A to Z Costing Knowledge Glossary — Letter F
Investopedia-style costing concepts explained with formulas, practical examples, comparisons, and exam-focused teaching tips.
1 Factory Overhead
| Category | Overhead Classification |
|---|---|
| Best Used In | Product costing, overhead absorption |
| Key Formula | Factory Overhead Rate = Total Factory Overhead / Total Activity Base |
| Exam Importance | High |
Factory Overhead, also called manufacturing overhead, includes all indirect costs incurred in the factory that cannot be directly traced to specific products, such as factory rent, utilities, depreciation, and indirect labour.
These are production-related indirect costs that must be allocated to products using an overhead absorption rate, as they are essential for production but not directly attributable.
- Product costing and pricing
- Budgeting and cost control
- Departmental overhead rate setting
A manufacturing unit with total factory overhead ₹5,00,000 and 10,000 machine hours computes a factory overhead rate of ₹50 per machine hour to absorb overhead into products.
Factory rent ₹2,00,000, factory power ₹1,00,000, indirect labour ₹1,50,000, depreciation ₹50,000. Total factory overhead ₹5,00,000. If 20,000 labour hours are worked, rate = ₹25 per labour hour.
- Identify all indirect factory costs.
- Choose a suitable absorption base (labour hours, machine hours, units).
- Compute total overhead and total base quantity.
- Divide to get factory overhead rate.
- Apply rate to products based on actual usage of base.
| Factory Overhead vs. Office Overhead | Factory overhead is production-related; office overhead is administrative. |
|---|---|
| Factory Overhead vs. Selling Overhead | Selling overhead relates to sales and distribution; factory overhead is within the factory. |
2 Favorable Variance
| Category | Variance Analysis |
|---|---|
| Best Used In | Performance measurement |
| Key Formula | Favorable if Actual Cost < Standard Cost (or Actual Revenue > Standard) |
| Exam Importance | High |
Favorable Variance occurs when actual results are better than the standard or budgeted amounts, such as lower actual costs or higher actual revenues than planned.
In cost variance analysis, a favorable variance indicates cost savings or efficiency; in revenue variance, it indicates better-than-expected sales.
- Evaluating cost control effectiveness
- Incentive compensation
- Identifying best practices
A company budgets ₹1,00,000 for material but actual spend is ₹90,000. The ₹10,000 favorable variance triggers investigation to understand what went right (e.g., bulk discount) so it can be repeated.
Standard labour cost ₹50,000; actual labour cost ₹48,000. Variance = ₹2,000 favorable, indicating lower wage rates or higher efficiency.
Favorable Revenue Variance = Actual Revenue − Standard Revenue (when positive)
- Determine standard/budgeted amount.
- Determine actual amount.
- Subtract actual from standard for cost variance (or reverse for revenue).
- If result is positive (cost) or actual > standard (revenue), it’s favorable.
- Analyze causes and document.
| Favorable vs. Adverse Variance | Adverse variance is opposite: actual worse than standard. |
|---|---|
| Favorable vs. Ideal Variance | Favorable may still be suboptimal if standards were too loose; ideal variance is from perfect standard. |
3 FIFO (First In First Out)
| Category | Inventory Valuation Method |
|---|---|
| Best Used In | Valuing inventory and cost of goods sold |
| Key Formula | COGS = Cost of oldest units; Ending inventory = Cost of newest units |
| Exam Importance | Very High |
FIFO is an inventory valuation method that assumes the first units purchased or produced are the first ones sold or used, leaving the most recent costs in ending inventory.
Under FIFO, cost of goods sold reflects older costs, while ending inventory is valued at the most recent purchase costs, which better approximates current market value.
- Industries with perishable goods
- Inventory valuation for financial reporting
- Cost of goods sold calculation
A grocery store uses FIFO to ensure older products are sold first. In accounting, FIFO results in lower COGS and higher ending inventory during periods of rising prices.
