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Assignment
8r|ef|y exp|a|n the App||cat|on of cost and
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Cost and Management Accounting

Cost Accounting
A type oI accounting process that aims to capture a company's costs oI production by
assessing the input costs oI each step oI production as well as Iixed costs such as depreciation
oI capital equipment. Cost accounting will Iirst measure and record these costs individually,
then compare input results to output or actual results to aid company management in
measuring Iinancial perIormance
Management Accounting
Management accounting is concerned with providing inIormation to managers - that is,
people inside an organization who direct and control its operation. Managerial accounting
provides the essential data with which the organizations are actually run.

Application of Cost & Management Accounting In Business
Whether we realize or not, each and every one oI us uses costing in our daily lives. When we
are thinking oI buying a new car, we determine what the costs are Ior the loan payments, the
upkeep, insurance, gas, etc. Then we determine iI we have enough income to support our new
car. This is called costing.
The application oI cost and management accounting is almost in every Business or Iirm
weather its manuIacturing or services. Management oI business concerns expects Irom Cost
Accounting detailed cost inIormation in respect oI its operations to equip their executives
with relevant inIormation required Ior planning, scheduling, controlling and decision making.
Cost accounting has long been used to help managers understand the costs oI running a
business. Modern cost accounting originated during the industrial revolution, when the
complexities oI running a large scale business led to the development oI systems Ior
recording and tracking costs to help business owners and managers make decisions.
Cost Behavior :-

The way a speciIic cost reacts to changes in activity levels is called cost behavior. Costs may
stay the same or may change proportionately in response to a change in activity. Knowing
how a cost reacts to a change in the level oI activity makes it easier to create a budget,
prepare a Iorecast, determine how much proIit a new product will generate, and determine
which oI two alternatives should be selected.
Variable costs
Variable costs change in direct proportion to changes in the level oI activity .Direct materials
and direct labor costs are generally classiIied as variable costs. Variable costs are the same
per unit, while the total variable costs change in proportion to the changes in the cost driver
(i.e., activity base).
ixed costs
ixed costs remain constant within a relevant range oI time or activity. However, Iixed costs
per unit usually change with changes in the activity base. Insurance costs, rent costs, and
salaries oI accounting personnel are typical Iixed costs.
Semi Variable cost
A cost composed oI a mixture oI Iixed and variable components. Costs are Iixed Ior a set
level oI production or consumption, becoming variable aIter the level is exceeded.
Also known as a "semi-Iixed cost."

Separation of ixed And variable Cost :-
Management usually needs to know what Iixed and variable costs are included in mixed
costs. This is required Ior budgeting and planning purposes, among others. Using the total
costs and the associated activity level, it is possible to break out the Iixed and variable
components. There are three methods Ior separating a mixed cost into its Iixed and variable
components:
O High-low method
O $catter-graph method
O Method oI least squares
igh-Low Method

In cost accounting, a way oI attempting to separate out Iixed and variable costs given a
limited amount oI data. The high-low method involves taking the highest level oI activity and
the lowest level oI activity and comparing the total costs at each level. II the variable cost is a
Iixed charge per unit and Iixed costs remain the same, it is possible to determine the Iixed and
variable costs by solving the system oI equations

The high-low method is not preIerred because it can yield an incorrect understanding oI the
data iI there are changes in variable or Iixed cost rates over time, or iI a tiered pricing system
is employed. In most real-world cases it should be possible to obtain more inIormation so the
variable and Iixed costs can be determined directly. Thus, the high-low method should only
be used when it is not possible to obtain actual billing data.
Scatter-graph method
The scatter graph method (also called scatter plot or scatter chart method) involves
estimating the Iixed and variable elements oI a mixed cost visually on a graph.
The scatter-graph method requires that all recent, normal data observations be plotted on a
cost (Y-axis) versus activity (X-axis) graph. The vertical axis oI the graph represents the total
costs and the horizontal axis shows the volume oI related activity. The scatter graph is
Improvement over high low method because it utilizes all available data but still it is not
preIerable because the cost line drawn through the data plot is based on visual interpretation.
. Method of least squares
The most robust method oI separating mixed costs is the least-squares regression method.
This method requires the use oI or more past data observations Ior both the activity level
(in units) and the total costs. The method oI least squares identiIies the line that best Iits the
data points (the sum oI the squared deviations is minimized). This method is the most
sophisticated and provides the user with a measure oI the goodness oI Iit, which can be used
to assess the useIulness oI the cost Iormula.
Cost of Production Report (CPR):
A departmental cost of production report (CPR) shows all costs chargeable to a
department. It is not only the source Ior summary journal entries at the end oI the month but
also a most convenient vehicle Ior presenting and disposing oI costs accumulated during the
month. A cost oI production report shows:
1. Total unit costs transIerred to it Irom a preceding department.
2. Materials, labor, and Iactory overhead added by the department.
. Unit cost added by the department.
4. Total and unit costs accumulated to the end oI operations in the department.
5. The cost oI the beginning and ending work in process inventories.
6. Cost transIerred to a succeeding department or to a Iinished goods storeroom.
Costing Systems:-
ManuIacturers use diIIerent types oI costing systems to allocate production costs to their
products and services. Two types oI common product costing systems are process costing and
job-order costing. While each system applies the same production costs to products, there are
distinct variances in the application method.
Process Costing
"The costing method applicable where goods or services result Irom a sequence oI continuous
or repetitive operations or processes. Costs are averaged over the units produced during the
period"
Process costing applies production costs to products based on the process they go through in
the manuIacturing process. Each process has a standard amount oI overhead, labor and
materials that are applied to each batch run the individual manuIacturing processes.
Reconciliations are used aIter batches are processed to ensure that all appropriate costs are
applied to the manuIactured goods.
Application
Process costing is primarily used in the production oI homogeneous goods through repeated
manuIacturing processes. Products that use process costing include beverages, Iood, nails and
screws. These items are processed through individual processes where costs are applied to
each batch oI produced goods. ManuIacturers must be careIul in streamlining their
manuIacturing process to ensure that each batch has production costs applied in similar
amounts.
ob-Order Costing

