# 10020

Muddled, whois enrolled in ACFI2003, is having trouble understanding the concepts underpinningQuestion 1 of the Major Assignment.

Muddledsays: “I’m confused. I understoodthe first lecture and thought this course would be a walk in the park but now Iam freaking out as new terms are being introduced in every lecture topic.

The loafof bread example that was used in the first lecture was easy to understand: wecosted the loaf of bread by tracing direct materials and direct labour to theloaf and then applied the remaining costs as overhead. I could see from the diagram showingT-accounts how materials, labour and overhead are utilised in the production ofbread, and how they were transformed into WIP and finished goods.

ButQuestion 1 does not fit the template I have developed for the loaf of breadexample. For a start, Question 1’s informationon the combining process provides data on WIP, units completed and transferredout. It also has material, labour andoverhead being added to production at different times. I understand that. But I cannot, for the life of me, figure outwhat ‘equivalent units’ are, and why they are necessary. Why is Question 1 so much more complicatedthan the bakery example?

I decidedto memorise the calculation for equivalent units as I had given up trying tounderstand what it meant. Thecalculation involves manipulating the ‘physical flow of units ofproduction’. I do not understand thedifference between the ‘physical flow’ and ‘equivalent units.’

I couldget the gist of job costing – for instance, in a construction site, you havedifferent contracts that have been undertaken, and all I have to do is to tracedirect materials and direct labour to each contract, and apply overhead to eachcontract. Why is the manufacture ofherbicides (in Question 1) not costed in the same way?

While Iwas struggling with job and process costing, the course introduces actual andnormal costing. I get actual costing,but do we need normal costing in an organisation? I think it just complicates matters byjumbling up actual and estimated figures. I think organisations providemanagement with stewardship accounts that are based on objective verifiableevidence.”

Required (The rubric on page 5 willbe used to mark this question):

ACFI 2003is based on the following fundamental costing principle: cost-management systemsshould reflect the fact that different costs are relevant for differentpurposes. It means that the design of acosting system should represent the unique characteristics of the productionprocess. Muddled does not”get” this; it is far too abstract for him.

You are askedto help Muddled by explaining how this fundamental costing principle affectsthe way in which job and process costing systems are designed/constructed. Write an essay which compares job and processcosting systems. Your essay should be inplain English. Your essay mustbe broken down into the following subheadings (2.1) to (2.4) below:

2.1) Youressay should explain the axiom, “different costs are relevant fordifferent purposes” by briefly describing the process and job costing systems,and explaining the production context in which each system produces relevantand useful information for management.

2.2) Inexplaining the axiom above, you are required to explain the followingdifferences between job and process costing systems:

2.2.i) The cost object for job costing is acontract, but the cost object for process costing is the process (ordepartment). Explain the rationale for choosing these different cost objects foreach system.

2.2.ii) How are costs accumulated under each costingsystem?

2.3) Then explain the following costing conceptsthat are found in process costing: ‘equivalent units’ and ‘transferred incosts.’ Why are these concepts not usedin job costing?

2.4) Lastly,describe actual and normal cost-management systems. The indirect nature of overhead costs makesthem difficult to control. Which system betterenables management to control overhead costs? Explain.