AMITY Business School: Cost Accounting Nupur Agarwal

Amity Business School
AMITY Business School

B.Com.(Hons), IIIrd Semester Cost Accounting Nupur Agarwal
COST - MEANING
Cost means the amount of expenditure ( actual or notional) incurred on, or attributable to, a given thing
COST ACCOUNTING - MEANING

Cost accounting is concerned with recording, classifying and summarizing costs for determination of costs of products or services, planning, controlling and reducing such costs and furnishing of information to management for decision making
OBJECTIVES OF COST ACCOUNTING

Ascertainment of costs Estimation of costs Cost control Cost reduction Determining selling price Facilitating preparation of financial and other statement Providing basis for operating policy
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COST TERMINOLOGY
COST:
thing. Cost means the amount of expenditure incurred on a particular
COSTING:
Costing means the process of ascertainment of costs.
COST ACCOUNTING:
planned.
The application of cost control methods
and the ascertainment of the profitability of activities carried out or
COST CONTROL: Cost control means the control of costs by

management. Following are the aspects or stages of cost control.
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Differences between cost accounting and financial accounting

Audience. Financial accounting involves the preparation of a standard set of reports for an outside audience, which may include investors, creditors and credit rating agencies and regulatory agencies. Cost accounting involves the preparation of a broad range of reports that management needs to run a business. Format. The reports prepared under financial accounting are highly specific in their format and content, as mandated by either GAAP or IFRS. Cost accounting involves creating reports that can be in any format specified by management, with the intention of including only that information pertinent to a specific decision or situation. Level of detail. Financial accounting primarily focuses on reporting the results and financial position of an entire business entity. Cost accounting usually results in reports at a much higher level of detail within the company, such as for individual products, product lines, geographical areas, customers or subsidiaries.
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Differences between cost accounting and financial accounting

Product costs. Cost accounting compiles the cost of raw material, finished goods and WIP inventory, while financial accounting incorporates this information into its financial reports (primarily into the balance sheet). Regulatory framework. The structure of financial accounting reports are tightly governed by either generally accepted accounting principles or international financial reporting standards. There is no regulatory framework governing cost accounting reports. Report timing. Financial accounting personnel issue reports only at the end of a reporting period. Cost accounting staff may issue reports at any time and with any degree of frequency, depending upon management's need for the information. Time horizon. Financial accounting is only concerned with reporting the results of reporting periods that have already been completed. Cost accounting does this too, but also can be involved in a variety of projections for future periods.
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Similarity between Cost Accounting and Financial Accounting

Two activities which are performed in a business are Operating activity: related with the production of items using material, labor, machinery etc. and its sales Financial activity: related with arranging money for these activities. Operating activity Cost accounting Financing activity Financial accounting

Basis: the vouchers on the basis of which accounts are maintained are same in both the methods. Methods of Book keeping: both the methods are based upon double entry system as legal procedure of accounting. Profit/Loss: both the systems aim at calculating profit/loss for a given period. However, profits revealed by the two systems are not necessarily equal. Account of Direct and Indirect expenses: both the systems keep records of both direct and indirect expenses.
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Evaluation of earlier plans: both the systems are required for evaluating any plan Future planning: for future plans both cost and financial data is required Helpful in fixing the Selling price: Both the accounts are helpful in calculating SP of the items produced.
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Cost v/s Expenses

