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MANAGEMENT AND COST

ACCOUNTING
Cost
• It is the amount of resource given up in
exchange for some goods or services.
• CIMA, London has defined cost as the
amount of expenditure (actual or notional)
incurred on or attributable to a specified
thing or activity.
Cost Accounting
• Cost Accounting is a specialised branch of
accounting which involves classification,
accumulation, assignment and control of costs.
• It is defined by CIMA, London as “the
establishment of budgets, standard costs and
actual costs of operations, processes, activities
or products; and the analysis of variances,
profitability or the social use of funds”.
Costing
• It is the technique and process of
ascertaining costs.
Cost Control
• It means controlling or regulating costs
through the application of management
tools and techniques to the performance of
any operations to achieve predetermined
objectives of quality, quantity, value and
time at an optimum outlay. It is exercised
by techniques like Standard Costing,
Budgetary Control, etc.
Cost Reduction
• It involves constant research and
development in the areas of product
design, production, procedures, etc.
Cost Audit
• It involves checking the arithmetical
accuracy of cost accounts and verifying
whether the principles laid down have
been followed or not.
Cost Centre
• It is a production or a service location,
function or activity, whose costs may be
attributed to cost units. It is the smallest
organisational sub-unit for which separate
cost collection is attempted.
Cost Unit
• It is a unit of quantity or product, service or
time in relation to which costs are
expressed.
Cost Estimation and Cost
Ascertainment
Cost Estimation is the process of
predetermining the costs of a particular
product, job or order whereas Cost
Ascertainment is the process of
determining costs on the basis of actual
data.
Elements of Costs

Cost

Material Labour Expenses

Direct Indirect Direct Indirect Direct Indirect

OVERHEADS

Factory /
Office / Selling &
Works /
Administrative Distribution
Manufacturing
Overheads Overheads
Overheads
Elements of Costs
• Material – It is the substance from which
product is made.
• Labour – It is the cost of human efforts
which is used for conversion of material
into finished goods.
• Expenses – All other items of costs come
in this category.
Items excluded from Cost Accounts
• Appropriation of profits (like dividend paid,
transfer to general reserve, taxes, etc.)
• Matters of pure finance (like interest on
loans, penalties, fines, interest/rental
income, dividend received, etc.)
• Abnormal gains and losses (like loss by
fire/theft)
Objectives of Cost Accounting
• To analyse and classify all expenditure with
reference to cost of products and operations
• To arrive at the cost of production of every unit,
job, operation, process, department or service
and to develop cost standard
• To indicate inefficiencies and wastage to top
management
• To reveal sources of economies in production
• To provide actual data of cost for comparison
with estimates
• To present comparative cost data for different
periods and various volumes of output
• To provide data for periodical profit and loss
accounts and balance sheets at regular intervals
• To provide information to enable management to
make short decisions of various types like
quotation of price to special customers or during
recessionary trends, make or buy decisions,
assigning priorities to products, etc.
Classification of Costs
By Time –
• Historical cost – these are ascertained
after they are incurred
• Predetermined costs – these costs are
calculated before they are incurred, on the
basis of factors affecting costs
By nature or elements –
• Material costs – these are the costs of the
substance from which material is made
• Labour costs – these are the costs of
human efforts which are used for
conversion of material into finished goods.
• Expenses – All other items of costs come
in this category.
 By degree of traceability to product –
• Direct costs – these are the costs which can be
easily and conveniently traced to one unit of a
product. These are the costs related to
manufacturing / production.
• Indirect costs – these are the costs which cannot
be easily and conveniently traced to one unit of
a product. They are apportioned to different
products on some suitable basis.
 By change in activity or volume –
• Fixed costs (committed costs) – these are the
costs which do not change due to change in
production. They have to be incurred in a period.
• Variable costs – these are the costs which vary
directly and proportionately with output
• Semi-variable costs (step costs) – these are the
costs which change in same direction as that of
output, but not in same proportion
 Functional classification –
• Manufacturing / production costs – these are the
costs of operating a production division
• Administration costs – these are the costs
incurred in policy formulation, directing and
controlling the operations of an organisation
• Selling and Distribution costs – these are the
costs incurred to create and stimulate demand,
despatching, transportation, warehousing, etc.
Relationship with accounting period –
• Capital costs – these are the costs which
are incurred today but their benefits
accrue for a long term period
• Revenue costs – these are the costs
which are incurred today and their benefits
also accrue in the current period
By controllability –
• Controllable costs –
• Uncontrollable costs
By normalcy –
• Normal costs –
• Abnormal costs –
 Costs for analytical and decision making
purposes –
• Opportunity costs – it is cost of selecting one
course of action and the losing of other
opportunities to carry out that course of action. It
is the amount that can be received if the asset is
utilised in its next best alternative.
• Sunk costs – it is the cost which has already
been incurred and cannot be avoided by future
decisions. It is the cost incurred in the past and
has no relevance in future decision making.
• Marginal cost – it is the cost of producing one
extra unit
• Differential cost – it is the difference in total
costs between two levels of production
• Joint costs – Sometimes the processing of single
raw material results in two or more products.
Costs which are incurred commonly for all those
products till the point of separation, are called as
joint costs. They have to be apportioned to
different products on some suitable / logical
basis.
• Common costs – these are the costs incurred for
more than one product simultaneously
• Imputed costs – these are notional costs which
are not actually incurred like notional rent,
interest on owner’s capital, etc.
• Replacement costs – it is the cost of replacing
an asset at current market value
 Other costs –
• Conversion costs – it is the cost of converting
raw material into finished products. It includes
labour costs and manufacturing overheads.
• Normal costs – it is the cost which is normally
incurred at a given level of output
• Total costs – it is the sum of all costs associated
to a particular unit / product / department /
factory / batch
Cost Sheet
Direct material consumed
Direct labour costs
Direct expenses
Prime cost
Add: Works / Factory / Manufacturing overheads
Works / Factory / Manufacturing costs
Add: Office and Administrative overheads
Cost of Production
Add: Selling and Distribution overheads
Total Costs / Cost of Sales
Cost Sheet (with treatment of
stock)
Opening stock of raw materials
Add: Purchases of raw materials
Less: Closing stock of raw materials
Direct material consumed
Direct labour costs
Direct expenses
Prime cost
Add: Works / Factory / Manufacturing overheads
Works / Factory / Manufacturing costs (of
goods put into process)
Add: Opening stock of WIP
Less: Closing stock of WIP
Works / Factory / Manufacturing costs (of
completed units)
Add: Office and Administrative overheads
Cost of Production (of goods produced)
Add: Opening stock of finished goods
Less: Closing stock of finished goods
Cost of Production (of goods sold)
Add: Selling and Distribution overheads
Total Costs / Cost of Sales
Costing
• It is the technique and process of
ascertaining costs
• As per CIMA terminology, there are
basically two methods of costing –
- Specific order costing
- Operations costing
Techniques of
Costing

Manufacturing/
Production of Services
Goods

Operating Costing
(e.g. Hospitals, canteen, Hotel)
Techniques of Costing
Manufacturing / Production
of Goods

Production On Order Regular Production

Process Costing (e.g. chemicals,


Job Order Costing (e.g. Printing Press)
Soaps, textiles)

Batch Costing (e.g. Spare


Operations Costing
parts industry)

Contract Costing (e.g. Construction


Departmental Costing
industry)
• Unit / Single Costing – This is the method of
calculating the cost of a single product where the
product can be expressed in identical units and
manufacturing is continuous
• Multiple / Composite Costing – This system of
costing is used where more than one products
are manufactured and different techniques of
costing are to be used e.g. automobiles,
consumer durables, etc.
• Uniform Costing – When a particular method of
costing is uniformly accepted in the entire
industry, the system is called as uniform costing.
Areas of Cost Accounting
• Absorption Costing – It is a practice of charging
all costs (variable and fixed) to production
process so that total cost can be computed.
• Marginal Costing – It is the system where only
variable costs are charged to production
process. Fixed costs are charged against
contribution which is the difference between
sales and variable costs.
Areas of Cost Accounting
(continued)
• Activity Based Costing (ABC) – It is a recent
technique wherein overheads are identified with
different activities of an organisation. Each
activity is considered as a cost driver i.e. the
cause for incurring of overheads. Activities can
be ordering, inspection, repairs and
maintenance, storage, distribution, after sales
service, etc.
• Historical Costing – Also called as traditional /
conventional costing, it is the determination of
total costs as per actual incurrence.
Areas of Cost Accounting
(continued)
• Standard Costing – It is a system under
which the costs of a product is determined
in advance on the basis of predetermined
standards; this standardised cost is
compared with actual cost to find out the
variance.
• Relevant Costing – It is the system of
charging those cost only which will be
incurred and ignoring sunk costs.
MANAGEMENT ACCOUNTING
• It is the presentation of accounting
information in such a way as to assist
management in the creation of policy and
in day to day operation of an organisation.
• According to CIMA, London, Management Accounting is
“an integral part of management concerned with
identifying, presenting and interpreting information used
for
(a) formulating strategy;
(b) planning and controlling activities;
(c) Decision taking;
(d) optimising the use of resources;
(e) disclosure to shareholders and other external parties;
(f) disclosure to employees;
(g) safeguarding assets.
Objectives of Management
Accounting
• Formulation of plans to meet objectives (strategic
planning)
• Formulation of short term operation plans (budgeting)
• Acquisition and use of finance (financial management)
• Recording of transactions (financial and cost accounting)
• Communication of financial and operating information
• Corrective action to bring plans and results into line
(financial control)
• Reviewing and reporting on systems and operations
(internal audit and management audit)
Nature of Management Accounting
• It is a decision making system
• It is futuristic
• It is a technique of selective nature
• It analyses different variables
• It does not set particular formats for
information
Financial Accounting v/s
Management Accounting
• Financial Accounting aims at providing
information to owners and outsiders while
Management Accounting renders information for
the guidance of the management.
• Financial Accounts are maintained as per legal
requirements while accounts related to
Management Accounting are kept voluntarily.
• Financial Accounting emphasises the
measurement of profitability while Management
Accounting aims at ascertainment of costs.
• Financial Accounts disclose the net profit and
loss of the business as a whole whereas
Management Accounts disclose profit or loss of
each product, job or service.
• Financial Accounts deal with actual facts and
data but Management Accounts deal partly with
facts and data and partly with estimates.
• Financial Accounts stresses the ascertainment
of profits while Management Accounts stresses
on planning and control.
• Financial Accounts are concerned with external
transactions while Management Accounts are
concerned with internal transactions which may
not be on the basis of receipt / payment.
• Financial Accounts do not provide information
on the relative efficiencies of the organisation
while Management Accounts provide such
information.
• In Financial Accounts, stock is valued at Cost or
Market price, whichever is lower while in
Management Accounts, stock is valued at Cost.