1.introduction To Cost Accounting.pdf

Introduction to Cost Accounting

Introduction ➢ Cost Accounting is a branch of accounting & has been developed due to limitations of Financial accounting ➢ Cost Accounting is one of the branches of Accounting & is predominantly meant for meeting the informational needs of the management ➢ Cost Accounting is a quantitative method that accumulates, classifies, summarizes and interprets financial and nonfinancial information for three major purposes.

❖Ascertainment of cost of a product or service ❖Operational planning and control ❖Decision making

Meaning of Cost ➢ Cost is the amount of expenditure, actual (incurred) or notional (attributable), relating to a specific thing or activity ➢The specific thing or activity may be a product, job, service, process or any other activity ➢Cost is the amount of resources given up in exchange for some goods or services ➢The resources given up are generally in terms of money, or if not in terms of money, they are always expressed in monetary terms

Meaning of Costing and Cost Accounting ➢ Costing is defined as the technique and process of ascertaining costs ➢ The technique consists of principles and rules which are applied for ascertaining costs of products manufactured and services rendered ➢ Cost Accounting is classifying, recording and appropriate allocation of expenditure for the determination of the costs of products or services ➢ And also for the presentation of suitably arranged data for purposes of control & guidance of management ➢ It deals with the cost of production, selling & distribution ➢ It includes the ascertainment of the cost of every order, job, contract, process, service or unit

Cost Accountancy, Cost Control & Cost Audit • Cost Accountancy: Cost Accountancy is defined as ‘the application of Costing and Cost Accounting principles, methods and techniques to the science, art and practice of cost control and the ascertainment of profitability’.

• Cost Control: It is the process of regulating the action so as to keep the element of cost within the set parameters. • Cost Audit : Cost Audit is the verification of correctness of Cost Accounts and check on the adherence to the Cost Accounting plan. Its purpose is not only to ensure the arithmetic accuracy of cost records but also to see the principles and rules have been applied correctly.

Objectives of Cost Accounting ➢

The objectives of Cost Accounting are ascertaining of cost, fixation of selling price, proper recording and presentation of cost data to management for measuring efficiency & for cost control.

➢ 1. To determine product costs - The objective of determining the cost of products is of main importance in cost accounting.

• The total product cost and cost per unit of product are important in making inventory valuation, deciding price of the product & managerial decision making ➢ 2. To facilitate planning & control of regular business activities – The creation of useful cost data & information for the purposes of planning & control by management • The management control over business operations aims to establish balance between actual and budgeted performances

➢ 3. To supply information for short and long–run decisions - Cost accounting helps the management in providing information for managerial short and long–run decisions for formulating operative policies

Comparison between Cost Accounting and Financial Accounting ➢ Both Financial & Cost Accounting are the branches of accounting whose main object is to provide information ➢ Financial Accounting accumulates & presents data primarily for the use by investors, creditors & other external parties ➢ Financial Accounting is designed to meet external information needs & to comply with GAAP, main objective is the ascertainment & presentation of profit earned or losses incurred in the business ➢ Financial Accounting do not provide tools for in-depth analysis for performance in terms of cost efficiency ➢ Cost Accounting focuses primarily on accounting for the flows of costs & is concerned with the development of systems for relating costs to the products or services produced by an organization ➢ Financial Accounting treats costs very broadly, while Cost Accounting does this in much greater detail

Comparison between Cost Accounting and Financial Accounting Financial Accounting

Cost Accounting

1. It provides general information to 1. Purpose – It provides general information - P&L , B/S to owners management for proper planning, & other outside parties operation, control & decision making 2. Form of Accounts - These 2. Generally Cost Accounts are kept accounts are kept in such a way to voluntarily to meet the requirements meet the requirements of Companies of the management, only in some Act as per Sec 128 & Income Tax industries Cost Accounting records Act Sec 44AA are kept as per the Companies Act 3. Recording – It classifies, records 3. It records the expense according to & analyses the transactions the purposes for which the costs are according to the nature of expense incurred 4. Control – It lays emphasis on 4. It provides detailed system of recording aspect without attaching control for materials, labour & any importance to control overhead costs with the help of standard costing & budgetary control

