Module Name: Cost Accounting

Module Code: AFU 07315 / AAU 07317

Programme: BAF II / BAA II
Academic Year: 2024/2025

Learning Outcomes:
a) Concept of Cost
b) Evolution of Cost Accounting
c) Costing, Cost Accounting, Cost Accountancy
d) Define cost and explain their behavior classification as fixed and variable costs
e) Define and illustrate product costs and period costs
f) Define and illustrate direct and indirect costs
g) Classification of costs by function, traceability, behavior etc.

✓ CONCEPT OF COST
Cost is the amount of resource given up in exchange for some goods or services. The resources
given up are money or money’s equivalent expressed in monetary units. Cost is the expenditure
incurred on resources that are used to achieve a particular objective. Resources may be tangible
(materials or machinery) or intangible (labour, patent, copyright etc.) It is the amount of money
required to produce a product or perform a service.

The Chartered Institute of Management Accountants London defines cost as “the amount of
expenditure (actual or notional) incurred on, or attributable to a specified thing or activity”.

This activity of a firm may be the manufacture of a product or the rendering of a service which
involves expenditure under various heads, e.g., materials, labour, other expenses, etc. A
manufacturing organization is interested in ascertaining the cost per unit of the product
manufactured while an organization rendering service, e.g., transport undertaking, canteen,
electricity company, municipality, etc., is interested in ascertaining the costs of the service it
renders. In its simplest form, the cost per unit is arrived at by dividing the total expenditure incurred
by the total units produced or the quantum of service rendered.

But this method is applicable if the manufacturer produces only one product. If the manufacturer
produces more than one product, it becomes imperative to split up the total expenditure between
the various products so that the cost of each product can be ascertained separately. Even if only
one product is manufactured, it may be necessary to analyze the cost per unit of each item of
expenditure that goes to make up the total cost. The problem becomes more complicated where a
multiplicity of products is produced and it is necessary to analyze the cost per unit of each product
into various items of expenditures that make up the total cost.
For a consumer cost means price. For management cost means 'expenditure incurred' for producing
a particular product or rendering a particular service. The process of ascertaining the cost is

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known as costing. It consists of principles and rules governing the procedure of finding out the
costs of goods/ services. It aims at ascertaining the total cost and also per unit cost. For instance,
in transport companies the total cost for the period is ascertained and used to find out the cost per
passenger/mile. i.e. the cost of carrying one passenger for one mile. It provides for analysis of
expenditure in such a way that the management gets complete idea about even the smallest item
of cost.

It is necessary to specify the exact meaning of “cost”. When the term is used specifically, it is
modified with such terms as prime cost, fixed cost, sunk cost, etc. Each description implies a
certain characteristic which is helpful in analyzing the cost. It helps cost accounting in achieving
its three basic objectives namely-cost ascertainment, cost control and cost presentation.

A cost must always be studied in relation to its purpose and conditions. Different costs may be
ascertained for different purposes and under different conditions. Work-in-progress is valued at
factory cost, while stock of finished goods may be valued at cost of production. Even if the purpose
of the study of cost is the same, different conditions may lead to variation in cost. The cost per unit
of a product is sure to vary with an increase in the volume of output since the amount of fixed
expenses to be borne by each unit of output decreases.

It is also important to note here that there is no such thing as an exact cost or true cost because no
figure of cost is true in all circumstances and for all purposes. Most of the costing information is
based on estimates; for example, the amount of overheads is generally estimated in advance; it is
distributed over cost units, again on an estimated basis using different methods. Many items of
cost of production are handled in an optional manner which may give different costs for the same
product without going against the accepted principles in any way. Depreciation is one such item,
the amount of which will vary in accordance with the method of depreciation being used. Thus, to
arrive at an absolutely correct cost may be quite difficult unless one waits for a long time by which
time the costing information may lose all its value.

✓ EVOLUTION OF COST ACCOUNTING

The history of accounting is as old as civilization. It is the process of identifying, measuring,
recording and communicating economic information, capable of being expressed in terms of
money. The utility of accounting information lies in its ability to reduce uncertainty. The
information has to be relevant, verifiable, quantifiable and free from bias. Prior to the industrial
revolution, businesses were small and characterized by simple market exchanges between
individuals and organizations. In those times there was a need of accurate book keeping though
not that much of cost accounting.

