NATIONAL INSTITUTE OF BUSINESS MANAGEMENT
12.2
Table of Contents
Acknowledgement ......................................................................................................... 1
Introduction .................................................................................................................... 2
Stock .............................................................................................................................. 3
Stock Ledgers ............................................................................................................. 3
Simple Average Method ......................................................................................... 3
Last-In, First-Out (LIFO) Method .......................................................................... 4
Fist-In, First-Out (FIFO) Method ........................................................................... 5
Weighted Average Method ..................................................................................... 7
Stock Levels ............................................................................................................. 10
Re order Level ...................................................................................................... 10
Minimum Stock Level .......................................................................................... 10
Maximum Stock Level ......................................................................................... 10
Average Stock Level ............................................................................................ 11
Economic Order Quantity (EOQ) ............................................................................ 11
Costing ......................................................................................................................... 13
Short Term Decision Making....................................................................................... 21
Activity Based Costing ................................................................................................ 26
Capital Budgeting ........................................................................................................ 27
NPV - Net Present Value ...................................................................................... 27
Calculating Net Present Value ................................................................................. 28
Advantages of NPV method ................................................................................. 28
Disadvantages of NPV method............................................................................. 28
Standard Costing & Variance ...................................................................................... 29
Budgeting ..................................................................................................................... 32
Cash Budgeting ........................................................................................................ 33
Flexible Budgeting ................................................................................................... 34
Material Budget, ....................................................................................................... 34
Findings and Conclusion.............................................................................................. 35
Managerial Accounting
| Acknowledgement
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NATIONAL INSTITUTE OF BUSINESS MANAGEMENT
12.2
Acknowledgement
First and foremost, we would like to
mention of our Course Director
Mr. Sanjaya Jayasooriya
For giving us his valuable advices and
support.
And, we are very grateful for
The Authority of National Institute of
Business Management (NIBM),
For providing a good environment and
facilities to complete this report.
Finally, we would like to convey our
sincere gratitude to our 12.2 batch
members and NIBM senior students for
their support and guidance throughout
this assignment.
Managerial Accounting
| Acknowledgement
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12.2
Introduction
Accounting is a specialized information system. Its purpose is to provide economic
information concerning the past, current, or expected future activities of an
organization to such diverse groups as managers, investors, creditors, taxing
authorities, regulatory agencies, labor unions, and the general public. Accounting is
traditionally divided in to financial accounting and managerial accounting on the basis
of the relationship between the organization and the user groups to whom information
is supplied.
Accounting can be classified in to two areas. There are,
 Financial Accounting
In financial accounting accountants provide information to external parties for
decision making. They are Creditors, Banks, Government and Shareholders.
 Management Accounting
In management accounting accountants mainly focused on internal
parties such as managers and employees and provide information for
their decision making.
Difference between Financial Accounting and Management Accounting,
Financial Accounting



Management accounting
Mainly focused on external

Mainly
focused
on
internal
parties and financial accounting
parties, management accounting
reports describe the whole of
reports describe the small parts of
the organization.
the organization.
Financial accounting describes

Management accounting provides
what has happened in the past
the information about the future &
in an organization.
also past.
The details are publish the
annually or semi annually.
Managerial Accounting

The details are publishing in
quickly if it is to act on it
| Introduction
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Stock
Stock Ledgers
Stock Ledge Methods




Simple Average
FIFO ( First In First Out)
LIFO ( Last In Last Out)
Weighted Average
Simple Average Method
In cost accounting, we can calculate the value of material issue on the basis of simple
average price method. Under this method, we can calculate the total of unit cost of
each purchase and then it is divided by total no. of units.
Suppose, you have bought the material
1st time
500 units at Rs. 3
2nd time
600 units at Rs. 4
3rd time
200 units at Rs. 2
Materials issue with,
Simple average method = Total of unit cost of each purchase
Total no. of unit cost
Advantages of Simple Average Method
Main advantages of simple average method are as follows:

Simple average method is very suitable when materials are received in uniform
lot quantities.

Simple average method is very easy to operate.

