Textbook of Financial Cost and Management Accounting

689 Pages·1994·22.54 MB·English

by  Periasami P.

A TEXTBOOK OF
FINANCIAL COST
AND
MANAGEMENT
ACCOUNTING
Dr. P. PERIASAMY,
M.B.A., Ph.D.,
Reader,
Department of Business Management, '
Erode Arts College,
Erode - 638 009.
Kat
GJIimalaya CJlublishingGJIouse
MUMBAI • DELHI • NAGPUR • BANGALORE • HYDERABAD
© AUTHOR
No part of this pUblication should be reproduced, ·stored in a retrieval system, or transmitted in any form or by any means,
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I
CONTENTS
(1) ACCOUNTING PRINCIPLES AND CONCEPTS 1 - 6
Meaning and Scope of Accounting - Definition of Accounting - Steps of Accounting - Functions of
Accounting - Objectives of Accounting - Book keeping - Limitations of Accounting; Branches of
Accounting; Accounting Principles - Accounting Concepts - Entity Concept - Dual Aspect Concept
- Accounting Period Concept - Going Concern Concept - Cost Concept - Money Measurement
Concept - Matching Concept - Realization Concept - Accrual Concept - Rupee Value Concept;
Accounting Conventions - Conventions of Disclosure - Convention of Conservatism - Convention
of Consistency - Convention of Materiality - Questions.
(2) DOUBLE ENTRY SYSTEM OF ACCOUNTING 7 - 12
Meaning - System of Accounting - Cash System - Mercantile System - Mixed System - Single
Entry System - Double Entry System - Advantages - Factors Common to Every Business; Types of
Accounts - Personal Accounts - Real Accounts - Nominal Accounts; Accounting Rules - Debit
Aspect - Credit Aspect - Problems and Solutions and Exercises - Questions.
(3) ACCOUNTING BOOKS AND RECORDS 13 -89
Introduction - Meaning of Books and Records - Journal - Meaning - Specimen ruling of Journal -
Preparation of Journal - Types of Journal - General Journal - Special Journals - Sales Book -
Purchase Book - Sales Returns Book - Purchase Returns Book - Preparation Subsidiary Journals -
Bills Receivable Book - Bills Payable Book - Cash Book - Types of Cash Book - Preparation of
Cash Book - Petty Cash Book - Preparation of Petty Cash Book - Purpose of Subsidiary Books -
Illustrations - Solutions - Questions and Practical Problems; Ledger - Meaning - Specimen Ruling
of Ledger - Posting of Journal to Ledger - Balancing of Ledger - Difference between Journal and
Ledger - Preparation of Ledger - Illustrations - Solutions - Questions and Exercises; Trial Balance
- Meaning - Objectives - Errors not disclosed by Trial Balance - Classification of Errors - Errors of
Omission - Errors of Commission - Errors of Principles Compensating Errors - Errors Disclosed by
Trial Balance - Locating Errors - Suspense Account - Method of Preparation of Trial Balance -
Specimen - Problems - Solutions - Questions and Exercises.
(4) FINAL ACCOUNTS 90 - 121
Meaning - Manufacturing Account - Components of Manufacturing Account - Illustration and
Solution; Trading, Profit and Loss Account - Meaning - Purpose - Specimen Format - Elements of
Trading Account - Equations of Trading Account - Profit and Loss Account - Specimen Format -
Preparation of Final Accounts - Operating Expensel'- -Non-operating Expenses - Operating Incomes .
- Non-operating Incomes; Balance Sheet - Meaning.~-t• . >urpose - Specimen form of Balance Sheet -
Assets 'and Liabilities - Classification of Asset~ hl'i :Uabilities - Adjustment Entries - Difference
between Profit and Loss Account and Balance S};et:t - Preparation of Profit & Loss and Balance
Sheet - Illustrations - Solutions - Questions - Exf:ldses.
