The Hindu Business Line : Rattled by the rate

HAVING attended a CIMA course on activity-based costing (ABC) you decide to experiment by applying the principles of ABC to the four products currently made and sold by your company. Thus begins a CIMA Stage 2 Cost Accounting problem that is more than a decade old and included on page 362 of Colin Drury's Management & Cost Accounting, fifth edition (2000), from Taxmann. "The four products are similar and are usually produced in production runs of 20 units and sold in batches of 10 units," it continues.

But let me take you to the latest PE-II paper on costing from the Institute of Chartered Accountants of India. Question 1(c) reads, "ABCD Co Ltd produces and sells four products, A, B, C and D. These products are similar and usually produced in production runs of 10 units and sold in a batch of 5 units."

What follows is a table with due changes, not only to text but also to numbers, as evidence of application of mind when setting the paper. However, `machine hours (per unit)' in the original got transformed to `machine hour rate (per unit)' in the question paper, and experts point out that the problem becomes unsolvable on that count.

Further on, the table showing costs and cost drivers makes a cosmetic change to the source by rearranging rows.

Copying, or the euphemistic `adapting', is a tiring exercise, you'd agree, so as fatigue sets in, the extent of modification usually reduces. "The number of requisitions raised on the stores was 25 for each product and number of orders executed was 96, each order was in a batch of 05 units," reads the question paper, without altering too much the original that reads, "The number of requisitions raised on the stores was 20 for each product and the number of orders executed was 42, each order being for a batch of 10 of a product."

You are required to calculate the total costs for each product if all overhead costs are absorbed on a machine hour basis, reads the CIMA question, while the ICAI morphs it into, "Required: Total cost of each product assuming the absorption of overhead on machine hour basis," without realising that a key line in the problem had introduced a redundant `rate' along with machine hour.

For starters, machine hours mean the number of hours required for a product to run on a machine, while machine hour rate is a predetermined overhead rate (more like labour hour rate) calculated on the basis of the number of machine hours that a product is estimated to require.

"On two occasions I have been asked, `Pray, Mr Babbage, if you put into the machine wrong figures, will the right answers come out?' I am not able rightly to apprehend the kind of confusion of ideas that could provoke such a question," is a quote of Charles Babbage. Likewise, one may ask, "If you put into the question paper wrong lines, will the right answers come out?

RootOfTheProblem@rediffmail.com

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