Introduction To Cost Accounting

Cost and Cost Object

Cost
• a resource sacrificed or foregone to achieve a
specific objective
Cost Object
• any product, machine, service or process for
which cost information is accumulated.
• cost objects can vary in size from an entire
company, to a division or program within the
company, or down to a single product or service.
 Direct Cost and Indirect Cost
• Direct Cost
A cost which is related to a particular cost
objective and can be traced to it in an
economically feasible way.
• Indirect Cost
A cost which is related a particular cost objective
but cannot be traced to it in an economically
feasible way.
 Cost accounting
• Cost accounting
is the classifying, recording and appropriate
allocation of expenditure for the determination
of the cost of products or services, and for the
presentation of suitably arranged data for the
purpose of control and guidance of
management.
 Variable Cost and Fixed Cost
• Variable Cost
a cost which is constant per unit but changes in
total in proportion to changes in the output
• Fixed Cost
a cost which does not change in total as volume
changes but changes on a per-unit basis as the
cost driver increases and decreases
 Cost accounting
• Cost accounting
is that branch of accounting which measures
and reports information relating to the cost of
acquiring and utilizing resources.
• Cost accounting provides information for both
management and financial accounting.
 Financial and Management
• Financial accounting provide information to external
parties i.e.
 Investors
 Creditors
 Regulators/govt.
• Managerial accounting provide information to internal
users such as
 Managers
• Cost accounting provide information to both internal
and external users
 Product cost information
Relationship of Financial, Management, and
Cost Accounting
Product
Costs

FINANCIAL COST MANAGEMENT

ACCOUNTING ACCOUNTING ACCOUNTING
 Scope of Cost Accounting
The scope of cost • Cost book-keeping
accounting is very wide • Cost system
and includes the • Cost ascertainment
following;
• Cost Analysis
• Cost comparisons
• Cost Control
• Cost Reports
 Objectives of cost accounting
• The total product cost and
• Determining selling cost per unit
price • Budgetary Control, Standard
• Controlling cost costing, and inventory
control.
• Providing information
• formulating operative policies
for decision-making
• loss of any activity on an
• Ascertaining costing objective basis by matching
profit cost
• Facilitating preparation • provides immediate
of financial and other information regarding stock of
raw material, semifinished
statements
and finished goods.
 Importance of Cost accounting
• TO THE MANAGEMENT
 To determine product cost
 The cost of the product is very important in cost
accounting.
 The total product cost and cost per unit of product are
important in making stock valuation, deciding price of
the product and managerial decision making.
 To facilitate planning and control of regular business
activities
 The cost formulation in cost accounting system is
oriented to help in planning, control and decision-
making.
 TO THE MANAGEMENT
• Elimination of wastage
 As it is possible to know the cost of product at every
stage, it becomes possible to check the forms of waste,
such as time and expenses are in the use of machine
equipment and material.
 Helps in estimate Costing records provide a reliable basis
upon which tender and estimate may be prepared.
 Helps in identifying unprofitable activities With the help
of cost accounting the unprofitable activities are
identified, so that the necessary correct action may be
taken.
 To supply information for short and long run decisions.
Cost accounting system provides data for short and long
run decisions of a non-recurring nature. These decision
generally involve high cost commitment
 Importance of Cost accounting
• Cost accounting and creditors
Suppliers, investor’s financial institution and
other moneylenders
base their judgement about the profitability
and prospects
 Importance of Cost accounting
• THE EMPLOYEES
Worker have an interest to efficient costing
systems benefits employees through incentive
plan. As a result both productivity and earning
capacity increase.
 Importance of Cost accounting
• Importance to National Economy
The overall economic developments of a
country take place due to efficiency of
production
 Importance of Cost accounting
• Data Base for operating policy
(a) Whether to make or buy decisions from
outside?
(b) Whether to shut down or continue
producing and selling at below cost?
(c) Whether to repair an old plant or to
replace it?
 Limitations of Cost accounting
 The system is more complex.
 It is expensive
 Inapplicability of costing method and technique
 Not suitable for small scale units
 Lack of Accuracy
 Lacks social Accounting
 Need preparation of frequent reconciliation to verify accuracy
 Duplication of Work
 Use of Secondary Data
 Lack of cooperation of employees
 Does not control Cost by itself
 It is based on estimation and previous data
 It only bring out the cost of goods or services
 It serves the information need of the management
 Not useful for determining the tax liabilities
Financial Accounting Vs. Cost
Accounting
 PURPOSE
Financial Accounting Cost Accounting
• To prepare profit and loss • To provide detailed cost
account and balance sheet information to management
for reporting to owners or i.e. internal users.
share holders and other
outside agencies, i.e.
external users
 Statutory requirements
Financial Accounting Cost Accounting
• Accounts to be prepared • Maintenance of these
according to the legal accounts is voluntary except
requirements of Companies in certain specified
Act and Income Tax Act industries where it has been
made obligatory to keep
cost records under the
companies Act
 Analysis of cost and profit
Financial Accounting Cost Accounting
• Financial accounts reveal • Cost accounts show the
the profit or loss of the detailed cost and profit data
business as a whole for a for each product line,
particular period. department process, etc.