Beginning inventory 100 units @ ₹10; purchase 200 units @ ₹12; sale 150 units. COGS under FIFO = 100×10 + 50×12 = ₹1,600. Ending inventory = 150 units @ ₹12 = ₹1,800.
Ending Inventory (FIFO) = Sum of costs of most recently purchased units
- Identify quantities and costs of beginning inventory and purchases.
- For each sale, allocate units from oldest batches first.
- Calculate COGS by multiplying allocated units by their respective costs.
- Subtract sold units to get ending inventory quantities.
- Value ending inventory using latest costs.
| FIFO vs. LIFO | LIFO assumes last units bought are sold first, resulting in higher COGS and lower ending inventory during inflation. |
|---|---|
| FIFO vs. Weighted Average | Weighted average blends all costs; FIFO uses specific chronological layers. |
4 Finished Goods
| Category | Inventory Classification |
|---|---|
| Best Used In | Cost of goods sold, inventory valuation |
| Key Formula | Ending Finished Goods = Beginning Finished Goods + Cost of Goods Manufactured − COGS |
| Exam Importance | Medium |
Finished Goods are completed products that are ready for sale but have not yet been sold.
They represent the final stage of inventory, comprising all manufacturing costs (material, labour, overhead) incurred to produce the saleable product.
- Inventory valuation on balance sheet
- Cost of goods sold calculation
- Production planning and sales forecasting
A manufacturer transfers completed products from work-in-process to finished goods inventory. When sold, the cost moves from finished goods to cost of goods sold.
Beginning finished goods ₹1,00,000; cost of goods manufactured ₹5,00,000; ending finished goods ₹1,50,000. COGS = 1,00,000 + 5,00,000 − 1,50,000 = ₹4,50,000.
- Determine beginning finished goods balance.
- Add cost of goods manufactured during period.
- Subtract ending finished goods balance.
- Result is cost of goods sold.
- Used in income statement.
| Finished Goods vs. Work in Process | WIP is partially complete; finished goods are ready for sale. |
|---|---|
| Finished Goods vs. Raw Materials | Raw materials are unprocessed inputs; finished goods are completed outputs. |
5 Fixed Cost
| Category | Cost Behaviour |
|---|---|
| Best Used In | Break-even analysis, budgeting, cost control |
| Key Formula | Total Fixed Cost remains constant; Fixed Cost per unit = Total Fixed Cost / Units produced |
| Exam Importance | Very High |
Fixed Cost is a cost that remains constant in total regardless of changes in the level of activity or output within a relevant range.
Examples include rent, insurance, supervisor salaries, and depreciation. Although total fixed cost is constant, fixed cost per unit decreases as production increases.
- Break-even and CVP analysis
- Flexible budgeting
- Decision making (relevant vs irrelevant)
A factory pays ₹1,00,000 per month rent regardless of producing 1,000 or 10,000 units. This fixed cost is used to compute break-even point and absorption overhead rates.
Fixed cost ₹2,00,000; production 10,000 units. Fixed cost per unit = ₹20. If production doubles to 20,000 units, fixed cost per unit drops to ₹10.
- Identify costs that do not change with output (rent, salaries).
- Sum them to get total fixed cost.
- For per-unit cost, divide by production volume.
- Use total fixed cost in break-even formula.
- Monitor changes over relevant range.
| Fixed Cost vs. Variable Cost | Variable cost changes proportionately with activity; fixed cost remains constant in total. |
|---|---|
| Fixed Cost vs. Semi-variable Cost | Semi-variable has both fixed and variable components. |
6 Fixed Budget
| Category | Budgeting |
|---|---|
| Best Used In | Stable production environments |
| Key Formula | No formula; budget set for a single level of activity |
| Exam Importance | Medium |
A Fixed Budget, also called a static budget, is prepared for a single level of activity and does not adjust for changes in actual output or sales.
It is a budget set at the beginning of a period based on a projected level of activity and remains unchanged even if actual activity differs.
