Cost Accounting Chapter 2

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In a manufacturing business, the cost of raw materials is a major part of the total manufacturing cost of each product.

Rigid controls over raw materials are necessary not only to guard against theft but also to minimize waste and misuse from causes such as:

• maintenance of excessive

• inventories,

• overissuance,

• deterioration,

• spoilage and

• obsolescence of materials

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• Physical safeguards for receiving, storing, and issuing materials.

• Formal procedures for ordering and paying for materials.

• Perpetual inventory system to provide an ongoing record of the quantity and value of each type of materials received and issued and the balance on hand.

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Modern systems of inventory control include the following features:

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Control

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is achieved in part through an organizational structure that allows specialization at the same time that it defines authority, fixes responsibility, and provides a system of checks and balances.

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• Purchasing Department

• Receiving Department

• Storeroom (stockroom)

• Accounting Department

• Cash Department

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To secure the advantages of specialization and know-how, the functions related to materials acquisition and use are usually subdivided into the following departments:

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Purchasing Department

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This department is charged with the responsibility of placing orders for materials with reliable suppliers, at the right time and at the right price.

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Receiving Department

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This department is charged with the inspection of incoming shipments and verification of the quantities received on order.

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Storeroom (stockroom)

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This department is responsible for protecting materials against physical deterioration and ensuring that stocks are properly issued.

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Accounting Department

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This department records all transactions in the accounts after documentary evidences have been supplied by other departments.

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Cash Department

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This department pays all invoices after approval by the accounting department.

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Checks and balances

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(that is, effective internal control) are provided by making each department independent from the others.

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purchasing agent

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The responsibility for purchasing materials is given to the __________.

This person must buy materials in correct quantities, at the proper time, and at the lowest price.

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purchasing staff/department

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The ____________ keeps informed of various sources of supply, negotiates purchase contracts, prepares purchase orders, and follows up deliveries.

The routine work of the _________ begins with the receipt of a purchase requisition.

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• The frequency at which the materials is used.

• Lead Time

• Safety Stock

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To determine when an item has reached a level at which it should be reordered, the following factors should be considered:

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lead time

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The length of time it takes for the material to be delivered from the supplier after an order has been placed.

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safety stock

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The minimum level of materials that should be maintained to ensure that the company does not run out of materials.

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The standard quantity to be ordered varies from item to item. It should reflect the quantity necessary to get the best price while keeping inventory at an appropriate level to ensure uninterrupted production.

To determine the most advantageous number of units to order, a formula called the economic order quantity has been developed. It is computed as follows:

EOQ = √ 2 x annual requirements x cost of an order / Cost to carry a single item

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the order size increases, the total cost to order decreases and the total cost to carry increases.

the order size decreases, the total cost to order increases and the total cost to carry decreases

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purchase requisition

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Once the materials reach the reorder point, the storeroom supervisor completes a ________________ requesting that materials be ordered.

It is a properly approved, written request for materials and is prepared in duplicate.

• The original copy is sent to the purchasing department as a request for the materials.

• The duplicate copy is retained in the storeroom files.

must be numbered for easy reference.

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purchase order

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is a written authorization to the supplier to ship the specified material.

is prepared in five copies to be distributed as follows:

1. Suppliers - as an authority to deliver the materials

3. Storeroom - as a notification that the materials requested are on order.

4. Receiving Department - as an authorization to accept an incoming shipment.

5. Purchasing Department - (2 copies) for file in unfilled order.

Effective internal control procedures require that all these documents be prenumbered.

At the end of each month, the cost accountant verifies that all numbered ________________ either have been sent to suppliers or are on hand. This ensures that this document are used only for authorized purposes.

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When the purchasing department receives the purchase requisition, source of supply must be selected. Several suppliers may be asked to quote prices or make bids. In choosing the supplier, the purchasing agent considers factors such as:

• dependability,

• quality of material,

• delivery date and

• price.

After choosing the supplier, the purchasing agent prepares a purchase order.

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receiving clerk

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The materials are received by the this person from the supplier.

This person is responsible for unpacking them, checking quantities and transferring them to the storeroom.

This person, upon receipt of the materials, takes out his copy of the purchase order and compares its contents with the shipment.

After counting and inspecting the materials, this person prepares a receiving report.

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receiving report

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This document shows all details of the shipment, including comments on the condition of the materials received.

Its is usually prepared in quadruplicate. The originaland one copy are sent to the purchasing department, where they are compared with the purchase order and the supplier's invoice. One copy accompanies the materials to the storeroom for comparison with the purchase order and entry in the storeroom records. The storeroom supervisor signs the final copy to confirm that the materials have reached thestoreroom. This copy is then kept in the receiving clerk's permanent file.