(5) DEPRECIATION 122 - 148
Introduction - Meaning and Definition of Depreciation, Depletion and Amortization - Purpose -
Factors affecting Depreciation - Methods of charging Depreciation - Straight Line Method - Written
Down Value Method - Annuity Method - Sinking Fund Method - Revaluation Method. Insurance
Policy Method - Depletion Method - Sum of Digits Method - Machine Hour Rate Method -
Calculation of Machine Hour Rate - Illustrations - Solutions - Questions - Exercises.
(6) FINANCIAL STATEMENTS ANALYSIS AND INTERPRETATION 149 - 172
Introduction - Meaning of Income Statements, Balance Sheet and Statement of Retained Earnings
Nature of Financial Statements - Objectives of Financial Statements - Limitations of Financial
Statements; Analysis and Interpretation - Meaning - Types of Analysis and Interpretations - Internal
Analysis - External Analysis - Horizontal Analysis - Vertical Analysis - Rearrangement of Income
Statements - Income Statement Equations - Rearrangement of Balance Sheet - Balance Sheet
Equations - Methods of Analysis and Interpretations - Comparative Financial Statements - Common
Size Statements - Trend Analysis - Ratio Analysis - Fund Flow Analysis - Cash Flow Analysis -
Illustrations - Solutions - Questions - Exercises.
(7) FUND FLOW STATEMENT 173 -209
Introduction - Meaning of Fund, Flow of Fund and No Flow of Fund - Statement of changes in
Financial Position - Flow of Funds chart - No Flow of Funds Chart - Examples of Flow of Fund -
Components of Flow of Funds - Current Assets - Current Liabilities - Non-current Assets -
Non-current Liabilities - Fund Flow Statement - Meaning - Difference between Fund Flow Statement
and Income Statement - Fund Flow Statement Vs Balance Sheet - Preparation of Fund Flow
Statement; Fund From Operations - Statement of Changes in Working Capital - Fund Flow Statement
- Meaning - Specimen Format - Purposes - Calculation of Fund From Operations - Illustrations -
Solutions - Rules for Preparation of Working Capital Statement - Specimen Form - Illustrations -
Sources of Fund and Applications of Fund - Components of Sources of Fund and Applications of Fund
- Calculation of Sources and Application of Fund - Illustrations - Solutions - Exercises.
(8) CASH FLOW STATEMENT 210 - 232
Meaning - Purpose of Cash Flow Statement - Difference between Cash Flow Statement and Fund
Flow Statement - Limitations - Preparation of Cash Flow Statement - Flow of Cash Under
Non-Current Items - Flow of Cash due to Operations - Non-cash Items - Specimen Format -
Calculation of Cash Received from Operations - Illustrations - Solutions - Questions - Exercises.
(9) RATIO ANALYSIS 233 - 297
Meaning and Definition of Analysis and Interpretations of Ratios; Principles of Ratio Selection -
Advantages - Limitations of Ratio Analysis; Classification of Ratios - Liquidity Ratio; Current Ratio
- Quick Ratio - Absolute Liquid Ratio; Profitability Ratio; Gross Profit Ratio - Operating Ratio -
Operating Profit Ratio - Net Profit Ratio - Return on Investment Ratio - Return on Capital
Employed Ratio - Earning per Share Ratio - Dividend Yield Ratio - Price Earning Ratio - Net Profit
to Net Worth Ratio; Turnover Ratio; Stock Turnover Ratio - Debtors Turnover Ratio - Debt
Collection Period Ratio - Creditor's Turnover Ratio - Average Payment Period - Working Capital
Turnover Ratio - Fixed Assets Turnover Ratio - Capital Turnover Ratio; Solvency Ratios; Debt
Equity Ratio - Proprietary Ratio - Capital Gearing Ratio - Debt Service Ratio; Overall Profitability
Ratio; Illustrations - Solutions - Questions - Practical Problems.
(10) COST ACCOUNTING 298 - 304
Introduction - Definitions of Important Concepts - Cost - Cost Accounting - Cost Control - Cost
Reduction - Cost Allocation - Cost Absorption - Cost Audit - Cost Unit - Cost Centre -
Objectives of Cost Accounting - Difference between Financial Account and Cost Accounting -
Management Accounting - Meaning - Cost Accounting Vs Management Accounting - Advantages
of Cost Accounting - Limitations of Cost Accounting - Installation of Cost Accounting System -
Practical Difficulties in Installation of Costing System - Steps to Overcome - Questions.
