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Economic Order Quantity (EOQ):

Definition and Explanation:
Economic order quantity (EOQ) is that size of the order which gives maximum economy
in purchasing any material and ultimately contributes towards maintaining the materials at
the optimum level and at the minimum cost.
n other words, the economic order quantity (EOQ) is the amount of inventory to be
ordered at one time for purposes of minimizing annual inventory cost.
%he quantity to order at a given time must be determined by balancing two factors: (1) the
cost of possessing or carrying materials and (2) the cost of acquiring or ordering materials.
Purchasing larger quantities may decrease the unit cost of acquisition, but this saving may
not be more than offset by the cost of carrying materials in stock for a longer period of
time.
%e carrying cost of inventory may include:
O nterest on investment of working capital
O Property tax and insurance
O $torage cost, handling cost
O eterioration and shrinkage of stocks
O bsolescence of stocks.
ormula of Economic Order Quantity (EOQ):
%he different formulas have been developed for the calculation of economic order quantity
(E"). %he following formula is usually used for the calculation of E".

O = Demand for te year
O 5 = ost to 5lace a single order
O = ost to old one unit inventory for a year
O =
nventory Levels
Part : How to Optimize Average nventory Levels
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This section is mainly here to provide a brieI description Ior how optimal inventory levels Ior
materials are kept assuming the company is a textbook example with no strange variables.
Essentially, this section can serve as a starting point Ior inventory managers.
First thing you need to determine the ideal inventory levels is a material's Economic Order
Quantity (EOQ). This is the amount you should be ordering when you place orders.
Next you need to determine your SaIety Stock (SS). This is the amount that you should have
remaining when the EOQ arrives.
Basically, saIety stock is the average bare minimum you will have at any give time, and
EOQSS is the average maximum amount you will have at any given point in time. This should
be intuitive because saIety is what you have when your shipment arrives and when the order
arrives (EOQ) it gets added to the saIety stock.
I say average minimum and maximum because you might not receive the EOQ exactly when you
planned to and thereIore may have more or less. On average you should have the SS amount
when you receive shipments. Between these two average minimum and maximum values lies
your long-term average inventory.
The Iormula Ior this is:
Optimal Average Inventory(EOQSSSS)/2
This is Ior materials. For Iinished goods, you should aim to keep an inventory level designed to
prevent a stock out. This level would be a saIety stock oI Iinished goods, thus making the ideal
average inventory Ior Iinished the saIety stock value based on your company's service level.
Part : How to Assess nventory Levels
Simplistic Method - Historical Inventory Levels
Most methods oI accounting take the beginning inventory oI a period, add it to the ending
inventory oI a period, and divide by 2. This essentially provides the mathematical average Ior a
given month.
For example, iI your inventory level Ior a good is 2000 on July 1st, you produce 3000 units and
sell 1000 units by July 31st. This leaves you with 4000 units. The Iormula is:
Avg. nventory (Beginning nventory+(Beginning nventory+Units Produced-Units
Sold))/2
Avg. nventory (2000+(2000+3000-1000))/2 3000
Or more simply:
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Avg. nventory (Beginning nventory+Ending nventory)/2
Avg. nventory(2000+4000)/23000
The Methods of Wage Payment Under ncentive Plans. (Cost Accounting)
There are diIIerent methods oI wage payment under incentive plans. They are as Iollows:
Taylor's differential piece rate system: This system was introduced by Taylor, the Iather oI
scientiIic management. This system introduced to penalize a slow worker by paying him a low
piece rate Ior low production and to reward an eIIicient worker by giving him a higher piece rate
Ior a higher production.
Thus iI a worker completes the work within or less than the standard time, he is paid a higher
piece rate and iI he does not complete the work within the standard time, he is given a lower
piece rate.
Merricks multiple piece rate: Under this method, three piece rates are applied Ior workers with
diIIerent levels oI perIormance. Wages are paid at ordinary piece rate to those workers whose
perIormance is less than 83 oI the standard out put. 110 piece rate is given to workers whose
perIormance is between 83 and 100 oI standard. 120 oI ordinary piece rate is given to
those workers who produce more than 100 oI the standard output.
Gants's task and bonus plan: This plan is based on careIul time and motion study. A standard
time is Iixed Ior doing a particular job, worker's actual perIormance is compared with the
standard time and his eIIiciency is determined. II a worker takes more time then the standard
time to complete the job (Below 100) he is given wages Ior the time taken by him and iI a
worker takes the standard time to perIorm job (100 eIIiciency), he is given wages Ior the
standard time and bonus oI 20 oI wages earned. II the worker take less time than the standard
time his eIIiciency is more than 100 and he is given wages Ior the actual time and bonus at the
rate oI 20.
Halsey premium plan: Under this method standard time is Iixed Ior the job and worker is given
wages Ior the actual time taken to complete the job at the agreed rate per hour plus a bonus to
one halI on the wages oI the time saved.
Total wages T x R (S - T) R
Where, T actual time, R Rate per hour, S Standard time, 50 otherwise mentioned in
the question.
Rowan premium plan: Under this method, hours is a Iixed percentages oI wages oI time saved
and worker is given a guaranteed wage rate Ior the time taken to Iinish the job.

