Cost Accounting

Q1) State the main objectives of Cost Accounting.

Ans) The amount of expenditure (actual or notional) incurred on, or attributable to,
a specified thing or activity.

Objectives of Cost Accounting –

Basic objective of cost accounting is cost collection, cost ascertainment and cost
analysis, interpretation, projection and cost control with a view to effectively and
efficiently help management in production, purchase, marketing, personnel,
finance and general management functions. Main objectives and functions of cost
accounting is as follows-

1. Ascertainment of cost- The main purpose of costing is to ascertain cost of

products, operations, processes, jobs, contracts, etc. Ascertainment of cost involves
allocation, appointment and absorption of costs.
2. Cost control- The objective is to achieve maximum cost economy in
production, purchase, marketing and other functions by exercising control on
material, labour and overhead costs. Budgetary control and standard costing are
important tools of cost control.
3. Analysis of cost data- Analysis of cost data is done with the objective of
ascertaining cost trends, cost fluctuations, reliability of cost information,
determining the uses to which such information can be put and finding out ways
and means of improving upon the prevailing cost accounting structure.
4. Measuring and improving performance-Cost accounting measures efficiency
by collecting, classifying and analyzing data relating to actual and budgeted costs.
Providing managers with the data and reports regarding their performance helps
improving their performance, particularly when variances from the budgets are
presented together with the reasons for such variances.
5. Facilitate preparation of financial accounts- System of cost accounting
provides a continuous review of production, sales and other operating activities.
Information regarding quantity and value of stocks of raw materials; work-in-
progress and finished product is also made available on perpetual basis. This helps
in speedy preparation of financial statements at shorter time interval.
6. Data base of operating policy- Cost accounting offers a thoroughly analyzed
cost data which forms basis of formulating policy regarding day-to-day business.
7. Accumulate data for short-term and long-term decisions-An efficient system
of cost accounting regularly maintains a data-bank to facilitate decision-making
relating to all sections of business. The cost data should be continuously updated
and should have futuristic worth so as to offer reliable basis for both short-term
and long-term decisions.
8. Special cost studies and investigations-Cost accounting also offers data and
analysis for special and ad hoc cost studies regarding carteling, bonus to workers,
mergers, competitive price-cutting, purchases of brands, market expansion or
contraction, etc.
9. Justification for government action- Governmental plans for revenue
generation and expenditure can be rationalized only if the benefits from
governmental spending are more than costs incurred. Price controls, tariff
protection, provision of social security and welfare facilities, creation of social and
economic infrastructure, are all guided by relevant costs and justified in terms of
cost-benefit comparisons.

Q2) Explain Fixed, Variable Semi-Variable and Semi-Fixed Overhead.

Ans)
Fixed Overhead:
Fixed overhead refers to costs that do not change regardless of how much you
produce or sell. These are constant expenses that a business incurs regularly, such
as rent for a factory or salaries of permanent staff.
Example: Monthly rent for a factory space or salaries of permanent employees.

Variable Overhead:
Variable overhead costs are directly tied to the level of production. As production
increases or decreases, variable overhead costs also change accordingly.
Example: Costs of raw materials or direct labor that vary with the level of
production.

Semi-Variable (or Mixed) Overhead:

Semi-variable overhead has components of both fixed and variable costs. Some
part of the cost remains constant, while another part varies with the level of
production.
Example: Utilities for a factory may have a fixed component (e.g., basic service
fee) and a variable component (e.g., usage charges).
Semi-Fixed (or Step) Overhead:

Semi-fixed overhead costs are fixed within a certain range of activity but can
change when production levels move outside that range. It increases or decreases
in steps.
Example: If a company needs to hire additional supervisors only when production
exceeds a certain level, the supervisor salaries would be semi-fixed.
In summary:

 Fixed Overhead remains the same regardless of production levels.

 Variable Overhead changes proportionally with production levels.
 Semi-Variable Overhead has both fixed and variable components.
 Semi-Fixed Overhead is fixed within a certain range but can change in steps
outside that range.
Understanding these overhead categories helps businesses analyze and manage
their costs effectively in cost accounting.

Q3) What is meant by Machine Hour Rate? How is it calculated?