(11) COST METHODS, TECHNIQUES OF COST ACCOUNTING 305 - 309
AND CLASSIFICATION OF COST
Introduction - Methods of Cost':" Job Costing - Contract Costing - Cost Plus Contract - Batch
Costing - Process Costing: Operation Costing - Output Costing - Multiple Costing - Technique of
Costing - Uniform Costing - Marginal Costing - Standard Costing - Historical Costing - Absorption
Costing; Classification of Cost; On the basis of Nature - Functions - Variability - Normality -
Controllability - Material-- Labour - Expenses - Production Cost - Administrative Cost - Selling
Cost - Distribution Cost - Normal Cost - Abnormal Cost - Fixed Cost - Variable Cost -
Controllable Cost - Uncontrollable Cost - Sunk Cost - Opportunity Cost - Replacement Cost -
Conversion Cost - Questions.
(12) COST SHEET ANALYSIS (OR) STATEMENT OF COST 310 - 325
Introduction - Meaning - Elements of Cost - Direct Cost - Indirect Cost - Overheads - Prime Cost
- Works Cost - Cost of Production - Cost of Sales - Importance of Cost Sheet - Specimen Format
of Cost Sheet - Preparation of Cost Sheet - Illustrations - Solutions - Questions - Practical Problems.
(13) MATERIAL COST CONTROL 326 - 331
Meaning of Materials - Direct Materials - Indirect Materials - Material Control - Functions of
Materials Control - Objectives of Stores Control - Essentials - Advantages; Materials Purchase
Control - Organization of Purchasing - Centralized Organization - Advantages - Disadvantages -
Decentralized Purchasing - Purchase Manager - Qualities - Duties of Purchase Manager - Functions
of Purchase Department - Purchase Procedure - Bills of Materials - Purchase Requisition - Selection
of Suppliers - Purchase Orders - Goods Received Note - Inspection of Materials - Questions.
(14) MATERIALS - INVENTORY CONTROL 332 - 351
Introduction - Store and Store keeping - Purpose of Store keeping - Functions of the Store keeper -
Stores Layout - Types of Stores - Centralized Stores - Decentralized Stores - Combination of Both;
Fixation of Stock levels - Minimum Stock Level - Maximum Stock Level - Danger Level - Reorder
Level - Calculations - Economic Order Quantity - Calculation EOQ - Illustrations - Solutions -
ABC Analysis - Alphabetical Method - Numerical Alphabetical Method; Inventory System -
Periodic Inventory System - Perpetual Inventory System - Continuous Stock Taking - Advantages
of Each System - Bin Card - Stores Ledger - Bin Card Vs Stores Ledger - Continuous Stock Taking
Vs Periodic Stock Taking - Material Stores Losses - Normal Loss - Abnormal Loss - Inventory
Turnover Ratios - Illustrations - Solutions - Questions - Exercises.
(15) VALUATION OF MATERIALS ISSUES 352 - 367
Introduction - Valuation of Total Cost of Material Purchased - Trade Discount - Quantity
Discount - Cash Discount - Materials Issue Procedure - Material Requisition - Bill of Materials;
Methods of Materials Pricing Issues - First In First Out (FIFO) - Last In First Out (LIFO) - Specific
Price Method - Base Stock Method - Highest In First Method (HIFO) - Periodic Simple Average
Method - Periodic Weighted Average Method - Standard Price Method - Inflated Price Method -
Market Price or Replacement Price Method - Illustrations - Solutions - Questions - Practical
Problems.
