Nov 4, 2010

What is Depreciation-Method to calculate Depreciation

Fixed Assets:-Fixed Assets are those assets which are:
• Of  long life
• To be used in the business to generate revenue
• Not bought with the main purpose of resale.

Fixed assets are also called “Depreciable Assets”

Accumulated Depreciation:-
It is the depreciation that has been charged on a particular asset from
the time of purchase of the asset to the present time.

No depreciation is charged for ‘Land’. In case of ‘Leased Asset/Lease Hold Land’ the amount paid for it is charged over the life of the lease and is called Amortization.

Methods of calculating Depreciation:-

1: Straight line method/Original cost method/Fixed installment method:-

Depreciation = (cost – Residual value) / Expected useful life of the asset

Residual value:
It is the cost of the asset after the expiry of its useful life.

2: Write Down value/Reducing method/diminishing method:-

WDV = Original cost of fixed asset – Accumulated Depreciation

Entries for Recording Disposal:-
Debit: Fixed Asset Disposal A/c
Credit: Fixed Asset Cost A/c
(With the cost of asset)

Debit: Accumulated Dep. A/c
Credit: Fixed Asset Disposal A/c
(With the depreciation accumulated to date)

Debit: Cash / Bank / Receivable A/c
Credit: Fixed Asset Disposal A/c
(With the price at which asset is sold)


Capital Work in Progress Account:-
If an asset is not completed at that time when balance sheet is prepared, all costs incurred on that asset
up to the balance sheet date are transferred to an account called Capital Work in Progress Account.
Debit: Relevant asset account
Credit: Capital work in progress account

Cost of Goods Sold Statment & valuation of Stock

Cost of goods sold statement:-
The statement shows the value of raw material consumed, amount spent on labor and other factory expenses, finished goods produced and goods unsold (in stock).

Standard format of cost of goods sold statement is given below:

Raw Material:
O/S Raw Material
+ Purchases
+ Cost Incurred to Purchase RM
- C/S Raw Material
Cost of Material Consumed

Conversion Cost:  
+ Direct Labor Cost
+ Factory Overheads
Total Factory Cost

Work in Process: 
+ O/S of WIP
- C/S of WIP
Cost of Goods Manufactured
Finished Goods:
+ O/S of Finished Goods
- C/S of Finished Goods
Cost of Good Sold

Cost of material consumed:-
It is the cost of material used for consumption that has been put in the production process.

Over Heads:-
Over Heads are the other costs incurred in relation of manufacturing of goods. Examples are factory utilities, supervisor salaries, equipment repairs etc.

Total factory cost:-
It is the cost of material consumed plus labor and over heads. In other words it is the total cost incurred in the factory.

Cost of goods manufactured:-
It is total factory cost plus opening stock of work in process less closing stock of work in process.

Cost of goods sold:-
It is the cost of goods manufactured plus opening stock of finished goods less closing stock of finished goods.

Prime/Basic Cost = Cost of Direct Material Consumed + Direct Labor cost

Conversion cost:-
It is the cost incurred to convert raw material to finished goods.
Conversion cost = Labor cost + factory overhead

Valuation of Stock:-
Any manufacturing organization purchases different material through out the year. The prices of purchases may be different due to inflationary conditions of the economy. The question is, what item should be issued first & what item should be issued later for manufacturing. For this purpose, the organization has to make a policy for issue of stock. All the issues for manufacturing and valuation of stock are recorded according to the policy of the organization.

Mostly these three methods are used for the valuation of stock:
• First in first out (FIFO)
• Last in first out (LIFO)
• Weighted average

First in first out (FIFO)
The FIFO method is based on the assumption that the first merchandise purchased is the first merchandised issued. The FIFO uses actual purchase cost.

Last in first out (LIFO)
The LIFO method is based on the assumption that the recently purchased
merchandise is issued first. The LIFO uses actual purchase cost.

Weighted average method
This average cost is computed by dividing the total cost of goods available for sale by the number of units in inventory.


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