Controlling Cost to Improve Organisational Performance

This section looks at how to price materials from stores, calculate labour remuneration, and assign overheads to products and services. In Year 2, you were introduced to types of inventories and the purchase and receipts of materials into stores, as well as types of labour and the methods of labour remuneration. Furthermore, you were taken through the preparation of Overhead Analysis Sheets. This section seeks to build on what you know from the previous year.

Emphasis will be placed on the computation of labour remuneration and the assignment of overheads to translate theory into practice.

By the end of this section, you should have a solid understanding of how to cost materials issued out of stores, prepare payroll and assign overhead cost to products and services using

Activity Based Costing.

You will explore the following in this section:

1. Prepare store ledger card using FIFO, LIFO, Weighted Average and Simple Average methods of pricing issues.

2. Compute labour remuneration, including cost of idle time and prepare a payroll sheet to show gross wages, allowances, deductions and net wages.

3. Compute cost driver rates for cost pools as applied in activity-based costing and assign overheads to jobs/services/products using cost driver rates.

Your previous knowledge will help you connect past learning to your new study on the methods of pricing issues, labour remuneration and cost driver rates for cost pools.

KEY IDEAS

• Allowance is a specific amount of money set aside for a particular purpose, often used in budgeting or accounting.

• Overhead costs are ongoing expenses that are not directly tied to the production of goods or services.

• Payslip is a document given to workers showing their pay details for a specific period, usually each month.

• Remuneration refers to the total compensation or payment received by an employee for their work or services.

• Weighted Average method values inventory by calculating the average cost per unit. To do this, divide the total value of materials in stock by the total quantity.

In year 1, you explored the composition of cost of products, services and operations, and in year 2, the process of purchasing, storage and issue of materials were explained with the documents used in these processes, as well as explanation of inventory, types of inventories, inventory control and compute inventory control levels – Maximum, minimum, re-order level, EOQ. This previous knowledge will be applied in this lesson.

Businesses purchase materials at various prices and dates, storing them until they are needed for production. To determine the cost of these materials, a pricing method is necessary to value the materials issued to production.

Some common methods for pricing issues are First–In–First–Out (FIFO); Last–In–First– Out (LIFO); Weighted Average Cost Method (AVCO); and Simple Average Cost Method.

The FIFO method assumes that materials are used in the order they were received. In other words, the oldest items in inventory are issued first. To calculate the cost of materials using FIFO, we need to keep track of the following.

a. Date and quantity of materials received, including their cost

b. Date and quantity of materials issued to production.

Advantages ₁. Easy to understand and use.

2. Materials are issued at their actual cost.

3. Logical pricing method that reflects real-life inventory management.

Disadvantages ₁. During inflation, costs may not reflect current market prices

2. It can be challenging to track each batch of materials separately

Activity 4.1 First - In -First Out (FIFO) method of pricing issues from stores

1. Recall what you learnt in year two on the issue of materials and the documents used in these processes.

2. Share your observations with another group by answering the following questions:

3. List five documents used in issuing material with their uses.

4. In groups, explain the FIFO method of issuing inventory.

5. Discuss two advantages and two disadvantages of using the FIFO method of issuing inventory.

6. Read the transactions recorded by Ogun Ltd in the first week of December 2024.

Date Receipts/Issues Quantity

01/12/24 Opening Balance 200 units @GH¢4 each 03/12/24 Purchases 300 units @ GH¢6 each 05/12/24 Issues 300 units 06/01/24 Purchases 400 units @ GH¢8 each 07/01/24 Issues 350 units Prepare a Store Ledger Card using the FIFO method of issuing inventory.

7. Discuss the two effects of using the FIFO Method of pricing issues on the profits of the business.

8. Present your work to your teacher.

The LIFO method assumes that the newest items received are the first ones to be used. This means that the most recent materials are issued first, and the older ones are left in stock. At any time, the units in store would be made of materials purchased some time ago. Issues are therefore made in the reverse order of the FIFO method.

Advantages ₁. It is easy to understand and use

2. Materials are issued at their actual cost Disadvantages ₁. Stock values may reflect old prices.

2. Production costs may be higher because materials are valued at newer, often higher prices.

3. Stock values can reflect current market prices of materials when they are sold or used later.

Activity 4.2 Last-In-First-Out (LIFO) Method of Pricing Issues from Stores

1. In pairs, explain three reasons why users of accounting information are not confident in the use of the LIFO method of issuing inventory.

