Advanced Cost and

Management Accounting

Prof. Zohra Bi
 UNIT – 1

INTRODUCTION TO COST CONCEPTS AND COST ACCOUNTING

ACCOUNTING
 Provides Financial Information
 Information is provided to shareholders, managers, creditors, debenture
holder, bankers, tax authorities …..
 On the basis of TYPE OF ACCOUNTING INFORMATION and PURPOSE FOR
WHICH SUCH INFORMATION IS USED – accounting is divided into
 Financial Accounting
 Cost Accounting
 Management Accounting
 FINANCIAL ACCOUNTING

is defined as “ the art of recording,

classifying and summarizing in a significant
manner and in terms of money, transaction
and events which are in part at least of a
financial character and interpreting the
results thereof”.
LIMITATIONS OF FINANCIAL ACCOUNTING

SHOWS ONLY OVERALL PERFORMANCE : Financial accounting

provides information about profits, loss, cost etc, the collective activities of
the business as a whole. It does not give data regarding costs by department,
products, processes etc.

HISTORICAL IN NATURE: Financial accounting is historical since the

data are summarized only at the end of the accounting period. There is no
system of computing day to day cost and also computing pre-determined
costs.

 NO PERFORMANCE APPRAISAL: In financial accounting there is no

system of developing norms and standards to appraise the efficiency in the
use of materials, labour and other costs by comparing the actual performance
with what should have been accomplished during a given period of time.
NO MATERIAL CONTROL SYSTEM: There is no
proper system of control of materials losses which may
arise in the form of obsolescence, deterioration scrap and
misappropriation etc.

NO LABOUR COST CONTROL: There is no system

of recording loss of labour time , i.e. idle time.

 NO ANALYSIS OF LOSSES:Financial accounting

does not fully analyse the losses due to idle time,
inefficient labour etc. Thus exact causes of the losses are
not known.
 NO PROPER CLASSIFICATION OF COSTS: In financial
accounting expenses are not classified into direct and indirect,
fixed and variable, controllable and uncontrollable. These
classifications have utility of their own.

 NO COST COMPARISON: Financial accounting does not

provide data for comparison of costs of different periods,
different jobs or departments.

 INADEQUATE INFORMATION FOR PRICE FIXATION:

Costs are not available as an aid in determining prices of
products, services or production orders.
 COST
Cost means the amount of expenditure
( actual or notional) incurred on, or attributable
to, a given thing.
 COST
 Cost can be defined as the expenditure (actual or
notional) incurred on or attributable to a given thing.
 It can also be described as the resources that have
been sacrificed or must be sacrificed to attain a
particular objective.
 In other words, cost is the amount of resources used
for something which must be measured in terms of
money.
 COSTING

PRODUCT/SERVICE

PROCEDURE /TECHNIQUE
USED TO ASCERTAIN

COST OF
PRODUCTION
/SERVICE
 COSTING
 CIMA of UK has defined costing as ‘the technique
and process of ascertaining costs’.
 According to Wheldon, ‘Costing is classifying,
recording, allocation and appropriation of expenses for
the determination of cost of products or services and
for the presentation of suitably arranged data for the
purpose of control and guidance of management.
 Costing is basically the procedure of ascertaining the
costs.
 Costing’ is precisely this procedure which helps them
to find out the costs of products or services.
 COST ACCOUNTING
PRODUCT/SERVICE

RECORDING

LIST THE
DIFFERENT
TYPES OF CLASSIFYING
COST

SUMMARIZING

ASCERTAIN THE COP/ COS

 COST ACCOUNTING
Cost accounting is defined by CIMA of UK as follows: “ Cost
Accounting is the process of accounting for costs from the point at
which expenditure is incurred or committed to the establishment of
its ultimate relationship with cost centres and cost units” .

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 Cost: To ascertain the cost of production on per unit

basis, For example, cost per kg, cost per meter, cost per liter, cost per ton
etc.
• Determination of selling price: Cost accounting helps in the determination
of selling price. Cost accounting enables to determine the cost of production
on a scientific basis and it helps to fix the selling price.
• Control of Cost: Cost accounting helps in cost control and cost reduction.
• Ascertainment of Profit: Ascertainment of division wise, activity wise and
unit wise profitability becomes possible through cost accounting.
• Helps in reducing wastes: Cost accounting also helps in locating wastages,
inefficiencies and other loopholes in the production processes/services
offered.
• Helps in Decision Making: Cost accounting helps in presentation of
relevant data to the management which helps in decision making.
• Estimation of Cost: Cost accounting also helps in estimation of costs for
the future.
ELEMENTS OF COST
 ELEMENTSOF COST COST

MATERIALS LABOUR
OTHER
EXPENSES
DIRECT INDIRECT
DIRECT INDIRECT INDIRECT
DIRECT

OVERHEADS

FOH AOH SOH DOH

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
Eg: Timber in furniture, Cloth in dress, etc.