However, the industrial revolution in the 18th century brought large sized process industries
performing single activities (e.g. textiles, railways etc.). During this period, there was a lack of
market for intermediary products because of which cost information gained importance as a tool
for measuring efficiency of different processes. But the concept of prime cost was used around
1875 by some Industrialists. The period, 1880 AD -1925 AD saw the development of complex
product designs and the emergence of multi activity diversified corporations like Du Pont, General
Motors etc. It was during this period that scientific management was developed which led
accountants to convert physical standards into cost standard, the latter being used for variance

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analysis and control. In 1913 J.L. Nicholson published a book “Cost Accounting Theory and
Practice” from New York. During World War I and II the social importance of cost accounting
grew with the growth of teach country's defend expenditure. In the absence of competitive markets
for most of the required to fight war, the Governments in several countries placed cost-plus
contracts under which the price to be paid was the cost of production plus an agreed rate of profit.
The reliance on cost information by the parties to defence contracts continued after World War II
as well. Even today, most of the government contracts are decided on a cost plus basis.

✓ COSTING, COST ACCOUNTING AND COST ACCOUNTANCY

Costing
Costing is the techniques and processes of ascertaining costs. These techniques consist of
principles and rules which govern the procedure of ascertaining cost of products or services. The
techniques to be followed for the analysis of expenses and the processes of different products or
services differ from industry to industry.
The main object of costing is the analysis of financial records, so as to subdivide expenditure and
to allocate it carefully to selected cost centers, and hence to build up a total cost for the
departments, processes or jobs or contracts of the undertaking.

Cost Accounting
Cost accounting may be regarded as ``a specialized branch of accounting which involves
classification, accumulation, assignment and control of costs.
The Costing terminology of C.I.M.A. London defines cost accounting as ``The establishment of
budgets, standard costs and actual costs of operations, processes, activities or products, and the
analysis of variances, profitability or the social use of funds”.
`Wheldon defines cost accounting as “classifying, recording and appropriate allocation of
expenditure for determination of costs of products or services and for the presentation of suitably
arranged data for purposes of control and guidance of management”. It is thus, a formal mechanism
by means of which costs of products or services are ascertained and controlled.
Cost accounting is different from costing in the sense that the former provides only the basis and
information for ascertainment of costs. Once the information is made available, costing can be
carried out arithmetically by means of memorandum statements or by method of integral
accounting.

Cost Accountancy
Cost Accountancy has been defined as “the application of costing and cost accounting principles,
methods and techniques to the science, art and practice of cost control and the ascertainment of
profitability. It includes the presentation of information derived there from for the purpose of
managerial decision making”.

Question:
State whether the following statement is “True” or “False”
Costing and Cost Accounting are the same thing:
• True
• False
✓ OBJECTIVES OF COST ACCOUNTING

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Cost accounting aims at systematic recording of expenses and analysis of the same so as to
ascertain the cost of each product manufactured or service rendered by an organization.
Information regarding cost of each product or service would enable the management to know
where to economize on costs, how to fix prices, how to maximize profits and so on. Thus, the main
objects of cost accounting are the following:
1) To analyze and classify all expenditures with reference to the cost of products and
operations.
2) To arrive at the cost of production of every unit, job, operation, process, department or
service and to develop cost standard.
3) To indicate to the management any inefficiencies and the extent of various forms of waste,
whether of materials, time, expenses or in the use of machinery, equipment and tools.
Analysis of the causes of unsatisfactory results may indicate remedial measures.
4) To provide data for periodical profit and loss accounts and balance sheets at such intervals,
e.g., weekly, monthly or quarterly, as may be desired by the management during the
financial year, not only for the whole business but also by departments or individual
products. Also, to explain in detail the exact reasons for profit or loss revealed in total, in
the profit and loss account.
5) To reveal sources of economies in production having regard to methods, types of
equipment, design, output and layout. Daily, weekly, monthly or quarterly information may
be necessary to ensure prompt and constructive action.
6) To provide actual figures of cost for comparison with estimates and to serve as a guide for
future estimates or quotations and to assist the management in their price-fixing policy.
7) To show, where standard costs are prepared, what the cost of production ought to be and
with which the actual costs which are eventually recorded may be compared.
8) To present comparative cost data for different periods and various volumes of output.
9) To provide a perpetual inventory of stores and other materials so that interim profit and
loss account and balance sheet can be prepared without stock taking and checks on stores
and adjustments are made at frequent intervals. Also to provide the basis for production
planning and for avoiding unnecessary wastages or losses of materials and stores.
10) To provide information to enable management to make short-term decisions of various
types, such as quotation of price to special customers or during a slump, make or buy
decision, assigning priorities to various products, etc.