In a job order costing system, costs are traced to the jobs and then the costs oI the job are
divided by the number oI units in the job to arrive at an average cost per unit.
Job-order costing is a method where overhead, labor and material are applied to diIIerent
products, based on how much oI each production material is used. $ome items may use more
labor, while other products may require more raw materials. Costs are applied, based on the
cost oI each portion oI materials used, rather than through the production process used to
manuIacture the good. ManuIacturers who produce several diIIerent types oI goods will use
job-order costing.
Application
Job order costing system is used in situations where many diIIerent products are produced
each period. or example clothing Iactory would typically made many diIIerent types oI jeans
Ior both men and women during a month
Products like clothing, repair shops and hospitals all use a Iorm oI job-order costing. These
companies have readily identiIiable raw material costs that can be applied directly to each
unit produced or serviced. Labor is also identiIiable to each product because oI the
diIIerences in the products produced. Most companies use job-order costing because oI the
various products they produce and the diIIerent manuIacturing processes needed Ior each
product.
ob Order Costing VS Process costing
Process costing is the best costing method when producing large amounts oI similar items.
Casts are applied at the production process level, creating simple cost allocations Ior
manuIacturers. Overhead is applied by each department as the products are moved through
the individual production processes.
Job-order costing may use several diIIerent types oI overhead application processes, based on
the cost driver oI the manuIacturer. Cost drivers are selected by accountants as the best way
to apply overhead, based on how the products are produced. Number oI direct labor hours,
machine hours or activities are common cost drivers Ior job-order costing. Overhead is
applied by dividing the amount oI overhead by the total number oI costs drivers used when
producing products.




Budgeting:-

stablishing a planned level of expenditures, usually at a fairly detailed level. A company

may plan and maintain a budget on either an accrual or a cash basis`.

