machine Liters of paints 90,000 / 6,700 (w-2) 47,015 26,866 16,119
=13.433 per liters
Product wise total FOH 149,666 87,169 53,165
Production (painted) units 500 400 300
Product wise per FOH 299.33 217.92 177.22

W-1: Total Coats of paints

G-101 G-102 G-103
Units sprayed 500 400 300
No. of coats req. 6 4 3
Total coats of paints 3,000 1,600 900 =5,500
W-2: Total liters of paints
G-101 G-102 G-103
Units sprayed 500 400 300
Liters required 7 5 4
Total coats of paints 3,500 2,000 1,200 =6,700

Calculation of cost per unit

G-101 G-102 G-103
Mat (Cost f paint per unit) 550 500 450
Lab (machine) 64.5 86 7167
(Rs.86 x 45/60) (Rs.86 x 60/60) (Rs.86 x 50/60)
299.33 217.92 177.22
913.83 803.92 698.89

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CAF-03 Marginal and absorption costing

Lecture # 2 Lecture # 25 (Over all)

Marginal and absorption costing
Class work
Question-1 (Autumn 2003, Q-8)
Following information pertains to Dilber Associates for the four months period. Normal capacity of a
plant is 20,000 units per month or 240,000 units a year.
Variable costs per unit Rs.
Direct material cost Rs. 3.00
Direct labour cost Rs. 2.25
Variable Factory overheads Rs. 0.75
Rs. 6.00
Fixed production overheads are Rs. 300,000 per year or Rs.1.25 per unit at normal capacity.
Company is using ‘units of product’ as basis for applying overheads. Fixed marketing and
administrative expenses are Rs. 60,000 per year and variable marketing expenses are Rs.
3,400, Rs. 3,600, Rs. 4,000 and Rs. 3,000 for the first, second, third and fourth month
respectively.
Actual and applied variable overheads are the same. Likewise no material or labour variance exists.
There is no work in process. The sale price per unit is Rs. 10 and actual production volume, sales
volume and volume of finished goods inventories are:
MONTHS
First Second Third Fourth
Units in beginning inventory - - 3,000 1,000
Units produced 17,500 21,000 19,000 20,000
Units sold 17,500 18,000 21,000 16,500
Units in ending inventory - 3,000 1,000 4,500
Required: From the above information prepare income statement for each month ended by using
Absorption Costing and Direct Costing method. (20)

Home work
Question-2 (Spring 2009, Q-4)
Following information has been extracted from the financial records of ATF Ltd:
Production during the year Units 35,000
Finished goods at the beginning of the year Units 3,000
Finished goods at the end of the year Units 1,500
Sale price per unit Rs. 200
Fixed overhead cost for the year Rs. 1,000,000
Administration and selling expenses Rs. 200,000
Annual budgeted capacity of the plant Units 40,000
The actual cost per unit, incurred during the year, was as follows:
Rs.
Material 70
Labour 40
Variable overheads 30
Required:
(a) Prepare profit statements for the year, under absorption and marginal costing systems
(b) Prepare reconciliation between the net profits determined under each system. (12)

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CAF-03 Marginal and absorption costing

Activity based costing

Merits and Demerits OF ACTIVITY BASED COSTING
Merits:
1. The complexity of manufacturing has increased due to use of advance technologies and multiple
products range, along with shorter product life cycles. Activity based costing recognizes this
complexity with multiple cost drivers.
2. In competitive environment, entities must be able to assess its product profitability in more realistic
manner. Activity based costing technique helped entities to absorb indirect costs into products on the
basis of activities in order to calculate realistic product cost.
3. Activity based costing can be applied to all overhead costs, and not restricted to production overheads.
4. Activity based costing can be used easily in service costing as in product costing.
Demerits:
1. Activity based costing will be of limited benefit if overhead costs are primarily volume related or
overhead costs is not significant proportion of total costs.
2. Cost apportionment may still be required at the cost poling stage for shared items of costs like rent,
depreciation of building. Apportionment can be an arbitrary way of sharing costs.
3. The cost of implementing and maintaining an activity-based costing system might exceed the
benefits of improved accuracy in product or service costs.
4. This model is difficult to understand and even can create problems in implementation due to fair
understanding activities and their related costs.
5. The choice of both activities and cost drivers might be inappropriate

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CAF-03 Marginal and absorption costing

Lecture # 3 Lecture # 26 (Over all)

Marginal and absorption costing
Class work
1. Solved question 1 (Autumn 2003, Q-8) and question 2 (Spring 2009, Q-4) from lecture 25 handout.

Home work
Question-3 (Autumn 2006, Q-7)
Run-way Pakistan Ltd has provided you the following information about its sales, production, inventory and
variable/ fixed costs etc. for the second quarter of the year 2006:
Rupees
Sales 75,000,000
Operating profit 5,171,100
Variable manufacturing costs per unit 10
Fixed factory overhead per unit 11
Marketing & administrative expenses (Fixed Rs. 250,000) 450,000
Units
Sales 3,000,000
Actual production 2,420,100
Budgeted production 3,000,000
Ending inventory 320,200
Normal capacity 3,500,000
Production in quarter -1 3,100,150
Sales in quarter -1 2,200,050
The Sales Manager claims that the operating profit of the quarter has been wrongly calculated and is much higher
than Rs. 5,171,100.
It is the policy of the company to compute applied factory overhead on the basis of quarterly budgeted production
volume and charge under or over absorbed fixed factory overheads to cost of sales at the end of each quarter.
Required:
(a) You are required to prepare income statements under the present method being used by the company and also
under the marginal costing method for the satisfaction of the Sales Manager. (9)
(b) Reconcile the difference in operating profit under the two methods. (4)
Question-4 (Spring 2008, Q-7)
Zulfiqar Limited makes and sells a single product and has the total production capacity of 30,000 units per month.
The company budgeted the following information for the month of January 2008:
Normal capacity (units) 27,000
Variable costs per unit:
Production (Rs.) 110
Selling and administration (Rs.) 25
Fixed overheads:
Production (Rs.) 756,000
Selling and administration (Rs.) 504,000
The actual operating data for January 2008 is as follows:
Production 24,000 units
Sales @ Rs. 250 per unit 22,000 units
Opening stock of finished goods 2,000 units
During the month of January 2008, the variable factory overheads exceeded the budget by Rs. 120,000.
Required:
(a) Prepare profit statement for the month of January using marginal costing and absorption costing.
(b) Reconcile the different in profits under 2 methods. (15)

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CAF-03 Marginal and absorption costing

Lecture # 4 Lecture # 27 (Over all)

Marginal and absorption costing
Class work
1. Solved question 2 (Spring 2009, Q-4) from lecture 25 handout.
2. Discussed question 3 (Autumn 2006, Q-7) and question 4 (Spring 2008, Q-7) from lecture 26 handout.
3. Solved following question:

Question-5 (Spring 2014, Q-4)

XY Limited manufactures and sells a single product. The selling price and costs for the year ended 31
December 2013 were as follows:
Rs. per unit
Selling price 1,600
Direct material 630
Direct labour 189
Production overheads (40% fixed) 220
Selling and distribution overheads (60% fixed) 165
(i) During the year, 12,000 units were produced.
(ii) The opening and closing stocks were 4,000 and 3,000 units respectively
(iii) Fixed overhead cost per unit is based on normal capacity which is 15,000 units.
(iv) Overhead costs have increased by 10% over the previous year and raw material and labour by 5%.
(v) The company uses FIFO method for costing its inventory.
Required:
(a) Profit and loss account for the year ended 31 December 2013 under absorption costing and marginal
costing. (14)
(b) Reconciliation of profit worked out under the two methods. (02)

Home work
1. Question 3 (Autumn 2006, Q-7) from lecture 26 handout.
2. Question 4 (Spring 2008, Q-7) from lecture 26 handout.

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CAF-03 Marginal and absorption costing

Solution of question 3 (Autumn 2006, Q-7)

Run-way Pakistan Limited
Income Statement - Absorption Costing
For the second quarter ended for year 2006
Rs.’000 Rs.’000
Sales 75,000
Less: Cost of sale
Cost of opening Finished goods stock (W3) 18,902
Add: Current production cost:
Variable production cost (Rs. 10 per unit x 2,420,100 units) 24,201
Fixed FOH cost (Rs. 11 per unit x 2,420,100 units) 26,621
50,822
69,724
Less: Closing Finished goods stock (W3) (6,724)
63,000
Add: Under absorbed Fixed FOH cost variance (W4) 6,379
Cost of sales (69,379)
Gross profit 5,621
Less: Operating expenses (450)
Marketing and administrative expenses
= Net operating profit under absorption costing 5,171
Run-way Pakistan Limited Income Statement - Marginal Costing For the second quarter ended for year
2006
Rs.’000 Rs.’000
Sales Revenue 75,000
Less: Variable Cost of sale
Variable cost of opening Finished goods stock (W3) 9,001
Add: Variable production cost (Rs. 10 per unit x 2,420,100 units) 24,201
33,202
Less: Closing Finished goods stock (W – 3) (3,202) (30,000)
Less: Variable operating costs
Variable marketing and administrative cost (200)
= Contribution Margin 44,800
Less: Actual fixed costs
Actual Fixed FOH cost (W2) (33,000)
Fixed marketing and administrative cost (250)
= Net operating profit under marginal costing 11,550
(b) Profit Reconciliation statement
(Rs.’000)
Net operating Profit as per absorption costing 5,171
Adjustment of difference in profit due to fixed FOH cost
Add: Difference in cost of opening stock
(Rs. 11 per unit x 900,100 units) 9,901
Less: Difference in cost of closing stock
(Rs. 11 per unit x 320,200 units) (3,522)
= Net operating profit as per marginal costing 11,550

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CAF-03 Marginal and absorption costing
W – 1) Closing stock units
1st Quarter 2nd Quarter
Opening inventory units --- 900,100
Add: Actual Production units 3,100,150 2,420,100
3,100,150 3,320,200
Less: Sales units (2,200,050) (3,000,000)
= Ending inventory units 900,100 320,200
W – 2) Fixed production overheads cost (total and per unit)
Fixed FOH cost per unit = Budgeted Fixed production overheads cost
Budgeted production (units)
Rs. 11 per unit (given) = Budgeted Fixed production overheads cost
3,000,000 units

Budgeted Fixed production overheads = Rs. 11 per unit x 3 million units per quarter Budgeted
Fixed production overheads = Rs. 33 million

Note: It is assumed that budgeted fixed production overheads cost of Rs. 33 million and actual fixed
production overheads cost is same.

(W – 3) Cost of Finished goods stock

Cost of Opening and Closing Stock – Absorption costing
Full production cost per unit = Rs. 10 per unit + Rs. 11 per unit = Rs. 21 per unit

Cost of opening stock = Full production cost per unit x Opening Stock units

= Rs. 21 per unit x 900,100 units = Rs. 18,902,100

Cost of closing stock = Full production cost per unit x Closing Stock units

= Rs. 21 per unit x 320,200 units = Rs. 6,724,200

Cost of Closing Stock – Marginal costing

Cost of opening stock = Variable manufacturing cost per unit x Opening stock units Cost of
opening stock = Rs. 10 x 900,100 = Rs. 9,001,000

Cost of closing stock = Variable manufacturing cost per unit x Closing Stock units Cost of
closing stock = Rs. 10 per unit x 320,200 units = Rs. 3,202,000

(W – 4) Fixed FOH Variance

Rs.’000
Actual Fixed FOH cost (W – 2) 33,000
Less: Absorbed (applied) Fixed FOH cost (26,621)
= Under absorbed Fixed FOH cost 6,379

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question 4 (Spring 2008, Q-7)

Profit Statements Zulfiqar Ltd
Income statement - Marginal costing
For the month ended 31st January, 2008
Rs. ‘000 Rs. ‘000
Sales Revenue (Rs. 250 per unit x 22,000 units) 5,500
Less: Variable cost of sales
Variable cost of opening Finished goods stock (W3) 220
Add: Current variable production cost plus additional variable cost
(Rs. 110 per unit x 24,000 units) + 120,000 2,760
Less: Variable cost of closing FG stock 2,980
(Rs. 2760,000/24000 units) x 4,000 units (460) (2,520)
Less: Variable operating cost
Variable selling & admin. cost (22,000 units x Rs.25 per unit) (550)
= Contribution margin 2,430
Less: Fixed costs
Actual Fixed Production overheads cost 756
Selling and administration overheads 504 (1,260)
Net operating profit under marginal costing 1,170

Zulfiqar Ltd
Income statement - Absorption costing
For the month ended 31st January, 2008

Rs.’000 Rs.’000
Sales Revenue 5,500
Less: Cost of sale
Cost of opening Finished goods stock (W3) 276
Add: Current production cost:
Variable production cost (same as above) 2,760
Fixed production cost (Rs. 28 per unit x 24,000 units) 672
3,432
3,708
Less: Cost of closing Finished goods stock
(Rs. 3432,000/24,000 unit) x 4,000 units (572)
3,136
Add: Fixed FOH under-absorbed variance (W 4) 84 (3,220)
Gross profit 2,280
Less: Operating expenses
Variable Selling and Admin overheads 550
Fixed Selling and Admin overheads 504 (1,054)
Net operating profit under absorption costing 1,226

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CAF-03 Marginal and absorption costing

Profit Reconciliation
(Rs.’000)
Profit as per absorption costing 1,206
Adjustment of difference in profit due to fixed FOH cost
Add: Difference in cost of opening stock
(Rs. 28 per unit x 2,000 units) 56
Less: Difference in cost of closing stock
(Rs. 28 per unit x 4,000 units) (112)
= Net profit as per marginal costing 1,150
W – 1) Closing stock units
Jan. 2008
Opening stock units 2,000
Add: Actual Production units 24,000
26,000
Less: Sales units (22,000)
= Ending inventory units 4,000
(W – 2) Fixed production overheads cost (total and per unit)

Fixed FOH cost per unit = Budgeted Fixed production overheads cost
Normal capacity (units)
Fixed FOH cost per unit = Rs. 756,000 = Rs. 28 per unit
27,000 units
Note: It is assumed that budgeted fixed production overheads cost of Rs. 756,000 and actual fixed
production overheads cost is same.
W – 3) Cost of Finished goods stock
Cost of Opening and Closing Stock – Marginal costing
Cost of opening stock = Variable manufacturing cost per unit x Opening stock units
Cost of opening stock = Rs. 110 x 2,000 units = Rs. 220,000
Cost of closing stock = Variable manufacturing cost per unit x Closing Stock units
Cost of closing stock = Rs. 110 per unit x 4,000 units = Rs. 440,000
Cost of Opening and Closing Stock – Absorption costing
Full production cost per unit = Rs. 110 per unit + Rs. 28 per unit = Rs. 138 per unit
Cost of opening stock = Full production cost per unit x Opening Stock units
= Rs. 138 per unit x 2,000 units = Rs. 276,000
Cost of closing stock = Full production cost per unit x Closing Stock units
= Rs. 2,640,000÷ 120,000 units = 138 per unit x 4,000 units = Rs. 552,000
(W – 4) Fixed FOH Variance
Rs.
Actual Fixed FOH cost (W – 2) 756,000
Less: Absorbed (applied) Fixed FOH cost (672,000)
= Under absorbed Fixed FOH cost 84,000

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CAF-03 Marginal and absorption costing

Lecture # 5 Lecture # 28 (Over all)

Marginal and absorption costing
Class work
1. Solved question 5 (Spring 2014, Q-4) from lecture 27 handout.
2. Discussed question 3 (Autumn 2006, Q-7) and question 4 (Spring 2008, Q-7) from lecture 26 handout.
3. Solved following question:
Question-6 (Spring 2022, Q-8)
(a) Discuss the assumptions used in marginal costing. (04)
(b) Kenya Limited (KL) is involved in the manufacture of a single product and has a total production capacity
of 60,000 units per month. It is currently operating at its normal capacity of 80% and uses absorption
costing. Below is the extract from KL’s budget for the month of February 2022:
Rupees
Selling price per unit 210

Variable costs per unit:

Prime cost 75
Factory overheads 45
Selling and admin expenses 15

Fixed costs:
Factory overheads 2,016,000
Selling and admin expenses 800,000

Actual operating data for the month of February 2022:

• Due to an unexpected fault in KL's manufacturing plant, it was able to operate at 75% of its
production capacity only.
• Sales of 47,000 units were made at the selling price budgeted by KL.
• Opening stock of 10,000 units costing Rs. 1,600,000 was held by KL. Fixed factory overheads
were absorbed in prior month at the rate of Rs. 40 per unit.
• Fixed factory overheads exceeded the budget by Rs. 500,000 due to increase in electricity cost.
Required:
(i) Prepare profit or loss statement for the month of February 2022 using marginal costing and absorption
costing. (11)
(ii) Reconcile the difference in profits under the two methods. (02)

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Home work
Question-7 (Spring 2015, Q-3)
Sigma Limited (SL) is a manufacturer of Product A. SL operates at a normal capacity of 90% against its available
annual capacity of 50,000 machine hours and uses absorption costing. The following summarized profit statements
were extracted from SL's budget for the year ending 31 December 2015.
Actual – 2014 Budget - 2015
Units Rs. in '000 Units Rs. in '000
Sales 4,125 49,500 4,600 56,580
Opening inventory 400 (3,400) 600 (5,400)
Cost of production 4,325 (38,925) 4,500 (44,325)
Closing inventory 600 5,400 500 4,925
Under absorbed production overheads (100) ---
Selling and administration cost (30% fixed) (3,000) (5,250)
Net profit 9,475 6,530

Other relevant information is as under:

Actual 2014 Budget - 2015
Standard machine hours per unit 10 hours 10 hours
Standard production overhead rate per unit Rs. 2,000 Rs. 2,250
Estimated fixed production overheads at normal capacity Rs. 3,600,000 Rs. 4,050,000
Actual production overheads Rs. 8,750,000 -
(Actual machine hours 44,000) Rs. 8,750,000 -
Required:
(a) Prepare budgeted Profit and Loss Statement for the year ending 31 December 2015, using marginal costing. (07)
(b) Analyze the difference between budgeted profit determined under absorption and marginal costing, for the year
ending 31 December 2015. (02)

Question-8 (Autumn 2020, Q-3)

Francisco Limited (FL) is a manufacturer of product Z and has annual operational capacity of 82,500 machine hours.
FL uses absorption costing.
Below is a summary of FL's profit or loss statement for the years ended 31 August 2019 and 2020:
31 August, 2020 31 August, 2019
Units Rs. in ‘000 Units Rs. in ‘000
Sales 9,950 149,250 10,500 155,500
Opening inventory - Finished goods 3,500 31,000 2,500 20,000
Cost of production 10,450 94,050 11,500 97,750
Closing inventory - Finished goods 4,000 (36,000) 3,500 (31,000)
Cost of goods sold (89,050) (86,750)
Gross profit 60,200 68,750
(Under)/over absorbed production overheads (400) 650
Selling and administration cost (20,900) (22,475)
Net profit 38,900 46,925

In both years, the actual and standard machine usage per unit are 6 hours. However, the standard machine usage was
80% and 82% of the operational capacity in 2019 and 2020 respectively.
Fixed overhead absorption rate of Rs. 700 per machine hour was applied in 2019. FL revises its fixed overhead
absorption rate for each year on the basis of prior year's actual fixed overhead expenditure.
Required:
(a) Calculate budgeting and actual fixed overheads for 2019 and 2020. (04)
(b) Prepare profit and loss statement for the year ended 31 August 2020, under marginal costing. (05)
(c) Reconcile actual profits under marginal costing and absorption costing for the year ended 31st August 2020. (02)

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Solution of question 3 (Autumn 2006, Q-7)

Run-way Pakistan Limited
Income statement under absorption costing for the 2nd quarter of 2006
Rs.000
Sales (Rs.25 x 3,000 units) 75,000
Less: cost of sales (W-2) (69,379)
Gross profit 5,621
Less: operating expenses
Variable marketing & admin expenses (450 – 250) (200)
Fixed marketing & admin expenses (250)
Profit under absorption costing 5,171
Run-way Pakistan Limited
Income statement under marginal costing for the 2nd quarter of 2006
Rs.000
Sales 75,000
Less: variable cost of sales (W-2) (30,000)
Less: variable operating expenses:
Variable marketing & admin expenses (200)
Contribution 44,800
Less: Total Fixed costs
Fixed marketing & admin expenses (250)
Fixed production FOH actual (33,000)
Profit under marginal costing 11,550
(W-1):
Opening stock units + production units – closing stock units = sold units
Opening stock units = sold units + closing stock units – production units
= 3,000 + 320.2 – 2,420.1
= 900.1
(W-2): Cost of sales
--------------Rs.000--------------
Absorption Marginal
Variable production costs (Rs.10 x 2420.1) 24,201 24,201
Fixed FOH cost (Rs.11 x 2,420.1 units )-Absorbed 26,621.1 -
Total production cost 50,822.1 24,201
Add: opening FG stock 18,902 9,001
[ Rs.21 (10+11) x 900.1 units]: [ Rs.10 x 900.1 units]
50,822.1 24,201 (6,724) (3,202)
Less: closing FG stock [ 2,420.1 𝑥 320.2] [2,420.1 𝑥 3202]
Cost of sales unadjusted 63,000.1 30,000
Under / (over) absorbed FOH [26,621.1 – 33,000] 6,378.9 -
Cost of sales-adjusted 69,379 30,000
(W-2.1):
Budgeted FOH = Rs.11 x 3000 = 33,000
(b): Reconciliation
Rs. 000
Profit under absorption costing 5,171
Add: Fixed FOH in opening stock (18,902 – 9,001) 9,901
Less: Fixed FOH in closing stock (6,74 – 3,202) (3,522)
11,550

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Solution of question 4 (Spring 2008, Q-7)

Zulfiqar ltd.
Profit under Absorption costing
For the month of Jan 2008
Rs.000
Sales [Rs.250 x 2,200 units] 5,500
Less: cost of sales (3,220)
Gross profit 2,280
Less: operating expenses
Variable selling & admin expenses (550)
Fixed selling & admin expenses (504)
Profit under absorption costing 1,226

Zulfiqar ltd.
Profit under marginal costing
For the month of Jan 2008
Rs.000
Sales 5,500
Less: variable cost sales (2,520)
Less: variable operating expenses
Selling & admin expenses (Rs.25 x 22,000 units) (550)
Contribution 2,430
Less: Total fixed costs
Fixed selling & admin expenses (504)
Fixed production OH costs (756)
Profit under marginal costing 1,170
(W-1): Closing stock units = 2,000 + 24,000 – 22,000 = 4,000 units
(W-2): Cost of sales
-------------Rs.000-------------
Absorption Marginal
Variable production costs [(Rs.110 x 24,000 units) + 120,000] 2,760 2,760
756,000 672 __
Fixed production costs [( 27,000 = 28) 𝑥 24,000 𝑢𝑛𝑖𝑡𝑠]
Total production costs 3,432 2,760
Add: opening FG stock 276 220
[Rs.110 + 28 = Rs.138 x 2000]:[ Rs.110 x 2000 ]
3432 2760 (572) (460)
Less: closing FG stock [ 𝑥 4 (𝑊 − 1)]; [ 𝑥4 (𝑊 − 1)]
24 24
Costs of sales-unadjusted 3,136 2,520
Under / (over) absorbed Fixed FOH [756-672] 84 -
Cost of sales - Adjusted 3,220 2,520

(b) Profit Reconciliation

Rs.000
Profit under absorption costing 1,226
Add: Fixed FOH cost opening stock 56
Less: Fixed FOH cost in closing stock (572-460) (112)
Profit under marginal costing 1,170

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CAF-03 Marginal and absorption costing

Lecture # 6 Lecture # 29 (Over all)

Marginal and absorption costing
Class work
1. Solved question 6 (Spring 2022, Q-8) from lecture 28 handout.
2. Solved question 7 (Autumn 2015, Q-3) from lecture 28 handout.
Solution of Question 8 (Autumn 2020, Q-3)
Francisco Limited (FL)
Budgeted and actual fixed overheads for 2019 and 2020
Budgeted Fixed FOH cost for year 2019
Budgeted Fixed FOH cost is used in Fixed FOH absorption rate so we have absorption rate for year 2019 so we will
use this rate in reverse approach:
Budgeted Fixed FOH cost
Fixed FOH rate per machine hour =
Budgeted machine hours

Rs. 700 per MH = Budgeted Fixed FOH cost ÷ (82,500 MH x 80%)

Budgeted Fixed FOH cost for 2019 = Rs. 700 per MH x 66,000 machine hours
Budgeted Fixed FOH cost for 2019 = Rs. 46,200,000
Actual Fixed FOH cost for year 2019
Fixed FOH variance = Fixed FOH absorbed for actual production – Fixed FOH actual
650,000 over absorbed = [(Rs. 700 per MH x 6 MH per unit) x 11,500 units] – Fixed FOH actual
650,000 = Rs. 48,300,000 – Fixed FOH actual
Fixed FOH actual = Rs. 48,300,000 – Rs. 650,000 = Rs. 47,650,000
Budgeted Fixed FOH cost for year 2020
Budgeted Fixed FOH cost is based on actual fixed overheads cost of last year.
Budgeted Fixed FOH cost
Fixed FOH rate per machine hour =
Budgeted machine hours

Fixed FOH rate for year 2020 = Rs. 47,650,000 ÷ (82,500 MH x 82%)
Fixed FOH rate for year 2020 = Rs. 47,650,000 ÷ 67,650 Machine hours = Rs. 704 per MH
Actual Fixed FOH cost for year 2020
Fixed FOH variance = Fixed FOH absorbed for actual production – Fixed FOH actual
- 400,000 under-absorbed= [(Rs. 704 per MH x 6 MH per unit) x10,450 units] – Fixed FOH actual
- 400,000 = Rs. 44,140,800 – Fixed FOH actual
Fixed FOH actual = Rs. 44,140,800 + Rs. 400,000 = Rs. 44,540,800
(b) Francisco Limited (FL)
Profit and loss statement under marginal costing
For the year ended 31 August 2020
Rs.’000 Rs.’000
Sales Revenue 149,250
Less: Variable cost of sale
Variable cost of opening finished goods stock
[Rs. 31,000 – (Rs. 700 per MH x 6 MH x 3,500 units)] 16,300
Add: Variable production cost (Rs. 94,050 – Rs. 44,141) 49,909
66,209
Less: Variable cost of closing finished goods stock (19,104) (47,105)
[Rs. 36,000 – (Rs. 704 per MH x 6 MH per unit x 4,000 units)]
= Contribution Margin 102,145
Less: Actual Fixed costs
Fixed production overheads cost 44,541
Fixed selling and admin cost 20,900 (65,441)
= Net operating profit as per marginal costing 36,704

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CAF-03 Marginal and absorption costing
(c) Profit reconciliation statement
Rs.’000
Net operating profit as per absorption costing 38,900
Adjustment of difference in profit due to fixed FOH cost
Add: Difference in cost of opening stock
(Rs. 700 per MH x 6 MH per unit = 4,200 per unit x 3,500 units) 14,700
Less: Difference in cost of closing stock
(Rs. 704 per MH x 6 MH per unit = 4,224 per unit x 4,000 units) (16,896)
= Net operating profit as per marginal costing 36,704

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CAF-03 Marginal and absorption costing

Lecture # 6 Lecture # 29 (Over all)

Marginal and absorption costing
Class work
1. Solved question 6 (Spring 2022, Q-8) from lecture 28 handout.
2. Started solving question 7 (Autumn 2015, Q-3) from lecture 28 handout. Solution is provided as follows:

Solution of question 7 (Spring 2015, Q-3)

Income statement under marginal costing for the 2nd quarter of 2006
Rs.000
Sales 56,580
Less: variable cost of sales (W-3) (40,720)
Less: variable operating expenses:
Variable selling and admin costs [Rs. 5,250,000 x 70%] (3,675)
Contribution 12,185
Less: Total Fixed costs
Fixed selling and admin costs [Rs. 5,250,000 x 30%] (1,575)
Fixed production FOH (4,050)
Profit under marginal costing 6,560
(W-1): Fixed FOH rate per unit
2014 2015
3,600,000 4,050,000 Rs. 80 per Rs. 90 per
Fixed FOH rate per machine hour [ ]: [ ]
45,000 45,000 machine hour machine hour
Fixed FOH cost per unit [Rs. 80 x 10 hrs.]: [Rs. 90 x 10 hrs.] Rs. 800 per unit Rs. 900 per unit
(W-2): Variable production cost per unit
2014 2015
-------------- Rs --------------
38,925,000 44,325,000 9,000 9,850
Full production cost per unit [ ]: [ ]
4,325 4,500
Fixed FOH cost per unit (W-1) (800) (900)
Variable production cost per unit 8,200 8,950
(W-3): Cost of sales
Rs.000
Variable production costs [Rs.8,950 (W-2) x 4,500 units] 40,275

Total production cost 40,275

Add: opening FG stock [Rs.8,200 (W-2) x 600 units] 4,920
40,275 (4,475)
Less: closing FG stock [ x 500 units]
4,500
Variable cost of sales 40,720
(b): Reconciliation
Rs. 000
Profit under absorption costing 6,530
Add: Fixed FOH in opening stock (5,400 – 4,920) 480
Less: Fixed FOH in closing stock (4,925 – 4,475) (450)
6,560

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CAF-03 Target costing

Lecture # 1 Lecture # 30 (Over all)

Marginal and absorption costing
Class work
1. Discussed question 7 (Autumn 2015, Q-3) and question 8 (Autumn 2020, Q-3) from lecture 28 handout.

Home work
Question-9 (Spring 2012, Q-7[b])
Silver Limited (SL) produces and markets a single product. Following information is available from SL’s
records for the month of March 2012:
Volumes
Sales 100,000 units
Production 120,000 units
Standard costs:
Direct materials per unit 0.8 kg at Rs. 60 per kg
Labour per unit 27 minutes at Rs. 80 per hour
Variable production overheads Rs. 40 per labour hour
Variable selling expenses Rs. 15 per unit
Fixed selling expenses Rs. 800,000
Fixed production overheads, at a normal output level of 105,000 units per month, are estimated at Rs.
2,100,000. The selling price is Rs. 180 per unit.
Required: Assuming there are no opening stocks, prepare SL’s profit and loss statement for the month of
March 2012 using absorption costing. (05)

Target costing
Class work
1. Discussed basic concept of target costing and solved following question:
Question-1 (Illustration)
Dawlance Ltd. is considering launching a new product. The sales department has determined that an
estimated selling price will be Rs. 20 per unit. Dawlance Ltd. require a gross profit of 25% of the selling
price on all products. Following information pertains to the current expected cost per unit of new product:
Material cost per unit 2 kgs @ Rs. 50 per kg
Labour cost per unit 1.5 hours @ Rs. 40 per hour
Variable overhead cost Rs. 10 per labour hour
Fixed overheads cost Rs. 8 per labour hour
Required:
Calculate the target cost gap per unit for the new product.

Home work

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CAF-03 Target costing

Lecture # 1 Lecture # 31 (Over all)

Marginal and absorption costing
Class work
1. Discussed question 9 (Spring 2012, Q-7 [b]) and provided its solution.
Solution 9 (Spring 2012, Q-7 [b])
Silver ltd
Profit & loss statement under absorption costing
For the month of March 2012
Rs.000
Sales (Rs.180 x 100,000 units) 18,000
Less: cost of sales (W-1) (11,900)
Gross profit 6,100
Less: Operating expenses
Variable selling expenses (Rs.15 x 100,000 units) (1,500)
Fixed selling expenses (800)
Profit under absorption costing 3,800
(W-1) Cost of Sales
Rs.000
Direct material cost (0.8 kgs x Rs.60 = Rs.48 per unit x 120,000 units) 5,760
Direct labour cost (27/60 hrs. x Rs.80 = Rs.36 per unit x 120,000 unit) 4,320
Variable production OHs (27/60 hrs. x Rs.40 = Rs.18 per unit x 120,000 units) 2,160
Fixed production OHs-absorbed (Rs.20 per unit (W-2) x 120,000 units) 2,400
Total production cost 14,640
Add: opening Stock-FG 0
14,640,000 (2,440)
Less: Closing Stock-FG [ 120,000 = Rs. 122 x 20,000 (W − 3)]
Cost of sales – unadjusted 12,200
Under / (over) absorbed Fixed FOH (2,400 – 2,100 [note-1]) (300)
Cost of sales – adjusted 11,900
Rs.2,100,000
(W-2) Fixed FOH rate = = Rs. 20 per unit
105,000 units
(W-3) Opening stock units + production units – closing stock units = Sold units
0 + 120,000 – closing stock units =100,000
Closing stock units = 120,000 – 100,000 =20,000
[Note – 1]: It is assumed that budgeted fixed FOH and actual Fixed FOH are same

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CAF-03 Target costing

Target costing
Class work
1. Discussed basic concept of target costing and solved following question:
Question-1 (Illustration)
Dawlance Ltd. is considering launching a new product. The sales department has determined that the
estimated selling price will be Rs. 200 per unit. Dawlance Ltd. require a gross profit of 25% of the selling
price on all products. Following information pertains to the current expected cost per unit of new product:
Material cost per unit 2 kgs @ Rs. 50 per kg
Labour cost per unit 1.5 hours @ Rs. 40 per hour
Variable overhead cost Rs. 10 per labour hour
Fixed overheads cost Rs. 8 per labour hour
Required:
Calculate the target cost gap per unit for the new product.
Question-2 (Illustration)
Dawlance Ltd. is considering launching a new product. The sales department has determined that the
estimated selling price will be Rs. 500 per unit. Dawlance Ltd. have a requirement that all products should
generate a net profit margin equal to 20% to cover production and non-production costs. Following
information pertains to the current expected cost per unit of new product:
Material cost per unit 2.5 kgs @ Rs. 50 per kg
Labour cost per unit 3 hours @ Rs. 40 per hour
Variable overhead cost Rs. 20 per labour hour
Fixed overheads cost Rs. 10 per labour hour
Selling cost 8 % of selling price
Administration cost 12% of production cost
Required:
Calculate the target cost gap per unit for the new product.

Home work
Question-3 (Illustration)
Haier Ltd. is considering launching a new product. The sales department has determined that a realistic
selling price will be Rs. 25 per unit. Haier Ltd. have a requirement that all products should generate a
markup of 25% of target cost. Current expected cost per unit of new product is Rs. 22.
Required:
Calculate the target cost gap per unit for new product.
Question-4 (Illustration)
Packages Ltd. is considering launching a new product. The sales department has determined that a realistic
selling price will be Rs. 25 per unit. Packages Ltd. have a requirement that all products should generate
return equal to 10% on investment. Production of new product will require additional investment in plant
and machinery equal to Rs. 10 million and it is expected that the company would be able to sell 200,000
units of new product during whole life cycle. The current expected cost per unit of new product is Rs. 22.
Required:
Calculate target cost gap per unit and in total for new product.

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CAF-03 Target costing

Lecture # 2 Lecture # 32 (Over all)

Target costing
Class work
1. Solved question 2, 3 and 4 from lecture 31 handout.
2. Discussed concept of normal loss / wastage and solved following questions:
Question-5 (Illustration)
A company manufactures a product Beta. A cost estimation study has produced the following estimate of
production cost of beta:
Cost items
Direct material A Each complete unit of product Beta requires 12 kgs of material A but there will
be loss in production of 20% of input quantity. Material A costs Rs. 18 per kg.
Direct material B Each complete unit of product Beta requires 8 liters of material B but there will
be loss in production of 10% of output quantity. Material B costs Rs. 10 per liter.
Direct material C Each complete unit of product Beta requires 4.8 meters of material C but there
will be loss in production of 20%. Material C costs Rs. 14 per meter.
Direct labour Each complete unit of product Beta requires 10.5 hours of labour. It is expected
that 30% of the input time will be wasted (un-avoidable idle time). Labour is
paid at the rate of Rs. 80 per hour.
Required:
Compute expected cost per unit of product Beta, showing separately cost of material A, B, C and labour.

Home work
Question-6 (ICAP study text example 4)
A company has designed a new product, NP8. It currently estimates that in the current market, the product
could be sold for Rs.70 per unit. A gross profit margin of at least 30% on the selling price would be
required, to cover administration and marketing overheads and to make and to make an acceptable level
of profits. A cost estimation study has produced the following estimate of production cost of NP8:
Cost items
Direct material M1 cost Rs. 9 per unit of product NP8
Direct material M2 cost Each complete unit of product NP8 will require three meters of
material M2, but there will be a loss in production of 10% of material
used. Material M2 costs of Rs.1.80 per meter.
Direct labour cost Each complete unit of product NP8 will require 0.5 hours of direct
labour time. However, it is expected that there will be unavoidable idle
time equal 5% of total labour time paid for. Labour is paid at the rate
of Rs.19 per hour.
Production overheads cost It is expected that production overheads will be absorbed into products
costs at the rate of Rs.60 per direct labour hour, for each active hour
worked. (Overheads are not absorbed into the cost of idle time).

Required
i) Calculate the expected cost per unit of product NP8.
ii) Calculate target cost per unit of product NP8.
iii) Calculate the size of target cost gap.
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CAF-03 Target costing
Question-7 (ICAP study text example 5)
Scriba Company (SC) trying to launch a new product into competitive market in North America. Test
marketing has revealed the following demand curve for the product:
P = 600 – 0.005Q
where P = Sale price per unit , Q = Sales Quantity
The estimated market for the product is 500,000 units per year. The company would like to capture 10%
of this market. The company has estimated a cost card based on 50,000 units of sales each year.
Rs.
Direct material 100
Direct Labour 30
Fixed Overheads 70
Total cost 200

The company Wishes to achieve a target profit of Rs. 10,000,000 for sale of this product per year.
Required:
(a) What price will the company have to charge to capture its required market share and what is the
target unit cost to achieve its target profit?
(b) What is the size of the target cost gap and how might Scriba Company seek to close this gap?