Simple average method reduces clerical work.
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Disadvantages of Simple Average Method
Major disadvantages of simple average method are as follows:

If the quantity in each lot varies widely, the average price will lead to
erroneous costs.

Costs are not fully recovered.

Closing stock is not valued at the current assets.
Last-In, First-Out (LIFO) Method
Last-In, First-Out is one of the common techniques used in the valuation of inventory
on hand at the end of a period and the cost of goods sold during the period. LIFO
assumes that goods which made their way to inventory (after purchase, manufacture
etc.) later are sold first and those which are manufactured or acquired early are sold
last. Thus LIFO assigns the cost of newer inventory to cost of goods sold and cost of
older inventory to ending inventory account. This method is exactly opposite to firstin, first-out method.
Last-In,
First-Out
method
is
used
differently
under
periodic
inventory
system and perpetual inventory system. Let us use the same example that we used in
FIFO method to illustrate the use of last-in, first-out method.
The advantages and disadvantages of LIFO method are as follows:
Advantages of LIFO Method

The cost of materials issued will be either nearer to and or will reflect the
current market price. Thus, the cost of goods produced will be related to the
trend of the market price of materials. Such a trend in price of materials
enables the matching of cost of production with current sales revenues.

The use of the method during the period of rising prices does not reflect undue
high profit in the income statement as it was under the first-in-first-out or
average method. In fact, the profit shown here is relatively lower because the
cost of production takes into account the rising trend of material prices.

In the case of falling prices profit tends to rise due to lower material cost, yet
the finished products appear to be more competitive and are at market price.

Over a period, the use of LIFO helps to iron out the fluctuations in profits.
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
12.2
In the period of inflation LIFO will tend to show the correct profit and thus
avoid paying undue taxes to some extent.
The disadvantages and disadvantages of LIFO method are as follows:
Disadvantages of LIFO Method

Calculation under LIFO system becomes complicated and cumbersome when
frequent purchases are made at highly fluctuating rates.

Costs of different similar batches of production carried on at the same time
may differ a great deal.

In time of falling prices, there will be need for writing off stock value
considerably to stick to the principle of stock valuation, i.e., the cost or the
market price whichever is lower.

This method of valuation of material is not acceptable to the income tax
authorities.
Fist-In, First-Out (FIFO) Method
FIFO was the traditional method used by most businesses before inflation became
common. Under FIFO, the goods you receive first are the goods you sell first. Under
this method, you value inventory at its most recent price. FIFO is usually used during
periods of relatively low inflation since high inflation and increasing replacement
costs tend to skew inventory accounting figures.
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The following are the main advantages of FIFO Method:
Advantages of FIFO Method

The main advantage of FIFO method is that it is simple to understand and easy
to operate.

It is a logical method because it takes into consideration the normal procedure
of utilizing first those materials which are received first. Materials are issued
in order of purchases, so materials received first are utilized first.

Under this method, materials are issued at the purchase price; so the cost of
jobs or work orders is correctly ascertained so far as cost of materials is
concerned. Thus, the method recovers the cost price of the materials.

This method is useful when prices are falling.

Closing stock of materials will be valued at the market price as the closing
stock under this method would consist of recent purchase of materials.

This method is also useful when transactions are not too many and prices of
materials are fairly steady.
The following are the main Disadvantages of FIFO Method:
Disadvantages of FIFO Method

This method increases the possibility or clerical errors, if consignments are
received frequently at fluctuating prices as very time an issue of materials is
made, the store ledger clerk will have to go through his record to ascertain the
price to be charged.

In case of fluctuations in prices of materials, comparison between one job and
the other job becomes difficult because one job started a few minutes later
than another of the same nature may be issued materials at different prices,
merely because the earlier job exhausted the supply of the lower priced
materials in stock.

