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Chapter 17 Theories
Cost Group I
Cost Accounting Standards MTP Dec’18/Jun’17/Mock Test Series 5

Q.1 List three items included and two items excluded under the Cost Accounting
Standards for Direct Expenses.

Answer

Items included under CAS 10 :

€€ Any expense directly related to a cost centre or cost object, not being material or labour.
€€ Cost of patents, royalty payments
€€ Hire charges of special machinery or plant
€€ Cost of special patterns, designs or tools.
€€ Experimental costs and expenditure in connection with models and pilot schemes
€€ Architects, surveyors and other consultants’ fees
€€ Travelling expenses to sites
€€ Inward charges and freight charges on special material.

Exclusions :
€€ A direct expense which cannot be economically traced to the cost object or cost unit.
€€ Portion unamortised out of a lumpsum, to be amortised later over its utility period.
€€ Finance cost incurred in connection with any self generated or procured resources shall not
form part of the direct expenses

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€€ Any subsidy, grant or incentive or any amount received or receivable with respect to any
direct expense shall be reduced
€€ Penalties/damages paid to statutory authorities shall not form part of the direct expenses.

Marginal Costing June 2017/Mock Test Series 5

Theories

Q.2 State why and under what conditions will profits under absorption costing
(i) higher than
(ii) equal to and
(iii) lower than the profits under marginal costing.

Answer
Profits as per absorption costing will be:
(i) higher than in marginal costing when closing stock is more than opening stock, since some
overheads will be included in the inventory value under absorption costing while Marginal
Costing considers the full overheads as cost of production,
(ii) equal when the opening and closing stocks are equal,
(iii) lower when opening stock is more than closing stock.
Since under Marginal Costing, only the current period’s overheads are charged to production,
while under absorption costing, a portion of the earlier period’s overheads will be included in the
opening stock value.

Introduction to Cost Accounting Jun’17

Q.3 Differentiate between Financial Accounting and Management Accounting.

Answer
Sl No Financial Accounting Management Accounting
(i) Provides general business Specific information relating to specific problems
information like P& L account, and decision making.
Balance Sheet
(ii) Information for owners and Information for management for optimizing
outside parties decisions.
(iii) Importance is on recording rather Emphasis is on control like using details of materials,
than control labour, etc for standard costing, budgetary control.

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(iv) All commercial transactions Concerned with Internal transaction not involving
between the business and payment or receipt
external parties are recorded
(v) Only those transactions that can Other parameters like cost units,
be measured in monetary terms apportioning bases are also recorded.
are recorded.

Theories
(vi) Efficiency of resource utilization Available for corrective action.
men/materials or machine is not
available
(vii) Stocks are valued at cost or Always valued at cost.
market value, whichever is lower.
(viii) Records are maintained as per Records are maintained as per Companies Act only
Companies Act and as per Income in certain cases, that too as per Cost Accounting
Tax Act requirements, but mainly to suit the management
for efficiency and control

Cost Sheet MTP Dec’19/Jun’17/Mock Test Series 5

Q.4 How would you classify costs based on behaviour? Give an example to explain
each class.

Answer

Classification of costs based on behaviour:

Fixed Costs:
Costs that do not vary with the change in the volume of activity in the short run. They are not
affected by temporary fluctuation in activity of an enterprise. Example: rent, depreciation, etc.
Variable Costs:
These costs vary directly with the volume of activity. Variable costs may be direct (like Direct
Material, Direct Labour and Direct Expenses), when they are part of prime cost or they could
be indirect, like selling expenses, variable factory overheads, etc. when they are called variable
overheads.
Semi-Variable costs:
These contain both fixed and variable elements. The variable elements behave like the Variable
Cost and the fixed element behaves like the Fixed Cost. The sum total therefore varies with
change in activity, but not in the same proportion as variable costs. Example: Factory supervision,
maintenance, etc.

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Introduction to Cost Accounting MTP Jun’19/Dec’17/Mock Test Series 2

Q.5 “Cost Accounting and Management Accounting are inter-dependent.” Do you

agree, discuss.

Answer
Theories

Cost Accounting: In cost accounting, primary emphasis is on cost and it deals with its collection,
analysis, relevance, interpretation and presentation for various problems of management.
Management Accounting: It utilizes the principles and practices of financial accounting and cost
accounting in addition to other management techniques for efficient operations of a concern. It
widely uses different techniques from various branches of knowledge like Statistics, Mathematics,
Economics, Law and Psychology to assist the management in its task of maximizing profits or
minimizing losses. The main thrust in management accounting is towards determining policy
and formulating plans to achieve desired objectives of management. From the above discussion
it may be concluded that cost accounting and management accounting are inter-dependent,
greatly related and inseparable.

Operating Costing MTP Dec’18/Dec’17

Q.6 Differentiate between Operation Cost and Operating Cost.

Answer

Operation Cost: Operation cost is the cost of a specific operation involved in a production process
or business activity. The cost unit in this method is the operation, instead of process. When the
manufacturing method of a concern consists of a number of distinct operations, operating costing
is suitable.
Operating Cost: Operating cost is the cost incurred in conducting a business activity. It refers to
the cost of concerns which do not manufacture any product but which provide services. Industries
and establishments like power house, transport and travel agencies, hospitals, schools etc. which
undertake services rather than the manufacture of products, ascertain operating costs. The cost
units used are Kilo Watt Hour (KWH), Passenger Kilometre and Bed in the Hospital etc.
Operation costing method constitutes a distinct type of costing but it may also be classed as a
variant of process cost since costs in this method are usually compiled for a specified period.

