Cost Accounting Presentationn Minhaj University Lahore

Cost Accounting

1. Cost Accounting Presentation

2. PRESENTATION TOPIC FACTORY OVERHEAD & VARIANCE ANALYSIS (THEORY & PRACTICAL EXAMPLES)

3. PRESENTED BY: TALAL BUTT (BBA-056) M.MUNEEB RANA (BBA-058) ALI RAZA (B.COM-017) PRESENTED TO: SIR. ASLAM

4. FACTORY OVERHEAD Factory overhead refers to the indirect costs involved in the production process that cannot be directly attributed to a specific product or job. Factory overhead also called manufacturing overhead or work overhead or factory burden in American English. It generally applies to indirect labor and indirect cost. EXAMPLES OF FACTORY OVERHEAD Factory expenses (e.g., rent, rates, insurance, water, heat, and electricity) Factory maintenance (e.g., cleaning, servicing, repairs, oiling, and greasing)

5. COMPONENTS OF FACTORY OVERHEAD Indirect material Indirect labor + other indirect costs = factory overhead INDIRECT MATERIAL Indirect materials are those not directly used as raw materials for the production of goods and services. The use of indirect material makes the production process possible, more efficient and safer. Indirect materials include lubricants, fuels, cleaning chemicals and protective gear. INDIRECT LABOR Indirect labor refers to the cost of those employees who are associated with the production process, but not on specific units or products they indirectly produce goods and services by supporting the production facility. Indirect labor costs include the cost of factory supervision, inspection teams, superintendents, factory managers and clerks .

6. OTHER INDIRECT COST Other indirect costs include rent, property tax on the factory premises, fire insurance, depreciation of the plant and machinery, repairs and maintenance of machinery, utilities, and taxes. These costs are further classified as either fixed or variable factory overhead FIXED & VARIABLE FACTORY OVERHEAD Expenses that do not change with changes in production are called fixed expenses, or fixed factory overhead, and include property insurance depreciation, property taxes and salaries for non- production employees. Variable expenses change in direct proportion to the production of goods and services; these include heating, electricity, water, indirect labor and indirect materials

7. PERCENTAGE OF DIRECT MATERIAL COST It is the simplest and the most popular method in those cases where the factory overhead cost is substantial to the total cost. Under this, the overhead rate is determined, and expenses are absorbed as per the rate. PERCENTAGE OF PRIME COST Another technique to classify Factory overhead is to compute it as a percentage of the prime cost (direct material cost, direct labor cost, and direct expenses cost). PERCENTAGE TO DIRECT LABOR COST Under this, it is classified as a percentage of the direct labor cost incurred by the business. However, the method lacks recognition of time devoted to work by skilled and unskilled workers, leading to biased results.

8. Variance analysis is a technique used to analyze the difference between the actual costs incurred and the standard costs that were expected. It helps identify areas where costs deviate from the expected values and allows management to take corrective actions. In theory, factory overhead variance analysis involves comparing the actual factory overhead costs with the standard factory overhead costs. The difference between the two is then analyzed to determine the causes of variance. There are generally three types of variances in factory overhead analysis: VARIABLE OVERHEAD VARIANCE This variance measures the difference between the actual variable overhead costs and the standard variable overhead costs. It helps in identifying the reasons for the deviation and allows management to control and optimize variable overhead costs . VARIANCE ANALYSIS

9. FIXED OVERHEAD VARIANCE This variance compares the actual fixed overhead costs with the standard fixed overhead costs. It helps in analyzing the efficiency and utilization of fixed resources in the production process. Any deviation from the standard fixed overhead costs can be investigated to identify the underlying causes . VOLUME VARIANCE This variance reflects the difference between the budgeted fixed overhead costs and the standard fixed overhead costs. It helps in analyzing the impact of changes in the production volume on fixed overhead costs. If the actual production volume differs from the budgeted volume, the volume variance helps in understanding the cost implications.

10. Now, let's consider a practical example to understand factory overhead variance analysis: ABC Manufacturing Company has set standard factory overhead costs for producing one unit of their product. The standard variable overhead cost per unit is $5, and the standard fixed overhead cost per unit is $10. The company budgeted to produce 1,000 units of the product in a month. At the end of the month, ABC Manufacturing Company actually produced 900 units and incurred variable overhead costs of $4,500 and fixed overhead costs of $9,500 To analyze the factory overhead variances, we can calculate the following: VARIABLE OVERHEAD VARIANCE Actual variable overhead costs - (Actual production units * Standard variable overhead cost per unit) $4,500 - (900 units * $5) = $500 favourable variance.

11. FIXED OVERHEAD VARIANCE Actual fixed overhead costs - (Actual production units * Standard fixed overhead cost per unit) $9,500 - (900 units * $10) = $500 unfavourable variance. VOLUME VARIANCE Budgeted fixed overhead costs - (Actual production units * Standard fixed overhead cost per unit) $10,000 - (900 units * $10) = $1,000 unfavourable variance. In this example, the company achieved a favourable variance in variable overhead costs, indicating efficiency in managing variable overhead expenses. However, there was an unfavourable variance in fixed overhead costs, suggesting inefficiencies in utilizing fixed resources. The volume variance indicates that the company produced fewer units than budgeted, resulting in higher fixed overhead costs per unit. By analyzing these variances, ABC Manufacturing Company can identify areas for improvement, such as reducing variable overhead costs further or improving the utilization of fixed resources to minimize variances and enhance overall cost efficiency

12. In practice, let's consider another example of a manufacturing company that produces furniture. The company estimates that for each chair produced, the standard variable overhead cost is $10, and the total fixed overhead cost for a month is $10,000. During a particular month, they produce 1,000 chairs and incur actual variable overhead costs of $12,000. CALCULATIONS: VARIABLE OVERHEAD VARIANCE Actual Variable Overhead Costs - (Standard Variable Overhead Cost per Unit x Actual Output)$12,000 - ($10 x 1,000) = $2,000 Unfavourable Variance FIXED OVERHEAD VARIANCE Actual Fixed Overhead Costs - Standard Fixed Overhead Costs$10,000 - $10,000 = $0 No Variance

13. Overhead Volume Variance Standard Fixed Overhead Costs - Budgeted Fixed Overhead Costs$10,000 - $10,000 = $0 No Variance Based on these calculations, we see an unfavourable variance of $2,000 in the variable overhead costs, indicating that the actual expenses exceeded the budgeted standard costs. The fixed overhead variance shows no variation, indicating that the company managed to control its fixed overhead costs as planned. The overhead volume variance also indicates no variation since the actual production matched the budgeted production. Variance analysis helps management in evaluating the effectiveness of cost control measures, identifying areas for improvement, and making informed decisions to optimize factory overhead costs. By comparing planned and actual costs, businesses can take appropriate actions to improve operational efficiency and maximize profitability.

14. Conclusion Factory Overhead is a significant expense incurred by the business, especially in manufacturing setup. It involves all indirect expenses that cannot be directly attributable to any particular job or work is undertaken. However, their importance is equal to direct expenses and needs to be accounted for with utmost care. Another critical factor is the general nature of these expenses. Most of these are fixed or semi-variable, unlike direct costs, mostly variable. As such, business needs to understand these factory overheads holistically and keep a tab on them as these are most difficult to control and also, at the same time, pivotal to the success of a business.