2. Study the transactions recorded by Ogun Ltd in the first week of December 2024.

Date Receipts/Issues Quantity

01/12/24 Balance 200 units @GH¢8 each 03/12/24 Purchases 300 units @ GH¢5 each 05/12/24 Issues 250 units 06/01/24 Purchases 400 units @ GH¢6 each 07/01/24 Issues 350 units

3. Prepare a Store Ledger Card using the LIFO method of issuing inventory.

4. Share your work with another pair for discussion and feedback.

Activity 4.3 FIFO and LIFO Methods of Pricing Issues from Stores

1. In your groups, study the case below:

Thrive Enterprise is a wholesaler of soaps, which are sold in boxes. The stock on hand on 1st February 2025 was 1,380 boxes valued at GH¢63,480.

The purchases and sales of soap during February 2025 were as follows:

Purchases February 02 460 boxes @ GH¢48 February 06 180 boxes @ GH¢49 Sales February 04 920 boxes @ GH¢60 February 10 900 boxes @ GH¢60

2. Compute the profit for the month of February, using the LIFO method of issuing inventory.

3. Compute the profit for the month of February, using the FIFO method of issuing inventory.

4. Compare the profit using the FIFO method to the profit using the LIFO method and explain the difference between the two methods.

5. Present your answers to the whole class for discussion.

The following areas will help you in today’s lesson.

• Year 1 – Week 15: Explain the composition of the cost of products, services and operations

• Year 2 – Week 13: Explain the process of purchasing, storage and issue of materials and identify the documents used in these processes.

• Year 2 – Week 14: Explain inventory, types of inventory, inventory control, and compute inventory control levels – Maximum, minimum, re-order level, EOQ The Weighted Average method values inventory by calculating the average cost per unit. To do this, divide the total value of materials in stock by the total quantity. This average cost is used to determine the issue price of materials. Whenever new materials are received, the average cost is recalculated as follows:

• Calculate the total value of materials in stock.

• Divide by the total quantity

• Use this average cost to value materials issued

• Recalculate the average cost when new materials are received.

Formula for Weighted Average price: Total cost of inventory in store at the date of issue Number of units in store on the date of issue

Example: An inventory store has 200 units with a total value of 10,000.

The price per unit of a unit issued from store can be calculated as 10,000/200 = 50 per unit.

Advantages ₁. Smooths out price fluctuations: Weighted Average method averages out the cost of materials, reducing the impact of price fluctuations.

2. Simple to calculate: The calculation is straightforward, making it easy to implement.

3. Easy to understand: The method is easy to comprehend, even for those without extensive accounting knowledge.

4. Reduces volatility: Weighted Average method reduces the volatility in cost of goods sold and inventory valuation.

5. Practical for large inventories: This method is suitable for businesses with large inventories, as it simplifies the valuation process.

Disadvantages ₁. May not reflect current market prices: The weighted average cost may not reflect current market prices, potentially leading to inaccurate valuation.

2. Can be affected by old inventory: Old inventory can skew the weighted average cost, making it less representative of current prices.

3. Requires frequent recalculations: The average cost needs to be recalculated whenever new materials are received, which can be time-consuming.

4. May not be suitable for all types of inventory: Weighted Average method may not be suitable for inventory with significant price fluctuations or unique items.

5. Can lead to overvaluation or undervaluation: If not properly managed, the weighted average method can lead to overvaluation or undervaluation of inventory.

Activity 4.4 Weighted Average Method

1. In year 2, you explored the inventory control levels.

2. Share your idea on the inventory control level with another group.

3. In your groups, explain two advantages and two disadvantages of using the Weighted Average method of issuing inventory.

4. Study the transactions recorded by Thrive Ltd in the first week of January 2025.

Date Receipts/Issues Quantity

01/01/25 Balance 100 units @GH¢30 each 02/01/25 Purchases 300 units @ GH¢50 each 04/01/25 Issues 200 units 06/01/25 Purchases 400 units @ GH¢60 each 07/01/25 Issues 350 units Prepare a Store Ledger Card using the Weighted Average method of issuing inventory.

5. Present your answers to another group for discussion and then to your teacher for feedback.

In this method, the issue price is calculated as the average of all previous purchase prices of items still in stock. The simple average price considers all previous prices, regardless of the quantity of items remaining.

When items are issued, they are removed from stock in a First-In-First-Out (FIFO) manner, but the price used is the simple average of all remaining items’ prices.