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Overheads Dec’17/Mock Test Series 2

Q.7 Enumerate the need for predetermined overhead rate.

Answer

Theories
Predetermined Overhead Rate is needed for the following reasons:
(i) actual Rate can be determined only after the overheads have been incurred
(ii) to avoid delay in computing cost
(iii) to prepare Quotations in time and quickly
(iv) actual Overhead Rate may fluctuate from period to period. But in case of predetermined
rate, it is not so.
(v) to ensure cost control.
OR
As per study material as under:
Advantages of Predetermined Overhead Rate:
(i) Enables prompt preparation of cost estimates, quotations and fixation of selling prices.
(ii) Cost data is available to management along with financial data.
(iii) In case of Cost-plus contracts prompt billing is possible through predetermined recovery
rate/s.
(iv) In concerns having budgetary control system, no extra clerical efforts are required in com-
puting the pre-determined overhead rate.

Budget and Budgetary Control MTP Jun’17/MTP Dec’17/MTP Dec’18/ MTP

Jun’19/Dec’17/Mock Test Series 2

Q.8 What is Responsibility Accounting? Also state the Principles of Responsibility

Accounting.

Answer

It is a system of accounting that recognizes various responsibility centres throughout the

organisation and reflects the plans and actions of each of these centres by assigning particular
revenues and costs of the one having the pertinent responsibility. It is a system in which the person
holding the supervisory posts as president, function head, foreman, etc. are given a report showing
the performance of the company or department or section as the case may be. The report will
show the data relating to operational results of the area and the items of which he is responsible
for control. Responsibility accounting follows the basic principles of any system of cost control

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and standard costing. It differs only in the sense that it lays emphasis on human beings and fixes
responsibilities for individuals. It is based on the belief that control can be exercised by human
beings, so responsibilities should be fixed for individuals.

Principles of Responsibility Accounting:

1. A target is fixed for each department or responsibility centre.
Theories

2. Actual performance is compared with the target.

3. The variances from plan are analysed so as to fix the responsibility.
4. Corrective action is taken by higher management and is communicated.

Introduction to Cost Accounting MTP Jun’17/MTP Jun’19/MTP Dec’19/

Jun’18/Mock Test Series 4

Q.9 Differentiate between cost control and cost reduction.

Answer

Cost Control vs. Cost Reduction :

Both cost control and cost reduction are efficient tools for management but their concepts and
procedure are widely different. The main differences are as follows:
Sl No. Cost Control Cost Reduction
(i) Cost control represents efforts made towards Cost reduction represents the achievement in
achieving target or goal. reduction of cost.
(ii) The Process of cost control is to setup a target, Cost reduction is not concerned with
ascertain the actual performance and compare maintenance of performance according to
it with the target, investigate the variances, and standards.
take remedial measures.
(iii) Cost control assumes the existence of standards Cost reduction assumes the existence of
or norms which are not challenged. concealed potential savings in standards or
norms which are therefore subjected to a
constant challenge with a view to improve-
ment by bringing out savings.
(iv) Cost control is a preventive function. Costs are Cost reduction is a corrective function. It
optimized before they are incurred. operates even when an efficient cost control
system exists. There is room for reduction in the
achieved costs under controlled conditions.

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(v) Cost control lacks dynamic approach. Cost reduction is a continuous process of
analysis by various methods of all the factors
affecting costs, efforts and functions in an
organization. The main stress is upon the why
of a thing and the aim is to have continual
economy in costs.

Theories
Introduction to Cost Accounting Jun’18

Q.10 Cost accounting has emerged as a specialized discipline due to various factors.

Answer

List out these factors.

The main factors attributable for emerging cost accounting as a specialized discipline are as under:
(i) Limitations placed on financial accounting.
(ii) Improved cost consciousness.
(iii) Rapid industrial development after industrial revolution and World wars.
(iv) Growing competition among the manufacturers.
(v) To control galloping price rise, the cost of computing the precise cost of product / service.
(vi) To control cost, several legislations passed throughout the World and in India too, such as
Essential Commodities Act, Industrial Development and Regulation Act (IDRA), etc.

Material Costing MTP Jun’19/MTP Jun’20/Jun’18/

Mock Test Series 4

Q.11 What is Economic Order Quantity (EOQ)? State the assumptions underlying
EOQ.

Answer

Economic Order Quantity (EOQ):

EOQ is the size of the order for which both ordering and carrying costs are minimum.

Assumptions underlying EOQ:

Ordering cost per order and carrying cost per unit per annum are known and they are fixed.
(ii) Anticipated usage of material in units in known.
(iii) Cost per unit of the material is constant and is known as well.

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(iv) The quantity of material ordered is received immediately i.e. lead time is zero.

Budget and Budgetary Control June 2018 / Dec 2019/

Mock Test Series 4 & 3

Q.12 What is Principal Budget Factor? Explain with suitable examples.