For pricing rise, the issue price does not reflect the market price as materials
are issued from the earliest consignments. Therefore, the charge to production
is low because the cost of replacing the material consumed will be higher than
the price of issue.
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Weighted Average Method
Method in calculation in which the weighted average cost per unit for the period is the
cost of the goods available for sale divided by the number of units available for sale.
When the perpetual inventory system is used, the weighted average method is called
the moving average method.
Advantages of this method are as under:
Advantages of Weighted Average Method

The weighted average method minimizes the effect of unusual high and low
material prices.

The weighted average method is practical and suitable for charging cost of
material used to production

It is useful for management in analyzing operating results.

This method is simple to apply if receipts of material are not numerous.
The main disadvantages of this method are as under:
Disadvantages of Weighted Average Method

Materials used may not be charged to production at the current price.

The costs charged to production are not the actual prices.

If the receipts are numerous, many calculations are required and the process
may become complicated.
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Examples for costing methods:
12/01
There were 10,000 units cost of Rs.10 at the stores
12/05
20,000 units each cost of Rs. 12 were purchased
12/15
15,000 units were issued
12/20
8,000 units each cost of Rs. 14 were purchased
12/23
Purchase 12,000 units at Rs. 15 each
12/25
12,000 units were issued
12/28
1,000 units were damaged
FIFO Method,
Changes in Stock
12/=
14/=
15/=
10000
(10000)
20000
(5000)
15000
(10000)
5000
(1000)
1000
8000
12000
Da
te
10/=
1-Dec
5-Dec
Received
Quantity Price
Total
20000
12
FIFO Method
Issued/Damaged
Quantity Price
Total
240000
10000
5000
15-Dec
20-Dec
23-Dec
25-Dec
28-Dec
8000
12000
14
15
Managerial Accounting
100000
60000
160000
15000
180000
120000
12000
23000
35000
25000
24000
292000
472000
352000
340000
112000
180000
10000
1000
| Stock
12
12
Balance
Quatity Total
10000
100000
30000
340000
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LIFO Method
Changes in Stock
12/=
14/=
15/=
10000
20000
(15000)
5000
8000
12000
(10000)
2000
(1000)
1000
Da
te
10/=
1-Dec
5-Dec
15-Dec
20-Dec
23-Dec
25-Dec
28-Dec
Received
Quantity Price
Total
LIFO Method
Issued/Damaged
Quantity Price
Total
20000
12
240000
8000
12000
14
15
112000
180000
15000
12
10000
1000
15
15
Balance
Quatity Total
10000
100000
30000
340000
180000
15000
160000
23000
272000
35000
452000
150000
25000
302000
15000
24000
287000
Da
te
Weighted Average Method
1-Dec
5-Dec
15-Dec
20-Dec
23-Dec
25-Dec
28-Dec
Weighted Average Method
Received
Issued/Damaged
Quantity Price
Total
Quantity Price
Total
20000
12
240000
8000
12000
14
15
112000
180000
Managerial Accounting
15000
11.3
10000
1000
13.2
13.2
| Stock
Balance
Quatity Total
10000
100000
30000
340000
170000
15000
170000
23000
282000
35000
462000
132000
25000
330000
13200
24000
316800
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12.2
Stock Levels
Under the stock levels we can identify the 4 levels there are,
1. Re order Level
2. Minimum Stock Level
3. Maximum Stock Level
4. Average Stock Level
5. Economic Order Quantity Level (EOQ)
Re order Level
Reorder level is the inventory level at which a company would place a new order or
start a new manufacturing run.
Reorder Level = Maximum Consumption × Maximum Lead Time