✓ THE NATURE AND TYPES OF COST CLASSIFICATION

Costs can be classified in a number of different ways:
Costs can be classified into different categories for different purposes. Costs may be
categorized according to their:
(a) Management function
(b) Ease of traceability
(c) Timing of charge againstrevenue
(d) Behavior in accordance with activity
(e) Relevance to decision making etc.
(f) Nature or elements (material, labour, overhead)

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o Costs Classification by Their Behavior.
Do they increase as an organization gets busier or do they tend to stay the same? This is
important when it comes to budgeting as it is essential to be able to predict how costs are likely
to change. By their behavior costs can be classified as follows:
1. Variable costs
Variable costs are expenses that change in direct proportion to the activity of a business.
The portion of total cost that varies with a change in the volume of activity is known as
variable cost.

It varies in total but its value per unit cost remains constant. For example, 1 item costs
Tshs10,000 and 10 items cost Tshs100,000. The cost of each individual unit is Tshs10,000,
but in total the costs are Tshs100,000.

Examples of variable costs:

i) Direct material and labour cost
ii) Indirect material and labour cost
iii) Sales commission based on sales

2. Fixed costs
These are costs that remain constant regardless of the level of activity. A cost that remains constant
in total, within the current budget period, irrespective of changes in volume of activity, is called a
fixed cost.

Fixed costs are the expenses which do not change in proportion to the activity of a business, within
the relevant period of time.

Example; A retailer must pay rent and utility bills irrespective of the volume of sales he makes.
Fixed costs do not vary in total. The per unit fixed cost decreases as production volume
increases and vice-versa.

They are also known as “period cost” as the cost is incurred in relation to a time period or “stand-
by cost” because this cost will be incurred even if no production activity takes place.

All fixed costs are overheads but all overheads are not fixed costs. Overheads include certain
costs that vary with the level of activity. These depict a direct relationship with the activity level
and hence are categorized as variable overheads, e.g. overtime premium that changes with the
number of hours of overtime worked, power costs, fuel costs and any other utility costs. Certain
overheads, on the other hand, always remain fixed irrespective of the activity level, e.g. insurance
costs, depreciation on assets etc.

Example of Fixed costs

✓ Rent and insurance of office building, factory premises
✓ Depreciation of building, plant and machinery
✓ Pay and allowances of managers, secretary and accountants Legal or audit fees

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3. Semi-variable costs
Costs that vary in total but not in proportion to changes in activity.
A cost that is composed of a mixture of fixed and variable components is known as a semi-
variable cost. It is also known as a mixed cost. A cost that is composed of a mixture of fixed
and variable components is known as a semi-variable cost. It is also known as a mixed cost.

In other words, these costs show a mixed relationship, when plotted against volume.
An example would be electricity expense that consists of a fixed amount plus variable charges
based on usage.

Another example of a semi-variable cost is the telephone bill. This is generally divided into
two components – a fixed charge payable per billing period (where there is no extra charge
up to a certain level of usage) and a variable per unit usage charge (depending on the number
of units consumed above the certain level of usage).

4. Stepped fixed cost or semi fixed cost

Cost that are fixed for a given level of activity but in due course changes by a constant amount
at some point is a stepped fixed cost.

A stepped fixed cost remains the same up to a certain level of activity or a certain period of
time, then changes and again remains constant up to a new activity level or a period of time.

Example:
Sera International School has started to offer a pick-up service for its students this year. The
cost of hiring one bus is Tshs100,000 per day. One bus can accommodate a maximum of 50
students.

