Introduction- Meaning

According to T. Horngren, Foster and Datar, “Cost

accounting measures and reports financial and other
information related to the acquisition or consumption of
an organization’s resources. Cost accounting provides
information to both Management accounting and
Financial accounting.”
Cost accounting is concerned with recording,
classifying and summarizing costs for determination of
costs of products or services, planning, controlling and
reducing such costs and furnishing of information to
management for decision making.

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 COST ACCOUNTING

The Terminology of The Chartered Institute of Management

Accountants, London (CIMA) defines it as, ‘The establishment
of budgets, standard costs and actual cost of operations,
processes, activities or products and the analysis of variances,
profitability or the social use of funds.’

Cost Accounting = Cost Determination + Cost Recording+

Cost Analysis+ Cost Reporting + Cost Control.

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 Limitations of financial
accounting
Due to the following limitations of financial
accounting ,the cost accounting got its origin:
only provides past data.
does not show profit or loss of each product, job,
process etc..
Fails to exercise control over resources
Does not measure organizational efficiency.
Fail to provide adequate data for price fixation.
Does not provide data for comparison of cost
Fails to take into account the impact of price level
changes
 COST
Meaning:
Simply it is the price paid for something

In cost accounting:

It is the amount of resources consumed to
produce a product or service.

Definition:
The institute of management accountants , U.S.A,
defines cost as “a measurement in monetory terms
of the amount of resources used for some
purposes.”
Objectives of Cost Accounting
Ascertainment of cost

Control of cost

Guide to business policy such as make or

buy, introduction of new product etc

Determination of selling price
 Cost Centre
Cost centre: is a location, person, or item of
equipment (or group of these) for which costs
may be ascertained and used for the purpose
of control
It refers to a section of the business to
which costs can be charged.
Types:
 Personal and Impersonal cost centre
 Production and Service cost centre
 Cost Unit
Cost units are the things, that the business is
set up to provide, of which cost is ascertained.
Unit of product, service or time in relation to
which cost may be ascertained or expressed

Types:
Units of production :such as a ream of paper, a
tonne of steel, a meter of cable etc.

Units of services: such as passenger miles,

consulting hours, room per day, bed per day
 Methods of costing
 It refers to the techniques and processes employed in
the ascertainment of costs
Choice of the method depends upon the type and
nature of manufacturing activity

The methods of costing are:

JOB ORDER COSTING – Applies where work is
undertaken to customers special requirements.
CONTRACT COSTING or terminal costing:
It is same as Job order costing; however, job
is small and contract is big contract.
Contract is of long duration and may
continue for more than a financial year.

BATCH COSTING:
Cost of a batch or group of identical products
is ascertained; each batch of products is a
cost unit for which costs are ascertained.
PROCESS COSTING :
Applies to a context where there is a continuous
process. Costs are accumulated for each process.
And then total cost of a process is divided by the
number of units produced to arrive at cost per
unit.

OPERATIONS COSTING:
Involves cost ascertainment for each operation.

OPERATING OR SERVICES COSTING:

It is applied to services; cost units are passenger –
kilometer, room per day, bed per day.
MULTIPLE OR COMPOSITE COSTING
Application of more than one method of costing in
respect of the same product.
Used in industries where a number of components
are separately manufactured and then assembled
into a final product.

SINGLE, OUTPUT OR UNIT COSTING:

Applied to a context where output produced are
identical, the cost per unit is found by dividing
the total cost by the number of units produced.
E.g. Steel output is identical but differentiated by
grades.
Techniques of costing – Types…..
STANDARD COSTING:
Standard cost is predetermined as target of
performance and actual performance is measured
against the standard.

BUDGETARY CONTROL:
By comparing actual with planned / budgeted
performance
MARGINAL COSTING:
Only variable cost is allocated to individual cost
centers or cost units

TOTAL ABSORPTION COSTING :

Both fixed and variable costs are charged to
products.

UNIFORM COSTING:
It is not a technique but a situation wherein several
undertakings use the same costing principle and
practices.
DIRECT COSTING:
Process of charging all direct costs to products,
services, job etc..

DIFFERENTIAL COSTING:
Technique of comparing cost of two alternatives for
the purpose of deciding which alternative is best.
 Classification of cost
Classification can be done in the following ways:
 According to the functions
 According to the variability

 According to the identifiability

 According to time and period

 According to managerial decisions

Manufacturing These are the costs associated with
cost the production of goods.