Maximum lead time is the time it takes the supplier or the manufacturing process to
provide the ordered units.
Maximum Consumption is the number of maximum units used each day.
Minimum Stock Level
Purpose of keeping minimum stock level is to enable the stock controller to avoid
running out stock.
Minimum Stock Level = Re order level – (Average Consumption ×Average Lead
Time)
Maximum Stock Level
To avoid cash being tied up in holding unnecessary high levels of stocks, some
businesses set up maximum level of stocks to be held at any one time. The formula to
determine the maximum level of stock to be held is,
Maximum Stock Level = Re order level + EOQ – (Minimum Consumption ×
Minimum Lead Time)
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Average Stock Level
Average stock level shows the average stock held by a firm. The average stock level
can be calculated with the help of following formula.
Average Stock Level = (Minimum Stock Level + Maximum Stock Level)
2
Economic Order Quantity (EOQ)
An inventory – related equation that determines the optimum order quantity that a
company should hold in its inventory given a set cost of production demand rate and
other variables. This is done to minimize variable inventory costs. The equation as
follows,
EOQ = (2DCo / Ch) 1/2
D – Annual Demand
Co – Cost of Ordering
Ch – Cost of Holdings
EOQ in Graph,
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Identifying this EOQ point, organization can get the decision about that,
 How many orders they get for this year.
 Which quantity.
 What is the most suitable way to purchase that goods ( quarterly, half
annually)
Examples
(a) Minimum Consumption
400Qty
Maximum Consumption
1200Qty
Minimum Lead Time
10 Days
Maximum Lead Time
20 Days
EOQ or Re order Quantity
600Qty
Re order Level
= 1200 × 20
= 24000
Minimum Stock Level
= 2400- [(400 + 1200 / 2) × (10 + 20 /2)]
= 2400 – (800 × 15)
= 12000
Maximum Stock Level
= 24000 + 600 – (400 × 10)
= 26000
Average Stock Level
= 12000 + 26000 / 2
= 19000
(b) Monthly Demand
1500units
Ordering Cost
Rs.100 Per order
Acquisition Cost
Rs. 50
Holding Cost
20% of the acquisition cost
Assume that there are 360 working days in a year
EOQ
= (2 × 1500 × 100 × 12 / 10)1/2
= 600units
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12.2
Costing
Introduction
A type of accounting process that aims to capture a company's costs of production by
assessing the input costs of each step of production as well as fixed costs such as
depreciation of capital equipment. Cost accounting will first measure and record these
costs individually, then compare input results to output or actual results to aid
company management in measuring financial performance.
Cost terms and Concepts
1. Cost unit
Cost unit is a unit use to calculate an express the cost.
Ex: - A bred is a unit of bakery.
2. Cost centre
Cost centre is the place where we use to add the cost encored inside the cost
unit in production of goods and services.
Ex: - A car manufacturing organization can identify cost centers such as
manufacturing of parts, assembling and finishing depts.
3. Cost objectives
Cost object is either the cost center or the cost unit. Therefore it is a unit or a
center where cost can be accumulated.
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According to the management accounting cost can be classified in to three areas.
There are,
1. Based on nature
 Material cost
 Labor cost
 Expenses cost
2. Based on purpose
 Direct cost
The cost encored within a production line which are able to identify at
the first glance directly. Direct cost can be dividing by three sectors.
There are,