At the beginning of the session only 40 students opted to take the bus. Therefore, only one
bus was hired at a cost of Tshs100,000 per day. The cost of this bus will remain Tshs100,000
until the number of students rises above 50.

However, the number of students using the bus rose from 40 students to 80 students by the
middle of the session. As a result, the school had to hire another identical bus for the additional
30 students (80 - 50). The cost then became Tshs200,000 per day. This cost will again remain
constant until the student count exceeds 100 (50 + 50).

Increasing salaries of managerial and administrative employees will cause fixed employee
costs to step up. Similarly, if there is a revision in the rent agreement that increases the
monthly rent within the period under consideration, the cost will step up.

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1. High / low analysis
High/low analysis compares the costs at two different activity levels so as to identify the fixed
and variable cost components of the total cost.

Since the fixed element of the total cost is likely to remain unchanged during different periods,
changes in the total costs at two different levels of activity can be attributed solely to the variable
elements.

Variable cost per unit is calculated as

(a) Select the highest level of activity and the lowest level of activity in the given series of
data.
(b) The difference in costs during these periods should be divided by the changes in output
during the same periods.
(c) This calculation can be expressed mathematically as follows:
Total costs at high level − Total costs at low level
𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡𝑠 𝑝𝑒𝑟 𝑢𝑛𝑖𝑡 =
High level of activity − Low level of activity

From Total Costs Function

Total Costs = Total variable costs + Total fixed costs

Total Fixed cost = Total cost (at the highest / lowest level of activity) – {(Total units (at the highest
/ lowest level) x Variable cost per unit (as calculated above)}
Generally, the highest and the lowest volumes of production are used to compute the variable cost
per unit.

2. Situations involving stepped fixed cost and changes in variable cost per unit
There are situations where the stepped fixed costs occur along with changes in per unit variable
costs.

Example
An organization has the following total costs at three activity levels:

Activity level Total cost

(units) Tshs "000"
4,000 38,000
6,000 54,000
8,000 68,000

The variable cost per unit is constant within this activity range and there is a step up of
Tshs2,000,000 in the total fixed costs when the activity level exceeds 5,000 units.

Required:
What is the total cost at an activity level of 7,000 units?

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Further examples on cost classification by their behavior
(a) Fixed costs
Example
- Insurance
Cost incurred to protect against events that could damage business property. No relationship
to activity of production and therefore does not vary with the volume of units manufactured.

- Depreciation on buildings
Accounting convention to reflect the reduction in value of assets due to wear and tear. No
relationship to activity.

- Interest on borrowed money

Cost of money borrowed for the business. This cost generally does not change with the change
in the level of activity or volume of production.

(b) Stepped fixed costs

Example
- Depreciation on company owned vehicles
If the company operates a fleet of vehicles to reduce the delivery time, the depreciation cost on the
vehicles will step up each time the number of vehicles increases.

- Rent costs for extra storage

The rent of the warehouse is a fixed cost as long as the storage does not exceed the capacity of the
warehouse. Once the volume of materials increases beyond this limit, a new warehouse is rented
and the rent cost steps up.

(c) Variable costs

Example
- Direct material, Direct labour & Direct expenses
The cost of materials, labour or expenses per unit of production is constant, and as the units
of production increase, so does the cost. A direct relationship with activity.

- Sales commission
The cost of rewarding sales persons according to the sales volume they achieve has a direct
relationship with sales activity.

(d) Semi-variable costs

Example
- Monthly telephone costs, electricity costs
Both telephone and electricity charges comprise fixed and variable components. Fixed
component remains unchanged for any quantum of usage and the variable component varies
with a change in usage level.