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Lecture # 3 (Target costing) Lecture # 33 (Over all)

Class work
1. Solved question 6 and 7 from lecture 32 handout.
2. Solved following question:
Question-8 (ICAP study text comprehensive example 1)
Pollar company assembles and sells a range of components for motor vehicles, and it is considering a proposal to
add a new component to its product range. This is a component for electric motor cars, which has been given to code
number NP 19. The company sees an opportunity to gain market share in the market that is expected to grow
considerably over time, but already competition from rival producer is strong.
Component NP19 would be produced by assembling a number of parts bought in from external suppliers and would
then be sold on to manufacturers of electric cars. Pollar company would use its current workforce as assemble
workers to make the component.
Production overheads are currently absorbed into production costs on an assembly hour basis. Pollar company is
considering the use of target costing for the new component. Cost information for the new component NP19 is as
follows:
1. Part 1922: Each unit of component NP19 requires one unit of part 1922.These bought-in parts are
purchased in batches of 5,000 units, and the purchase cost is Rs. 5.30 each plus delivery costs of 2,750 per
batch.
2. Part 1940: Each unit of component NP19 requires 20 cm of part 1940, which costs of Rs. 2.40 per meter
to purchase. However, it is expected that there will be some waste due to cutting and that 5% of the
purchased part will be lost in the assembly process.
3. Other parts for component NP19 will also be bought in and will cost Rs. 7.20 per unit of the component.
4. Assemble labour. It is estimated that each unit of the component NP19 will take 25 minutes to assemble.
Assembly labour, which is not in short supply, is paid Rs. 24 per hour. It is estimated that 10% of paid
labour time will be idle time.
5. Production overheads. Analysis of recent historical costs for production overheads shows the following
costs.
Total production overheads Total assembly hours worked
(Rs.)
Month 1 912,000 18,000
Month 2 948,000 22,000
Fixed production overheads are absorbed at a rate per assembly hour based on normal activity levels. In a
normal year, Pollar Company works 250,000 assembly hours.
6. Pollar company estimates that its need to sell component NP19 at a price of no more than Rs. 56 per unit
to be competitive, and it is considered than an acceptable gross profit on components sold by the company
is 25%.
Required:
(a) Calculate the expected cost per unit of component NP19 and calculate any cost gap that exists. (13)
(b) Explain briefly how target costing might be used in the development and production of a new product. (03)
(c) Explain the benefits of adopting a target costing approach at an early stage in the development of a new
product. (04)
(d) If a target costing approach is used and a cost gap is identified for component NP19, suggest possible
measures that Pollar Co might take to reduce the gap. (05)

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Home work
Question-9 (Spring 2022, Q-3)
Denmark Ice Cream (DIC) runs various ice cream parlors across the city. Below is the average weekly information
extracted from DIC's records:
Rs. in '000
Sales 500
Variable cost (350)
Fixed cost (100)
Profit 50
DIC is now planning to introduce frozen yogurt in addition to its existing ice cream range to attract more customers.
In this regard, following information has been gathered:
(i) Sale of 800 frozen yogurt cups every week is expected to be achieved at selling price of Rs. 190 per cup. It
is expected that introduction of frozen yogurt would also increase the sales volume of ice cream by 10%.
(ii) Variable cost of frozen yogurt will be Rs. 150 per cup.
(iii) Fixed cost will increase by 12% due to launching of marketing campaign for frozen yogurt.
(iv) DIC's target is to achieve a profit margin of 14% after introducing frozen yogurt.
Required:
(a) Compute the cost gap. (03)
(b) Discuss the methods that DIC can use to close the cost gap identified in (a) above. (04)
Question-10 (Spring 2016, Q-6)
A Hi-tech Limited (HL) assembles and sells various components of heavy construction equipment. HL is working
on a proposal of assembling a new component EXV-99. Based on study of the product and market survey, the
following information has been worked out:
Projected lifetime sale of the component EXV-99 (Units) 500,000
Selling price per unit (Rs.) 11,000
Target gross profit percentage 40%
Information about cost of production of the new component is as follows:
i. One unit of EXV-99 would require:
Parts no. Net quantity Cost (Rs.)
XX 1 unit Rs. 2,350 per unit
YY 1.5 kg Rs. 1,400 per kg
ZZ 1 unit Rs. 1,200 per unit
The above parts would be imported in a lot, for production of 1,000 units of EXV-99. Custom duty and
other import charges would be 15% of cost price. HL is negotiating with the vendor who has agreed to offer
further discount.
ii. On average, assembling of one unit of EXV-99 would require 1.8 skilled labour hours at Rs. 200 per hour.
The production would be carried out in a single shift of 8 hours. At the start of each shift, set-up of machines
would require 30 minutes. 6% of the input quantity of YY and ZZ would be lost during assembly process.
iii. HL works at a normal annual capacity of 4,000,000 skilled hours. Actual production overheads and skilled
labour hours for the last two quarters are as under:
Quarter ended Total assembly hours Production overheads (Rs.)
30-Sep-2014 950,000 65,600,000
31-Dec-2014 1,050,000 68,000,000
iv. A special machine that would be used exclusively for the production of EXV-99 would be purchased at a
cost of Rs. 1,500,000.
Required:
From the above information, determine the discount that HL should obtain in order to achieve the target gross profit.
(16)
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CAF-03 Target costing

Lecture # 4 (Target costing) Lecture # 34 (Over all)

Class work
1. Discussed question 9 (Spring 2022, Q-3) from lecture 33 handout.
2. Solved question 10 (Spring 2016, Q-6) from lecture 33 handout.
Solution 9 (Spring 2022, Q-3)
(a) Denmark Ice Cream
Cost gap
Step 1 – Target cost Rs.
Sales revenue of ice cream and yogurt
(Rs. 190 x 800 cups of yogurt) + (Rs. 500,000 x 1.10) 702,000
Less: Required net profit @ 14% (98,280)
= Total Target cost after launch of yogurt 603,720

Step 2 – Current expected cost Rs.

Variable cost of ice cream (Rs. 350,000 x 1.10) 385,000
Add: Variable cost of yogurt (Rs. 150 per cup x 800 cups) 120,000
Fixed cost (Rs. 100,000 x 1.12) 112,000
= Total current expected cost after launch of yogurt 617,000

Step 3 – Target cost gap

Target cost gap = Current cost – Target cost
Target cost gap = Rs. 617,000 – Rs. 603,720 = Rs. 13,280
(b) Closing the target cost gap
(i) Re-design products to make use of common processes and components that are already used in
the manufacture of other products by the company
(ii) Discuss with key supplier’s methods of reducing materials costs. Target costing involves the entire
‘value chain’ from original suppliers of raw materials to the customer for the end-product, and
negotiations and collaborations with suppliers might be an appropriate method of finding
important reductions in cost.
(iii) Achieve cost efficiency by reducing the wastages.
(iv) Eliminate non-value-added activities or non-value-added features of the product design.
Something is ‘non-value added’ if it fails to add anything in value for the customer. The cost of
non-value-added product features or activities can therefore be saved without any loss of value for
the customer. Value analysis may be used to systematically examine all aspects of a product cost
to provide the product at the required quality at the lowest possible cost.
(v) Use standardized components that will reduce the cost. However, it might impact the innovation
element for the product.
(vi) Cost efficiency may also be achieved by reducing idle time.
(vii) Train staff in more efficient techniques and working methods. Improvements in efficiency
will reduce costs.

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Home work
Question-11 (ICAP study text comprehensive example 3)
Fintech company assembles and sells many types of radios. It is considering to apply target costing for
one of its new product which includes technology advancement. Following data is provided for calculation
of estimated cost of production.
(i) Selling price of Rs. 2,500 has been set in order to compete with the similar radio on the market
that has comparable features to Fintech Company’s intended product. The board have agreed that
the acceptable margin (after allowing for all production costs) should be 20%.
(ii) Component 1- Circuit board: These are bought in and cost Rs. 410 each. They are bought in
batches of 4,000 and additional delivery costs are Rs. 240,000. iii.
(iii) Component 2- Wiring: In an ideal situation 25cm of wiring is needed for each completed radio.
However, there is some waste involved in the process as wire is occasionally cut to the wrong
length or is damaged in the assembly process. Fintech company estimates that2% of the purchase
wire is lost in the assembly process. Wire costs Rs. 50 per meter to buy.
(iv) Other material: Other material cost Rs. 810 per radio.
(v) Assembly Labour: these are skilled people who are difficult to recruit and retain. Fintech company
has more staff of this type than needed but is prepared to carry this extra cost in return for the
security it gives the business. It takes 30 minutes to assemble a radio and the assembly workers
are paid Rs. 1,260 per hour. It is estimated that 10% of hours paid to assembly workers is for idle
time.
(vi) Production overheads: Recent historic cost analysis has revealed the following production
overhead data:
Total Production Total assembly
Month
overheads Rs. labour hours
Month 1 62,000,000 190,000
Month 2 70,000,000 230,000
Fixed production overheads are absorbed on an assembly hour basis based on normally annual activity
levels. In a typical year 2,400,000 assembly hours will be worked by Fintech Company.
Required:
Calculate the expected cost per radio and any cost gap that exists.

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CAF-03 Relevant costs

Lecture # 1 (Relevant costs) Lecture # 35(Over all)

Target costing
Class work
1. Discussed question 10 (Spring 2016, Q-6) from lecture 33 handout.
2. Discussed methods of closing target cost gap.
3. Discussed question 11 (ICAP study text comprehensive example 3) from lecture 34 handout.
Solution 11 (ICAP study text comprehensive example 3)
Cost estimate and cost gap estimate
Cost per unit Rs.
Circuit board: Rs. 410 + (Rs.240,000/4,000) 470.00
Wiring: 0.25 × Rs. 50 × 100/98 12.76
Other parts 810.00
Assembly labour cost: 30/60 × Rs. 1,260 × 100/90 700.00
Variable overheads: 30/60 × Rs. 200 100.00
Fixed overheads: 30/60 × Rs.120 60.00
Total estimated production cost 2,152.76
Target cost (80% of Rs. 2,500) 2,000.00
Cost gap (152.76)
Workings: production overhead costs
Production overhead costs can be estimated using the high-low method.
Production overheads Hours Rs.
Month 1: Total cost 190,000 62,000,000
Month 2: Total cost 230,000 70,000,000
Variable cost 40,000 8,000,000
Variable production overhead cost per hour = Rs. 8,000,000/40,000 = Rs. 200
Production overheads Rs.
Month 1: Total cost of 190,000 hours 62,000,000
Variable cost (190,000 × Rs.200) (38,000,000)
Fixed costs per month 24,000,000
Annual fixed production overhead costs = Rs. 24,000,000 × 12 = Rs. 288,000,000.
Fixed production overhead absorption rate = Rs. 288,000,000 / 2,400,000 = Rs.120

Relevant costs
1. Started discussion on relevant costing

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Lecture # 1 (Relevant costs) Lecture # 37(Over all)

Class work
Discussed types of relevant and irrelevant costs.
1. Started discussion on computation of relevant costs for overheads, non-current assets and material
and solved following questions: Question-1 (Illustration)
A company has received a special one-off contract to do a job. Three different material are required to
complete the job, Material X, Material Y and Material Z. Data relating to these materials is as
follows:
Materials Required Inventory Original Current Scrap Value
(Kgs) (Kgs) purchase cost Purchase price (Rs. /Kg)
(Rs. /Kg) (Rs. /Kg)
X 5,000 1,000 40 55 25
Y 4,000 2,500 55 52 45
Z 3,500 3,000 30 45 18
Other relevant information is as follows:
i) Material X is in regular use of the company in normal production.
ii) Material B is no longer in use by the company, and it has no alternative use, but it can be sold as a
scrap. iii) Material C is not Regularly used; it can be sold as a scrap or can be used as a substitute
material in place of Material B which has current cost of Rs. 25 per kg.
Required:
Calculate total relevant cost of material for special one-off contract.
Home work
Question-2 (Illustration)
A company is evaluating a project that requires two types of material (A and B). Data relating to the
material requirements are as follows:
Material Type Quantity Quantity in Original cost (Rs. Current Disposal
Required (Kgs) stock (Kgs) /Kg) Purchase price price (Rs.
(Rs./Kg) /Kg)
A 1,500 1,100 40 45 44
B 1,400 1,200 55 42 40

Material A is regularly used by the company in normal production. Material B is no longer in use by the
company and has no alternative use within the business.
Required:
Calculate total relevant cost of materials for the project.
CAF-03 Relevant costing principles

Lecture # 4 (Relevant costs) Lecture # 38 (Over all)

Class work
1. Discussed computation of relevant costs for material and solved question 1 (illustration) and 2
(illustration) from lecture 37 handout.

Home work
Question-3 (Illustration)
A company has material Alpha which originally cost Rs. 145,000. It has a scrap value of Rs. 112,500 but if reworked
at a cost of Rs. 107,500, it could be sold for Rs. 117,500. There is no other regular or foreseen use for the material.
Required:
What is the relevant cost of using the material for a special one-off contract?
Question-4 (Illustration)
A company is evaluating a project that requires 4,000 kg of a material that is used regularly in normal production.
2,500 kg of the material, purchased last month at a total cost of Rs. 20,000, are in inventory. Since last month the price
of the material has increased by 2.5 per cent. What is the total relevant cost of the material for the project?
Question-5 (Illustration)
A company requires 600 kg of raw material Z for a contract it is evaluating. It has 400 kg of material Z in inventory
that was purchased last month. Since then the purchase price of material Z has risen by 8% to Rs. 27 per kg. Raw
material Z is used regularly by the company in normal production. What is the total relevant cost of raw material Z to
the contract?
Question-6 (Illustration)
A company has been asked to quote a price for a one-off contract. The contract would require 5,000 kilograms of
material X. Material X is used regularly by the company. The company has 4,000 kilograms of material X currently
in inventory, which cost Rs. 2 per kilogram. The price for material X has since risen to Rs. 2.10 per kilogram.
The contract would also require 2,000 kilograms of material Y. There are 1,500 kilograms of material Y in inventory,
but because of a decision taken several weeks ago, material Y is no longer in regular use by the company. The 1,500
kilograms originally cost Rs. 7,200, and have a scrap value of Rs. 1,800. New purchases of material Y would cost
Rs. 5 per kilogram.
Required:
What are the relevant costs of the materials for special contract?
Question-7 (Illustration)
A company is considering whether to agree to do a job for a customer. It has sufficient spare capacity to take on this
job. To do the job, three different direct materials will be required, Material X, Material Y and Material Z. Data
relating to these materials is as follows:
Materials Quantity Quantity in Original purchase Current Purchase Scrap Value
Required (units) stock (units) cost (Rs. per unit) price (Rs. per unit) (Rs. /Kg)
X 800 200 20 23 22
Y 600 400 15 19 12
Z 500 300 30 40 20

Material X is regularly used by the company for other work. Material Y no longer in regular use, and the units
currently held in inventory have no alternative use. Material Z is also no longer in regular used, but if the existing
units of the material are not used for this job, they can be used as a substitute material on a different job, where the
contribution would be Rs. 25 per Kg of Material Z used.
Required:
Calculate the total relevant costs of the materials for this job for the customer.
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CAF-03 Relevant costing principles

Question-8 (Illustration)
A new contract requires the use of 50 tons of metal ZX 81. This metal is used regularly on all the firm's projects.
There are 100 tons of ZX 81 in inventory at the moment, which were bought for Rs. 200 per ton. The current purchase
price is Rs. 210 per ton, and the metal could be disposed of for net scrap proceeds of Rs. 150 per ton.
Required:
What cost should be charged to the new contract for metal ZX 81?
Question-9 (Illustration)
A company regularly uses a material. It currently has 100kg in inventory for which it paid Rs. 200. If it were sold it
could be sold for Rs. 3 per kg. The market price is now Rs. 4 per kg. A customer has placed an order that will use
200kg of the material.
Required:
What is the relevant cost of material for special order?
Question-10 (Illustration)
Z Ltd has 50 kg of material P in inventory that was bought five years ago for Rs. 70. It is no longer used but could
be sold for Rs. 3/kg. Z Ltd is currently pricing a job that could use 40 kg of material P.
Required:
What is the relevant cost of material P for special job?
Question-11 (Illustration)
A firm is currently considering a job that requires 1,000 kg of raw material. There are two possible situations:
)a) The material is used regularly within the firm for various products. The present inventory is 10,000 kg
purchased at Rs. 1.80 per kg. The current replenishment price is Rs. 2.00 per kg.
)b) The company has 2,000 kg in inventory, bought 2 years ago for Rs. 1.50 per kg, but no longer used for any
of the firm's products. The current market price for the material is Rs. 2.00, but the company could sell it for
Rs. 0.80 per kg.
Required:
What is the relevant cost of material for special job?
Question-12 (Illustration)
A new contract requires the use of 50 tons of metal ZX 81. There are 25 tons of ZX 81 in inventory at the moment,
which were bought for Rs. 200 per ton. The company no longer has any use for metal ZX 81. The current purchase
price is Rs. 210 per ton, and the metal could be disposed of for net scrap proceeds of Rs. 150 per ton.
Required:
What is the relevant cost of material for the new contract for metal ZX 81?
Question-13 (Illustration)
A project will require 3,600 labour hours to complete within one year. Company has variable overheads absorption
rate of Rs. 8 per hour and fixed overheads absorption rate of Rs. 4 per hour. A junior accountant has considered that
total overheads absorbed in this project will be Rs. 43,200 and in addition to it extra warehouse will be needed for
this project at a rental cost of Rs. 1,800 per month.
Required:
Calculate total relevant overhead cost for this project.
Question-14 (Illustration)
Asghar Ltd absorbs overheads on a machine hour rate, currently Rs. 20 per machine hour, of which Rs. 7 is for
variable overheads and Rs. 13 for fixed overheads. The company is deciding whether to undertake a contract in the
coming year for which 2,000 machine hours will be needed. If the contract is undertaken, it is estimated that fixed
costs will increase for the duration of the contract by Rs. 3,200.
Required:
Calculate total relevant overhead cost for this contract.

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CAF-03 Relevant costing principles

Lecture # 5 (Relevant costs) Lecture # 39 (Over all)

Class work
1. Discussed Q-1 to Q-14 from lecture 38 handout.
2. Discussed computation of relevant costs for labour.

Home work
Question-15 (Illustration)
Aqua Limited received a contract that requires 400 labour hours to get completed. Following data is available in
respect of labour:
(i) There are 225 hours of spare labour capacity for which the workers are being paid 40% of their normal pay rate.
(ii) The remaining hours required for the contract can be found either by overtime working paid at 50% above the
normal rate of pay or by diverting labour from the manufacture of the product Sigma. If the contract is undertaken
and labour is diverted, then sales of the product Sigma will be lost. Product Sigma takes 8 labour hours per unit
to manufacture and earns a contribution of Rs. 160 per unit.
(iii) The normal rate of pay for labour is Rs. 100 per hour.
Required:
Compute the total relevant labour cost for the contract.
Question-16 (Illustration)
Bravo company is evaluating a contract that requires 96 skilled labour hours to complete. Following information is
available in respect of labour:
(i) All of the company's skilled labour is fully employed in manufacturing a product Beta for which the following
data is relevant:
Rs. Rs.
Selling price per unit 860
Less: Variable cost per unit
Skilled labour wages cost 375
Other variable cost 315 (690)
= Contribution per unit 170
(ii) Skilled labour is currently paid Rs. 150 per hour. No other skilled labour is available.
Required:
What is the total relevant skilled labour cost of the contract?
Question-17 (Illustration)
Dexter Limited require 144 hours of skilled labour for a contract. The skilled labour force is currently working at
full capacity and the workers would have to be diverted from the production of product Charlie, to work on this
contract. The details of product Charlie are given below:
Rs.
Selling price per unit 600
Less: Cost per unit
Direct material cost 100
Direct labour cost @ Rs. 100 per hour 100
Variable production overheads cost 150
Fixed production overheads cost 150
= Profit per unit 100
The skilled workers' pay rate would remain same, regardless of which product they work on.
Required:
Calculate the relevant cost of the skilled labour for the contract.

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CAF-03 Relevant costing principles

Question-18 (Illustration)
Gulistan Textiles Limited has received an export order and it is considering the price to charge for the order. Along
with other costs, the order will require labour time in following three departments:
Spinning department
The order would require 200 hours of work in Spinning department, where the workforce is normally paid Rs. 120
per hour. There is currently 350 spare labour capacity in Spinning department and 70% of the normal rate is already
paid in spare hours.
Weaving department
The order would require 100 hours of work in the weaving department, where the workforce is paid Rs. 150 per hour.
This department is currently working at full capacity. The company could ask the work force to do overtime work,
paid for at the normal rate per hour plus 50% overtime premium. Alternatively, the workforce could be diverted from
other work that earns a contribution of Rs. 50 per hour.
Dying department
The order would require 300 hours of work in the dying department, where the workforce is paid Rs. 200 per hour.
Labour in this department is in short supply and all the available time is currently making product Delta, which earns
the following contribution:
Rs. Rs.
Selling price per unit 900
Less: Variable cost per unit
Material cost per unit 200
Labour cost (2 hours per unit) 400
Variable overheads cost 100 (700)
Contribution per unit of product Delta 200
Required:
Compute the relevant cost of labour for the order in all three departments.

Question-19 (Illustration)
Paramount Limited (PL) is currently deciding whether to undertake a new contract or not. It is estimated that 48 hours
of labour will be required for this new contract. PL currently produces a regular product Zulu, the standard cost details
of which are shown below:
Rs.
Direct material cost per unit (Rs. 20 per kg x 10 Kgs per unit) 200
Direct labour cost per unit (Rs. 60 per hour x 5 hours per unit) 300
Variable cost per unit 500
Selling price per unit 720
Contribution per unit 220
Required:
Calculate the relevant cost of labour:
(a) If currently labour has no spare capacity in the company and new labour must be hired from outside the
organisation at Rs. 80 per hour.
(b) If PL expects to have 16 hours of spare capacity and new labour can’t be hired from outside the market.
(c) If labour is fully employed in manufacturing product Zulu and labour can be hired from market at Rs. 120
per hour.

Question-20 (Illustration)
Niazi Ltd is pricing an order that requires 20 hours of skilled labour and 50 hours of semi - skilled labour. The four
existing skilled workers are paid Rs. 15 per hour with a minimum weekly wage of Rs. 450. Each of them is currently
working 24 hours a week. The semi -skilled workforce is currently fully utilised. They are each paid Rs. 10 per hour,
with overtime payable at time and a half. Additional semi-skilled workers may be hired for Rs. 12 per hour.
Required:
Compute the relevant labour cost for Niazi Ltd's order.

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CAF-03 Relevant costing principles

Question-21 (Illustration)
(a) 100 hours of unskilled labour are needed for a contract. The company has no surplus capacity at the moment,
but additional temporary staff could be hired at Rs. 4.50 per hour.
Required:
What is the relevant cost of unskilled labour on the contract?
(b) 100 hours of semi-skilled labour are needed for a contract. Currently labour has 300 hours of spare capacity.
There is a union agreement that there are no lay-offs. The workers are paid Rs. 6.50 per hour in spare hours
which is 65% of normal pay rate.
Required:
What is the relevant cost of the semi-skilled labour on the contract?

Question-22 (Illustration)
Redco Limited specializes in the production of food and personal care products. The production capacity of the
factory is 2 million Kgs but currently the factory is operating at 50% capacity. During the coming year, the company
intends to launch a new product called RCC.
It is estimated that demand of new product is 400,000 Kgs and entire quantity of existing products and new product
can be easily sold in market. Fixed overheads at 100% capacity are Rs. 25 million. However, if the factory operates
below capacity, the fixed overheads are reduced as follows:
• by 10% at below 80% of the capacity
• by 25% at below 60% of the capacity
Required:
Calculate total relevant fixed production overhead cost for new product RCC.

Question-23 (Illustration)
A company is considering bidding for a project that will take one year to complete. An analysis of the project has
already been completed and a specialized machine will be required for a total of 4 months.
The machine can be hired from a reputable supplier, who would guarantee its availability when it is required for Rs
45,000 per month.
Alternatively, it could be purchased at a cost of Rs 1,250,000. If it were purchased it could be sold in 1 years’ time
for Rs. 1,000,000. If the machine were purchased, it could be put to hire to other companies for Rs. 25,000 per month
and it is believed that it would be hired out for a total of 6 months.
Required:
What is the relevant cost of using the machine for this one-year project?

Question-24 (Illustration)
A machine costing Rs. 1000,000 was purchased seven years ago. If we use this machine in business, it is expected
to generate future revenues of Rs. 150,000, alternatively it could be sold at a scrap value of Rs. 80,000. An equivalent
machine in the same condition could be procured from the market at a cost of Rs. 90,000.
Required:
What is the relevant cost of using the machine for a special one – off contract?

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Lecture # 6 (Relevant costs) Lecture # 40 (Over all)

Class work
1. Provided solutions of question 15 to question 24 from lecture 39 handout (at end of this handout).
2. Solved following question:
Question-25 (ICAP study text comprehensive example 3)
JD is small specialist manufacturer of electronic components and much of its output is used by the maker of
aircraft.one of the small number of aircraft manufacturer has offered a contract to company JD for the supply of 400
identical components over the next twelve months. The data related to the production of each component is as
follows:
(a) Material requirements
3 Kilograms material M1 See Note 1 below
2 Kilograms material P2 See Note 2 below
1 Part No 678 See Note 3 below
Note 1: Material M1 is in continuous use by the company. 1,000 kilograms are currently held in stock at a
carrying amount of Rs.4.70 per kilogram but it is known that future purchases will cost Rs. 5.5 per
kilogram.
Note 2: 1,200 kilogram of material P2 are held in inventory. The original cost of the material was Rs.4.30
per kilogram but as the material has not been required for the last two years it has been written
down to Rs.1.50 per kilogram (scrap value). The only foreseeable alternative use is as a substitute
for material P4 (in current use) but this would involve further processing costs of
Rs. 1.60 per kilogram. The current market cost of material P4 is 3.60 per kilogram.
Note 3: It is estimated that the Part No 678 could be bought for Rs.50 each.
(b) Labour requirements
Each component would require five hours of skilled labour and five hours of semi-skilled. A skilled
employee possessing the necessary skills is available in spare capacity and he is currently paid wages of
Rs. 5 per hour. A replacement would, however, have to be obtained at a rate of Rs. 4 per hour of work that
would otherwise be done by the skilled employee. The current rate for semi-skilled work is Rs.3 per hour
and an additional employee could be appointed for this work.
(c) Production overheads
JD absorbs overheads by a machine hour rate, currently Rs.20 per hour of which Rs.7 is for variable
overheads and Rs. 13 for fixed overheads. If this contract is undertaken it is estimated that fixed costs will
increase for the duration of the contact by Rs. 3,200. Spare machine capacity is available and each
component would require 4 machine hours.
(d) Price of contract
A sale price of Rs.145 per component has been suggested by large air craft manufacturer.
Required:
State whether or not the contract should be accepted and support your conclusion with appropriate figures
for presentation to management.

Question-26 (Autumn 2012, Q-8)

Tychy Limited (TL) is engaged in the manufacture of specialized motors. The company has been asked to provide a
quotation for building a motor for a large textile industrial unit in Punjab. The following information has been
obtained by TL’s technical manager in a one-hour meeting with the potential customer. The manager is paid an
annual salary equivalent to Rs. 2,500 per eight-hour day.
1. The motor would require 120 ft of wire-C which is regularly used by TL in production. TL has 300 ft of wire-
C in inventory at the cost of Rs. 65 per ft. The resale value of wire-C is Rs. 63 and its current replacement cost
is Rs. 68 per ft.

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2. 50 kg of another material viz. Wire-D and 30 other small components would also be required by TL for the
motor. Wire-D would be purchased from a supplier at Rs. 10 per kg. The supplier sells a minimum quantity of
60 kg per order. However, the remaining quantity of wire-D will be of no use to TL after the completion of the
contract. The other small components will be purchased from the market at Rs. 80 per component.
3. The manufacturing process would require 250 hours of skilled labour and 30 machine hours. The skilled
workers are paid a guaranteed wage of Rs. 20 per hour and the current spare capacity available with TL for
such class of workers is 100 direct labour hours. However, additional labour hours may be obtained by either:
• Paying overtime at Rs. 23 per hour; or
• Hiring temporary workers at Rs. 21 per hour. These workers would require 5 hours of supervision
by AL’s existing supervisor who would be paid overtime of Rs. 20 per hour.
4. The machine on which the motor would be manufactured was leased by TL last year at a monthly rent of Rs.
5,000 and it has a spare capacity of 110 hours per month. The variable running cost of the machine is Rs. 15
per hour.
5. Fixed overheads are absorbed at the rate of Rs. 25 per direct labour hour.
Required:
Compute the relevant cost of producing textile motor. Give brief reasons for the inclusion or exclusion of
any cost from your computation. (10)

Home work
Question-27 (ICAP study text comprehensive example 1)
BB Company has received an inquiry from a customer for the supply of 500 units of a new product, product
B22.Negotiation on the final price to charge the customer are in progress and the sales manager has asked you to
supply relevant cost information. The following information is available:
1. Each unit of product B22 requires following raw material
Raw material type
X 4KGS
Y 6KGS

2. The company has 5,000 kg of material X currently in stock. This was purchased last year at a cost of Rs.7
per kg. If not used to make the product B22, the stock of X could either be sold for Rs. 7.50 per Kg or
converted at a cost of Rs.1.50 per kg, so that it could be used as substitute for another raw material, material
Z which the company requires for other production. The current purchase price per kilogram for material
is Rs. 9.50 for material Z and Rs. 8.25 per kg for material X.
3. There are 10,000 kilogram of raw material Y in inventory valued of a FIFO basis at a total cost of Rs.
142,750. Of this current inventory, 3,000 kilograms were purchased six months ago at a cost of 13.75 per
kg. The rest of the inventory was purchased last month. Material Y is used regularly in a normal production
work. Since the last purchase of material Y a month ago, the company has been advised by the supplier that
the price per kilogram has been increased by 4%.
4. Each unit of product B22 requires following number of labour hours in its manufacturing:
Type of labour:
Skilled: 5 hours
Un Skilled: 3 hours
Skilled labour is paid Rs.8 per hour and Un-skilled labour for Rs. 6 per hour.
5. There is a shortage of skilled labour so that if production of BB22 goes ahead it will be necessary to transfer
skilled worker from other work to undertake it. The other work on which skilled workers are engaged at
present is the manufacture of product B16.The selling price and variable cost information for B16 is as
follows:

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Rs. Rs.
Selling price per unit 100
Less: Variable production cost per unit
Skilled labour cost per unit 24
Other variable cost per unit 31 (55)
Contribution per unit 45

6. The company has a surplus of unskilled workers who are paid a fixed wage for a 37-hour week. It is
estimated that there are 900 hours of unused unskilled labour time available during the period of contract.
The balance of the unskilled labour requirements could be met by working overtime, which is paid at time
and a half.
7. The company absorbs production overheads by a machine hour rate. This absorption rate is Rs.22.50 per
hour, of which Rs.8.75 is variable overheads and the balance is for fixed overheads. If production of product
BB is undertaken it is estimated that an extra of 4,000 will be spent on fixed costs. Spare machine capacity
is available and each unit of B22 will require 2 hours of machining time in its manufacture using the existing
equipment. In addition, special fishing machines will be required for two weeks to complete the B22.The
machine will be hired at a cost of Rs. 2,650 per week, and there will be no overhead costs associated with
their use.
8. Cash spending of Rs. 3,250 has been incurred already on development work for the production B22.It is
estimated that before production of B22 begins, Another Rs. 1,750 will have to be spent on development,
making a total development cost of Rs.5,000.
Required:
Calculate the minimum price that the company should be prepared to expect for the 500 units of product B22.Explain
briefly but clearly how each figure in the minimum price calculation has been obtained.
(The minimum price is the price that equals the total relevant costs of producing the items any price in excess of
the minimum price will add to the total profit.)

Solutions of question 2 to question 24 from lecture 38 and lecture 39 handouts:

Solution-2
Total Relevant cost of material Rs
Material A (1500 kgs x Rs.45/kg) (N-1) 67,500
Material B[(1200 kgs x Rs.40 per kg)+(200kgs x Rs.42 per kg)] (N-2) 56,400
123,900
(N-1) Material A is regularly used by the company. Therefore, its relevant cost is current purchase price.
(N-2) Material B is not in regular use and has no alternative use, therefore the relevant cost of 1,200 kgs in stock
will be scrap value forgone. For the remaining 200 kgs required for the project, the relevant cost will be the
current purchase price.
Solution-3 Rs
Relevant cost of material Alpha (N-1) 112,500
(N-1) Material Alpha is not in regular use. therefore, its relevant cost will be higher of the following two benefits
foregone:
1) Scrap value in current condition Rs.112,500
2) Scrap value after modification (117,500 – 7,500) Rs.110,000
Solution-4 Rs
Relevant cost of Material (4,000 kgs x 8.2) (N-1) 32,800
(N-1) Since the material is in regular use of the company. therefore, its relevant cost will be current purchase price
20,000
which is Rs.8.2 per kg ( x 1.025).
2,500
Solution-5 Rs
Relevant cost of Material Z (600 kgs x Rs.27 per kg) (N-1) 16,200
(N-1) Since material Z is in regular use of the company, its relevant cost will be the current purchase price, and all
the required material will be purchased from the market.

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Solution-6
Relevant cost of Material for special contract Rs.
Material X (5,000 kgs x Rs.2.1 per kg) (N-1) 10,500
Material Y [Rs.1,800 + (500 kgs x Rs.5)] (N-2) 4,300
14,800
(N-1) Material X is regularly used by the company, so all the required material will be purchased from the market
and its relevant cost will be purchase price.
(N-2) Material Y is no longer used by the company, the relevant cost of existing 1,500 kgs will be the scrap value
foregone. The remaining 500 kgs will be purchased from the market and the relevant cost will be the current
purchase price.
Solution-7
Total Relevant cost of Materials Rs.
Material X [800 kgs x Rs.23 per kg] (N-1) 18,400
Material Y [(400 kgs x Rs.12 per kg) + (200 kgs x Rs.19 per kg)] (N-2) 8,600
Material Z [(300 kgs x Rs.25 per kg) + (200 kgs x Rs.40 per kg)] (N-3) 15,500
42,500
(N-1) Material X is regularly used by the company, so all the required quantity will be purchased from the market
and the relevant cost will be the current purchased price.
(N-2) Material Y is not regularly used, therefore the relevant cost of existing 400 kgs will be the scrap value
foregone. The remaining 200 kgs required will be purchased from the market and the relevant cost will be
the current purchase price.
(N-3) For existing 300 kgs of material Z, relevant cost will be higher of the following two benefits foregone:
Scrape value per kg Rs. 20
Contribution from alternative use Rs. 25
For the remaining 200 kgs, the relevant cost will be the current purchase price as these will be purchased
from the market.
Solution-8 Rs
Relevant cost of metal ZX-81 (50 tons x Rs.210 per ton) (N-1) 10,500
(N-1) As the material is regularly used by the firm, all the required for contract will be purchased from market and
relevant cost will be current purchased price.
Solution-9 Rs
Relevant cost of material for special order (200 kgs x Rs.4 per kg) (N-1) 800
(N-1) Since the material is regularly used by the company all the required material will be purchased from the
market and relevant will be the current purchase price.
Solution-10 Rs
Relevant Cost of material P (40 kgs x Rs.3 per kg) (N-1) 120
(N-1) As the material is not regularly used, relevant cost will be Scrap value foregone.
Solution-11 Rs
(a) Relevant cost of material (1,000 kgs Rs.2 per kgs) (N-1) 2,000
(N-1) Since the material is regularly used by the firm all the required material will be purchased from the market
and relevant cost will be current purchase price.
Rs
(b) Relevant cost of material (1000 kgs x Rs. 0.8 per kg) (N-2) 800
(N-1) As the material is not regularly used, relevant cost will be Scrap value foregone.
Solution-12 Rs
Relevant Cost of metal ZX 81 [(25 tons x Rs.150 per ton) + (25 tons x Rs.210 per ton)] (N-1) 9,000
(N-1) Metal ZX 81 is no longer used by the company, the relevant cost of the existing 25 tons will be the net scrap
value foregone. The remaining 25 tons will be purchased from the market and the relevant cost will be the
current purchase price.

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Solution-13
Relevant Overhead cost of project Rs
Variable overheads (3,600 hrs x Rs.8 per hr) (N-1) 28,800
Fixed overheads (12 months x Rs.1800 per month) (N-2) 21,600
50,200
(N-1) Variable overheads are always a relevant cost.
(N-2) Only incremental (additional) fixed overheads are relevant. Existing/absorbed fixed overheads are irrelevant
cost, so ignored in calculation.
Solution-14
Total Relevant overhead cost Rs
Variable overheads (2,000 MH x Rs.7 per MH) (N-1) 14,000
Fixed overheads (N-2) 3,200
17,200
(N-1) Variable overheads are always irrelevant cost
(N-2) Only incremental / additional OHs are relevant and existing /absorbed fixed overheads are irrelevant cost
so ignored.
Solution-15
Relevant cost of labour Rs
Cost of spare 225 hours [ 225 hours x (Rs.100 x 60%)] (N-1) 13,500
Cost of remaining 175 hours (175 hours x Rs.120) (N-2) 21,000
34,500
(N-1) For spare 225 hours, relevant cost will the remaining 60% as 40% of normal pay rate is committed cost so it
is irrelevant.
(N-2) For remaining 175 hours, relevant cost will be lower of following two costs:
Overtime cost per hour (Rs.100 x 1.50) Rs. 150
Rs.160 Rs. 120
Diversion cost per hour [Rs.100 + ( )]
8 hrs

Solution-16 Rs
Relevant cost of skilled labour (96 hours x Rs. 218 per hour) (N-1) 20,928
(N-1) As all the skilled labour is fully employed, relevant cost will be diversion cost calculated as follows:
Diversion Cost Rs
Current wages paid per hour 150
Contribution per hour of Beta lost (Rs.170 ÷ 2.5 hours) (N-1.1) 68
218
(N-1.1) Skilled labour hours required per unit of beta [Rs.375 ÷ Rs.150 per hour] 2.5 hours
Solution-17 Rs
Relevant cost of skilled labour (144 hours x Rs. 350 per hour) (N-1) 50,400
(N-1) As all the skilled labour is fully employed, relevant cost will be diversion cost calculated as follows:
Diversion Cost Rs
Current wages paid per hour 100
Contribution per hour of Charlie lost (Rs.250 ÷ 1 hours) (N-1.1) 250
350
(N-1.1) Contribution per unit of Charlie [600-100-100-150] Rs. 250
Solution-18
Relevant labour cost in all three department Rs
Spinning department (200 hours x Rs.36) (N-1) 7,200
Wearing department (100 hours x Rs.200) (N-2) 20,000
Dying department (300 hours x Rs.300) (N-3) 90,000
117,200
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(N-1) Already 70% of normal rate is committed for spare time, therefore only 30% of normal rate will be relevant
cost which is Rs.36 (120 x 30%)
(N-2) For 100 hours in weaving department, relevant cost will be lower of following two costs:
Overtime cost per hour (Rs.150 x 1.50) Rs. 225
Diversion cost per hour (Rs.150 + Rs.50) Rs. 200
(N-3) As the labour in dying department is in short supply, relevant cost of required hours will be diversion cost
calculated as follows:
Diversion Cost Rs
Current wages paid per hour 200
Contribution per hour of Delta lost (Rs.200 ÷ 2 hours) 100
300
Solution-19 Rs
(a) Relevant cost of labour (48 hours x Rs.80 per hour) (N-1) 3,840
(N-1) As no spare capacity is available and new labour must be hired from the market, the relevant cost will be the
cost of hiring.
Rs
(b) Relevant cost of labour (32 hours x Rs. 104 per hour) (N-1) 3,328
(N-1) For spare 16 hours, relevant cost will be NIL. For remaining 32 hours required for the contract, relevant
cost will be diversion cost calculated as follows:
Diversion Cost Rs
Current wages paid per hour 60
Contribution per hour of Zulu lost (Rs.220 ÷ 5 hours) 44
104
Rs
(c) Relevant cost of labour (48 hours x Rs. 104 per hour) (N-1) 4,992
(N-1) As labour is fully employed, relevant cost for the contract will be lower of following two costs:
Hiring cost of new labour per hour Rs. 120
Diversion cost per hour [part b] Rs. 104
Solution-20
Relevant labour cost for the order Rs
Skilled labour (N-1) NIL
Semi-skilled labour (50 hours x Rs.12 per hour) (N-2) 600
600
(N-1) Relevant cost for skilled labour is NIL as skilled labour has fully paid spare capacity calculated as follows:
Minimum guaranteed hours paid per week [ Rs.450 ÷ Rs.15] 30
Current working hours (24)
Spare capacity per worker per week already paid 6
Required for order 20 hrs
Fully paid spare capacity (6x4) 24 hrs
(N-2) For semi-skilled labour, relevant cost will be lower of following two costs:
Overtime cost per hour to existing labour (Rs.10 x 1.5) Rs. 15
Hiring cost per hour of additional labour from market Rs. 12
Solution-21 Rs
(a) Relevant cost of un-skilled labour (100 hours x Rs.4.5 per hour) (N-1) 450
(N-1) As no spare capacity is available, new labour will be hired from the market, the relevant cost will be the cost
of hiring.
Rs
(b) Relevant cost of semi-skilled labour (100 hours x Rs. 3.5 per hour) (N-1) 350
(N-1) For spare 300 hours, relevant cost will the remaining 35% as 65% of normal pay rate is committed cost so
it is irrelevant.

