MBA503 - Session 6 - Cost Accounting

Module Title: Managerial Accounting
Session 1- Introduction to Cost Accounting
Session Delivered By:

E mail : Prof. Usha J C
E mail : usha.ms.mc@msruas.ac.in
1
Faculty of Management and Commerce ©Ramaiah University of Applied Sciences
Session Contents
• Cost Management:
Concept and elements of cost
Classification of costs
Preparation of Cost sheet
• Cost Accounting systems:
Job costing
Process costing
Contract costing
Service costing
2
Learning Objectives
At the end of this session, student will be able to:
• Discuss the management process of planning, controlling and

decision making
• Classify costs according to their types and elements
• Discuss the various methods of costing
• Build a cost sheet for a typical manufacturing company
3
The Management Process
The Management Process is defined by the following

activities:
1. Planning
2. Controlling
3. Decision making
44
©M.
Faculty
S. Ramaiah
of Management
University
andofCommerce
Applied Sciences ©Ramaiah University of Applied Sciences
The Management Process (contd.)
Planning requires setting objectives

and identifying methods to achieve
those objectives.
Example of MA Tools Used:

Budgeting, Standard Setting, etc.
55
©M.
Faculty
S. Ramaiah
of Management
University
andofCommerce
Controlling is the managerial activity of

monitoring a plan’s implementation and
taking corrective action as needed.
Example of MA Tools Used: Variance

Analysis, Activity Based Costing, etc.
6
Decision making is the process

of choosing among competing
alternatives
Example of MA Tools Used: Marginal Costing
77
©M.
Faculty
S. Ramaiah
of Management
University
andofCommerce
Management Accounting Information
Systems
• Collecting • Special Reports

• Measuring • Product Costs
• Storing • Customer Costs
• Analyzing • Performance Reports
Economic Events • Reporting • Personal Communication
• Managing
Inputs Processes Outputs
Users
88
©M.
Faculty
S. Ramaiah
of Management
University
andofCommerce
Expired versus Unexpired Costs
9
Costing
• Cost:
The amount of expenditure (actual/ notional) incurred on product or

activity
• Costing:
The technique and process of ascertaining costs
10
Cost Accounting
Cost Accounting
The process of accounting for cost which begins with the recording of
income and expenditure or the bases on which they are calculated
and ends with the preparation of periodical statements and reports
for ascertaining and controlling costs."
11
Cost Accountancy
“Application of costing and cost accounting principles, methods and

techniques to the science, art and practice of cost control and the
ascertainment of profitability. It includes the presentation of
information derived there from for the purpose of managerial decision
making.”
12
Scope of Cost Accounting
 Analyse profitability of individual product
 Analyse profitability of different department
 Analyse cost behavior of various item of expenditure
 Analyse differences between actual result and expected
results
 To assist in setting the prices
 Effect on profit of increase and decrease in output of a
product line or department will be analysed
13
13
©M.
Faculty
S. Ramaiah
of Management
University
andofCommerce
Objectives of Cost Accounting
• Ascertainment of cost
• Determination of Selling Price
• Cost Control
• Cost Reduction
• Ascertaining the profit of each activity
• Assisting management in decision making
14
Cost Control Vs Cost Reduction
Cost Control Cost Reduction
• Aims at maintaining the costs as • It is concerned with reducing costs

per standards • Assumes change will result in low
• Cost control seeks to attain lowest cost
possible cost • Focusses on present and future
• Emphasises on past and present • Corrective function. It operates
• It is Preventive function even when an efficient cost control
• Cost control ends when targets are system exists
achieved • Cost reduction has no visible end
15
Advantages of Cost Accounting
• Helps in determining the cost of a product or activity

• Reducing the Cost of the product
• Helps in analysing the product profitability
• Provide information relevant for decision making
• Determination of selling price
• Cost Control and Variance Analysis
16
Advantages of Cost Accounting (Contd..)
• Cost Comparison and Benchmarking
• Compliances with Statutory requirement
• Identification of optimum utilisation of capacity
• Helpful in Strategic Management Decision Making
17
Limitations of Cost Accounting
• Expensive
• Requirement of Reconciliation
• Duplication Work
• Inefficiency
18
Financial Accounting Vs Cost Accounting
Financial Accounting Cost Accounting
 Gives information about the financial  It provides information of ascertainment
performance of cost
 It classifies records, presents and  It classifies cost in to material, labour
interprets transactions and overheads
 It records Historical data.  It uses both the historical costs and pre-
 Financial statements are used by all determined costs
stakeholders of the company  helpful for internal management
 Shows profit or loss of the organization  It provides the details of cost and profit
 Financial Statements are prepared usually of each product, process, job etc.
for a year in set standard format  Reports are prepared as and when
required unstandardised form
19
Terms in Costing
• Cost unit
• Cost centre
• Cost estimation
• Cost ascertainment
• Cost allocation
• Cost apportionment
• Cost reduction
• Cost control
20
Cost Unit
• The unit cost is the cost incurred by a company to produce, store
and sell one unit of a particular product.
• Cost units are usually the units of physical measurement like
number, weight, area, volume, length, time and value
21
Cost Centers
• Location, person or an item of equipment (or group of these) for

