Cost What it is

Cost is the amount of resources given up in exchange for some goods services in terms of money. The cost incurred is deferred, unexpired cost or capitalised cost. They provide future benefits & shown in balance sheet. when these assets are used up they become expenses and expenses are expired costs.

Cost
Price the amount sacrificed for the value of a commodity or service one derives from it Value The amount of satisfaction one receives by consuming or utilising a service Loss- loss cost i.e. if no benefits is received from the cost incurred.

COST Accounting
In your career you may be a Director HR, may be a marketing Manager or CEO of your own co. In all these positions you will have to plan operations, evaluate your subordinates and make variety of decisions using accounting information. It is the process of identifying, measuring, analysing, interpreting and communicating information in pursuit of organisational goals. It stresses accounting concepts and procedures that are relevant for preparing internal reports.

Goals Of Managerial Accounting

Planning: it communicates organisations goals to employees aiding coordination to various functions. financial plan is budget. (the accounting people are expected to do things that are much more strategic and much more forward looking) Control: ensuring that the organisation operates in the intended manner to achieve goals. It is to evaluate performance of managers and operations.

Goals
Directing operational activities: How much financial and physical resources. Decision making: Choosing the best among available alternatives.

Basic Approaches
Cost-benefit approach buy and make decisions Behavioural and technical considerations motivating the employee is the behavioral aspect whereas making wise economic decisions is technical consideration. Different costs for different purposes.

Cost Management system

To measure the cost of resources To identify and eliminate non-value-added costs To determine efficiency and effectiveness of major activities To identify and evaluate new activities

Strategic cost management & value chain

Steps in value chain; a) securing raw material and other resources b) Research & Development C) product design d) production e) Marketing f) Distribution & sales Strategic cost management is to to make each activity cost effective.

Cost concepts
Cost is defined as the sacrifice made (resources given up) to achieve a particular purpose. An expense is defined as the cost incurred when asset is used up or sold for the purpose of generating revenue.

Classification of cost
Direct and indirect cost: traceability or assignment. If you have an employee performing assembly operations this is id direct labour cost. When you put a Robot to do that job then you may have to engage an engineer to make sure that the Robot is programmed right. This will be indirect cost. The difference between direct and indirect depends on the object of cost.

Cost classification
Variable cost: changes in direct proportion to a change in the level of activity or the cost driver. Fixed cost: the cost which remains fixed for a particular level of activity. (categories- committed cost, managed cost, discretionary cost and step cost ) Semi-variable cost: the part of the cost remains fixed irrespective of use and remaining depends on the use.

 Controllable: if the cost can be influenced by the managerial decisions, it is controllable. Uncontrollable: it can not be influenced or controlled. Opportunity cost: the benefit which is sacrificed when the choice of one action precludes taking an alternative better action.

 Sunk Cost: cost incurred in the past and can not be changed by any current or future action. These costs are irrelevant to all future decisions. Product cost or inventoriable cost: it is used to value the inventory of manufactured goods until the goods is sold. Time period cost: the costs are identified with the period of time in which they are incurred. It is recognised as expenses during the time they are incurred

Incremental Analysis
It involves calculation of the difference in revenue and difference in cost between decision alternatives. the difference in the revenue is the incremental revenue of one alternative over another. Difference in cost is incremental cost of one alternative over the other

Marginal Cost
A change in total cost on account of change in the cost of an additional unit. Marginal cost= dTC / dQ. Average cost

Differential cost
The amount by which the cost differs under two alternative actions

Cost classification
Shutdown cost- Fixed cost associated with the plant even if the plan does not function. The unit may remain close for any reason but these costs can not be avoided. Standard cost predetermined for the unit of output Joint cost total costs incurred up to a point of separation (crude oil) Common cost- which are incurred for more than one product, job, territory. They are apportioned

Manufacturing cost
The cost incurred in manufacturing process. It consists of; - direct material - direct labour - manufacturing overheads

Out of pocket cost

The cost which requires payment of cash or other assets as a result of their ocurrance.

Cost classification
The following are the cost items of a department of a Bank. Salary to the loan department Manager Cost of office supplies used by the department Cost of departments PC bought last year Cost of general advertising by the bank which is allocated loan dept. Revenue the loan dept would have generated if another branch would have been opened. Difference in the cost incurred b the bank on processing additional loan application.