Direct material cost

Direct labor cost

Direct other cost
 Indirect cost
The cost encored inside of a production line which cannot be identify
directly. Indirect cost can be dividing by three sectors. There are,

Indirect material cost

Indirect labor cost

Indirect other cost
3. Based on variability
 Variable cost
The cost varies with the volume of production get changes is called
variable production. Variable cost per unit while the total variable cost
does not change with the volume of the production.
Ex: - Direct material cost, direct labor cost, direct other cost
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12.2
 Fixed cost
The cost dose not the change up to a limited level in production.
Ex: - Rent, repairing building
 Semi variable cost
The mistier of a fixed cost and variable cost is known as semi variable
cost.
Ex: - Telephone bills, water bills
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12.2
Cost controlling
Practices and policies used by businesses to determine whether actual costs are in line
with budgeted costs and to correct discrepancies by limiting actual costs or adjusting
budgeted costs. Cost control is necessary for a business to stay within budget, and to
adapt to changing profits or cost conditions.
Methods of cost controlling
 Control of purchasing
Organization purchases their goods for controlling their cost. Then they use
EOQ model.
Economic Order Quantity means, the amount of where the holding cost equals
to the ordering cost. In other words EOQ is the amount of inventory to be
ordered at same time for purpose of minimizing annual inventory cost.
 Control of stock and issues
Under this topic will discuss the different types of valuation methods. This
topic is importance to identify different types of role and regulations relevant
for valuations.
Under this we identify the stocks issued for production stores. Basically there
are 4 methods.
i.
FIFO Method
ii.
LIFO Method
iii.
Weighted Average Method
iv.
Simple Average Method
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12.2
Labor Cost
Labor are usually the most expensive part of running a business. The allocation of
labor is a classic economic theory that attempts to determine how much manpower is
needed to effectively produce a certain amount of goods or services. Companies use
this theory along with traditional management accounting process to determine the
amount of labor needed for their production processes.
Labor cost is dividing two types. There are,
 Direct Labor Cost
The labor cost encored within a production line which are able to identify at
the first glance directly.
 Indirect labor cost
The labor cost encored inside of a production line which cannot be identify
directly.
Controlling of Labor
Under the controlling of labor we can use the pay sheet. Then we can identify some of
the thing which is importance to the organization decisions.
Ex: - Salary, ETF, EPF, Bonuses, allowances
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Example for Pay Sheet,
Basic salary
30000
Fixed allowances
2000
Attendance
1000
Cost of living
4000
Union
500
OT Hours
50h
OT rate per hour
150
Welfare
1000
EPF contribution the employee 10% of the company 12%
ETF 13%
Pay sheet
Basic salary
30000
Fixed allowance
2000
Attendance
1000
Cost of living
4000
OT (50h)
7500
44500
Deductions
Welfare
1000
Union
500
EPF (10%)
3200
Net salary
39800
EPF (12%)
3600
ETF (3%)
900
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Overhead Cost
They are the big part of the costs of many companies. There are two kinds of overhead
cost.

Variable

Fixed
Variable manufacturing overhead costs include energy machine maintenance
engineering support, indirect materials, and indirect manufacturing labor.
Fixed manufacturing overhead costs include plant leasing costs some administrative
costs (plan managers salary) and depreciation on plant equipment.
1. Organizations should identify cost centers that are involved with a production
process.
Cost centers can be either production or service production cost centers are
locations that directly involved with the production process. And service cost
centers support the manufacturing process.
2. Cost allocation
When we can specifically identified costs that can be attributable with
particular cost centers.
3. Overhead apportion
It's necessary to distribute overheads, between cost centers when it is not
possible to allocate.
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Benefits of Cost Accounting
 Identifying unprofitable activities
With the help of cost accounting the unprofitable activities are identified.
 The application of cost reduction techniques
Operations research techniques and value analysis technique, helps in
achieving the objective of economy in concern's operations.
 Cost Accounting is useful for identifying the exact causes for decrease or
increase in the, profit/loss of the business.
It also helps in identifying unprofitable products or product lines so that
these may be eliminated or alternative measures may be taken.
 Cost Accounting is quite useful for price fixation.
It serves as a guide to test the adequacy of selling prices. The price
determined may be useful for preparing estimates or filling tenders.
 To control cost
Cost can be reducing in the long run when cost control programmed and
improved methods are tried to reduce cost.
Cost accounting is important to the managers to fixing selling product by providing
detailed cost information.
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Short Term Decision Making
BEP Analysis
Break-even analysis is a technique widely used by production management and
management accountants. It is based on categorizing production costs between those
which are “variable” (costs that change when the production output changes) and
those that are “fixed” (costs not directly related to the volume of production).
Total variable and fixed costs are compared with sales revenue in order to determine
the level of sales volume, sales value or production at which business makes neither a
profit nor a loss.
The break-even point can be calculated as follows.
Break Even Point=Total Fixed Cost
Unit selling Price-Unit Variable Cost
Break Even Point in Volume= Total Fixed Cost
Profit Volume Ratio
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Example:
For example we can use the following data to calculate break-even point.

