Methos of Costing

Though, in all cases, the basic principles and procedure of costing remain the same, on account of the nature and peculiarities of their business, different industries follow different methods of ascertaining cost of their products and services. Different methods are used because business enterprises vary in their nature and in the type of products or services they produce or render.

Job Costing :It refers to a system of costing in which costs are ascertained in terms of specific jobs or orders which are not comparable with each other. Industries where this method of costing is generally applied are printing press, automobile garage, repair shop, ship-building, house building, engine and machine construction, etc.

Contract Costing : Although contract costing does not differ in principle from job costing, it is convenient to treat contract cost accounts separately. The term is usually applied to the costing method adopted where large scale contracts at different sites are carried out, as in the case of building construction.  Cost plus costing is a part of the contract costing. When in a contract besides the price of the contract, i.e., agreed sums a percentage of the contract cost or an agreed total sum is paid over and above the contract price to the contractor, it is known as cost plus costing.

Batch Costing :This method is also a type of job costing. A batch of similar products is regarded as one job and the cost of this complete batch is ascertained. It is then used to determine the unit cost of the articles produced. It should, however, be noted that the articles produced should not lose their identity in manufacturing operations.

Process Costing :Where a product passes through distinct stages or processes, the output of one process being the input of the subsequent process, it is frequently desired to ascertain the cost of each stage or process of production.This is known as process costing. This method is used where it is difficult to trade the item of prime cost to a particular order because its identity is lost in volume of continuous production. Process costing is generally adopted in textile industries, chemical industries, oil refineries, soap manufacturing, paper manufacturing, tanneries, etc.

Operation Costing :This method is adopted when it is desired to ascertain the cost of carrying out an operation in a department, for example, welding. For large undertakings, it is frequently necessary to ascertain the cost of various operations.

Unit or Single or Output or Single-output Costing :This method is used where a single article is produced or service is rendered by continuous manufacturing activity. The cost of whole production-cycle is ascertained as a process or series of processes and the cost per unit is arrived at by dividing the total cost by the number of units produced. The unit of costing is chosen according to the nature of the product. Cost statements or cost sheets are prepared under which various items of expenses are classified and the total expenditure is divided by total quantity produced in order to arrive at unit cost of production. This method is suitable in industries like brick-making, collieries, flour mills, cement manufacturing, etc. This method is useful for the assembly department in a factory producing a mechanical article e.g., bicycle.

Operating Costing : This method is applicable where services are rendered rather than goods produced. The procedure is same as in the case of single output costing. The total expenses of the operation are divided by the units and cost per unit of service is arrived at. This method is employed in railways, road transport, water supply undertakings, telephone services, electricity companies, hospital services, municipal services, etc.

Multiple or Composite Costing : Some products are so complex that no single system of costing is applicable. It is used where there are a variety of components separately produced and subsequently assembled in a complex production. Total cost is ascertained by computing component costs which are collected by job or process costing and then aggregatingthecoststhroughuseofthesingleoroutputcostingsystem.This method is applicable to manufacturing concerns producing motor cars, aeroplanes, machine tools, type-writers, radios, cycles, sewing machines, etc.Terminal Costing :This method is also a type of job costing. This method emphasizes the essential nature of job costing, i.e. the cost can be properly terminated at some point and related to a particular job.Departmental Costing: When costs are ascertained department by department, the method is called “Departmental Costing”. Usually, for ascertaining the cost of various goods or services produced by the department, the total costs will have to be analysed, say, by the use of job costing or unit costing.

Since each business is so varied from the other, the method of costing cannot be uniform.  The different methods of costing used by different businesses are summarized here under :

Method	Type of Business
Job Costing – The costs incurred for a particular job can be easily identified	Advertising
Contract costing – Similar to job costing but the duration of assignment is longer.	Construction
Unit costing – The costs are incurred for a fixed quatiny.	Mining
Batch costing – The costs incurred for a fixed number of units forming a batch	Manufacturing of spare parts
Process costing – The processes involved are easily distinguished.	Textile units
Operating costing – The costs are incurred for services rendered.	Hospitals

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Techniques of Costing

Besides the above systems of costing, Types/techniques of costing refer to various systems used for ascertaining and analyzing costs. The various types/techniques of costing are as follows:

1. Historical or conventional Costing

The ascertainment and recording of costs after they have been incurred is known as historical costing. It provides the management with a record of what has happened and is thus a postmortem of the actual costs. Since, it is conventional in nature, it is known as ‘Conventional Costing’ or ‘Actual Costing’. Actual costs can be ascertained in two ways: (i) Post costing, and (ii) Concurrent or continuous costing.

