Estimation Valuation of Stocks

Estimation and actual

It has already been explained that the cost can be computed either on actual or estimated basis. Since cost accounts are meant to function as a control device it will be appropriate to adopt estimated costing or preferably standard costing system while preparing cost accounts. Estimates or standards can be nearer to the actual but in most cases they cannot be the same. This necessarily means that the profit shown by the cost accounts is bound to be different from the profit shown by the financial accounts.

Following are some of the important items the costs of which may be different in financial books and costing books:

(a) Direct materials: The estimated or standard cost of the direct materials purchased or consumed in the production process may be different from the actual costs. This difference will be due to change in price or quantity or both.

(b) Direct labour: The estimated or standard cost of direct labour may be different from the actual costs because of difference in wage rates or hours of work or both. Sometimes, workers might have to be paid more due to increased dearness allowance, pay revisions, bonus etc. This will cause difference between the profits shown by the two sets of books.

(c) Overheads: In cost accounts the recovery of overheads is generally based on estimates while in financial accounts the actual expenses incurred are recorded. This results in under or over-recovery of overheads.

The under-recovery or over-recovery of overheads may be carried forward to the next period or may be charged by a supplementary rate (positive or negative) or transferred to costing profit and loss account. In case the under-recovery or over-recovery of overheads has been carried forward to next period, the profit as shown by the costing books will be different from the profit as shown by the financial books.

(d) Depreciation: Different methods of charging depreciation may be adopted in cost and financial books. In financial books depreciation may be charged according to fixed installment method or diminishing balance method etc. while in cost accounts machine hour rate or any other method may be used.

Valuation of stocks

(a) Raw materials: In financial accounts stock of raw materials is valued at cost or market price, whichever is less, while in cost accounts stock can be valued on the basis of FIFO or LIFO or any other method.

(b) Work-in-progress: Difference may also exist regarding mode of valuation of work-in-progress. It may be valued at prime cost or factory cost or cost of production. The most appropriate mode of valuing it is at factory cost in cost accounts. In financial accounts work-in-progress may be valued after considering a part of administrative expenses also.

(c) Finished goods: Under financial accounts, of finished goods is valued at cost or market price whichever is lower. In cost accounts, finished stock is generally valued at total cost of production. If the circumstances warrant, prime cost or factory cost may also be taken as the basis for valuing the stock of finished goods.

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