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Solution-22
Relevant fixed Overhead cost for Product RCC Rs. million
Fixed cost at 70% Capacity (N-1) 22.50
Less: Current fixed cost at 50% capacity (N-2) (18.75)
Incremental fixed cost 3.75
1 𝑚𝑖𝑙𝑙𝑙𝑖𝑜𝑛+0.4 𝑚𝑖𝑙𝑙𝑖𝑜𝑛
(N-1) Capacity level after RCC [ ] 70%
2 𝑚𝑖𝑙𝑙𝑖𝑜𝑛
(N-2) Rs. million
Fixed Overheads at 100% capacity 25
Fixed Overheads between 60% - 80% [25 x 90%] 22.5
Fixed Overheads below 60% capacity [25 x 75%] 18.75
Solution-23
Relevant cost of using machine for 1 year contract Rs.
Hiring cost of machine [Rs.4,500 x 4 months] (A) 180,000
Purchasing of machine:
Fall in market value [ Rs.1,250,00 – Rs.1,000,000] 250,000
Less: Rental income from letting the machine at rent to others [Rs.25,000x6months] (150,000)
(B) 100,000
Relevant cost is lower of (A) or (B) 100,000
Solution-24
Relevant cost of using the machine in one off contract Rs.
Current option for machine
Future revenue from use in business 150,000
Scrap value if sold 80,000
Opportunity cost for using machine on special one-off contract is Higher (A) 150,000
Cost of an equivalent machine (B) 90,000
Relevant cost will be lower of (A) or (B) 90,000

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Lecture # 7 (Relevant costs) Lecture # 41 (Over all)

Class work
1. Solved question 26 (Autumn 2012, Q-8) from lecture 40 handout.
2. Discussed problems in question 1 to question 24 from lecture 38 and 39 handouts.

Home work
Question-28 (Spring 2002, Q-4)
A one-year contract has been offered to Maliaka Industries which will utilize an existing machine that is only suitable
for such contract works. The machine cost Rs. 275,000 four years ago and has been depreciated by Rs. 60,000 per
year on a straight-line basis and thus has a book value of Rs. 35,000. The machine could be sold for Rs 47,500 now
or in one year’s time it could be sold for Rs. 4,000.
1. Four types of materials would be required for the contract as follows:
Material Quantity Quantity required Original Current Current
available in stock for contract purchase price Buying price resale price
Units Units Rs. per unit Rs. per unit Rs. per unit
071 1,200 450 23.00 17.00 14.50
076 200 1,250 32.00 42.00 40.50
079 3,000 800 47.00 53.50 42.00
085 1,800 1,200 33.00 13.25 12.00

Material 071 and 085 are in regular use within the firm. Material 076 could be sold if not used for the contract
and there are no other uses for 079, which has been deemed to be obsolete and can’t be sold as scrap.
2. The labour requirements for the contract are:
First six months Subsequent six First six months Subsequent six
months months
Hours Required Normal wage rate in Rupees
Skilled 1,350 1,276 25.00 28.75
Semi-skilled 1,400 1,225 17.00 19.00
Unskilled 1,225 1,400 15.00 16.00
• It is expected that there will be a shortage of skilled labour in the first six months only and for the subsequent
six months additional labour can be hired from the market. During the first six months, for the purposes of
the contract, skilled labour will have to be diverted from other work from which a contribution of Rs. 7.50
per hour is earned, net of wage costs.
• The firm currently has a surplus of semi-skilled labour paid at full rate but doing unskilled work. The semi-
skilled labour required for the contract could be transferred back from unskilled work and there would be a
new replacement of unskilled worker from market for unskilled work.
• Unskilled labour is hired when needed for a special contract.
3. Overheads are generally allocated in the firm at Rs. 18 per skilled labour hour, which represents Rs. 13 for fixed
overheads and Rs. 5 for variable overheads.

Required:
Determine the relevant cost of the contract and sales price of the contract using the following assumptions:
• 10 % contribution margin is earned on the relevant cost of the contract.
• Contribution margin over relevant cost is equal to 15% of selling price. (18)

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Question-29 (Spring 2008, Q-4)

Fazal Industries Limited is currently negotiating a contract to supply its products to K-Mart, a large chain of
departmental stores. K-Mart finally offered to sign a one-year contract at a lump sum price of Rs. 19,000,000.
The Cost Accountant of Fazal Industries Limited believes that the offered price is too low. However, the management
has asked you to reassess the situation. The cost accountant has provided you the following information:
Statement of Estimated Costs (Project: K-Mart)
Notes Rupees
Material cost:
X (at historical cost) (1) 1,500,000
Y (at historical cost) (2) 1,350,000
Z (3) 2,250,000
Labour cost:
Skilled (4) 4,050,000
Unskilled (5) 2,250,000
Supervisory (6) 810,000
Overheads cost (7) 8,500,000
Total cost 20,710,000

You have analyzed the situation and gathered the following information
1. Material X is available in stock. It is regularly used in production & currently available at 20% less than
the historical cost.
2. Material Y was ordered for another contract but is no longer required. Its net realizable value is Rs.
1,470,000
3. Material Z is not in stock
4. Skilled labour has spare capacity and can work on other contracts which are presently operated by semi-
skilled labour who have been hired on temporary basis at a cost of Rs. 325,000 per month. If company
wants to use services of skilled workers in place of semi-skilled workers, then company will need to give
them a notice of 30 days before terminating their services.
5. Unskilled labour will have to be hired for this contract.
6. Two new supervisors will be hired for this contract at Rs. 15,000 per month for each. The present
supervisors will remain employed whether the contract is accepted or not.
7. These include fixed overheads absorbed at the rate of 100% of skilled labour. Fixed production overheads
of Rs. 875,000, which would only be incurred if the contract is accepted, have been included for
determining the above fixed overhead absorption rate.
Required:
Prepare a revised statement of estimated costs using the opportunity cost approach, for the management of Fazal
Industries and state whether the contract should be accepted or not. (14)

Solution 27 (ICAP study text comprehensive example 1) from lecture 40 handout

BB company
Relevant costs for 500 units of B22 Rs
Raw Material X (N-1) 16,000
Raw Material -Y (Rs.15.08 per kg x 6 kgs x 500 units) (N-2) 45,240
Skilled labour (Rs.23 per hour x 5 hours x 500 units) (N-2) 57,500
Un-Skilled labour (Rs.6 per hour x 1.5 x 600 hours) (N-3) 5,400
Variable production overheads (Rs.8.75 per hour x 2 hours x 500 unit) (N-4) 8,750
Fixed production overheads – absorbed (N-5) -
Fixed production overheads – incremental (N-5) 4,000
Hiring cost of finishing machine (Rs.2,650 per week x 2 weeks) (N-6) 5,300
Development cost (N-7) 1,750
Minimum price for 500 units of product B22 143,940
(N-1) Relevant cost of R.M will be higher of two benefits foregone:
(i) Scrap value (Rs.7.5 per kg x 4 kgs x 500 units) 15,000
(ii) Cost saving of Material Z [4 kgs x 500 units x (9.5-45) per kg] 16,000

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(N-2) Since Raw material Y is regularly used by BB company, all the required quantity will be purchased from
market and relevant cost will be current purchased cost calculated as follows:
Rs.
Total cost of 10,000 kgs 142,750
Cost of 3,000 kgs purchased 6 months ago (3,000 kgs x 13.75 per kg) (41,250)
Cost of remaining 7,000 kgs purchased last month 101,500
Cost per kg last month (Rs.101,500 ÷ 7,000 kgs) 14.5
Cost per kg after 4% increase (current price) [14.5 x 1.04] 15.08

(N-3) As the skilled labour is short, relevant cost will be diversion cost calculated as follows:
Diversion Cost Rs
Current wages paid per hour 8
Contribution per hour of B16 lost (Rs.45 ÷ 3 hours) (N-3.1) 15
23
(N-3.1) Skilled labour hours required per unit of B16 [Rs.24 ÷ Rs.8 per hour] 3 hours

(N-4) Relevant cost of 900 spare hours of unskilled labour will be NIL as they are paid fixed committed wages.
For the remaining 600 hours [(3 x 500) – 900] required, relevant cost will be overtime cost.
(N-5) Variable production overheads are always relevant as these are incremental.
(N-6) Absorbed fixed overheads are existing cost so irrelevant. However extra Rs. 4,000 is an incremental cost so
it is a relevant fixed cost.
(N-7) Hiring cost of finishing machine is incremental cost. Therefore, its hiring cost of 2 weeks will be relevant.
(N-8) Development cost of Rs.3,250 is a sunk cost so it is irrelevant. However, Rs.1,750 is a future cost so it is a
relevant cost.

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Lecture # 8 (Relevant costs) Lecture # 42 (Over all)

Class work
1. Solved question 30 (Spring 2016, Q-7) and question 31 (Autumn 2018, Q-6).
2. Discussed problems in question 28 (Spring 2002, Q-4) and question 29 (Spring 2008, Q-4) from lecture
41 handout.
Question-30 (Spring 2016, Q-7)
Global (Pvt.) Limited (GPL) is in the process of preparing bid documents for a special order of 5,000 units of a new
product Zeta. In this respect, GPL’s technical department has worked-out the following projections/information:
(i) The order would be completed in 15 days.
(ii) GPL has sufficient stock of the required materials to produce Zeta. Some of the relevant information is as
follows:
Material A Material B Material C
Quantity required 5,000 Kgs 3,000 Kgs 2,000 Kgs
Original purchase price Rs. 180 per Kg Rs. 150 per Kg Rs. 50 per Kg
Current purchase price Rs. 200 per Kg Rs. 175 per Kg Rs. 60 per Kg
Current disposal price Rs. 100 per Kg Rs. 135 per Kg NIL

• Material A is used by GPL in many products and therefore sufficient stock is maintained.
• Material B has no use other than in the production of Zeta.
• The stock of material C was purchased several years ago for another project. It can only be used in
the production of Zeta. Otherwise, it will have to be disposed of at a cost of Rs. 10 per kg to meet
environmental legislation.
iii. The production of Zeta would require:
• 800 skilled labour hours at Rs. 200 per hour. Presently, 1,440 labour hours idle during each month.
• 250 unskilled labour hours which can be hired at Rs. 120 per hour.
• 150 machine hours. If the machine is not used for Zeta, it may be leased out at Rs. 4,000 per day.
iv. GPL absorbs overheads at Rs. 400 per skilled and unskilled labour hours. Based on normal capacity of
50,000 hours, fixed overheads are estimated at Rs. 6,000,000. If GPL decides to produce Zeta, fixed
overheads would increase by Rs. 150,000.
v. As a result of production of Zeta, general administration cost would increase by Rs. 100,000.
vi. The planning department of GPL has incurred a cost of Rs. 20,000 on preparing feasibility for production
of Zeta.
Required:
Compute the bid price that GPL should quote, if it wants to earn profit (based on relevant costs only) of 20% of selling
price. (12)

Question-31 (Autumn 2018, Q-6)

Rugby Limited (RL) is engaged in manufacturing of a product ‘B1’. Presently, RL is considering to launch a new
product B1-Extra which has a demand of 10,000 units per month. The estimated selling price of B1 - Extra is Rs.
2,000 per unit. Other relevant information is as follows:
1. Each unit of B1-Extra would require 2 kg of material X and 1.5 labour hours. Material X is available in the
market at Rs. 520 per kg. Alternatively, instead of material X, RL can use 2.5 kg of a substitute material Y
which can be produced internally. Production of each kg of Y would require raw material costing Rs. 300
and 0.5 labour hour.
2. Presently, about 14,000 labour hours remain idle each month and are paid at the rate of 50% of the normal
wage rate of Rs. 250 per hour and such payments are charged to administration expenses.
3. Any shortfall in required labour hours can be met through overtime at the rate of 40% above the normal
wage rate.

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4. Records of last 4 months show the Following factory overheads (variable and fixed) at different levels of
direct labour hours:
Month 1 Month 2 Month 3 Month 4
Direct labour hours 174,000 172,000 170,000 168,000
Factory overheads (Rs.’000) 58,280 57,840 57,400 56,960

Required:
Calculate the expected relevant cost per unit of B1-Extra and determine the cost gap (if any) if RL requires
a margin of 30%. (11)

Solution 28 (Spring 2002, Q-4) from lecture 41 handout

Relevant cost of contract
Note Rs.
Fall in value of machine – opportunity cost (Rs. 47,500 – Rs. 4,000) 43,500
Material cost
Material 071 (N1) 7,650
Material 076 (N2) 52,200
Material 079 (N3) NIL
Material 085 (N4) 15,900
Labour cost
Skilled (N5) 80,560
Semi – skilled (N6) 40,600
Unskilled (N7) 40,775
Variable overheads cost (N8) 13,130
Total relevant cost 294,315
Sale price with 15% margin on selling price
% Rs.
Relevant cost 85% 294,315
Add: 15% margin on selling price 15% 51,943 [294,315 ÷ 85% x 15%]
Selling price 100% 346,258
(N1) Material 071
Material 071 required for production is 450 Kgs and it is available in stock and it has regular use so current
purchase cost will be relevant cost.
Current purchase cost = Rs. 17 per kg x 450 Kgs = Rs. 7,650
(N2) Material 076
The material required for production is 1,250 Kgs. There are 200 Kgs of material available in stock which
has no regular use and can be sold for the scrap value of Rs. 40.50 per kg. Therefore, scrap value forgone
as opportunity cost will be taken for 200 Kgs and Rs. 42 will be taken as current purchase cost for remaining
1,050 Kgs.
Rs.
Scrap value forgone for 200 Kgs (Rs. 40.5 per kg x 200 Kgs) 8,100
Purchase cost of 1,050 Kgs (Rs. 42 per kg x 1,050 Kgs) 44,100
52,200
(N3) Material 079
The material required for production is 800 kg. There are 3,000 Kgs available in stock and has no regular
use and if not used for this contract then it can't be sold as scrap. Therefore, relevant cost will be NIL.
(N4) Material 085
Since, material 085 is regularly used in normal production then current purchase cost will be considered as
relevant cost.
Purchase cost of Material 085 = Rs. 13.25 per kg x 1,200 Kgs = Rs. 15,900

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(N5) Skilled Labour cost

The skilled labour hours required for production in first six months is 1,350 hours. There is a shortage of
skilled labour during first six months so all the skilled labour should be switched from the production of
another work for which contribution of Rs. 7.5 per hour will be forgone.
Diversion cost of first six months
Normal rate per hour + Contribution forgone per hour
= Rs. 25 per hour + Rs. 7.5 per hour = Rs. 32.5 per hour x 1350 hours = Rs. 43,875
During the subsequent six months labour can be hired for 1,276 hours from market then relevant cost will
be cost of hiring of labour for subsequent six months.
Hiring cost for subsequent six months
= Rs. 28.75 per hour x 1,276 hours = Rs. 36,685
Total relevant cost of labour = Rs. 43,875 + Rs. 36,685 = Rs. 80,560
(N6) Semi-skilled Labour cost
There are 1,400 hours of semi-skilled labour required in first six month and 1,225 hours in subsequent six
months. Semi-skilled labour is currently available in spare capacity so its relevant cost will be nil for whole
year but they are temporarily working in place of unskilled workers for other contract. When semi-skilled
workers will be transferred back to this special contract then we will recruit new unskilled workers to fill
vacancy for other work. So wages of new hired unskilled workers for other work will be relevant cost.
Hiring cost of new unskilled workers for other work Rs.
Hiring cost of first 6 months (Rs. 15 per hour x 1,440 hours) 21,000
Hiring cost of subsequent 6 months (Rs. 16 per hour x 1,225 hours) 19,600
40,600
(N7) Unskilled Labour cost
The unskilled labour hours required for production in first six months is 1,225 hours and for subsequent six
months is 1,400 hours. The unskilled labour will be hired at Rs. 15 per hour for first six months and for
subsequent six months; Rs. 16 per hour will be used.
Rs.
Hiring cost of first 6 months (Rs. 15 per hour x 1,225 hours) 18,375
Hiring cost of subsequent 6 months (Rs. 16 per hour x 1,400 hours) 22,400
40,775

(N8) Variable overheads cost

Skilled labour hours required for contract = 1,350 + 1,276 = 2,626 skilled labour hours
Variable overheads cost = Rs. 5 per skilled labour hour x 2,626 labour hours
Variable overheads cost = Rs. 13,130

Solution 29 (Spring 2008, Q-4) from lecture 41 handout

Evaluation of K - Mart project
Note Rs.
Incremental Revenue from project 19,000
Less: Relevant costs
Material X cost (N1) (1,200)
Material Y cost (N2) (1,470)
Material Z cost (N3) (2,250)
Skilled labour cost (N4) (3,575)
Unskilled labour cost (N5) (2,250)
Supervisor’s salaries (Rs. 15,000 x 12) x 2 (360)
Variable overheads cost (Rs. 8,500 – Rs. 4,050) (4,450)
Incremental fixed overheads cost (875)
= Net Benefit 2,570

Decision
On the basis of above calculations, it can be recommended that project is financially viable.

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(N1) Material X
Material X has regular use and current purchase price is relevant. Here substitute of material X is available
at reduced price so company will purchase substitute material.
Purchase cost of substitute material = Rs. 1,500,000 x 80% = Rs. 1,200,000
(N2) Material Y
The material Y is no longer use and has the net realizable value of Rs. 1,470,000. Therefore, net realizable
value of material Y forgone will be considered as opportunity cost.
(N3) Material Z
Material Z is not in stock and therefore, should be taken at current purchase cost.
(N4) Skilled Labour cost
Skilled labour is currently available in spare capacity and in absence of Project K- Mart, company is
planning to use skilled labour in place of temporary workers in order to save labour cost of 11 months (1
month pay is unavoidable cost due to 30 days’ notice period condition and company will have to pay one
month pay in any case). In presence of Project K-Mart, company will use skilled labour on this project and
possible saving in temporary workers labour cost of Rs. 3575,000 (Rs. 325,000 x 11 months) will be forgone
due to special project.
(N5) Unskilled Labour cost
The unskilled labour will be hired at current hiring cost.

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Lecture # 9 (Relevant costs) Lecture # 43 (Over all)

Class work
1. Solved question 32 (Spring 2011, Q-4).
2. Discussed problems in question 28 (Spring 2002, Q-4), question 29 (Spring 2008, Q-4) from lecture 41
handout.
3. Discussed problems in question 30 (Spring 2016, Q-7) from lecture 42 handout.
Question-32 (Spring 2011, Q-4)
Topaz Limited (TL) is the manufacturer of consumer durables. Pearl Limited, one of the major customers, has invited
TL to bid for a special order of 150,000 units of product Beta.
Following information is available for the preparation of the bid.
1. Each unit of Beta requires 0.5 kilograms (kg) of material “C”. This material is produced internally in
batches of 25,000 kg each, at a variable cost of Rs. 200 per kg. The setup cost per batch is Rs. 80,000.
Material “C” could be sold in the market at a price of Rs. 225 per kg. TL has the capacity to produce 100,000
kg of material “C”; however, the current demand for material “C” in the market is 75,000 kg.
2. Every 100 units of product Beta requires 150 labour hours. Workers are paid at the rate of Rs. 9,000 per
month. Idle labour hours are paid at 60% of normal rate and TL currently has 20,000 idle labour hours. The
standard working hours per month are fixed at 200 hours.
3. The variable overhead application rate is Rs. 25 per labour hour.
4. Fixed overheads are estimated at Rs. 22 million. It is estimated that the special order would occupy 30% of
the total capacity. The production capacity of Beta can be increased up to 50% by incurring additional fixed
overheads. The fixed overhead rate applicable to enhanced capacity would be 1.5 times the current rate.
The utilized capacity at current level of production is 80%.
5. The normal loss is estimated to be 4% of the input quantity and is determined at the time of inspection
which is carried out when the unit is 60% complete. Material is added to the process at the beginning while
labour and overheads are evenly distributed over the process.
6. TL has the policy to earn profit at the rate of 20% of the selling price.
Required:
By using relevant costing principles, calculate the unit price that TL could bid for the special order to Pearl Limited.
(14)

Solution 30 (Spring 2016, Q-7) from lecture 42 handout

Bid price for special order – 5,000 units of Zeta
Note Rs.’000
Material A cost (N1) 1,000
Add: Material B cost (N2) 405
Add: Material C (N3) (20)
Add: Skilled labour cost (N4) 16
Add: Unskilled labour cost (N5) 30
Add: Machine opportunity cost . 60 60
Add: Variable overheads cost . (N7) 294
Add: Incremental fixed overheads cost 150
Add: Incremental general administration cost 100
Total Relevant cost 80% 2,035
Add: 20% profit on selling price 20% 508.75
= Bid price of special order [Rs. 2,035 ÷ 80% x 100%] 100% 2543.75

(N1) Material A cost

Material A is regularly used so its current purchase price will be relevant cost. Current purchase cost = Rs.
200 per Kg x 5,000 Kgs = Rs. 1,000,000

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(N2) Material B cost

Material B has no regular use so its opportunity cost (disposal price forgone) will be relevant cost. Disposal
price forgone = Rs. 135 per Kg x 3,000 Kgs = Rs. 405,000
(N3) Material C
Material C has no regular use and it is can be disposed of at a cost of Rs. 10 per Kg. If we use material C
for production of Zeta then its disposal cost can be avoided and saved. Here disposal cost saving will be
relevant benefit.
Disposal cost saving = Rs. 10 per Kg x 2,000 Kgs = Rs. 20,000
(N4) Skilled labour cost
Skilled labour hours required for production of Zeta = 800 hours.
Spare hours of skilled labour during each month = 1,440 hours
Spare hours of skilled labour for 15 days = 1,440 hours x 15 days ÷ 30 days = 720 hours
There will be incremental wages cost of just 80 hours at the rate of Rs. 200 per hour.
Labour cost = Rs. 200 per hour x 80 hours = Rs. 16,000
(N5) Unskilled labour cost
Unskilled labour cost is hired at Rs. 120 per hour so relevant cost will be hiring cost.
Hiring cost = Rs. 120 per hour x 250 hours = Rs. 30,000
(N6) Machine opportunity cost
If machine is not used for production of Zeta then it can be leased out at rental of Rs. 4,000 per day but if
it is used for Zeta then rental income will be forgone for 15 days.
Rental income forgone = Rs. 4,000 per day x 15 days = Rs. 60,000
(N7) Variable overheads cost
Overheads absorption rate of Rs. 400 per skilled and unskilled hours is given and we have to find out
variable overheads absorption rate because fixed overheads absorption rate is not relevant cost.
Variable overheads rate per hour
Rs.
Fixed overhead rate per hour (Rs. 6 million ÷ 50,000 normal capacity hours) 120
Variable overhead rate per hour (Balancing Figure) 280
Overheads absorption rate per hour – given 400

Total labour hours = Skilled labour hours + Unskilled labour hours

Total labour hours = 800 hours + 250 hours = 1,050 hours
Variable overheads cost = Rs. 280 per hour x 1,050 hours = Rs. 294,000
(N8) Feasibility preparation cost
Feasibility preparation cost is already incurred so it is sunk cost and not relevant.

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Lecture # 1 (Learning curve) Lecture # 45 (Over all)

Class work
1. Discussed problems in question 2 to question 24 from lecture 38 and 39 handouts.
2. Started discussion on learning curve and learning theory and solved following questions.
Question-1 (Illustration)
Time taken for 1st unit 24 hours.
Learning Rate 90%
Required:
Total cumulative time after production of 120 units.
Question-2 (Illustration)
The time taken to make the 1st table is 24 hours. It has been established that in the furniture industry, a
95% learning curve applies.
Required:
Compute cumulative average time per unit and total time of
i) 12 tables
ii) 24 tables
iii) 48 tables
Question-3 (Illustration)
In the aero plane industry, the time taken to assemble the 1st aero plane is 260 hours. It has been
established in the aero plane industry a 90% learning curve applies.
Required:
Compute cumulative average time per aero plane and total time of:
i) 15 aero planes
ii) 35 aero planes
iii) 50 aero planes
Question-4 (Illustration)
Budgeted production for 2024 50 units
Total cumulative production uptil 31-12-2023 130 units
Learning co-efficient -0.152
Time taken for 1st unit 40 hours
Budgeted labour cost Rs.120 per hour
FOH 50% of Direct labour cost
Required:
Budgeted total cost of production for 50 units in 2024
Question-3 (Illustration)
The time to construct the 1st car is 800 hours. It has been established that in the car industry, a 85%
leaning applies.
Required:
You are required to calculate time of:
i) 5th car
ii) 7th car
iii) 12th car
iv) 18th car

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Lecture # 2 (Learning curve) Lecture # 46 (Over all)

Class work
1. Solved question 2 to question 5 from lecture 45 handout.
2. Solved following questions.
Question-6 (Illustration)
Abudullah Ltd. received an order to supply 180 solid wood tables. The time to manufacture first office
table is 30 hours with 80% learning curve application. Learning will apply up to first 130 tables and
thereafter learning will stop and time of 130th table will be applicable to all remaining tables. The wage
rate is Rs.125 per hour.
Required:
Calculate total labour cost with learning effect.

Question-7 (Illustration)
Zubair Ltd. received an order to manufacture and supply 5,000 units that will be produced in batches of
500 each. Time to manufacture first batch is 12,000 hours with learning rate of 95%. Leaning will apply
up to first 7 batches and thereafter learning will stop. Time of 7th batch will be applicable to remaining all
batches. Zubair Ltd. pays wages of Rs.30 per hour.
Required:
Calculate total wages cost with learning effect.

Question-8 (Illustration)
Asghar Ltd received an order to manufacture 15,000 units which will be produced in batches of 1,000
each. Time to manufacture first batch is 2,000 hours with learning rate of 95%. Learning will apply upto
first 5 batches and thereafter leaning will stop. Time of 5th batch will be applicable to remaining all
batches.
Other related information is as follows:
• Labour wage rate is Rs.30 per hour
• Each unit would require material of 5 kgs and supplier charges price at Rs.20 per kg
• Variable production overheads rate is Rs.10 per labour hour
Required:
Calculate total variable production cost of oder with learning effect

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Home work
Question-9 (Illustration)
Smart Processing Limited (SPL) is considering to sign a contract for manufacturing 10,000 auto parts for a
large automobile assembler. The parts would be produced in batches of 500 units each. The estimated cost
of the first batch is as under:
Rs
Direct material (500 kg) 135,000
Direct labour (1,500 hours) 225,000
Variable overheads (Rs. 120 per direct labour hour) 180,000
Set-up cost per batch 40,000
Fixed costs:
- Depreciation of equipment purchased for the project 45,000
- Allocation of existing overheads @ Rs. 16 per hour 24,000
Cost of first batch 649,000
Additional information:
(i) The set-up cost per batch would be reduced by 5% for each subsequent batch. However, there
would be no further reduction in the set-up cost from the 5th batch onward.
(ii) Learning curve effect is estimated at 90% but would remain effective for the first eight batches
only.
(iii) The index of 90% learning curve is -0.152.
Required:
Compute the contract price that would enable SPL to earn an incremental profit of 30% of the contract
price. (10)

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Lecture # 1 (Learning curve) Lecture # 47 (Over all)

Learning curve
Class work
1. Discussed question 8 and 9 from lecture 46 handout.
2. Solved following questions.
Question-10 (Spring 2019, Q-8)
Jasmine Limited (JL) manufactures various products according to customers' specifications In March 2019, JL is
required to submit a tender for supply of 5,000 plastic bodies of a washing machine. In this respect, following
information has been gathered:
(i) The production would be carried out on JL’s plant at its Sialkot factory. Cost of the plant is Rs. 3,600,000.
Its estimated useful life is 96,000 hours. Each plastic body (unit) would require 2 machine hours.
(ii) Production would be carried out in ten batches of 500 units each. Cost per unit for the first batch has been
estimated as under:
Rupees
Direct material 2 kg 150
Direct labour 3 labour hours 300
*Overheads (based on direct labour hours):
Variable overheads 240
Fixed overheads 360
*Overheads do not include depreciation of the plant
(iii) Direct material consumption would reduce by 5% in each subsequent batch up to the third batch and would
become constant thereafter.
(iv) Applicable learning curve effect is 95% but it will remain effective for the first six batches only. The index
of 95% learning curve is –0.074.
Required:
Compute the bid amount that JL should quote to earn 30% contribution margin. (10)

Limiting factor decisions

Class work
1. Started discussion on limiting factor decisions and solved following question:
Question-1 (Illustration)
Umer Limited is producing three products and is planning its production mix for the next month.
Estimated cost, sales and production data for the next month are as follows:
Products A B C
Selling price per unit Rs. 100 120 90
Variable cost per unit Rs. 55 88 65
Labour hours per unit hours 6 4 2

Maximum monthly demand (units) 3,000 2,400 3,200

Required:
Prepare optimal production plan if total labour hours available for the month are 29,000 hours.

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Home work
Question-2 (Spring 1999, Q-6)
R Ltd. is producing four products and is planning its production mix for the next year. Estimated cost,
sales and production data for the next year are as follows:
Products A B C D
Selling price per unit Rs. 50 64 106 88
Material cost per unit (Rs. 2 per kg) Rs. 12 36 20 24
Labour cost per unit (Rs. 10 per hour) Rs. 30 20 70 50

Maximum demand (units) 5,000 5,000 5,000 5,000

Required:
Prepare optimal production plan under each of the following two assumptions:
(a) If labour hours are limited to 50,000 in next year
(b) If material is limited to 110,000 Kgs in next year. (18)
Question-3 (Autumn 2001, Q-8)
Sangdil Limited makes two products, SS and TT. The variable cost per unit is as follows:
SS TT
Direct Material Rs. 6.00 Rs. 18.00
Direct Labour (Rs. 18.00 per hour) Rs.36.00 Rs. 18.00
Variable overhead Rs. 6.00 Rs. 6.00
Total Variable Cost Rs. 48.00 Rs. 42.00
The selling price per unit is Rs 84.00 for SS and Rs 66.00 for TT. During July 2001 the available direct
labour is limited to 48,000 hours. Sales demand in July is expected to be 18,000 units for SS and 30,000
units for TT. Fixed cost is Rs. 200,000 per month.
Required:
Determine the profit-maximizing production level for the products SS & TT. (14)
Question-4 (Spring 2012, Q-5)
Bauxite Limited (BL) is engaged in the manufacture and sale of three products viz. Pentagon, Hexagon
and Octagon. Following information is available from BL’s records for the month of February 2012:
Pentagon Hexagon Octagon
Sales price per unit (Rs.) 2,300 1,550 2,000
Material cost per Kg. (Rs) 250 250 250
Labour time per unit (Minutes) 20 30 45
Machine time per unit (Hours) 4 2.5 3
Net weight per unit of finished product (Kg.) 6 4 5
Yield (%) 90 95 92
Estimated Demand (Units) 10,000 20,000 9,000

Each worker is paid monthly wages of Rs. 15,000 and works a total of 200 hours per month. BL’s factory
overheads cost per unit is estimated at 20% of the material cost. Fixed overheads are estimated at Rs. 5
million per month and are allocated to each product on the basis of machine hours. 100,000 machine hours
are estimated to be available in February 2012.
Required:
Based on optimum product mix, compute BL’s net profit for the month of February 2012. (15)

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Question-5 (Spring 2010, Q-5)

Areesh Limited deals in various products. Relevant details of the products are as under:
AW AX AY AZ
Estimated annual demand (units) 5,000 10,000 7,000 8,000
Sales price per unit (Rs.) 150 180 140 175
Material Consumption per unit:
Q (Kg) 2 2.5 1.5 1.75
S (Kg) 0.5 0.6 0.4 0.65
Labour hours per unit 2 2.25 1.75 2.5
Variable overheads per unit
(based on labour cost) 75% 80% 100% 90%
Factory overheads per unit (Rs.)
(based on 80% capacity utilization) 10 20 14 16
Machine hours required per unit:
Processing machine hours 5 6 8 10
Packing machine hours 2 3 3 4
Company has a long-term contract for purchase of material Q and S at a price of Rs. 15 and Rs. 20 per kg
respectively. Wage rate for 8 hours shift is Rs. 200. The estimated overheads given in the above table are
exclusive of depreciation expenses. The company provides depreciation on number of hours used basis.
The depreciation on each machine based on full capacity utilization is as under:
Hours Rs.
Processing machine 150,000 150,000
Packing machine 100,000 50,000
The company has launched an advertising campaign to promote the sale of its products. Rs. 2 million have
been spent on such campaign. This cost is allocated to the products on the basis of sale.
Required:
Compute the number of units of each product that the company should produce in order to maximize the
profit and also compute the product wise and total contribution at optimal product mix. (15)

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Solution-9 (Spring 2017, Q-1) from lecture 46 handout

Smart processing Ltd.
Rs.
Direct material cost [Rs.270 per kg x 500 kgs x 20 batches] 2,700,000
Direct labour cost [Rs.150 per hour x 19,986.92 hrs (N-1)] 2,998,038
Variable OH cost [Rs.120 per house x 19,986.92 hrs (N-2)] 2,398,430
Setup cost (N-2) 697,115
Depreciation [Rs.45,000 per batch x 20 batches] 900,000

Total Relevant costs 9,693,583

Contract price [9,693,583 ÷ 0.7] 13,847,976

(N-1)
Hour
Labour hours required for 8 batches [(Y=1,500 x 8−0.152 ) x 8 batches] 8,748.08
Labour hours required for 12 batches (N-1.1) [936.57 x 12] 11,238.84
19,986.92

(N-1.1)
Hours
Total time taken for 8 batches (N-1) 8,748.08
Total time taken for 7 batches [(1500𝑥7−0.152 ) 𝑥 7] (7,811.51)
Time taken for 8th batch 936.57

(N-2)
Batch setup cost Rs.
1st batch 40,000
2nd batch [40,000 x 95%] 38,000
3rd batch [38,000 x 95%] 36,100
4th batch [36,100 x 95%] 34,295
Next 16 batches [34,295 x 16 batches] 548,720
697,115

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Lecture # 2 (Limiting factor decisions) Lecture # 48 (Over all)

Class work
1. Solved question 2 (Spring 1999, Q-6) from lecture 47 handout.
2. Discussed question 3 (Autumn 2001, Q-8) and question 5 (Spring 2010, Q-5) from lecture 47 handout
and provided solution and solved following question:
Question-6 (Autumn 2006, Q-8)
Sub-way Furnishers (Pvt.) Limited manufactures three garden furniture products – Chairs, Benches and Tables. The
budgeted data of each of these items is as under:
Chairs Benches Tables
Budgeted production/sales volume 4,000 2,000 1,500
Selling price per unit (Rs.) 3,000 7,500 7,200
Cost of Timber per unit (Rs.) 750 2,250 1,800
Direct labour per unit (Rs.) 600 1,500 1,600
Variable overhead per unit (Rs.) 450 1,125 1,200
Fixed overhead per unit (Rs.) 675 1687.5 1,800
The budgeted volume was worked out by the sales department and the management of the company is of the view
that the budgeted volume is achievable and equal to the demand in the market. The fixed overheads are allocated to
the three products on the basis of direct labour hours. Production department has provided the following information:
• Direct labour rate Rs. 40 per hour
• Cost of timber Rs. 300 per cubic meter
A memo from Purchase Manager advises that because of the problem with the supplier only 25,000 cubic meters of
timber shall be available. The Sales Director has already accepted an order for the following quantities which if not
supplies would incur a financial penalty of Rs. 200,000.
Chairs Benches Tables
Order quantity 500 100 150
These quantities are included in the overall budgeted volume.
Required:
Work out the optimum production plan and calculate the expected profit that would arise on achievement of this
plan. (14)

Home work
Question-7 (Autumn 2011, Q-5)
Seagull Limited (SL) is engaged in the manufacture of Basketballs, Footballs and Rugby balls for the professional
leagues and collegiate play. These balls are produced from different grades of synthetic leather. Relevant information
available from SL’s business plan for the manufacture of each unit is as under:
Football Basketball Rugby Ball
Cost of leather per unit Rs. 38 Rs. 238 Rs. 255
Time required for each unit of product. 2 hours 1 hour 1.5 hours
Variable overheads (based on labour cost) 65% 50% 60%
The labourers are paid at a uniform rate of Rs. 50 per hour. SL allocates fixed overheads to each of the above product
at the rate of Rs. 4 per direct labour hour. Following further information is also available:
Football Basketball Rugby Ball
Annual budgeted sales volume (Units) 5,000 3,500 2,000
Selling price per unit of product (Rs.) 295 397 500
Cost of leather per sq. ft (Rs.) 95 340 510
The above sales volumes are based on the market demand for these products. However, due to financial crises, SL
is expected to procure only 3,840 sq. ft. of leather from the tanneries. The sales department has already accepted an
order of 800 footballs, 1,300 basketballs and 400 rugby balls from a renowned professional league in the country.
These quantities are already included in the above budgeted sales volume. The non-compliance of this order will
result in a penalty of Rs. 400,000.
Required:
Based on the budgeted volumes, determine the optimum production plan and also calculate the net profit for the
year. (16)

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Question-8 (Spring 2014, Q-7)

The following projections are contained in the budget of Scientific Chemicals Limited for the year ending 31
December 2014:
(i) Annual local and export sales
Product C031 Product D032
Rs. Per unit Units Rs. Per unit Units
Local sales 1,965 40,000 1,410 50,000
Export sales 2,100 25,000 1,500 24,000
(ii) Raw material and labour per unit
Product C031 Product D032
Raw material-A at Rs. 25 per kg. (Kg.) 4.0 3.0
Raw material-B at Rs. 60 per kg. (Kg.) 3.5 2.6
Skilled labour hours at Rs. 250 per hour (Hours) 2.4 2.0
Semi-skilled hours at Rs. 120 per hour (Hours) 5.0 2.5
(iii) Variable overheads for each unit of product C031 and D032 are estimated at Rs. 125 and Rs. 60 respectively.
(iv) Fixed overheads including admin & selling overheads would amount to Rs. 3 million per month.
The company is faced with the under-mentioned constraints:
• The supplier of material-B can supply 27,700 kg. per month only.
• Only 35 skilled workers will be available for each shift of 8 hours while factory will be operated for
25 days in a month on 3 shift basis.
Required:
Determine optimal production plan for the next year assuming that the company cannot afford to terminate the export
sales contract because of the heavy damages payable in case of default. (16)

Solution-3 (Autumn 2001, Q-8) from lecture 47 handout

(Step-1) Verification of Limiting Factor (Optional), can be ignored as question clearly states the limiting factor
Labour hours required Hours
SS (Rs. 36 per unit ÷ Rs. 18 per hour) x 18,000 units 36,000
TT (Rs. 18 per unit ÷ Rs. 18 per hour) x 30,000 units 30,000
Total hours required 66,000
Less: Labour hours available (48,000)
Shortage 18,000

(Step-2) Contribution per unit of limiting factor & Ranking.