Administrative These are the costs associated with

cost the firm’s general management

Costs of creating and stimulating

Selling cost demand and securing orders
Costs incurred in moving the
Distribution goods from the factory to the
cost consumers

Costs incurred for raising and

Financing cost using capital
Those costs which do not change with
changes in the level of activity.
When production increases or decreases, fc Fixed cost
will remain fixed.
Eg,rent&rates, salaries, insurance, tax,etc

Those costs which change in direct

proportion to changes in the level of activity.
When volume of output increases, total Variable cost
variable cost also increases proportionately.
But the per unit remains fixed
Eg;direct material, direct labour,etc

These costs are Partly fixed and partly

Semi-
variable.
eg:telephone charges, power charges, variable cost
depreciation, etc
Fixed cost- Total and Per unit

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Semi- Variable Cost

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Step costs

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 Direct cost Indirect cost

All costs which can be The costs which cannot

conveniently identified with a conveniently be identified with a
particular cost centre or cost particular cost unit or cost
unit. centre.
These are directly chargeable to The total of indirect costs is
a product, activity or department. called overhead.
Eg:Direct material, direct Eg:factory rent, depreciation,
labour,etc factory mgr’s salary, etc
 These are the costs which are
incurred after the event takes
Historical place .
cost  They are nothing but actual
costs.

These are the costs which are

directly associated with the
Product cost product.
These are the costs of making
finished products.
Eg: manufacturing costs
 These are the costs charged
as an expense in the profit and
loss account of the period in
Period cost which they are occurred.
They are incurred on the
basis of time.
eg:depreciation, rent, salaries,
etc

It is the cost which is

Pre-determined
computed in advance of
cost
production
 Sunk cost Opportunity cost

•Past costs, which have been It is the value of a benefit

incurred as a result of a sacrificed in favour of an
decision made in the past. alternative course of action.
•Such cost cannot be It is the cost of the best
reversed by future decision. alternative foregone.
•Eg: investment in fixed
assets, as the amount
invested in fixed assets is
irreversible.
 Imputed costs

These costs are not

Differential cost actually incurred.
These are expenses which
The difference between total
an entrepreneur pays himself
costs between two alternatives
Costs considered at time of
is called differential cost.
decision making.
It is the increase or decrease
Eg: rent of owned
in total cost that result from
an alternative course of building, salary of owner, etc
action.
Increase in cost incremental
cost
Decrease in cost decremental
cost
 Shut
down cost

Out-of-
pocket These are the costs which
cost will be incurred even if the
plant is closed down
temporarily due to raw
Those costs that involve material shortage, labour
cash outflow immediately problem,etc.
or in the future. Eg: rent, depreciation,
Eg: material costs, labour maintenance of plant ,etc
costs, repairs, rents, etc,
 ItItisisthe
theadditional
additionalcost
cost
Marginal ofofproducing
producinganan
Marginal additional
cost
cost additionalunit
unit

It is the cost of converting raw Conversion

materials into finished goods. Conversion
cost
cost
It is the total of direct labour, direct
expenses, and factory overheads.

Costs which have direct influence on

the decision making are called
relevant relevant costs.
relevant
cost These are future costs that will
cost change due to managerial decision.
Elements of costs
In order to interpret the term cost correctly and to
ascertain the cost with respect to the cost centers,
the cost attached with the manufacturing process
may be subdivided, known as Elements of Costs.

(A) Material

(B) Labour

(C)Expenses
Elements of Cost

Material Labour Expenses

Direct Indirect Direct Indirect Direct Indirect

Factory / Selling
Administratio & Distribution
Works
n Overheads Overheads
Overheads
Material Cost
The cost of commodities and materials used by the
organization.
Direct Material Cost –
all raw materials, either purchased from outside or
manufactured in house.
Indirect Material Cost –
material which cannot be identified with the individual
cost centre, assist the manufacturing process and does
not become an integral part of finished goods.
Consumable stores, Cotton waste, oils and lubricants,
stationary material etc.
Labour Cost
The cost of remuneration paid to the employees of the
organization.
Direct Labour Cost –
identified with the individual cost centre and is incurred for
those employees who are engaged in the manufacturing
process.
Indirect Labour Cost –
cost which cannot be identified with the individual cost
centre and is incurred for those employees who are not
engaged in the manufacturing process but only assist.
wages paid to foreman/storekeeper, salary of works
manager, Accountant/Personnel dept. salaries etc.
Expenses Cost
This is the cost of services provided to the organization
and the notional cost of assets owned.
Direct Expenses Cost –
Expenses identified by individual cost centers.
Hire charges of machinery/equipment for particular job,
cost of defective work etc.
Indirect Expenses Cost –
Expenses which cannot be identified by individual cost
centers.
Rent , Telephone expenses, Insurance, Lightening etc.
Direct Material Cost
+
Direct Labour Cost Prime Cost
+
Direct Expenses Cost