Comparison between Cost Accounting and Financial Accounting Financial Accounting

Cost Accounting

5. Analysis of Profit – Financial 5. Cost Accounting is only a part of Accounts are accounts of the whole the Financial Accounts & business, disclose the net profit or discloses profit or loss of each loss of the business as a whole product, job or service 6. Nature of Transactions – It 6. Cost Accounting relates to records all the commercial transactions connected with the transactions of the business & manufacture of goods & services, include all expenses i.e include expenses which enter into Manufacturing, Office, Selling etc. production 7. Information –Only transactions 7. Non-monetary information like which can be measured in monetary No. of units/ Hours etc. are used terms are recorded 8. Cost Accounting provides 8. Fixation of selling price – sufficient data for fixation of Financial Accounting are not selling price maintained with the object of fixing selling price

Comparison between Cost Accounting and Financial Accounting Financial Accounting 9. Stock Valuation – Stocks are valued at cost or market price which ever is lower 10. Primary users of information – Users are mainly external, shareholders, creditors, stock exchange, govt authorities etc.

Cost Accounting 9. Stocks are valued at cost only 10. Information used by management for proper planning , operation, control & decision making

11. Accounting system – Follows the 11. May not be based on the double entry system double entry system 12. Accounting principles – The 12. Is not bound to use GAAP, GAAP are important and are used can use any Accounting extensively while recording, practice which generates classifying, summarizing, and useful information reporting business transactions

Comparison between Cost Accounting and Financial Accounting Financial Accounting

Cost Accounting

13. Periodicity of reporting -It 13. It gives information through reports operating results & financial cost reports to management position at the end of the year as & when desired 14. Figures – It deals with actual facts 14. It deal partly with facts and and figures only figures and partly with estimates/ standards 15. External/ Internal transactions Financial Accounts are concerned 15. Cost Accounts are with external transactions i.e. concerned with internal between business concern and third transactions, which do not party involve any cash payment or receipt 16. Financial Accounting do not provide information on efficiencies 16. Cost Accounts provide of various workers/ Plant & valuable information on the Machinery efficiencies of employees and Plant & Machinery

Comparison between Cost Accounting and Management Accounting ➢ Management Accounting is the presentation of accounting information in such a way as to assist management in the creation of policy & the day-to-day operation of an undertaking ➢ Cost Accounting and Management Accounting both have the same objectives of helping management in planning, control & decision making ➢ Both are internal to the organization & use common tools & techniques like Standard Costing, Variable Costing, Budgetary control etc. ➢ Cost Accounting is limited to product costing procedures & related information processing, where as Management Accounting is not confined to the area of product costing, cost and price data ➢ Management Accounting helps management in the total situation and in accomplishing all managerial functions

Comparison between Cost Accounting and Management Accounting Cost Accounting 1. Meaning – The recording, classifying & summarizing of cost data of an organization is known as Cost Accounting 2. Deals with - Deals with ascertainment, allocation, apportionment & accounting aspect of costs 3. Base – Provides a base for Management Accounting

Management Accounting 1. The accounting in which both the financial & non-financial information are provided to managers is known as Management Accounting 2. Deals with the effect and impact of costs on the business 3. Derived from both Cost Accounting & Financial Accounting

4. Role – Helpful in collecting data 4. Has greater degree of relevance & for management objectivity 5. Scope – Does not include 5. Includes Financial & Cost Financial Accounting and Tax Accounting, and Tax Planning Planning

Comparison between Cost Accounting and Management Accounting Cost Accounting

Management Accounting

6. Outlook - Cost Accountant has 6. Management Accountant reports a narrow approach, has to refer to the effect of cost on the business economic and statistical data for along with cost analysis analyzing cost effects 7. Needs Financial and Cost 7. Installation – Can be installed Accounting as its base for its without Management Accounting installation 8. Objective – Ascertainment of Cost of Production

8. Providing information to managers to set goals and forecast strategies

9. Recording – Records past and present data

9. It gives more stress on the analysis of future projections

10. Tools & Techniques – Has Standard Costing, Variable Costing, Break even Analysis etc. as the basic tools & techniques

10. Along with these, has Fund Flow & Cash Flow Statements, Ratio Analysis etc. as accounting tools & techniques

Methods of Costing ➢ The term Costing refers to the techniques & processes of determining costs of a product manufactured or service rendered

➢ Different methods are applied in business enterprises to ascertain costs depending upon • the nature of the product

• production method & • specific business conditions ➢ There are two methods of costing

• Job Costing( Specific Order Costing) • Process Costing ( Operation or Period Costing)

Methods of Costing 1. Job Costing – Costs are collected & accumulated for each job, work order or project separately. ➢ Job costing is used in those business concerns where production is carried out as per specific order and customer specifications, each job (product) is separate & distinct from the other jobs or products.

