Reconciliation of Cost and Financial Accounts

What is Reconciliation?

Reconciliation of cost and financial accounts is the process of identifying reasons for differences in profit between:

• 📊 Cost Accounts, and

• 📈 Financial Accounts

✅ Purpose:

To match profit figures and ensure accuracy between both accounting systems.

❓Why Differences Arise

🔹 (A) Items in Financial Accounts Only

These are not recorded in cost accounts because they are not related to manufacturing.

(i) Purely Financial Expenses (↓ Financial Profit)

→ Loss on sale of assets

→ Stamp duty, share issue expenses

→ Discount on debentures

→ Interest on loans

→ Penalties and fines

(ii) Purely Financial Income (↑ Financial Profit)

→ Rent received

→ Share premium

→ Dividends received

→ Interest from investments

(iii) Appropriation of Profits

→ Donations, charity

→ Income tax, dividends

→ Reserve transfers

🔹 (B) Items in Cost Accounts Only

These are notional charges (not actually paid):

→ Interest on capital (not paid, but assumed)

→ Rent of owned premises (charged notionally)

🔹 (C) Items Treated Differently

→ These different treatments cause profit differences.

📌 Need for Reconciliation

✅ Required when cost & financial accounts are maintained separately.

Objectives:

1. ➕ Find and explain the reasons for profit difference

2. 📐 Ensure mathematical accuracy of accounts

3. 📊 Improve standard policies (stock, overhead, depreciation)

4. 🤝 Improve coordination between cost & finance teams

5. 🧠 Help management control internal operations

📋 Methods of Reconciliation

➤ (1) Reconciliation Statement

→ Most commonly used method

→ Start with profit as per one account (base)

→ Add or deduct items to arrive at profit as per other account

➤ (2) Memorandum Reconciliation Account

→ Treated like a ledger (but not recorded in books)

→ Debit: items to deduct

→ Credit: items to add

→ Balancing figure = profit from other account

📌 Steps to Prepare Reconciliation Statement

Step 1: Choose base profit

(e.g., profit as per cost account)

Step 2: Add these:

✅ Income in financial but not in cost

✅ Notional expenses in cost (like rent, interest)

✅ Over-recovery of overheads

✅ Closing stock undervalued in cost

✅ Opening stock overvalued in cost

✅ Over-depreciation in cost

Step 3: Deduct these:

❌ Income in cost but not in financial

❌ Financial-only expenses

❌ Under-absorption of overheads

❌ Closing stock overvalued in cost

❌ Opening stock undervalued in cost

❌ Under-depreciation in cost

Step 4: Final result = profit as per financial accounts

✅ Note:

If you take financial profit as base, reverse the steps (add → deduct and deduct → add)

🔄 Summary of Reasons for Profit Difference