- Stable, predictable operations
- Cost control in government and non-profits
- Initial planning and target setting
A company expects to produce 10,000 units and prepares a fixed budget accordingly. If actual production is 8,000 units, the fixed budget is not recalculated; variance analysis may be less meaningful.
Fixed budget for production: direct material ₹1,00,000, labour ₹50,000, overhead ₹30,000 = total ₹1,80,000 for 10,000 units. Actual production 9,000 units with total cost ₹1,70,000. Fixed budget variance = 1,70,000 − 1,80,000 = ₹10,000 favorable, but not adjusted for volume.
- Project a single expected level of activity.
- Prepare cost and revenue estimates for that level.
- Use as benchmark for comparison.
- When actual differs, compute variance without adjusting budget.
- Recognize limitations for performance evaluation.
| Fixed Budget vs. Flexible Budget | Flexible budget adjusts for different activity levels; fixed budget remains static. |
|---|---|
| Fixed Budget vs. Rolling Budget | Rolling budget is continuously updated; fixed budget is for a set period. |
7 Fixed Overhead Total Variance
| Category | Standard Costing / Variance Analysis |
|---|---|
| Best Used In | Evaluating fixed overhead control |
| Key Formula | Fixed OH Total Variance = Absorbed Fixed OH − Actual Fixed OH |
| Exam Importance | High |
Fixed Overhead Total Variance is the difference between the fixed overhead absorbed into production (based on standard hours) and the actual fixed overhead incurred.
It indicates whether fixed overheads were over- or under-absorbed during the period, and can be split into expenditure and volume variances.
- Overhead control
- Performance evaluation
- Inventory valuation
A company absorbs fixed overhead at ₹20 per standard hour. Standard hours for actual output 5,000; absorbed fixed OH = ₹1,00,000. Actual fixed OH incurred ₹1,10,000. Total variance = ₹10,000 adverse.
Budgeted fixed overhead ₹1,20,000; budgeted hours 6,000; standard hours for actual production 5,500; actual fixed overhead ₹1,15,000. Absorption rate = 1,20,000/6,000 = ₹20/hr. Absorbed = 5,500 × 20 = ₹1,10,000. Total variance = 1,10,000 − 1,15,000 = ₹5,000 adverse.
- Compute standard fixed overhead absorption rate.
- Determine standard hours for actual production.
- Multiply to get absorbed fixed overhead.
- Subtract actual fixed overhead incurred.
- Split into expenditure and volume variances for deeper analysis.
| Fixed OH Total Variance vs. Fixed OH Expenditure Variance | Expenditure variance is difference between budgeted and actual; total includes volume effect. |
|---|---|
| Fixed OH Total Variance vs. Fixed OH Volume Variance | Volume variance is difference between budgeted and absorbed due to output level. |
8 Fixed Overhead Expenditure Variance
| Category | Standard Costing / Variance Analysis |
|---|---|
| Best Used In | Controlling fixed overhead spending |
| Key Formula | Budgeted Fixed OH − Actual Fixed OH |
| Exam Importance | High |
Fixed Overhead Expenditure Variance (also called spending variance) is the difference between the budgeted fixed overhead and the actual fixed overhead incurred during the period.
It isolates the effect of spending more or less than planned on fixed overhead items, independent of production volume.
- Cost control of fixed expenses
- Performance evaluation of cost centre managers
- Budget review
Budgeted fixed overhead ₹1,00,000; actual ₹1,05,000. Expenditure variance = ₹5,000 adverse, indicating overspending on fixed items.
Budgeted fixed costs: rent ₹20,000, salaries ₹40,000, insurance ₹10,000 = ₹70,000. Actual: rent ₹20,000, salaries ₹45,000, insurance ₹12,000 = ₹77,000. Expenditure variance = 70,000 − 77,000 = ₹7,000 adverse.
- Determine budgeted fixed overhead for the period.
- Determine actual fixed overhead incurred.
- Subtract actual from budgeted.
- Positive = favorable, negative = adverse.