Ans) Machine hour rate is the cost of running a machine for one hour. It is different
for different types of machine.

Machine hour rate "An actual or pre-determined rate of cost apportionment or

overhead absorption which is calculated by dividing the cost to be apportioned or
absorbed by the number of hours for which a machine or machines are operated or
expected to be operated"

The amount of overhead applicable to a job is determined by the machine hours

used on that job. These machine hours are multiplied by the machine hour rate. If
more than one machine have been used to complete the job, then hours of each
machine are multiplied by the respective machine hour rates.

Computation of machine hour rate-The following steps are taken for the
computation of machine hour rate-
(1) The factory overheads are first apportioned to production departments as
discussed earlier under allocation and apportionment. (ii) Overheads of the
department are further apportioned to different machines or groups of machines.
For this purpose each machine or a group of machines is treated as a cost centre or
a small department. (iii) Specific overheads like power, depreciation, etc., should
be directly allocated to the machine.

(iv) The overheads relating to the machine should be divided between

(a) fixed or standing charges, and (b) variable or machine charges. Fixed charges
are those which remain constant irrespective of the use of the machine, e.g., rent,
supervisor's salary, etc. Variable charges vary with the use of machines, e.g.,
power, depreciation etc.

(v) The working hours of a machine are estimated for the period.

(vi) Overheads pertaining to the machine are totaled and divided by the number of
effective machine hours. The resultant figure will be machine hour rate. The time
required for setting the machine (unless it is treated as producing time) should be
deducted from the total working hours to arrive at effective hours.

Treatment of depreciation. Depreciation is a semi-variable item. In the

computation of machine hour rate, some accountants treat it as a fixed cost while
others treat it as a variable cost. In fact, whether it is to be treated as fixed or
variable cost, depends upon the method of computing depreciation. In this chapter,
it has been mostly treated as a variable item.

Q4) Differentiate between Work Certified and Work Uncertified.

Ans) Work-in-progress: Work certified and uncertified A contract may be
completed over a period of more than one year. At the end of an accounting period
a major or minor portion of contract work might have been done but the
contract might not have got completed. Entire work done before the stage of
completion of contract is work-in-progress. This work-in-progress is subjected to
scrutiny by an expert based on which it may be classified as work certified and
uncertified .

(a) Work certified-That part of work-in-progress (or work completed) which has
been approved or certified or aunthenticated and valued by the expert called
certifier or a valuer, is known as work certified. Before certifying the work the
expert carefully goes through all documents relating to work done and costs
incurred there on. He also physically examines the status of work at site.

(b) Why work is certified-Both the contractor as well as contractee are interested in
getting the work certified because –
(i) Monitoring-It helps monitoring the progress of work done by the contractor.
(ii) Basis of payments- It is a basis of progress payments by the contractee to the
contractor.
(iii) Estimation of profit-Estimation of profit before completion of contract is based
on work certified.
(iv) Loans against work-in-progress- In case contractor wants to get loans against
work-in-progress, he should get it certified from expert.

Characteristics of work certified

(i) Part of work done- Work certified is a part of work done, generally a major part.
(ii) Always cumulates- Work certified always cumulates, i.e., work certified at the
end of second year is total work certified till that date, i.e., work certified till the
end of first year plus additional work certified in the second year, and so on. As a
result work certified at the end of a subsequent period is always more than that in
the preceding period, except when there is a damage to work due to floods,
earthquake ,etc.

(iii) Valued at contract price- Work certified is valued at contract price, i.e., the
selling price. Therefore it includes an element of profit while valuing work
certified.
(iv) Generally certifier is careful and conservative while valuing work certified.
(b) Work uncertified-It is that part of work-in-progress (or work completed) which
has been approved by the expert. It may arise because by the end of an accounting
period certain careful and conservative

not work may not have reached the stipulated stage of completion. Such work is
valued at cost only
does not include any element of profit. Also work uncertified does not cumulate.
Work uncertified at the end of second year may be more or less than that at the end
of the first year.

Both work certified and uncertified are part of work-in-progress (or work
completed) and are credited to the contract account. Materials, stores and plant at
site at the end of a year are also credited to contract account like work-in-progress
at site at the end

Q5.) What is Operating Costing? Explain its characteristics.