• It does not show the figures

of cost and profit for
individual products,
departments and processes.
 Periodicity of reporting
Financial Accounting Cost Accounting
• Financial report (profit and • Cost reporting is a
loss accounts and balance continuous process and may
sheet) are prepared be daily, weekly, monthly,
periodically, usually on an etc.
annual basis.
 Control aspect
Financial Accounting Cost Accounting
• It lays emphasis on the • It provides for detailed
recording of financial system of controls with the
transaction and does not help of certain special
attach any importance to techniques like standard
the control aspect. costing and inventory
control etc.
Historical and predetermined costs
Financial Accounting
• It is concerned with
historical records.
• The historical nature of
financial accounting can be
easily understood in the
context of the purposes for
which it was designed.
Cost Accounting
• It is concerned not only
with historical cost but also
with predetermined costs.
• This is because cost
accounting does not end
with what has happened in
the past. It extends to plans
and policies to improve
performance in the future.
 Format of presenting information
Financial Accounting Cost Accounting
• Financial accounting has a • Cost accounting has varied
uniform format of forms of presenting cost
presenting information, i.e. information which are
profit & loss account, personalized to meet the
balance sheet and cash flow needs of management and
statement. thus lacks a uniform format.
 Types of transaction recorded
Financial Accounting Cost Accounting
• Financial accounting records • Cost accounting records not
only external transactions only external transaction
like sales, purchases, but also internal or inter
receipts etc. with outside departmental transactions
parties. Commercial like issue of materials by
transaction store keeper to production
departments.
 COST UNITS
• Cost unit is that unit of measurement which is
helpful to classify the cost and measure the cost
of products and services. Before measuring the
cost, we should determine the cost unit. It should
be different according the nature of products and
nature of business.
 We measure coal in tonne. So, tonne is the cost
unit.One metric ton will be equal to 1000 kgs but
our cost unit will be tonne or ton.
 We know that wall bricks are measured in one
thousand. So, cost unit will thousand bricks.
 Cost unit of transport service is per ton per km.
 Cost center
• It may defined as any location, person or item of
equipment for which cost may be ascertained &
used for the purpose of cost control.
• An identifiable part of an organisation where
costs can be calculated.
• Parts of cost centre
 Production cost centre
 Operation cost centre
 Research & development cost centre
 Profit centre
• An identifiable part of an organisation where
costs and revenue can be calculated
• Managers of profit centers control both the
revenues and costs of the product or service
they deliver.
• Cost for these units vary depending on ability
to control labor, waste, and hours.
• An identifiable part of an organisation where
costs and revenue can be calculated.
 Difference between:
Cost center
• Cost centres are the
smallest segment of activity
or area of responsibility for
which costs are
accumulated or
ascertained.
• Cost centres are created for
accounting convenience
• A cost centres does not
have target cost , but efforts
are made to minimize cost
All profit centres are cost centres but all cost centres are not
profit centres.
Profit center
• Profit centres are that
segment of activity which is
both responsible for Revenue
and expenses and disclose
profit of a particular segment
of activity.
• Profit centres are created to
delegate responsibility to
individuals.
• Each profit centre has a profit
target. There may be number
of cost centres in a profit
centre.
Classifying Costs
• By Element
• By Function
• By Traceability
• BY IDENTIFIABLY
• BY VARIABILITY
• BY CONTROLLABILITY
• BY NORMALITY
• OTHER COSTS
 Classification Of Cost
• BY NATURE OR ELEMENT
o MATERIAL COST
 Cost of materials used for the manufacture of
a product, a particular work order, or
provision of a service.
Example: Cloth for making a dress, stores used
for maintaining machines and buildings such
as lubricants, cotton waste, bricks etc.
 BY NATURE OR ELEMENT
o LABOUR COST
is defined as the total expenditure borne by
employers in order to employ workers.
bonuses and ex gratia payments not paid at
each pay period, payments for days not
worked, severance pay, benefits in kind
direct social benefits, vocational training costs
and so on.
 BY NATURE OR ELEMENT
o EXPENSES
is defined as money expended or cost incurred
in a firm's efforts to generate revenue,
representing cost of doing business.
in the form of actual cash payments (such as
wages and salaries), a computed 'expired'
portion (depreciation) of an asset, or an
amount taken out of the firm's earnings (such
as bad debts).
 Classification Of Cost
• BY FUNCTIONS
o PRODUCTION COST
 cost of the sequence of
operations which begins with
supplying materials, labour and
services and ends with primary
packing of the product.
o SELLING COST
 The cost seeking to create and
stimulate demand (sometimes
termed ‘marketing’) and of
securing orders.
o ADMINISTRATIVE COST
 The cost of formulating the policy,
directing the organization and
controlling the operations
o DISTRIBUTION COST
 The cost of the sequence of
operations which begins with
making the packed product
available for dispatch
o PRODUCT COST
 Under marginal costing variable
manufacturing cost and under
absorption costing, total
manufacturing cost constitutes
product cost.
o RESEARCH COST
 The cost of researching for new
or improved products, new
applications of materials, or
improved methods.
 Classification Of Cost
• BY IDENTIFIABLY  INDIRECT COST
 DIRECT COST  The expenses incurred on
 The expenses on those items which are not
material and labour directly chargeable to
production are known as
economically and easily indirect costs.
traceable to a product,
service or job are Example: In production,
salaries of timekeepers,
considered as direct storekeepers, foremen are
costs paid, certain expenses for
Example: Cost of meat in running the administration
a burger are incurred.
 Classification Of Cost
• BY VARIABILITY
o FIXED COST
 The cost which does not
vary but remains
constant
o VARIABLE COST
 These costs tend to vary
with the volume of
output
 Example: cost of material,
cost of labour etc.
o Semi-variable Cost
 The cost which does not
vary proportionately but
simultaneously cannot
remain stationery at all
times
Example: Depreciation,
repairs etc.
 Classification Of Cost
• BY CONTROLLABILITY
o CONTROLLABLE COSTS
 These are the costs which
can be influenced by the
action of a specified
member of an undertaking.
 The executive can thus
control the costs incurred in
that particular responsibility
centre.
o UNCONTROLLABLE COSTS
 Costs which cannot be
influenced by the action of
a specified member of an
undertaking.
 Example: Expenditure
incurred by the tool room is
controllable by the foreman
in charge of that section but
the share of the tool room
expenditure which is
apportioned to a machine
shop is not to be controlled
by the machine shop
foreman.
 Classification Of Cost
• BY NORMALITY o ABNORMAL COSTS
o NORMAL COSTS  It is the cost which is not
 It is the cost which is normally incurred at a
normally incurred at a given level of output in
given level of output the conditions in which
under the conditions in that level of output is
which that level of output normally attained.
is normally attained.  Example: destruction due
 Example: repairs, to fire; lockout; shut
maintenance, salaries down of machinery etc.
paid to employees.
 Classification Of Cost
• OTHER COSTS  Example: If an owned building is
proposed to be utilized for
o ACCOUNTING COSTS housing a new project plant,
 These costs are compiled o COMMON COSTS
primarily from financial
statements.  Common costs are those which
are incurred for more than one
o DECISION MAKING COSTS product, job, territory or any
 These are special purpose costs other specific costing unit.
that are applicable only in the  Example: Rent, lighting and
situation in which they are supervision costs
compiled.
o OPPORTUNITY COST
 This cost refers to the advantage,
in measurable terms, which has
been foregone on account of not
using the facilities in the manner
originally planned.
 Methods of costing
• Job Costing
o Batch Costing
o Contract Costing
o Operation Costing
• Cost plus Costing
• Process Costing
• Unit Costing
• Operating Costing
• Departmental Costing
• Multiple Costing
 Job Costing
• It is concerned with the finding of the cost of
each job or work order.
• Concerns when work is carried on by the
customers request, such as printer, general
engineering work shop etc. under this system a
job cost sheet is required to be prepared find out
profit or losses for each job or work order.
o Contract Costing
• is applied for contract work like construction of
dam, building, civil engineering contract
 Job Costing
o Batch Costing
• A batch is a group of identical products.
• Under batch costing a batch of similar products is treated
as a separate unit for the purpose of ascertaining cost.
• This type of costing is generally used in industries like
bakery, toy manufacturing