SS (Rs.) TT (Rs.)
Selling price per unit 84 66
Less: Variable Costs per unit (48) (42)
Contribution per unit (Rs.) 36 24
÷ Labour hours per unit 2 1
Contribution per labour hour (Rs.) 18 24
Ranking of production 2 1

(Step-3) Optimal Production Plan

Product Units Labour hours
Required Balance
48,000
TT 30,000 30,000 18,000
SS (18,000 hours ÷ 2 hours per unit) 9,000 18,000 0

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Solution-5 (Spring 2010, Q-5) from lecture 47 handout

(Step-1) Verification of Limiting Factor
Processing Packing
Machine Hours required
machine hours machine hours
AW (5 hours per unit x 5,000 units), (2 hours per unit x 5,000 units) 25,000 10,000
AX (6 hours per unit x 10,000 units), (3 hours per unit x 10,000 units) 60,000 30,000
AY (8 hours per unit x 7,000 units), (2 hours per unit x 7,000 units) 56,000 14,000
AZ (10 hours per unit x 8,000 units), (4 hours per unit x 8,000 units) 80,000 32,000
Total hours required 221,000 86,000
Less: Machine hours available (150,000) (100,000)
Shortage/(Surplus) 71,000 (14,000)

(Step-2) Contribution per unit of limiting factor & Ranking

AW (Rs.) AX (Rs.) AY (Rs.) AZ (Rs.)
Selling price per unit 150 180 140 175
Less: Variable Costs per unit
Material Q (Rs.15 per kg x 2 kg, 2.5 kg, 1.5 kg, 1.75 kg) 30.00 37.50 22.50 26.25
Material S (Rs.20 per kg x 0.5 kg, 0.6 kg, 0.4 kg, 0.65 kg) 10.00 12.00 8.00 13.00
Labour (Rs.200 per 8 hours ÷ 8 hours) x No. of hours 50.00 56.25 43.75 62.50
Variable overheads (Labour cost x 80 %) 37.50 45.00 43.75 56.25
(127.5) (150.75) (118) (158)
Contribution per unit 22.50 29.25 22.00 17.00
÷ Processing machine hours per unit 5 6 8 10
Contribution per machine hour 4.5 4.88 2.75 1.7

Ranking 2 1 3 4

(Step- 3) Optimal Production Plan

Product Units Processing machine hours
Required Balance
150,000
AX 10,000 60,000 90,000
AW 5,000 25,000 65,000
AY 7,000 56,000 9,000
AZ (9,000 MH ÷ 10) 900 9,000 0

(Step-4) Total Contribution at optimal production plan

Contribution Production Total CM
Product Per unit & Sale (Rs.)
Units
AW 22.25 5,000 111,250
AX 29.25 10,000 292,500
AY 22.00 7,000 154,000
AZ 17.00 900 15,300
574,300

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Lecture # 3 (Limiting factor decisions) Lecture # 49 (Over all)

Class work
1. Solved question 4 (Spring 2012, Q-5) from lecture 47 handout.
2. Discussed question 7 (Autumn 2011, Q-5) and question 8 (Spring 2014, Q-7) from lecture 48 handout
and provided solution and
3. Solved following question:
Question-9 (Spring 2018, Q-1)
Sarwar Limited (SL) manufactures two industrial products i.e. K2 and K9. It also manufactures other
products in accordance with the specifications of customers. SL’s products require specialised skilled labour.
The maximum labour hours available with the company are 300,000 per month. Following information has
been extracted from SL’s budget:
K2 K9
---- Rs. per unit----
Selling price 16,500 26,000
Direct material 6,000 8,000
Direct labour (Rs. 300 per hour) 4,500 7,500
Variable production overheads (based on labour hours) 1,875 3,125
Applied fixed production overheads (based on labour hours) 1,500 2,500
Monthly demand (Units) 5,000 8,000

An overseas customer has offered to purchase 3,000 units of a customized industrial product ‘A-1’ at a price
of Rs. 35,000 each. The duration of contract would be one month. The cost department has ascertained the
following facts in respect of the contract:
(i) Each unit of A-1 would require 3 units of raw material B-1 and 2 units of raw material C-3. B-1 is
available in the local market at Rs. 2,500 per unit. However, the required quantity of C-3 is not
available in the local market and would be imported from Sri Lanka at a landed cost of Rs. 2.4
million.
(ii) Each unit of A-1 would require 35 labour hours.
(iii) A specialised machinery would be hired for five days. However, due to certain production scheduling
issues, it is difficult for SL to exactly predict when the machine would be required. As a result of
negotiations, SL has received the following offers:
• Falah Modarba has quoted a rent of Rs. 0.9 million for the entire month. If accepted, SL would
be able to sublet the machine at Rs. 20,000 per day.
• Tech Rentals has quoted a rent of Rs. 57,000 per day and guaranteed availability of machinery
when required.
The management believes that it can increase/decrease the production of K2 and K9, if required.
Required:
Determine the maximum profit that can be earned by SL, in the above situation. (10)

Home work
1. Class work question 9 (Spring 2018, Q-1)

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Solution-7 (Autumn 2011, Q-5) from lecture 48 handout

(Step-1) Verification of Limiting Factor
Square ft
Footballs (Rs.38 per unit ÷ Rs.95 per sq.ft) x 5,000 footballs 2,000
Basketballs (Rs.238 per unit ÷ Rs.340 per sq.ft) x 3,500 basketballs 2,450
Rugby Ball (Rs.255 per unit ÷ Rs.510 per sq.ft) x 2,000 rugby balls 1,000
5,450
Less: Leather available (3,840)
Shortage of leather 1,610
(Step-2) Contribution per unit of limiting factor & Ranking
Football Basketball Rugby
(Rs.) (Rs.) Ball (Rs.)
Selling price per unit 295 397 500
Less: Variable Costs per unit
Material (Leather) cost (38) (238) (255)
Labour cost (100) (50) (75)
Variable overheads (65% : 50% : 60%) of labour cost (65) (25) (45)
Contribution per unit 92 84 125
÷ Leather quantity per unit 0.4 0.7 0.5
Contribution per square foot 230 120 250
Ranking of production 2 3 1
(Step-3) Optimal Production Plan
Product Units Leather sq. ft.
Required Balance
3,840
Committed demand production
Rugby Ball 400 200 3,640
Football 800 320 3,320
Basketball 1,300 910 2,410
Production as per ranking
Rugby Ball 1,600 800 1,610
Football (1,610 ÷ 0.4) 4,025 1,610 0
Seagull Limited
Income Statement
For the year ended ------------------
Total Contribution Rs.
Football (Rs. 92 per football x 4,825 footballs) 443,900
Basketball (Rs. 84 per basketball x 1,300 basketballs) 109,200
Rugby Ball (Rs. 125 per rugby ball x 2,000 rugby ball) 250,000
Contribution 803,100
Less: Fixed Cost (66,000)
Net Profit 737,100
(W-1) Total budgeted direct labour hour
Hours
Football (2 hours per football x 5,000 footballs) 10,000
Basketball (1 hour per basket x 3,500 basketballs) 3,500
Rugby Ball (1.5 hour per rugby ball x 2,000 rugby balls) 3,000
Total Budgeted labour hours 16,500
(W-2) Budgeted fixed overheads cost
Fixed overhead rate per hour = ___Total Budgeted Fixed Cost___
Total Budgeted Labour Hours
Rs. 4 per hour = ___Total Budgeted Fixed Cost___
16,500 hours
= Rs. 66,000

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Solution-8 (Spring 2014, Q-7) from lecture 48 handout

(Step-1) Verification of Limiting Factor
Material B Skilled Labour
Material B required
(Square feet) hours
Mandatory [Exports]
C031 (3.5 kg per unit x 25,000 units) 87,500 60,000
D032 (2.6 kg per unit x 24,000 units) 62,400 48,000
Non-Mandatory [Local sales]
C031 (3.5 kg per unit x 40,000 units) 140,000 96,000
D032 (2.6 kg per unit x 50,000 units) 130,000 100,000
419,900 304,000
Less: Material B and skilled labour available (332,400) (252,000)
Shortage of resources 87,500 52,000
Hence, there are two limiting factors for local sales.
(Step-2) Contribution per unit of limiting factor & Ranking
C031 D032
(Rs.) (Rs.)
Local Selling price per unit 1,965 1,410
Less: Variable Costs per unit
Material - A (Rs.25 per kg x 4 kg per unit), (Rs.25 per kg x 3 kg per unit) (100) (75)
Material - B (Rs.60 per kg x 3.5 kg per unit), (Rs.60 per kg x 2.6 kg per unit) (210) (156)
Skilled labour (Rs.250 per hour x 2.4 hours per unit), (Rs.250 per hour x 2 hours per unit) (600) (500)
Semi-skilled labour (Rs.120 per hour x 5 hours per unit), (Rs.120 per hour x 2.5 hour per (600) (300)
unit)
Variable Overheads cost (125) (60)
Contribution per unit 330 319
÷ Skilled labour hours per unit 2.4 2
Contribution per skilled labour hour 137.5 159.5
Ranking for production (with respect to labour hours) 2 1
Contribution per unit 330 319
÷ Material B Kgs per unit 3.5 2.6
Contribution per Kg 94.3 122.7
Ranking for production (with respect to material B) 2 1

(Step-3) Optimal Production Plan

Product Units Material kgs Units Skilled labour hours
Required Balance Required Balance
332,400 252,000
Committed demand (Export)
Product D032 24,000 62,400 270,000 24,000 48,000 204,000
Product C031 25,000 87,500 182,500 25,000 60,000 144,000
Production as per ranking (Local)
Product D032 50,000 130,000 52,500 50,000 100,000 44,000
Product C031 (52,500 ÷ 3.5) : 15,000 52,500 0 18,333 44,000 0
(44,000 ÷ 2.4)

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Lecture # 4 (Limiting factor decisions) Lecture # 50 (Over all)

Class work
1. Solved question 4 (Spring 2012, Q-5) from lecture 47 handout.
2. Discussed concept of external purchase / sub-contracting / outsourcing / external supplier in limiting
factor decisions and solved following question:
Question-10 (Spring 2009, Q-7)
A company produces three products using the same raw material. The raw material is in short supply and
only 3,000 kilograms shall be available in April 2009, at a cost of Rs. 1,500 per kilogram.
The budgeted costs and other data related to April 2009 are as follows:
Products X Y Z
Maximum demand (units) 1,000 800 1,200
Selling price per unit (Rs.) 3,750 3,500 4,500
Material used per unit (kg) 1.6 1.2 1.8
Labour hours per unit (Rs. 75 per hour) 12 16 15
Required:
(a) Determine the number of units that should be produced by the company to earn maximum profit
(b) Determine the number of units to be produced if finished products are also available from an
external supplier at the following prices per unit:
Rupees
X 3,450
Y 3,100
Z 3,985 (17)

Home work
Question-11 (Autumn 2016, Q-6)
Galaxy Engineers (GE) manufactures and sells a wide range of products. One of the raw materials XPI is
in short supply and only 80,000 kg are available in GE's stores. Following information pertains to the
products in which XPI is used:
Product A Product B Product C
Budgeted local sales/requirement (Units) 4,500 1,000 2,500
Committed export sales (Units) - 800 -
-------- Per unit --------
Sales price (Rs.) 20,000 14,100 For internal use
Material XPI (Rs. 500 per kg) (kg) 14 12 2
Other material (Rs. 300 per kg) (kg) 5 3 1
Direct labour hours (Rs. 100 per hour) (hours) 20 15 5
Variable overheads based on labour cost (%) 80% 80% 80%
Fixed overheads per direct labour hour (Rs.) 95 75 60
Product C is used in other products made by GE. If it could not be produced internally, it has to be purchased
from market at Rs. 3,000 per unit.
Required:
Determine the number of units of each product that should be manufactured, to earn maximum profit. (12)

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Question-12 (Spring 2017, Q-8)

NK Enterprises produces various components for telecom companies. The demand of these components
is increasing. However, NK’s production facility is restricted to 50,000 machine hours only. Therefore,
NK is considering buying certain components externally. In this respect, the following information has
been gathered:
Components
Description
X-1 X-2 X-3 X-4
Estimated demand in units 6,500 2,000 7,100 4,500
Machine hours required per unit 8 4 5 2
In-house cost per unit: ------ Rupees ----
Direct material 20.0 28.0 23.0 22.0
Direct labour 9.0 5.0 9.0 8.0
Factory overheads 16.0 8.0 8.5 5.0
Allocated administrative overheads 5.0 4.0 3.0 2.0
50.0 45.0 43.5 37.0
External price of the component per unit 35.0 40.0 34.0 33.0
Factory overheads include fixed overheads estimated at Rs. 1.50 per machine hour.
Required:
Determine the number of units to be produced in-house and bought externally. (13)

Question-13 (Spring 2019, Q-2)

Lily (Private) Limited (LPL) has two factories. LPL manufactures a product Delta in its Quetta factory.
One unit of Delta is assembled from three components P, Q and R which are produced in the Hub factory.
Monthly demand of Delta is estimated at 5,000 units.
Following information is available in respect of each component:
P Q R
Quantity required for one unit of Delta 2 2 3
Machine hours required for producing each component 4 3 5
Cost of production ------------------ Rupees ------------------
• Direct material 900 800 300
• Direct labour 270 250 240
• Factory overheads 500 700 280
• Allocated administrative overheads 40 30 50
Fixed factory overheads are charged at Rs. 20 per machine hour.
Production capacity at Hub factory is restricted to 100,000 machine hours per month. In order to meet the
demand, LPL is considering to purchase P, Q and R from a vendor at Rs. 1,700, Rs. 1,800 and Rs. 870 per
unit respectively.
Required:
Determine how LPL can optimise its profit in the above situation. (11)

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Lecture # 5 (Limiting factor decisions) Lecture # 51 (Over all)

Class work
1. Discussed concept of external purchase / sub-contracting / outsourcing / external supplier in limiting factor
decisions and solved question 10 (Spring 2009, Q-7) from lecture 50 handout.
2. Solved following question:
Question-14 (Autumn 2021, Q-2)
(a) Yellow Limited (YL) is engaged in manufacturing and selling of three products that are Alpha, Beta and
Gamma. YL has recently received an order from an overseas customer for 3000, 4000 and 1000 kg of
Alpha, Beta and Gamma respectively. This order represents 25% of total demand for each of the three
products, The management has decided to consider this order as lhigh priority' as it is expected that
repeated orders would be received if the customer is fully satisfied; therefore, this order would be fulfilled
before any other order.
The per unit details of sales price, costs and direct labour hours required for each product are given below:
Alpha Beta Gamma
--------------- Rupees ---------------
Selling price 10,000 9,000 12,500

Specialized chemical 2,500 1,800 3,500

Direct labour 1,250 2,000 1,500
Variable production cost 250 200 500
* Fixed production cost 750 400 600
* Selling and administration costs (30% variable) 250 200 300
--------------- Hours ---------------
Direct labour hours required 6 5 8
* Fixed costs are allocated on the basis of expected demand
Each product requires specialized imported chemical. YL has been allowed to import that chemical
maximum to Rs. 70 million per annum.
The management of YL is concerned over restrictions on import of specialised chemical in the existing
country of operation as any shortfall to meet demand cannot be fulfilled. One of the proposals is to shut
down the existing plant and start manufacturing in Country X.
Following information is relevant if YL considers to start manufacturing in Country X:
(i) There is no import restriction on required chemical.
(ii) Direct labour hours required for manufacturing YL’s products are in short supply and available up to
100,000 hours only.
(iii) Any shortfall in the units can be met by sub-contracting to an outside supplier. The cost of buying
each finished product of Alpha, Beta and Gamma would be equivalent to Rs. 5000, Rs. 4500 and Rs.
7500 respectively. However, the order considered as ‘high priority' would be manufactured by YL
itself.
(iv) All other information unless otherwise specified would remain the same for Country X.
YL operates a just-in-time system and has no inventories of chemical or finished goods.
Required
Recommend whether YL should continue manufacturing in the existing country or start manufacturing
from Country X. Your recommendation should be based on profit maximizing production schedules. (15)
(b) Discuss the non-financial factors that management would need to consider before deciding to sub-contract
the manufacturing of its products. (04)

Home work
1. Question-11 (Autumn 2016, Q-6) from lecture 50 handout.
2. Question-12 (Spring 2017, Q-8) from lecture 50 handout.
3. Question-13 (Spring 2019, Q-2) from lecture 50 handout.

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Lecture # 6 (Limiting factor decisions) Lecture # 52 (Over all)

Class work
1. Solved question 14 (Autumn 2021, Q-2) from lecture 52 handout.
2. Discussed question-11 (Autumn 2016, Q-6), question-12 (Spring 2017, Q-8) and question-13 (Spring
2019, Q-2) from lecture 50 handout and provided solution.

Home work
Question-15 (Autumn 2012, Q-5)
Artery Limited (AL) produces and markets three products viz. Alpha, Beta and Gamma. Following
information is available from AL’s records for the manufacture of each unit of these products:
Alpha Beta Gamma
Selling price (Rs.) 66 88 106
Material-A (Rs.4 per kg) (Rs.) 8 0 12
Material-B (Rs.6 per kg) (Rs.) 12 18 24
Direct labour (Rs. 10 per hour) (Rs.) 25 30 25
Variable overhead based on:
- Labour hours (Rs.) 1.5 1.8 1.5
- Machine hours (Rs.) 1.6 1.4 1.2
Total (Rs.) 3.1 3.2 2.7
Other data:
Machine hours 8 7 6
Maximum demand per month (units) 900 3,000 5,000
Additional information:
(i) AL is also engaged in the trading of a fourth product Zeta, which is very popular in the market and
generates a positive contribution. AL currently purchases 600 units per month of Zeta from a
supplier at a cost of Rs. 40 per unit. In-house manufacture of Zeta would require: 2.5 kg of material-
B, 1 hour of direct labour and 2 machine hours.
(ii) Materials A and B are purchased from a single supplier who has restricted the supply of these
materials to 22,000 kg and 34,000 kg per month respectively. This restriction is likely to continue
for the next 8 months.
(iii) AL has recently accepted a Government order for the supply of 200 units of Alpha, 300 units of
Beta and 400 units of Gamma each month for the next 8 months. These quantities are in addition
to the maximum demand stated above.
(iv) There is no beginning or ending inventory.
Required:
Determine whether AL should manufacture Zeta internally or continue to buy it from the supplier during
the next 8 months. (10)

Question-16 (Spring 2013, Q-7)

Qamber Limited (QL) is engaged in the manufacture and sale of textile products. In February 2013 QL
received an order from JCP, a chain of stores, for the supply of 11,000 packed boxes of its products per
month at an agreed price of Rs. 8,000 per box. The boxes would be supplied every month for a period of
one year. It was further agreed that:
▪ Each box would contain a pillow cover, a bed sheet and a quilt cover.
▪ QL would be solely responsible for the quality of supplied products whether they are being
manufactured at its own facility or outsourced to third party, either wholly or partially.
▪ JCP would provide its logo and printed materials for the packing of these boxes.

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Following information is available for the manufacture of each unit of these products:
Products
Pillow Bed Quilt
Cover Sheet Cover
Cloth required (Meters) 1 4 5
Cost of cloth per meter (Rs.) 200 300 400
Direct labour per meter (Minutes) 30 15 18
Machine time (Minutes) 30 75 120
Variable overheads per machine minute (Rs.) 5 4 3.75
Outsourcing cost (Rs.) 750 2,000 3,500
For in-house completion of the above order, a total of 45,000 machine hours and 25,500 labour hours are
estimated to be available each month. The labourers are paid at a uniform rate of Rs. 400 per hour. The
cost incurred on quality check, before supply of the boxes to JCP, is estimated at Rs. 300 per box. Fixed
overheads are estimated at Rs. 10,000,000 per month.
Required:
Calculate net profit for the month, assuming QL wants to produce as many products as possible within the
available resources, and outsource the rest to a third party. (15)

Solution-11 (Autumn 2016, Q-6) from lecture 50 handout

(Step-1) Verification of Limiting Factor
Material XPI Required Kgs
Committed export sale
Product B (12 kg per unit x 800 units) 9,600
Non-committed sale
Product A (14 kg per unit x 4,500 units) 63,000
Product B (12 kg per unit x 1,000 units) 12,000
Product C (2 kg per unit x 2,500 units) 5,000
89,600
Less: Material XPI available (80,000)
Shortage 9,600
(Step-2) Contribution per unit of limiting factor & Ranking
Product A Product B Product C
(Rs.) (Rs.) (Rs.)
Sale price per unit / External purchase cost per unit 20,000 14,100 3,000
Less: Variable Costs per unit
Material XPI (Rs.500 per kg x kgs per unit) 7,000 6,000 1,000
Other material (Rs.300 per kg x kgs per unit) 1,500 900 300
Labour (Rs.100 per hour x hours per unit) 2,000 1,500 500
Variable overheads (Labour cost x 80 %) 1,600 1,200 400
(12,100) (9,600) (2,200)
Contribution per unit 7,900 4,500 800
÷ Material per unit (in Kgs) 14 12 2
Contribution per kg 564.3 375 400

Ranking of production in house 1 3 2

(Step-3) Optimal Production Plan
Product Units Kgs of Material XPI. Units
produced Required Balance purchased
80,000
Committed export production
Product B 800 9,600 70,400
Production as per ranking
Product A 4,500 63,000 7,400
Product C 2,500 5,000 2,400
Product B (2,400 ÷ 12) 200 2,400 0

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Solution-12 (Spring 2017, Q-8) from lecture 50 handout

(Step-1) Verification of Limiting Factor
Machine hours Required Hours
X-1 (8 machine hours per unit x 6,500 units) 52,000
X-2 (4 machine hours per unit x 2,000 units) 8,000
X-3 (5 machine hours per unit x 7,100 units) 35,500
X-4 (2 machine hours per unit x 4,500 units) 9,000
104,500
Less: Machine hours available (50,000)
Shortage 54,500
(Step-2) Contribution per unit of limiting factor & Ranking
X-1 (Rs.) X-2 (Rs.) X-3 (Rs.) X-4 (Rs.)
External purchase price per unit 35 40 34 33
Less: Variable Costs per unit
Material cost 20 28 23 22
Labour cost 9 5 9 8
Variable overheads (W1) 4 2 1 2
(29) (35) (33) (32)
Contribution per unit 2 5 1 1
÷ Machine hours per unit 8 4 5 2
Contribution per machine hour 0.25 1.25 0.2 0.5

Ranking of production 3 1 4 2

(Step-3) Optimal Production Plan

Product Units Machine hours Units
produced Required Balance purchased
50,000
X-2 2,000 8,000 42,000
X-4 4,500 9,000 33,000
X-1 (33,000 MH ÷ 8) : (6,500 – 4,125) 4,125 33,000 0 2,375
X-3 7,100

(W1) Variable overheads cost per unit

X-1 X-2 X-3 X-4
(Rs.) (Rs.) (Rs.) (Rs.)
Factory overheads cost per unit 16 8 8.5 5
Less: Fixed overheads cost per unit
(Rs.1.5 per hour x 8 hours, 4 hours, 5 hours, 2 hours) (12.00) (6.00) (7.50) (3.00)
Variable cost per unit 4 2 1 2

Solution-13 (Spring 2019, Q-2) from lecture 50 handout

(Step-1) Verification of Limiting Factor
Machine hours Required Hours
P (4 machine hours per unit x 10,000 components) 40,000
Q (3 machine hours per unit x 10,000 components) 30,000
R (5 machine hours per unit x 15,000 components) 75,000
145,000
Less: Machine hours available (100,000)
Shortage 45,000

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(Step 2) Contribution per unit of limiting factor & Ranking

P Q R
External purchase cost per unit 1,700 1,800 870
Less: Variable Costs per unit
Direct material cost 900 800 300
Direct labour cost 270 250 240
Variable overheads (W1) 420 640 180
(1,590) (1,690) (720)
Contribution per unit 110 110 150
÷ Machine hours per unit 4 3 5
Contribution per machine hour 27.50 36.67 30.00

Ranking of production 3 1 2
(Step-3) Optimal Production Plan
Product Units Machine hours Units
produced Required Balance purchased
100,000
Q 10,000 30,000 70,000
R (70,000 MH ÷ 5) : (15,000 – 14,000) 14,000 70,000 0 1,000
P 10,000

(W-1) Variable overheads cost per unit

P(Rs.) Q(Rs.) R(Rs.)
Factory overheads cost per unit 500 700 280
Less: Fixed overheads cost per unit
(Rs.20 per hour x 4 hours, 3 hours, 5 hours) (80) (60) (100)
Variable overheads cost per unit 420 640 180

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Lecture # 7 Lecture # 53 (Over all)

Limiting factor decisions
Class work
1. Discussed question-15 (Autumn 2012, Q-5) and question-16 (Spring 2013, Q-7) from lecture 52
handout and provided solution.

Solution-15 (Autumn 2012, Q-5) from lecture 52 handout

(Step-1) Verification of Limiting Factor
Material A Material B
Kgs Kgs
Mandatory Demand (Government order)
Alpha (Rs.8 per unit ÷ Rs.4 per kg) x 200 units: (Rs.12 per unit ÷ Rs.6 per kg) x 200 units 400 400
Beta (Rs.18 per unit ÷ Rs.6 per kg) x 300 units - 900
Gamma (Rs.12 per unit ÷ Rs.4 per kg) x 400 units: (Rs.24 per unit ÷ Rs.6 per kg) x 400 units 1,200 1,600
Non-Mandatory demand (Market demand)
Alpha (Rs.8 per unit ÷ Rs.4 per kg) x 900 units: (Rs.12 per unit ÷ Rs.6 per kg) x 900 units 1,800 1,800
Beta (Rs.18 per unit ÷ Rs.6 per kg) x 3,000 units - 9,000
Gamma (Rs.12 per unit ÷ Rs.4 per kg) x 5,000 units: (Rs.24 per unit ÷ Rs.6 per kg) x 5,000 units 15,000 20,000
Zeta (2.5 kgs per unit x 600 units) - 1,500
Required 18,400 35,200
Less: Available (22,000) (34,000)
(Surplus) / Shortage (3,600) 1,200
Note: Material B is limiting factor.
(Step-2) Contribution per unit of limiting factor & Ranking
Alpha Beta Gamma Zeta
(Rs.) (Rs.) (Rs.) (Rs.)
Selling price per unit /External purchase price per unit 66 88 106 40
Less: Variable Costs per unit
Material A 8 0 12 0
Material B [For Zeta (Rs.6 per kg x 2.5 kgs)] 12 18 24 15
Direct labour [For Zeta (Rs.10 per hr. x 1 hr.)] 25 30 25 10
Variable overheads based on labour hours (W-1) 1.5 1.8 1.5 0.6
Variable overheads based on machine hours (W-1) 1.6 1.4 1.2 0.4
(48.1) (51.2) (63.7) (26)
Contribution per unit 17.9 36.8 42.3 14.0
÷ Material-B kgs per unit 2 3 4 2.5
Contribution per kg 8.95 12.27 10.58 5.6

Ranking of production in house 3 1 2 4

(Step-3) Optimal Production & Purchase Plan
Product Units Material B (kgs) Units
produced Required Balance purchased
Mandatory demand 34,000
Beta 300 900
Gamma 400 1,600
Alpha 200 400
2,900 31,100
Beta 3,000 9,000 22,100
Gamma 5,000 20,000 2,100
Alpha 900 1,800 300
Zeta (300 kgs ÷ 2.5 kgs per unit): (600 – 120) 120 300 0 480

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(W-1) Variable overheads rate per labour hour
Alpha Beta Gamma
Variable overhead cost per unit based on labour hours 1.5 1.8 1.8
÷ Labour hours per unit (Labour cost per unit ÷ Rs. 10 per hour) 2.5 3 2.5
Variable overhead rate per labour hour 0.6 0.6 0.6

(W-2) Variable overheads rate per machine hour

Alpha Beta Gamma
Variable overhead cost per unit based on machine hours 1.6 1.4 1.2
÷ Machine hours per unit 8 7 6
Variable overhead ratse per machine hour 0.2 0.2 0.2

Notes:
• Same variable overhead rate per labour hour and per machine hour will be used for Zeta.
• Question could have been solved for 8 months. Decision would have been same.

Solution-16 (Spring 2013, Q-7) from lecture 52 handout

(Step-1) Verification of Limiting Factor
Labour hours Hours
Pillow [(30 ÷ 60) = 0.5 hours per meter x 1 meters per unit = 0.5 hour per unit x 11,000 units] 5,500
Bed Sheet [(15 ÷ 60) = 0.25 hours per meter x 4 meters per unit = 1 hour per unit x 11,000 units] 11,000
Quilt cover [(18 ÷ 60) = 0.3 hour per meter x 5 meters per unit = 1.5 hours per unit x 11,000 units) 16,500
33,000
Less: Labour hours available (25,500)
Shortage 7,500

Machine hours Hours

Pillow (30 ÷ 60) = 0.5 hours per unit x 11,000 units 5,500
Bed Sheet (75 ÷ 60) = 1.25 hours per unit x 11,000 units 13,750
Quilt cover (120 ÷ 60) = 2 hours per unit x 11,000 units 22,000
41,250
Less: Machine hours available (45,000)
Surplus (3,750)
Note: Labour hours are limiting factor.
(Step-2) Contribution per unit of limiting factor & Ranking
Pillow Bed Sheet Quilt cover
(Rs.) (Rs.) (Rs.)
Outsourcing cost per unit 750 2,000 3,500
Less: Variable cost per unit
Cost of cloth (Rs.200 x 1 meter): (Rs.300 x 4 meter): (Rs.400 x 5 meter) 200 1,200 2,000
Direct labour (Rs.400 x 0.5 hour): (Rs.400 x 1 hour): (Rs.400 x 1.5 hour) 200 400 600
Variable overheads (Rs.5 x 30 minutes): (Rs.4 x 75 minutes): (Rs.3.75 x 120 minutes) 150 300 450
(550) (1,900) (3,050)
Contribution per unit 200 100 450
÷ Labour hours per unit 0.5 1 1.5
Contribution per labour hour 400 100 300

Ranking of production in house 1 3 2

(Step-3) Optimal Production & Purchase Plan

Product Units Labour hours Units
produced Required Balance purchased
25,500
Pillow 11,000 5,500 20,000
Quilt cover 11,000 16,500 3,500
Bed sheet (3,500 ÷ 1): (11,000 – 3,500) 3,500 3,500 0 7,500

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Qamber Limited (QL)
Income statement (calculation of net profit)
For the month ended February 2013.
Rs.’000
Sale Revenue (Rs. 8,000 per box x 11,000 boxes) 88,000
Less: Variable Costs
In-house variable manufacturing cost (Rs. 550 per unit x 11,000 units) + (Rs. 3,050 per unit x 11,000 units) +
(Rs. 1,900 per unit x 3,500 units) (46,250) (46,250)
Variable purchase (outsourcing) cost (Rs. 2,000 units x 7,500 units) (15,000)
Quality inspection cost (Rs. 300 per box x 11,000 boxes) (3,300)
Total Contribution 23,450
Less: Fixed Cost (10,000)
Net Profit 13,450

Make or buy decisions (outsourcing decisions)

Class work
1. Started discussion on make or buy decision and solved following questions:
Question-1 (Spring 2001, Q-6)
Sitara & Co. manufactures Part No. F -1700 for use in its assembly operation. The annual requirement is 5,000 units and
the cost per unit is as follows:
Rs.
Direct material cost per unit 20
Direct labour cost per unit 120
Variable factor overheads cost per unit 50
Fixed factory overheads cost per unit 70
Total cost per unit 260
Hillal Enterprises has offered to sell Sitara & Co. 5,000 units of F-1700 at Rs. 270 each. If Sitara & Co. accepts this offer,
some the the facilities used to manufacture Part F-1700 could be used to help the manufacture another Part S – 1200, thus
saving annual Rs. 40,000 in relevant cost in its manufacture and eliminating Rs. 30 per unit of the attributable fixed cost
applied to Part F-1700.
Required:
Advise Sitara & Co. whether to manufacture or buy Part F-1700 from external supplier. (10)
Question-2 (Autumn 2018, Q-3)
Snooker (Private) Limited (SNPL) manufactures a component ‘Beta’ which is used as input for many products. The
current requirement of Beta is 18,000 units per annum. Current production cost of Beta is as follows:
Rs. per unit
Direct material 3,670
Direct labour 1,040
Variable manufacturing overheads 770
Fixed manufacturing overheads 870
Total cost 6,350
A supplier has recently offered SNPL to supply Beta at Rs. 7,000 per unit. The management has nominated a team to
evaluate the offer which has gathered the following information:
(i) There is a shortage of labour. However, some of the labour would become available due to outsourcing of Beta,
which would be utilized for production of a product ‘Zee’. The estimated selling price of Zee is Rs. 5,800 per
unit whereas production cost would he as follows:
▪ Direct material would cost Rs. 2,600 per unit.
▪ Each unit of Zee would require 20% more labour as compared to each unit of Beta.
▪ Estimated variable manufacturing overheads would be Rs. 480 per unit.
(ii) Outsourcing of Beta and production of Zee would result in net reduction in fixed manufacturing overheads by
Rs. 1,900,000 per annum.
Required:
Advise SNPL whether it should outsource component Beta or not. (09)

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Home work
Question-3 (Autumn 2008, Q-4)
Decimal World Limited manufactures and sells modems. It manufactures its own circuit boards (CB), an important
part of the modem. The present cost to manufacture a CB is as follows:
Rupees
Direct material 440
Direct labour 210
Variable overheads 55
Fixed overheads
Depreciation 60
General overheads 30
Total cost per unit 795
The company manufactures 400,000 units annually. The equipment being used for manufacturing CB has worn out
completely and requires replacement. The company is presently considering the following options:
(A) Purchase new equipment which would cost Rs. 240 million and have a useful life of six years with no salvage
value. There will be reduction in the market value of new equipment on straight-line basis over six year’s life.
The new equipment has the capacity to produce 600,000 units per year. It is expected that the use of new
equipment would reduce the direct labour and variable overhead cost by 20%.
(B) Purchase from an external supplier at Rs.730 per unit under a two year contract.

The total general overheads would remain the same in either case. The company has no other use for the space being
used to manufacture the CBs.

Required:
(a) Which course of action would you recommend to the company assuming that 400,000 units are needed each
year? (Show all relevant calculations). (07)
(b) What would be your recommendation if the company’s annual requirements were 600,000 units? (06)
(c) What other factors would the company consider, before making a decision? (03)

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Lecture # 8 Lecture # 54 (Over all)

Make or buy decisions (outsourcing decisions)
Class work
1. Provided solution of question 3 (Spring 2008, Q-5) from lecture 53 handout.
2. Solved following question
Question-4 (Spring 2006, Q-4)
AG Electronics manufactures transistors which are used for assembling flat screen TV. During the recent
year ended on 30th June, 2006, 5,000 transistors were manufactured at the following costs:
Rupees
Direct material 1,000,000
Direct wages 560,000
Factory overheads:
Lease rentals – equipment 90,000
Equipment’s Insurance 19,000
Equipment’s maintenance contract 200,000
Other overheads 600,000
The cost of direct materials includes abnormal loss of Rs. 30,000.
The following estimates have been made for the coming year:
1. The production is estimated to increase by 60%.
2. The cost of direct material will increase by 20%.
3. In view of a government regulation which will become effective from July 1, next year, the rate of
wages will increase by 12%.
4. The rate of other overheads is expected to increase by 6% from the start of next year. 40% of the
other overheads are fixed costs allocated by head office and remaining are variable overheads.
Moon Limited, a specialist in manufacturing transistors has offered to supply the full requirement for the
next year, at a price of Rs. 400 per unit. If it is decided to discontinue the production of transistors, the
equipment currently in use would be returned to the leasing company but the following additional costs
would have to be incurred:
• Inspection Rs. 20,000 per annum
• Insurance Rs. 8 per transistor
Required:
You are required to advise the company’s management whether it should accept the offer of Moon Limited
or continue to manufacture the transistors in-house during next year.. (10)

Solution-3 (Autumn 2008, Q-5) from lecture 53 handout

(a)
Rs. million
Savings of inhouse manufacturing cost
Direct Material cost saving (Rs. 440 per unit x 400,000 units) 176
Direct Labour cost saving (Rs. 210 per unit x 400,000 units) x 80 % 67.2
Variable Overheads cost saving (Rs. 55 per unit x 400,000 units) x 80 % 17.6
Attributable Fixed Cost Saving (Rs. 240 million ÷ 6 years) 40
Total Savings 300.8
Less: Incremental buying cost
Purchase Cost (Rs. 730 per unit x 400,000 units) (292)
Net Benefit 8.8
Recommendation: External buying will be feasible at 400,000 units of production.

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(b)
Rs. million
Saving of inhouse manufacturing cost
Direct Material cost saving (Rs. 440 per unit x 600,000 units) 264
Direct Labour cost saving (Rs. 210 per unit x 600,000 units) x 80 % 100.8
Variable Overheads cost saving (Rs. 55 per unit x 600,000 units) x 80 % 26.4
Attributable Fixed Cost Saving (Rs. 240 million ÷ 6 years) 40
Total Savings 431.2
Less: Incremental buying cost
Purchase Cost (Rs. 730 per unit x 600,000 units) (438)
Net Benefit (6.8)
Recommendation: At 600,000 units of production, outsourcing will generate a loss of Rs. 6.8
million. Therefore, In house manufacturing will be suitable at this
production level.

(c) Other factors in make or buy decisions:

(i) If the components are sub-contracted, there will be spare capacity, how should this spare
capacity be used profitably.
(ii) Would the workers resent the loss of work to an outside sub-contractor and might such
decision cause an industrial dispute.
(iii) Sub-contractor is reliable or not in respect of price, delivery time and quality control.
(iv) Are the estimates of cost savings reliable.
(v) Goodwill and customers’ expectations.

Home work

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Lecture # 9 Lecture # 55 (Over all)

Joint products further processing decisions
Class work
1. Started discussion on joint products and further processing decisions and solved following question:
Question-1 (Illustration)
A joint product can be sold at the split off point for Rs. 170 per kg. Alternatively, it can be processed further at
a cost of Rs. 50 per kg and then sold for Rs. 200 per kg.
Required:
Give your recommendation whether the product should be further processed or not.
Question-2 (Illustration)
Colon Limited (CL) manufactures two joint products Pollen and Stigma. Following information is available
in this regard:
i) The company has two production departments A and B. Pollen can either be sold at split off point for Rs.
7,000 per kg or can further be processed at department-B and sold as a new product, Seeds for Rs. 9,600
per kg. Stigma is sold without further processing.
ii) The variable cost of further processing to convert Pollen into Seeds is Rs. 1,850 per kg.
Required:
Give your recommendation whether Pollen should be further processed or not.
Question-3 (ACCA F5: December 2013, Q-1)
Process Co has two divisions, A and B. Division A produces three types of chemicals: products L, M and S,
using a common process. Each of the products can either be sold by Division A to the external market at split-
off point (after the common process is complete) or can be transferred to Division B for individual further
processing into products LX, MX and SX. In November 2013, which is a typical month, Division A’s output
was as follows:
Product Kg
L 1,200
M 1,400
S 1,800
The market selling prices per kg for the products, both at split-off point and after further processing, are as
follows:
Product Rs. Product Rs.
L 5.6 LX 6.7
M 6.5 MX 7.9
S 6.1 SX 6.8
The specific further processing costs for each of the individual product are:
▪ Variable cost of Rs. 0.5 per kg of LX
▪ Variable cost of Rs. 0.7 per kg of MX
▪ Variable cost of Rs. 0.8 per kg of SX
Required:
Evaluate whether any of the products should be further processed in Division B in order to optimise the profit
for the company as a whole. If:
(a) Further processing leads to a normal loss of 5% which occurs at the end of further processing.
(b) Further processing leads to a normal loss of 5% which occurs when units are 80% complete in further
processing.
(c) Further processing leads to a normal loss of 5% which occurs at the beginning of further processing.
(d) There is no loss on further processing. (not part of original requirement of question)

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Home work
Question-4 (Illustration)
A firm makes three joint products, Alpha, Bravo and Charlie, at a joint cost of Rs. 400,000. Joint costs are
apportioned on the basis of weight. Products Alpha and Charlie are currently processed further.
Weight (at split off point) Variable further processing cost Sales Revenue
Products
(tonnes) (Rs. 000) (Rs. 000)
A 600 800 980
B 200 - 120
C 200 400 600
An opportunity has arisen to sell all three products at the split-off point for the following prices.
Products Alpha Bravo Charlie
Sales (at split off point) Rs. 200,000 Rs. 120,000 Rs. 160,000
Required:
Recommend whether Alpha and Charlie will be further processed or not.