Formula for Simple Average cost: List of prices available in stores Number of prices available Advantages ₁. Smooths out price fluctuations: The Simple Weighted Average method helps to average out price variations, providing a more stable cost.

2. Easy to understand: The method is straightforward and easy to comprehend.

3. Simple to calculate: Calculations are relatively simple, making it easy to implement.

4. Reduces accounting complexity: Simple Weighted Average method simplifies inventory valuation and costing.

5. Useful for similar items: Suitable for businesses with similar items or products.

Disadvantages ₁. May not reflect current prices: The method may not reflect current market prices, leading to inaccurate valuation.

2. Ignores price trends: The Simple Weighted Average method does not account for price trends or changes in market conditions.

3. Not suitable for all inventory types: May not be suitable for inventory with significant price fluctuations or unique items.

4. Lacks precision: The Simple Weighted Average method may not provide precise costing, potentially leading to overvaluation or undervaluation.

Activity 4.5 Simple Average Method

1. In pairs, explain the Simple Average Method of issuing inventory.

2. Discuss two advantages and two disadvantages of using the Simple Average method of issuing inventory.

3. Study the transactions recorded by Nviso Ltd in the first week of January 2025.

Date Receipts Quantity

01/01/25 Balance 100 units @GH¢30 each 02/01/25 Purchases 300 units @ GH¢50 each 04/01/25 Issues 200 units 06/01/25 Purchases 400 units @ GH¢60 each 07/01/25 Issues 350 units

4. Prepare a Store Ledger Card using the Simple Average method of issuing inventory.

5. Present your answers to another pair for discussion and then to your teacher for feedback.

It is the money given to workers for the work they do. This payment can come in different forms, such as wages or salaries (regular pay), allowances (extra money for specific needs), commission (extra pay based on sales or performance) and bonuses (additional rewards for good work).

Bases of Labour Remuneration

₁. Time rate

2. Piece rate Time Rate This method of remuneration is a method where workers are paid based on the time worked in hours, days or weeks.

It is calculated as the rate multiplied by the time worked.

Time rate = Hours worked X Rate per hour/day Piece Rate This method of remuneration is a way of paying workers based on how much they produce.

Workers earn money for each unit they complete, and the payment is calculated by multiplying the rate per unit by the total number of units produced.

The main types of Piece Rate methods are:

a. Straight Piece Rate

b. Differential Piece Rate

c. Piece Rate with a guaranteed minimum wage

1. Straight Piece Rate

Under this method the amount earned is based on the number of units produced multiplied by the rate per unit.

2. Differential Piece Rate

Under this method, the rate per unit of output changes at different levels of production.

3. Piece Rate with a guaranteed minimum wage This is a payment system where workers are paid based on the number of units or pieces they produce. However, to make sure that workers do not earn very low wages when production is low, the employer sets a guaranteed minimum wage. This means that even if a worker produces less than the required output, they will still receive a fixed minimum amount of pay. This system encourages workers to work harder to earn more while also protecting them from earning too little during times of low production or when work is slow.

For instance, if a worker earns GH¢5 for each item made, but during the week he only produces 10 items (GH¢50), and the guaranteed minimum wage is GH¢80, the employer will pay GH¢80 instead of GH¢50.

Activity 4.6 Labour Remuneration

1. In your groups, read the passage below.

Afia Nyamekye Enterprise employs three workers who are paid GH¢4 per unit produced. Each worker is expected to produce 20 units a day for 25 days in a month.

Any extra units produced are paid for at GH¢5 per unit.

All workers receive a rent allowance of 20% of basic wages and a transport allowance of GH¢8 per day. Production for 3 workers for the month is as follows:

Name of worker Units produced Amoah 520 Emmanuel 400 Kelvin 560

1. Prepare a schedule to determine the wages of the workers.

2. Present your work to the whole class for discussion.

A payroll is a record or list of all the workers in a company showing how much each person earns for the work they do. It also includes details such as bonuses, allowances, deductions, and taxes. In simple terms, it is like a payment book that helps the business keep track of how much money is paid to employees every month or week.

The Purpose of a Payroll

₁. Ensure correct and timely payment: It helps the business make sure that all workers are paid the right amount at the right time.

2. Manage tax deductions: Payroll keeps track of taxes and other deductions that must be paid to the government on behalf of workers.

3. Keep accurate records: It helps the company maintain proper payment records for reference, audits, and future planning.

Basic Wage/Salary

A basic wage or salary is the main or fixed amount of money a worker earns for doing their normal job, without adding any extra payments such as bonuses, overtime, or allowances.