Theories

Answer

Budgets cover all the functional areas of the organisation. For the effective implementation of the
budgetary system, all the functional areas are to be considered which are interlinked. Because of
these interlinks, certain factors have the ability to affect all other budgets. Such factor is known as
principal budget factor. Principal budget factor is the factor the extent of influence of which must
first be assessed in order to ensure that the functional budgets are reasonably capable of fulfill-
ment. A principal budget factor may be lack of demand, scarcity of raw material, non-availability
of skilled labour, inadequate working capital etc.
For example, an organisation has the capacity to produce 2,500 units per annum. But the produc-
tion department is able to produce only 1,800 units due to non-availability of raw materials. In this
case, non-availability of raw materials is the principal budget factor (limiting factor). If the sales
manager estimates that he can sell only 1,500 units due to lack of demand, then lack of demand
is the principal budget factor. This concept is also known as key factor, or governing factor. This
factor highlights the constraints within which the organization functions.

Introduction to Cost Accounting MTP Jun’19/MTP Dec’19/Dec 2018/

Mock Test Series 1

Q.13 State the advantages of cost control (any five).

Answer

The advantages of cost control are mainly as follows:

(i) Achieving the expected return on capital employed by maximising or optimizing profit.
(ii) Increase in productivity of the available resources.
(iii) Reasonable price of the customers.
(iv) Continued employment and job opportunity for the workers.
(v) Economic use of limited resources of production.
(vi) Increased credit worthiness.
(vii) Prosperity and economic stability of the industry.

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Introduction to Cost Accounting Dec’18

Q.14 Describe briefly the main scope of cost accountancy.

A n s w e r

Theories
The scope of cost accountancy is very wide and includes the following:
(a) Cost Ascertainment: The main objective of cost accounting is to find out the cost of product/
service rendered with reasonable degree of accuracy.
(b) Cost Accounting: It is the process of accounting for cost which begins with recording of
expenditure and ends with preparation of statistical data.
(c) Cost Control: It is the process of regulating the action so as to keep the element of cost
within the set parameters.
(d) Cost Reports: This is the ultimate function of Cost Accounting. These reports are primarily
prepared for use by the management at different levels. Cost Reports help in planning and
control, performance appraisal and managerial decision making.
(e) Cost Audit: Cost Audit is the verification of correctness of Cost Accounts and check on the
adherence to the Cost Accounting Plan, its purpose is not only to ensure the arithmetic
accuracy of cost records but also to see the principles and rules have been applied correctly.

Material Costing MTP Jun’17/MTP Dec’17/ MTP Dec’18/MTP Dec’19/

Dec’18/Mock Test Series 1

Q.15 What is just-in-time (JIT) system? List out its main benefits.

Answer

Just in Time is a production strategy that strives to improve a business return on investment by
reducing in-process inventory and associated carrying costs. Inventory is seen as incurring costs,
or waste, instead of adding and storing value, contrary to traditional accounting. In short, the just-
in-time inventory system focuses on “the right material, at the right time, at the right place, and in
the exact amount” without the safety net of inventory.
The benefits of Just-in-Time system are as follows:
a. Increased emphasis on supplier relationships. A company without inventory does not want
a supply system problem that creates a part shortage. This makes supplier relationships ex-
tremely important.
b. Supplies come in at regular intervals throughout the production day. Supply is synchronized
with production demand and the optimal amount of inventory is on hand at any time. When

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parts move directly from the truck to the point of assembly, the need for storage facilities is
reduced.
c. Reduces the working capital requirements, as very little inventory is maintained.
d. Minimizes storage space.
e. Reduces the chance of inventory obsolescence or damage.
Theories

Budget and Budgetary Control Dec’18/Mock Test Series 1

Q.16 Write a brief note on Performance Budgeting describing its main concepts.

Answer

Performance Budgeting is synonymous with Responsibility Accounting which means the

responsibility of various levels of Management is predetermined in terms of output or result
keeping in view the authority vested with them.
The main concepts of such a system are enumerated below:
(a) It is based on a classification of managerial level for the purpose of establishing a budget
for each level. The individual in-charge of that level should be made responsible and held
accountable for its performance over a given period of time.
(b) The starting point of the performance budgeting system rests with the organisation chart
in which the spheres of jurisdiction have been determined. Authority leads to the responsi-
bility for certain costs and expenses which are forecasted or present in the budget with the
knowledge of the manager concerned.
(c) The cost in each individual’s or department’s budget should be limited to the cost control-
lable by him.
(d) The person concerned should have the authority to bear the responsibility.

Introduction to Cost Accounting Jun’19/Mock Test Series 6

Q.17 Distinguish between Cost Allocation and Cost Apportionment.

Answer

Cost Allocation: When items of cost are identifiable directly with some products or departments
such costs are charged to such cost centres. This process is known as cost allocation. Wages paid
to workers of service department can be allocated to the particular department. Indirect materials
used by a particular department can also be allocated to that department. Cost allocation calls for
two basic factors –
(i) Concerned department/product should have caused the cost to be incurred, and

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(ii) exact amount of cost should be computable.

Cost Apportionment: When items of cost cannot directly be charged to or be accurately
identifiable with any cost centres, they are prorated or distributed amongst the cost centres
on some pre-determined basis. This method is known as cost apportionment. Thus, items of
indirect costs residual to the process of cost allocation are covered by cost apportionment.
The pre-determination of suitable basis of apportionment is very important and usually

Theories
following principles are adopted -
(i) Service or use
(ii) Survey method, or
(iii) Ability to bear.
The basis ultimately adopted should ensure an equitable share of common expenses for the
cost centres and the basis once adopted should be reviewed at periodic intervals to improve
upon the accuracy of apportionment.

