Explanation of Cost Price Method

Under cost price method, materials issued to production, are charged out on the basis of actual cost i.e., the cost at which these have been purchased. As we already know, the actual cost of materials consists of purchase price or invoice price (less trade discount and quantity discount), import duty, sales tax, commission on purchase, freight, carriage, cartage, transit insurance and octroi duty.

Basis of Cost Price Method

This method is considered to be the simplest and most scientific as it helps in recovering the actual cost of materials paid, from production. As such, it adheres to the costing principles. Under the actual cost method, the materials issued can be priced out on any of the following basis:

First-In-First-Out Method

Under this method, materials purchased or received first are deemed to be issued first. As such, the price paid for the earliest lot of materials in hand is taken as the basis for charging out the materials issued. Under this method, the various items on the debit side of the Stores Ledger (Receipts Column) are exhausted in chronological order.
The stock in hand, under this method, is valued at cost of the current or latest purchases. This requires the maintenance of the record of quantity and value of every receipt of material.

Example (FIFO)

The operation of this method can be understood by the following example:
Cost Price method - FIFO Method

Frequently Asked Questions

When does the cost price method take in to consideration the issue of materials?

The cost price method takes in to consideration when we calculate opening and closing stock. But it is not considered under calculation of purchase and sales returns, because these amounts are written off through subsequent process (sales).

From where can we get the figure of unit cost in the purchase/sales returns?

The unit cost can be obtained from the Financial Statement. In case of budgeted accounts, it is directly provided by the auditor in "pro forma" accounts. In case of original accounts it is derived by analyzing budgets and cash books for a particular period.

What will be its impact on the stock valuation?

The impact will be on opening and closing stock. It will affect the value of both these items, but it does not affect purchases, sales or purchase returns.

What will be its effect on the total turn over?

It will not affect total turn over. It only affects the stock valuation and purchase, sales returns.

What will be its effect on closing stock?

Under this method, closing stock would increase by the difference between total purchases and total sales.

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