It is the agreed amount an employer pays an employee regularly such as weekly or monthly for their normal hours of work.

Allowance An allowance is extra money paid to a worker in addition to their basic wage. It can be for things like:

1. Transport allowance (to help with transportation costs)

2. Housing allowance (to help with rent or housing costs)

3. Meal allowance (to help with food costs) Gross Wage/Income This is the total amount of money a worker earns before any deductions are made. It includes their basic wage, allowances and any other payments.

Gross Income = Basic Wage + Allowances + Other Payments Deductions These are amounts of money subtracted from a worker’s gross income. Common deductions include:

1. Taxes (like income tax)

2. Social Security contributions (SSNIT contributions)

3. Loan repayments

4. Health insurance premiums Statutory Deductions are the deductions that are backed by law and are compulsory. They include Social Security and income tax.

Non - Statutory Deductions are the deductions that are not legal requirements. Examples are Union Dues, Loan Deductions, Insurance, Provident Fund, etc.

Net Pay/Income

This is the amount of money a worker takes home after all deductions have been subtracted from their gross income. It is the actual amount they receive in their bank account or as cash.

Net Pay = Gross Income - Deductions Payslip A payslip is a document given to workers showing their pay details for a specific period, usually each month. It includes:

1. Gross income (basic wage, allowances, etc.)

2. Deductions (taxes, SSNIT, etc.)

3. Net pay (the amount they take home) A payslip helps workers understand how their pay is calculated and what deductions were made.

Activity 4.7 Payroll Computation - Explanation of Terms

1. In pairs, explain payroll.

2. Explain the following terms:

a. Basic salary/wage

b. Allowance

c. Deductions

d. Payslip

e. Net salary/wage

3. Discuss the difference between statutory deductions and non-statutory deductions.

3. Share your work with another pair for discussion.

You have been introduced to payroll and the terms involved in the preparation of payroll.

Also, you have been taught how to compute the wages of employees in the previous lessons.

In this lesson, you will be guided to prepare payroll, making the necessary deductions to reinforce the theories that have been learnt.

Activity 4.8 Computation of Payroll

1. In groups, study the case below:

Thrive Plc employs three workers who are paid a monthly salary according to their rank and experience. Salaries payable in January 2025 are as follows:

Name Salary - GH¢ Wilson 12,000 Yellman 15,000 Zulee 9,000

a. Each worker receives a rent subsidy of 10% of the base salary and a transport allowance of GH¢500 per month.

b. All workers contribute 5.5% of their base salary to the Social Security Fund and another 5% to a Provident Fund.

c. The rates of tax are given below:

Base Rate

First GH¢ 2,000 0%

Above GH¢ 2,000 10%

2. Prepare a payroll for January 2025, showing the net income receivable by each worker.

3. Present your answers to the whole class for discussion.

Labour turnover refers to the number of employees who leave an organisation over a specific period, either voluntarily or involuntarily and are replaced by new workers Labour Turnover rate = Average number of workers replaced x 100 Average number employed Causes of Labour Turnover Avoidable Causes

1. Low wages and salaries

2. Inadequate job security and retirement benefits

3. Unsatisfactory working conditions

4. Harassments, intimidations and unhappy working relations Unavoidable Causes

1. Retirements and death

2. Illness and accidents

3. Resignations or change of jobs Idle Time Idle time is the period when a worker is paid but not actually working, and it is not the worker’s fault. This happens when there are delays or interruptions that prevent work from continuing. For example, when machines break down, there is no electricity, or materials are not available.

Causes of idle time include

1. Machine break down

2. Power outage

3. Shortage of materials

4. Time spent commuting between departments

5. Routine maintenance of machines

6. Natural disasters like floods

Activity 4.9 Computation of Labour Turnover and Idle Time

1. In groups, study the case below.

Thrive Plc started the year 2024 with 2,640 workers and ended with 3,260 workers on 31ˢᵗDecember. During the year

a. 20 workers went for greener pastures abroad.

b. 10 workers retired.

c. 25 resigned, while 6 others left to join their partners.

d. 14 workers were dismissed.

2. Calculate the following.

a. Number of new workers employed.

b. Average number of workers for the year 2024

c. Number of workers who left the organisation.

d. The rate of labour turnover.

3. Share your answer with another group for discussion and then with the whole class.

In year 1, you learned Activity Based Costing, its importance, assumptions and limitations.

And in year 2, you prepared the Overhead Analysis Sheet and computed overhead absorption rates. In this lesson, you will be guided to prepare the compute cost driver rates by applying these principles.