- Investigate significant variances by line item.
| Expenditure Variance vs. Volume Variance | Expenditure is spending; volume is output level effect. |
|---|---|
| Expenditure Variance vs. Total Variance | Total includes both expenditure and volume. |
9 Fixed Overhead Volume Variance
| Category | Standard Costing / Variance Analysis |
|---|---|
| Best Used In | Measuring capacity utilization effect |
| Key Formula | Absorbed Fixed OH − Budgeted Fixed OH |
| Exam Importance | High |
Fixed Overhead Volume Variance is the difference between the fixed overhead absorbed into production (based on standard hours for actual output) and the budgeted fixed overhead for the period.
It arises solely due to the difference between actual production volume (measured in standard hours) and budgeted volume, not because of cost changes.
- Capacity utilization analysis
- Inventory valuation under absorption costing
- Performance measurement of production volume
A company budgeted 10,000 hours but achieved only 8,000 standard hours. Budgeted fixed overhead ₹2,00,000; absorption rate ₹20/hour. Absorbed = 8,000×20 = ₹1,60,000; budgeted = ₹2,00,000. Volume variance = ₹40,000 adverse (under-absorption due to lower volume).
Budgeted fixed overhead ₹1,50,000; budgeted hours 7,500; standard hours for actual output 8,000. Absorption rate = ₹20/hr. Absorbed = ₹1,60,000. Volume variance = 1,60,000 − 1,50,000 = ₹10,000 favorable (higher volume absorbed more).
- Determine budgeted fixed overhead and budgeted hours.
- Compute standard fixed overhead absorption rate.
- Determine standard hours for actual output.
- Multiply standard hours by absorption rate to get absorbed fixed overhead.
- Subtract budgeted fixed overhead.
| Volume Variance vs. Efficiency Variance | Volume variance arises from total output level; efficiency variance relates to hours used for that output. |
|---|---|
| Volume Variance vs. Capacity Variance | Capacity variance is a sub-variance of volume due to actual hours differing from budgeted hours. |
10 Fixed Overhead Efficiency Variance
| Category | Standard Costing / Variance Analysis |
|---|---|
| Best Used In | Measuring labour efficiency impact on fixed overhead absorption |
| Key Formula | (Standard Hours for Actual Output − Actual Hours) × Fixed OH Rate per Hour |
| Exam Importance | Medium |
Fixed Overhead Efficiency Variance is the portion of fixed overhead volume variance that arises due to the difference between standard hours allowed for actual output and actual hours worked.
It isolates the effect of labour efficiency (or inefficiency) on the absorption of fixed overheads, valued at the standard fixed overhead rate per hour.
- Labour efficiency analysis
- Overhead absorption efficiency
- Sub-variance analysis for volume variance
Standard hours for actual output 9,000; actual hours 8,500; fixed overhead rate ₹30/hour. Efficiency variance = (9,000-8,500)×30 = ₹15,000 favorable (workers more efficient, absorbed more overhead per hour).
Standard hours 10,000; actual hours 10,500; fixed OH rate ₹25/hr. Efficiency variance = (10,000-10,500)×25 = ₹12,500 adverse (less efficient, fewer hours absorbed).
- Determine standard hours allowed for actual output.
- Record actual hours worked.
- Compute difference.
- Multiply by fixed overhead rate per hour.
- Interpret: favorable if standard > actual.
| Efficiency Variance vs. Capacity Variance | Capacity variance = (Actual Hours − Budgeted Hours) × Rate; efficiency = (Standard Hours − Actual Hours) × Rate. |
|---|---|
| Efficiency Variance vs. Labour Efficiency Variance | Labour efficiency uses labour rate; fixed OH efficiency uses fixed OH rate. |
11 Fixed Overhead Capacity Variance
| Category | Standard Costing / Variance Analysis |
|---|---|
| Best Used In | Measuring utilization of budgeted capacity |
| Key Formula | (Actual Hours Worked − Budgeted Hours) × Fixed OH Rate per Hour |
| Exam Importance | Medium |
Fixed Overhead Capacity Variance is the difference between the budgeted hours and the actual hours worked, multiplied by the fixed overhead rate per hour. It measures whether capacity was fully utilized.