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o Costs Classification by Their Function.
A company performs a number of functions. By their function costs can be classified into
manufacturing and non-manufacturing costs, for example, costs related to research and
development, marketing, training, manufacturing.
1. Manufacturing costs (or Production costs) - incurred in the factory to convert
raw materials into finished goods. It includes cost of raw materials used (direct
materials), direct labor, and factory overhead.
2. Non-manufacturing costs (or Non-Production costs) - not incurred in
transforming materials to finished goods. These include selling expenses (such as
advertising costs, delivery expense, salaries and commission of salesmen) and
administrative expenses (such as salaries of executives and legal expenses).
(i) Administration Costs: They are indirect and covers all expenditure
incurred in formulating the policy, directing the organization and
controlling the operation of a concern, which is not related to research,
development, production, distribution or selling functions.
(ii) Selling and Distribution Cost: Selling cost is the cost of seeking to
create and stimulate demand e.g. advertisements, market research etc.
Distribution cost is the expenditure incurred which begins with making
the package produced available for dispatch and ends with making the
reconditioned packages available for re-use e.g. warehousing, cartage
etc. It includes expenditure incurred in transporting articles to central
or local storage. Expenditure incurred in moving articles to and from
prospective customers as in the case of goods on sale or return basis is
also distribution cost.
(iii) Research and Development Costs: They include the cost of
discovering new ideas, process, products by experiment and
implementing such results on a commercial basis.
(iv) Pre-production Cost: When a new factory is started or when a new
product is introduced, certain expenses are incurred. There are trial
runs. Such costs are termed as pre-production costs and treated as
deferred revenue expenditure. They are charged to the cost of future
production.

o Costs Classification by Their Nature or Elements.

For example, material, labor, other production expenses, such as the cost of running
machinery. There are three broad elements of costs:
1) Material: The substance from which the product is made is known as material. It
can be direct as well as indirect.
Direct material: It refers to those materials which become a major part of the finished product
and can be easily traceable to the units. Direct materials include:
i) All materials specifically purchased for a particular job/process.
ii) All material acquired and latter requisitioned from stores.
iii) Components purchased or produced.
iv) Primary packing materials.
v) Material passing from one process to another.

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Indirect material: All material which is used for purposes ancillary to production and which
can be conveniently assigned to specific physical units is termed as indirect materials.
Examples, oil, grease, consumable stores, printing and stationary material etc.

2) Labour: Labour cost can be classified into direct labour and indirect labour.
Direct labour: It is defined as the wages paid to workers who are engaged in the production
process whose time can be conveniently and economically traceable to units of products. For
example, wages paid to compositors in a printing press, to workers in the foundry in cast iron
works etc.

Indirect labour: Labour employed for the purpose of carrying tasks incidental to goods or
services provided, is indirect labour. It cannot be practically traced to specific units of output.
Examples, wages of store-keepers, foreman, time-keepers, supervisors, inspectors etc.

3) Expenses: Expenses may be direct or indirect.

Direct expenses: These expenses are incurred on a specific cost unit and identifiable with the
cost unit. Examples are cost of special layout, design or drawings, hiring of a particular tool
or equipment for a job; fees paid to consultants in connection with a job etc.

Indirect expenses: These are expenses which cannot be directly, conveniently and wholly
allocated to cost centre or cost units. Examples are rent, rates and taxes, insurance, power,
lighting and heating, depreciation etc. It is to be noted that the term ‘overheads’ has a wider
meaning than the term indirect expenses.

Overheads include the cost of indirect material, indirect labour and indirect expenses.
Overheads may be classified as (a) production or manufacturing overheads, (b) administration
overheads, (c) selling overheads, and (d) distribution overheads.

o Costs classification by their traceability. Are they direct or indirect? Direct costs are
closely related and traceable to each item produced. Indirect costs are not so easy to relate
and trace to each unit of production.
1. Direct costs - those that can be traced directly to a particular object of costing
such as a particular product, department, or branch. Examples include
materials and direct labor. Some operating expenses can also be classified as direct
costs, such as advertising cost for a particular product.
2. Indirect costs - those that cannot be traced to a particular object of costing.They
are also called common costs or joint costs. Indirect costs include factory overhead
and operating costs that benefit more than one product, department, or branch.

o Costs Classification According to Their Relevance to Decision Making

1. Relevant cost - cost that will differ under alternative courses of action. In other
words, these costs refer to those that will affect a decision.
2. Standard cost - predetermined cost based on some reasonable basis such as past
experiences, budgeted amounts, industry standards, etc. The actual costs incurred are
compared to standard costs.
3. Opportunity cost - benefit forgone or given up when an alternative is chosen over