Expense is an expired cost resulting from productive usage of an asset. It is the cost which has been applied against revenue for an accounting period Unexpired part of cost is recorded as an asset in the b/s. Such unexpired cost is converted into expense when it expires while earning revenue. Loss is reduction in the firms equity, other then from withdrawal of capital for which no compensating value has been received.
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Cost
Expired Cost
Unexpired Cost
Expense
Loss
Shown in the P/L a/c (Dr. Side)
Shown in the B/s as an asset
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Cost centre: for calculating cost, the whole organization is divided into small parts. Each such part is treated as a cost centre for which cost is ascertained. It can be a location, person or item of equipment for which cost is calculated and used.
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Cost unit: it is the unit of product or service in relation to which costs are ascertained. Cost units may be of two types: Units of production: tonne of steel, meter of cable, liter of oil etc. Units of service: seats in a cinema hall, consultancy hours etc.
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Cost Object: anything for which a separate measurement of cost is desired. It may be a product, service, activity or a process. ExampleProduct- car, computer Service- Taxi service, Conference calls Process- Melting process, weaving process Activity- Website development, raw material purchase
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ACCOUNTING INFORMATION SYSTEM

The overall objective of an accounting information system is to provide information to users. This system is divided into two major subsystems: 1. The financial information system. 2. The cost management information system.
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THE FINANCIAL ACCOUNTING INFORMATION SYSTEM

Primarily concerned with providing outputs for external users, namely, investors, government authorities, tax authorities, bankers, insurers etc. Financial accounting statements are prepared according to well known rules and conventions. Such rules and conventions are defined and governed by the respective Accounting Standards Boards and the Securities Exchange Commission/Board of the countries concerned. Financial statements normally consist of Balance sheets, Income statements, and statement of Cash Flows.
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THE COST MANAGEMENT INFORMATION SYSTEM

This system is primarily concerned with producing outputs for internal users for satisfying management objectives. Such a system is not bound by any formal rules and conventions, unlike the financial accounting system. Instead such criteria are set internally. This system has the following three broad objectives: 1. To provide information for costing out services, products and other objects of interest to management. 2. To provide information for Planning and Control. 3. To provide information for Decision making.
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Pre requisite for Installing a good Costing System

There should be complete knowledge and information of the goods to be produced. Selection of appropriate cost unit Suitable to the business No disturbance caused to the existing organizational structure Should not be over elaborate Cost system installation should not exceed its value to the firm.
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Difficulties in Installing Cost Accounting System

Lack of support from top management. Resistance of accounting staff Lack of trained cost accountants Considered as over complex and lengthy
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Classification of Cost
Classification of costs can be made according to the following basis Classification according to elements : Raw material Labor Overheads
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Classification according to nature

As per this classification, costs can be classified into Direct costs: these are the costs which are identifiable with the product unit or cost centre Indirect costs: these are not identifiable with the product unit or cost centre and hence they are to be allocated, apportioned and then absorb in the production units. All elements of costs like material, labor and expenses can be classified into direct and indirect.
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Direct and Indirect Material Direct material is the material which is identifiable with the product. Indirect material cannot be identified with the product.
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Direct and Indirect Labor Direct labor can be identified with a given unit of product. E.g. wages paid to workers who are directly engaged in the production can be identified and hence they are direct wages. Indirect Labor cannot be identified with a product. E.g. wages paid to workers like sweepers, gardeners, maintenance workers etc are indirect wages as they cannot be identified with the given unit of production
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Direct and Indirect Expenses Direct expenses refers to expenses that are specifically incurred and charged for specific or particular job, process, service, cost centre or cost unit. These expenses are also called as chargeable expenses. Examples of these expenses are cost of drawing, design and layout, royalties payable on use of patents, copyrights etc. Indirect expenses on the other hand cannot be traced to specific product, job, process, service or cost centre or cost unit. Several examples of indirect expenses can be given like insurance, electricity, rent, salaries, advertising etc.
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Classification according to behaviour

Fixed Costs Out of the total costs, some costs remain fixed irrespective of changes in the production volume. These costs are called as fixed costs. Examples of these costs are salaries, insurance, rent, etc.
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Variable Costs These costs are variable in nature, i.e. they change according to the volume of production. Their variability is in the same proportion to the production. Example, if the production units are 2,000 and the variable cost is Rs. 5 per unit, the total variable cost will be Rs. 10,000, if the production units are increased to 5,000 units, the total variable costs will be Rs. 25,000, i.e. the increase is exactly in the same proportion of the production. Another feature of the variable cost is that per unit variable cost remains same while the total variable costs will vary Examples of variable costs are direct materials, direct labor etc.
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Semi-variable Costs These costs are partly fixed and partly variable. In other words, they contain the features of both types of costs. Examples of these costs are Maintenance costs, supervisory costs etc These costs are also called as stepped costs.
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Classification according to functions

