Unit 1 : Introduction to Cost Accounting

What is cost ??
Cost is a measurement , in monetary terms of the amount of
resources used for purpose of production of goods or
rendering services. Manufacturing of goods or rendering
services involves consumption of resources. Cost is
measured by the sacrifice made in terms of resources or
price paid to acquire goods and services.

What is costing ??
Costing means the techniques and process of
ascertainment of costs

What is Cost Accounting ??

- Its a process of accounting of cost
- Which begins with recording of Income & Expenditure and
ends with periodical statements.
- Cost Accounting also involves application of costing
principles, methods, & techniques.

What is the Scope of Cost accounting ??

- a) Cost Ascertainment : The basic feature of any method
of cost accounting is to ascertain the cost of each unit, job,
process or department. It deals with not only the actual
costs incurred but also the predetermined costs.

The timely and reliable cost information about the cost of

output is to be ascertained appropriately by using various
methods of costing viz. job costing and process costing.
Such analytical information about the cost of products is
provided to the management which becomes the actual
basis of the various managerial decisions such as pricing,
planning and control.
- (b) Cost Control : .
The basic feature of any technique of cost accounting is to
utilise the detailed cost information to controlling the costs at
different stages by using different techniques of cost control
to keep the costs at the minimum possible extent to survive
in the competitive market.

Cost accounting ultimately aims at improving the overall

profitability by controlling the cost more strictly by using
various techniques like standard costing, budgetary control,
marginal costing etc.

- (c) Cost Presentation :

The data collected and re-classified systematically is
presented scientifically by the cost accounting department in
the form of cost statements and cost reports to the different
levels of management as and when it is required. The
analytical cost reports are basically used by the
management internally at various levels for performance
appraisal planning, control and decision-making functions

Functions of Cost Accounting :

(a) To ascertain cost of product or services rendered.
(b) To analyse the data and provide suitable information to
assist management in decision-making
(c) To provide information for planning and control through
the techniques of standard costing and budgetary control
(d) To indicate to the management any inefficiencies and
waste.
(e) To provide data for periodical Profit and Loss Accounts
and Balance
(f) To reveal sources of economies in production.
(g) To assist the management in fixation of selling price.
(h) To present comparative cost data for different periods.
(i) To provide the basis for production planning.
(j) To provide information to enable management to take
decisions.
Advantages and Limitations of Cost Accounting :

Advantages of Cost Accounting :

Advantages to the Management:

(a) It can decide production at optimum level, and utilise the
plan capacity to the maximum extent.
(b) It helps to fix and revise the product prices in a scientific
manner.
(c) It facilitates cost control and cost reduction.
(d) It reveals idle capacity,
(e) It helps to check the accuracy of financial accounts.
(f) It helps in proper valuation of inventory which is
necessary to ascertain the profit correctly

Advantages to the Owners :

(a) It helps owners to earn higher profits and improvement in
net worth.
(b) Higher profits enable the management to pay higher
dividend to the shareholders.

Advantages to the Workers :

(a) It helps management to fix proper remuneration to
workers.
(b) It helps management to evaluate worker's efficiency in a
scientific

Advantages to the Government :

(a) Government can get higher revenue due to increasing
taxes on production, sales and income.
(b) It helps Government to make sound business and
economic policies.

Limitations or Demerits of Cost Accounting

(a) Expensive :
Highly paid cost accountants and the organisation of costing
system involve additional expenditure. However, before
installing it, care must be taken to ensure that the benefits
derived out of it are more than the investment made on this
system of accounting

(b) More Complex :

Cost accounting system involves number of steps in
ascertaining cost such as collection and classification of
expenses, allocation and apportionment of expenses etc.

(c) Limited Applicability :

All business enterprises cannot make use of a single
method and technique of costing.
( It all depends upon the nature of the business and type of
product
manufactured by it.)

(d) Not Applicable to Small Concerns :

A cost accounting system is applicable only to a large sized
business and not suitable for small sized business as it is
more expensive.

Objectives of Cost Accounting:

(a) Ascertainment of Cost:
This is the primary objective of Cost Accounting.
For the purpose of ascertaining the cost of a product,
process or operation, it is necessary to record the expenses
incurred, classify them properly and then allocate or
apportion it amongst the respective products, processes or
departments for calculating total cost of each of these.