It arises because actual hours differ from budgeted hours, affecting the absorption of fixed overheads.
- Capacity utilization analysis
- Overhead absorption control
- Sub-variance analysis of volume variance
Budgeted hours 8,000; actual hours 7,500; fixed OH rate ₹25/hour. Capacity variance = (7,500-8,000)×25 = ₹12,500 adverse (under-utilized capacity).
Budgeted hours 10,000; actual hours 10,500; fixed OH rate ₹20/hr. Capacity variance = (10,500-10,000)×20 = ₹10,000 favorable (extra hours worked).
- Determine budgeted hours for the period.
- Record actual hours worked.
- Compute difference.
- Multiply by fixed overhead rate per hour.
- Interpret: favorable if actual > budgeted.
| Capacity Variance vs. Efficiency Variance | Capacity uses actual hours vs budgeted hours; efficiency uses standard hours vs actual hours. |
|---|---|
| Capacity Variance vs. Volume Variance | Volume variance = capacity variance + efficiency variance. |
12 Fixed Overhead Calendar Variance
| Category | Standard Costing / Variance Analysis |
|---|---|
| Best Used In | Adjusting for differences in working days |
| Key Formula | (Actual Working Days − Budgeted Working Days) × Budgeted Fixed OH per Day |
| Exam Importance | Low |
Fixed Overhead Calendar Variance is the variance arising due to the difference between the number of actual working days and the budgeted working days in a period, affecting the absorption of fixed overheads.
It is a sub-variance of capacity variance that isolates the impact of more or fewer working days (e.g., holidays, extra shifts) on fixed overhead absorption.
- Seasonal production variations
- Overhead absorption in industries with variable working days
- Refining volume variance analysis
Budgeted working days 25; actual working days 24. Budgeted fixed overhead per day ₹4,000. Calendar variance = (24-25)×4,000 = ₹4,000 adverse (one less working day).
Budgeted working days 22; actual 23. Budgeted fixed overhead per day ₹5,000. Calendar variance = (23-22)×5,000 = ₹5,000 favorable (extra working day).
- Determine budgeted working days and budgeted fixed overhead per day.
- Determine actual working days.
- Compute difference in days.
- Multiply by daily fixed overhead rate.
- Interpret: favorable if more actual days.
| Calendar Variance vs. Capacity Variance | Capacity variance may include calendar effect; calendar variance isolates the days effect. |
|---|---|
| Calendar Variance vs. Volume Variance | Volume variance is broader; calendar is a sub-part. |
13 Flexible Budget
| Category | Budgeting |
|---|---|
| Best Used In | Performance evaluation at varying activity levels |
| Key Formula | Flexible Budget = Fixed Costs + (Variable Cost per Unit × Actual Activity Level) |
| Exam Importance | High |
A Flexible Budget is a budget that adjusts or flexes for changes in activity level, providing a more meaningful comparison with actual results.
It is prepared for a range of activity levels or can be flexed to actual volume, separating fixed and variable costs to reflect what costs should have been at the actual level.
- Performance evaluation
- Variance analysis
- Cost control in fluctuating production
A company prepares a flexible budget for 8,000, 10,000, and 12,000 units. When actual production is 11,000 units, the flexible budget for that level is used to compute variances, unlike a fixed budget.
Fixed cost ₹50,000, variable cost ₹10/unit. Actual production 9,000 units. Flexible budget = 50,000 + (10×9,000) = ₹1,40,000. Actual total cost ₹1,50,000 gives adverse variance ₹10,000.
- Separate costs into fixed and variable.
- Determine actual activity level.
- Compute flexible budget using formula.
- Compare with actual results to find variances.
