About Cost Accounting


Monday, May 5, 2014

Basic Concepts

*Meaning of Cost, Costing, Cost Accounting and Cost Accountancy 

  • Cost : The amount of expenditure (actual or notional) incurred on or attributable to a specified article product or activity. 
  • Costing : Costing is defined as “the technique and process of ascertaining costs”.
  • Cost Accounting : Cost Accounting is defined as "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."
  • Cost Accountancy : Cost Accountancy has been 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. It includes the presentation of information derived there from for the purpose of managerial decision making.”

*Scope of Cost Accounting 

Scope of cost accounting consists of the following functions:

(i) Costing: Costing is the technique and process of ascertaining costs of products or services. The cost ascertainment procedure is governed by some cost accounting principles and rules. Generally cost is ascertained using some arithmetic process. 

(ii) Cost Accounting: This is a process of accounting for cost which begins with the recording of income and expenditure and ends with the preparation of periodical statement and reports for ascertaining and controlling cost. Cost Accounting is a formal mechanism of cost ascertainment. 

(iii) Cost Analysis: It involves the process of finding out the factors of actual costs varying from the budgeted costs and accordingly fixation of responsibility for cost differences. This also helps in better cost management and strategic decisions. 

(iv) Cost comparisons: Cost accounting also includes comparisons between cost from alternative courses of action such as use of different technology for production, cost of making different products and activities, and cost of same product/ service over a period of time. 

(v) Cost Control: It involves a detailed examination of each cost in the light of advantage received from the incurrenced of the cost. Thus, we can state that cost is analyzed to know whether cost is not exceeding its budgeted cost and whether further cost reduction is possible or not. 

(vi) Cost Reports: This is the ultimate function of cost accounting. These reports are primarily prepared for use by the management at different levels. Cost Reports helps in planning and control, performance appraisal and managerial decision making. 

(vii) Statutory compliance: Maintaining cost accounting records as per the rules prescribed by the statute. 

*Objectives of Cost Accounting 

The main objectives of Cost Accounting are explained as follows:

(i) Ascertainment of Cost: There are two methods of ascertaining costs:

Post Costing: It means analysis of actual information as recorded in financial books. It isaccurate and is useful in the case of “Cost plus Contracts” where price is to be determined 

finally on the basis of actual cost. 

Continuous Costing: It aims at collecting information about cost as and when the activity takes 

place so that as soon as a job is completed the cost of completion would be known. This involves careful estimates being prepared of overheads. In order to be of any use, costing must be a continuous process. 

Cost ascertained by the above two methods may be compared with the standard costs which 

are the target figures already compiled on the basis of experience and experiments. 

(ii) Determination of Selling Price: Business enterprises run on a profit making basis. It is thus necessary that the revenue should be greater than the costs incurred. Cost accounting provides the information regarding the cost to make and sell the product or services produced. Though the selling price of a product is also influenced by market conditions, which are beyond the control of any business, it is still possible to determine the selling price within the market constraints; hence cost plays a dominating role. 

(iii) Cost Control: To exercise cost control, broadly the following steps should be observed: 

(a) Determine clearly the objective, i.e., pre-determine the desired results: The target cost and/ or targets of performance should be laid down in respect of each department or operation and these targets should be related to individuals who, by their action, control the actual and bring them into line with the targets 

(b) Measure the actual performance: Actual cost of performance should be measured in the same manner in which the targets are set up, i.e. if the targets are set up operation-wise, and then the actual costs should also be collected operation-wise and not cost center or department-wise as this would make comparison difficult. 

(c) Investigate into the causes of failure to perform according to plan; and 

(d) Institute corrective action. 

(iv) Cost Reduction: It may be defined "as the achievement of real and permanent reduction in the unit cost of goods manufactured or services rendered without impairing their suitability for the use intended or diminution in the quality of the product." 

Cost reduction implies the retention of the essential characteristics and quality of the product and thus it must be confined to permanent and genuine savings in the cost of manufacture, 

administration, distribution and selling, brought about by elimination of wasteful and inessential elements from the design of the product and from the techniques carried out in connection therewith. 

The three-fold assumptions involved in the definition of cost reduction may be summarized as under : 

(a) There is a saving in unit cost.

(b) Such saving is of permanent nature.
(c) The utility and quality of the goods and services remain unaffected, if not improved. 

(v) Ascertaining the profit of each activity: The profit of any activity can be ascertained by matching cost with the revenue of that activity. The purpose under this step is to determine costing profit or loss of any activity on an objective basis. 

(vi) Assisting management in decision making: Decision making is defined as a process of selecting a course of action out of two or more alternative courses. For making a choice between different courses of action, it is necessary to make a comparison of the outcomes, which may be arrived under different alternatives. Such a comparison has only been made possible with the help of Cost Accounting information. (e.g: Determination of Cost Volume Relationship, shutting down or operating at loss, making or buying from outside)

*Difference between Financial Accounting and Cost Accounting