Sales price per unit

Variable cost per unit =Rs. 150

Total fixed cost
= Rs. 250
=Rs. 35000
Calculation:
BEP in Units = 35 000
(250-150)
Unit contribution= Selling Price- Variable price
PV Ratio
= Unit contribution/Selling price
PV Ratio
= 100/250
= 350 units
= 0.4
BEP in Volume = 35 000
0.4
= 87 500
BEP Analysis in Graphically,
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Importance of BEP Analysis
BEP Analysis is important because, until a business sells enough units (of production
or service) it is losing money. Once sales exceed that break-even figure we are into
profit territory. Over and above that break-even point profits are simply the sales
minus the marginal cost of providing the goods/service since all of the over-heads or
fixed costs of running the business will have been covered. Minimizing fixed costs
will minimize your break-even figure. Minimizing your marginal costs will maximize
your profits on sales in excess of your break-even figure.
BEP Analysis helps in determining,

The optimum level of output.

The target capacity of a firm to get the benefit of minimum per unit production
cost.

Minimum cost for a given level of output.

Selling price for a product.

Establishing the point from where the firm can start paying dividend to share
holders.

Impact on new product launch.

Impact of purchasing new capital equipment.

Should one make buy or lease capital equipment?

Revenue and cost implications of changing the process of production.

Impact of changes in price and cost on profit of the firm
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12.2
Benefits of Break Even Analysis:
The main advantage of break-even point analysis is that it explains the relationship
between cost, production, volume and returns. It can be extended to show how
changes in fixed cost, variable cost, commodity prices and revenues will affect profit
levels and break even points. Break even analysis is most useful when used with
partial budgeting techniques. The major benefit to use break even analysis is that it
indicates the lowest amount of business activity necessary to prevent losses.
Assumptions of Break Even Point:

Fixed costs are constant, only variable costs change.

The Firm produces only one product.

Selling price remains constant, does not change with volume of scale.

Constant-technology

Costs and revenue change with changes in sales volume
Why do companies want to know the break-even point?

First, in order to even know what volume of operations allows them to
operate without loss, or what the volume of business in which is the loss
breaks in the profits;

Further in order to determine, if they sufficient capacity for this volume of
business and ultimately therefore, to find out if there is sufficient market
for such volume of operations
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12.2
Cost Volume Profit Analysis
Cost Volume Profit(CVP) analysis is a managerial accounting technique that is
concerned with the effect of sales volume and product costs on operating profit is
affected by changes in variable costs, fixed costs, selling price per unit and the sales
mix of two or more different products.
CVP analysis has following assumptions:

All cost can be categorized as variable or fixed.

Sales price per unit, variable cost per unit and total fixed cost are constant.

All units produced are sold.
Where the problem involves mixed costs, they must be split into their fixed and
variable component High-Low Method, Scatter Plot Method or Regression Method.
CVP Analysis Formula
The basic formula used in CVP Analysis is derived from profit equation:
px = vx + FC+ Profit
In the above formula,
P is price per unit;
V is variable cost per unit;
X are total number of units produced and sold; and
FC is total fixed cost
Besides the above formula, CVP analysis also makes use of following concepts:
Contribution Margin (CM)
Contribution margin can also be calculated per unit which is called unit contribution
margin. It is the excess of sales price per unit (p) over variable cost per unit (v). Thus:
Unit CM = p-v
Contribution Margin Ratio (CM Ratio)
Contribution margin ratio is calculated by dividing margin by total sales or unit CM
by price per unit.
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12.2
Activity Based Costing
Introduction
Costing systems are information systems. They require a specific type of information
such as direct Labor hours and units produced, to be of value. It is from the input data
that product costs and other information are determined according to the specific
costing system defined methodology. The results obtained would depend on the
costing system used, since the same input data could be used in different ways. In this
case the traditional costing system or an activity based costing system.
A costing system should provide information to help minimize waste, but should not
be wasteful in it. In other words, the resources required to design, implement and
maintain a costing system should be less than the benefit derived from the use of the
system.
Activity Based costing
An overheads cost allocation system that:

Allocates overheads cost to multiple activity cost pools and

Assigns the activity cost pools to products or services by means of cost drivers
that represent the activities used.
Product
Cost pools
Cost Drivers
Activities
Managerial Accounting | Activity Based Costing
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12.2
Capital Budgeting
NPV - Net Present Value
By using discounted cash flow techniques and calculating present values, We can
compare the return on an investment in capital projects with an alternative equal risk
investment in securities traded in the financial market.
The most straight forward way of determining whether a project yields a return in
excess of the alternative equal risk investment in traded securities is to calculate the
Net Present Value (NPV). This is the present value of the net cash inflows less the
project’s initial investment outlay. If the rate of return from the project is greater than
the return from on equivalent risk investment in securities traded in the financial
market, the NPV will be positive? Alternatively, if the rate of return is lower, the NPV
will be negative. A positive NPV therefore indicates that an investment should be
accepted, while a negative value indicates that it should be rejected. A zero NPV
calculation indicates that the firm should be indifferent to whether the project is
accepted or rejected.
Ex-:
Project investment out lay end of year cash flows.
Pay Rs.100000 to obtain an equitant stream of cash flows from a security traded in the
financial markets. Conversely, we should reject the investment in the projects. If their
initial investment outlays are greater than Rs.100000. You should now see that the
NPV rule leads to a direct comparison of a project with an equivalent risk security
traded in the financial market. Given that the present value of the net cash inflows for
each project is Rs.100000, the NPV’s will be positive (thus signifying rejection) if the
initial outlay is greater than Rs.100000.
Managerial Accounting
| Capital Budgeting
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12.2
Calculating Net Present Value
These calculation methods of NPV
NPV = (1/1+r) ^n
Where we represent the investment outlay and Fv represents the future values
received in years is 1 to n. The rate of return K used is the return available on an
equivalent risk security in the financial market.
Advantages of NPV method
 It recognizes time value of money
 It also recognizes all cash flows throughout the life of the project
 It helps to satisfy the objectives for maximizing the firm’s values
Disadvantages of NPV method
 It is difficult to calculate.
 It does not present a satisfactory answer when there are different amounts of
investments for the purpose of comparison
 It does not present a correct picture in the case of alternative projects or where
there are unequal lives of the project with limited funds
 The NPV method of calculation is based on discount rate which, again
depends on the firm’s cost of capital. The latter is difficult to understand as
well as difficult to measure in actual practice
Internal Rate of return
The internal rate of return method is the second discounted cash flow or time adjusted
method for appraising capital investment decisions.
Managerial Accounting
| Capital Budgeting
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NATIONAL INSTITUTE OF BUSINESS MANAGEMENT
12.2
Standard Costing & Variance
Standard Costing and variance analysis
Standard costing is most suited to an organization whose activities consist of series of
common or respective operations and the input required to produce each unit of
output can be specified. It is therefore relevant in manufacturing companies. Since the
processors involved are often of a repetitive nature. Standard costing procedures can
also be applied in service industries such as units within banks, where output can be
measured in terms of the number of cheques or the number of loan applications
processed, and there are also well defined input- output relationships.
A Standard costing system can be applied to organizations that produce many
different products, as long as production consists of a series of common operations.
For example, if the output from a factory is the result of five common operations, it is
possible to produce many different product variations from these operations. It is
therefore possible that a large product range may result from a small number of
common operations.
Eg Standard costs analyzed by operations and products
Managerial Accounting | Standard Costing & Variance
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12.2
An overview of a standard costing system
Standard cost of actual output
recorded for each responsibility
Centre
Actual costs traced to each
responsibility Centre
Standard and actual costs compared and variances analyzed and reported
Variances investigated and corrective action taken
Standards monitored and adjusted to reflect changes in standard usage /or prices must
be stressed that actual costs must be accumulated periodically for each operation for
responsibility center, so that comparisons can be made with standard costs.
Managerial Accounting | Standard Costing & Variance
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NATIONAL INSTITUTE OF BUSINESS MANAGEMENT
12.2
Purposes of Standard Costing

Providing a prediction of future by costs that can be used for decision making
purposes. Standard costs can be derived from either traditional or activity
based costing systems. Because standard costs represents future targets costs
based on the elevation of avoidable inefficiencies they are preferable to
estimates based on adjusted past costs which may incorporate inefficiencies.