- Analyze variances for control.
| Flexible Budget vs. Fixed Budget | Fixed budget is static; flexible budget adjusts to activity. |
|---|---|
| Flexible Budget vs. Rolling Budget | Rolling budget updates over time; flexible budget adjusts for volume. |
14 Flow of Costs
| Category | Cost Accumulation |
|---|---|
| Best Used In | Understanding inventory and COGS movement |
| Key Formula | RM → WIP → FG → COGS |
| Exam Importance | Medium |
Flow of Costs refers to the path costs take through the manufacturing process, from raw materials to work-in-process to finished goods, and finally to cost of goods sold.
In manufacturing accounting, costs flow through inventory accounts as production progresses, ultimately becoming an expense when products are sold.
- Cost accounting system design
- Inventory valuation
- Preparing financial statements
Raw materials are issued to production, become WIP with labour and overhead, then finished goods when complete, and finally COGS when sold. This flow is tracked in ledger accounts.
Beginning RM ₹20,000; purchases ₹80,000; ending RM ₹15,000. RM used = ₹85,000. Add direct labour and overhead to get WIP. Completed goods move to FG; sold goods become COGS.
- Record purchases of raw materials.
- Issue materials to production, transferring cost to WIP.
- Add labour and overhead to WIP.
- Transfer completed units to finished goods.
- When sold, transfer cost to COGS.
| Flow of Costs vs. Cost Allocation | Flow of costs is the sequential movement; allocation is assigning shared costs to objects. |
|---|---|
| Flow of Costs vs. Cost Tracing | Tracing is direct assignment; flow is the overall path. |
15 Freight Inward
| Category | Cost Element / Inventory Cost |
|---|---|
| Best Used In | Valuing raw material purchases |
| Key Formula | Freight Inward added to purchase cost of materials |
| Exam Importance | Medium |
Freight Inward is the transportation cost incurred to bring raw materials or goods into the factory or warehouse. It is considered part of the cost of purchases.
Also called carriage inward, it is added to the purchase price of materials to determine their total landed cost, and is included in inventory valuation.
- Inventory valuation
- Cost of raw materials
- COGS calculation
A company purchases raw material for ₹1,00,000 and pays ₹5,000 for freight inward. The total cost of material is ₹1,05,000, which is used for valuation and issue pricing.
Purchase cost ₹2,00,000; freight inward ₹12,000. Total inventory cost = ₹2,12,000. If materials are issued to production, the issue price includes the freight.
- Record invoice cost of materials.
- Add freight inward charges.
- Add any other direct charges (e.g., loading, insurance).
- Use total as cost of purchase.
- Include in inventory valuation and issue to production.
| Freight Inward vs. Freight Outward | Freight inward is on purchases; freight outward is on sales and is a selling expense. |
|---|---|
| Freight Inward vs. Transportation Cost | Same concept; transportation cost may be broader. |
16 Freight Outward
| Category | Selling and Distribution Overhead |
|---|---|
| Best Used In | Costing delivery expenses to customers |
| Key Formula | Freight Outward included in selling and distribution overhead |
| Exam Importance | Medium |
Freight Outward is the transportation cost incurred to deliver finished goods from the company to customers. It is a selling and distribution expense.
Also called carriage outward, it is not part of product cost but is charged to profit and loss as part of selling and distribution overheads.
- Income statement preparation
- Cost sheet (selling overhead section)
- Pricing decisions considering total cost to customer
A company pays ₹50,000 to deliver goods to customers. This is freight outward, reported as a selling expense on the income statement, not capitalized into inventory.
Total freight outward for the period ₹30,000. In cost sheet, it appears under selling and distribution overhead, increasing total cost of sales.
- Record actual freight outward expenses.
- Classify as selling and distribution overhead.
- Include in selling overhead section of cost sheet.
- Charge to income statement as period expense.
- Analyze for control and possibly include in pricing as total delivered cost.
| Freight Outward vs. Freight Inward | Inward is purchase cost; outward is selling cost. |
|---|---|
| Freight Outward vs. Delivery Expense | Same concept; delivery expense may include other logistics costs. |
17 Full Costing
| Category | Costing Methodology |
|---|---|
| Best Used In | Absorption costing, pricing decisions |
| Key Formula | Full Cost = Direct Costs + Allocated Fixed and Variable Overheads |
| Exam Importance | High |
Full Costing, also known as absorption costing, is a method where all manufacturing costs (direct and indirect, fixed and variable) are included in the cost of a product.