Indirect material: is one which cannot be

easily identified in the product.
EXAMPLES OF 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.
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.
Eg: 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.
EXAMPLES OF 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 dist. Level – salesmen
salaries, Logistics manager salary etc.
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. Eg : Excise duty,
royalty, special hire charges,etc.

INDIRECT EXPENSES: are those expenses

which cannot be directly allocated to
particular job, process or product.
 EXAMPLES OF OTHER EXPENSES
 Atfactory level – factory rent, factory
insurance, lighting etc.
 Atoffice level – office rent, office
insurance, office lighting etc.
 Atsales & dist.level – advertising, show
room expenses like rent, insurance etc.
 COST SHEET
 
DIRECT MATERIAL
DIRECT LABOUR
DIRECT EXPENSES
 

PRIME COST
FACTORY OVERHEADS
 

FACTORY COST
OFFICE OVERHEADS
 

COST OF PRODUCTION
SELL & DIST OVERHEADS
 

COST OF SALES
PROFIT
 

SALES
 COST SHEET - ADVANCED
 
OPENING STOCK OF RAW MATERIALS
+PURCHASES
+CARRIAGE INWARDS
-CLOSING STOCK OF RAW MATERIALS
 
VALUE OF MATERIALS CONSUMED
+DIRECT WAGES
+DIRECT EXPENSES
 
PRIME COST
+FACTORY OVERHEADS
+OPENING STOCK OF WIP
-CLOSING STOCK OF WIP
 
FACTORY COST
(CONT.) 
 
 
 FACTORY COST
 
+ADMINISTRATIVE OVERHEADS
 
COST OF PRODUCTION

+OPENING STOCK OF FINISHED GOODS

-CLOSING STOCK OF FINISHED GOODS
 
COST OF GOODS SOLD
+SELL. & DIST. OVERHEADS

COST OF SALES

+PROFIT
 
SALES
 
 
 
 
 CLASSIFICATION OF COSTS
A. Classification according to elements: -
Costs can be classified according to the elements. There are three elements of costing, viz.
 Material,
 Labor and
 Expenses.
Total cost of production/ services can be divided into the three elements to find out the contribution of each
element in the total costs.

B. Classification according to nature: - As per this classification, costs can be classified into Direct and
Indirect.
Direct costs are the costs which are identifiable with the product unit or cost center
while indirect costs are not identifiable with the product unit or cost center and hence they are to be allocated,
apportioned and then absorb in the production units. They are mentioned below.
 Direct and Indirect Material: -
 Direct and Indirect Labor
 Direct and Indirect Expenses: -
 IT SHOULD BE NOTED THAT THE TOTAL OF DIRECT EXPENSES IS KNOWN AS ‘PRIME
C. CLASSIFICATION ACCORDING TO BEHAVIOR

 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. The feature
of these costs is that the total costs remain same while per unit fixed cost is always
variable. Examples of these costs are salaries, insurance, rent, etc.
 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. For 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. In the example given above, the per unit variable cost remains Rs. 2 per unit
while total variable costs change. Examples of variable costs are direct materials,
direct labor etc.
 Semi-variable Costs: - Certain costs are partly fixed and partly variable. In other
words, they contain the features of both types of costs. These costs are neither
totally fixed nor totally variable. Maintenance costs, supervisory costs etc are
examples of semi-variable costs. These costs are also called as ‘stepped costs’.
D. 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.
 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: - In the modern days, research and
development has become one of the important functions of a business
organization. Expenditure incurred for this function can be classified as
Research and Development Costs.
E. 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.