Ans) Industries are of two types- manufacturing industries and service industries.
Manufacturing industries produce goods eg. iron & steel industries, mining
industries, textile dustries, sugar industries etc. The methods of cost accounting
applied in such industries are But costing, process costing, batch costing etc. On
the other hand there are service industries which provide services e.g. transport
industries (Road, rail, air, water transport etc.), hotel industries, power generation
and distribution industries, Dak services, courier services, medical ervices,
cinemas, theatre, circus industries etc. The method of costing used in these service
industries is known as operating or service costing'.

Operating costing is defined by the CIMA Terminology as "That form of operation

costing which applies where standardised services are provided either by an
undertaking or by a service cost center within an undertaking". The costs incurred
in providing a service are called operating costs' and the method used for
computing such costs is called 'operating costing.

Operating costing and operation costing Though operating costing has been
defined as a form of operation costing, the two differ in practical application.
Operating costing is used to ascertain cost of service whereas operation costing is a
costing method used where goods or services result from a sequence of continuous
or repetitive operations. Operation costing involves determination of cost of each
operation involved in completion of a process. Thus, it is a refinement and detailed
application of process costing.
Operating costing is used for ascertaining cost of all services produced within an
undertaking, whether for use by products and departments within the organisation,
called internal services, or for sale to outsiders at a price to yield profit, called
external service. Service produced may be used both internally as well as
externally.
Characteristics of operating costing

The following are the main characteristics of this method of costing-

1. Determination of cost of services- It deals with determination of cost of
repetitive services, not tangible products.

2. Resembles unit costing- It resembles unit costing in that the total cost incurred
during a period on a service divided by the total number of cost units of the service
gives cost per unit of service.

3. Fixed costs higher- The proportion of fixed costs is generally higher.

4. Period costs-In most cases operating costs are taken as period costs and are
charged to the service units produced during the period.

5. Working capital less-Requirement of working capital is generally less in case of

service enterprises.

6. Services different cost different- Similar services provided by different 7.

organisations may be qualitatively different. Hence their cost may be different.

7. Various costs categorised-Various costs in providing services may be

categorised as: (1) Standing charges, (ii) Maintenance charges, and (iii) Operating
charges; or as: (i) Fixed charges and Variable charges.
Q6) What is meant by Process Cost Accounting? Explain its characteristics.
Ans)Process costing is used to ascertain the cost of each stage of manufacture
where material is passed through various operations to obtain a final product to
result, with by products in many cases at different stages." Lunt and Ripley.

Application of process costing-

Process costing is employed in the following types of industries-

(1) Food processing industries, e.g., flour mills, meat products, milk dairy
confectionaries, fruits and vegetables processing, etc.

(2) Metallurgical industries, e.g., iron and steel, aluminium, wire drawing and
nettingand polishing, alloy production, etc.

(3) Chemical industries, e.g., drugs and phramaceuticals, paints soap making,
production of sugar, molasses and alcohal, breweries, distilleries, oil refining, etc.

(4) Other industries involving a sequence of processes, e.g., paper mills, cement
works,coke works, canning factory, textile manufacture, carton making, etc.

Characteristics of process costing:-

1. Average cost-The cost per unit produced is the average cost which is calculated
by dividing the total process cost by the number of units produced.

2: Some loss unavoidable-Some loss of materials in processes (due to chemical

reaction, evaporation, etc.) is unavoidable.

3. Production is continuous-The production is continuous and the final product a

sequence of processes.

4. The result of acts or by-products- Processing of a raw materials may give rise
Joint products or byl products. These several products produced from the same raw
material may be termed as joint products or by-products.
5. Products homogeneous-The products are standardised and homogeneous.

6. Costs accumulated-Costs are accumulated process-wise.

7. Sequence of operations-The sequence of operations or processes is specific and

pre-determined.

8. Finished product becomes raw material- The finished product of each but lat
process becomes the raw material for the next process in sequence and that of the
last process is transferred to the finished goods stock.