(16) LABOUR COST CONTROL 368 - 381
Meaning - Types of Labour Cost - Direct Labour Cost - Indirect Labour Cost - Control of Labour
Cost - Technique - Organization for Control of Labour Cost - Personnel Department - Engineering
and Works Study Department - Method Study - Motion Study - Time Study - Job Analysis - Job
Evaluation - Merit Rating - Job Evaluation Vs Merit Rating; Time Keeping Department - Time
Keeping - Objectives - Methods of Time Keeping - Manual Method - Disc Method - Mechanical
Method - Time Keeping Clocks - Dial Time Records - Key Record System; Time Booking -
Objectives - Methods of Time Booking - Daily Time Sheet - Weekly Time Sheet - Job Cards -
Combined Time and Job Card; Piece Work Card - Idle Time - Types - Normal Idle Time and
Abnormal Idle Time - Accounting Treatment of Idle Time; Overtime - Meaning - Effect of
Overtime - Accounting Treatment of Over Time - Control of Overtime - Casual Workers - System
of Control - Out Workers; Pay Roll Department - Labour Turnover - Methods of Labour Tum over
- Separation Method - Replacement Method - Flux Method - Illustrations - Solutions - Questions -
Practical Problems.
(17) LABOUR COST ACCOUNTING 382 -401
Introduction - Meaning - Objectives of an Ideal Wage System - Principles - Methods of
Remuneration - Time Rate System - At Ordinary Levels - At High Wage Levels - Guaranteed Time
Rates - Piece Rate System - Straight Piece Rate - Piece Rate With Guaranteed Time Rate;
Differential Piece Rates - Taylor Differential Piece Rate System - Merrick Differential Piece Rate
System - Gantt Task and Bonus Plan - Bonus System or Incentive System; Individual Bonus Plan -
Halsey Premium Plan - Halsey - Wire Premium Plan - Rowan Plan - Barth Variable Sharing Plan -
Emerson Efficiency Plan - Bedaux Point Premium System - Accelerating Premium Plan; Group
Incentive Plan - Indirect Monetary Incentives - Non-Monetary Incentives - Illustrations - Solutions
- Questions - Practical Problems.
(18) OVERHEADS 402 -424
Meaning and Definitions of Overheads - Importance of Overheads - Classification of Overheads -
Indirect Materials Cost - Indirect Labour Cost - Indirect Expenses - Production Overhead -
Administration Overhead - Selling Overhead - Distribution Overhead - Fixed Overhead - Variable
Overhead - Useful of Overhead Classification; Codification of Overhead - Advantages of Codification
- Procedure or Steps in Overhead - Collection of Overhead - Overhead Expenses - Sources and
Documents Used - Overhead Analysis - Allocation and Absorption - Apportionment of Overhead -
Basis of Apportionment - Illustrations - Solutions - Reapportionment or Redistribution of Overhead
- Method of Re-apportionment - Direct Re-distribution Method - Step Distribution Method -
Reciprocal Service Method - Step Repeated Distribution Method - Simultaneous Equitation Method
- Trial and Error Method - Illustrations of Each Methods - Solutions - Questions - Practical
Problems.
(19) ABSORPTION OF OVE~HEAD 425 -446
Meaning - Overhead Rate - Actual Overhead Rate - Pre-Determined Overhead Rate - Blanket
Overhead Rate - MUltjple Overhead Rate - Normal Overhead Rate - Supplementary Overhead Rate;
Methods of Absorption of Overhead - Direct Material Cost Method - Direct Labour Cost Method -
Direct Labour Hours Method - Prime Cost Method - Unit Output Method - Machine Hour Rate;
Calculation of Machine Hour Rate - Fixed or Standing Charges - Variable Machine Expenses -
Basis for Apportionment of Machine Expenses - Advantages - Disadvantages - Illustrations -
Solutions -- Questions - Practical Problems.
(20) JOB, BATCH AND PROCESS COSTING 447 - 470
Introduction - Meaning - Features of Job Order Costing - Objectives of Job Order Costing - Pre
requisite for Job Order Costing - Advantages and Disadvantages of Job Order Costing -
Procedure for Job Order Cost System; Batch Costing - Meaning - Features - Determeniation -
Diffemece between Job Costing and Batch Costing - Advantages and Disadvantages - Problems and
Solutions; Process Costing - Meaning - Application of Process Costing - Job Costing Vs Process
Costing - Calculation of Normal Process Loss and Abnormal Process Loss - Procedure for
Preparation of Process Costing - Illustrations - Solutions - Questions - Practical Problems.