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Lecture # 10 Lecture # 56 (Over all)

Joint products further processing decisions
Class work
1. Completed question 3 (ACCA F5: December 2013, Q-1) and solved following question:
Question-5 (Spring 2015, Q-5)
Zee Chemicals Limited (ZCL) produces two joint products, Alpha, and Beta from a single production
process. Both products are processed up to split-off point and sold without any further processing.
Presently, ZCL is considering the following proposals:
▪ Expansion of existing facility by installing a new plant
▪ Installation of a refining plant to sell either Alpha or Beta after refining
To assess the above proposals, following data has been gathered:
(i) Actual cost incurred in the month of December 2014:
Rs. in ‘000
Direct material cost 15,000
Variable conversion cost (Rs. 230 per hour) 4,890
Fixed overheads 2,600
(ii) Actual production and selling price for the month of December 2014:
Selling Price per
Litres
litre (Rs.)
Alpha 11,300 1,000
Beta 14,700 1,125
(iii) There is no process loss and joint costs are apportioned between Alpha and Beta according to the
weight of their output.
(iv) Details of proposed plans are as follows:
Expansion of Installation of
existing facility refining plant
Capacity of plant in machine hours per month 5,000 5,000
------------------- Rs. in ‘000 -------------------
Cost of plant and its installation 20,000 25,000
Estimated residual value at the end of life 1,400 2,800
Estimated additional fixed overheads per month 250 500

Estimated useful life of the plant 20 Years 20 Years

(v) Estimated variable cost of refining and sales price of refined products:
Alpha Beta
Rupees per litre
Direct Material cost 90 125
Conversion cost (Rs. 150 per hour) 68 80
Selling Price 1,380 1,525
(vi) There would be no loss during the refining process. There is adequate demand for Alpha and Beta at
split-off point and after refining.
Required:
Evaluate each of the above proposals independently and give your recommendation. (16)

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Lecture # 11 Lecture # 57 (Over all)

Joint products further processing decisions
Class work
1. Completed question 5 (Spring 2015, Q-5).

Joint products further processing decisions

Class work
Question-1 (Autumn 2015, Q-9)
In May 2015, the board of directors of Sahil Limited (SL) had decided to close one of SL’s operating
segments at the end of the next year. The sales and production for the next year were budgeted at 50,000
units and on the basis thereof, the budget of the segment for the next year was approved as follows:
Rs. in ’000
Sales 5,000
Direct material (50,000 kg) (950)
Direct labour (1,000)
Variable production overheads (500)
Fixed production overheads (1,750)
Administrative and selling overheads (500)
Budgeted net profit 300
However, rumours of the closure prompted majority of the segment’s skilled labour to leave the company.
Consequently, the management is considering the following alternatives to cope with the issue:
▪ Close the segment immediately and rent the factoiy space for one year at a rent of Rs. 40,000 per
month; or
▪ Employ contract labour which would be able to produce a maximum of 40,000 units in the year. The
quality of the product is however expected to suffer due to this change.
Following further information is available:
(i) The sales manager estimates that a sales volume of 30,000 units could be achieved at the current
selling price whereas sales volume of 40,000 units would only be achieved if the price was reduced
to Rs. 90 per unit.
(ii) 25,000 kg of raw material is in stock. Any quantity of the material may be sold in the market at a
price of Rs. 19 per kg after incurring a cost of Rs. 2 per kg. Up to 15,000 kg can be used in another
segment of the company in place of a material which currently costs Rs. 18 per kg.
(iii) Wages of contract labour would be Rs. 24 per unit. SL would also be required to spend Rs. 40,000
on the training of the contract labour.
(iv) Due to utilization of contract labour, variable production overheads per unit are expected to increase
by 20%.
(v) Fixed production overheads include:
▪ Depreciation of three machines used in the segment amounting to Rs. 170,000. These
machines originally costed Rs. 1.7 million and could currently be sold for Rs. 830,000. If the
machines are used for production in the next year, their sales value would reduce by Rs. 5 per
unit of production.
▪ All other costs included in ‘fixed production overheads’ represent apportionments of general
overheads.
(vi) 40% of administrative and selling overheads are variable whereas the remaining amounts represent
apportionment of general overheads.
Required:
Advise the best course of action for Sahil Limited. (16)

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Lecture # 12 Lecture # 58 (Over all)

Continue of shutdown decisions
Class work
Question-2 (Autumn 2020, Q-4)
Siyab Limited (SL) is involved in manufacturing and exporting of products BA, CA and DA. Keeping in
view the continuous operating losses in product BA, the management is considering to discontinue the
production of BA.
Summarised operating results of BA for the year 2019 are as follows:
Units sold (2018: 156,250 units) 150,000
Rs. in ’000
Sales revenue 30,000
Raw material consumption (12,000)
Labour (6,000)
Variable manufacturing overheads (3,000)
Fixed manufacturing overheads:
Directly attributable (2,800)
Allocated (30% of total) (750)
Selling expenses (2018: Rs. 8,050,000) (7,800)
Operating loss (2,350)
Chief Financial Officer (CFO) is of the view that discontinuance of BA would save all manufacturing and
selling expenses except allocated fixed manufacturing overheads. It is estimated that total allocated fixed
manufacturing overheads will be reduced by 10%.
In a recent management meeting, SL’s sales director does not agree with the suggestion to discontinue this
product. She is of the view that BA is in high demand in the local market and the management should
consider to launch this product in the local market through an online marketplace, Jamal Express (JE). She
argues that this will not only minimize the selling expenses but also allow SL to reach maximum customers.
Following information have been available in respect of launching an online store of BA at JE:
(i) Existing production capacity of BA is 172,000 units.
(ii) Existing demand of BA in the online market is sufficient to boost sales by 10% from the previous
year. However, for achieving this target level of sales, a digital marketing service provider would be
hired at an annual cost of Rs. 800,000.
(iii) BA would be sold at Rs. 180 per unit.
(iv) SL would have to pay an annual subscription fee of Rs. 110,000 to JE to operate as a seller. In
addition, JE would charge 2% sales commission.
(v) JE also provides an additional facility of handling delivery and sales return to its clients. This service
can be availed by paying either an annual lump sum fee of Rs. 1,500,000 or an additional commission
of 5% of the selling price. If this service is availed, entire fixed selling expenses will be saved.
(vi) Fixed and variable selling expenses pertaining to BA would be reduced by 10% and 80% respectively.
(vii) Additional support staff would be hired at a cost of Rs 200,000 per month. This additional hiring cost
can be reduced to 80% if existing staff is given additional responsibilities with overtime payment
which would increase variable selling expense by 10%.
Required:
Evaluate the suggestions of CFO and sales director and recommend the best course of action to the
management. (17)

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Lecture # 13 (Shutdown decisions) Lecture # 59 (Over all)

Class work
1. Solved question 2 (Siyab Limited: Autumn 2020, Q-4) from lecture 58 handout

Home work
Question-3 (Spring 2022, Q-7)
Assume that date today is 1 April 2022.
Zimbabwe Limited (ZL) has planned to shut down its factory in Karachi on 31 December 2022. On receiving
the news of shut down, all skilled labour employed in the Karachi factory resigned in protest effective from 31
March 2022. This has raised concerns about the factory’s ability to continue operations for the rest of the year.
Using the original budget document for the year 2022, following information has been extracted relating to the
period from April 2022 to December 2022:
Production and sales (units) 50,000
Rs. in '000
Sales 83,750
Direct material (36,000)
Direct labour (14.000)
Variable production overheads (11,000)
Fixed production overheads (12,000)
Selling expenses (8,200)
Profit 2,550
Other related information:
(i) Contractual sales represent 75% of the total budgeted sales volume, which have to be fulfilled on priority
to avoid penalties. Selling price for contractual sales is 20% lower than the normal price. However, 5%
trade discount to other customers has also been budgeted.
(ii) Closing stock comprises of the following as on 31 March 2022:
▪ Raw material stock of 10,000 kg costing Rs. 3.4 million
▪ Defective 2,500 units costing Rs. 3.05 million which can be sold as scrap at Rs. 100 per unit
(iii) Budgeted fixed production overheads include depreciation of Rs. 2.5 million, technical fee of Rs. 1.2
million (paid in advance) and salary of factory supervisor of Rs. 3.6 million. The remaining amount
pertains to allocated general overheads.
(iv) Selling expenses represent salaries of five sales officers hired from a third party on contract which will
expire on 31 December 2022.
(v) Plant and machinery costed Rs. 15 million and has an estimated resale value of Rs. 2.8 million as on 31
March 2022.
Keeping in view the resignation of skilled labour, the board of directors of ZL is considering the following two
options for implementation with effect from 1 April 2022.
Option I: Close the factory now and rent out the factory space
(i) Rental income of Rs. 20 million would be received for nine months.
(ii) Penalties estimated at Rs. 3.8 million would have to be paid by ZL for its failure to fulfill contractual
commitments.
(iii) Closing raw material can be used by another factory of ZL by converting it into 9,000 kg of Rita at a
processing cost of Rs. 140 per kg of input. Rita is available in the market at Rs. 350 per kg. Alternatively,
the raw material can be sold in the market at Rs. 160 per kg.
(iv) An amount equal to twelve months’ salary would have to be paid to the factory supervisor.
(v) On early termination of contract with third party for sales officers, a penalty of 30% of the remaining
amount would have to be paid by ZL. Alternatively, this staff can be utilized at ZL's factory in Lahore.
For this purpose, ZL would have to pay the staff relocation allowance of Rs. 2 million.

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Option II: Continue operating the factory for the remaining nine months by employing skilled labour on
contract
(i) The contract for provision of skilled labour would not fulfill the entire requirement of ZL. Considering
this constraint, it is estimated that ZL would be able to produce 45,000 units only in remaining nine
months.
(ii) Skilled labour would be hired at Rs. 500 per hour, however, due to lack of training, variable production
overheads would be increased by 5%. In order to avoid this increase, ZL can provide training to the
skilled labour at a cost of Rs. 0.45 million.
(iii) Goods are produced in batches of 3,000 units each. The first batch would require 2,750 skilled labour
hours. Learning curve effect is estimated at 90% that would remain effective for the first five batches
only. At 90%, the index of learning curve is -0.152.
(iv) If the factory continues to operate, the resale value of plant and machinery at 31 December 2022 would
be 80% of the current resale value.
Required:
Advise which of the two options would be financially beneficial for ZL. (20)

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CAF-03 Inventory management

Lecture # 1 Lecture # 63 (Over all)

Inventory management
Class work
1. Started discussion on inventory management techniques and solved following questions.
Question-1 (Illustration)
Annual demand 90,000 units
Ordering cost per order Rs. 7,500
Holding cost per unit per annum Rs. 25
No safety stock is maintained
Required
Which of the following order size is better:
a) 3,000 units
b) 10,000 units
c) 15,000 units

Question-2 (Illustration)
Annual demand 80,000 units
Transportation cost per order Rs. 3,000
Storage cost per unit per month Rs. 4
Order placement cost per order Rs. 2,500
Inspection cost per order Rs. 1,000
Interest cost per unit per year Rs. 15
No safety stock is maintained
Required
Which of the following order size is better:
a) 20,000 units
b) 5,000 units

Question-3 (Illustration)
Asghar Limited is a manufacturing concern and has annual purchase requirement of material Alpha equal
to 40,000 kgs to be purchased from supplier at a purchase price of Rs. 100 per kg. The cost of placing an
order is Rs. 20 and annual holding cost per kg of material is 10% of purchase cost.
Required:
Calculate economic order quantity for material Alpha.

Question-4 (Illustration)
A company orders 50,000 units of an item every time when new order is placed. Annual consumption of
the item is 1,800,000 units per year. The holding cost per unit is Rs. 1.50 per unit per year and the cost of
making an order for delivery of the item is Rs. 375 per order.
Company is planning to switch from present order policy to economic order quantity model.
Required:
Calculate economic order quantity and determine how much annual savings could be obtained by using the
EOQ model.

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Home work
Question-5 (Illustration)
(i) A company uses the Economic Order Quantity (EOQ) model to determine the purchase order quantities
for materials. The demand for material item M234 is 12,000 units every three months. The item costs
Rs. 80 per unit, and the annual holding cost is 6% of the purchase cost per year. The cost of placing an
order for the item is Rs. 250.
Required:
What is the economic order quantity for material item M234 (to the nearest units)?
(ii) A company uses the Economic Order Quantity (EOQ) model to determine the purchase order quantities
for materials. The demand for material item M456 is 135,000 units per year. The item costs Rs. 100
per unit, and the annual holding cost is 5% of the purchase cost per year. The cost of placing an order
for the item is Rs. 240.
Required:
What are the annual holding costs for material item M456?
(iii) A company uses a chemical compound, XYZ in its production processes. XYZ costs Rs. 1,120 per kg.
Each month, the company uses 5,000 kg of XYZ and holding cost is Rs. 20 per kg per annum. Every
time the company places an order for XYZ it incurs administrative costs of Rs. 180 per order.
Required:
What is the economic order quantity for material item XYZ (to the nearest unit)?

Question-6 (Illustration)
Hadi Manufacturing (Pvt) Limited requires 40,000 meters of material Beta during each quarter. Following
cost information is available:
(i) Purchase cost of material Beta is Rs. 2 per meter
(ii) Monthly salary of purchasing officer is Rs. 10,000
(iii) Cost of ordering and inspection of material Beta is Rs. 10 per order
(iv) Monthly salary of storekeeper is Rs. 8,000
(v) Annual cost of storage per meter of material Beta is Rs. 5
Required:
Determine EOQ and calculate annual cost of inventory at EOQ level.

Question-7 (Illustration)
Fatima Limited purchases and sells edible oil. Monthly demand for one-liter oil packet is 5,000 units and
each packet has cost of Rs. 60 to purchase. Information of purchase department is as follows:
(i) Administration cost is Rs 80 per order
(ii) Inspection cost for placing each order is Rs. 120 per order
(iii) Electricity cost is charged to purchase department amounting Rs. 25,000 per month.
Information with respect to storeroom is as follows:
(i) Warehousing cost is Rs. 1.5 per packet per month
(ii) 10% interest cost on borrowings for purchase and storage of inventory
(iii) Electricity cost is approximately charged to storeroom amounting Rs. 15,000 per month.
Required:
Determine EOQ and calculate annual cost of inventory at EOQ level

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CAF-03 Inventory management

Lecture # 2 Lecture # 64 (Over all)

Inventory management
Class work
Question-8 (Autumn 2007, Q-2)
Hexa (Private) Limited is engaged in the supply of a specialized tool used in the automobile industry.
Presently, the company is incurring high cost on ordering and storage of inventory. The procurement
department has tried different order levels but has not been able to satisfy the management. The Chief
Financial Officer has asked you to evaluate the current situation. He has provided you the following
information:
(i) The annual usage of inventory is approximately 8,000 cartons. The supplier does not accept orders
of less than 800 cartons. The cost of each carton is Rs. 2,186.
(ii) The average cost of placing an order is estimated at Rs 14,000 and presently two orders are placed
in each quarter.
(iii) The sales are made on a regular basis and on average, half of the quantity ordered is held in
inventory. The cost of storage is considered to be 16% of the value of inventory.
Required:
(a) Determine the following:
• The economic order quantity
• The number of orders to be placed based on EOQ
(b) Compute the ordering costs and storage costs in the existing situation. How much cost can be saved
if quantity ordered is equal to EOQ as determined in (a) above. (10)

Question-9 (Spring 2010, Q-2)

Modem Distributors Limited (MDL) is a distributor of CALTIN which is used in various industries and
its demand is evenly distributed throughout the year.
The related information is as under:
(i) Annual demand in the country is 240,000 tons whereas MDL’s share is 32.5% thereof.
(ii) The average sale price is Rs. 22,125 per ton whereas the profit margin is 25% of cost.
(iii) The annual variable costs associated with purchasing department are expected to be Rs.
4,224,000 dining the current year. It has been estimated that 10% of the variable costs relate to
purchasing of CALTIN.
(iv) Presently, MDL fallows the policy of purchasing 6,500 tons at a time.
(v) Carrying cost is estimated at 1% of cost of material.
(vi) MDL maintains a buffer stock of 2,000 tons.
Required:
Compute the amount of savings that can be achieved if MDL adopts the policy of placing orders based on
Economic Order Quantity. (15)

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Home work
Question-10 (Spring 2005, Q-3)
Omega Limited is a manufacturer producing various items. One of its main products has a constant monthly
demand of 20,000 units. The production of this product requires two kg of chemical A. The cost of the
chemical is Rs.5/- per kg. The ordering cost is Rs.12/- per order and the holding cost is 10% per annum.
Required:
(a) Calculate the following:
• The economic order quantity
• The number of orders required in a year
• The total ordering and holding cost of chemical A for the year.
(b) Assuming that a safety stock of 4,000 kg of chemical is maintained, what will be the holding cost
per year (including safety stock)?
(c) Discuss the problems which most firms would have in attempting to apply the EOQ formula. (12)

Question-11 (Spring 2014, Q-1 [b])

A company annually produces 600 units of a product. Each unit requires 6 kg of material Y. The costs
related to material Y are as follows:
• Cost per kg. Rs. 16,000
• Inspection charges per order Rs. 20,000
• Transportation cost per trip (up to 400 Kgs per trip) Rs. 25,000
• Annual warehousing cost per kg Rs. 100
• Financing cost 15%
Required:
i. Economic order quantity (EOQ) of material Y (05)
ii. Total ordering and holding costs, if each order is based on EOQ and the company maintains a safety
stock of 30 Kgs. (04)

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CAF-03 Inventory management

Lecture # 3 Lecture # 65 (Over all)

Inventory management
Class work
Question-12 (Autumn 2018, Q-4)
Hockey Pakistan Limited (HPL) is engaged in the manufacturing of a single product ‘H-2’ which requires a
chemical ‘AT’. Presently, HPL follows a policy of placing bulk order of 60,000 kg of AT, However, EEPL’s
management is presently considering to adopt economic order quantity model (EOQ) for determining the size of
purchase order of AT.
Following information is available in this regard:
(i) Average annual production of H-2 is 45,600 units. Production is evenly distributed throughout the year.
(ii) Each unit of H-2 requires 10 kg of AT. Cost of AT is Rs, 200 per kg. 5% of the quantity purchased is lost
during storage.
(iii) Annual cost of procurement department is Rs. 2,688,000. 65% of the cost is variable.
(iv) AT is stored in a third party warehouse at a cost of Rs. 6.25 per kg per month,
(v) HPL’s cost of financing is 8% per annum.
Required:
(a) Calculate economic order quantity. (06)
(b) Supplier AT has offered a discount of 5% quantity per order is increased to 120,000 kg. Advise whether
HPL should accept the offer. (06)
(c) Discuss any three practical limitations of using the EOQ model. (03)

Home work
Question-13 (Spring 2006, Q-2)
Eastern Limited purchases product Shine for resale. The annual demand is 10,000 units which is spread evenly
over the year. The cost per unit is Rs. 160. Ordering costs are Rs. 800 per order. The suppliers of Shine are now
offering quantity discounts for large orders as follows:
Ordered Quantity Unit price Rs.
Upto 999 units 160.00
1000 to 1999 units 158.40
2000 or more units 156.80
The purchasing manager feels that frill advantage should be taken of discounts and purchases should be made
at Rs. 156.80 per unit, using orders for 2000 units or more. Holding costs for Shine are calculated at Rs. 64 per
unit per year, and this figure will not be altered by any change in the purchase price per unit
Required:
Advise Eastern Limited about the best choice available to them. (10)
Question-14 (Autumn 2015, Q-7)
Choco-king Limited (CL) produces and markets various brands of chocolates having annual demand of 80,000
kg. The following information is available in respect of coco powder which is the main component of the
chocolate and represents 90% of the total ingredients.
(i) Cost per kg is Rs. 600.
(ii) Process losses are 4% of the input.
(iii) Purchase and storage costs are as follows:
• Annual variable cost of the procurement office is Rs. 6 million. The total number of orders (of
all products) is estimated at 120.
• Storage and handling cost is Rs. 20 per kg per month.
• Other carrying cost is estimated at Rs. 5 per kg per month.
(iv) CL maintains a buffer stock of 2,000 kg.
Required:
(a) Calculate economic order quantity. (07)
(b) A vendor has offered to CL a quantity discount of 2% on all orders of minimum of 7,500 kg. Advise
CL, whether the offer of the vendor may be accepted. (06)

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Solution of question 3 (Illustration)

▪ Annual purchase requirement 40,000 kgs
▪ Variable ordering cost Rs. 20 per order
▪ Variable holding cost (Rs. 100 x 10%) Rs. 10 per kg per annum

2 x 40,000 Kgs x Rs. 20 per order

EOQ = √ = 400 kgs
Rs. 10 per kg per annum

Solution of question 5 (Illustration)

(i)
▪ Annual purchase requirement (12,000 units per quarter x 4 quarters) 48,000 units
▪ Variable ordering cost Rs. 250 per order
▪ Variable holding cost (Rs. 80 x 6%) Rs. 4.8 per unit per annum

2 x 48,000 Kgs x Rs. 250 per order

EOQ = √ = 2,236 units (approximately)
Rs. 4.8 per unit per annum

(ii)
▪ Annual purchase requirement 135,000 units
▪ Variable ordering cost Rs. 240 per order
▪ Variable holding cost (Rs. 100 x 5%) Rs. 5 per unit per annum

2 x 135,000 Kgs x Rs. 240 per order

EOQ = √ = 3,600 units
Rs. 5 per unit per annum

Annual holding costs [(3,600 ÷ 2) = 1,800 units x Rs. 5 per unit per annum] Rs. 9,000
(iii)
▪ Annual purchase requirement (5,000 kgs per month x 12 month) 60,000 kgs
▪ Variable ordering cost Rs. 180 per order
▪ Variable holding cost (Rs. 100 x 5%) Rs. 20 per unit per annum

2 x 60,000 Kgs x Rs. 180 per order

EOQ = √ = 1,039 units (approximately)
Rs. 20 per unit per annum

Solution of question 6 (Illustration)

▪ Annual purchase requirement (40,000 meters per quarter x 4 quarters) 160,000 meters
▪ Variable ordering cost Rs. 10 per order
▪ Variable holding cost Rs. 5 per meter per annum

2 x 160,000 meters x Rs. 10 per order

EOQ = √ = 800 meters
Rs. 5 per meter per annum

Annual inventory costs at EOQ level

Proposed order quantity 800 meters
Rs.
Annual variable ordering costs [(160,000 ÷ 800) = 200 orders x Rs. 10 per order] 2,000
Annual variable holding costs [(800 ÷ 2) = 400 units x Rs. 5 per unit per annum] 2,000
Total inventory costs 4,000
Note: Monthly salary of purchasing officer and monthly salary of store keeper will not change due to quantity
per order. So, for economic order quantity these costs are irrelevant cost.

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Solution of question 7 (Illustration)

▪ Annual purchase requirement (5,000 packets per month x 12 months) 60,000 packets
▪ Variable ordering cost
Administration cost per order Rs. 80
Inspection cost per order Rs. 120
Rs. 200
▪ Variable holding cost
Warehousing cost per packet per annum (Rs. 1.5 x 12 months) Rs. 18
Interest cost per packet per annum (Rs. 60 x 10%) Rs. 6
Rs. 24

2 x 60,000 Packets x Rs. 200 per order

EOQ = √ = 1,000 packets
Rs. 24 per meter per annum

Annual inventory costs at EOQ level

Proposed order quantity 1,000 packets
Rs.
Annual variable ordering costs [(60,000 ÷ 1,000) = 60 orders x Rs. 200 per order] 12,000
Annual variable holding costs [(1,000 ÷ 2) = 500 packets x Rs. 24 per packet per annum] 12,000
Total inventory costs 24,000
Note: Electricity cost of purchase department and storeroom will not change due to quantity per order. So, for
economic order quantity this cost is irrelevant cost.

Solution of question 9 (Spring 2010, Q-2)

2 x 78,000 tons x Rs. 35,200 per order

EOQ = √ = 5,570 tons per oreder
Rs. 177 per ton per annum

(W-1)
▪ Annual purchase requirement (240,000 tons x 32.5%) 78,000 tons
▪ Purchase price per ton (Rs. 22,125 ÷ 125 x 100) Rs. 17,700 per ton
▪ Variable holding cost per ton per annum (Rs. 17,700 x 1%) Rs. 177
▪ Variable ordering cost per order Rs. 35,200 per order
[No. of orders x variable ordering cost per order = Annual variable cost]
[(78,000 ÷ 6,500) x X = (4,224,000 x 10%)]
[12 orders x X = 422,400]
[X = variable ordering cost per order = 422,500 ÷ 12]

Total annual inventory costs

Existing EOQ level
Proposed order quantity 6,500 tons 5,570 tons
Rs.
Annual variable ordering costs 422,400 492,800
[(78,000 ÷ 6,500) = 12 orders x Rs. 35,200 per order]
[(78,000 ÷ 5,570) = 14 orders x Rs. 35,200 per order]
Annual variable holding costs 929,250 846,945
[2,000 + (6,500 ÷ 2) = 5,250 tons x Rs. 177 per ton per annum]
[2,000 + (5,570 ÷ 2) = 4,785 tons x Rs. 177 per ton per annum]
Total inventory costs 1,351,650 1,339,745

Annual saving if MDL adopts the policy of placing orders based on economic order quantity
= 1,351,650 – 1,339,745 = Rs. 11,905

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Solution of question 10 (Spring 2005, Q-3)

(a)(i)

2 x (20,000 units x 2kg x 12)

EOQ = √ = 4,800 kgs per order
Rs. 5 x x 10%

(ii) No. or orders required per year = 480,000 kgs  4,800 kgs = 100 orders
(iii)
Rs.
Ordering cost (100 orders x Rs. 12 per order) 1,200
Holding costs [(4,800 kgs  2) x Rs. 5 x 10%] 1,200

(b) Annual holding cost = (4,800 kgs /2) + 4,000 kgs = 6,400 kgs x Rs. 5 x 10%
Annual holding cost = Rs. 3,200
(c) It is necessary for the application of EOQ order that the demands remain constant throughout the year
which is not possible. Ordering costs per order can't be constant because it include transport cost.
Five reason
(i) Ordering cost and carrying cost must be known and constant.
(ii) Rate of demand for an item must be known and spread evenly throughout the year.
(iii) Lead time must be fixed.
(iv) The purchase price of the item in question must be constant, with no discounts available.
(v) Must be able to make replenishment instantaneously, with the whole batch delivered at once.

Solution of question 11 (Spring 2014, Q-1[b])

(i) Economic Order Quantity
Requirement of material Y per annum (6 kg per unit x 600 units) 3,600
Rs.
Ordering cost per order
Inspection 20,000
Transportation 25,000
45,000
Rs.
Holding cost per kg per annum 2,400
Warehousing cost 100
20,500

2 x 3,600 lgs x 45,000

EOQ = √ = 360 kgs
2,500

(ii) Ordering and Holding Costs

Number of purchase orders (3,600 kgs  360 kgs) 10 orders
Kgs
Average inventory excluding safety stock (360 kgs  2) 180
Safety stock 30
Average inventory including safety stock 210
Rs.
Total holding cost (Rs. 2,500 x 210 kgs) 525,000
Total ordering costs (Rs. 45,000 x 10 orders) 450,000

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CAF-03 Inventory management

Lecture # 4 Lecture # 66 (Over all)

Inventory management
Class work
Question-15 (Spring 2017, Q-2)
Aroma Herbs (AH) deals in a herbal tea. The tea is imported on a six monthly basis. The management is
considering to adopt a stock management system based on Economic Order Quantity (EOQ) model. In this
respect, the following information has been gathered:
(i) Annual sale of the tea is estimated at 60,000 kg at Rs. 1,260 per kg. Sales are evenly distributed
throughout the year,
(ii) C&F value of the tea after 10% discount is Rs. 900 per kg. Custom duty and sales tax are paid at
the rates of 20% and 15% respectively. Sales tax paid at import stage is refundable in the same
month,
(iii) Use of EOQ model would reduce the quantity per order. As a result, bulk purchase discount would
be reduced from 10% to 8%.
(iv) Cost of financing the stock is 1% per month.
(v) Annual storage cost is estimated at Rs. 320 per kg.
(vi) Administrative cost of processing an order is Rs. 90,000. Increase in number of purchase orders
would reduce this cost by 10%.
(vii) AH maintains a buffer stock equal to fifteen days' sales.
Required:
(a) Compute EOQ. (04)
(b) Determine the amount of savings (if any) which can be achieved by AH by adopting the stock
management system based on EOQ model. (Assume 360 days in a year) (06)

Home work
Question-16 (Spring 2020, Q-7[b])
Jamal Limited (JL) purchases raw material T3 for its product DBO on a quarterly basis as per the
requirement of the production department. The management is considering to revise the existing policy
of placing orders for T3. Following information is available in this regard:
(i) Annual production of DBO is 19,000 units.
(ii) Each unit of DBO requires 1 kg of T3 which is the resultant quantity after normal loss of 5%.
(iii) Minimum order quantity set by the supplier for purchase of T3 is 3,500 kg. However, the supplier
offers following prices at different order quantities:
Order quantity (kg) Price per kg (Rs.)
3,500 305
4,000 299
5,000 296

(iv) JL maintains T3’s safety stock of 320 kg.

(v) The cost of placing each order is Rs. 4,200 out of which Rs. 1,780 pertains to salaries of staff of
purchase department.
(vi) Holding cost per kg of average stock is Rs. 260 which includes rent of Rs. 180 for the floor space
occupied by each kg. Variation in the stock held has no effect on the remaining holding cost.
Required:
Determine the purchase order quantity of T3 offered by the supplier at which JL’s cost would be
minimized.
(08)

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CAF-03 Inventory management

Solution of question 13 (Spring 2006, Q-2)

(2 x 10,000 units x Rs. 800)

EOQ = √ = 500 𝑢𝑛𝑖𝑡𝑠
Rs. 64

EOQ with and without discount

Order size quantity units 500 units 1,000 units 2,000 units
No. of orders 20 10 5
Unit price (Rs.) 160 158.4 156.8
Annual purchase cost (Rs.) 1,600,000 1,584,000 1,568,000
Annual carrying cost (Rs.) 16,000 32,000 64,000
Annual ordering cost (Rs.) 16,000 8,000 4,000
1,632,000 1,624,000 1,636,000
Advise: Purchase orders should be placed in quantity of 1,000 units per order.

Solution of question 14 (Autumn 2015, Q-7)

(a) Economic order quantity (EOQ)
Kgs
Annual requirement of the coco powder (80,000 x 90%)  0.96 75,000
Rs.
Ordering cost per order (Rs. 6,000,000  120 orders) 50,000
Holding cost per kg per month
Storage & Handling (Rs. 20 per kg per month x 12 months) 240
Other Carrying cost (Rs. 5 per kg per month x 12 months) 60
300

2 x 75,000 x 50,000
EOQ = √ = 5,000 kgs
300
(b) Total annual inventory costs using EOQ / minimum quantity as offered by the vendor:
EOQ level Vendor’s offer
Proposed order quantity 5,000 kgs 7,500 kgs
Rs. Rs.
Annual variable ordering costs 750,000 500,000
[(75,000 ÷ 5,000) = 15 orders x Rs. 50,000 per order]
[(75,000 ÷ 7,500) = 10 orders x Rs. 50,000 per order]
Annual variable holding costs 1,350,000 1,725,000
[2,000 + (5,000 ÷ 2) = 4,500 kgs x Rs. 300 per kg per annum]
[2,000 + (7,500 ÷ 2) = 5,750 kgs x Rs. 300 per kg per annum]
Annual variable purchase cost 45,000,000 44,100,000
[75,000 kgs x Rs. 600 per kg]
[75,000 kgs x (Rs. 600 per kg x 98%)]
Total inventory costs 47,100,000 46,325,000

Offer of vendor may be accepted as at this order level annual saving is

= 47,100,000 – 46,325,000 = Rs. 775,000

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CAF-03 Inventory management
Lecture # 5 Lecture # 67 (Over all)
Inventory management
Class work
1. Solved question 16 (Spring 2020, Q-7[b]) from lecture 66 and provided solution.
2. Solved following question:
Question-17 (Autumn 2022, Q-5)
Galaxy Limited (GL) is engaged in trading various consumer goods including Star-1 for which demand is evenly
distributed throughout the year. The present supplier of Star-1 offers a bulk purchase discount of 5% on all orders
of 20,000 units and above, which GL has been availing. Due to availing the bulk discount, the normal transit
loss has been increased from 3% to 4%.
GL is currently evaluating to adopt economic order quantity (EOQ) model which would reduce the transit loss
to 3%.
Following information has been gathered for the purpose of evaluation:
Average annual demand Units 120,000
Safety stock Units 1,200
Per unit purchase cost Rs. 250
Ordering cost per order Rs. 50,000
Average annual holding cost per unit Rs. 100
Required:
Advise GL whether it will be beneficial to adopt EOQ model. (10)

3. Discussed ‘inventory levels’ and solved following question

Question-18 (ICAP past paper)
Robin Limited (RL) imports a high value component for its manufacturing process. Following data, relating to
the component, has been extracted from RL’s records for the last twelve months:
Maximum usage in a month 300 units
Minimum usage in a month 200 units
Average usage in a month 225 units
Maximum lead lime 6 months
Minimum lead time 2 months
Rc-order quantity 750 units
Required:
Compute re-order level, minimum inventory level and maximum inventory level. (05)

Home work
Question-19 (Autumn 2022, Q-2)
Saturn Limited (SL) imports raw material M-l for manufacturing of its products. Following data relating to M-l
has been extracted from SL’s latest records:
Maximum usage in a month units 5,000
Minimum usage in a month units 3,000
Average consumption in a month units 3,750
Maximum lead lime months 4
Minimum lead time months 2
Required:
(a) Briefly explain the meaning of ‘Lead time’ and ‘Stock out costs’. (03)
(b) Compute the following with brief explanation of why it is necessary for SL to maintain these levels of
inventories:
(i) Reorder level
(ii) Maximum inventory level
(iii) Safety stock level (05)

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CAF-03 Inventory management

Lecture # 6 Lecture # 68 (Over all)

Inventory management
Class work
1. Solved question 18 (ICAP past paper) and question 19 (Autumn 2022, Q-2) from lecture 67 handout.
2. Discussed concept of optimal safety stock and solved following questions:
Question-20 (Spring 2022, Q-1)
Nigeria Limited (NL) is involved in trading of various consumer goods. It purchases one of its products 'Silver*
from a local supplier in batches of 3,000 kg using the EOQ model. NL receives the delivery in two weeks of
placing the order. Below are the details related to Silver's demand:
Demand during lead time (kg) Probability
1,000 35%
1,500 45%
2,000 20%
Annual holding cost of Silver is Rs. 25 per kg and contribution margin is Rs. 10 per kg.
NL operates for 48 weeks each year.
Required:
Suggest which of the following reorder levels would be financially beneficial for NL:
(i) Average demand during lead time
(ii) 1,600 kg (08)

Home work
Question-21 (Spring 2018, Q-6)
Khan Limited (KL) imports and sells a product ‘AA’. KL is faced with a situation where lead time is mostly
predictable i.e. 1 month but lead time usage varies quite significantly. Data collected for past three years shows
that probability for lead time usage is as follows:
No. of units demanded Probability of demand
during lead time during lead time (%)
1,000 30
660 50
450 20
Other relevant information is as follows:
(i) Annual demand is 8,640 units.
(ii) Contribution margin is Rs. 40 per unit.
(iii) Purchase orders are raised on the basis of economic order quantity model. Annual holding cost is Rs.
100 per unit whereas average cost of placing an order is Rs. 6,750.
Required:
Determine at which of the following re-order levels, KL’s profit would be maximised:
• 1,000 units
• 450 units
• Expected demand during lead time (17)

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 2 (CVP analysis) Lecture # 70 (Over all)

Class work
1. Discussed assumptions of CVP analysis, identification of fixed, variable, and semi-variable costs.
2. Solved following questions:
Question-1 (Autumn 2003, Q-6)
The Parrot Company sold 150,000 units @ Rs. 30 each, Variable cost is Rs. 20 (Manufacturing Rs. 15 &
Marketing Rs. 5), Fixed Cost is Rs. 1,200,000 annually which occurs evenly throughout the year (Manufacturing
Rs. 800,000 & Marketing Rs. 400,000)
Required:
(i) Breakeven point in units
(ii) Breakeven point in Rupees
(iii) Number of units to be sold to earn profit before tax of Rs. 200,000
(iv) Number of units to be sold to earn after tax profit of Rs. 100,000 if tax rate is 25%
(v) The breakeven point in units if selling price is increased by Rs. 3 and variable cost by Rs. 2 per unit. (10)
Question-2 (Autumn 2002, Q-5)
(a) What is margin of safety? (03)
(b) The fixed cost of an enterprise for the year is Rs. 400,000. The variable cost per unit for a single product
being made is Rs.20. Each units sells at Rs.100.
Required:
(i) Breakeven point. (04)
(ii) If the turnover for the next year is Rs. 800,000, calculate the estimated contribution and profit, assuming
that the cost and selling price remain the same. (04)
(iii) A profit target of Rs. 400,000 has been desired for the next year. Calculate the turnover required to
achieve the desired result. (04)
Question-3 (Autumn 2004, Q-6)
PQR Company manufactures product ‘E’ in 1,000 units batches and sells them in 100 unit packs. Cost data of
the said product is as under:
Raw material 42 kg per unit
Raw material price Rs. 37 per kg for annual buying upto 3.5 million kgs.
Rs. 36.90 per kg for annual buying over 3.5 million kgs.
Direct labour Rs. 850 per unit
Factory Overhead-Variable Rs.300 per unit
Factory Overhead-Fixed Rs. 500,610 per month
Price Rs. 2,862 per unit.
Current production level is 80,000 units per annum, which is 100% of rated capacity of the plant. For any increase
in production, there will be an increase in fixed overhead by Rs. 25,000 per month.
Cost accountant view
Cost accountant of the company is of the view that the company can achieve break-even level at lesser quantity
if production is increased to avail purchase discount of Rs.0.10 per kg.
Required:
Verify the opinion of the Cost Accountant. (10)

Home work
Question-4 (Autumn 2005, Q-7)
The Sindh Engineering Company produces a bicycle which sells at Rs. 1,000 per unit. At 80% capacity
utilization which is the normal level of activity, the sales are Rs. 180 million. Costs are as under:
Prime cost per unit Rs.400
Factory indirect cost Rs.30 million (including variable cost Rs.10 million)
Selling costs Rs.25 million (including variable cost Rs.15 million)
Distribution costs Rs.20 million (including variable cost Rs.11 million)
Administration costs Rs.6 million
Commission and discounts are 5% of sales value.
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CAF-03 Cost-volume-profit (CVP) analysis
Required:
(a) Calculate the break-even sales value.
(b) Prepare statements showing sales, costs, net profit and contribution margin at each of the following levels:
(i) at the normal level of activity;
(ii) if unit selling price is reduced by 5% thereby increasing sales and production volume by 10% of the
normal activity level;
(iii) if unit selling price is reduced by 10% thereby increasing sales and production volume by 20% of
the normal activity level. (12)