Introduction to Cost Accounting MTP Jun’19/MTP Jun’20/Jun’19

Q.18 State the main objectives of Cost Accounting.

A n s w e r

The main objectives of cost accounting are as under:

(i) To ascertain the costs under different situations using different techniques and systems of
costing.
(ii) To determine the selling prices under different circumstances.
(iii) To determine and control efficiency by setting standards for Materials, Labour and Overheads.
(iv) To determine the value of closing inventory for preparing financial statements of the concern.
(v) To provide a basis for operating policies of the concern.

Labour Costing Jun’19/Mock Test Series 6

Q.19 List out the various measures to reduce the Labour Turnover (any five).

Answer

Labour Turnover may be reduced by removing its avoidable causes and taking preventive remedi-
al measures. The various measures may be as under:
(i) Efficient, sympathetic and impartial personnel administration.

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(ii) Effective communication system to keep the workers informed on matters that affect them.
(iii) Improving working conditions and placing the right man on the right job.
(iv) Job enrichment to reduce boredom and monotony and to provide job satisfaction.
(v) Introducing fair rates of pay and allowance/s and incentives, pension, gratuity etc.
(vi) Strengthening welfare measures. (vii) Augmenting recreational activities and schemes.
Theories

Budget and Budgetary Control June 2019/Mock Test Series 6

Q.20 Write a brief note on Master Budget.

A n s w e r

Master Budget is the budget prepared to cover all the functions of the business organization.
It can be taken as the integrated budget of business concern, that means, it shows the profit or
loss and financial position of the business concern such as Budgeted Profit and Loss Account,
Budgeted Balance Sheet etc. Master budget, also known as summary budget or finalized profit
plan, combines all the budgets for a period into one harmonious unit and thus, it shows the overall
budget plan.
The master budget incorporates all the subsidiary functional budgets and the Budgeted Profit
and Loss Account and Budgeted Balance Sheet. Before the budget plan is put into operation, the
master budget is considered by the management and revised if the position of profit disclosed
therein is not found to be satisfactory. After suitable revision made, the Master Budget is finally
approved and put into action.

Introduction to Cost Accounting Dec’19/Mock Test Series 3

Q.21 Explain the concept of Opportunity Cost and Imputed Cost with suitable
examples.

Answer

Opportunity Cost: Opportunity cost is the value of alternatives foregone by adopting a particular
strategy or employing resources in specific manner. It is the return expected from an investment
other than the present one. These refer to costs which result from the use or application of material,
labour or other facilities in a particular manner which has been foregone due to not using the
facilities in the manner originally planned. Resources (or input) like men, materials, plant and
machinery, finance etc., when utilized in one particular way, yield a particular return (or output).If
the same input is utilized in another way, yielding the same or a different return, the original return
on the forsaken alternative that is no longer obtainable is the opportunity cost. For example, if
fixed deposits in the bank are proposed to be withdrawn for financing project, the opportunity
cost would be loss of interest on the deposits. Similarly, when a building leased out on rent to a

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party is got vacated for own purpose or a vacant space is not leased out but used internally, say, for
expansion of the production programme, the rent so foregone is the opportunity cost.

Imputed Cost: Imputed cost is hypothetical or notional cost, not involving cash outlay and com-
puted only for the purpose of decision-making. In this respect, imputed cost is similar to oppor-
tunity cost. Interest on funds generated internally, payment for which is not actually made is an

Theories
example of imputed cost. When alternative capital investment projects are being considered out
of which one or more are to be financed from internal funds, it is necessary to take into account
the imputed interest on own funds before a decision is arrived at.

Introduction to Cost Accounting MTP Jun’17/MTP Jun’18/Dec’19

Q.22 State the limitations of Cost Accounting System.

A n s w e r

(i) Like any other system of accounting, Cost Accountancy is not an exact science but an art
which has been developed through theories and accounting practices based on reasoning
and commonsense. Many of the theories cannot be proved nor can they be disproved. They
grownup in course of time to become conventions and accepted principles of Cost Account-
ing.
(ii) These principles are by no means static, they are changing from day to day and what is cor-
rect today may not hold true in the circumstances tomorrow.
(iii) In cost accounting, no cost can be said to be exact as they incorporate a large number of
conventions, estimations and flexible factors such as :-
(a) Classification of costs into its elements.
(b) Materials issue pricing based on average or standard costs.
(c) Apportionment of overhead expenses and their allocation to cost units/centres.
(d) Arbitrary allocation of joint costs.
(e) Division of overheads into fixed and variable.
(iv) Cost Accounting lacks the uniform procedures and formats in preparing the cost informa-
tion of a product/ service.
(v) Keeping in view above limitations, all Cost Accounting results can be taken as mere esti-
mates.

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Material Costing Dec’19/Mock Test Series 3

Q.23 Describe the main objectives of Material Control System.

