Expenses accounting and calculation of the prime cost in the terms of the accounting legislation

Many companies prefer the system for internal accounting of the expenses calculation to correspond with the accounting for external customers. ‘Forming the accounting information about the expenses is a complicated, constant process of managing these expenses. This process is being realized under a specific technology, according to the Law on Accounting, The National Standards for financial reports of small and medium companies, The International standards for financial reporting, The International Accounting Standards and The Sample of the National Chart of Accounts.’ [1, p.80]

The prime cost is a financial image of the manufacturing and realization expenses of the goods and serviced, which the company offers to the market. According to the Law on Accounting, the prime cost is the value of the manufactured (created) in the company assets, which doesn`t include the administration expenses, the sale expenses, the financial and extraordinary expenses. [2, § 1, p.4] The prime cost is also a main index for economy activities. The calculation is the form of determination of the production`s prime cost, and shows in details what types of expenses are done. [3, p.68.[

What is the range of the expenses that form the prime cost according to IAS 2 Inventories? IAS 2 determines the range of the expenses, included in the prime cost, by the mean of excluding. According to the Standard, the Inventories are excluded from the prime cost, and are being recognized as expenses for the period:

• •      The extra quantities of discarded materials, the labor included in

them, and other manufacturing expenses.

• •     Warehouse expenses, except for the cases when they are needed for

the manufacturing process before another, following manufacturing stage.

• •      The administrative costs, which are not related to bringing the

Inventories to their current stage and condition.

• •    Sales expenses.

“The conditions, mentioned in IAS 2, give us a reason to make the current conclusion: the prime cost of the production must involve all of the manufacturing expenses, which are not related to the usual course of the working activities. In order with this, two requirements could be determined, which seem to be contrary at first sight. The first requirement says: all of the expenses, related to the manufacturing of the production and the realization of the services must be included in the prime cost calculation. The second requirement says: these types of expenses must mark the usual course of the activity, e.g. to be within the norms.’[4, p.7]

In order with the first requirement, the range of the prime cost includes not just the basic manufacturing expenses, but also the expenses, related to the organizing and managing the manufacturing process itself. The expenses for organizing and managing the manufacturing process must be included in the prime cost. These expenses are separated in an independent expenses domain, and are being divided among the other manufacturing sections on some base.

In order with the second requirement, the prime cost must include only the expenses that are in the norms. This refers not just for the direct material and labor costs, but also for the total manufacturing expenses. Examples of direct material expenses, which must not be included in the prime cost, are: the wasters and the rejects from the production, unless they are in the norms of the legally established wastes. Examples of direct labor expenses, which also have to be excluded from the prime cost, are the downtimes, which are removable.

The rule for including costs, related to the usual course of the manufacturing activity, refers also for the total manufacturing expenses. The total manufacturing expenses, part of the prime cost, could be separated in constant, variable, and other.

The constant total manufacturing expenses are this type of expenses, which can`t be influenced by the quantity of the produced production. In some cases, we can add some constant, indirect expenses with manufacturing character, such as: depreciation expenses, rent expenses, production inventory expenses, insurance expenses, maintenance expense and other. Therefore, their total volume is related not just for the used capacity, but also for the maintenance of the non-used capacity. Only the constant expenses, related to the used capacity, must be included in the prime cost of the production.

The total manufacturing expenses, which depend directly or almost directly from the volume of produced production, are variable. In some cases, depending on the specialization of the company, the production process could involve expenses such as: electricity expenses, expenses on the current maintenance of the manufacturing assets, labor expenses on the supportive staff, additional materials and others. These expenses are calculated only in cases when the company realizes some activities. Therefore, they are included in the prime cost of the production or the services in their total amount.

The other expenses of the production process could be an element of the prime cost, as far as they had been realized in order with taking the production and the unfinished production to their current stage and condition for usage. The expenses for creating new products for clients, as well as some non-manufacturing expenses, could be marked in this paragraph.

The distribution of the constant total manufacturing expenses is based on the normal capacity of the manufacturing powers. According to IAS 2 Inventories, the normal capacity is the one, which shows the average production for several periods or seasons in normal conditions, as the lost of capacity, due to the planned maintenance, has to be considered. This is the exact amount of realized capacity. It is a result from the total activities of a concrete company for a specific period of time. The sources for calculating the manufacturing capacity are financial reports, marking the completed economic operations. The conditions, which influence over the regular manufacturing capacity, constantly change. That`s why it has its own dynamics, which leads to the need of its periodic recalculation.

The algorithm for calculating the regular manufacturing capacity is this:

• 1.    Fixing the period of recalculation;

• 2.    Analysis of the realized manufacturing, in order to remove the diversions from the regular production volume, which are a result of mere manufacturing or a downtime.

• 3.    The previously calculated regular manufacturing capacity is compared to the capacity, reached through the accounting period of production.

The following situations are plausible:

• a)    the production volume is equal or bigger that the regular manufacturing capacity. In this case, the amount of the constant total manufacturing expenses for an item of production is defined in a way, that the inventories are not evaluated by their real cost. Moreover, the constant total manufacturing expenses are distributed among the real quantity of manufactured items.

• b)    the production volume is smaller than the regular manufacturing capacity. In this case, the amount of the total manufacturing expenses doesn`t increase. While the undistributed expenses are accounted as other current expenses for the period, which doesn`t include the revision expenses.

The variable total manufacturing expenses are distributed for every single item of production, on the base of the real usage of the manufacturing powers.