(a). Post costing: Under this system, cost is ascertained after production is completed, by analyzing financial data in such a way as will disclose the cost of the units which have been produced. The main advantage of this procedure is that the figures analyzed are the actuals and hence the cost arrived at is correct. But the serious drawback of this procedure is that it is historical in nature since the information is obtained after the event has place. As such this procedure does not enable the manufacturer to take corrective action in time.

(b). Continuous costing: Under this system, cost is ascertained by recording expenditure and allocating it to production as and when the same is incurred, with the result that cost is ascertained as soon the job is completed or even when the job is in progress. This necessarily involves the use of estimates, especially in respect of overhead. Hence the figures of cost ascertained may not be exact. But since this method makes available the costing information promptly, it enables the management to take the necessary corrective action. But this system does not provide any standard for judging the efficiency of the current operations and does not disclose, what the cost of the job ought to have been.

2. Standard Costing

According to the Terminology of Cost Accountancy of the Institute of Cost and Management Accountants, ‘Standard Costing’ refers to “the preparation and use of standard costs, their comparison with actual costs and the analysis of variances to their causes and points of incidence”. Under standard costing, costs are computed in advance on the basis of normal or probable expectation. The costs so computed are known as ‘standards’ or ‘standard costs’ and these are compared with actual costs, when incurred, so as to ascertain the variances or differences. These variances or differences are later on analyzed to their causes so as to enable the management to take corrective action where necessary.

3. Marginal Costing

Marginal Costing (also known as Variable Costing) refers to “the ascertainment of marginal costs and of the effect on profit of changes in volume or type of output by differentiating between fixed costs and variable costs”. Under marginal costing, all costs are segregated into fixed costs and variable costs. Fixed costs refer to costs which tend to remain fixed or constant in total with changes in the volume of output. Variable costs refer to costs which tend to vary or change in total directly in proportion to changes in the volume of output. The main object of marginal costing is to deal with the effects of changes in the volume or range of output on the costs or profit of a business concern.

4. Direct Costing

According to the ‘Terminology of Cost Accountancy’ of the Institute of Cost and Management Accountants, ‘direct costing’ means “the practice of charging of all direct costs to operations, processes or products, leaving all indirect costs to be written off against profits in the period in which they arise”. This differs from marginal costing in that some fixed costs could be considered to be direct costs in appropriate circumstances.

5. Absorption Costing

It has been defined by the Institute of Cost and Management Accountants as “the practice of charging all costs, both variable and fixed, to operations, processes or products.” Under absorption costing, no distinction is made between fixed costs and variable costs and all costs, whether fixed or variable, are taken into account for ascertaining the cost of production. Absorption costing is also known as ‘Full Costing’.

6. Uniform Costing

It has been defined by the Institute of Cost and Management Accountants as “the use by several undertakings of the same costing principles and/or practices”. Thus, when a number of undertakings, whether under the same management or otherwise, decide to adhere to one set of accepted costing principles particularly in matters where there can be two opinions, they are said to be following uniform costing. It attempts to establish uniform costing methods so that comparison of performances in various undertakings can be made to the common advantage of all the participating undertakings. A technique where standardized principles and methods of cost accounting are employed by a number of different companies and firms, is termed as uniform costing. This helps in comparing performance of one firm with that of another.

7. Activity Based Costing

In a business organization, Activity-Based Costing (ABC) is a method of assigning the organization's resource costs through activities to the products and services provided to its customers. It is defined as a technique of cost attribution to cost units on the basis of benefits received from indirect activities, e.g. ordering, setting up, assuring quality. ABC involves identification of costs with each cost driving activity and making it as the basis of apportionment of costs over different products or jobs on the basis of the number of activities required for their completion. It is basically used for apportionment of overheads costs in an organisation having products that differ in volume and complexity of production. Under this technique, the overhead costs of the organisation are identified with each activity which is acting as a cost driver i.e. the the cause for incurrence of overhead cost. Such cost drivers may be purchase orders issued, quality inspections, maintanance requests, material receipts, inventory movements, power consumed, machine time, etc. Having identified the overhead costs with each cost centre, cost per unit of cost driver can be ascertained. The overhead costs can be assigned to jobs on the basis of number of activities required for their completion.  This is generally used as a tool for understanding product and customer cost and profitability. As such, ABC has predominately been used to support strategic decisions such as pricing, outsourcing and identification and measurement of process improvement initiatives.ABC principles are used:

1. to focus management attention on the total cost to produce a product or service, and
2. as the basis for full cost recovery. Support services are particularly suitable for activity-based resourcing because they produce identifiable and measurable units ofoutput.