COST ACCOUNTING

Basic Nature and Concepts

COST ACCOUNTING

A tool of management. It provides management with detailed records of the costs relating to products, operations, or functions. It refers to the process of determining and accumulating the cost of some particular product or activity. It also covers classification, analysis and interpretation of costs.

COST ACCOUNTING

The cost so determined is used for planning purposes, or for evaluating performance. The Institute of Cost and Management Accountants, London, defines cost accounting as the process of accounting for cost from the point at which expenditure is incurred or committed to the establishment of its ultimate relationship with cost centres and cost units. In its widest range it embraces the preparation of statistical data, the application of cost control methods and the ascertainment of profitability of activities carried out or planned.

COST ACCOUNTANCY

The Institute of Cost and Management Accountants, London, has defined cost accountancy as the application of costing and cost accounting principles, methods and techniques to the science, art and practice of cost control and ascertainment of profitability as well as presentation of information for the purpose of managerial decision making. Thus it includes costing, cost accounting, budgetary control, cost control and cost audit.

COSTING

The Institute of Cost and Management Accountants, London, has defined costing as the ascertainment of costs. It includes techniques and process of ascertaining cost. Techniques refers to principles and rules which are applied for ascertaining cost of products manufactured and services rendered. It includes job costing and process costing. Process includes the day to day routine of determining costs within the method of costing adopted. It includes historical costing, marginal costing, absorption costing, standard costing, etc.

OBJECTIVES OF COST ACCOUNTING

To determine the product cost To facilitate the planning and control of regular business activities. To supply information for short run and long run decisions.

COST ACCOUNTING Vs FINANCIAL ACCOUNTING

NATURE Financial

accounting classifies, records, presents and interprets, in terms of money, transactions, and events that are of financial character, and provides management with the facts and figures necessary for the preparation of the periodic financial statements.

Cost acctg classifies, records, presents and interprets in a significant manner the material, labour and overhead cost involved in manufacturing and selling each product or rendering service.

Primary users of information

FINANCIAL ACCTG Shareholders, creditors, financial analysts, govt authorities, stock exchange, labour unions, etc.

COST ACCTG Members of management at different levels.

ACCOUNTING SYSTEM

Financial system follows double entry system for recording, classifying and summarizing business transactions.

Cost acctg not based on the double entry system.

ACCOUNTING PRINCIPLES

Generally accepted acctg principles important in FI acctg.

Not important in cost acctg.

Unit of measurement - In Fi acctg all info is in terms of money. Time span for a definite period, yearly, half yearly, quarterly.

In cost acctg any unit is used on the basis of the situation. Eglabour hours etc. Statements prepared as per requirement.

ADVANTAGES OF COST ACCTG

1. 2.

3.
4.

Provides data about profitable and unprofitable products and activities. All items of cost can be analyzed to minimize the losses and wastage. Manufacturing methods can be improved. Cost data can be obtained and compared with standard cost within the firm or industry.

5. Helps mngt avoid losses due to factors like low demand,

competitive conditions, change in technology etc. 6. Provides cost data and info to determine price of product. 7.Negotiation with govt and unions more easy. 8. Determining cost of different alternatives and selecting the best course of action. 9. More accurate and reliable financial accts can be prepared. 10. Ensures max utilization of physical and human resources, checks fraud, max profits and high earnings

METHODS OF COSTING

JOB COSTING PROCESS COSTING JOB COSTING used in those business where production is carried out as per specific order and customers specifications.
1.

Batch costing is based on the concept of contract

costing and is used to determine the cost of group of identical and similar products. Contract or terminal costing based on the principle of job costing and is used by house builders and civil contractors.

2.

3. Multiple or composite costing used in those industries

where the nature of product is complex, such as motor cars, aeroplanes etc. PROCESS COSTING used in those industries where production is done continuously. Total cost and per unit cost is calculated at each stage of production for control purposes. Unit or single output costing where single item is produced and final production is composed of homogeneous units.