➢ This method is applicable to printers, machine tool manufactures, foundries, general engineering workshops etc. 2. Contract costing – When the job is big & spread over long periods of time, the method of Contract costing is used ➢ A separate account is kept for each individual contract ➢ This method is used by builders, civil engineering contractors, constructional & mechanical engineering firms etc.

Methods of Costing 3. Batch Costing – A batch may represent a number of small orders passed through the factory in batch ➢ Each batch is treated as a unit of cost & separately costed. ➢ The cost per unit is determined by dividing the cost of the batch by the number of units produced in a batch. ➢ This method is used to determine the cost of a group of identical or similar products ➢ The batch consisting of similar products is the unit and not the single item with in the batch

➢ This method is mainly applied in biscuits manufacture, garments manufacture, spare parts & components manufacture, medicines and other items which are manufactured in distinct batches

Methods of Costing 4. Process Costing – This costing method is used in those industries where production is done continuously, manufacturing is carried on by distinct and well defined processes ➢ The finished product of one process becomes the raw material of the subsequent process ➢ It is necessary to ascertain not only the cost of each process but also cost per unit at each process, at the end of each process ➢ Sometimes total cost & per unit cost is calculated at each stage of production for control process ➢ The cost per unit is obtained by averaging the expenditure incurred on the process during a certain period ➢ Process Costing is generally followed in Textile Industries, Chemical Industries, Paper manufacture, oil, gas etc.

Methods of Costing 5. Unit or Output Costing – This method is used where a single item is produced & the final production is composed of homogenous units ➢ The objective of this method is to ascertain the cost per unit of output & the cost of each item of such cost ➢ The per unit cost is obtained by dividing the total cost by the total number of units manufactured ➢ This is suitable for industries where manufacture is continuous and units are identical ➢ This method is applied in industries like mines, oil drilling, breweries, collieries, cement works, brick works etc. ➢ There is natural or standard unit of cost in all these industries

Methods of Costing 6. Service or Operating Costing – This method is used to ascertain the cost of services rendered ➢ This is suitable for industries which render services as distinct from those which manufacture goods ➢ There is usually a compound unit in such undertakings, such as tonne- kilometre for transport undertaking, kilowatt – hour for power supply, patient day for hospitals etc.

➢ This is applied in transport undertakings, power supply companies, municipal services, hospitals, hotels etc. ➢ The cost units differ among these service organizations depending upon the nature of service being rendered

Methods of Costing 7. Operation Costing – ➢ Multiple Operation method of manufacture consists of a number of distinct operations ➢ It refers to conversion cost, i.e. cost of converting the raw materials into finished goods ➢ This costing method aims at ascertaining the costs of each operation in place of each process ➢ In this method the assumption is that output is achieved through a number of different operations

➢ The cost per unit is determined with reference to final output ➢ The different operations in machine screw are stamps, knurl, thread and trim

Types or Techniques of Costing ➢ Types or Techniques refer to the manner of ascertaining costs of a product, job or activity ➢ These Types or Techniques also necessarily indicate what types of costs are being ascertained such as historical cost, standard cost, marginal cost

➢ The term “Methods of costing” is being used to determine costs without indicating the types of costs ( historical, standard or marginal), which are ascertained under the two methods of costing ( Job or Process costing) ➢ Following are the main types or techniques of costing for ascertaining costs: 1. Uniform Costing – It is the use of same costing principles or practices by several undertakings for common control or comparison of costs

Types or Techniques of Costing 2. Marginal or Variable Costing – It is the ascertainment of marginal cost by differentiating between fixed and variable cost ➢ It is used to ascertain the effect of changes in volume or types of output on profit ➢ Variable Costing technique charges only variable production costs to products or jobs, the fixed production costs are written off against profits in the periods in which they arise 3. Standard Costing – A comparison is made of the actual cost with a pre-arranged standard cost & the cost of any deviation (called variances) is analyzed by causes ➢ This permits management to investigate the reasons for these variances and to take suitable corrective action ➢ Standard costs are the predetermined costs

Types or Techniques of Costing 4. Historical Costing – It is ascertainment of costs after they have incurred, and aims at ascertaining costs actually incurred on work done in the past ➢ It has a limited utility, though comparisons of costs over different periods may yield good results

5. Direct Costing – It is the practice of charging all direct costs, variable and some fixed costs relating to operations, processes or products leaving all other costs to be written off against profits in which they arise

6. Absorption or Full Costing – ➢ Under this costing technique, all manufacturing costs, both fixed and variable, are charged to products, jobs, processes, etc. and are included in total cost ➢ This differs from marginal costing where fixed costs are excluded