which cost may be ascertained and used for the purpose of Cost
Control
• A part of an organization to which costs may be charged for
accounting purposes
22
Types of Cost Centers
• Production Cost Centre:
Raw material is handled for conversion into finished product. Here

both direct and indirect expenses are incurred
Example: Machine shops, welding shops
• Service Cost Centre:
It is a cost center which serves as an ancillary unit to a production cost

center
Examples: Payroll processing department, HRD, Power house
23
Importance of Cost Accounting
 Control of Direct and Indirect cost

 Measuring efficiency and fixing responsibility
 Helps in Budgeting
 Helps in Price determination
 Curtailment of loss during the off-season
 Assists in Expansion
 Helps in arriving at decisions
24
Types of Cost
• Private cost versus Social Cost

• Sunk Cost versus Out-of-pocket Cost
• Opportunity Cost versus Differential Cost
• Controllable versus Non Controllable Cost
• Expense versus Loss versus Asset
25
Types of Cost contd…
1. Private cost is a cost that is both incurred (or caused) and borne by the
same entity.
Example: clean up costs of oil spill paid by Exxon.
Cost of Iraq War Paid By USA & Allied Forces
2. Social cost is a cost that is incurred (or caused) by an entity but which is
not borne by that entity.
Example: clean up costs of oil spill not paid by Exxon.
Cost of Increased Oil Prices as a result of Iraq War, paid by
every one else.
26
Types of Cost contd…
3. Sunk cost is a past cost, or a cost for which an outlay has
already been made.
Example: Cost of the Balancing Equipment already acquired.
4. Out-of-Pocket cost is a cost that involves a current cash

outlay.
Example: Payment of wages of assembly workers.
27
Types of Cost – contd…
5. Opportunity cost is the benefit given up or sacrificed

when one alternative is chosen over another.
Example: Wages or salary foregone by attending college
instead of working.
6. Differential cost is the amount by which cost differs

between two alternatives.
Example: difference in cost of Buying vis-à-vis making a part.
28
7. Controllable cost is a cost that is heavily influenced

by a manager.
Example: Plant Manager & direct labour costs.
8. Non-controllable cost is a cost over which the

manager has no significant influence.
Example: Plant manager & corporate legal costs.
29
9. An Expense is an expired cost or a cost used up in the

production of revenues.
Example: Cost of materials in a product that was sold.
10. A Loss is a cost that expires without producing a benefit or

revenue
Example: Cost of uninsured building destroyed by fire.
11. An Asset is an unexpired cost.

Example: Cost of ending inventory of goods not sold.
30
Fixed-Cost Behaviour Variable-Cost Behaviour
Rs Rs
Relevant Range
Units Produced Units Produced
Fixed cost : Manager’s Salary

Variable cost : Material Cost in Final Product
31
Semi-Variable cost / Step Cost Function
Semi Variable Cost
Cost
Narrow Width
Activity /Output
32
Classification of Costs
 On the basis of Nature or Element:
33
Grouping of Cost
• Production Cost (Prime Cost & Overhead)
– Material Cost – Direct & Indirect = Variable
– Labour Cost – Direct & Indirect = Variable or Fixed or Semi-
Variable
– Production Expenses – Direct (Variable) & Indirect = Semi-Variable
or Fixed
• Administration Cost = Fixed
• Selling & Distribution Cost =Variable or Fixed or Semi-Variable
• Research & Development Costs = Fixed

• Financial Cost = Fixed
34
Elements of Cost - Material
• Material: The substance from which the finished product

is made is known as material.
• Direct material is one which can be directly or easily
identified in the product
E.g.: Timber in furniture, Cloth in dress, etc.