A n s w e r
Theories

(i) To make continuous availability of materials so that there may be uninterrupted flow of ma-
terials for production. Production may not be held up for want of materials.
(ii) To purchase requisite quantity of materials to avoid locking up of working capital and to
minimise risk of surplus and obsolete stores.
(iii) To make purchase competitively and wisely at the most economical prices so that there may
be reduction in cost of materials.
(iv) To purchase proper quantity of materials to have minimum possible wastage of materials.
(v) To serve as an information centre on the knowledge in respect of materials for prices, sourc-
es of supply, lead time, quality and specification.

Introduction to Cost Accounting MTP Jun’17

Q.24 Cost Absorption

A n s w e r

Ultimately the indirect costs or overhead as they are commonly known, will have to be distributed
over the final products so that the charge is complete. This process is known as cost absorption,
meaning thereby that the costs absorbed by the production during the period. Usually any of
the following methods are adopted for cost absorption - (i) Direct Material Cost Percentage (ii)
Direct Labour Cost Percentage (iii) Prime Cost Percentage (iv) Direct Labour Hour Rate Method (v)
Machine Hour Rate, etc. The basis should be selected after careful maximum accurancy of Cost
Distribution to various production units. The basis should be reviewed periodically and corrective
action whatever needed should be taken for improving upon the accuracy of the absorption.

Budget and Budgetary Control MTP Dec’19

Q.25 Factors considered in Production Budget

A n s w e r

Next to the sales budget, the main function of a business concern is the production and for this,
a budget is prepared simultaneously with the sales budget. It is the forecast of production during
the period for which the budget is prepared. It can also be prepared in two parts viz., production

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volume budget for the physical units i.e., the number of units, the tonnes of production etc., and
the cost of production or manufacture showing details of all elements of the manufacture. While
preparing the production budget, the following factors must be taken into consideration:-
(a) Production plan:- Production planning is an important part of the preparation of the
production budget. Optimum utilization of plant capacity is taken by eliminating or reducing
the limiting factors and thereby effective production planning is made.

Theories
(b) The capacity of the business concern:- It is to be ensured that the capacity of the
organization will coincide the budgeted production or not. For this purpose, plant utilization
budget will also be necessary. The production budget must be based on normal capacity
likely to be achieved and it should not be too high or too low.
(c) Inventory Policy:- While preparing the production budget it is also necessary to see to what
extent materials are available for producing the budgeted production. For that purpose, a
purchase budget or a purchase plan must also be studied. Similarly, on the other hand, it is
also necessary to verify the extent to which the inventory of finished goods is to be carried.
(d) Sales budgets must also be considered before preparing production budget because it
may so happen that the entire production of the concern may not be sold. In such a case the
production budget must be in line with the sales budget.
(e) A plan of the sequence of operations of production for effective preparation of a production
budget should always be there.
(f) Last, but not the least, the policy of the management should also be considered before
preparing the production budget.

Labour Costing MTP Dec’18/MTP Dec’17

Q.26 Difference between Job Evaluation and Merit Rating

A n s w e r

Job Evaluation Merit Rating

Job Evaluation is the assessment of relative Merit rating is the assessment of relative worth
worth of jobs in a business of the man behind the job.
Job Evaluation rated the jobs. Merit rating rates the employees.
The objective of job evaluation is to set up a Merit rating provides a scientific basis for
rational wage and salary structure. determining fair wages for each worker based
on his ability and performance
Job Evaluation simplifies wage administration Merit rating helps in determining fair rate of
by rationalizing and bringing uniformity in the pay to different workers on the basis of their
wage rates relative performances.

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Introduction to Cost Accounting MTP Jun’17/MTP Jun’18

Q.27 Cost Centre

A n s w e r
Theories

CIMA defines a cost centre as “a location, a person, or an item of equipment (or a group of them) in
or connected with an undertaking, in relation to which costs ascertained and used for the purpose
of cost control”. The determination of suitable cost centres as well as analysis of cost under cost
centres is very helpful for periodical comparison and control of cost. In order to obtain the cost
of product or service, expenses should be suitably segregated to cost centre. The manager of a
cost centre is held responsible for control of cost of his cost centre. The selection of suitable cost
centres or cost units for which costs are to be ascertained in an undertaking depends upon a
number of factors such as organization of a factory, condition of incidence of cost, availability of
information, requirements of costing and management policy regarding selecting a method from
various choices. Cost centre may be production cost centres operating cost centres or process
cost centres depending upon the situation and classification. In a manufacturing concern, the cost
centres generally follow the pattern or layout of the departments or sections of the factory and
accordingly, there are two main types of cost centres as below:-
(i) Production Cost Centre: These centres are engaged in production work i.e engaged in con-
verting the raw material into finished product, for example Machine shop, welding shops...
etc
(ii) Service Cost Centre: These centres are ancillary to and render service to production cost
centres, for example Plant Maintenance, Administration...etc The number of cost centres and
the size of each vary from one undertaking to another and are dependent upon the expen-
diture involved and the requirements of the management for the purpose of control.

Cost Accounting Standards MTP Jun’17/MTP Jun’18

Q.28 Cost Accounting Standard on Packing Material Cost

Answer
This standard deals with the principles and methods of determining the Packing Material Cost. This
standard deals with the principles and methods of classification, measurement and assignment
of Packing Material Cost, for determination of the cost of product, and the presentation and
disclosure in Cost Statements. Packing Materials for the purpose of this standard are classified into
primary and secondary packing materials.
The objective of this standard is to bring uniformity and consistency in the principles and methods
of determining the packing material cost with reasonable accuracy.
This standard should be applied to cost statements, which require classification, measurement,

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assignment, presentation and disclosure of Packing Material Cost including those requiring
attestation.