It ensures that every product bears a share of all costs incurred, providing a complete cost figure for financial reporting and long-term pricing.
- External financial reporting
- Inventory valuation
- Long-term pricing decisions
A company uses full costing to value closing stock at total production cost, including fixed factory overheads, as required by accounting standards.
Direct material ₹100, direct labour ₹50, variable overhead ₹20, fixed overhead ₹30. Full cost per unit = ₹200. Under marginal costing, cost would be ₹170 (excluding fixed).
- Accumulate all direct costs.
- Accumulate all indirect manufacturing costs, both fixed and variable.
- Absorb overheads into product using appropriate rates.
- Sum to get full cost.
- Use for inventory valuation and pricing.
| Full Costing vs. Marginal Costing | Marginal costing excludes fixed costs from product cost; full costing includes them. |
|---|---|
| Full Costing vs. Variable Costing | Same as marginal costing. |
18 Full Cost Pricing
| Category | Pricing Strategy |
|---|---|
| Best Used In | Setting prices based on total cost plus markup |
| Key Formula | Selling Price = Full Cost per Unit + Markup% |
| Exam Importance | Medium |
Full Cost Pricing is a pricing method where the selling price is determined by adding a markup to the full cost of the product to ensure all costs are covered and a profit margin is achieved.
It uses absorption costing data to set prices that recover all costs (variable and fixed) and provide a desired return.
- Long-term pricing decisions
- Custom manufacturing with unique jobs
- Government contracts and cost-plus pricing
A company computes full cost of a product as ₹500 and applies a 20% markup, resulting in a selling price of ₹600.
Full cost per unit ₹400; desired profit 25% on cost. Markup = ₹100. Selling price = ₹500.
- Calculate full cost per unit using absorption costing.
- Determine desired markup percentage based on ROI or industry norm.
- Apply markup to cost.
- Set as selling price.
- Adjust based on market conditions.
| Full Cost Pricing vs. Marginal Cost Pricing | Marginal cost pricing uses variable cost plus contribution; full cost pricing uses total cost plus markup. |
|---|---|
| Full Cost Pricing vs. Target Costing | Target costing starts with market price and subtracts margin; full cost pricing starts with cost and adds margin. |
19 Functional Budget
| Category | Budgeting |
|---|---|
| Best Used In | Planning for specific functions/departments |
| Key Formula | Functional Budget = Budget for a specific function (e.g., production budget, sales budget) |
| Exam Importance | Medium |
A Functional Budget is a budget prepared for a specific function or department within an organization, such as sales, production, marketing, or administration.
It is a component of the master budget, providing detailed plans for each functional area, which are then consolidated.
- Sales budget
- Production budget
- Marketing budget, R&D budget, etc.
A company prepares a sales budget for the sales department, a production budget for the factory, and a marketing budget for the marketing team. These are functional budgets.
Sales budget: 10,000 units at ₹100 = ₹10,00,000. Production budget: 11,000 units to allow for inventory. Both are functional budgets.
- Identify all functions/departments.
- For each, determine the appropriate activity driver and budget basis.
- Prepare individual budgets with relevant formulas.
- Review and consolidate into master budget.
- Monitor actual vs budget for each function.
| Functional Budget vs. Master Budget | Master budget consolidates all functional budgets plus cash and budgeted financial statements. |
|---|---|
| Functional Budget vs. Fixed Budget | Fixed budget is static; functional budget may be fixed or flexible depending on function. |
20 First Stage Allocation
| Category | Overhead Distribution |
|---|---|
| Best Used In | Assigning overheads to cost centres |
| Key Formula | Overhead allocated to cost centre = Total Overhead × (Cost Centre’s Base / Total Base) |
| Exam Importance | Low |
First Stage Allocation is the initial process of assigning overhead costs to cost centres or cost pools based on an appropriate basis, before they are further allocated to cost objects.