• Indirect material is one which cannot be easily identified
in the product.
35
Elements of Cost – Indirect Material
• At factory level – lubricants, oil, consumables, etc.
• At office level – Printing & stationery, Brooms, Dusters,

etc.
• At selling & dist. level – Packing materials, printing &

stationery, etc.
36
Elements of Cost - Labour
• Labour: The human effort required to convert the materials into

finished product is called labour.
• Direct labour is one which can be conveniently identified or
attributed wholly to a particular job, product or process. E.g.: wages
paid to carpenter, fees paid to tailor etc.
• Indirect labour is one which cannot be conveniently identified or
attributed wholly to a particular job, product or process
37
Elements of Cost – Indirect Labour
• At factory level – foremen’s salary, works manager’s

salary, gate keeper’s salary, etc.
• At office level – Accountant’s salary, GM’s salary,
Manager’s salary, etc.
• At selling and distribution level – salesmen salaries,
Logistics manager salary, etc
38
Elements of Cost – Other Expenses
• Other expenses are those expenses other than materials

and labour.
• Direct expenses are those expenses which can be directly
allocated to particular job, process or product. E.g. :
Excise duty, royalty, special hire charges etc.
• Indirect expenses are those expenses which cannot be
directly allocated to particular job, process or product
39
Elements of Cost – Other Expenses
• At factory level – factory rent, factory insurance, lighting,

etc.
• At office level – office rent, office insurance, office
lighting, etc.
• At sales & distribution level – advertising, show room
expenses like rent, insurance, etc.
40
Cost sheet
Rs Rs Total cost % to Cost

Particulars total cost per
unit
Opening stock(1st) xxx
Add:- purchases xxx
Carriage inwards xxx xxx
Material available for consumption xxx
Less:- closing stock as on xxx

(current years)
Direct labour xxx
Direct expenses xxx
Prime cost XXX
41
Add:- Works over heads
Repairs plant xxx
Rent rates factory etc xxx
Work cost\factory cost XXX

Add:- Opening Work in xxx
progress
Less:- Closing work in xxx
progress
Total factory costs XXX
Add:- Office & administrative over
heads
Rent office etc xxx
Cost of production XXX
Add:-opening cost of stock xxx
Finished goods xxx
Cost of total goods available for sales xxx
Less:- closing finished goods xxx
Cost of goods to be sold\ Total production cost XXX
Add:- selling & distribution expenses xxx
COST OF SALES XXX
42
Methods of Costing
1. Job costing
2. Process costing
3. Batch costing
4. Contract costing
5. Unit costing/Operating costing/Single output costing
6. Operation costing/Service Costing
7. Multiple costing
43
Methods of Costing
1. Job costing
 ICMA London defines as “that form of specific order costing,
which applies where work is undertaken to customer’s special
requirements”
 Job costing is concerned with the finding of the cost of each
job or work order.
 This method is followed by these 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 to find out profit or losses for each
job or work order.
44
Methods of Costing
2. Process costing
 This method is applied in the factories where raw material is
processed in different stages to get a final product
 Costs are determined separately for each process, where the
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,
chemical paper, oil refining etc.
45
Methods of Costing
46
Methods of Costing
3. Batch costing
 A batch contains a number of small orders passed in batches
through the factory (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
 ICMA defines batch costing as “that form of specific order
costing, which applies where similar articles are manufactured in
batches either for sale or for use within the undertaking”
 In most cases, the batch costing is similar to job costing
 The total costs of a batch is divided by the total number of units
in a batch to arrive at the costs per unit
 This type of costing is generally used in industries like bakery, toy
manufacturing etc
47
Methods of Costing
4. Contract costing
 Contract costing is applied for contract work like construction
of dam building civil engineering contract etc.
 Each contract or job is treated as separate cost unit for the cost
ascertainment and control
48
Methods of Costing
5. Operation Costing/single output/unit 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.
 Under this system cost sheet is prepared to find out cost
per unit and profits or loss on production
49
Methods of Costing
6. Service costing/Operating Costing