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the other/s. Example: If a business chooses to use its building for production rather
than rent it out to tenants, the opportunity cost would be the rent income that would
be earned had the business chose to rent out.
4. Sunk costs - historical costs that will not make any difference in making adecision.
Unlike relevant costs, they do not have an impact on the matter at hand.
5. Controllable costs - refer to costs that can be influenced or controlled by the
manager. Segment managers should be evaluated based on costs that they can
control.

o Costs Classification According to Timing of Charge Against Revenue

1. Product costs - are inventoriable costs. They form part of inventory and are charged
against revenue, i.e., cost of sales, only when sold. All manufacturing costs (direct
materials, direct labor, and factory overhead) are product costs. Product costs are
costs incurred in relation to the manufacturing process.

The production process generally involves processing raw materials into the final
product. All the costs incurred in a factory, directly or indirectly, until the stage when
the goods can be marketed as final products are considered product or manufacturing
costs.

Example
In the production of glassware (glasses, glass plates etc.), the costs incurred for glass, wages paid
to labour and the cost of fuel used in making the glassware will all qualify as product costs.
Packing costs, where the products require primary packaging in order to sell the goods, are a part
of product costs. In these cases, the product is incomplete unless it is packed, e.g. milk packed in
bottles / cartons or hair shampoo bottled in plastic containers.

Product costs are sub-classified as:

✓ Direct material
✓ Direct labour
✓ Direct expense
✓ Production overheads (factory overheads)

Classification of product costs

Product costs can be further split into prime costs consisting of direct material, direct labour and
direct expenses and production overhead costs. These form the major divisions of production costs.
The next section explains each of these terms.

✓ Material costs
The costs of goods purchased for use in producing a product are known as material costs.
Materials that are used in producing the finished product are termed direct materials. The costs
incurred on these can be identified with the product.

Material costs may include costs of:

o The ingredients from which the product is manufactured
o The spares and parts used for completion of the product

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o Materials transferred from one process to another as input to the other process
(work in process).
o Primary packing wherever essential in order to sell the product

Examples
o Main ingredient - Plastic used in the production of pens. Leather used to make leather
shoes.
o Spares and parts - Nuts used in the assembling of cars
o Work in process - Processed ointment in large jars which is transferred to the packing
department where the ointment is transferred to tubes. The ointments in large jars here is a
direct material for the next process of packaging.
o Primary packing - The cartons, in which the milk is packed, are a direct material as the
product “milk cartons” cannot be complete unless milk is packed in the cartons.

Note:
Any material that can be visibly identified in the final product is a direct material and hence the
cost associated with it is a direct cost.
Example of Direct Material
Canvass cloth, used in producing “Canvass bags”, is a visible input in the final product. It is a
direct material.

✓ Labour costs
The remuneration paid to workers who are directly involved in the production process or the
provision of a service is termed labour costs.

Direct labour costs are computed either on the basis of the hours of work put in by the workers or
the number of units produced by them. Labour costs include:
o The cost of labour engaged in the actual production activity.
o Charges paid to special labour engaged in any production activity.

Example
o The salaries of people writing books for a publication company. Generally basic pay and
overtime wages are a part of the direct labour cost.
o The salary of a qualified accountant handling audits in an audit firm.

✓ Direct expenses
Direct expenses include all expenses other than direct material or direct labour that are specifically
incurred for a particular product or process.

Example
o Royalties paid to authors while publishing books
o Freight, or carriage inwards
o Hire charges paid by a construction contractor for hiring a hot mix plant. (cement
mixing machine)

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✓ Overheads
Overheads are all the indirect costs (material, labour and expenses) which are not directly
identifiable with a product. Overheads in the context of production are production overheads.

Indirect expenses incurred in a factory and forming a part of product costs are the production
overheads.

Production overhead costs include:

o Indirect materials
o Indirect labour
o Indirect expenses

These are incurred in relation to the production activity, in the factory or any place of production.

Production overheads are incurred in relation to the ancillary activities of production. Ancillary
activities are activities other than the actual production activity that are essential for a product to
come into existence.