It is the first step in overhead distribution where shared costs are apportioned to production and service departments using bases like floor area, headcount, or machine hours.
- Departmental overhead rates
- Activity-based costing setup
- Building accurate cost pools
Factory rent ₹1,00,000 is apportioned to Cutting, Assembly, and Finishing based on floor area. This is first stage allocation. Later, these departmental costs are applied to products.
Total factory rent ₹60,000; floor areas: Cutting 2,000 sq ft, Assembly 3,000 sq ft, Finishing 1,000 sq ft (total 6,000). Allocation: Cutting 20,000, Assembly 30,000, Finishing 10,000.
- Identify all overhead items.
- Choose appropriate allocation bases for each.
- Compute each department’s share of base.
- Multiply overhead by share to allocate.
- Sum allocations to get departmental overhead totals.
| First Stage vs. Second Stage Allocation | First stage assigns to cost centres; second stage assigns from cost centres to products. |
|---|---|
| First Stage Allocation vs. Apportionment | Apportionment is the method used in first stage for shared costs. |
21 Factory Ledger
| Category | Cost Accounting Records |
|---|---|
| Best Used In | Maintaining manufacturing cost records separately |
| Key Formula | Factory Ledger = separate ledger for factory transactions |
| Exam Importance | Low |
A Factory Ledger is a separate ledger maintained by a manufacturing company to record all factory-related transactions, including materials, labour, overheads, and work-in-process, independent of the financial ledger.
It facilitates detailed cost recording and control, often linked to the financial ledger via a control account.
- Large manufacturing organizations
- Cost accounting system integration
- Segregating cost and financial records
A company records material issues, wages, and overheads in the factory ledger, while the financial ledger only receives summary entries through control accounts.
Factory ledger shows Raw Materials, WIP, Finished Goods, and Factory Overhead accounts. The Financial Ledger has a “Factory Ledger Control” account to reconcile totals.
- Set up factory ledger accounts for all cost elements.
- Record factory transactions in appropriate accounts.
- Maintain a control account in financial ledger.
- Reconcile periodically.
- Use for internal cost reporting.
| Factory Ledger vs. Financial Ledger | Factory ledger has detailed cost data; financial ledger has summarized financial data. |
|---|---|
| Factory Ledger vs. Cost Ledger | Cost ledger is another name for factory ledger or a broader cost accounting ledger. |
22 Fixed Production Overhead
| Category | Overhead Classification |
|---|---|
| Best Used In | Absorption costing, inventory valuation |
| Key Formula | Fixed production overhead rate = Budgeted Fixed Production OH / Budgeted Activity Level |
| Exam Importance | High |
Fixed Production Overhead refers to the fixed indirect manufacturing costs that do not vary with production volume, such as factory rent, salaries of production supervisors, and depreciation of plant.
These costs remain constant in total within a relevant range and are absorbed into product cost under absorption costing.
- Absorption costing
- Inventory valuation
- Variance analysis for fixed overheads
A company budgets fixed production overhead ₹2,00,000 for 20,000 machine hours. Absorption rate = ₹10 per machine hour. Products absorb ₹10 for each machine hour used.
Fixed production overhead ₹1,50,000; budgeted labour hours 15,000; rate = ₹10 per labour hour. A job using 100 labour hours absorbs ₹1,000 fixed overhead.
- Determine total fixed production overheads for the period.
- Select an appropriate activity base.
- Compute absorption rate.
- Multiply rate by actual activity of each product to absorb overhead.
- Compare with actual incurred for variance analysis.
| Fixed vs. Variable Production Overhead | Variable overhead changes with activity; fixed remains constant in total. |
|---|---|
| Fixed Production Overhead vs. Fixed Selling Overhead | Fixed selling overhead is not part of product cost; fixed production overhead is. |
