What is Cost ?

Cost means the amount of expenditure (actual or notional) incurred on, or attributable to, a given thing. In other words, cost indicate: :

(i) an actual or estimated expenditure,

(ii) a direct   and   it is related to a job, process, product or service.

Examples of expenses which constitute cost:

(a) materials,

(b) labour,

(c) factory overheads,

(d) administrative overheads,

(e)   and distribution overheads.

Cost is a wide concept. It does not give an exact meaning unless it is properly qualified. It is necessary, therefore, that both who ascertain cost and who use it as a base for certain decisions, interpret the meaning and contents of cost in a similar manner.

The main characteristics of cost are :

1. The term 'cost' is not complete unless it is fully identified with its nature and category.
2. Costs do not represent the same contents under every situation.
3. No cost            is true, exact or accurate. It is a flexible concept; it does not mean the same thing under all circumstances.
4. Cost may be ascertained in different ways by different persons.
5. Costs vary with time, volume, firm, method or purpose.

Thus cost has no fixed, certain or definite meaning. This may change according to its interpretation and the manner in which, or the purpose for which, it is ascertained. Cost must indicate its purpose and  the conditions under which it is computed. If not, it may be vague, giving different meaning to different people. Hence, it must be related to a particular activity or commodity and expressed-for a given quantity or unit of goods produced or services performed.

What is Costing ?

Costing is the techniques and processes of ascertaining costs. These techniques consist of principles and rules which govern the procedure of ascertaining cost of products or services. The techniques to be followed for the analysis of expenses and the processes of different products or services differ from industry to industry. The main object of costing is the analysis of financial records, so as to subdivide expenditure and to allocate it carefully to selected cost centers, and hence to build up a total cost for the departments, processes or jobs or contracts of the undertaking.

Costing may involve only the assignment of variable costs, which are those costs that vary with some form of activity (such as sales or the number of employees). This type of costing is called direct costing. For example, the cost of materials varies with the number of units produced, and so is a variable cost.

Costing can also include the assignment of fixed costs, which are those costs that stay the same, irrespective of the level of activity. This type of costing is called absorption costing. Examples of fixed costs are rent, insurance, and property taxes.

What is Cost Accounting ?

Cost accounting is defined as "a systematic set of procedures for recording and reporting measurements of the cost of manufacturing goods and performing services in the aggregate and in detail. The Costing terminology of C.I.M.A. London defines cost accounting as "The establishment of budgets, standard costs and actual costs of operations, processes, activities or products, and the analysis of variances, profitability or the social use of funds”. `Wheldon defines cost accounting as “classifying, recording and appropriate allocation of expenditure for determination of costs of products or services and for the presentation of suitably arranged data for purposes of control and guidance of management”. It is thus, a formal mechanism by means of which costs of products or services are ascertained and controlled.

• It includes methods for recognizing, classifying, allocating, aggregating and reporting such costs and comparing them with standard costs." (IMA) Often considered a subset of managerial accounting, its end goal is to advise the management on how to optimize business practices and processes based on cost efficiency and capability.
• Cost accounting provides the detailed cost information that management needs to control current operations and plan for the future.Since managers are making decisions only for their own organization, there is no need for the information to be comparable to similar information from other organizations. Instead, information must be relevant to a particular environment. Cost accounting information is commonly used in financial accounting, but its primary function is for use by managers to facilitate their decision-making.
• Thus it may be regarded as ``a specialized branch of accounting which involves classification, accumulation, assignment and control of costs.

Cost accounting is different from costing in the sense that the former provides only the basis and information for ascertainment of costs. Once the information is made available, costing can be carried out arithmetically by means of memorandum statements or by method of integral accounting.

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”.

Difference between Cost accounting and  financial accounting

• Financial accounting computes the current or accounting period status and results, in the form of Profit and Loss, Account, and Balance Sheet.
  • Cost Accounting computes the cost of production/service in a rigorous manner and facilitates cost control and cost reduction.
• Financial accounting reports the results and position of business to the government, creditors, investors, and external parties.
  • Cost Accounting is an internal reporting system for an organization’s own management for decision making.
• In financial accounting, cost classification is based on the type of transactions, e.g. salaries, repairs, insurance, offices, travel, stores etc.
  • In cost accounting, classification is based on functions, activities, products, process and on internal planning and control and information needs of the organization.
• Financial accounting aims at presenting ‘true and fair’ view of transactions, profit and loss for a period and Statement of financial position (Balance Sheet) on a given date. It aims at computing ‘true and fair’ view of the cost of production/services offered by the firm.
  • Cost accounting is analysis based and may combine objective and subjective assessment of the costs contributing to a standard result.
• Financial accounting must adhere to accounting standards such as the IFRS whereas in
  • cost accounting, information can be presented as accountants .