Costs incurred on resources used in production such as:

o Indirect materials - lubricants for machines, fuel used in a factory
o Indirect labour – factory supervisor’s salary, support technicians’ wages, material handlers’
wages
o Indirect expenses - factory utilities, factory depreciation, factory maintenance and repairs

2. Period costs - are not inventoriable and are charged against revenue immediately.
Period costs include non-manufacturing costs, i.e., selling expenses and
administrative expenses.

All the costs incurred from conceptualization to sale of a product, other than those attributable
to production activity, inclusive of administration costs, selling costs, distribution costs,
finance costs and research and development costs are the period costs.

Example
These are costs incurred in relation to a period and not in relation to a product and hence are known
as period costs. They are charged to the statement of profit or loss of the period and not charged
to individual products.

Distinction between product and period costs in valuation of output and inventories
Finished goods or finished products are products that are complete and ready for sale. Finished
goods still in the warehouse are generally valued excluding period costs such as selling,
distribution and administrative overheads etc. Remember, production costs are product costs and
overhead costs are usually period costs.

This is the reason why the finished goods inventory is valued at production costs. The items of
costs that are included in the costs of the finished goods still in the warehouse are called
inventoriable costs.

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Sometimes period costs incurred within the factory itself may be added to the finished goods
inventory cost. This is because these costs are incurred directly to facilitate production.

Example
The salary of the time-keeper in the factory, who keeps a record of the time spent by the workers
at work, is an administrative cost but is still included in the cost of the finished goods. This is
because this cost is spent to facilitate production.

Note:
Closing inventory at the end of the year is valued at production cost since the non-production
costs are usually not yet incurred on this. Non-production costs are charged to the cost of sales of
the product only when it is sold. Costs such as selling and distribution costs will be incurred on
the inventory when it is sold. Until the time these are in finished goods inventory, only production
costs form a part of their cost.

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Review Questions
The following data relates to the monthly output and related costs for Only Clean Plc, a soap
manufacturing
company.
Month Output Total Costs
(Units) Tshs "000"
April 10,000 50,000
May 11,000 54,000
June 12,000 58,000
July 13,000 62,000

Required:
Separate total costs into the fixed and variable elements, apply the high or low method.

Question Two
A company incurs the following costs at various activity levels:
Activity Levels Total Costs
Units Tshs "000"
5,000 250,000
7,500 325,000
10,000 400,000

Required:
(a) Using the high-low method what is the variable cost per unit?
(b) What is the total fixed costs?

Question Three
Summer Ltd produces a product, Winter. For 20X3, production was 10,000 units with total costs
ofTshs150,000,000. For the next year, 20X4, the budget is prepared for the production of 15,000
units with total costs of Tshs220,000,000. The production capacity of the company is 12,000 units
per annum. If the company exceeds its limit, its fixed costs will increase by Tshs 20,000,000.

Required:
(a) What will be the variable costs per unit?
(b) What will be the total fixed costs?

Question Four
Find the production cost per unit from the following details. The total number of units
manufactured is 500. All the units are sold during the year. Assume that there is no opening
and closing inventory.

The cost per unit is as follows:

15
Tshs
Materials 1,500,000
Direct wages 1,200,000
Indirect material 500,000

The total costs incurred are as follows:

Tshs
Indirect wages 500,000
Administration overheads 345,000
Selling and distribution overheads 202,500

Question Five
Sun Co produces a product, M. For each unit of product M, it requires 1kg of material A and 2 kg
of material B. The market prices of materials A and B for the current year are Tshs1,500 and
Tshs2,000 per kg respectively.

Next year, the price of material A will increase by 10%, while the market price of B will remain
as it is. If Sun Co wants to produce 5,000 units of product M next year, calculate the total price of
direct materials.

Question Six
Zeno retailers operate a single retail outlet in Kawe, Dar es Salaam. The profit statements for
September and October 2022 are as follows:
Item September October
Tzs Tzs
Sales 80,000,000.00 90,000,000.00
Cost of sales 50,000,000.00 55,000,000.00
Gross profit 30,000,000.00 35,000,000.00
Selling and distribution costs 8,000,000.00 9,000,000.00
Administration costs 15,000,000.00 15,000,000.00
Profit 7,000,000.00 11,000,000.00

Required:
Use the high-low method to identify the behavior of the costs of sales, selling and distribution
costs and administrative costs in relation to the sales level.

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