Indirect Material Cost

+
Overheads Indirect Labour Cost
+
Indirect Expenses Cost
Overheads- Classification
Factory / Works Overheads
Consist of all overhead costs incurred from the stage of
procurement of material till the production of finished goods.
Indirect material such as Consumable stores, Cotton
waste, oils and lubricants, stationary material etc.
Indirect labour such as wages paid to
foreman/storekeeper, salary of works manager,
Accountant/Personnel dept. salaries etc.
Indirect Expenses such as Carriage inward cost, Factory
lightening/power expenses, rent/ Insurance /repairs for
factory building/machinery, depreciation on factory building
or machinery etc.
Office and Administrative Overheads
These overheads consists of all overheads costs
incurred for the overall administration of the
organisation. They include :
Indirect material such as stationary items, office
supplies etc.
Indirect labour such as salaries paid to account and
administrative staff, Directors’ remuneration etc.
Indirect expenses such as postage/telephone,
depreciation on office building, legal/audit charges,
Bank charges . Rent/insurance / repairs in offices etc.
Selling and Distribution Overheads
These overhead consist of all overhead costs incurred
from the stage of final manufacturing of finished goods
till the stage of sale of goods in the market and
collection of dues from customers.
 Indirect material such as packaging material,
samples etc.
Indirect labour like salaries paid to sales personnel,
commission paid to sales manager.
Indirect expenses like carriage outward, warehouse
charges, advertisement, bad debts, repairs and running
of distribution van, discount offered to customers etc.
 COST SHEET
A. Direct Material
Direct Labour Prime Cost
Direct Expenses

B. Works Expenses,
Indirect Materials Works or Factory cost
Indirect Labour i.e. A + B
Rent & taxes of factory (Also often Production Cost)
premises, Depreciation,
Repairs, Fuel & power etc.

C. Office Expenses
Office Rent, Rates, Office Cost
Stationary i.e. A + B + C
Directors fees etc. Or Cost of Production
D. Selling Expenses, such as
Sales staff salaries
Show room expenses Cost of Sales,
Advertising i.e. A + B + C + D
Carriage outwards
Packing
Bad Debts

E. Plus Profit
Or Selling price
Minus Loss i.e. A + B + C + D + E
 COST SHEET 

DIRECT MATERIAL
DIRECT LABOUR
DIRECT EXPENSES
 

PRIME COST
FACTORY OVERHEADS
 

FACTORY COST
OFFICE OVERHEADS
 

COST OF PRODUCTION
SELL & DIST OVERHEADS
 

COST OF SALES
PROFIT
 
SALES
Example..
 From the following particulars compute the cost of production of product:

Amount
Material Used 12,000
Labour Employed 8,000
Salary of inspector engaged in the product 1,000
Proportionate lighting and heating (factory and office 3:2) 500
Proportionate of deprecation, repairs and rent (50% is 1,000
related to factory)
Municipal tax and insurance (40% related to office) 800
Trade subscription 100

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 Cost Sheet..
Particulars Amount
Direct Material: Material Consumed 12,000
Direct Labour: Labour Employed 8,000
Direct Exp: Salary of inspector engaged in the product 1,000
PRIME COST 21,000
Add: Factory overheads
lighting and heating 300
deprecation, repairs and rent 500
Municipal tax and insurance 480
FACTORY COST (Prime cost + Factory overheads) 22,280
Add: Office and Administrative overheads
lighting and heating 200
deprecation, repairs and rent 500
Municipal tax and insurance 320
Trade subscription 100

Total Cost of Production (Factory cost+ office exp) 23,400

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 Exercise.. Calculate total cost
 Material Used in manufacturing: 5,500
 Material Used in packing: 1,000
 Material Used in selling the product: 150
 Material Used in factory: 75
 Material Used in office: 125
 Labour required in producing: 1,000
 Labour required for supervision of mgt. of factory: 200
 Expenses- Direct- Factory: 500
 Expenses- Indirect- Factory:100
 Expenses- office: 125
 Deprecation- office building and equipment: 75
 Depreciation- factory: 175
 Selling expense: 350
 Freight : 500
 Advertising : 125
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 Expenses excluded from Costs
Item of expenses which are apportionment of profit
should not form a part of the costs. These are-
Income tax
Dividend to share holders
Commission to partners, managing agents etc.
Capital Loss
Interest on Capital
Interest paid on debentures
Capital expenses etc.