(21) JOINT PRODUCT AND BY -PRODUCT 471 - 490
Introduction - Joint Products - Me<lning - Features of Joint Products - Objectives of Joint Product
Costing - Methods of Apportionment of Joint Products - Average Unit Cost Method - Physical Unit
Method - Survey Method _. Contribution Margin Method - Standard Cost Method - Market Value
Method - Market Value at Point of Separation - Market Value After Further Processing - Net
Realisable Value or Reverse Cost Method - By-Products - Meaning - Methods of Valuation of By
Products - Non Cost or Sales Value Method - Other Income Method - Cost Methods - Replacement
Cost Methods - Standard Cost Method - Apportionment on Suitable Basis - Inter Process Profits -
Equivalent Units - Steps Involved for Calculation of Equivalent Units - Illustrations - Solutions -
Questions - Multiple Choice - Questions - Answers - Practical Problems.
(22) CONTRACT COSTING 491 - 508
Meaning - Special Features of Contract Costing -- Costing Procedure - Accounting Treatment of
Materials, Labour, Direct Expenses, Overhead C05t, Plant and Machinery - Sub-Contracts - Work
Certified - Work Uncertified - Work in Progress - Accounting Treatment of Profit or Loss of Contract
- Escalation Clause - Cost-Plus Contract - Profit or Loss on Completed Contract - Cost of Uncertified
Work - Problems and Solutions - Questions - Choose the Correct Answers - Practical Problems.
(23) UNIFORM COSTING 509 - 511
Uniform Costing - Meaning - Objectives - Essential Requisites for Installation of Uniform Costing
- Advantages of Uniform Costing - Limitations - Requisites of Inter - Firm Comparison -
Advantages - Disadvantages - Questions.
(24) ACTIVITY-BASED COSTING 512 - 521
Meaning - Different Stages in Activity Based Costing - ABC and Cost Drivers - Examples of Cost
Drivers - Classification of Activities - Unit Level Activities - Batch Level Activity - Product Level
Activities - Facility - Level Activities - Difference Between Activity - Based Costing and
Conventional Costing - Advantages of Activity - Based Costing - Essential Factors.)f a Good
Activity - Based Costing System - Illustrations - Solutions - Questions.
(25) RECONCILIATION OF COST AND FINANCIAL ACCOUNTS 522 - 535
Reconciliation of Cost Financial Accounts - Meaning - Reasons for the difference - Items shown
only in Financial Accounts - Income - Expenditure - Items shown only in Cost Accounts -
Absorption of Overheads - Methods of stock valuation - Abnormal losses and gains - Methods of
Reconciliation - Treatment of causes for differences - Types of problems - I\Iustrations - Solutions
- Questions - Practical Problems.
(26) MARGINAL COSTING AND COST VOLUME PROFIT ANALYSIS 536 - 560
Meaning of Marginal Cost and Marginal Costing - Features of Marginal Costing - Absorption
Costing - Absorption Costing Vs Marginal Costing - Differential Costing - Meaning - Marginal
Costing Vs Differential Costing - Advantages of Marginal Costing - Limitations of Marginal
Costing - Cost - Volume Profit Analysis - Meaning - Objectives - Marginal Cost Equations -
Contribution - Break Even Analysis - Profit Volume Ratio (PN Ratio) - Margin of Safety - Break
Even Chart - Cash Break Even Point - Advantages - Limitations - Illustrations - Solutions -
Questions - Practical Problems.
(27) BUDGETING AND BUDGETARY CONTROL 561 - 596
Introduction - Definition of Budget - Essentials of Budget - Difference between Forecast and
Budgets - Budgetary Control-Objectives of Budgetary Control-Scope and Techniques of Standard
Costing and Budgetary Control - Requisites for effective Budgetary Control - Organization for
Budgetary Control - Organization Chart - Budget Centre - Budget Officer - Budget Committee -
Budget Manual - Budget Period - Key Factors - Advantages of Budgetary Control - Limitations of
Budgetary Control; Types of Budgets Control Ratios - Capacity Ratio - Activity Ratio - Efficiency
Ratio - Calendar Ratio; Some Important Budgets - Sales Budgets - Production Budget - Material
Purchase Budget - Cash Budget - Master Budget - Fixed Budget - Flexible Budget - Advantages -
Fixed Budgets Vs Flexible Budgets - Methods of Preparing Flexible Budget - Multi - Activity
Method - Ratio Method - Charting Method - Illustrations - Solutions - Zero Base Budgeting -
Questions - Practical Problems.