Budget and Budgetary Control MTP Jun’17/MTP Jun’18

Q.29 Standard costing Vs Budgetary Control

Theories
A n s w e r
Despite the similarity in the basic principles of Standard Costing and Budgetary Control, the two
systems vary in scope and in the matter of detailed techniques. The difference may be summarized
as follows:
1. A system of Budgetary Control may be operated even if no Standard Costing system is in use
in the concern.
2. While standard is an unit concept, budget is a total concept.
3. Budgets are the ceilings or limits of expenses above which the actual expenditure should
not normally rise; if it does, the planned profits will be reduced. Standards are minimum
targets to be attained by actual performance at specified efficiency.
4. Budgets are complete in as much as they are framed for all the activities and functions of a
concern such as production, purchase, selling and distribution, research and development,
capital utilisation, etc. Standard Costing relates mainly to the function of production and the
related manufacturing costs.
5. A more searching analysis of the variances from standards is necessary than in the case of
variations from the budget.
6. Budgets are indices, adherence to which keeps a business out of difficulties. Standards are
pointers to further possible improvements.

Material Costing MTP Jun’19

Q.30 Advantages of perpetual inventory system

A n s w e r

1. The system obviates the need for the physical checking of all items of stock and stores at the
end of the year.
2. It avoids the dislocation of the routine activities of the organisation including production
and despatch.
3. A reliable and detailed check on the stores is maintained.
4. Errors, irregularities and loss of stock through other methods are quickly detached and

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through necessary action recurrence of such things in future is minimised.

5. As the work is carried out systematically and without undue haste the figures are readily
available.
6. Actual stock can be compared with the authorised maximum and minimum levels, thus
keeping the stocks within the prescribed limits. The disadvantages of excess stocks are
avoided and capitalised up in stores materials cannot exceed the budget.
Theories

7. The recorder level of various items of stores are readily available thus facilitating the work of
procurement of stores.
8. For monthly or quarterly financial statements like Profit and Loss Account and Balance Sheet
the stock figures are readily available and it is not necessary to have physical verification of
the balances.

Standard Costing MTP Jun’19

Q.31 Limitations of standard costing:

A n s w e r

1. Establishment of standard costs is difficult in practice.

2. In course of time, sometimes even in a short period the standards become rigid.
3. Inaccurate, unreliable and out of date standards do more harm than benefit.
4. Sometimes, standards create adverse psychological effects. If the standard is set at high lev-
el, its non achievement would result in frustration and build-up of resistance.
5. Due to the play of random factors, variances cannot sometimes be properly explained, and
it is difficult to distinguish between controllable and non-controllable expenses.
6. Standard costing may not sometimes be suitable for some small concerns. Where produc-
tion cannot be carefully scheduled, frequent changes in production conditions result in vari-
ances. Detailed analysis of all of which would be meaningless, superfluous and costly.
7. Standard costing may not, sometimes, be suitable and costly in the case of industries dealing
with non-standardized products and for repair jobs which keep on changing in accordance
with customer’s specifications.
8. Lack of interest in standard costing on the part of the management makes the system prac-
tically ineffective. This limitation, of course, applies equally in the case of any other system
which the management does not accept wholeheartedly.

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Marginal Costing MTP Dec’18

Q.32 Difference in profit under Marginal Costing & Absorption Costing

A n s w e r

Theories
Difference in profit under Marginal & Absorption Costing:
 No opening and closing stock: In this case, profit/loss under absorption and marginal cost-
ing will be equal.
 When opening stock is equal to closing stock: In this case, profit/loss under two approach-
es will be equal provided the fixed cost element in both the stocks is same amount.
 When closing stock is more than opening stock: In other words, when production during
a period is more than sales, then profit as per absorption approach will be more than that
by marginal approach. The reason behind this difference is that a part of fixed overhead
included in closing stock value is carried forward to next accounting period.
 When opening stock is more than the closing stock: In other words when production is less
than the sales, profit shown by marginal costing will be more than that shown by absorp-
tion costing. This is because a part of fixed cost from the preceding period is added to the
current year’s cost of goods sold in the form of opening stock.

Introduction to Cost Accounting MTP Dec’17/MTP Dec’18

Q.33 Replacement Cost

A n s w e r
Replacement cost is the cost of an asset in the current market for the purpose of replacement.
Replacement cost is used for determining the optimum time of replacement of an equipment
or machine in consideration of maintenance cost of the existing one and its productive capacity.
This is the cost in the current market of replacing an asset. For example, when replacement cost
of material or an asset is being considered, it means that the cost that would be incurred if the
material or the asset was to be purchased at the current market price and not the cost, at which it
was actually purchased earlier, should be take into account.

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Cost Accounting Standards MTP Dec’18

Q.34 How would you treat overtime in cost records as per CAS-7.