Question-5 (Autumn 2006, Q-4)

One-way Limited is engaged in manufacturing and sale of socks. The sales of the company are mostly to USA
and European Countries. At the end of the first quarter, the results of operations of the company are as follows:
Rs.
Sales (Rs. 40 per unit) 5,300,000
Less: Material cost 1,987,500
Wages cost 795,000
Variable overhead 397,500
Fixed overhead 848,000
4,028,000
Gross profit 1,272,000
The factory was working at 40% capacity in the first quarter. Management of the company has estimated that
the quantity sold could be doubled next quarter if the selling price was reduced by 15%. The variable costs per
unit will remain the same, but certain administrative changes to cope with the additional volume of work would
increase the fixed overhead by Rs. 15,000.
Required:
(a) Evaluate the management’s proposal. (05)
(b) What quantity would need to be sold next quarter in order to yield a profit of Rs. 2,000,000 if the selling
price was reduced as proposed, variable cost per unit remains the same and fixed overheads increased as
estimated above? (02)
(c) Calculate the selling price needed to achieve a profit of Rs. 2,000,000 if the quantity sold last quarter cannot
be increased, material prices increase by 12%, wage rates increased by 15%, variable overheads are higher
by 10% and fixed overheads increase by Rs. 15,000. (04)

Question-6 (Autumn 2008, Q-5)

Octa Electronics produces and markets a single product. Presently, the product is manufactured in a plant that
relies heavily on direct labour force. Last year, the company sold 5,000 units with the following results:
Rupees
Sales 22,500,000
Less: Variable expenses 13,500,000
Contribution margin 9,000,000
Less: Fixed expenses 6,300,000
Net income 2,700,000
Required:
(a) Compute the break-even point in rupees and the margin of safety. (04)
(b) What would be the contribution margin ratio and the break-even point in number of units if variable cost
increases by Rs. 600 per unit? Also compute the selling price per unit if the company wishes to maintain
the contribution margin ratio achieved during the previous year. (05)
(c) The company is also considering the acquisition of a new automated plant. This would result in the
reduction of variable costs by 50% of the amount computed in (b) above whereas the fixed expenses will
increase by 100%. If the new plant is acquired, how many units will have to be sold next year to earn net
income of Rs. 3,150,000. (03)

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 3 (CVP analysis) Lecture # 71 (Over all)

Class work
1. Solved question 3 (Autumn 2004, Q-6) and question 6 (Autumn 2008, Q-5) and provided solution of
question 4 (Autumn 2005, Q-7) and 5 (Autumn 2006, Q-4) from lecture 70 handout.
2. Solved following question:
Question-7 (Autumn 2015, Q-3)
The following information pertains to Hope Limited for the latest financial year:
Rupees
Direct material 6.00
Direct labour 5.00
Production overheads 10.29
Volume of sales and production was 6,000 units which represent 80% of normal capacity. The management of
the company is planning to increase wages of direct labour by 15% with effect from next financial year.
Required:
(a) Calculate the number of units to be sold to maintain the current profit if the sales price remains at Rs. 1,600
and the 15% wage increase goes into effect. (02)
(b) The management believes that an additional investment of Rs. 760,000 in machinery (to be depreciated at
10% annually) will increase total capacity by 25%. Determine the selling price in order to earn a profit of
Rs. 2 million assuming that all units produced at increased capacity can be sold and that the wage increase
goes into effect. (03)

Home work
Question-7 (Spring 2005, Q-6)
Gala Promotions Limited is planning a concert in Karachi. The following are the estimated costs of the
proposed concert:
Rs. (000)
Rent of premises 1,300
Advertising 1,000
Printing of tickets 250
Ticket sellers, security 400
Wages of Gala Promotions Limited Personnel employed at the concert 600
Fee of artist 1,000
There are no variable costs of staging the concert. The company is considering a selling price for tickets at either
Rs. 4,000/- or Rs.5,000/- each.
Required:
(i) Calculate the number of tickets which must be sold at each price in order to break-even. (03)
(ii) Recalculate the number of tickets which must be sold at each price in order to break-even, if the artist agrees
to change from fixed fee of Rs. 1 million to a fee equal to 25% of the gross sales proceeds. (04)
(iii) Calculate the level of ticket sales for each price, at which the company would be indifferent as between the
fixed and percentage fee alternative. (04)
(iv) Comment on the factors, which you think, the company might consider in choosing between the fixed fee
and percentage fee alternative. (04)

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CAF-03 Cost-volume-profit (CVP) analysis
Question-8 (Spring 2009, Q-6)
A soft drink company is planning to produce mineral water. It is contemplating to purchase a plant with a
capacity of 100,000 bottles a month. For the first year of operation the company expects to sell between 60,000
to 80,000 bottles. The budgeted costs at each of the two levels are as under:
Rupees
Particulars 60,000 bottles 80.000 bottles
Material cost 360,000 480.000
Labour cost 200,000 260.000
Factory overheads 120,000 150.000
Administration expenses 100,000 110.000
The production would be sold through retailers who will receive a commission of 8% of sale price.
Required:
(a) Compute the break-even point in rupees and units, if the company decides to fix the sale price at Rs. 16 per
bottle.
(b) Compute the break-even point in units if the company offers a discount of 10% on purchase of 20 bottles
or more, assuming that 20% of the sales will be to buyers who will avail the discount. (16)

Question-9 (Spring 2011, Q-5)

Emerald Limited (EL) is engaged in the manufacture and sale of a single product. Following statement
summarizes the performance of EL for the first two quarters of the financial year 20X2:
Quarter 1 Quarter 2
Sales volume in units 580,000 540,000
Rs in 000
Sales revenue 493,000 464,400
Cost of Goods sold
Material (197,200) (183,600)
Labour (98,600) (91,800)
Factory overheads (84,660) (80,580)
(380,460) (355,980)
Gross Profit 112,540 108,420
Selling and distribution expenses (26,500) (25,500)
Administrative expenses (23,500) (23,500)
(50,000) (49,000)
Net Profit 62,540 59,420
In the second quarter of the year EL increased the sale price, as a result of which the sales volume and net profit
declined. The management wants to recover the shortfall in profit in the third quarter. In order to achieve this
target, the product manager has suggested a reduction in per unit price by Rs. 15. The marketing director
however, is of the opinion that if the price of the product is reduced further, the field force can sell 650,000 units
in the third quarter. It is estimated that to produce more than 625,000 units the fixed factory overheads will have
to be increased by Rs. 2.5
Required:
(a) Compute the minimum number of units to be sold by EL in quarter 3 at the reduced price, to earn same
level of profit that was earned in quarter 1 and to recover the shortfall in the second quarter profits.
(b) Determine the minimum price which could be charged to maintain the profitability calculated in (a) above,
if EL wants to sell 650,000 units. (14)

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 4 (CVP analysis) Lecture # 72 (Over all)

Class work
1. Solved question 6 (Autumn 2008, Q-5) and discussed question 4 (Autumn 2005, Q-7) and 5 (Autumn 2006,
Q-4) from lecture 70 handout and provided their solution.
2. Solved following question:
Question-7 (Autumn 2015, Q-3)
The following information pertains to Hope Limited for the latest financial year:
Rupees
Sale price per unit 1,600
Direct Labour per unit 240
Variable cost (other than direct labour) per unit 960
Fixed cost (no labour cost included) 850,000
Volume of sales and production was 6,000 units which represent 80% of normal capacity. The management of
the company is planning to increase wages of direct labour by 15% with effect from next financial year.
Required:
(a) Calculate the number of units to be sold to maintain the current profit if the sales price remains at Rs. 1,600
and the 15% wage increase goes into effect. (02)
(b) The management believes that an additional investment of Rs. 760,000 in machinery (to be depreciated at
10% annually) will increase total capacity by 25%. Determine the selling price in order to earn a profit of
Rs. 2 million assuming that all units produced at increased capacity can be sold and that the wage increase
goes into effect. (03)
Home work
Question-7 (Spring 2005, Q-6)
Gala Promotions Limited is planning a concert in Karachi. The following are the estimated costs of the
proposed concert:
Rs. (000)
Rent of premises 1,300
Advertising 1,000
Printing of tickets 250
Ticket sellers, security 400
Wages of Gala Promotions Limited Personnel employed at the concert 600
Fee of artist 1,000
There are no variable costs of staging the concert. The company is considering a selling price for tickets at either
Rs. 4,000/- or Rs.5,000/- each.
Required:
(i) Calculate the number of tickets which must be sold at each price in order to break-even. (03)
(ii) Recalculate the number of tickets which must be sold at each price in order to break-even, if the artist agrees
to change from fixed fee of Rs. 1 million to a fee equal to 25% of the gross sales proceeds. (04)
(iii) Calculate the level of ticket sales for each price, at which the company would be indifferent as between the
fixed and percentage fee alternative. (04)
(iv) Comment on the factors, which you think, the company might consider in choosing between the fixed fee
and percentage fee alternative. (04)
Question-8 (Spring 2009, Q-6)
A soft drink company is planning to produce mineral water. It is contemplating to purchase a plant with a
capacity of 100,000 bottles a month. For the first year of operation the company expects to sell between 60,000
to 80,000 bottles. The budgeted costs at each of the two levels are as under:
Rupees
Particulars 60,000 bottles 80,000 bottles
Material cost 360,000 480,000
Labour cost 200,000 260,000
Factory overheads 120,000 150,000
Administration expenses 100,000 110,000
The production would be sold through retailers who will receive a commission of 8% of sale price.

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CAF-03 Cost-volume-profit (CVP) analysis
Required:
(a) Compute the break-even point in rupees and units, if the company decides to fix the sale price at Rs. 16 per
bottle.
(b) Compute the break-even point in units if the company offers a discount of 10% on purchase of 20 bottles
or more, assuming that 20% of the sales will be to buyers who will avail the discount. (16)
Question-9 (Spring 2011, Q-5)
Emerald Limited (EL) is engaged in the manufacture and sale of a single product. Following statement
summarizes the performance of EL for the first two quarters of the financial year 20X2:
Quarter 1 Quarter 2
Sales volume in units 580,000 540,000
Rs in 000
Sales revenue 493,000 464,400
Cost of Goods sold
Material (197,200) (183,600)
Labour (98,600) (91,800)
Factory overheads (84,660) (80,580)
(380,460) (355,980)
Gross Profit 112,540 108,420
Selling and distribution expenses (26,500) (25,500)
Administrative expenses (23,500) (23,500)
(50,000) (49,000)
Net Profit 62,540 59,420
In the second quarter of the year EL increased the sale price, as a result of which the sales volume and net profit
declined. The management wants to recover the shortfall in profit in the third quarter. In order to achieve this
target, the product manager has suggested a reduction in per unit price by Rs. 15.
The marketing director however, is of the opinion that if the price of the product is reduced further, the field
force can sell 650,000 units in the third quarter. It is estimated that to produce more than 625,000 units the fixed
factory overheads will have to be increased by Rs. 2.5
Required:
(a) Compute the minimum number of units to be sold by EL in quarter 3 at the reduced price, to earn same
level of profit that was earned in quarter 1 and to recover the shortfall in the second quarter profits.
(b) Determine the minimum price which could be charged to maintain the profitability calculated in (a) above,
if EL wants to sell 650,000 units. (14)

Solution of question 4 (Autumn 2005, Q-7)

(a)
Total Fixed cost
Break even point (sales value) =
Contribution margin ratio

Rs. 45,000,000 (W − 1)
Break even point (sales value) = = Rs. 128,571,429
0.35
Rs. 1,000 − Rs. 650 (W − 3)
Contribution margin ratio = = 0.35
Rs. 1,000
(W-1) Separation of Fixed and Variable costs
Total Cost Total Variable Cost Total Fixed Cost
(Rs. m) (Rs. m) (Rs. m)
Factory indirect cost 30 10 20
Selling costs 25 15 10
Distribution costs 20 11 9
Administration costs 6 0 6
Total 81 36 45
(W-2)
Rs. 180 million
No. of units sold = = 180,000 𝑢𝑛𝑖𝑡𝑠
Rs. 1,000 per unit
Other Variable cost per unit = Rs. 36 million  180.000 units = Rs. 200 per unit

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CAF-03 Cost-volume-profit (CVP) analysis
(W-3) Variable Cost per unit
Rs. per unit
Prime cost per unit 400
Add: Other variable cost per unit (W-2) 200
Variable cost (other than commission) 600
Add: Variable commission cost (Rs. 1,000 sale per unit x 5%) 50
650
(b) Sindh Engineering Company
Statement of Profit and Loss
(i) Normal (ii) 110% of (iii) 120% of
Activity Normal Activity Normal Activity
Sale and production units 180.000 (W-2) 198,000 216,000
Sales price per unit (Rs.) 1,000 950 900
(Rs. millions) (Rs. millions) (Rs. millions)
Sales Revenue 180.00 188.10 194.40
Less: Variable cost
Variable cost (other than commission) (108.00) (118.80) (129.60)
(Rs. 600 per unit (W-3) x sales units)
Variable commission @ 5% of sales value (9.00) (9.41) (9.72)
Contribution Margin 63.00 59.89 55.08
Less: Total Fixed costs (45.00) (45.00) (45.00)
Net profit 18.00 14.89 10.08

Solution of question 5 (Autumn 2006, Q-4)

(a) Evaluation of management’s proposal
Sale price Sale Price
(Current) (after decrease)
Sale price per unit (Rs.) 40 34
Sale units (Rs. 5.3 million ÷ Rs. 40 per unit): (132,500 unit x 2) 132,500 265,000
Rs. 000 Rs. 000
Sales Revenue 5,300 9,010
Less: Variable cost @ Rs. 24 per unit (W-1) (3,180) (6,360)
Contribution Margin 2,120 2,650
Less: Total Fixed cost (Rs.848,000 +15,000) (848) (863)
Net profit 1,272 1,787
Conclusion: The proposal of price reduction is viable as it increases the profit by Rs. 515,000.
(W-1) Variable cost per unit
Variable cost per unit = (Rs. 1,987,500 + 795,000 + 397,500) ÷ 132,500 units = Rs. 24 per unit
(b) Sale Quantity to achieve desired profit
Total Fixed cost + Desired profit before tax
Sale quantity to achieve profit =
Contribution per unit

Rs. 863,000 + Rs. 2000,000

Sale quantity to achieve profit = = 286,300 units
(Rs. 34 − Rs. 24) per unit
(c) Selling price to achieve a profit of Rs. 2 million
Units to be sold 132,500
Rs.
Material cost (Rs. 1,987,500 x 1.12) 2,226,000
+ Wages cost (Rs. 795,000 x 1.15) 914,250
+ Variable FOH cost (Rs. 397,300 x 1.10) 437,250
+ Fixed FOH cost 863,000
= Total cost 4,440,500
+ Desired profit 2,000,000
Sales Value 6440,500

Selling price per unit

= Rs. 6,440,500  132,500 units = Rs. 48.61 per unit

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 3 (CVP analysis) Lecture # 71 (Over all)

Class work
1. Discussion on identification of fixed, variable and semi-variable cost using volumes and names.
2. Solved question 3 (Autumn 2004, Q-6) and discussed question 4 (Autumn 2005, Q-7) and 5 (Autumn 2006,
Q-4) from lecture 70 handout.

Home work
1. Question 4 (Autumn 2005, Q-7) from lecture 70 handout.
2. Question 5 (Autumn 2006, Q-4) from lecture 70 handout.
3. Question 6 (Autumn 2008, Q-5) from lecture 70 handout.

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 5 (CVP analysis) Lecture # 73 (Over all)

Class work
1. Solved question 8 (Spring 2005, Q-6) and question 9 (Spring 2009, Q-6) from lecture 72.
2. Solved following question:
Question-11 (Spring 2016, Q-8)
Himalayan Rivers (HR) is planning to install a new plant. Planned production from the plant for the next year is
150,000 units. Cost of production is estimated as under:
Rs. in million
Direct material 6.00
Direct labour 5.00
Production overheads 10.29
Production overheads include the following:
(i) Factory premises would be acquired on rent at a cost of Rs. 1.8 million per annum.
(ii) Indirect labour has been budgeted at 30% of direct labour cost, 50% of which would be fixed.
(iii) Depreciation of the plant would be Rs. 0.5 million.
(iv) Total power and fuel cost has been budgeted at Rs. 3 million. 80% of power and fuel cost would vary in
accordance with the production.
(v) All remaining production overheads are variable.
The sales and marketing budget includes the following:
(i) Employment of two sales representatives at a monthly salary of Rs. 25,000 each and a sales commission of
2% on sales achieved.
(ii) Hiring of a delivery van at Rs. 70,000 per month.
(iii) Launching an advertisement campaign at a cost of Rs. 1.5 million.
Required:
Calculate the breakeven sales revenue and quantity for the next year if HR expects to earn a contribution margin of
40% on sales, net of 2% sales commission. (10)

Home work
Question- (Spring 2017, Q-9)
Sword Leather Limited (SLL) produces and sells shoes. The following information pertains to its latest financial year:
Rs. in million
Sales (62,500 pairs) 187.5
Fixed production overheads 35.0
Fixed selling and distribution overheads 10.0
Variable production cost (in proportion of 40:35:25
for material, labour and overheads respectively) 60% of sale
Variable selling and distribution cost 15% of sale

To increase profitability, SLL has decided to introduce new design shoes and discontinue the existing deigns. In this
regard it has carried out a study whose recommendations are as follows:
(i) Replace the existing fully depreciated plant with a new plant at an estimated cost of
Rs. 50 million. The new plant would:
• reduce material wastage from 10% to 5%;
• decrease direct wages by 5%; and
• increase variable overheads by 6% and fixed overheads by Rs. 15 million (including depreciation on
the new plant).
(ii) Improve efficiency of the staff by paying 1% commission to marketing staff and annual bonus amounting to
Rs. 1.5 million to other staff.
(iii) Introduction of new designs would require an increase in variable selling and distribution cost by 2%.
(iv) Sell the newly designed shoes at 10% higher price.
(v) Maintain finished goods inventory equal to one month’s sale.
Required:
Compute the budgeted production for the first year if the budgeted sale has been determined with the objective of
maintaining 25% margin of safety on sale. (08)

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 7 (CVP analysis) Lecture # 75 (Over all)

Classwork
1. Discussed question 10 (Spring 2011, Q-5) and question 12 (Spring 2017, Q-9) from lecture 72 and 73
handout.
2. Solved following question:
Question-13 (Spring 2021, Q-7)
Fine Limited (FL) is involved in manufacturing and distribution of various consumer products. Following information
pertains to one of its products, FGH for the year ended31 December 2020:
Rs. in '000
Sales (500,000 units) 56,000
Material (Rs. 30 per kg) (22,500)
Skilled labour ( Rs. 125 per hour) (10,000)
Semi-skilled labour (Rs. 100 per hour) (5,000)
Production overheads (50% variable (4,500)
Gross profit 14,000
The management of FL has decided to take following measures with respect toproduction of FGH for the next year:

(i) Increase production volume by 10% to take advantage of increase in demand.Currently the plant for FGH
is operating at 80% of its capacity.
(ii) Purchase 60% of the material from FL’s associated company that has offered a bulkdiscount of 5%. Additional
wastage from this material is expected to be 1%.
(iii) Replace 40% of the skilled labour with semi-skilled labour. It is estimated thatsemi-skilled labour will take
30% more time to do the work of skilled labour.

Impact of inflation on all costs would be 10%.

FL’s management also wants to maintain the same gross profit margin in 2021 as theprevious year.
Required:
Compute the selling price per unit of FGH for the next year. (12)

Homework
Question- 14 (Autumn 2014, Q-2)
Auto Industries Limited (AIL) manufactures auto spare parts. Currently, it is operating at 70% capacity. At this level,
the following information is available:
Break-even sales Rs. 125 million
Margin of safety Rs. 25 million
Contribution margin to sales 20%

AIL is planning to increase capacity utilization through the following measures:

(i) Selling price would be reduced by 5% which is expected to increase sales volume by 30%.
(ii) Increase in sales would require additional investment of Rs. 40 million in distribution vehicles and working
capital. The additional funds would be arranged through a long-term loan at a cost of 15% per annum.
Depreciation on distribution vehicles would be Rs. 5 million.
(iii) As a result of increased production, economies of scale would reduce variable cost per unit by 10%.
Required:
(a) Prepare profit statements under current and proposed scenarios. (07)
(b) Compute break-even sales and margin of safety after taking the above measures. (04)

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CAF-03 Cost-volume-profit (CVP) analysis
Question- 15 (Autumn 2010, Q-3)
Naseem (Private) Limited (NPL) is a manufacturer of industrial goods and is launching a new product. The production
will be carried out using existing facilities. However, the capacity of a machine would have to be increased at a cost
of Rs. 3.0 million. The budgeted costs per unit are as under:
Imported material 1.3 kg at Rs. 750 per kg
Local material 0.5 kg at Rs. 150 per kg
Labour 2.0 hours at Rs. 300 per hour
Variable overheads Rs. 200 per labour hour
Selling & administration cost – variable Rs. 359

Other relevant details are as under:

(i) Net weight of each unit of finished product will be 1.6 kg.
(ii) During production, 5% of material input will evaporate. The remaining waste would be disposed off at a rate
of Rs. 80 per kg.
(iii) The cost of existing plant is Rs. 10 million. The rate of depreciation is 10% per annum.
(iv) Administration and other fixed overheads amount to Rs. 150,000 per month. As a result of the introduction
of the new product, these will increase to Rs. 170,000 per month. The management estimates that 20% of the
facilities would be used for the new product.
(v) The company fixes its sale price at variable cost plus 25%.
(vi) Applicable tax rate for the company is 35%.
Required:
Compute the sales quantity of new product and value, required to achieve a targeted increase of Rs. 4.5 million in after
tax profit. (10)

Question- 16 (Autumn 2010, Q-3)

Digital Industries Limited (DIL) incurred a loss for the year ended 30 June 2017 as it could achieve sales amounting
to Rs. 89.6 million which was 80% of the break-even sales. Contribution margin on the sales was 25%. Variable costs
comprised of 45% direct material, 35% direct labour and 20% overheads.
During a discussion on the situation, the Marketing Director was of the view that no increase in sales price was possible
due to severe competition. However, sales volume can be increased by reducing prices. The Production Director was
of the view that since the plant is quiet old, the production capacity cannot be increased beyond the current level of
70%. Accordingly, the management has developed the following plan:
(i) A new plant would be installed whose capacity would be 20% more than installed capacity of the existing
plant. The cost and useful life of the plant is estimated at Rs. 30 million and 10 years respectively. The funds
for the new plant would be arranged through a long-term bank loan at a cost of 10% per annum. Capacity
utilization of 85% is planned for the first year of the operation.
The new plant would eliminate existing material wastage which is 5% of the input and reduce direct labour
hours by 8%.
The existing plant was installed fifteen years ago at a cost of Rs. 27 million. It has a remaining useful life of
three years and would be traded in for Rs. 2 million.
DIL depreciates its fixed assets on straight line basis over their estimated useful lives.
(ii) To sell the entire production, selling price would be reduced by 2%.
(iii) Material would be purchased in bulk quantity which would reduce direct material cost by 10%.
(iv) Direct wages would be increased by 8% which would increase production efficiency by 10%.
(v) Impact of inflation on overheads would be 4%.
Required:
Compute the projected sales for the next year and the margin of safety percentage after incorporating the effect of the
above measures. (12)

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 8 (CVP analysis) Lecture # 76 (Over all)

Classwork
1. Solved question 13 (Spring 2021, Q-7) and question 14 (Autumn 2014, Q-2) from lecture 75 and provided
solutions of question 12 (Spring 2017, Q-9) from lecture 73 and question 15 (Autumn 2014, Q-2) from
lecture 75 handout.

Homework

Solution of question 12 (Spring 2017, Q-9)

Opening stock + production units - closing stock = sold units
Production units (budgeted production) = sold units (budgeted sales) – opening stock + closing stock
Production units (budgeted production) = 78,065 units (W-5) – 0 + 6,505 units (78,065  12 months) = 84,570 units

(W-1) Existing design New design

Sale price per unit (Rs. 187.5 million  62,500 units) Rs. 3,000 per unit x 1.1 Rs. 3,300 per unit
(W-2)
Variable cost per unit
Variable production cost
Material (Rs. 1,800 x 40%) Rs. 720 per unit x 90  95 Rs. 682.1 per unit
Labour (Rs. 1,800 x 35%) Rs. 630 per unit x 0.95 Rs. 598.5 per unit
Overheads (Rs. 1,800 x 25%) Rs. 450 per unit x 1.06 Rs. 477 per unit
Total (Rs. 3,000 x 60%) Rs. 1,800 per unit
Variable selling and distribution cost (Rs. 3,000 x 15%) Rs. 450 per unit x 1.02 Rs. 459 per unit
Variable commission (Rs. 3,300 x 1%) Rs. 33 per unit
Rs. 2,249.6 per unit
(W-3)
Total fixed cost
Fixed production overheads Rs. 35 million Rs. 35 million
Fixed selling and distribution overheads Rs. 10 million Rs. 10 million
Increase in fixed cost Rs. 15 million
Annual bonus Rs. 1.5 million
Rs. 61.5 million
(W-4)
Total fixed cost
Break even point (units) =
Contribution margin per unit
Rs. 61.5 million (W − 3)
Break even point (units) = = 58,549 𝑢𝑛𝑖𝑡𝑠(𝑎𝑝𝑝𝑟𝑜𝑥𝑖𝑚𝑎𝑡𝑒𝑙𝑦)
[Rs. 3,300 (W − 1) − 𝑅𝑠. 2,249.6 (𝑊 − 2)]

(W-5)
Budgeted sales (units) − Breakeven sales(units)
Margin of safety ratio =
Budgeted 𝑠𝑎𝑙𝑒𝑠 (𝑢𝑛𝑖𝑡𝑠)

Budgeted sales (units) − 58,549 units (W − 4)

0.25 =
Budgeted 𝑠𝑎𝑙𝑒𝑠 (𝑢𝑛𝑖𝑡𝑠)
Budgeted sales (units) = 78,065 units (approximately)

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CAF-03 Cost-volume-profit (CVP) analysis
Solution of question 13 (Spring 2021, Q-7)
Rs.540,000 (W−3)+Rs.6,923,077 (W−2)
Sales quantity to achieve desired profit = = 12,438 units (approximately)
Rs.600.05 per unit (W−1)

Sales value to achieve desired profit = 12,438 units x Rs. 3,000.25 per unit = Rs. 37,317,110
(W-1) Contribution per unit & Selling price per unit
Variable costs per unit Rs.
Imported material (Rs. 750 per kg x 1.3 kg per unit) 975
Local material (Rs. 150 per kg x 0.5 kg per unit) 75
Labour cost (Rs. 300 per hour x 2 hours per unit) 600
Variable overheads (Rs. 200 per unit x 2 hours per unit) 400
Variable Selling and administration cost 359
Less: Sale proceeds from waste material (8.8)
(1.3 kg + 0.5 kg = 1.8 kg input - 1.6 kg Net weight = 0.2 kg loss)
[0.2 kg loss - (1.8 kg x 5% evaporation loss) = 0.11 kg x Rs. 80 per kg]
Total Variable costs per unit 2,400.20
Add: Contribution per unit (Rs. 2400.2 per unit x 25%) 600.05
Selling price per unit 3,000.25
(W-2) Total Fixed costs related to new product
Rs.
Additional depreciation on upgraded machine capacity (Rs. 3,000,000 x 10%) 300,000
Additional Administration & other fixed cost [(Rs. 170,000 - Rs. 150,000) x 12 months] 240,000
Total Fixed costs 540,000
(W-3) Total Desired profit before tax
% Rs.
Desired profit before tax [Rs. 4.5 million  65% x 100%] 100% 6.923.077
Less: Taxation @ 35% (35%) 2.423.77
Desired profit after tax 65% 4.500.000

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 9 (CVP analysis) Lecture # 77 (Over all)

Classwork
1. Solved question 14 (Autumn 2014, Q-2) and question 16 (Autumn 2017, Q-8) from lecture 75.
2. Started discussion on multi-product CVP analysis and solved following question:
Question-17 (Autumn 2007, Q-5)
Quadra Electronics assembles and sells three products - W, X and Y. The cost per unit for each product is as
follows:
W X Y
Rupees Rupees Rupees
Direct materials 4,880 1,600 1,000
Direct labour 4,000 2,000 700
Variable overheads 1,360 480 348
Fixed production overheads 1,172 1,290 960
Total cost per unit 11,412 5,370 3,008
The fixed overheads are worked out on the basis of normal production levels i.e 15,000; 45,000; and 60,000
units per annum for W, X and Y respectively. The fixed selling and administrative costs for the next year are
expected to be Rs. 71,270,400. Management estimates that the ratio of sales quantities of W, X and Y shall be
1:3:4 and selling price per unit shall be Rs. 12,800; Rs. 6,000 and Rs. 3,600 respectively.
Required:
(a) Calculate the number of units of W, X and Y to be sold in order to achieve break even.
(b) Calculate the breakeven sales in terms of Rupees. (16)

Homework

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 11 (CVP analysis) Lecture # 79 (Over all)

Classwork
1. Discussed multi product break even and solved question 17 from lecture 77 handout.
2. Solved following question:
Question-18 (Spring 2015, Q-1)
KPK Dairies Limited (KDL) is planning to introduce three energy flavored milk from 1 July 2015. In this respect,
following projections have been made:
C-Plus I-Plus V-Plus
Planned production (No. of packets) 540,000 275,000 185,000
Sales (No. of packets) 425,000 255,000 170,000
Production cost per packet: -------------------- Rupees --------------------
Direct material 100 98 97
Direct labour 15 13 12
Variable overheads 23 19 16
Fixed overheads 25 22 20
Selling and distribution cost per packet:
Variable overheads 12 8 10
Fixed overheads 5 5 5
Total cost per packet 180 165 160
KDL will sell its products through a distributor at a commission of 5% of sale price and expects to earn a
contribution margin of 40% of net sales i.e. sales minus distributor's commission.
Required:
Compute break even sales in packets and rupees, assuming that ratio of quantities sold would be as per
projections. (17)

Homework
Question-19 (Spring 2022, Q-4)
Rio Limited (RL) operates donut shops in different parts of Karachi and has average monthly sales of Rs. 4.5
million per shop. RL earns contribution margin of 20%.
RL is now planning to open a shop in Lahore. In this respect, following two rental options are under
consideration:
(i) Annual rent of Rs. 2.52 million payable in advance.
(ii) Monthly rent of Rs. 0.1 million plus 2% commission on total sales, payable at the end of each
month.
Additional information:
(i) RL would introduce customized donuts, in addition to the regular range. The price of customized
donuts will be 15% higher than the regular ones.
(ii) Average monthly sales volume of this shop is expected to be 30% higher than existing sales. 20%
of the sales volume will consist of customized donuts.
(iii) Variable costs consist of 75% cost of making regular donuts which would increase by 5% in case
of customized donuts. The remaining variable costs represent packaging cost of all donuts which is
expected to increase by 4%.
(iv) Fixed costs (other than rent) is estimated at Rs. 0.8 million per month.
(v) RL can borrow the required funds at 14% per annum.

Required:
Compute net profit per month and margin of safety percentage under both options and recommend the most
suitable option to RL. (10)

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CAF-03 Cost-volume-profit (CVP) analysis

Lecture # 12 (CVP analysis) Lecture # 80 (Over all)

Classwork
1. Solved question 19 (Spring 2022, Q-4) from lecture 79 handout.

Homework
Question-20 (Spring 2014, Q-6)
Orient Stores Limited (OSL) operates retail outlets at various petrol pumps across the city. The average monthly
performance of these outlets is as under:
Rs. in ‘000
Sales 1,500
Rent expense 50
Other fixed costs 150
OSL earns contribution margin of 15% on items on which retail prices are printed. These items constitute 40%
of the total sales. All other items are sold at the contribution margin of 25%. Sohaib Enterprises (SE) has offered
OSL to establish an outlet at one of its petrol pumps located in a posh area of the city. OSL’s planning department
estimates that:
• At the proposed location, the sales volumes would be 20% lower than average.
• Being a posh area, OSL would be able to charge 10% higher prices on items on which retail prices are not
printed.
• Other fixed costs would be the same as the average of the existing outlets.
Required:
(a) Determine the break-even sales under the assumptions that SE would monthly charge:
Option I: rent of Rs. 75,000
Option II: rent of Rs. 50,000 plus 5% commission on total sales. (14)
(b) Which of the above options would you recommend and why? (02)

Solution-20 (Spring 2014, Q-6)

(a) Option-1: Payment of Fixed Monthly Rent of Rs. 75,000 for new outlet
Total fixed cost of new outlet
Breakeven Sales Revenue (Rs. ) =
Weighted average CM ratio
Rs. 225.000
= = Rs. 883,392
25.47%
(W-1) Total Fixed cost
Rs.
Rent payment 75,000
Other fixed cost 150,000
225,000
(W-2) Weighted average contribution margin ratio
Weight Weighted average
Products CM ratio of new Outlet
(N1) CM ratio
Printed price 15% 480/1272 5.66
Non-printed price 31.8% 792/1272 19.81
25.47%
(N1) Weight is based on budgeted sales revenue of new outlet given below.
(W-3) New Contribution Margin Ratio
Non-
Old outlet % Printed % Total
printed
Sales ratio 40% 60%
Rs. Rs. Rs.
Sales revenue 100% 600,000 100% 900,000 1,500,000
Less: variable cost (85%) (510,000) (75%) (675,000)
Contribution 15% 90,000 25% 225,000

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CAF-03 Cost-volume-profit (CVP) analysis
New outlet Printed Non-printed
Rs. Rs.
Sales Revenue (600,000 x 80%) (900,000 x 80% x 1.10) 480,000 792,000
Less: Variable cost (510,000 x 80%) (675,000 x 80%) (408,000) (540,000)
= Contribution 72,000 252,000
New Contribution Margin Ratio 15% 31.8%

(a) Option 2: Payment of Fixed Monthly Rent of Rs. 50,000 and 5% Commission for new outlet
Total fixed cost of new outlet
Breakeven Sales Revenue (Rs. ) =
Weighted average CM ratio

Rs. 200.000
= = Rs. 977,040
20.47%
(W-4) Total Fixed cost
Rs.
Rent payment 50,000
Other fixed cost 150,000
200,000
(W-5) Weighted average contribution margin ratio
Weighted average CM ratio under option 2
= Weighted average CM ratio under option 1 - Rate of Commission
= 25.47% - 5% = 20.47%

(b) Decision:
Orient stores Limited should select option 1 because company can achieve breakeven at lower level of sales.

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CAF-03 Process costing with joint and by product

Lecture # 1 (Process costing) Lecture # 81 (Over all)

Classwork
1. Started discussion on process costing with losses and solved following question.
Question-1 (Autumn 2003, Q-5)
Tata Cools manufactures a range of products including Air conditioners which pass through three processes before
transfer to finished goods store. Production department for the current month has given the following production
data.
Process
1 2 3 Total
Basic raw material (10,000 units) Rs. 6,000 6,000
Direct material – addition Rs. 8,500 9,500 5,500 23,500
Direct wages Rs. 4,000 6,000 12,000 22,000
Direct expenses Rs. 1,200 930 1,340 3,470
Production overheads (to be allocated on the basis of direct wages) Rs. 16,500
Output Units 9,200 8,700 7,900
Normal loss in process of input % 10 5 10
Scrap value of each lost unit Rs. .. 0.20 0.50 1.00
There was no stock at start or at the end in any process.
Required:
You are required to prepare the following accounts:
(a) Process 1 (04)
(b) Process 2 (04)
(c) Process 3 (04)
(d) Abnormal Loss (04)
(e) Abnormal Gain (04)

Homework
Question-2 (Spring 2002, Q-5)
A chemical compound is made by raw material being processed through two processes. The output of process A is
passed to process B where further material is added to the mix. The details of the process costs for the financial year
December 2001 are as below:
Process A
Direct material 2,000 kgs @ Rs 5.00 per kg
Direct Labour Rs. 7,200
Process Plant Time 140 hours @ Rs. 60.00 per hour
Expected output 80% of input
Actual output 1,400 kgs
Normal loss is sold @ Rs 0.50 per kgs
Process B
Direct material 1400 kgs @ Rs 12.00 per kg
Direct Labour Rs. 4,200
Process Plant Time 80 hours @ Rs. 72.50 per hour
Expected output 90% of input
Actual output 2,620 kgs
Normal loss is sold @ Rs 1.825 per kgs
The department overhead for the year was Rs 6,840 and is absorbed into the costs of each process on direct labour
cost. There was no opening stock at the beginning of the year.
Required:
Prepare the following accounts:
(a) Process A (05)
(b) Process B (05)
(c) Normal loss/gain of both process (05)

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CAF-03 Process costing with joint and by product
Question-3 (Spring 2007, Q-3)
Star Chemicals Limited uses three processes to manufacture a product “ST”. After the third process the product is
transferred to finished goods warehouse. The following data for the month of January 2007 is available:
Process
1 2 3
Rs. in thousands
Raw material – A 1,500 - -
Other direct materials 2,500 3,200 4,000
Direct wages 5,000 6,000 8,000
Direct expenses 1,600 1,885 2,020

Following additional information is also available:

(i) Production overheads are absorbed @ 80% of direct wages.
(ii) 20,000 units of raw material ‘A’ having a cost of Rs. 1,500,000 were initially put in process-I.
(iii) In each process, an amount of Rs. 500,000 has been wrongly classified as direct wages, instead of indirect
wages.
(iv) The actual output obtained during the month was as under:
Process I 18,500 units
Process II 16,000 units
Process III 16,000 units
(v) Normal loss in each process is 10%, 10% and 5% respectively. Scrap value per unit is Rs. 100 for process
I, Rs. 200 for process-II and Rs. 300 for process-III.
(vi) There was no stock at the start or at the end of any process.
Required:
Prepare the following accounts in the books of Star Chemicals Limited:
(a) Ledger account for each process (12)
(b) Abnormal gain/(loss) account. (04)

Question-4 (Autumn 2013, Q-6)

Following data is available from the production records of Mian Industries for the month of August 2013. The
company uses process costing to value its output.
• Input materials 5,000 units at the rate of Rs. 49 per unit.
• Conversion costs Rs. 30,000.
• Normal loss, which is 10% of input materials, is sold as scrap at Rs. 19 per unit. Actual loss 650 units.
• There was no opening or closing stocks.
Assume inspection is performed at the end of the process.
Required:
Calculate the amount of abnormal loss and cost of one unit of output. (03)

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 CAF-03 Process Costing

Lecture # 4 (Process costing) Lecture # 84 (Over all)

Classwork
1. Started discussion on process costing with losses and closing work in process and solved following
question.
Question-5 (Illustration)
(i) Following information relates to process 1 for the month of October 2023:
Input 20,000 units
Normal loss 10% of input
Actual output 13,500 units
Closing work in process 4,000 units (70% complete)
Required
Calculate equivalent production units.

(ii) Following information relates to process 1 for the month of November 2023:
Input 25,000 units
Normal loss 5% of input
Actual output 16,000 units
Closing work in process 5,000 units (100% material, 80% conversion)
Required
Calculate equivalent production units.