Q7) What is meant by Reconciliation of Cost and Financial Accounts? Explain

objects of Reconciliation.
Ans) Meaning of reconciliation statement-
A statement prepared to reconcile the difference between the profits as shown by
cost and financial books, for a particular accounting period, is called
'Reconciliation statement As we prepare a bank reconciliation statement' to
reconcile the difference between the bank balances as shown by cash book and
pass book, we prepare a statement to reconcile the difference seen the profits of
cost books and financial books.

The primary objectives of reconciling cost and financial accounts include:

1)Identifying Discrepancies: The reconciliation process helps in identifying any

differences between the cost and financial accounts. Discrepancies may arise due
to errors in recording transactions, differences in accounting methods, or timing
differences.

2)Ensuring Accuracy: By reconciling the two sets of accounts, discrepancies can

be corrected, ensuring that the financial statements accurately reflect the company's
financial position and performance.
3)Compliance: Reconciliation helps ensure compliance with accounting standards
and regulations. It ensures that the financial statements adhere to the generally
accepted accounting principles (GAAP) or international financial reporting
standards (IFRS).

4)Cost Control: Reconciliation aids in evaluating the effectiveness of cost control

measures. By comparing actual costs recorded in the cost accounts with those
reported in the financial statements, management can identify areas of cost
overruns or inefficiencies.

5)Decision Making: Accurate financial information is crucial for making informed

business decisions. Reconciling cost and financial accounts provides management
with reliable data for evaluating profitability, pricing strategies, and resource
allocation decisions.

Overall, the reconciliation of cost and financial accounts plays a vital role in
ensuring the accuracy of financial reporting, compliance with accounting
standards, and facilitating effective decision-making within an organization.

Q8)What is Cost Accounting ? In what respects does it differ from Financial

Accounting?
Ans)Cost accounting is a branch of accounting that focuses on the recording,
analysis, and control of costs incurred in the production of goods or services. Its
primary objective is to provide management with information for decision-making,
cost control, and performance evaluation. Cost accounting involves various
techniques and methods for allocating and analyzing costs to help management
make informed business decisions.

Here are some key differences between cost accounting and financial accounting:

Objective:

Cost Accounting: The primary objective of cost accounting is to provide internal

users, such as management, with information for decision-making related to cost
control, cost reduction, pricing, and performance evaluation. It focuses on
providing detailed information about the costs associated with producing goods or
services.
Financial Accounting: The main objective of financial accounting is to provide
external users, such as investors, creditors, and regulators, with information about
the financial position, performance, and cash flows of a company. It focuses on
preparing financial statements, such as the balance sheet, income statement, and
cash flow statement, in accordance with accounting standards and regulations.
Reporting:

Cost Accounting: Reports generated by cost accounting are primarily used for
internal purposes. These reports may include job costing reports, process costing
reports, variance analysis reports, and budget reports. The level of detail in cost
accounting reports may vary based on management's needs.
Financial Accounting: Financial accounting reports are prepared in accordance
with generally accepted accounting principles (GAAP) or international financial
reporting standards (IFRS) and are intended for external users. These reports are
standardized and include financial statements like the balance sheet, income
statement, and cash flow statement.
Timeframe:

Cost Accounting: Cost accounting focuses on providing real-time or frequent

updates on costs incurred during production processes. It helps management in
making timely decisions to control costs and improve efficiency.
Financial Accounting: Financial accounting typically follows a periodic reporting
cycle, such as monthly, quarterly, or annually, to prepare financial statements. The
focus is on reporting historical financial performance and position rather than
providing real-time information.
Regulatory Requirements:

Cost Accounting: There are no specific regulatory requirements for cost

accounting reports. Companies have the flexibility to design their cost accounting
systems based on their operational needs and management requirements.
Financial Accounting: Financial accounting is subject to regulatory requirements
set forth by accounting standard-setting bodies, such as the Financial Accounting
Standards Board (FASB) in the United States or the International Accounting
Standards Board (IASB) globally. Companies must comply with these standards
when preparing financial statements for external users.
In summary, while both cost accounting and financial accounting are essential
components of accounting, they serve different purposes and audiences. Cost
accounting focuses on providing detailed internal information for management
decision-making, cost control, and performance evaluation, while financial
accounting focuses on preparing standardized financial statements for external
users in accordance with accounting standards and regulations.