(28) STANDARD COSTING AND VARIANCE ANALYSIS 597 - 641
Introduction - Standard Cost and Standard Costing - Meaning - Standard Costing and Budgetary
Control - Preliminaries to the establishment of Standard Costs: Advantages and Disadvantages of
Standard Costing, Analysis of Variances - Material Variances - Calculation of Material Price
Variances, Material Usage Variances, Material Mix Variance; Labour Variance; Overhead Variance -
Overhead Cost Variance - Fixed Overhead Variances - Sales Variances - Illustrations - Solutions -
Questions - Practical Problems.
(29) CAPITAL BUDGETING 642 - 669
Capital Budging - Meaning - Definition - Importance - Objectives - Principles or Factors of Capital
Budgeting Decisions - Capital Budgeting Process - Types of Capital Expenditure - Types of Capital
Budgeting Proposals - Methods of Evaluating Capital Investment Proposals - Traditional Methods -
Pay-back Period Method - Post Pay - Back Period - Discounted Pay-back Period - Reciprocal Pay
Back Period - Accounting Rate of Return Method - Time Adjusted Method - Net Present Value
Method - Internal Rate of Return Method - Profitability Index Method - JIIustrations - Solutions· -
Questions - Multiple Choice Question and Answers - Practical Problems.
(30) COST AUDIT 670 - 674
Cost Audit - Meaning and Definition - Difference between Financial Audit and Cost Audit Purposes
or Objectives of Cost Audit - Protective Purpose - Constructive Purpose - Circumstances Under
Which Cost Audit is Desirable - Types of Cost Audit - Efficiency Audit - Propriety Audit -
Statutory Audit - Advantages or Usefulness of Cost Audit - Usefulness to the Management - To the
Government - To the Shareholders; Cost Audit Programme - Areas of Cost Audit Programme is
carried out - Advantages - Disadvantages - Cost Accounts Records Questions.
(31) REPORTING TO MANAGEMENT 675 - 681
Introduction - Definition of Management Reporting - Objectives of Management Reporting -
Essentials of Good Reporting System - Classification of Management Reporting - According to
Objectives, Period, Functions - Report Meant for the Top Level of Management, Middle Level
Management and Junior Level Management - Questions.
DOD
CHAPTER 1
Accounting Principles and Concepts
Meaning and Scope of Accounting
Accounting is the language of business. The main objectives of Accounting is to safeguard the
interests of the business, its proprietors and others connected with the business transactions. This is done
by providing suitable information to the owners, creditors, shareholders, Government, financial institutions
and other related agencies.
Definition of Accounting
The American Accounting Association defines accounting as "the process of identifying, measuring
and communicating economic information to permit informed judgements and decisions by the users of the
information."
According to AICPA (American Institute of Certified Public Accountants) it is defined as "the art of
recording, classifying and summarizing in a significant manner and in terms of money, transactions and events
which are in part at least of a financial character and interpreting the result thereof."
Steps of Accounting
The following are the important steps to be adopted in the accounting process:
(1) Recording: Recording all the transactions in subsidiary books for purpose of future record or
reference. It is referred to as "Journal."
(2) Classifying: All recorded transactions in subsidiary books are classified and posted to the main
book of accounts. It is known as "Ledger."
(3) Summarizing: All recorded transactions in main books will be summarized for the preparation
of Trail Balance, Profit and Loss Account and Balance Sheet.
(4) Interpreting: Interpreting refers to the explanation of the meaning and significance of the result
of finanal accounts and balance sheet so that parties concerned with business can determine the
future earnings, ability to pay interest, liquidity and profitability of a sound dividend policy.