2. Operating (service) costing used by those orgzns which render services and do not manufacture any physical item, such as transport, power house and hospital. 3. Operation costing aims at ascertaining cost of each operation in place of each process.

TECHNIQUES OF COSTING
Historical costing costs are determined after they are incurred. 2. Standard costing standard costs are determined and used, and then compared with actual cost to determine the extent of variances so that remedial action can be taken.
1.

TECHNIQUES OF COSTING
3. Absorption or full costing all manufacturing costs, fixed and variable, are changed to products, jobs, etc and are included in the total cost. 4.Variable costing charges only variable production costs to product or jobs and thus the cost of the product or jobs consists of only variable and fixed production costs 5. Uniform costing truly not a technique of costing, but an attempt by several undertakings and organisations to use similar costing principles and practices.

Classification of costs
Direct material refers to cost of materials which are conveniently and economically traceable to specific units of output. 2. Direct labour is defined as the labour of those workers who are engaged in the production process. It is the labour expended directly upon the materials comprising the finished product. 3. Direct expenses include expenditure other than direct material and direct labour directly incurred on a specific product or job. Eg cost of hiring special machinery or plant.
1.

4. Factory overhead also called manufacturing overhead or factory burden, may be defined as the cost of indirect materials, indirect labour, and indirect expenses. Indirect materials refers to materials that are needed for completion of a product but whose consumption with regard to the product is either small or complex that it is not appropriate to consider it as direct material. 5. Selling, distribution and administrative overheads usually begins when factory costs ends. Such costs generally are incurred when the product is in saleable condition.

COST BEHAVIOUR IN RELATION TO CHANGES IN OUTPUT

Fixed cost does not change in total for a given time
period espite wide fluctuations in output or volume of activity. Variable costs are costs that vary directly and proportionately with the output. Mixed costs are costs made up of fixed and variable elements.

DEGREE OF TRACEABILITY OF THE PRODUCT

Direct cost which are easily traceable or identifiable with a product are called direct costs. Indirect costs are those costs which cannot be identified with , or traced to a single product because they are incurred for several products.

ASSOCIATION WITH THE PRODUCT

Product cost identified with the product and included in inventory values. i.e. cost of manufacturing a product. It is composed of 4 elements: 1.direct materials 2.direct labour 3.direct expenses 4.manufacturing overhead. Period cost are costs identified with product or job and are deducted as expenses during the period in which they are incurred.

RELATIONSHIP WITH ACCOUNTING PERIOD

Capital expenditure provides benefit to future periods and is classified as an asset. A capital expenditure will flow into the cost stream as an expense when the asset is used up or written off. Revenue expenditure is assumed to benefit the current period and is classified as an expense.

COSTS FOR DECISION MAKING AND PLANNING

Opportunity cost is the cost of opportunity lost. It is the cost of selecting one course of action in terms of the opportunities which are given up to carry out that course of action. Sunk cost is the cost that has already been incurred. Also known as unavoidable cost , it refers to all the past cost since these amounts cannot be changed once the cost is incurred. Eg investment in securities. Relevant cost are ccost that differ between alternatives. It includes : 1.Future cost 2.Incremental or avoidable cost.

Differential costs is the difference in total costs between any two alternatives. It is equal to the additional variable expenses incurred in respect of the additional output, plus the increase in fixed costs, if any . Imputed cost are costs not actually incurred in some transaction relevant to the decision as they pertain to a particular situation. These costs do not enter into a traditional acctg system. Out-of-pocket cost While imputed cost do not involve cash outlays, out-of-pocket costs signifies the cash cost incurred on a particular activity. Non cash costs such as depreciation is not included in out-of-pocket cost.

Fixed, variable, and mixed costs (refer previous slide). Shut down cost are those costs which have to be incurred under all situations in the case of stopping the manufacture of a product or closing down a department or a division. It is always a fixed cost. Shut down cost thus refers to the min fixed cost which are incurred in the event of closure of a dept or a division.