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stores

stores ledger

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Materials are also called

Materials ledger is sometimes called

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materials ledger card

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The storeroom clerk records the receipt of materials in a subsidiary ledger, the materials ledger, by making an entry on the appropriate ________________

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When the invoice is received from the supplier, it is sent to the purchasing department. Normally the invoice will arrive before the shipment to allow the verification of the purchase order before the shipment is accepted. The purchasing department then compares the supplier's invoice (purchase invoice) with the puchase order and the receiving report tomake sure that:

• Materials ordered have been received in good condition andthese are listed only on the invoice.

• Terms, unit prices, shipping charges, and other details are inaccordance with order specifications.

• Computations are correct

If all documents are in order, the purchase invoice, receiving report, and the purchase order are stapled and filed in a completed purchases folderarranged alphabetically by supplier. Next, a check voucher also called disbursement voucher is preparedwith supporting documents attached to it. Once approved, the voucher is sent to the accounting department for recording.

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voucher register

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In verifying the account distribution against the purchase order, the voucher clerk enters the purchase in the ______________ (Vouchers are prenumbered for control purposes).

The purchase of direct materials or indirect materials is entered as a debit in the Raw Materials column and as a credit in the Vouchers Payable column.

After the entry is made in this document, the voucher is sent to the cash department for filing in the unpaid vouchers file.

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Paying the Voucher

Before the due date, the voucher is removed from the unpaid vouchers file. A staff in the Cash Department prepares a check for the amount in the voucher. The check is then recorded in the check register. The voucher is marked "Paid" by using a rubber stamp and enters the check numberand date paid on the voucher. The check is sent to the supplier, and the voucher is returned to the voucher clerk. The voucher clerk records thecheck number and date of payment in the voucher. The voucher, with invoice and other supporting documents, is then filed in the paid vouchers file.

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disbursement voucher

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is tge basis for the preparation of journal entries to record the purchase and the payment of the invoice.

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On-line purchasing system for materials allows companies to have up-to-date information and improves the organization's purchasing process.

A computerized purchases system has an inventory file, a supplier file, and an open purchase order file in its memory.

Upon receipt of a purchases requisition, the purchasing agent scans the supplier file and chooses a supplier.

The computer prepares a purchase order, and the data in the purchase order is added to the open purchase order file.

When the order arrives, the receiving clerk counts the items and enters it in the receiving room terminal (also indicating which materials must be returned, if any). The computer compares the items ordered (stored in the open purchase order file) with the items received, prepares the receiving report, and updates the open purchase order file, the inventory file, and the supplier file.

A computerized system can provide information about purchases to the various users of the system, thus, improving the process of requisitions.

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bill of materials

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To avoid the problem of insufficiency of materials needed, the production manager may prepare this document when a new sales order is received.

The _________ lists all materials needed on the job and the date they will be needed.

This record enables the storeroom supervisor to check the quantity of material on hand to ensure that sufficient material is available.

To avoid costly delays, the purchasing agent may be required to buy more materials in advance.

The ___________ used by some companies usually contains columns for unit costs and total costs. Such a bill may later be used as a materials requisition.

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debit memorandum

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Damaged or defective materials are immediately returned to the supplier. A note on the return is made on the receiving clerk's copy of the purchase order and on the receiving report.

The purchasing agent then prepares a ___________________.

It is a notice to vendor of a deduction from the invoice for the cost of the returned materials

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credit memorandum

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If the supplier ships more materials than were ordered and the materials are not needed, the purchasing agent normally authorizes their re-turn.

However, if they are retained for future use and the materials have not been included in the supplier's invoice, the purchasing agent prepares a ______________ for the additional cost.

The purchase order may be amended to include the extra materials shipped instead of issuing a this.

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• Order Cycling

• Min-Max

• Two-bin Method

• ABC plan

• Automatic order system

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Five control procedures are commonly used as follows:

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Order Cycling

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This is one of the control procedures which materials are reviewed on a regular cycle, and orders are placed to maintain a desired inventory level.

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Min-max method

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This is one of the control procedures which are minimum and maximum inventory levels are determined. Reordering is done when the minimum level is reached.

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Two-bin method

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This is one of the control procedures that is used for inexpensive items. When the first bin is empty, an order is placed. The second bin provides coverage until the order is received.

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ABC plan

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This is one of the control procedures that is used with a wide variety of items having different values. The more expensive items receive more frequent review and closer monitoring.

A items - most expensive items, usually few on hand.

B items – moderately priced items and moderate quantity onhand.

C items - inexpensive items, generally kept in large quantities.

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Automatic order system

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This is one of the control procedures which an order is automatically placed when the inventory reaches a predetermined level. This system works best when used with a computer.