A n s w e r
Theories

Treatment of overtime in Cost Records :As per CAS-7, Overtime Premium shall be assigned directly
to the cost object or treated as overheads depending on the economic feasibility and specific
circumstances requiring such overtime.
When overtime is worked due to exigencies or urgencies of the work, the basic/normal payment
is treated as Direct Labour Cost and charged to Production or cost unit on which the worker is
employed. Whereas the amount of premium (extra amount) is treated as overhead.
If overtime is spent at the request of the customer, then the entire amount (including over time
premium) is treated as direct wages and should be charged to the job.
When the overtime is worked due to lack of capacity as general policy of the company thenthe
total amount paid is treated as direct wages which is computed at the estimated rate based on the
figures of the previous years.
Overtime worked on account of the abnormal conditions such as flood, earthquake, etc., should not
be charged to cost, but to Costing Profit and Loss Account if integrated accounts are maintained.
It will thus be seen that overtime involves payment of increased wages and should be resorted to
only when extremely essential.

Overheads MTP Dec’17

Q.35 Research and Development Overheads

A n s w e r
Research Cost is defined as the cost of searching for new or improved products, new applications
of material, or new or improved methods, process, systems or services. In the modern days, firms
spend heavily on Research and Development. Expenses incurred on research and development is
known as Research and Development Overheads.
Research may be of the following types:
1. Pure or basic research to gain general know-how regarding the production or market, not
directed towards any particular product.
2. Applied research which applies the basic knowledge in practice. i.e., improvement of exist-
ing products, new process, exploring of new products, improved measures of safety, etc.
3. Development cost is the cost of the process which begins with the implementation of the
decision to use scientific or technical knowledge to produce a new or improved product or

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to employ a new or improved method, process, system, etc. and ends with the commence-
ment of formal production of that product by that method. Development starts where the
research ends. Development cost is the expenditure incurred for putting the results of re-
search on a practical commercial basis.

Joint Product & By Products MTP Dec’17

Theories
Q.36 Difference between Joint products and Co products

Answer
Joint products are frequently confused with co-products. However, there is significant difference
between the two, the former being indivisible and the latter divisible. Common costs are allocable
among products or services performed because each of the products or services could have been
obtained separately. Therefore, any shared cost of obtaining them can be meaningfully allocated
on the basis of relative usage of the common facilities. For example, the cost of fuel or power may
be allocated to products based on production volumes and metered usage.
Co-products do not always arise from the same operation or raw materials and the quantity of
co-products is within the control of manufacturer. Thus different quantities of car, jeep and trucks
can be produced in car manufacturing industry according to the need of the concern.

Marginal Costing MTP Dec’17

Q.37 Difference in Profit under Marginal Costing & Absorption Costing

Answer
Difference in profit under Marginal & Absorption Costing:
 No opening and closing stock: In this case, profit/loss under absorption and marginal costing
will be equal.
 When opening stock is equal to closing stock: In this case, profit/loss under two approaches
will be equal provided the fixed cost element in both the stocks is same amount.
 When closing stock is more than opening stock: In other words, when production during
a period is more than sales, then profit as per absorption approach will be more than that
by marginal approach. The reason behind this difference is that a part of fixed overhead
included in closing stock value is carried forward to next accounting period.
 When opening stock is more than the closing stock: In other words when production is less
than the sales, profit shown by marginal costing will be more than that shown by absorption
costing. This is because a part of fixed cost from the preceding period is added to the current
year’s cost of goods sold in the form of opening stock.

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Cost Accounting Standards MTP Dec’17

Q.38 Cost Accounting Standard on Cost of Service Cost Centre

Answer
Theories

This standard deals with the principles and methods of determining Cost of Service Cost
Centres. This standard deals with the principles and methods of classification, measurement and
assignment of Cost of Service Cost Centre, for determination of the cost of product or service, and
the presentation and disclosure in Cost Statements.
Objective - The objective of this standard is to bring uniformity and consistency in the principles
and methods of determining the Cost of Service Cost Centre with reasonable accuracy.
Scope - The standard should be applied to the preparation & presentation Cost Statements, which
require classification, measurement and assignment, of Cost of Service Cost Centres including
those requiring attestation. It excludes Utilities and Repairs & Maintenance Services dealt with in
CAS-8 and CAS-12 respectively.

Introduction to Cost Accounting MTP Dec’17

Q.39 Cost Classification by Functions and explain any two

Answer
A business enterprise performs a number of functions like manufacturing, selling, research...etc.
Costs may be required to be determined for each of these functions and on this basis functional
costs may be classified into the following types:-
(i) Production or Manufacturing Costs
(ii) Administration Costs
(iii) Selling & Distribution cost
(iv) Research & Development costs

(i) Production or Manufacturing Costs: Production cost is the cost of all items involved in the
production of a product or service. These refer to the costs of operating the manufacturing
division of an undertaking and include all costs incurred by the factory from the receipt of raw
materials and supply of labour and services until production is completed and the finished
product is packed with the primary packing. The followings are considered as Production or
Manufacturing Costs:-
(1) Direct Material
(2) Direct Labour

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(3) Direct Expenses and

(4) Factory overhead, i.e., aggregate of factory indirect material, indirect labour and
indirect expenses.
Manufacturing cost can also be referred to as the aggregate of prime cost and factory
overhead.