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Process costing
A process-costing system is a costing system in which the cost oI a product or service is obtained
by assigning costs to masses oI like or similar units. Unit costs are then computed on an average
basis. Process-costing systems are used in industries that produce like or similar units which are
oIten mass produced. In these industries, products are manuIactured in a very similar way. The
companies usually use the same amount oI direct materials, direct manuIacturing labor costs and
manuIacturing overhead costs. Industries that use process costing systems are Ior example:
chemical processing, oil reIining, pharmaceuticals, plastics, brick and tile manuIacturing,
semiconductor chips, beverages and breakIast cereals.
The diIIerence between job costing and process costing is the extent oI averaging used to
compute unit costs oI product and services. The cost object in job costing is a job that constitutes
a distinctly identiIiable product or service. The quantity oI manuIacturing resources is diIIerent
in any job. It would be incorrect to cost each job at the same average manuIacturing cost. So,
when like or similar units are mass produced, process costing averages manuIacturing costs over
all units produced.
The costs oI a product are important Ior inventory calculations, pricing decisions and product
proIitability analysis. It's also important Ior measuring how well the management is done and iI
costs are reduced eIIectively.
Serv|ce cost|ng ls LhaL parL of operaLlon cosLlng whlch ls used ln all organlsaLlon who provlde
servlces lnsLead of produclng of goods lor calculaLlng Lhe prlce of each servlce lL ls very necessary Lo
collecL all Lhe expenses relaLlng Lo LhaL servlces We make a cosL sheeL ln whlch we show all Lhe cosL
relaLlng Lo speclflc servlce 1hese cosLs are calculaLed on Lhe Llme basls lollowlng are Lhe maln
organlsaLlons who provlde servlces

1 8us 1rucks and 8all 1ransporL servlces

2 PosLlng and uomaln l1 Servlces

3 LlecLrlclLy Companles LlecLrlclLy servlces

3 Cas and eLrol Companles Cas and eLrol servlces
Cost Ledger
Under cost accounting system the Iollowing ledgers are maintained:
1. Cost Ledger
It is the main ledger maintained in the cost department. It contains two accounts, viz
(a) control account Ior each oI the subsidiary ledgers. Some oI the control accounts maintained
in this ledger are stores ledger control account, work-in-progress ledger control account, etc.
(b) cost ledger control account to make the cost ledger selI balancing.
2. Stores Ledger
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All transactions relating to materials are Iound in this ledger. It contains a separate account
Ior each item oI stores such as raw materials, component parts, indirect materials. The
issued. The entries in each account is made Irom the invoice, materials received note, material
requisition note, etc. The balance in this account represent the cost oI unused materials.

3. Work-in-Progress Ledger

This is also known as job ledger. It contains a separate account Ior each job or work-in-
progress. The elements oI cost is debited to this account and is credited with the amount oI
Iinished goods completed and transIerred. The balance in this account represent cost oI
incomplete job.

4. Finished Goods Ledger

This ledger contains a separate account Ior each item oI Iinished product or completed job.
This account is debited with the cost oI Iinished product and the amount oI administration
overhead absorbed and credited with the cost oI goods sold. The balance in this account
shows the closing stock oI Iinished goods in terms oI value.