Providing a challenging target which individuals are motivated to achieve.

Assisting in setting budgets and evaluating managerial performance.

Acting as a control device by highlighting those activities which do not
conform to plan and thus altering managers to those situations that may be out
of control and need of corrective action.

Simplifying the task of tracing costs to products for profit management and
inventory valuation purposes.
Standard cost for inventory valuation and profit measurement.
Unsold
Standard
Costs
Products
Actual Costs
sold
Period costs
Variances
Inventory
Profit and
loss statement
Cost of goods
sold
Variances
Managerial Accounting | Standard Costing & Variance
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12.2
Budgeting
An itemized forecast of an individual's or company's income and expenses expected
for some period in the future. With a budget, an individual is able to carefully look at
how much money they are taking in during a given period, and figure out the best way
to divide it among a variety of categories. When making a personal budget, an
individual will typically designate the appropriate amount of money to fixed expenses
such as rent, car payments, or utility bills, and then make an educated estimation for
how much money they will spend in other categories, such as groceries, clothing, or
entertainment. By keeping track of where one's money goes, one may be less likely to
overspend, and more likely to meet their financial goals.
We can categories budgeting in to three components as follows,
Budgecting
Cash
Budgecting
Flexible
Budgecting
Managerial Accounting
Production
Budgecting
| Budgeting
Meterial
Budgecting
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12.2
Cash Budgeting
An estimation of the cash inflows and outflows for a business or individual for a
specific period of time. Cash budgets are often used to assess whether the entity has
sufficient cash to fulfill regular operations and/or whether too much cash is being left
in unproductive capacities.
A cash budget is extremely important, especially for small businesses, because it
allows a company to determine how much credit it can extend to customers before it
begins to have liquidity problems.
The importance of studying Cash Budgeting
A cash budget is incredibly important, for smaller businesses especially. A cash
budget allows a business to establish the amount of credit that it can extend to
customers without beginning to have problems with liquidity. A cash budget helps
you to avoid having a cash shortage during periods when you have numerous
expenses.
If you cannot pay your expenses because you have a shortage of cash, you must
immediately resolve this problem by ensuring that you bring in more revenue,
deferring or eliminating some of your costs or being approved for a larger loan from
your
These solutions are time-consuming, costly, and not guaranteed, so it is therefore best
to have planned for higher expenses ahead of time, if possible.
Managerial Accounting
| Budgeting
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12.2
Benefits of Budgeting,
I.
II.
To communicates targets among employees.
Coordinate activities among departments.
(HR, Predicting, planning, purchasing, sales, stores)
III.
To cost controlling.
IV.
To motivate employee by giving targets at the beginning of the year.
V.
Make employees towards the common goal.
Flexible Budgeting
In the case of flexible budgets, planned or budgeted expenses are the actual out
multiplied by unit costs or expenses. Flexible budget recognizes that there can be
fluctuations in output and hence expenses also vary in a month or a year.
Material Budget,
The direct materials budget calculates the materials that must be purchased, by time
period, in order to fulfill the requirements of the production budget, and is typically
presented in either a monthly or quarterly format.
It is impossible to calculate the direct materials budget for every component
in inventory, since the calculation would be massive. Instead, it is customary to either
calculate the approximate amount of inventory required, expressed as a grand total for
the entire inventory, or else at a somewhat more detailed level by commodity type.
Managerial Accounting
| Budgeting
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12.2
Findings and Conclusion
Findings
ABC system is better than traditional method.
Therefore we recommended to practice ABC method instead traditional
method.
Management Accounting plays major role in today’s world for decision
making tool.
Because of that we recommended every organization to use management
accounting as a decision making tool.
Analyzing BEP is useful to take short term decision and NPV helps to take
long term decisions.
Conclusion
At last we come to the conclusion that, management accounting plays a major
role in today’s competitive business world. Therefore management accounting
is necessary for the survival of business organization. At the end of our report
we suppose that, we got a better understanding about the uses of managerial
accounting.
Managerial Accounting | Findings and Conclusion
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