Production Costs - All costs incurred for production of goods are known as production costs. Administrative Costs - Costs incurred for administration are known as administrative costs. Examples of these costs are office salaries, printing and stationery, office telephone, office rent, office insurance etc.
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Selling and Distribution Costs - All costs incurred for procuring an order are called as selling costs while all costs incurred for execution of order are distribution costs. Market research expenses, advertising, sales staff salary, sales promotion expenses are some of the examples of selling costs. Transportation expenses incurred on sales, warehouse rent etc are examples of distribution costs. Research and Development Costs: Expenditure incurred for research function can be classified as Research and Development Costs. They relate with developing new products and technologies.
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Classification according to time

Historical Costs These are the costs which are incurred in the past, i.e. in the past year, past month or even in the last week or yesterday. The historical costs are ascertained after the period is over. Though historical costs have limited importance, still they can be used for estimating the trends of the future Predetermined Cost These costs relating to the product are computed in advance of production, on the basis of a specification of all the factors affecting cost and cost data. Pre determined costs may be either standard or estimated
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Classification of costs for Management decision making

Marginal Cost Marginal cost is the change in the aggregate costs due to change in the volume of output by one unit Marginal cost is also termed as variable cost and hence per unit marginal cost is always same, i.e. per unit marginal cost is always fixed.
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Differential Costs Differential costs are also known as incremental cost. This cost is the difference in total cost that will arise from the selection of one alternative to the other. This type of analysis is useful for taking various decisions like change in the level of activity, adding or dropping a product, change in product mix, make or buy decisions, accepting an export offer and so on.
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Opportunity Costs It is the value of benefit sacrificed in favour of an alternative course of action. It is the maximum amount that could be obtained at any given point of time if a resource was sold or put to the most valuable alternative use that would be practicable. Opportunity cost of goods or services is measured in terms of revenue which could have been earned by employing that goods or services in some other alternative uses.
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Relevant Cost The relevant cost is a cost which is relevant in various decisions of management. Decision making involves consideration of several alternative courses of action. In this process, whatever costs are relevant are to be taken into consideration. These are costs which are going to be affected as a decision. Relevant cost is a future cost.
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Replacement Cost This cost is the cost at which existing items of material or fixed assets can be replaced. Thus this is the cost of replacing existing assets at present or at a future date. Abnormal Costs It is an unusual or a typical cost whose occurrence is usually not regular and is unexpected. This cost arises due to some abnormal situation of production. Abnormal cost arises due to idle time, may be due to some unexpected heavy breakdown of machinery. They are not taken into consideration while computing cost of production or for decision making.
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Controllable Costs Controllable costs are those which can be controlled or influenced by a conscious management action. For example, costs like telephone, printing stationery etc can be controlled while costs like salaries etc cannot be controlled at least in the short run. Generally, direct costs are controllable while uncontrollable costs are beyond the control of an individual in a given period of time.
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Shutdown Cost These costs are the costs which are incurred if the operations are shut down and they will disappear if the operations are continued. Examples of these costs are costs of sheltering the plant and machinery and construction of sheds for storing exposed property. Computation of shutdown costs is extremely important for taking a decision of continuing or shutting down operations.
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Capacity Cost These costs are normally fixed costs. The cost incurred by a company for providing production, administration and selling and distribution capabilities in order to perform various functions. Capacity costs include the costs of plant, machinery and building for production, warehouses and vehicles for distribution and key personnel for administration. These costs are in the nature of long-term costs and are incurred as a result of planning decisions.
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Cost sheet
..\..\cost sheet.docx
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