Control Accounts

Under interlocking system, control accounts are maintained in the cost ledger to complete
double entry in cost books. These control accounts are nothing but total accounts or adjustment
accounts summarising mass oI inIormation contained in the subsidiary ledgers, i.e., stores
ledger, job ledger and Iinished stock ledger.

A control account is maintained in the cost ledger so that double entry in the cost ledger
may be completed and make it selI-balancing. These control accounts are posted with the
totals oI items which have been debited or credited in detail to the accounts in the ledgers
to which they relate. The balance in control accounts represents the total oI balances in a
number oI accounts oI similar nature maintained in that subsidiary ledger to which the
control account relates. For example, the balance in stores ledger control account represents
in aggregate the detailed balances oI stores accounts.

In addition to these control accounts Ior each oI the subsidiary ledger, a cost ledger
control account is also kept in cost ledger. This is operated to make the cost ledger selI-
balancing.

Advantages

1. It provides a check Ior ensuring that all expenditure is accounted Ior in cost accounts
with the help oI control account.

2. It provides a basis Ior reconciliation with the Iinancial accounts.

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3. It provides a ready means oI preparing monthly or periodical balance sheet, proIit and loss
account and statistics relating to cost.

Reconciliation Ledger
The purpose oI Recon Ledger is to display the summarized balances oI cost ledger. It is a ledger
used Ior summarized display oI values that appear in more detailed Iorm in the transaction Iorm.
It has the Iollowing Iunctions:
1) Reconciles controlling with Financial accounting.
a) The recon ledger provide the reports Ior monitoring the reco oI CO with FI by accounts.
b) It can identiIy & display value Ilows in Controlling across Company codes, Iunctional area
or business area boundaries.
c) Value Ilows can be used in FI as a basis Ior summarized reco. postings.
2) Provides an overview oI all costs incurred.
Various reasons for disagreement of profits shown by the two sets of
books viz., cost and
Iinancial may be listed as below:

Items appearing only in Iinancial accounts

The Iollowing items oI income and expenditure are normally included in Iinancial
accounts and not in cost accounts. Their inclusion in cost accounts might lead to unwise
managerial decisions. These items are:

Income:

(a) ProIit on sale oI assets
(b) Interest received
(c) Dividend received
(d) Rent receivable
(e) Share TransIer Iees
(ii) Expenditure
(a) Loss on sale oI assets
(b) Uninsured destruction oI assets
(c) Loss due to scrapping oI plan and machinery
%e) Coodwlll wrlLLen off
%g) lnLeresL on morLgage and loans
%h) llnes and penalLles
%lll) ApproprlaLlon
%a) ulvldends
%b) 8eserves
%c) ulvldend equallzaLlon fund Slnklng fund eLc
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2 lLems appearlng only ln cosL accounLs
1here are some lLems whlch are lncluded ln cosL accounLs buL noL ln flnanclal accounL
1hese are
%a) noLlonal lnLeresL on caplLal
%b) noLlonal renL on premlses owned
3 under or overabsorpLlon of overhead
ln cosL accounLs overheads are charged Lo producLlon aL predeLermlned raLes where ln
flnanclal accounLs acLual amounL of overhead ls charged Lhe dlfference glves rlse under
or overabsorpLlon causlng a dlfference ln proflLs
4 ulfferenL bases of sLock valuaLlon
ln flnanclal books sLocks are valued aL cosL or markeL prlce whlchever ls lower ln cosL
books however sLock of maLerlals may be valued on lllC or LllC basls and workln
progress may be valued aL prlme cosL or works cosL ulfferences ln sLore valuaLlon may
Lhus cause a dlfference beLween Lhe Lwo proflLs

3 uepreclaLlon
1he amounL of depreclaLlon charge may be dlfferenL ln Lhe Lwo seLs of books elLher
because of Lhe dlfferenL meLhods of calculaLlng depreclaLlon or Lhe raLes adopLed ln
company accounLs for lnsLance Lhe sLralghL llne meLhod may be adopLed whereas ln
flnanclal accounLs lL may be Lhe dlmlnlshlng balance meLhod

underwrlLlng commlsslon and debenLure dlscounL wrlLLen off