Theories
(ii) Administration Costs: Administration costs are expenses incurred for general management
of an organization. These are in the nature of indirect costs and are also termed as
administrative overheads. For understanding administration cost, it is necessary to know
the scope of administrative function. Administrative function in any organization primarily
concerned with following activities:-
(1) Formulation of policy
(2) Directing the organization and
(3) Controlling the operations of an organization. But administrative function will not
include control activities concerned with production, selling and distribution and
research and development. Therefore, administration cost is the cost of administrative
function, i.e., the cost of formulating policy, directing, organizing and controlling the
operations of an undertaking (Administrative cost will include the cost of only those
control operations which are not related to production, selling and distribution and
research and development). In most of the cases, administration cost includes indirect
expenses of following types:
(1) Salaries of office staff, accountants, directors
(2) Rent, rates and depreciation of office building
(3) Postage, stationery and telephone
(4) Office supplies and expenses
(5) General administration expenses.

Labour Costing MTP Dec’19

Q.40 Treatment of Idle Time

A n s w e r
As per CAS-7 (Limited Revision 2017), Idle Time Cost shall be assigned direct to the cost object or
treated as overheads depending on the economic feasibility and specific circumstances causing
such idle time.
Treatment of different categories of Idle Time is as below:-
a) Unavoidable idle time above would be for insignificant periods. In Cost Accounts, this is
allowed to remain merged in the Production Order or Standing Order Number on which the
worker was otherwise employed.

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b) Normal Idle Time is booked to factory or works overhead. For the purpose of effective
control, each type of idle time, i.e., idle time classified according to the causes is allocated to
a separate Standing Order Number.
c) Abnormal Idle Time would usually be heavy in amount involves longer periods and would
mostly be beyond the control of the management. Payment for such idle time is not included
in cost and is adjusted through the Costing Profit and Loss Account or included in Profit and
Theories

Loss Account, when the accounts are integrated.

d) Tendency to conceal Idle Time should be discouraged. It is a non-effective time and the
resultant loss of profit due to reduced production activity but also increases the cost per
unit of production as the fixed costs continue to be incurred, irrespective of the reduced
quantum of production due to loss of labour time. Idle Time should, therefore, be highlighted
prominently so that action can be taken to remove the causes thereof. Although for obvious
reasons, it is not possible to record minor details, vigilance is necessary for finding out long-
term idleness among the workers

Marginal Costing MTP Dec’19

Q.41 Uses and applications of Break even Analysis

A n s w e r
The important uses to which cost-volume profit analysis or break-even analysis or profit charts
may be put to use are:
a) Forecasting costs and profits as a result of change in Volume determination of costs, revenue
and variable cost per unit at various levels of output.
b) Fixation of sales Volume level to earn or cover given revenue, return on capital employed, or
rate of dividend.
c) Determination of effect of change in Volume due to plant expansion or acceptance of order,
with or without increase in costs or in other words, determination of the quantum of profit
to be obtained with increased or decreased volume of sales.
d) Determination of comparative profitability of each product line, project or profit plan.
e) Suggestion for shift in sales mix.

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Introduction to Cost Accounting MTP Jun’20

Q.42 Difference between Financial Accounting and Cost Accounting

A n s w e r

Theories
Financial Accounting Cost Accounting
It provides the information about the business in It provides information to the management for
a general way. i.e Profit and Loss Account, Balance proper planning, operation, control and decision
Sheet of the business to owners and other outside making
partners.
It classifies records and analyses the transactions in It records the expenditure in an objective manner,
a subjective manner, i.e according to the nature of i.e according to the purpose for which the costs
expense. are incurred.
It lays emphasis on recording aspect without It provides a detailed system of control for
attaching any importance to control. materials, labour and overhead costs with the help
of standard costing and budgetary control.
It reports operating results and financial position It gives information through cost reports to
usually at the end of the year. management as and when desired.
Financial Accounts are accounts of the whole Cost Accounting is only a part of the financial
business. They are independent in nature. accounts and discloses profit or loss of each
product, job or service.
Financial Accounts records all the commercial Cost Accounting relates to transactions connected
transactions of the business and include all expenses with Manufacturing of goods and services, means
i.e Manufacturing, Office, Selling etc expenses which enter into production.

Marginal Costing MTP Jun’20

Q.43 Advantages of Marginal Costing

A n s w e r
1. Marginal costing system is simple to operate than absorption costing because they do not
involve the problems of overhead apportionment and recovery.
2. Marginal costing avoids, the difficulties of having to explain the purpose and basis of
overhead absorption to management that accompany absorption costing. Fluctuations in
profit are easier to explain because they result from cost volume interactions and not from
changes in inventory valuation.
3. It is easier to make decisions on the basis of marginal cost presentations, e.g., marginal
costing shows which products are making a contribution and which are failing to cover their
avoidable (i.e., variable) costs. Under absorption costing the relevant information is difficult
to gather, and there is the added danger that management may be misled by reliance on
unit costs that contain an element of fixed cost.

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4. Marginal costing is essentially useful to management as a technique in cost analysis and

cost presentation. It enables the presentation of data in a manner useful to different levels of
management for the purpose of controlling costs. Therefore, it is an important technique in
cost control.
5. Future profit planning of the business enterprises can well be carried out by marginal cost-
ing. The contribution ratio and marginal cost ratios are very useful to ascertain the changes
Theories

in selling price, variable cost etc. Thus, marginal costing is greatly helpful in profit planning.

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