(b) Control of Cost :

Cost control aims at improving efficiency by controlling and
reducing cost.
Cost control is becoming more and more important tool
because of growing competition

(c) Determination of Selling Price : Cost accounting provides

information on the basis of which selling prices of products
or services may be fixed. Total cost of production constitutes
the basis on which selling price is fixed by adding a margin
of profit. Cost accounting furnishes both the total cost of
production as well as cost incurred at each and every stage
of production.

(d) To provide a Basis for Operating Policy:

Cost data to a great extent helps the management in
formulating the policies of a business and in decision-
making. Hence, availability of cost data is a must for all
levels of management.
Some of the decisions which are based on cost data are :
i) make or buy decision.
ii) manufacturing by mechanism s
iii) whether to close or continue operations
iv) selling below cost decision.
v) introduction of new products etc.

(e) Frequent Preparation of Accounts and Other Reports:

Every concern relies upon the reports on cost data to know
the level of efficiency regarding purchase, production, sales
and operation results. Financial accounts provide
information only at the end of the year because value of
closing stock is available at the end of the year. Bot cost
accounts provide the value of closing stock at frequent
intervals by adopting "continuous stock verification system.
Using the value of closing stock it is possible to prepare final
accounts and to know the operating results of the business.

(f) To provide Data for Cost Reduction :

For survival in the world of competition, it is necessary to
keep the prices of products or services as low as possible. It
is only possible when cost of production is less. So the
management has to make continuous efforts to reduce the
cost.

To provide data for cost reduction is one of the important

objectives of cost accounting.
It helps the management in finding out new and improved
methods to reduce costs.

Cost Centre :
According to ICMA, London, Cost Centre is defined as, "a
location, person or item of equipment (or group of these) for
which costs may be ascertained and used for the purpose of
control".
Thus, a Cost Centre is a part of the business to which costs
can be attributed or charged.

It may be a location (a department, sales area etc.), an item

of equipment (a delivery van, lathe machine etc.) or a
person (a machine operator, salesman etc.)

The finding out of a proper cost centre and analysis of costs

for each cost centre is necessary for cost comparison and
cost control.
• To find out the cost of each product or service, expenses
should be separated according to each cost centre.

• For each cost centre, one person is held responsible who

is supposed to control the cost of that particular cost centre.

Types of Cost Centre :

(a) Production Cost Centre :
It is a cost centre connected with production i.e. machine
shop, welding shop, assembly shop etc. The manufacturing
and non-manufacturing costs are charged to product cost
centres.

(b) Service Cost Centre:

A Service Cost Centre is one which provides services to the
other cost centres. Only non-manufacturing costs are
charged to service cost centre.
Examples of service cost centre are canteen, machinery,
maintenance department, office service etc.

(c) Personal Cost Centre:

Personal Cost Centre consists of a person or group of
persons. Personal Cost Centre follows the organisational
structure of a factory
Under this type of cost centre, costs are analysed and
accumulated by works manager, sales manager, store-
keeper, foreman
(d) Impersonal Cost Centre
It consists of a location or item of equipment. A cost centre
relating to location may represent a region of sales, a
warehouse, or storeroom. Cost centre relating to an item of
equipment should be a machine or group of machine.
(e) Operation Cost Centre:
It is a cost centre which consists of machines/persons
carrying out similar operations

(t) Process Cost Centre:

It is a cost centre which consists of a specific process

Factors Affecting Cost Centre: (a) The volume of work to be

performed
(b) The extent of cost control that can be exercised.
(c) Responsibilities to be identified.
(d) The use of cost centres to the cost accounting
department.

Cost Unit :
Cost unit is a quantitative unit of product or service or time
in relation to which costs are ascertained or expressed.

The unit selected should be the most natural to the business

and accepted to all concerned. Therefore, utmost care
should be taken while selecting cost units.
Costing means measuring the costs in relation to a unit
Eg. In cement factory , the cost per tonne is found out. In a
cloth mill, the cost per meter is ascertained in case of
machine, the cost per machine hour is found out etc.
Thus here, tonne, metre and machine hour become the cost
units. Hence, we can say that a cost unit is nothing but a
unit of measurement of cost.

Units of Cost in Various Industries :

Each industry has a different cost unit, some of which are
given below: