Cost Accounting

06 January 2024 11:59

Costing is a technique and a process of ascertaining cost. This technique consists of principles and rules
which govern the procedure of ascertaining the cost of a product or services.
Cost Accounting is the classifying, recording an appropriate allocation of expenditures for the
determination of cost of product or services. It also deals with cost of production, selling and distribution.
According to Weldon, " Cost accounting is the application of accounting and costing principles, methods,
and techniques in the ascertainment of cost and the analysis of savings or excess cost incurred as
compared with previous experiences or standards." Thus Cost Accounting relates to the collection,
classification, ascertainment of cost and its accounting and control relating to the various elements of
cost(material, labour,..)

Thus it can concluded that cost accounting has the following features:
1. It is a process of accounting for cost.
2. It records income and expenditure relating to production of goods and services.
3. It provides statistical data on the basis of which future estimates are prepared and quotations are
submitted.
4. It is concerned with cost ascertainment, cost control (to meet standards), and cost reduction.
5. It establishes budget and standards so that actual cost may be compared to find out deviations or
variants.
6. It involves the presentation of right information to the right user at the right time, so that it may be
helpful to the management for planning, evaluation of performances, control and decision making.

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Advantages:
• Detailed cost tracking:
Cost accounting provides a granular view of various expenses associated with production or service
delivery. This helps identify areas of cost efficiency, waste, and potential savings.
• Improved decision-making:
By understanding the cost breakdown of products or services, businesses can make informed
decisions about pricing, resource allocation, product mix, and other strategic considerations.
• Performance evaluation:
Cost accounting allows for accurate performance evaluation of departments, processes, and products.
This helps in identifying underperforming areas and implementing corrective measures.
• Inventory valuation:
Cost accounting helps in determining the accurate cost of inventory, leading to better financial
reporting and control over assets.
• Cost control and reduction:
Through its detailed cost analysis, cost accounting can identify areas for cost optimization and
reduction, leading to improved profitability.

Limitations:
• Complexity:
Implementing and maintaining a cost accounting system can be complex and require specialized skills
and resources, making it less viable for smaller businesses.
• Subjectivity and estimation:
Determining the allocation of overhead costs and other indirect expenses can be subjective and
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 Determining the allocation of overhead costs and other indirect expenses can be subjective and
involve estimation, potentially leading to inaccuracies in cost calculations.
• Historical focus:
Cost accounting primarily focuses on historical data, limiting its usefulness in predicting future trends
or making proactive decisions.
• Lack of standardization:
Unlike financial accounting, which has standardized rules and regulations, cost accounting methods can
vary across industries and companies, making comparisons difficult.
• Cost-effectiveness:
The benefits of cost accounting might not outweigh the implementation and maintenance costs for all
businesses, especially smaller ones.
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Advantages of Cost Accounting:
1. Profitable and unprofitable activities are disclosed and steps can be taken to eliminate or reduce
those activities from which little or no benefit is obtained or to change the method of production in
order to make such activities more profitable.
2. It provides information upon which estimates and tenders are based. In case of big contracts or jobs,
quotations cannot be given unless the cost of completion of the contract can be found out.
3. It guides future production policies. It explains the cost incurred and profit made in various lines of
business and processes and thereby provides data on the basis of which production can be
appropriately planned.
4. It enables a periodical determination of profit or loss of a business concern.
5. The exact cause of decrease or an increase in profit or loss can be detected. A concern may suffer
not because the cost of production is high or prices are low, but also because the output is much
below the capacity of the concern.
6. Helpful to the government. It facilitates the assessment of income tax and the formulation of policies
regarding industry, export, import, etc.
7. Helpful to the consumers. The ultimate aim of costing is to reduce cost of production to the minimum
and maximize the profit of the concern. A part of the benefit resulting from the reduction of the
cost is passed onto the consumers in the form of lower prices.

Difference between Financial & Cost Accounting

Financial Accounting Cost Accounting
It provides information about the business in a It provides information to management for proper
general way. It tells about the about the profit and planning, operation, control, and decision making.
loss and financial position of the business to
owners and other outside parties.
These accounts are kept in such a way as to meet These accounts are generally kept to meet the
the requirements of companies act and income tax requirements of the management.
act.
It reports operating profit and financial position at It gives information through cost reports to
the end of the year. management as and when desired.
Financial Accounts are the accounts of the whole Cost Accounting is only a part of financial accounts
business. They are independent in nature and and discloses profit or loss of each product, job, or
disclosed the net profit or loss of the business as services.
a whole.
The cost are reported in aggregate in financial The cost are broken down on a unit basis in cost
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The cost are reported in aggregate in financial The cost are broken down on a unit basis in cost
accounts. accounts.
Monetary information is only used in financial
accounting. Non-Monetary information like units are also used
in cost accounting.
Financial Accounts are not maintained with the Cost Accounts provides sufficient data for fixation
objective of fixing selling prices. of selling prices.

Design and Installation of Costing System

The steps to be taken in installing a costing system are given below:
1. Objectives to be achieved through the costing system.
The costing system will be simple if the objective is only to determine cost, but it will have to be
elaborate if the objective is to have information which will help management in exercising control and
taking decisions.
2. Study the existing organization and routine.
In this connection the points to be noted are the nature of the business and of the operations carried
on, the methods of dealing with wastage of materials, the system of time recording and the method
of computing and paying wages.
3. Deciding the structure of cost account.
What system of cost account is suitable and the extent of details required after a thorough study of
the manufacturing process and their ancillary(providing support to the primary service/additional
service) services.
4. Determining the cost rates.
This entails(imply) a thorough study of factory conditions and decision are to be made about
classification of cost into direct and indirect, grouping of indirect cost into production, selling and
distribution. It also includes treatment of wastage of all kinds, methods of pricing issue, methods of
recovering overheads and calculation of overheads rates.
5. Introducing the system.
No costing system can be expected to function effectively unless cooperation of all the officials could
be obtained. Before the system is put into effect, the implication of the system should be explained
to all indicating to them the benefits that will arise for the business as a whole.
6. Organizing the cost office.
It is always better that the cost office is situated adjacent to the factory, so that delay in
documentation and clearing up discrepancies and doubts is avoided. The costing staff must be allowed
to have access to the work if they are to perform their duties properly. The size of staff would
depend on the volume of work involved.
7. Relationship of Cost Office to other departments.
The cost department should function independently, the cost accountant be made directly responsible
to the general manager or managing director. The costing system should be designed to serve
management at all levels. The cost accountant, therefore should design his whole system of records
and reports with this end in view.
8. Authority and Responsibility.
Authority and Responsibility should be clearly defined if the costing system is to be successful. There
should be no ambiguity (not clear), everything should be clear.

Methods of Costing
Methods to be achieved differ from industry to industry. It primarily depends on the manufacturing
process and also on the methods of majoring the departmental output and finished product.
The following are the methods of costing:

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1) Job Costing:
Under this method, cost are collected and accumulated for each job, work order or project
separately. Each job can be separately identified, so it becomes essential to analyse the
cost according to each job. A job card is prepared for each job for cost accumulation. This
method is applicable to printers, tool manufacturers etc.
(amount spent to get a work done)(made according to the specific requirements of the
customer: bakery, tailor)
2) Contract Costing:
When the job is big and spread over long period 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, mechanical engineering firms, etc.
(Investment and time is high)
3) Batch Costing:
This is an extension of job 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 and 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 applied in biscuit manufacturing, garments
manufacturing, etc.
4) Process Costing:
This is suitable for industries where production is continuous, manufacturing is carried on
by distinct and well defined processes, the finished product of one process becomes the
raw material of the subsequent process. As finished products are obtained at the end of
each process, it will be necessary to ascertain not only the cost of each process but also
cost per unit at each process. A separate account is opened for each process to which all
expenditures incurred thereon is charged. Process costing is generally followed in textile
manufacturing, chemical industries, paper manufacturing etc.
5) Service Costing:
This is suitable for industries which render services as distinct from which manufactured
goods. This is applied in transport undertaking, power supply companies, municipal services,
hospitals, hotels, etc.,.

Elements of Cost:

Cost Sheet or Statement of Cost:

Cost sheet is a statement designed to show the output of a particular accounting period along with
break-up of cost. The data incorporated in cost sheet are collected from various statements of accounts
which have been written in cost accounts, either day-to-day or regular records.
There is no fixed format for preparation of a cost sheet but in order to make the cost sheet more
useful it is genuinely presented in a column format.
Main advantages of a cost sheet are:
1) It discloses the total cost and the cost per unit of the unit produced during the given period.
2) It enables a manufacturer to keep a close watch and control over the cost of production.
3) It acts as a guide to the manufacturer and helps him in formulating a definite useful production policy.
4) It helps in fixing up the selling price more accurately.
5) It helps the businessmen to minimize the cost of production when there is a cut throat competition.
6) It helps the businessmen to submit quotations with reasonable degree of accuracy against tenders for
the supply of goods.

Specimen of cost sheet or statement of cost sheet:

Particulars Detail Total
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Particulars Detail Total
Amount Amount
Direct Material xx
Direct Labor xx
Direct Other Expenses xx
Prime Cost xxx
Add: Work Overhead xx
Work Cost xxxx
Add: Administrative Overhead xx
Cost of Production xxxx
Add: Selling and Distributive Overhead xx
Total Cost/ Cost of Sales xxxxxxx

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