 Suitable for the firms that render service rather than
product, such as railway, hospital, canteens, etc
 Under this method cost of providing a service is also
determined. It is also called service costing.
 The organisations like water supply department,
electricity department etc. are the examples of using
operating costing.
50
Difference between Operating and Operation
Costing
51
Methods of Costing
7. Multiple costing
 Combination of two or more of the above methods
 This system is adopted in the manufacturing concerns, which
produces the parts of a product separately and assemble it for
a final product (as in case of motor car)
 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.
52
Exercise - Select the appropriate costing method
A. Construction of an apartment
B. Production of tablets
C. Manufacture of Nano car
D. Construction of housing colony
E. Production of spare parts for Nano car
F. Manufacture of Volvo bus
53
Techniques of Costing
 Uniform Costing
 Marginal Costing
 Standard Costing and Variance Analysis
 Historical Costing
 Direct Costing
 Absorption Costing
54
Techniques of Costing (Contd..)
Uniform Costing
• When a number of firms in an industry agree to follow the same
system of costing in detail, adopting common terminology for
various items and processes
Advantages :
 A comparison of the performance of each of the firms can be made
 It is also possible to determine the cost of production of goods
which is true for the industry as a whole
 It is found useful when tax-relief or protection is sought from the
Government
55
Marginal Costing:
• It is differentiating between fixed and variable costs
• It is used to ascertain effect of changes in volume or type of output
Standard Costing and Variance Analysis profit :
• standard costs are pre- determined and subsequently compared with the
recorded actual costs
• Technique of cost ascertainment and cost control
• This technique may be used in conjunction with any method of costing
• Suitable where the manufacturing method involves production of standardised
goods of repetitive nature
56
• Historical Costing:
Ascertainment of costs after they have been incurred. This type of costing
has limited utility
• Direct Costing:
Practice of charging all direct costs to operations, processes or products

leaving all indirect costs to be written off against profits in which they arise
• Absorption Costing:
Practice of charging all costs, both variable and fixed to operations, processes
or products
57
Summary
• Management process of planning, controlling and decision making
• Costs Classification according to their types and elements

• Various methods of costing
• Cost sheet for a typical manufacturing company
58

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Module Title: Managerial Accounting

Session 1- Introduction to Cost Accounting

Session Delivered By:

At the end of this session, student will be able to:

• Discuss the management process of planning, controlling and

The Management Process is defined by the following

Planning requires setting objectives

Example of MA Tools Used:

Controlling is the managerial activity of

Example of MA Tools Used: Variance

Decision making is the process

Example of MA Tools Used: Marginal Costing

• Collecting • Special Reports

Inputs Processes Outputs

The amount of expenditure (actual/ notional) incurred on product or

The technique and process of ascertaining costs

“Application of costing and cost accounting principles, methods and

Cost Control Cost Reduction

• Aims at maintaining the costs as • It is concerned with reducing costs

• Helps in determining the cost of a product or activity

• Cost Control and Variance Analysis

• Helpful in Strategic Management Decision Making

• Location, person or an item of equipment (or group of these) for

Raw material is handled for conversion into finished product. Here

• Service Cost Centre:

It is a cost center which serves as an ancillary unit to a production cost

 Control of Direct and Indirect cost

• Private cost versus Social Cost

Example: clean up costs of oil spill paid by Exxon.

Cost of Iraq War Paid By USA & Allied Forces

Example: clean up costs of oil spill not paid by Exxon.

Cost of Increased Oil Prices as a result of Iraq War, paid by

every one else.

4. Out-of-Pocket cost is a cost that involves a current cash

5. Opportunity cost is the benefit given up or sacrificed

6. Differential cost is the amount by which cost differs

7. Controllable cost is a cost that is heavily influenced

8. Non-controllable cost is a cost over which the

9. An Expense is an expired cost or a cost used up in the

Example: Cost of materials in a product that was sold.

10. A Loss is a cost that expires without producing a benefit or

11. An Asset is an unexpired cost.

Fixed-Cost Behaviour Variable-Cost Behaviour

Units Produced Units Produced

Fixed cost : Manager’s Salary

 On the basis of Nature or Element:

• Selling & Distribution Cost =Variable or Fixed or Semi-Variable

• Research & Development Costs = Fixed

• Material: The substance from which the finished product

E.g.: Timber in furniture, Cloth in dress, etc.

• At factory level – lubricants, oil, consumables, etc.

• At office level – Printing & stationery, Brooms, Dusters,

• At selling & dist. level – Packing materials, printing &

• Labour: The human effort required to convert the materials into

• At factory level – foremen’s salary, works manager’s

• Other expenses are those expenses other than materials

• At factory level – factory rent, factory insurance, lighting,

Rs Rs Total cost % to Cost

Add:- purchases xxx

Carriage inwards xxx xxx

Material available for consumption xxx

Less:- closing stock as on xxx

Direct expenses xxx