o Operation Costing
• This is suitable for industries where production is
continuous and units are exactly identical to each other.
This method is applied in industries like mines or drilling,
cement works etc.
 Process Costing
• This method is used in industries where
production is carried on through different stages
or processes before becoming a finished
product.
• Costs are determined separately for each
process. The main feature of process costing is
that output of one process becomes the raw
materials of another process until final product is
obtained.
• This type of costing is generally used in industries
like textile, oil refining etc.
 Unit Costing
• In this method cost per unit of output is
ascertained and the amount of each element
constituting such cost is determined .
• It is applied where the products can be
expressed in identical quantitative units and
manufacture is continuous.
• Example Brick making, Flour mills
 Operating Costing
• This method is used in those industries which
rendered services instead of producing goods.
• Under this method cost of providing a service
is also determined. It is also called service
costing.
• The organization like water supply
department, electricity department etc. are
the examples of using operating costing.
 Departmental Costing
• Ascertainment of cost of output of each
department separately is the objective of
departmental costing.
• Where a factory is divided into a number of
departments, this method is used.
 Multiple Costing
• It means combination of two or more of the
above methods of costing.
• Where a product comprises many assembled
parts or components costs have to be ascertained
for each component as well as for the finished
product for different components, different
methods of costing may be used. It is also known
as composite costing.
• This type of costing is applicable to industries
producing motor vehicle, airplane radio, T.V. etc.