Examples of Cost Pools and their Cost Drivers (recap year 1) Cost Pool Cost Driver Material Procurement Number of Orders Material Handling Number of material movements Production Control Number of set-ups Maintenance Number of maintenance hours, Quality Control Number of Inspections Customer Order Processing Number of Orders, Number of Customers, Order sizes Production Control Number of Machine layouts, Number of work order Material / Inventory Control Number of deliveries, Number of receipts, Material volume Engineering Support Number of set ups, production hours, Number of break machine downs Inspections Number of Inspections, Batch sizes, Number of supplies General Accounting Number of suppliers/customers, frequency of dispatches

Activity 4.10 Computation of Cost Driver Rates

1. In pairs, explain the relationship between the Cost pool and Cost Driver.

2. Discuss why Activity-Based Costing is a preferred method of absorbing overheads

3. Compute the cost driver rates for the Cost Pools with the information below.

Enso Nyame Ye Manufacturing uses Activity-Based Costing to charge overheads to products.

Cost Pool Cost Driver Overhead cost - GH¢ Procurement 180 orders 45,000 Quality Control 600 inspections 36,000 Production Control 15 set–ups 3,000 Material Handling 25 movements 5,500

4. Share your work with another pair for feedback.

You have been taught how to compute cost driver rates in the previous lesson. In this lesson, you will be guided on how to absorb overhead costs into the price of products and services.

You will be guided by your teacher through scenarios to assign overheads to products or services using cost driver rates.

Activity 4.11 Assignment of Overheads to Products or Services Using Cost Driver Rates

1. In groups, study the case below.

Thrive Manufacturing uses Activity-Based Costing to charge overhead to products.

The following details are given below:

Cost Pool Cost Driver Overhead cost - GH¢ Procurement 180 orders 45,000 Quality Control 600 inspections 36,000 Production Control 15 set–ups 3,000 Material Handling 25 movements 5,500 The following costs were incurred on an order from Mr Mensah.

a. Raw Materials GH¢14,900

b. Direct Labour GH¢8,600

c. The order incurred overheads as follows:

i. 5 orders

ii. 2 inspections

iii. 4 set-ups

iv. 3 material movements.

2. Use activity-based costing to calculate the total cost of Mr Mensah’s order.

3. Present your answer to the class for discussion.

1. Explain the two methods of Labour Remuneration: Time Rate and Piece Rate

2. Explain the following terms:

a. Basic salary/wage

b. Allowance

c. Deductions

d. Payslip

e. Net pay/income

3. Buah Industries employs 4 workers who are paid GH¢6,400 each for 20 days of 8 hours a day. Details of the activities of the business are as follows:

a. Overtime is paid at time and a quarter.

b. Workers are also given a clothing allowance of 10% of their basic salary and a data allowance of GH¢320 per month.

c. During the month, the workers worked for the following hours.

Name Hours worked Senyo 200 Adoma 180 Tieku 160 Osman 220 You are required to prepare a schedule to show the details of the gross earnings of each worker.

4. Discuss the causes of labour turnover

5. Explain the LIFO method with three advantages and two disadvantages.

6. Samina Enterprise is a wholesaler of soaps, which are sold in boxes. The stock on hand on 1st February 2025 was 1,380 boxes valued at GH¢63,480. The purchases and sales of soap during February 2025 were as follows:

Purchases February 02 460 boxes @ GH¢48 February 06 180 boxes @ GH¢49 Sales February 04 920 boxes @ GH¢60 February 10 900 boxes @ GH¢60

a. You are required to compute the profit for February, using the Last – In – First Out (LIFO) method of issuing inventory.

b. You are required to compute the profit for February, using the First-In-First- Out (FIFO) method of issuing inventory.

c. Compare the profit using the FIFO method to the profit using the LIFO method and explain the difference between the two methods.

7. Tanko Plc has 10 workers who are paid a monthly salary of GH¢3,200 each for an 8–hour day for 20 days a month. The following took place:

a. During the month of May 2025, there was a machine breakdown for 5 hours during which 6 workers did not work.

b. There was a shortage of materials during which 4 workers did not work for 3 hours.

c. There was a power failure for 2 hours. This caused all the workers to be idle.

d. During the month, waiting for instructions from their boss caused 4 workers to be idle for 6 hours.

i. Calculate the wage per hour of each worker.

ii. The number of idle time hours.

iii. The cost of idle time for the month of May 2025.