 The cost items may be classified in the following categories; a) controllable by the loan department b) uncontrollable c) direct cost to loan department d) indirect cost e) Differential cost f) Marginal cost g) opportunity cost h) sunk cost i) out of pocket cost.

solution
1. b , c ,i 2. a, c, i 3. a, c, h 4. b, d, I 5. g 6. e and f

CVP ANALYSIS
An analysis of how cost and profit changes when volume changes is known as Cost Volume Profit analysis. The Relationship -Profit depends on selling price, cost of manufacturing and volume of sale -Selling price depends on cost of manufacturing -Volume of sales depends on volume of production

The volume of production depends on cost Profit = Selling price - Variable cost - Total fixed cost

OBJECTIVES OF CVP
To forecast profit fairly accurately Forecast sales volume to achieve a particular level of profit To prepare flexible budgets where variable cost alone changes If sales volume increases what would be the profit Effect on profit if fixed cost or variable cost changes Required sales volume to cover additional fixed charges And so many other business operation related decisions

BREAK EVEN ANALYSIS

The break even point is the sales volume at which there is neither profit nor loss, costs being equal to revenue.
Fixed Cost

Break Even (volume) =

---------------------

Contribution margin (Selling price Variable cost per unit)

It measures the amount each unit sold contributes to cover fixed cost and increase profits. Fixed Cost BEP (Amount) = ----------------PV Ratio

PROFIT VOLUME RATIO (PV Ratio)

PV Ratio also known as contribution margin ratio, marginal income ratio or variable profit ratio is useful; a) For determining the desired volume of output for specified amount of profit b) To know changes in profit due to changes in volume A HIGHER PV RATIO INDICATES THAT A SIGNIFICANT INCREASE IN VOLUME WITHOUT ANY INCREASE IN THE FIXED COST WOULD RESULT IN HIGHER PROFITS Contribution margin per unit PV ratio = ---------------------------------Selling price per unit

This indicates the contribution of every additional rupee of sales to cover fixed cost and generating a profit If my fixed cost is Rs. 20,000 and PV ratio is 40 % the break even would be Fixed cost 20,000 --------------= ----------- = Rs.50,000 PV Ratio 40%

VV RATIO
Variable cost to volume ratio indicates relationship between variable cost and sales volume. VV RATIO = 1 - PV ratio

MARGIN OF SAFETY

It is better to have a level of sales greater than break even sales. Margin of safety is the difference between the expected or actual level of sales and break even sales. Actual sales Break Even sales volume Margin of safety % = ------------------------------------------------ X 100 Actual sales
A HIGHER MARGIN OF SAFETY SHOWS THAT BREAK EVEN POINT IS MUCH BELOW THE ACTUAL SALES. EVEN IF THERE IS A FALL IN SALES , THERE WILL STILL BE PROFIT. If Actual sales is Rs. 6,000 and Break Even Rs. 3,600 the MS ratio would be 40%. This means actual sales may be reduced up to 40 % to reach a break even level. Margin of safety can also be used to measure the amount of profit Profit = margin of safety amount X PV ratio

If Margin of safety is Rs.2.400 and PV ratio is 33.335 THE PROFIT WOULD BE Rs.800

SALES VOLUME REQUIRED TO DESIRED OPERATING PROFIT

Fixed cost + Desired operating profit

Required sales volume = -------------------------------------------PV Ratio

Ex. Calculate desired level of operation from the following figures assuming a tax rate of 40% and the net profit expectation of 20% on capital of Rs. 2 Crore after tax) ( Rupees ) Selling price per unit 400 Variable cost 250 Fixed cost Staff salaries for the year 12,00,000 General office exp 13,00,000 Depreciation on assets 10,00,000 Other fixed expenses 2,50,000

Desire Income before tax i.e. operating income

Expected profit 20% after tax on Rs. 2 crore = 40,00,000 Tax rate = 40% Profit before tax = 40,00,000 X 100 = 66,66,667 60 PV Ratio = Contribution margin per unit / selling price = 400-250/ 400 = 0.375 Fixed cost Rs. 37,50,000 37,50,000 + 66,66,667 Required sales revenue = 0.375 = Rs.2,77,77,776 Desired level of output=2.77 crore/400=69444.44 units