 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.
ON THE BASIS OF NORMALITY

 NORMAL COSTS – Part of COP

 ABNORMAL COSTS – Cost is over and above the normal cost – Part of P
and l account.
ON THE BASIS OF PLANNING AND CONTROL

 BUDGETED COSTS

 STANDARD COSTS
 COST UNIT

 It is the unit of product, service or time in relation to

which costs may be ascertained.
 Example: Tonne in case of coal
 Cost Centres

 A Cost Centre is a product, physical place (e.g.

sales department) or person within a business
that can be held responsible for certain expenses
incurred in the running of that business
DIFFERENCE BETWEEN FINANCIAL
ACCOUNTING AND COST ACCOUNTING

 OBJECTIVE:
Financial accounting: It provides information of the financial performance
and financial position of the Business.
Cost accounting: It provides information of ascertainment of cost to control
cost and for decision making about the cost.

 NATURE:
Financial accounting: It classifies records, presents and interprets
transactions in terms of money.
Cost accounting: It classifies, records, presents, and interprets in a significant
manner the material, labour and overheads cost.
DIFFERENCE BETWEEN FINANCIAL ACCOUNTING AND COST
ACCOUNTING

 Recording:
Financial accounting: It records Historical data.
Cost accounting: It also records and presents the estimated/budgeted data. It
makes use of both the historical costs and pre-determined costs..

 Users of information :
Financial accounting: The users of financial accounting statements are
shareholders, creditors, financial analysts and government and its agencies,
etc.
Cost accounting: The cost accounting information is used by internal
management at different levels.
 Analysis of Cost and Profit:
Financial accounting: It shows the profit/ loss of the organisation.
Cost accounting: It provides the details of cost and profit of each product,
process, job, contracts, etc.

 Time period:
Financial accounting: Financial Statements are prepared for a definite period
usually a year.
Cost accounting: Its reports and statements are prepared as and when required.

 Presentation
Financial accounting: A set format is used for presenting financial information.
Cost accounting: There are not any set formats for presenting cost information.
 LIMITATIONS OF COST ACCOUNTING

 It is expensive
 The results shown by cost accountant differ
from those shown by financial accountant.
 METHODS OF COSTING

 JOB COSTING
 CONTRACT COSTING
 PROCESS COSTING
 UNIT COSTING
 OPERATING COSTING
MANAGEMENT ACCOUNTING

 The Chartered Institute of Management

Accountants ( CIMA) of UK has defined
Management accounting as follows

 Management Accounting is an integral part

of management concerned with
identifying, presenting and interpreting
information used for
Formulating Planning and Decision making Optimizing the
strategy controlling use of resources
activities

Disclosure to Disclosure to Safeguarding

shareholders employees assets
and other
Managerial Accounting and Financial Accounting

Managerial accounting Financial accounting

provides information provides information
for managers of an to stockholders,
organization who creditors and others
direct and control who are outside
its operations. the organization.
CHARACTERISTICS / NATURE OF
MANAGEMENT ACCOUNTING
Useful in Decision Making

Financial and Cost accounting information

Internal Use

Purely optional

Concerned with future

Flexibility in presentation of information

Tools/ Techniques OF Management
Accounting
RATIO ANALYSIS
BUDGETING
STANDARD COSTING AND VARIANCE ANALYSIS
MARGINAL COSTING AND COST VOLUME PROFIT ANALYSIS
COMPARATIVE FINANCIAL STATEMENTS
CASH FLOW STATEMENT
FUND FLOW STATEMENT
DIFFERENTIAL COST ANALYSIS
RESPONSIBILITY ACCOUNTING
RISK ANALYSIS
FINANCIAL ACCOUNTING
AND MANAGEMENT
ACCOUNTING – A
COMPARISON
Primary Users / External and Internal users

Financial Management
External Internal
Investors, Managers of the
Creditors, business
Government
authorities 46
 Purpose of Information

Financial Management
 Helpinvestors and  Helpmanagers plan
creditors make and control business
investment and operations
credit decisions

47
 Past and Future Data

Financial Management
Focus on the Focus on future
past It is future
It represents
oriented
past or historical
records
48
Periodic and continuous reporting /Type of Report

Financial Management

 Financial
 Management accounting
reports reports are prepared
like profit and loss frequently, these may be
account and monthly, weekly or even
daily depending on
balance sheet are managerial requirements.
prepared usually
on a year to year
basis 49
 Accounting Method

Financial Management
It is based on
It is not based
double entry
system for on double
recording entry system
business
transaction 50
 Statutory Requirement

Financial Management
 Under Company Management
law and Tax laws, Accounting is
Financial
optional though
accounting is
obligatory to its utility makes it
satisfy various highly desirable
statutory to adopt it.
provisions 51