Business budgeting is one oI the most powerIul Iinancial tools available to any small-business
owner. Put simply, maintaining a good short- and long-range Iinancial plan enables you to
control your cash Ilow instead oI having it control you.
Many Iinancial budgets provide a plan only Ior the income statement; however, it's important
to budget both the income statement and balance sheet. This enables you to consider potential
cash-Ilow needs Ior your entire operation, not just as they pertain to income and expenses. or
instance, iI you'd already been in business Ior a Iew years and were adding a new product line,
you'd need to consider the impact oI inventory purchases on cash Ilow.
There are thee main budgeting techniques:
O Incremental budgeting
O ero-based budgeting
O lexed budgeting
Incremental Budgeting
The incremental approach to budgeting combines the costs identiIied Irom the previous
accounting period with percentage additions. These percentage additions are utilized to cover
two key areas which include cost increases as a result oI inIlation or higher purchases costs
and predictions associated with increases in costs and income as a result oI business volume
predictions.
A key limitation oI the incremental budgeting system is the manner in which percentages are
added in a blanket Iashion resulting in the likelihood oI higher overall costs in the long-term.
This may then also result in a business having to increase its sale prices to a level that is no
longer competitive.
ero-Based Budgeting
ero-based budgeting system requires budgeting to commence with the assumption that
every cost has a zero base. Next, each item relating to expenditure is worked through and
decisions are made as to whether the purchase is completely essential. Then diIIerent
purchasing options associated with the speciIic item are explored as a means oI ensuring the
item is obtained as cost-eIIectively as possible.
One oI the main limitations oI the zero-budgeting system is that it can take an awIul lot oI
time to work through each individual cost in this manner. However, it is Iair to add that
utilizing this approach will then provide an extremely useIul database containing valuable,
time-saving inIormation Ior the years to come.
lexed Budgeting
As with zero-based budgeting, the Ilexed budgeting system gives its name away in the title as
it involves 'Ilexing' the normal budget. The beneIits oI Ilexed budgeting are that it is likely to
be considerably more accurate as the budget is adapted to suit various external changes.
Within this approach managers are able to provide key inIormation resulting in an achievable
budget, pessimistic budget and optimistic budget.
Through undertaking the process oI Ilexed budgeting, managers are better able to make
important decision relating to risk and expenditure, having gained a wider perspective on best
and worst outcomes.
While preparing a master budget $everal budgets are made like $ales budget, Production
budget, Raw material , Labor, ManuIacturing overhead budget.
Sales Budget
It is a detailed schedule showing the expected sales Ior the budget period; typically, it is
expressed in both dollars and units oI production. An accurate sales budget is the key to the
entire budgeting in some way. II the sales budget is sloppily done then the rest oI the
budgeting process is largely a waste oI time.
The sales budget will help determine how many units will have to be produced. Thus, the
production budget is prepared aIter the sales budget.
Production budget
It shows the number oI units that must be produced during a period in order to meet both
sales and inventory needs.
Production requirements Ior a period are inIluenced by the desired level oI ending inventory.
Inventories should be careIully planned. Excessive inventories tie up Iunds and create storage
problems. InsuIIicient inventories can lead to lost sales or crash production eIIorts in the
Iollowing period.
Direct materials budget
It is prepared aIter computing production requirements by preparing a production budget.
Direct materials budget or materials budgeting details the raw materials that must be
purchased to IulIill the production requirements and to provide Ior adequate inventories
Direct labor budget
It is developed Irom the production budget. Direct labor requirements must be computed so
that the company will know whether suIIicient labor time is available to meet the budgeted
production needs. By knowing in advance how much labor will be needed throughout the
budget year, the company can develop plans to adjust the labor Iorce as situation requires.
Companies that neglect to budget run the risk oI Iacing labor shortages or having to hire and
lay oII workers at awkward times. Erratic labor policies lead to insecurity, low morale, and
ineIIiciency.
Manufacturing Overhead Budget
The manuIacturing overhead budget Or OH budget provides a schedule Ior all costs oI
production other than direct materials and direct labor.
actory overhead:-

actory overhead, also called manuIacturing overhead or Iactory burden, is the total cost
involved in operating all production Iacilities oI a manuIacturing business. It generally
applies to indirect labor and indirect cost; it also includes all costs involved in manuIacturing
with the exception oI the cost oI raw materials and direct labor. actory overhead also
includes certain costs such as quality assurance costs, cleanup costs, and property insurance
premiums.
Methods for Calculating O
Plant-wide overhead rate
A single overhead rate Ior assigning all oI the manuIacturing production and service
department costs to products. This rate is less accurate than departmental rates iI a company
manuIactures a diverse group oI products.
Departmental overhead rate
Rates based on a department's direct and indirect overhead costs and some measure oI the
department's activity, such as the department's machine hours. Departmental rates are more
accurate than plant-wide rates when a company manuIactures diverse products requiring a
variety oI processes.
Activity Based Costing
Activity based costing (ABC) assigns manuIacturing overhead costs to products in a more
logical manner than the traditional approach oI simply allocating costs on the basis oI
machine hours. Activity based costing Iirst assigns costs to the activities that are the real
cause oI the overhead. It then assigns the cost oI those activities only to the products that are
actually demanding the activities
ABC can identiIy high overhead costs per unit and Iind ways to reduce the costs, avoid
decreases in head counts due to inaccurate allocation oI costs, and measure proIitability with
higher accuracy than traditional costing that uses direct-labor hours as the only cost driver
Break even Analysis

Cost-volume-proIit analysis (CVP), or break-even analysis, is used to compute the volume
level at which total revenues are equal to total costs.
When total costs and total revenues are equal, the
business organization is said to be "breaking even." It is an
expected component oI most business plans, especially Ior
startup companies. This analysis show how much revenue
you will need to cover both Iixed and variable costs.
Limitation and Disadvantages of Break Even Analysis :
The break-even analysis is not our Iavorite analysis because:
O It is Irequently mistaken Ior the payback period, the time it takes to recover an
investment. There are variations on break-even that make some people think we have
it wrong. The one we do use is the most common, the most universally accepted, but
not the only one possible
O It depends on the concept oI Iixed costs, a hard idea to swallow. Technically, a break-
even analysis deIines Iixed costs as those costs that would continue even iI you went
broke. Instead, you may want to use your regular running Iixed costs, including
payroll and normal expenses. This will give you a better insight on Iinancial realities.
We call that 'burn rate these post-Internet days.
O It depends on averaging your per-unit variable cost and per-unit revenue over the
whole business.