(iii) Following information relates to process 1 for the month of December 2023:
Input 30,000 units
Normal loss 10% of input
Actual output 20,000 units
Closing work in process 2,000 units (100% material, 80% labour, 40% FOH)
Required
a) Calculate equivalent production units.
b) Compute cost per unit assuming:
Rupees
Direct material cost 200,000
Direct labour cost 120,000
Factory overhead cost 60,000

Question-6 (Autumn 2004, Q-4)

The incomplete process account relating to period 4 for a company which manufactures paper is shown
below:
Process account
Units Rs. Units Rs.
Material 4,000 16,000 Finished goods 2,750
Labour 8,125 Normal loss 400 700
Production overheads 3,498 Work in progress 700
There was no opening work in process (WIP). Closing WIP consisting of 700 units was complete as
shown:
Material 100%
Labour 50%
Production overhead 40%

Losses are recognized at the end of the production process and loss units are sold at Rs.1.75 per unit.
Required:
Calculate the values of abnormal loss, closing WIP and finished goods. (08)

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CAF-03 Process Costing
Homework
Question-7 (Autumn 2011, Q-4)
Hornbill Limited (HL) produces certain chemicals for textile industry. The company has three production
departments. All materials are introduced at the beginning of the process in Department-A and
subsequently transferred to Department-B. Any loss in Department-B is considered as a normal loss.
Following information has been extracted from the records of HL for Department-B for the month of
August 2011:
Department B
Opening work in process (Litres) Nil
Closing work in process (Litres) 10,500
Units transferred from Department-A (Litres) 55,000
Units transferred to Department-C (Litres) 39,500
Labour (Rupees) 27,520
Factory overhead (Rupees) 15,480
Materials from Department-A were transferred at the cost of Rs. 1.80 per litre. The degree of completion
of work in process as to cost originating in Department-B were as follows:
WIP Completion %
50% units 40%
20% units 30%
30% units 24.5%
Required:
Prepare cost of production report for Department-B for the month of August 2011. (15)

Question-8 (Spring 2017, Q-3)

Ravi Limited (RL) is engaged in production of industrial goods. It receives orders from steel manufacturers
and and follows job order costing. The following information pertains to an order received on 1 December
2016 for 6,000 units of a product:
(i) Production details for the month of December 2016:
Units
Produced and transferred to finished goods 3,200
Delivered to buyer from the finished goods 3,000
Units rejected during the year 120
Closing work in process (100% material and 80% conversion) 680
(ii) Actual expenses for the month of December 2016:
Rs.
Direct material 1,140,000
Direct labour (6,320 hours) 948,000
Factory overheads 800,000
Additional information:
 Factory overheads are applied at Rs. 120 per hour. Under/over applied factory overheads are charged
to profit and loss account.
 Units completed are inspected and transferred to finished goods. Normal rejection is estimated at
10% of the units transferred to finished goods. The rejected units are sold as scrap at Rs. 150 per unit.
 RL uses weighted average method for inventory valuation.
Required:
(a) Prepare work in process account for the month of December 2016. (08)
(b) Prepare accounting entries to record:
(i) Over/under applied overheads
(ii) Production losses and gains (05)

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CAF-03 Process Costing
Solution 3 (Spring 2007, Q-3) from lecture 81 handout
Process I account
Units Rs. ’000 Units Rs.’000
Material A 20,000 1,500 Normal loss at scrap value
Material cost addition 2,500 (20,000 units x 10%) x Rs. 100 2,000 200
Direct wages 4,500 Actual output at cost per unit
Direct expense 1,600 (18,500 units x Rs. 750per unit) 18,500 13,875
Production overheads (W1) 3,600
20,000 13,700 20,500 14,075
Abnormal gain at cost
(500 units x Rs. 750per unit) 500 375
20,500 14,075 20,500 14,075
(Rs. 13,700,000 – 200,000)
Cost per unit = = Rs. 750 per unit
20,000 – 2,000 units

Process II account
Units Rs. ’000 Units Rs.’000
Material received from
process I 18,500 13,875 Normal loss at scrap value
Cost added in process II: (18,500 units x 10%) x Rs. 200 1,850 370
Material additional 3,200 Actual output at cost per unit
(16,000 units x Rs. 1711.11 per
Direct wages 5,500 unit) 16,000 27,378
Direct expenses 1,885 Abnormal loss at cost per unit
(650 units x Rs. 1711.11 per
Production overheads (W1) 4,400 unit) 650 1,112
18,500 28,860 18,500 28,860
(Rs. 28,860,000 – 370,000)
Cost per unit = = Rs. 1,711.11 per unit
18,500 – 1,850 units

Process III account

Units Rs.’000 Units Rs. ’000
Material received from process II 16,000 27,378 Normal loss at scrap value
Material cost addition 4,000 (16,000 units x 5%) x Rs. 300 800 240
Direct wages 7,500 Actual output at cost per unit
(16,000 units x Rs. 3069.6per
Direct expense 2,020 unit) 16,000 49,114
Production overheads (W1) 6,000
16,000 46,898 16,800 49,354
Abnormal gain at cost per unit
(800 units x Rs. 3,069.6per unit) 800 2,456 - -
16,800 49,354 16,800 49,354
(Rs. 46,898,000 – 240,000)
Cost per unit = = Rs. 3,069.6 per uni
16,000 – 800 units

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CAF-03 Process Costing
Abnormal loss account
Rs.’000 Rs.’000
Work in process II account 1,112 Scrap account
(650 units x Rs. 200 per unit) 130
Profit and loss account 982
1,112 1,112

Abnormal Gain Account

Rs.’000 Rs. ’000
Scrap account - Process I 50 Work in process I account
(500 units x Rs. 100 per unit) (500 units x Rs. 750per unit) 375
Scrap account - Process III 240 Work in process III account
(800 units x Rs. 300per unit) (800 units x Rs. 3069.6per unit) 2,456
Profit and loss account 2,541
2,831 2,831

(W-1) Production overheads (Rs.’000)

Process Process Process
I II III
Direct wages given 5,000 6,000 8,000
Less: Indirect wages wrongly included (500) (500) (500)
Direct wages cost 4,500 5,500 7,500
Production OH (80% of direct wages cost) 3,600 4,400 6,000

Solution 4 (Autumn 2013, Q-6) from lecture 81 handout

Cost per unit = (Total cost of input – Scrap of normal loss) ÷ (Input units – Normal loss units)
(Rs. 49 x 5,000 units) + Rs. 30,000 – (Rs. 19 x 500 units)
Cost per unit = = Rs. 59 per unit
5,000 units – 500 units

Amount of abnormal loss

Rs.
Cost of abnormal loss units [(650 units – 500 units = 150 units x Rs. 59 per unit] 8,850
Less: Recoverable loss from scrap (Rs. 19 per unit x 150 units) (2,850)
Amount of abnormal loss charged to profit and loss account 6,000

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CAF-03 Process costing

Lecture # 6 (Process costing) Lecture # 86 (Over all)

Classwork
1. Solved question-7 (Autumn 2011, Q-4) from lecture 84 handout.
2. Started discussion on process costing with losses, closing work in process and
opening work in process and solved following question for calculation of normal loss units if
stage of inspection is given:
Question-9 (Illustration)
(i) Following information relates to process 1 for the month of October 2023:
Opening work in process (100% material, 75% Conversion) 7,000 units
Input of current month
▪ Before inspection 35,000
▪ After inspection -
Closing work in process (100% material, 85% Conversion) 5,000 units
Inspection stage 70%
Normal loss % 10% of input
Required
Calculate normal loss units.
(ii) Following information relates to process 1 for the month of November 2023:
Opening work in process (100% material, 70% Conversion) 3,000 units
Input of current month
▪ Before inspection 20,000
▪ After inspection 12,000
Closing work in process (100% material, 65% Conversion) 2,000 units
Inspection stage 80%
Normal loss % 10% of inspected quantity
Required
Calculate normal loss units.
(iii) Following information relates to process 1 for the month of December 2023:
Opening work in process (100% material, 80% Conversion) 10,000 units
Input of current month
▪ Before inspection 35,000
▪ After inspection 20,000
Closing work in process (100% material, 70% Conversion) 8,000 units
Inspection stage 60%
Normal loss % 5% of input
Required
Calculate normal loss units.
(iv) Following information relates to process 1 for the month of January 2023:
Opening work in process (100% material, 70% Conversion) 7,000 units
Input of current month
▪ Before inspection 48,000
▪ After inspection -
Closing work in process (100% material, 60% Conversion) 14,000 units
Inspection stage 75%
Normal loss % 10% of input
Required
Calculate normal loss units.

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CAF-03 Process costing

Lecture # 7 (Process costing) Lecture # 87 (Over all)

Classwork
process costing with losses, closing work in process and
1. Started discussion on
opening work in process and solved following question.
Question-10 (Autumn 2014, Q-1)
Ababeel Foods produces and sells chicken nuggets. Boneless chicken is minced, spiced up, cut to standard
size and semi-cooked in the cooking department. Semi-cooked pieces are then frozen and packed for
shipping in the finishing department. Inspection is carried out when the process in the cooking department
is 80% complete. Normal loss is 5% of input and comprises of:
• 2% weight loss due to cooking
• 3 % rejection of nuggets.
The rejected nuggets are sold at Rs. 60 per kg. Overheads are applied at the rate of 120% of direct labour
cost. Inventory is valued using weighted average cost. Following information pertains to cooking
department for the month of June 2014:
Kg Material Labour
---- Rs. in “000” ----
Opening work in progress (100% complete to material and
30,000 6,260 1,288
50% complete to conversion)
Costs for the month 420,000 50,000 20,000
Weight after cooking 440,000 - -
Transferred to finishing department 362,000 - -
Closing work in progress (100% complete to material and
65,000 - -
65% complete to conversion)
Required: Prepare process account for cooking department for the month of June 2014. (15)

Question-11 (Spring 2021, Q-1)

Mehnat Limited (ML) manufactures a product KLM which goes through two processes, Process A and
Process B. Following information pertains to process A for the month of February 2021:
Kg Rs. in “000”
Opening work in process (80% complete) 2,000 5,000
Materials added during the month 18,000 36,000
Conversion costs 12,000
Transferred to Process B 16,000 -
Closing work in process (60% complete) 3,000 -

Additional information relating to process A:

(i) Cost of opening work in process consisted of Rs. 3,600,000 as to material and Rs. 1,400,000 as
to conversion costs.
(ii) Materials are added at the start of the process and conversion costs are incurred evenly throughout
the process.
(iii) Process loss is determined on inspection which is carried out at 75% completion.
(iv) Process loss is estimated at 12% of input which is sold as scrap at Rs. 400 per kg.
(v) Inventory is value using weighted average method.
Required:
(a) Prepare a statement of equivalent production units. (04)
(b) Compute the cost of finished goods, closing work in process and production gain/loss. (07)
(c) Prepare journal entries to record production gain/loss of process A for the month. (02)

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CAF-03 Process costing
Homework
Question-12 (Spring 2016, Q-6)
Quality Chemicals (QC) produces one of its products through two processes A and B. Following information
has been extracted from the records of process A for the month of January 2016:
Quantity Material Conversion
Units -------- Rs. in (000) --------
Opening work in process 5,000 2,712 1,499
Input during the month 20,000 10,000 5,760
Transferred to process B 18,000 -
Closing work in process 6,000 - -
Additional information:
(i) Materials are introduced at the beginning of the process. In respect of conversion, opening and closing
work in process inventories were 40% and 60% complete respectively.
(ii) Inspection is performed when the units are 50% complete. Expected rejection is estimated at 5% of
the inspected units. The rejected units are not processed further and sold at Rs. 100 per unit.
(iii) QC uses weighted average for inventory valuation.
Required:
(a) Compute equivalent production units and cost per unit (05)
(b) Prepare journal entries to record the above transaction. (06)

Question-13 (Spring 2016, Q-6)

Tulip Enterprises (TE) manufactures a product Alpha that requires two separate processes, A and B. Following
information has been extracted from the records of process B for the month of February 2019:
Process B
Quantity Process A
Material Conversion
Litres ------------ Rs. in “000” ------------
Opening work-in-process - Process B (80% 1,500 400
10,000 600
complete as to conversion)
Cost for the month:
- Received from process A 90,000 14,000 - -
- Added during process B 12,000 - 7,000 5,600
Closing work-in-process - Process B (70% complete
-
as to conversion) 9,500 - -
Additional information:
(i) Materials are added at start of the process.
(ii) Normal loss is estimated at 5% of the input. Loss is determined at completion of the process. Loss of
each lite results in a solid waste of 0.75 kg. During the month of February 2019, solid waste produced
was 6,000 kg.
(iii) Solid waste is sold for Rs. 170 per kg after incurring further cost of Rs. 20 per kg.
(iv) TE uses weighted method for inventory valuation.
Required:
Prepare accounting entries to record the transaction of process B. (12)
(Narrations to accounting entries are not required.)

Solution 8 (Spring 2017, Q-3) from lecture 84 handout

(a) Work in process account for the month of December 2016
Units Rs. Units Rs.
Direct material cost 4,000 1,140,000 Normal loss at scrap value
Direct labour cost 948,000 (3,200 units x 10%) x Rs. 150 320 48,000
Factory overheads applied Actual output at cost per unit
(Rs. 120per hour x 6,320 hours) 758,400 (3,200 units x Rs. 778.2289 p.u.) 3,200 2,490,336
Closing WIP at cost per unit 680 463,710
4,000 2,846,400 4,200 3,002,046
Abnormal gain at cost
(200 units x Rs.778.2289 per unit) 200 155,646 - -
4,200 3,002,046 4,200 3,002,046

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CAF-03 Process costing
(W-1) Equivalent production units Material Conversion
Actual output units 3,200 3,200
- Abnormal gain units (200) (200)
+ Closing WIP units (680 x 100%): (680 x 80%) 680 544
Equivalent production units 3,680 3,544
(W-2) Cost per unit Rs.
Material cost per unit (Rs. 1140,000 - Rs. 48,000)  3,680 units 296.7391
Conversion cost per unit (948,000 + Rs. 758,400)  3,544 units 481.4898
Full product cost per unit 778.2289
(W-3) Cost of Closing WIP units = (Rs. 296.7391 per unit x 680 units) + (Rs. 481.4898 per unit x 544 units) = Rs. 463,714
(b) Journal entries
Date Particulars Debit Credit
(Rs.) (Rs.)
Work in process account 758,400
Factory overheads account 758,400
(Factory overheads applied)
Factory overheads account 800,000
Cash account 800,000
(Actual factory overheads cost recorded)
Profit and loss account 41,600
Factory overheads account 41,600
(Underapplied factory overheads variance closed)
Normal loss account 48,000
Work in process account 48,000
(Normal loss recorded)
Scrap account 48,000
Normal loss account 48,000
(Normal loss account closed)
Work in process account 155,646
155,646
Abnormal gain account
(Abnormal gain recorded)
Abnormal gain account 155,646
Scrap account 30,000
Profit and loss account 125,646
(Abnormal gain account closed)
Alternative journal entries
Date Particulars Debit Credit
(Rs.) (Rs.)
Work in process account 758,400
Factory overheads applied account 758,400
(Factory overheads applied)
Factory overheads control account 800,000
Cash account 800,000
(Actual factory overheads cost recorded)
Factory overheads applied account 758,400
Profit and loss account 41,600
Factory overheads control account 800,000
(Underapplied factory overheads variance closed)
Scrap account 48,000
Work in process account 48,000
(Normal loss recorded and closed to scrap account)
Work in process account 155,646
Scrap account 30,000
Profit and loss account 125,646
(Abnormal gain recorded and closed to profit and loss)

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CAF-03 Process costing

Lecture # 8 (Process costing) Lecture # 88 (Over all)

Classwork
1. Solved question 11 (Spring 2021, Q-1) and question 13 (Spring 2019, Q-1) from lecture 87 handout.

Homework
Question-14 (Autumn 2002, Q-4)
A manufacturing company makes a product by two processes and the data below relates to the second process
for the month of June 2002. Work in process as on June 01,2002 was 1,200 units represented by the following
costs:
Rupees
Direct material (100%) 54,000
Direct wages (60%) 34,200
Overhead (60%) 36,000
During June 4,000 units were transferred from first process @ Rs.37.50 per unit. This cost is treated as material
cost of second process. Other costs were as follows:
Rupees
Additional material 24,150
Direct Wages 164,825
Overhead 177,690
Quantitative data shows the following:
Finished Goods transferred to godown 3,200 units
Finished Goods in hand 500 units
Normal loss 520 units
Work in process (100% material and 50% wages and overhead) 980 units
Average method of pricing is used.
Required:
(i) Equivalent Production Statement for June 2002. (04)
(ii) Process Account for the month of June 2002. (10)

Solution 11 (Spring 2021, Q-1) from lecture 87 handout

Process A a/c
Kgs Rs. 000 Kgs Rs. 000
Opening WIP Normal loss @ scrap 1,800 720
Material 2,000 3,600 (1,800 kgs x Rs. 400)
Conversion cost 1,400 Transferred to process B 16,000 46,645
Input of current month 5,000 (16,000 x Rs. 2,915.33)
Material 18,000 36,000 Closing WIP 3,000 7,811
Conversion cost 12,000 [(3,000 x Rs, 2,136.26) +
(1,800 x Rs. 779.07)]
48,000
20,000 53,000 20,800 55,176
Abnormal gain (bal.) 800 2,176 - -
[(800 x Rs, 2,136.26) +
(600 x Rs. 779.07)]
20,800 55,176 20,800 55,176

W-1: Normal loss units

Opening WIP (if all SOC rates are less than SOI rate) 0
+ Input of current month before inspection 18,000
- Closing WIP (if all SOC rates are less than SOI rate) (3,000)
Inspected units 15,000
Normal loss @ 12% 1,800

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CAF-03 Process costing
W-2: Equivalent production units Material Conversion cost
Actual output 16,000 16,000
+ Closing WIP (3,000 x 100%), (3,000 x 60%) 3,000 1,800
- Abnormal gain (800 x 100%), (800 x 75%) (800) (600)
18,200 17,200

W-3: Average cost per unit

3,600,000+36,000,000−720,000
Material = [ ] Rs. 2,136.26 per unit
18,200
1,400,000+12,000,000
Conversion cost = [ ] Rs. 779.07 per unit
17,200
Total Rs. 2,915.33 per unit

Solution 12 (Spring 2016, Q-6) from lecture 87 handout

(a) Equivalent production units Material Conversion
Actual output units transferred to B 18,000 18,000
- Abnormal gain (250) (50%) (125)
+ Closing WIP units (100%) 6,000 (60%) 3,600
= Equivalent production units 23,750 21,475
(W-1) Quantity schedule Units Units
Opening work in process 5,000 Normal loss units
Input during the month 2,000 (5,000 units + 20,000 units) x 5% 1,250
Actual output transferred to B 18,000
Closing work in process 6,000
25,000 25,250
Abnormal gain (B/F) 250 -
25,250 25,250
Cost per unit Rs.
Material cost per unit = (Rs. 2,713,000+ Rs. 10 million - Rs. 125,000)  23,750 units 530.0211
Conversion cost per unit = (Rs. 1,499,000 + Rs. 5,760,000)  21,475units 338.0210
= Full product cost per unit 868.0421
(b) Journal entries
Debit Credit
Date Particulars
(Rs.’000) (Rs. ’000)
Work in process A account 15,760
Material account 10,000
Labour and FOH account 5,760
(Input cost during the current month recorded)
Work in process B account (Rs. 868 x 18,000 units) 15,624
Work in process A account 15,624
(Actual output transferred to process B)
Normal loss account 125
Work in process A account 125
(Normal loss recorded at scrap value)
Work in process A account (Rs. 530 x 250) + (Rs. 338 x 125) 175
Abnormal gain account 175
(Abnormal gain recorded)
Scrap inventory account 125
Normal loss account 125
(Normal loss account closed to scrap account)
Abnormal gain account 175
Scrap account (Rs. 100 x 250 units) 25
Profit and loss account 150
(Abnormal gain account closed)
(W-2) Cost of actual output & Abnormal gain
• Cost of actual output = (Rs. 868.0421 per unit x 18,000 units) = Rs. 15,624
• Cost of abnormal gain = (Rs. 530.0211 x 250 units) + (Rs. 338.0210 x 125 units) = Rs. 175

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CAF-03 Process costing

Lecture # 9 (Process costing) Lecture # 89 (Over all)

Classwork
1. Solved question 11 (Spring 2021, Q-1) and question 13 (Spring 2019, Q-1) from lecture 87 handout.
Question-15 (Spring 2015, Q-4)
KS Limited operates two production departments A and B to produce a product XP-29. Following
information pertains to Department A for the month of December 2014:
Liters Rs. in (000)
Opening work in process (Material 100%, Conversion 80%) 15,000
▪ Material - 5,000
▪ Direct labour and overheads 2,125
Actual cost for the month:
▪ Material 120,000 36,240
▪ Direct labour - 14,224
▪ Overheads 11,500
Expected losses 5%
Closing work in process (Material 100%, Conversion 80%) 17,000
Units transferred to Department B 110,000
KS uses FIFO method for inventory valuation. Direct materials are added at the beginning of the process.
Expected losses are identified at the time of inspection which takes place at the end of the process.
Overheads are applied at the rate of 80% of direct labour cost.
Required:
(a) Equivalent production units. (02)
(b) Cost of goods transferred to Department B (09)
(c) Accounting entries in the cost accounting system. (06)

Homework
Question-16 (Spring 2008, Q-6)
Yahya Limited produces a single product that passes through three departments, A, B and C. The company
uses FIFO method for process costing. A review of department A’s cost records for the month of January
2008 shows the following details:
Material Labour
Units (Rs.) (Rs.)
Work in process inventory as at January 1, 2008
16,000 64,000 28,000
(75% complete as to conversion costs)
Additional units started in January 2008 110,000 - -
Material costs incurred - 430,500 -
Labour costs incurred - - 230,000
Work in process inventory as at January 31, 2008
18,000 - -
(50% complete as to conversion costs)
Units completed and transferred in January 2008 100,000 - -
Overhead is applied at the rate of 120% of direct labour. Normal spoilage is 5% of output. The spoiled
units are sold in the market at Rs. 6 per unit.
Required:
Compute the following for the month of January:
(a) Equivalent production units.
(b) Costs per unit for material, labour and factory overhead.
(c) Cost of abnormal loss (or gain), closing work in process and the units transferred to the next
process. (16)

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CAF-03 Process costing
Question-17 (Autumn 2016, Q-3)
Bela Enterprises (BE) produces a chemical that requires two separate processes for its completion. Following
information pertains to process II for the month of August 2016:
Kg Rs. in 000
Opening work in process (85% to conversion) 5,000 2,000
Cost for the month:
Received from process I 30,000 18,000
Material added in process II 15,000 10,000
Conversion cost incurred in process II - 11,000
Finished goods transferred to warehouse 40,000 -
Closing work in process (60% to conversion) 4,000 -
In process II material is added at the start of the process and conversion costs are incurred evenly throughout
the process. Process losses are determined on inspection which carried out on 80% completion of the process.
Process loss is estimated at 10% of the inspected quantity and is sold for Rs. 100 per kg.
BE uses FIFO method for inventory valuation.
Required:
(a) Prepare a statement of equivalent production units. (04)
(b) Compute cost of:
• Finished goods
• Closing WIP
• Abnormal loss/gain (09)
(c) Prepare accounting entries to record production gain/loss for the month. (03)

Solution 13 (Spring 2019, Q-1) from lecture 87 handout

Accounting entries to record transactions of Process B
Debit Credit
Date Particulars
(Rs. 000) (Rs. 000)
(i) Work in process B account 26,600
Work in process A account 14,000
Material account 7,000
Conversion account 5,600
(ii) Finished goods inventory account 25,366
Work in process A account 25,366
(iii) Normal loss account 576
Work in process B account 576
(iv) Abnormal loss account 772
Work in process B account 772
(v) Scrap account 576
Normal loss account 576
(vi) Scrap account (Rs. 170 - Rs. 20) = Rs. 150 per Kg x 2,875 liters x 0.75Kgs 324
Profit & loss account (Balancing Figure) 341
Abnormal loss account 772
(vii) Cash account 1,007
Scrap account 1,007
(W-1) Process account
Particulars Liters Rs. 000 Liters Rs. 000
Opening WIP b/d Normal Loss at Scrap value
Material received 10,000 1,500 (10,000 + 102,000 - 9,500 liters) x 5% 5,125
Material added 600 [(5,125x 0.75) x (Rs. 170 - Rs. 20)] 576
Conversion cost added 400
Input of current month Actual Output at Average cost per liter
Material received from 90,000 14,000 (94,500 liters x Rs. 268.43 per liter) 94,500 25,366
Material added 12,000 7,000 Closing WIP at Average cost per liter 9,500 2,386
102,000 21,000
Conversion cost added 5,600 Abnormal loss at average cost per liter
(2,875 liters x Rs. 268.43 per liter) 2,875 772
112,000 29,100 112,000 29,100

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CAF-03 Process costing
Abnormal loss (liters) = Actual Loss (liters) - Normal loss (liters) = (6,000 Kgs ÷ 0.75 x 1) - 5,125 liters = 2,875 liters
(W-2) Equivalent Production units
Material Material Conversion
Received Added Cost
Actual Output units 100% 94,500 100% 94,500 100% 94,500
Add: Closing WIP units 100% 9,500 70% 9,500 70% 6,650
Add: Abnormal Loss units 2,875 2,875 2,875
106,875 106,875 104,025

(W-3) Average cost per liter

Material received cost per liter = (Rs. 1,500 + 14,000)  106.875 liters = Rs. 145.03
Material added cost per liter = (Rs. 600 + Rs. 7,000 - Rs. 576)  106.875 liters = Rs. 65.72

Solution 14 (Autumn 2002, Q-4) from lecture 88 handout

(a) Equivalent production units
Material received
Conversion
& added
Actual output units 3,200 3,200
+ Finished goods in hand 500 500
+ Closing WIP units (100%) 980 (50%) 490
Equivalent production units 4,680 4,190

(b) Process account

Units Rs. Units Rs.
Opening WIP b/d:
Direct material cost 1,200 54,000 Normal loss at scrap value 520 -
Direct wages cost 34,200 Actual output at cost per unit
Factory overheads 36,000 - Transferred to next process 3,200 471,200
124,200 - Goods in hand 500 73,625
Input of current month:
Direct material cost
(Rs. 150,000 + Rs. 24,150) 4,000 174,150 Closing WIP at cost per unit 980 96,040
Direct wages cost 164,825
Factory overheads 177,690
516,665
5,200 640,865 5,200 640,865

(W-1) Cost per unit

Rs.
Material cost per unit = (Rs. 54,000 + Rs. 174,150)  4,680 units 48.75
Labour cost per unit = (Rs. 34,200 + Rs. 164,825)  4,190 units 47.50
FOH cost per unit = (Rs. 36,000 + Rs. 177,690)  4,190 units 51.00
Conversion cost per unit = 98.50
= Full product cost per unit 147.25

(W-3) Cost of Closing WIP units

= (Rs. 48.75 per unit x 980 units) + (Rs. 98.50 per unit x 490 units) = Rs. 96,040

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CAF-03 Process costing

Lecture # 10 (Process costing) Lecture # 90 (Over all)

Classwork
1.
Question-18 (Spring 2022, Q-9)
Beijing Limited (BL) is engaged in manufacturing of a single product which passes through two processes.
Following information relating to process II is extracted from BL’s records for the month of February 2022:
Rs. in “000”
Opening work in process 3,000
Transferred from process I - 295,000 litres 21,000
Material - 200,000 litres 8,000
Labour 8,500
Overheads 3,200
Material is added at 60% completion of process II after inspection is carried out. Normal loss is estimated at
10% of the input. Conversion costs are incurred evenly throughout the process. Information related to opening
and closing work in process and goods completed and transferred to finished goods are as follows:

Opening work in process Closing work in process Finished goods

Litres Completion % Litres Completion % Litres
40,000 40% 50,000 70% 450,500
The company uses FIFO method for inventory valuation.
Required:
Calculate the following for process II:
(a) Quantity schedule and statement of equivalent production units. (06)
(b) Cost of finished goods, closing work in process and abnormal gain/loss. (08)

Homework
Question-19 (Autumn 2021, Q-4)
Green Limited (GL) produces a chemical that passes through two processes before being transferred to
warehouse. Following information pertains to Process II for the month of August 2021:
Production Cost
(kg) (Rs. in “000”)
Opening work in process 7,500 3,000
Transferred from Process I 45,000 27,000
Material added in Process II 22,500 11,250
Conversion costs incurred in Process II - 1,500
Finished goods transferred to warehouse 60,000 -
Closing work in process 9,000 -
In Process II, material is added at start of the process and conversion costs are incurred evenly throughout the
process. Process loss is determined on inspection which is carried out on 60% completion of the process.
Process loss is estimated at 10% of the inspected quantity and is sold for Rs. 200 per kg.
The details of opening and closing work in processes are as follows:
Opening work in process Closing work in process
Kg Completion % Kg Completion %
5,250 80% 5,400 70%
2,250 40% 3,600 30%
GL uses FIFO method for inventory valuation.
Required:
Prepare Process II account for the month of August 2021. (10)

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CAF-03 Process costing
Solution 16 (Spring 2008, Q-6) from lecture 89 handout
(a) Equivalent production units
Direct Conversion
Material Units
Actual output from opening WIP (16,000 units x 25%) - 25% 4,000
Actual output from current input 84,000 84,000
Closing WIP 100% 18,000 50% 9,000
Abnormal loss 3,000 3,000
Equivalent production units 105,000 100,000
(b) Current cost per unit
Rs.
Material added cost per kg (Rs. 430,500 - Rs. 30,000)  105,000 units) 3.8143
Conversion cost per kg (Rs. 230,500 + Rs. 230,500 x 1.2)  100,000 units 5.0710
Product cost per unit 8.8853
(c) Total cost of finished goods, closing work in process and abnormal loss
Cost of Finished goods Rs.
Cost of actual output completed from opening WIP 145,884
b/d cost [Rs. 64,000 + Rs. 28,000 + (Rs. 28,000 x 1.20)]
+ Current conversion cost [Rs. 5.0710 per unit x 4,000 units]
Cost of actual output from current input [Rs. 8.8853 per unit x 84,000 units] 746,365
Cost of Abnormal loss [Rs. 8.8853 per unit x 3,000 units] 26,656
Cost of closing WIP [(Rs. 3.8143 per unit x 18,000 units) + (Rs. 5.0710 per unit x 9,000 units)] 114,296

Solution 17 (Autumn 2016, Q-3) from lecture 89 handout

(a) Equivalent production units
Material Material
Particulars Conversion
Received added
Actual output from opening WIP - - 15% 750
Actual output from current input 100% 35,000 100% 35,000 100% 35,000
Closing WIP 100% 4,000 60% 2,875 60% 2,400
Abnormal loss 100% 1,900 80% 1,900 80% 1,520
Equivalent production units 40,900 40,900 39,670
(W-1) Quantity breakup
Process Account
Kgs Kgs
Opening WIP b/d 5,000 Normal loss
Input of current month (0 + 45,000 - 4,000) x 10% 4,100
Material received from process I 30,000 Actual output:
Material added in process II 15,000 • From opening WIP 5,000
45,000 • From current input 35,000
40,000
Closing WIP 4,000
Abnormal loss (B. Fig) 1,900
50,000 50,000
(b) Cost of finished goods, work in process and abnormal loss
Cost per kg Rs.
Material received cost per kg = (Rs. 18 million  40,900 kgs) 440.0978
Material added cost per kg = (Rs. 10 million - Rs. 410,000)  40,900 kgs 234.4988
Conversion cost per kg = [Rs. 14,224,000 + (Rs. 14,224,000 x 80%))  113,700 liters 277.2876
Cost per kg 951.8842
(i) Cost of actual output transferred to Department B Rs. ‘000
Cost of actual output from opening WIP [2,000 + (Rs. 277.2876 per kg x 750 kgs)] 2,208
Cost of actual output from current month input [Rs. 951.8842 per kg x 35,000 kgs] 33,316
(ii) Cost of closing work in process 3,364
[(Rs. 440.0978 x 4,000 kgs) + (Rs. 234.4988 x 4,000 kgs) + (Rs. 277.2876 x 2,400 kgs)]
(iii) Cost of Abnormal loss 1,703
[(Rs. 440.0978 x 1,900 kgs) + (Rs. 234.4988 x 1,900 kgs) + (Rs. 277.2876 x 1,520 kgs)]

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CAF-03 Process costing
(c) Journal entries
Date Particulars Debit Credit
(Rs.'000) (Rs.'000)
(i) Normal loss account 410
To work in process II account 410
(Normal loss recorded)
(ii) Abnormal loss account 1,703
To work in process II account 1,703
(Abnormal loss recorded)
(iii) Scrap account 410
To Normal loss account 410
(Normal loss account closed)
(iv) Scrap account (Rs. 100per kg x 1,900 kgs) 190
Profit & loss account 1,513
To Abnormal loss account 1,703
(Abnormal loss account closed)

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CAF-03 Process costing

Lecture # 12 (Process costing) Lecture # 92 (Over all)

Classwork
1. Started discussion on process costing with joint and by-products and solved following questions:
Question-20 (Autumn 2006, Q-6)
Broad-way Manufacturing Limited produces two products DL-1 & DL-2. The production involves two processes, I
and II. The following data is available in respect of production during the month of August 2006.
Process I (Rs.) Process II (Rs.)
Material issued 375,000 100,000
Direct wages paid 150,000 200,000
Direct expenses incurred 100,000 100,000
During the month of August, materials issued to Process I and Process II were 1,250 tons and 230 tons respectively.
The cost of output of Process – I is charged to Process – II. Incidental to production, two by-products i.e., PT-1 and
PT-2 are generated in the first process and treated as a credit to Process-I.
Following additional information is also available:
Product Sales Packing Cost
Tons Rs.
DL-1 100 600,700 20,070
DL-2 900 1,203,500 100,350
PT-1 200 10,000 -
PT-2 50 2,500 -
A shortfall occurs in Process II due to evaporation which is considered as normal loss. There was no opening or closing
stocks.
Required:
(a) Calculate joint processing costs and apportion them between DL-1 and DL-2 on the basis of sales value. (08)
(b) Prepare summary trading account for the month showing net profit of each product. (02)
Question-21 (Autumn 2001, Q-6)
Shabbir Associates manufactures 3 joint products - Exe, Wye and Zee. A by-product Baye is also produced. During
the month of November 2000, the joint cost for direct materials and direct labour were Rs 80,000 and 120,000
respectively. Shabbir Associates have an established practice of absorbing overhead at 50% of direct cost. Production
and sales related data for the month of November 2000 is as follows:
Products Production Sales Sale Value
Kgs Kgs Rs. per unit
Exe 7,800 7,000 10.00
Wye 11,700 11,000 10.00
Zee 10,000 9,000 6.50
Baye 10,000 10,000 2.60

The sales value of by-product is deducted from the process cost before apportioning cost to each joint product. Costs
of common processing are apportioned between joint product on the basis of sales value of production. Assume that
there are no opening inventories.
Required:
Calculate profit for the month of November and analyze the profit product-wise. (10)

Homework
Question 22 (Spring 2006, Q-5)
Binary Ltd. (BL) manufactures three products, A, B and C. It is the policy of the company to apportion the joint
costs on the basis of estimated sales value at split off point. BL incurred the following joint costs during the month
of August 2008:
Rs. in “000”
Direct material 16,000
Direct labour 3,200
Overheads (including depreciation) 2,200
Total joint costs 21,400
During the month of August 2008, the production and sales of Product A, B and C were 12,000, 16,000 and 20,000
units respectively. Their average selling prices were Rs. 1,200, Rs. 1,400 and Rs.1,850 per unit respectively.

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CAF-03 Process costing
In August 2008, processing costs incurred on Product A after the split off point amounted to
Rs. 1,900,000.
Product B and C are sold after being packed on a specialized machine. The packing material costs
Rs. 40 per square foot and each unit requires the following:
Product Square feet
B 4.00
C 7.50
The monthly operating costs associated with the packing machine are as follows:
Rupees
Depreciation 480,000
Labour 720,000
Other costs 660,000
All the above costs are fixed and are apportioned on the basis of packing material consumption in square feet.
Required:
(a) Calculate the joint costs to be apportioned to each product. (13)
(b) BL has received an offer from another company to purchase the total output of Product B without packaging,
at Rs. 1,200 per unit. Determine the viability of this offer. (03)
Question 23 (Spring 2006, Q-5)
The manufacturing of a chemical is carried out in three continuous processes, P1, P2 and P3. The following data is
available in respect of production during February 2006.
Particulars P1 P2 P3
Output – liters 8,800 8,400 7,000
Cost in rupees:
Direct Material introduced (10,000 litres) 63,840 - -
Direct wages 5,000 6,000 10,000
Direct expenses 4,000 6,200 4,080
Work in process – opening (liters) 200 - -
Scrap value (Rs. per unit) 1 3 5
Normal loss 10% 5% 10%
At the end of P3, 420 litres of a by-product ZOLO were produced, which was treated further at a cost of Rs. 2 per
liter. Selling and distribution expenses of Re.1 per unit were incurred and it was sold at a price of Rs. 9 per litre.
Budgeted overheads for the month were Rs. 84,000. Factory overhead absorption is based on a percentage of direct
wages. The work in process at P1 comprised material of Rs. 500 and labour and factory overheads of Rs. 1,000.
There was no closing work in process in any of the processes.
Required:
Prepare the following:
(a) Work in process account for each process.
(b) By-product account. (12)

Question 24 (Spring 2004, Q-6)

Following is the data of Department B of EFG Company for December,2003:
Work in process (opening) 8,500 units
(Completed as to material 20% and conversion cost 25%) Rs. 43,860
Work in process (ending) 11,540 units
(Completed as to material 50% and conversion cost 25%)
Current period transactions are:
Cost transferred from Department A Rs. 45,600
Units transferred from Department A 12,000 units
Units mishandled and lost before start of any process 460 units
Material consumed Rs. 27,654
Conversion cost incurred Rs. 47,689
Units transferred out 7,500
Normal spoilage is 6% of units transferred out and inspection is done at the end of process. Company uses FIFO
method for inventory valuation.
Required:
You are required to prepare production report of Department B showing Quantity Schedule, Cost Charged to
Department and Heads of Account where costs have been accounted for. (20)

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CAF-03 Process costing

Lecture # 13 (Process costing) Lecture # 93 (Over all)

Classwork
1. Solved question-20 (Autumn 2006, Q-6) and question-21 (Autumn 2001, Q-6) from lecture 92 handout.