OBJECTIVES OF COST ACCOUNTING

Cost accounting aims at systematic recording of expenses and analysis of the same so as to ascertain the cost of each product manufactured or service rendered by an organisation. Information regarding cost of each product or service would enable the management to know where to economise on costs, how to fix prices, how to maximise profits and so on. Thus, the main objects of cost accounting are the following:

1. To arrive at the cost of production of every unit, job, operation, process, department or service and to develop cost standard.
2. To analyse and classify all expenditures with reference to the cost of products and operations.
3. To provide information to enable management to make short-term decisions of various types, such as quotation of price to special customers or during a slump, make or buy decision, assigning priorities to various products, etc.
4. To indicate to the management any inefficiencies and the extent of various forms of waste, whether of materials, time, expenses or in the use of machinery, equipment and tools. Analysis of the causes of unsatisfactory results may indicate remedial measures.
5. To present comparative cost data for different periods and various volumes of output.
6. To provide data for periodical profit and loss accounts and balance sheets at such intervals, e.g., weekly, monthly or quarterly, as may be desired by the management during the financial year, not only for the whole business but also by departments or individual products. Also, to explain in detail the exact reasons for profit or loss revealed in total, in the profit and loss account.
7. To reveal sources of economies in production having regard to methods, types of equipment, design, output and layout. Daily, weekly, monthly or quarterly information may be necessary to ensure prompt and constructive action.
8. To provide actual figures of cost for comparison with estimates and to serve as a guide for future estimates or quotations and to assist the management in their price-fixing policy.
9. To show, where standard costs are prepared, what the cost of production ought to be and with which the actual costs which are eventually recorded may be compared.
10. To provide a perpetual inventory of stores and other materials so that interim profit and loss account and balance sheet can be prepared without stock taking and checks on stores and adjustments are made at frequent intervals. Also to provide the basis for production planning and for avoiding unnecessary wastages or losses of materials and stores.

IMPORTANCE OF COST ACCOUNTING

The limitations of financial accounting have made the management to realise the importance of cost accounting. Whatever may be the type of business, it involves expenditure on labour, materials and other items required for manufacturing and disposing of the product. The management has to avoid the possibility of waste at each stage. It has to ensure that no machine remains idle, efficient labour gets due incentive, byproducts are properly utilised and costs are properly ascertained. Besides the management, the creditors and employees are also benefited in numerous ways by installation of a good costing system. Cost accounting increases the overall productivity of an organisation and serves as an important tool, in bringing prosperity to the nation. Thus, the importance of cost accounting can be discussed under the following headings:

Costing as an Aid to Management

Cost accounting provides invaluable aid to management. It provides detailed costing information to the management to enable them to maintain effective control over stores and inventory, to increase efficiency of the organization and to check wastage and losses. It facilitates delegation of responsibility for important tasks and rating of employees. For all these, the management should be capable of using the information provided by cost accounts in a proper way. The various advantages derived by the management from a good system of costing are as follows:

1. Cost accounting helps in periods of traded pression and trade competition - In periods of trade depression, the organization cannot afford to have losses which pass unchecked. The management must know the areas where economies may be sought, waste eliminated and efficiency increased. The organisation has to wage a war not only for its survival but also continued growth. The management should know the actual cost of their products before embarking on any scheme of price reduction. Adequate system of costing facilitates this.
2. Cost accounting aids price fixation - Although the law of supply and demand to a great extent determines the price of the article, cost to the producer does play an important role. The producer can take necessary guidance from his costing records in case he is in a position to fix or change the price charged.
3. Cost accounting helps in making estimates - Adequate costing records provide a reliable basis for making estimates and quoting tenders.
4. Cost accounting helps in channelizing production on right lines - Proper costing information makes it possible for the management to distinguish between profitable and non-profitable activities.

Profits can be maximised by concentrating on profitable operations and eliminating non-profitable ones.

1. Cost accounting eliminates wastages - As cost accounting is concerned with detailed break-up of costs, it is possible to check various forms of wastages or losses.
2. Cost accounting makes comparisons possible - Proper maintenance of costing records provides various costing data for comparisons which in turn helps the management in formulation of future lines of action.
3. Cost accounting provides data for periodical profit and loss account - Adequate costing records provide the management with such data as may be necessary for preparation of profit and loss account and balance sheet at such intervals as may be desired by the management.
4. Cost accounting helps in determining and enhancing efficiency - Losses due to wastage of materials, idle time of workers, poor supervision, etc., will be disclosed if the various operations involved in the production are studied carefully. Efficiency can be measured, costs controlled and various steps can be taken to increase the efficiency.
5. Cost accounting helps in inventory control - Cost accounting furnishes control which management requires in respect of stock of materials, work-in-progress and finished goods.

Costing as an Aid to Creditors

Investors, banks and other money lending institutions have a stake in the success of the business concern and are, therefore, benefited immensely by the installation of an efficient system of costing. They can base their judgment about the profitability and future prospects of the enterprise on the costing records.

Costing as an Aid toEmployees

Employees have a vital interest in their employer’s enterprise in which they are employed. They are benefited by a number of ways by the installation of an efficient system of costing. They are benefited, through continuous employment and higher remuneration by way of incentives, bonus plans, etc.

Costing as an Aid to National Economy

An efficient system of costing brings prosperity to the business enterprise which in turn results in stepping up of the government revenue. The overall economic development of a country takes place as a consequence increase in efficiency of production. Control of costs, elimination of wastages and inefficiencies led to the progress of the industry and, in consequence of the nation as a whole.

SCOPE OF COST ACCOUNTING

The Scope of Cost Accounting Is Very Wide and Includes:

Cost Ascertainment: The main function of cost accounting is the ascertainment of cost of product or services rendered. It includes collection, analysis of expenses and measurement of production at different stages of manufacture. The collection, analysis and measurement requires different methods of costing for different types of production such as Historical costs, Standard costs, Process cost, Operation cost etc.

It can be done in two ways, namely

1. Post Costing, where the ascertainment of cost is done based on actual information as recorded in financial books.
2. Continuous Costing, where the process of ascertainment is of a continuous nature i.e. where cost information is available as and when a particular activity is completed, so that the entire cost of a particular job is available the moment it is completed.