Homework
Question-24 (Autumn 2003, Q-4)
ABC Limited produces four joint products Q, R, S and T, all of which result from processing a single Raw
Material Z. The following information is provided to you:
Joint Product Number of units Selling price
per unit (Rs.)
Q 5,000 18
R 9,000 8
S 4,000 4
T 2,000 11

The company budgets for a profit of 14% of sales value. Other costs are as follows:
Carriage Inward 6%
Direct wages 18%
Manufacturing overheads 12%
Administration overheads 10%
Required:
(a) Calculate the maximum price that may be paid for the raw material. (04)
(b) Prepare a comprehensive Cost Statement for each of the products allocating the material cost and
other costs based on:
(i) the numbers of units
(ii) the sales value. (08)

Question-25 (Spring 2009, Q-3)

A chemical is manufactured by passing through two processes X and Y using two types of direct material,
A and B. In process Y, a by-product is also produced which is then transferred to process Z where it is
completed.
For the first week of a month, the actual data has been as follows:
Process
X Y Z
Output of main products (kgs) 9,400 8,000
Output of by-product (kgs) 1,400 1,250
Direct material - A (9,500 units) (Rs.) 123,500
Direct material - B added in process (kgs) 500 300 20
Direct material - B added in process (Rs.) 19,500 48,100 1,651
Direct wages (Rs.) 15,000 10,000 500
Scrap value (Rs. per unit) 5 10 6
Normal loss of units in process (%) 4 5 5
The factory overheads are budgeted @ 240% of direct wages and are absorbed on the basis of direct
wages. Actual factory overheads for the week, amounted to Rs. 65,000. Estimated sales value of the by-
product at the time of transfer to process Z was Rs. 22 per unit.
Required:
Prepare the following:
(a) Process accounts for X, Y and Z.
(b) Abnormal loss and abnormal gain accounts.
(c) Factory overhead account. (17)

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CAF-03 Process costing
Solution 23 (Spring 2006, Q-5) from lecture 92 handout
Process I account
Units Rs. Units Rs.
Opening WIP 200 1,500 Normal loss at scrap value
Material input 10,000 63,840 (10,000 Units x 10%) x Rs. 1 1,000 1,000
Direct wages 5,000 Transfer out at cost
Direct expense 4,000 (8,800 units x Rs. 10.15 per unit) 8,800 89,280
Factory overheads 20,000 Abnormal Loss at cost 400 4,060
(400 units x Rs. 10.15 per unit)
10,200 94,340 10,200 94,340
(Rs. 94,340 − 1,000)
Cost per unit = = Rs. 10.15 per unit
10,2000 − 1,000 units
Process II account
Units Rs. Units Rs.
Transfer In 8,800 89,280 Normal loss at scrap value
Cost added: (8,800 units x 5%) x Rs. 3 440 1,320
Direct wages 6,000 Transfer out at cost 8,400 124,754
Direct expenses 6,200 (8,400 units x Rs.14.85 per unit)
Factory Overheads 24,000
8,800 125,480 8,840 126,074
Abnormal gain at cost
(40 units x Rs. 14.85 per unit) 40 594 - -
8,840 126,074 8,840 126,074
(Rs. 125,480 − 1,320)
Cost per unit = = Rs. 14.85 per unit
8,800 − 440 units
Process III account
Units Rs. Units Rs.
Transfer in cost 8,400 124,754 Normal loss at scrap value
Cost added: (8,400 Units x 10%) x Rs. 5 840 4,200
Direct wages 10,000 By product at Net Scrap value
Direct expense 4,080 (420 units x Rs. 9) - 840 - 420 420 2,520
Factory overheads 40,000 Transfer out at cost
(7,000 units x Rs. 24.11 per unit) 7,000 168,739
Abnormal Loss
(140 units x Rs. 24.11 per unit) 140 3,375
8,400 178,834 8,400 178,834
(Rs. 178,834 − 2,520)
Cost per unit = = Rs. 24.11 per unit
8,400 − 840 − 420 units
By Product Account
Rs. Rs.
Transfer in from process III 2,520 Sales (420 units x Rs. 9) 3,780
Further processing cost 840
Selling cost 420
3,780 3,780
Solution 24 (Spring 2004, Q-6) from lecture 92 handout
Cost of production report is not part of syllabus, so a process account is prepared
Process Account
Liters Liters
Opening WIP 15,000 Normal loss (15,000 + 120,000 - 17,000) x 5% 5,900
Input of current month 120,000 Actual output:
■ From opening WIP 15,000
■ From current input 95,000
110,000
Closing WIP 17,000
Abnormal loss (balancing figure) 2,100
135,000 135,000

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Lecture # 14 (Process costing) Lecture # 94 (Over all)

Classwork
1. Solved question-20 (Autumn 2006, Q-6) and question-21 (Autumn 2001, Q-6) from lecture 92 handout.
Question-27 (Spring 2012, Q-7[a])
Platinum Limited (PL) manufactures two joint products Alpha and Beta and a by-product Zeta from a single
production process. Following information is available from PL’s records for the month of February 2012:
Direct material 25,000 kg. @ Rs. 25 per kg.
Direct labour @ Rs. 15 per hour Rs. 432,000
Normal process loss 20% of the material consumed
Overheads are allocated to the products at the rate of Rs. 10 per direct labour hour. The normal loss is sold as
scrap at the rate of Rs. 8 per kg.
Following data relates to the output from the process:
Product Output ratio Selling price per kg (Rs.)
Alpha 75% 95.0
Beta 15% 175.0
Zeta 10% 52.5
Alpha is further processed at a cost of Rs. 30 per unit, before being sold in the market. Joint costs are allocated
on the basis of net realizable value.
Required:
Compute the total manufacturing costs for Feb. 2012. Also calculate the profit per kg. for Alpha and Beta. (10)

Question-28 (Spring 2020, Q-5)

Scents Limited produces three joint products P, Q and R. Raw material is added at the beginning of process I.
On completion of process I, these three products are split in the ratio of 50:30:20 respectively. Joint costs
incurred in process I are apportioned on the basis of net realizable value of the three products at split-off point.
Products P and Q are sold in the same state whereas product R is further processed in process II before being
sold in the market. A by-product TS is also produced in process II.
Following information relating to the two processes is available for the month of February 2020:
Process I Process II
Raw material at Rs. 411 per kg 744,000 kg -
Direct labour at Rs. 200 per hour 611,568 hours 55,450 hours
Production overheads Rs. 91,456,000 Rs. 7,230,000
Additional information:
(i) Loss of 7% is considered normal in process I.
(ii) Details of opening and closing stocks, estimated cost to sell and selling price are given as under:
Selling price Cost to sell Opening Closing stock
per kg (Rs.) per kg (Rs.) stock (kg) (kg)
Product P 1,045 15 - 20,200
Product Q 960 10 - 15,140
Product R 1,021 12 7,800 48,134
(iii) Values of opening and closing stocks of product R comprised of cost of both processes. Value of
opening stock of product R is Rs. 5,850,000.
(iv) In process II, 7450 kg of TS was produced and sold at Rs. 175 per kg. Proceeds from sale of TS are
adjusted against cost of process II.
(v) Selling and administration costs are charged to P, Q and R at 12% of sales.
FIFO method is used for inventory valuation.
Required:
Prepare product-wise income statement for the month of February 2020. (15)

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Homework
Question-29 (Autumn 2017, Q-1)
Production at Platinum Chemicals (PC) involves two processes I and II. Following information pertains to the
month of August 2017:
(i) Actual Costs
Process I Process II
-------- Rupees --------
Direct material (12,000 litres) 5,748,000 -
Conversion 2,610,000 1,542,000
(ii) Production and sales:
Description Process I ProcessII
Remarks
------ Litres -------
Products:
Sold for Rs. 1,200 per liter after incurring
Joint Product – J101 5,000 -
packing cost of Rs. 120 per liter
Transferred to process II for conversion
Joint Product – J202 4,500 -
into a new product J-plus
Sold at the split-off point for Rs. 500 per
By-product – BP01 1,000 -
liter
J – plus - 3,400 Sold for Rs. 1,400 per liter
Work in process:
Opening - -
Closing - 650 70% complete as to conversion
(iii) Materials are introduced at the beginning of process I and PC uses 'weighted average method' for
inventory valuation.
(iv) Proceeds from sale of by-product are treated as reduction in joint costs. Joint costs are allocated on
the basis of net realisable values of the joint products at split-off point.
(v) Normal production losses in both processes are estimated at 10% of the input and are incurred at
beginning of the process. Loss of each liter in process I results in a solid waste of 0.8 kg which is sold
for Rs. 100 per kg. Loss of process II has no sale value.
Required:
(i) Compute the cost of sales of J101 and J-plus for the month of August 2017. (12)
(ii) Prepare accounting entries to record production gains/losses and their ultimate disposal. (03)

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CAF-03 Standard costing and variance analysis

Lecture # 1 Lecture # 95 (Over all)

Standard costing and variance analysis
Classwork
1. Started discussion on standard costing and variance analysis and discussed basic variances formulas.

Process costing
Classwork
1. Completed question-28 (Autumn 2020, Q-5) and solved question 29 (Autumn 2017, Q-1) from lecture
94 handout.

Homework
Question-30 (Autumn 2018, Q-1)
Cricket Chemicals Limited (CCL) is a manufacturing concern and has two production processes. Process I
produces two joint products i.e., X-1 and X-2. Incidental to the production of joint products, it produces a by-
product known as Zee. X-1 is further processed in process II and converted into ‘X1-Plus’.
Following information has been extracted from the budget for the year ending 31 August 2019:
(i) Process wise budgeted cost:
Process I Process II
--------- Rupees ---------
Direct material (500,000 litres) 98,750,000 -
Conversion cost 72,610,000 19,100,000
(ii) Expected output ratio from process I and budgeted selling prices:
Output ratio Selling price
Products
in process I (Rs. per litre)
Joint product – X-1 55% -
Joint Product – X-2 40% 532
By-product – Zee 5% 120
X1 – Plus - 768
Additional information:
(i) Material is added at the beginning of the process and CCL uses 'weighted average method' for inventory
valuation.
(ii) Joint costs are allocated on the basis of net realizable value of the joint products at the split-off point.
Proceeds from the sale of by-product are treated as reduction in joint costs.
(iii) Joint product X-2 is sold after incurring packing cost of Rs. 75 per liter.
(iv) Normal production loss in process I is estimated at 5% of the input which occurs at beginning of the
process. Loss of each liter results in a solid waste of 0.7 kg which is sold for Rs. 10 per kg. No loss
occurs during process II.
(v) Budgeted conversion cost of process I and process II include fixed factory overheads amounting to Rs.
7,261,000 and Rs. 3,820,000 respectively.
Required:
(a) Prepare product wise budgeted income statement for the year ending 31 August 2019, under marginal
costing. (14)
(b) CCL has recently received an offer from Football Industries Limited (FIL) to purchase the entire
expected output of X-1 during the year ending 31 August 2019 at Rs. 670 per liter. It is estimated that
if process II is not carried out, fixed costs associated with it would reduce by Rs. 2,500,000. Advise
whether FIL’s offer may be accepted. (02)

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Question-31 (Autumn 2022, Q-7)
Mars Limited (ML) blends and markets a specialized chemical and has two production processes, A and B. In
process A, two joint products, Comet and G-1 are produced and incidental to their production, a by-product
String is also manufactured. G-1 is further processed in process B and converted into a new product Gravity.
Following information has been extracted for the month of August 2022:
Process A Process B
Remarks
--------- Rs. in 000 ---------
Costs:
Direct material 9,600 - 9000 liters were added at the beginning of
the process.
Conversion costs 4,500 2,000 Conversion costs are incurred evenly
throughout the process.
Output: --------- Liters ---------
Comet 3,500 - Sold for Rs. 1,500 per litre after incurring
packing cost of Rs. 120 per liter.
G-1 4,000 - Transferred to process B for conversion
into Gravity.
String 1,000 - Sold at split-off point for Rs. 600 per liter.
Gravity - 4,000 Sold for Rs. 2,200 per liter after incurring
packing cost of Rs. 140 per liter.
Opening work in process 800 - 60% complete as to conversion.
Closing work in process 950 - 80% complete as to conversion.

Additional information:
(i) Cost of opening work in process is Rs. 1,500,000 which comprises of 60% material cost and 40%
conversion cost.
(ii) Normal loss in process A is estimated at 10% of the input and is incurred at the end of the process.
The rejected quantity from process A is sold for Rs. 200 per litre. No loss is incurred in process B.
(iii) Proceeds from sale of by-product String are treated as reduction in joint costs. Joint costs are allocated
on the basis of net realizable values of the joint products at the split-off point.
(iv) ML uses weighted average method for inventory valuation.
Required:
(a) Prepare quantity schedule and equivalent production schedule of process A. (05)
(b) Compute cost per litre of Comet and Gravity. (08)
(c) Prepare accounting entries to record production gain/loss of process A for the month. (03)

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CAF-03 Standard costing and variance analysis

Lecture # 2 Lecture # 96 (Over all)

Standard costing and variance analysis
Classwork
1. Started discussion on basic variances formulas and solved following questions.
Question-1 (Spring 2003, Q-6)
Gama & Sons produces only one product by the name 'Gama" and the standard manufacturing cost of the
product are as under:
Rupees.
Direct material (4 kg @ Rs.3 per kg) 12
Direct labour (5 hours @ Rs.4 per hour) 20
Variable overhead 5
Fixed overhead 15
Total standard cost (per unit) 52
The budgeted quantity to be produced is 10,000 units and actual production was 9,500 units. The actual
consumption and cost during the period was as under:
Rupees
Direct material (37,000 kg) 120,000
Direct labour (49,000 hours) 200,000
Variable overheads 47,000
Fixed overheads 145,000
512,000
There was no stock of work in process or finished goods at the beginning or end of the period.
Required:
You are required to calculate the relevant cost variances & Sale Variance. (14)

Process costing
Classwork
1. Completed question 29 (Autumn 2017, Q-1) from lecture 94 handout and solved question 30 (Autumn
2018, Q-1) from lecture 95 handout.

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CAF-03 Standard costing and variance analysis

Lecture # 2 Lecture # 96 (Over all)

Standard costing and variance analysis
Classwork
1. Little revision of discussion in lecture 95.

Process costing
Classwork
1. Completed question 29 (Autumn 2017, Q-1) from lecture 94 handout and solved question 30 (Autumn
2018, Q-1) from lecture 95 handout.

Lecture # 3 Lecture # 97 (Over all)

Standard costing and variance analysis
Classwork
1. Discussed basic variance formulas and solved following questions.
Question-1 (Spring 2003, Q-6)
Gama & Sons produces only one product by the name 'Gama" and the standard manufacturing cost of the
product are as under:
Rs.
Direct material (4 kg @ Rs.3 per kg) 12
Direct labour (5 hours @ Rs.4 per hour) 20
Variable overhead 5
Fixed overhead 15
Total standard cost (per unit) 52
The budgeted quantity to be produced is 10,000 units and actual production was 9,500 units. The actual
consumption and cost during the period was as under:
Rs.
Direct material (37,000 kg) 120,000
Direct labour (49,000 hours) 200,000
Variable overheads 47,000
Fixed overheads 145,000
512,000
There was no stock of work in process or finished goods at the beginning or end of the period.
Required: You are required to calculate the relevant cost variances. (14)

Question-2 (Spring 2003, Q-6)

ABC Ltd produces and markets a single product. The company operates a standard costing system. The
standard cost card for the product is as under:
Sale price Rs.600 per unit
Direct material 2.5 kg per unit at Rs.50 per kg
Direct labour 2 hours per unit at Rs.100 per hour
Variable overheads Rs.25 per direct labour hour
Fixed overheads Rs.10 per unit
Budgeted production 500,000 units per month

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The company maintains finished goods inventory at 25,000 units throughout the year. Actual results for the
month of August 2010 were as under:
Rs. in '000'
Sales 480,000 units 295,000
Direct material 950,000 kgs 55,000
Direct labour 990,000 hours 105,000
Variable overheads 26,000
Fixed overheads 5,100
Required: Reconcile budgeted profit with actual profit using the relevant variances (2 variances each for
sale, raw material and labour and 4 variances for overheads). (18)

Homework
Question-3 (Autumn 2022, Q-8)
Neptune Limited (NL) is engaged in the production of a single product Lunar-1 and usesstandard
absorption costing system. NL has total production capacity of 6,250 unitsper month whereas it
operates at a normal capacity of 80%. Following information pertains to the month of August 2022:
Standard cost card per unit:
Rupees
Direct material (8 kg at Rs. 30 per kg) 240
Direct labour (6 hours at Rs. 25 per hour) 150
Overheads* (Rs. 20 per labour hour) 120
*include budgeted fixed overheads of Rs. 200,000.

Sales and production data:

Budgeted selling price per unit Rs. 700

Budgeted sales Units 4,000
Actual sales Units 5,200
Actual production Units 5,400

Additional information:
(i) There was no inventory at the beginning of the month.
(ii) 50,000 kg direct material was purchased in bulk in order to avail discount ofRs.
150,000.
(iii) Actual material loss was 10% as against the budgeted loss of 6%.
(iv) Workers’ wages were increased by 10% effective from 1 August 2022 due to prevailinghigh
inflation. This increased workers’ efficiency by 5% as compared to the budget.
(v) Actual overheads (both fixed and variable) amounted to Rs. 720,000. Fixed overheadswere over
absorbed by Rs. 30,000.
Required:
(a) Compute the budgeted profit for the month of August 2022 using standard marginal costing.(05)
(b) Compute the following variances for the month of August 2022:
(i) Sales volume variance (ii) Material price and usage variances
(iii) Labour rate and efficiency variances (iv) Fixed overhead expenditure variance
(v) Variable overhead expenditure and efficiency variances (14)

Process costing
Classwork
1. Discussed question 28 (Spring 2020, Q-5), question 29 (Autumn 2017, Q-1) and question 30
(Autumn 2018, Q-1) in comparison, from lecture 94 and lecture 95 handouts.

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Lecture # 4 Lecture # 98 (Over all)

Standard costing and variance analysis
Classwork
1. Solved question-2 (Spring 2003, Q-6) and question-3 (Autumn 2022, Q-8) from lecture 97 handout.

Homework
Question-4 (Spring 2013, Q-2)
Hulk Limited (HL) produces and markets a single product. The company uses standard costing system.
Following is the standard cost card per unit of the finished product:
Direct material 2.8 kg at Rs.6.75 per kg
Direct labour Rs.150 per hour
Variable production overheads Rs.12 per direct labour hour
Fixed production overheads Rs.18 per direct labour hour
The standard labour hours required for producing one unit of finished product is 30 minutes whereas HL s
standard operating capacity per month is 15,000 hours.
Actual results for the month of February 2013 were as under:
Direct material @ Rs.6.25 per kg Rs.504,000
Direct labour Rs.160 per hour
Variable production overheads Rs. 175,000
Fixed production overheads Rs. 17 per direct labour hour
Actual labour hours consumed by HL for producing 27,000 units was 33 minutes per unit of finished
product.
Required:
(a) Compute material, labour and overhead variances. (14)
(b) List any four causes of unfavorable material price variance. (02)

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Lecture # 5 Lecture # 99 (Over all)

Classwork
1. Solved question-3 (Autumn 2022, Q-8) from lecture 97 handout and provided solution of question-4
(Spring 2013, Q-2) from lecture 98 handout.
Homework
Question-5 (Autumn 2017, Q-7)
(a) Following information has been extracted from the records of Silver Industries Limited (SIL) for the month
of June 2017:
Production Direct labour Variable & fixed
units Hours overheads (Rs.)
Available capacity 10,000 30,000 -
Budget 8,000 24,000 3,600,000
Actual 8,600 25,000 3,900,000
Fixed overheads were budgeted at Rs. 1,200,000. Applied fixed overheads exceeded actual fixed overheads
by Rs. 20,000.
SIL uses standard absorption costing. Over/under applied factory overheads are charged to profit and loss
account.
Required:
(i) Prepare accounting entries to record the factory overheads. (03)
(ii) Analyse under/over applied overheads into expenditure, efficiency, and capacity variances. (11)
(b) Comment on the difference between overhead variances under marginal and absorption costing. .(03)
Question-6 (Spring 2016, Q-3)
Seema Enterprises (SE) produces various leather goods. It operates a standard marginal costing system. For one
of its products Beta, following information was extracted for the month of December 2015 from SE's budget
document for the year 2015.
Rs. in million
Sales 9,800 units 25.00
Cost of production of 10,000 units:
Direct material 5,000 kg 9.00
Direct labour 24,000 hours 3.60
Variable overheads 2,000 machine hours 4.40
Fixed overheads 3.80
Actual production for the month of December 2015 was 12,000 units whereas SE earned revenue of Rs. 30
million by selling 11,000 units of Beta. Following information pertains to actual cost of production for the month:
(i) 5,700 kg material was issued to production. Raw materials are valued using FIFO method. Other details
relating to the raw material used for Beta are as follows:
Kg Rs. in million
1-Dec-2015 Opening balance 3,000 5.70
10-Dec-2015 Purchases 15,000 26.25

(ii) To minimise labour turnover, SE increased production wages by 10% above the standard rate, effective
1 December 2015. This improved labour efficiency by 5% as compared to budget.
(iii) 2,100 machine hours were worked. Details of overheads are as under:
• Depreciation amounted to Rs. 1.6 million (same as budgeted)
• Factory building rent amounted to Rs. 1.20 million (same as budgeted)
• All other overheads were 4% in excess of the budget
(iv) Variances are treated as period cost and charged to cost of sales.
(v) There was no opening finished goods inventory of Beta. Actual closing inventory may be valued at
standard marginal production costs.
Required:
(a) Compute budgeted and actual profits of Beta for the month of December 2015 using marginal costing. (06)
(b) Reconcile the budgeted profit with actual profit using relevant variances under marginal costing. (14)

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Solution of Q-4 (Spring 13, Question 8) (hulk limited) from lecture 98 handout
Standard cost card is not required in question, but prepared for convenience of students for better understanding of
standard cost data
Standard cost card per unit Rs
Direct material (2.8 kg/unit x Rs. 6.75 per kg) 18.9
Direct labor (0.5 hrs / unit x Rs.150 per LH 75
Variable FOH (0.5 hrs / unit x Rs.12 per LH) 6
Fixed FOH (0.5 hrs / unit x Rs.18 per LH) 9
108.9
(a) Material, Labour and overhead variances
1) Material price variance
= (Standard rate per kg – Actual rate per kg) x Actual Material Quantity Purchased. 40,320
= (Rs. 6.75 – Rs.6.25) ×80,640 kgs [W-1] [Favorable]
(W-1) Rs. 504,000 ÷ Rs. 6.25 per kg = 80,640 kgs
2) Material usage variance (34,020)
= (Total standard quantity allowed for actual production – total actual quantity used) x standard rate per kg. [Adverse]
= ([2.8 x 27,000] - 80,640 kgs [W-1]) x Rs. 6.75 per kg
3) Labor rate variance
= (Standard rate per labour hour – actual rate per labour hour) x Total actual hours paid. (148,500)
= (Rs. 150 – Rs. 160) x 14,850 hours [Adverse]
(W-2) 27,000 units x 33/60 = 14,850 hours
4) Labor efficiency variance (202,500)
= (Total standard hour allowed for actual production – Total actual hours worked) x standard rate per labour hour [Adverse]
= ([0.5 hours per unit x 27,000 units] - 14,850 hours [W-2]) x Rs. 150 per hour
5) Variable OH expenditure variance
3,200
= (Standard variable OH rate per hour – actual variable OH rate per hour) x total actual hour worked.
[Favorable]
= (Rs. 12 – Rs. 11.7845 [W-3]) x 14,850 hours [W-2]
(W-3) Rs. 175,000 ÷ 14,850 hours [W-2] = Rs. 11.7845 per hour
6) Variable OH efficiency variance
(16,200)
= (Total standard hours allowed for actual production – actual total hours worked) x standard variable OH rate per hour.
[Adverse]
= ([0.5 hours per unit x 27,000 units] - 14,850 hour [W-2]) x Rs. 12 per hour
7) Fixed OH expenditure variance 17,550
= Budgeted total fixed overheads – actual total fixed overheads. [Favorable]
= (Rs. 18 per hour x 15,000 hours) - (Rs. 17 per hour x 14,850 hours [W-2])
8) Fixed OH volume variance
= (Actual production units – budgeted production units) x standard fixed overhead rate per unit
= (27,000 -30,000 [W-4]) x Rs. 9 per unit [W-4] (27,000)
(W-4) [Adverse]
15,000 hours ÷ 0.5 hours per unit = 30,000 unit
Rs 18 per hour ÷ 0.5 hours per unit = Rs. 9 per unit

(b) Causes of unfavorable material price variance

The unfavorable material price variance occurs when actual material price is more than standard material
price. Actual material price may exceed the standard price due to:
(i) Purchase of better quality material which is normally expensive than ordinary material.
(ii) Increase in actual price of material due to inflation.
(iii) Scarcity in raw material supplies resulting in higher prices.
(iv) Purchasing department inefficiencies.
(v) Error in setting the standard price of material.

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Lecture # 7 Lecture # 101 (Over all)

Classwork
1. Solved question-6 (Spring 2016, Q-3) from lecture 99 handout and following question.
Question-7 (Spring 2017, Q-6)
Hexa Limited is using a standard absorption costing system to monitor its costs. The management is
considering to adopt a marginal costing system. In this respect, following information has been extracted
from the records for the month of December 2016:
(i) Actual as well as budgeted sale was 10,500 units at Rs. 2,000 per unit.
(ii) Standard cost per unit is as follows:
Rupees
Direct material 5 kg @ Rs. 158 790
Direct labour 3 hours @ Rs. 150 450
Production overheads (fixed & variable) Rs. 120 per labour hour 360
1,600
(iii) Budgeted fixed overheads were Rs. 1,650,000.
(iv) Production and actual costs were as under:
Units
Production Budgeted 11,000
Actual 12,000

Actual variable costs: Rupees

Direct material (58,000 kg @ Rs. 160) 9,280,000
Direct labour (35,000 hours @ Rs. 155) 5,425,000
Variable overheads 2,975,000

(v) Applied fixed overheads exceeded actual overheads by Rs. 200,000.

(vi) There was no opening finished goods inventory. Closing finished goods inventory was 1,500 units.

Required:
(a) Compute the profit for the month of December 2016, using standard marginal costing. (03)
(b) Reconcile the profit computed above with actual profit under marginal costing, by incorporating
the related variances. (08)
(c) Reconcile the actual profit under marginal and absorption costing. (02)

Homework

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Lecture # 8 Lecture # 102 (Over all)

Classwork
1. Started discussion on backward approach in questions and solved following question.
Question-8 (Spring 2022, Q-6)
Spain Limited uses standard costing system. Below is a summary of variances occurred during the month
of February 2022:
Rupees
Favourable variances:
Material price 15,000
Labour efficiency 12,000
Adverse variances:
Fixed overheads expenditure 9,500
Material usage 14,000
Following information is also available:
(i) Standard cost card per unit:
Rupees
Direct material (Rs. 120 per kg) 360
Direct labour (Rs. 100 per hour) 200
Variable factory overheads 175
Fixed factory overheads 150
(ii) 2,520 units were produced during the month.
(iii) Direct material was purchased from a new supplier at a discount of 2% of standard material cost.
(iv) Actual wages and actual fixed overheads were Rs. 510,000 and Rs. 380,000 respectively.

Required:
Calculate the following:
(a) Actual material purchased (02)
(b) Budgeted units (02)
(c) Actual material used (02)
(d) Actual labour hours (02)
Homework
Question-9 (Spring 2010, Q-4)
You have recently been appointed as the Financial Controller of Watool Ltd. Your immediate task is to prepare a
presentation on the company's performance for the recently concluded year. You have noticed that the records related
to cost of production have not been maintained properly. However, while scrutinizing the files you have come across
certain details prepared by your predecessor which are as follows:
(i) Annual production was 50,000 units which is equal to the designed capacity of the plant.
(ii) The standard cost per unit of finished product is as follows:
Raw material X 6 kg at Rs. 50 per kg
Raw material Y 3 kg at Rs. 30 per kg
Labour- skilled 1.5 hours at Rs. 150 per hour
Labour- unskilled 2 hours at Rs. 100 per hour
Factory overheads Variable overheads per hour are Rs. 100 for skilled labour and Rs. 80 for
unskilled labour. Fixed overheads are Rs. 4,000,000
(iii) Data related to variation in cost of materials is as under:
Material X price variance Rs. 95,000 (Adverse)
Material Y actual price 6% below the standard price
Material X quantity variance Nil
Material Y quantity variance Rs. 150,000 (Adverse)

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(iv) Opening raw material inventories comprised of 25 days of standard consumption whereas closing inventories
comprised of 20 days of standard consumption.
(v) Actual labour rate for skilled and unskilled workers was 10% and 5% higher respectively.
(vi) Actual hours worked by the workers were 168,000 and the ratio of skilled and unskilled labour hours was 3:4
respectively.
(vii) Actual variable overheads during the year amounted to Rs. 16,680,000. Fixed overheads were 6% more than
the budgeted amount.
Required:
(a) Actual purchases of each type of raw materials.
(b) Labour and overhead variances. (20)

Question-10 (Autumn 2008, Q-3)

(a) Hexa Limited uses a standard costing system. The following profit statement summarizesthe performance of
the
(b) company for August 2008:

Rupees
Budgeted profit 3,500
Favorable variance:
Material price 16,000
Labour efficiency 11,040 27,040
Adverse variance:
Fixed overheads (16,000)
Material usage (6,000)
Labour rate (7,520) (29,520)
Actual profit 1,020
The following information is also available:
Standard material price per unit (Rs.) 4.0
Actual material price per unit (Rs.) 3.9
Standard wage rate per hour (Rs.) 6.0
Standard wage hours per unit 10
Actual wages (Rs.) 308,480
Actual fixed overheads (Rs.) 316,000
Fixed overheads absorption rate 100% of direct wages
Required:
Calculate the following from the given data:
(a) Budgeted output in units
(b) Actual number of units purchased
(c) Actual units produced
(d) Actual hours worked
(e) Actual wage rate per hour (15)

(b) State any two possible causes of favorable material price variance, unfavorablematerial quantity variance,
favorable labour efficiency variance and unfavorable labour rate variance. (04)

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CAF-03 Standard costing and variance analysis

Lecture # 9 Lecture # 103 (Over all)

Classwork
1. Solved question 9 (Spring 2010, Q-4) and question 10 (Autumn 2008, Q-3) from lecture 102 handout.
2. Discussed idle time variances of labour.
3. Discussed variance analysis with equivalent production units (EPU) and solved following question:
Question-11 (Autumn 2015, Q-4)
Jack and Jill (JJ) manufacture various products. The following information pertains to one of its main products:
(i) Standard cost card per unit
Rupees
Direct material (5 kg at Rs. 40 per kg) 200
Direct labour (1.5 hours at Rs. 80 per hour) 120
Factory overheads 130% of direct labour
,

(ii) Fixed overheads are budgeted at Rs. 3 million based on normal capacity of 75,000 direct labour hours per month.
(iii) Actual data for the month of June 2015
Units
Opening work in process (80% converted) 8,000
Started during the month 50,000
Transferred to finished goods 48,000
Closing work in process (60% converted) 7,000
Rupees
Material issued to production at: Rs. 38 per kg 1,900,000
Rs. 42 per kg 8,400,000
Direct labour at Rs. 84 per hour 6,048,000
Variable factory overheads 6,350,000
Fixed factory overheads 2,850,000
(iv) Materials are added at the beginning of the process. Conversion costs are incurred evenly throughout the process.
Losses up to 3%. of the input are considered as normal. However, losses are determined at the time of inspection
which takes place when units are 90% complete.
(v) JJ uses FIFO method for inventory valuation.
Required:
(a) Compute equivalent production units (05)
(b) Calculate the following variances for the month of June 2015:
 Material rate and usage (03)
 Labour rate and efficiency (03)
 Variable factory overhead expenditure and efficiency (04)
 Fixed factory overhead expenditure and volume (04)

Homework
Question-12 (Autumn 2020, Q-5)
Siyara Pakistan Limited (SPL) manufactures and sells a single product Zeta. The product passes through two
processes before transferring to warehouse for sale. Following data pertains to Process I for the month of August
2020:
Standard cost information:
(i) Direct material per unit – 1 kg at Rs. 75.
(ii) Direct labour per unit – 1.2 hours at Rs. 40 per hour.
(iii) Factory overheads per unit – 150% of direct labour. Factory overheads are budgetedon the basis of 250,000
direct labour hours. 40% of factory overheads are variable.
Actual data for the month of August 2020:
Rs. in ‘000’
Direct material issued: Rs. 75 per kg 6,750
Rs. 85 per kg 11,475
Direct labour paid for 235,000 hours 9,870
Variable factory overheads 6,345
Fixed factory overheads 11,250
45,690

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CAF-03 Standard costing and variance analysis
(i) Direct material is added at the beginning of the process. Conversion costs are incurred evenly throughout the
process. Losses up to 7% of the input are considered asnormal. However, losses are determined at the time of
inspection which takes place when product is 75% complete.
(ii) During the month, 225,000 kg of direct material was issued to Process I and 200,000 units were transferred
to Process II.
(iii) Opening and closing work in processes were 25,000 units (80% completed) and35,000 units (60%
completed) respectively.
(iv) 10% of direct labour hours were idle due to machine break-down but fully paid.
(v) SL uses FIFO method for inventory valuation.
Required:
(a) Calculate the following variances for the month of August 2020:
 Material price and usage
 Labour rate, efficiency and idle
 Variable factory overhead expenditure and efficiency
 Fixed factory overhead expenditure and volume (17)
(b) Reconcile the budgeted expenditure with actual expenditure for the month ofAugust 2020 by using relevant
variances calculated in part (a). (03)

Question-13 (Autumn 2009, Q-7)

Excellent Limited makes and sells a single product. The standard cost card for the product, based on normal
capacity of 45,000 units per month is as under:
Rupees
Material 60 kgs at Rs. 0.60 per kg 36.00
Labour ½ hour at Rs. 50.00 per hour 25.00
Variable factory overheads, 30% of direct labour cost 7.50
Fixed factory overheads 6.50
Total 75.00
Actual data for the month of August 20X3 is as under:
Work in process on August 1, 20X3 (60% converted) Units 10,000
Started during the month Units 50,000
Transferred to finished goods Units 48,000
Work in process on August 31, 20X3 (50% converted) Units 10,000
Material purchased at Rs. 0.50 per kg Rs. 1,750,000
Material issued to production Kgs 3,100,000
Direct labour at Rs. 52 per hour Rs. 1,300,000
Factory overheads (including fixed costs of Rs. 290,000) Rs. 600,000
The company uses FIFO method for inventory valuation.
All materials are added at the beginning of the process. Conversion costs are incurred evenly throughout
the process. Inspection takes place when the units are 80% complete. Under normal conditions, no spoilage
should occur.
Required:
a) Prepare a quantity and equivalent production schedules for material and conversion costs.
b) Calculate material, labour and variable overhead variances. (Assume that the material price variance is
calculated as materials are used rather than as they are purchased).
c) Calculate the over (under) absorption of fixed production overhead and analyse it into expenditure variance
and volume variance.
d) Analyse the fixed production overhead volume variance into efficiency and capacity variances. (16)

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CAF-03 Standard costing and variance analysis
Solution 9 (b) (Spring 2010, Q-4) from lecture 102 handout
Skilled labour Rate variance (Rs. 1,080,000)
= (standard rate – Actual rate) x Actual total labour hour paid Adverse
= (150 – 165) x 72,000 hrs
Unskilled labour rate variance (Rs.480,000)
= (Rs.100 – Rs.105) x 96,000 labour hours Adverse
Skilled Labour efficiency variance Rs.450,000
= (Total Skilled hour for Actual production – Total Actual hour worked) x standard rate Favorable
= [(1.5 x 5,000) – 72,000] x 150
Unskilled laboure efficiency variance Rs.400,000
= [(2 x 50,000) – 96,000] x 100 Favorable
Variable OH rate variance (Skilled) Rs.51,430
= (standard rate – actual rate) x Actual total labour hour worked Favorable
= (Rs.100 – Rs.99.5857) x 72,000
Variable OH rate variance (un-skilled) (Rs.1,851,427)
= (Rs.80 – Rs.99.2857) x 96,000 Adverse
Variable OH efficiency variance (Skilled) Rs.300,000
= (Total standard Hour for Actual production Total Actual hour worked) x standard rate Favorable
= [(1.5 x 50,000) – 72,000] x 100
Variable OH efficiency variance (un-skilled) Rs.320,000
= [(2 x 50,000) – 96,000] x 80 Favorable
Fixed OH expenditure variance (Rs.240,000)
= Budgeted Total Fixed cost – Actual Total fixed cost Adverse
= 4000,000 – 4,240,000

Solution 10 (b) (Autumn 2008, Q-3) from lecture 102 handout

(b)

Variances Reasons of Variances

Material Price Variance  Different supplier were used who charged a lower price than the
(Favorable) usual supplier.
 Material were purchased in sufficient quantities to obtain a bulk
purchase discount.
 Material were bought that were of lower quality than standard and
so cheaper than expected.
Material usage variance  Wastage rates were higher than expected
(Adverse)  Poor material handling resulted in a large amount of breakages
 Material used were of cheaper quality than standard
Labor rate variance  An increase in pay for employees
 Working overtime hours paid at a premium above the basic rate
 Using direct labor employees who were more skilled and
experienced thus paid more than the normal.
Labor efficiency variance  More efficient method of working.
(Favorable)  Good morale amongst the workforce and good management
which increased productivity.
 Incentive schemes are introduced to encourage employees to work
more quickly.
 Using employees who are more experienced than standard are
able to complete their work more quickly.

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CAF-03 Standard costing and variance analysis

Lecture # 10 Lecture # 104 (Over all)

Classwork
Question-14 (Autumn 2011, Q-3[a])
Pelican Ltd produces and markets a single product Zeta. The company uses a standard costing system. Following
is the standard material mix for the production of 400 units of Zeta:
Standard rate
Weight (Kgs) per kg (Rs.)
Material A 30 240
Material B 25 320
Actual costs on the production of 192 units of Zeta for the month of August 2011 were as follows:
Actual rate per kg
Weight (Kgs) (Rs.)
Material A 16 230
Material B 13 308
Required:
Calculate the following material variances from the above data:
▪ Cost variance
▪ Price variance
▪ Mix variance
▪ Yield variance
▪ Usage variance (15)

Homework
Question-15 (Spring 2007, Q-5)
The production engineering staff of Skyline Company Ltd has set the following standard mix for the production
of one unit of Product X:
Weight Rate per Amount
(Kg) Kg (Rs.) (Rs.)
Material A 0.50 10.00 5.00
Material B 0.30 5.00 1.50
Material C 0.20 2.00 0.40
1.00 6.90
Standard loss (10%) 0.10 -
0.90 6.90
Actual costs incurred on the production of 927,000 units were as follows:
Weight Rate per Kg
(Kg) (Rs.)
Material A 530,000 10.00
Material B 280,000 5.30
Material C 190,000 2.20
Required:
(a) Calculate the mix and yield variances (6)
(b) Reconcile actual material costs with the standard costs (5)

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CAF-03 Standard costing and variance analysis
Question-16 (Autumn 2016, Q-7)
Zamil Industries (ZI) produces and markets an industrial product Zeta. ZI uses standard absorption costing
system. The break-up of Zeta’s standard cost per unit is as under:
Rupees
Materials: Axe -1 kg 160
Zee - 2 kg 210
Direct labour - 0.8 hours 200
Overheads - 0.8 hours 180

Production of Zeta for the month of August 2016 was budgeted at 15,000 units. Information pertaining to
production of Zeta for August 2016 is as under:
(i) Raw material inventory is valued at lower of cost and net realizable value. Cost is determined under FIFO
method. Stock cards of materials Axe and Zee are reproduced below:
Axe Zee
Date Description Cost per kg Cost
Kg kg
(Rs.) per kg (Rs.)
1-Aug Opening balance 9,000 150 4,000 120
8,000 122
3-Aug Purchase returns - - (2,000) 122
4-Aug Purchases 17,000 148 35,000 125
6-Aug Issues to production (16,000) - (29,000)

(i) Actual direct wages for the month were Rs. 3,298,400 consisting of 11,780 direct labour hours.
(ii) Fixed overheads were estimated at Rs. 540,000 based on budgeted direct labour hours.
(iii) The actual fixed overheads for the month were 583,000.
(iv) Actual sales of Zeta for the month of August 2016 were 12,000 units. Opening and closing finished goods
inventory of Zeta was 5,000 and 8,500 units respectively.
Required:
(a) Compute following variances:
(i) Material price, mix and yield variances (07)
(ii) Labour rate and efficiency variances (04)
(b) Compute applied fixed overheads and analyse ‘under/over applied fixed factory overheads’ into
expenditure, efficiency and capacity variances. (08)

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