OPERATIONAL

COSTING

&
OPERATING
COST
1

COST ACCOUNTING
Cost accounting is a process of collecting, analyzing, summarizing and
evaluating various alternative courses of action. Its goal is to advise the
management on the most appropriate course of action based on the 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 for a particular
environment. Cost accounting information is commonly used in financial
accounting information, but first we are concentrating on its use by managers to
make decisions.
Unlike the accounting systems that help in the preparation of financial
reports periodically, the cost accounting systems and reports are not subject to
rules and standards like the Generally Accepted Accounting Principles. As a
result, there is wide variety in the cost accounting systems of the different
companies and sometimes even in different parts of the same company or
organization.

Origins
All types of businesses, whether service, manufacturing or trading, require cost
accounting to track their activities. Cost accounting has long been used to help
managers understand the costs of running a business. Modern cost accounting
originated during the industrial revolution, when the complexities of running a
large scale business led to the development of systems for recording and
tracking costs to help business owners and managers make decisions.
In the early industrial age, most of the costs incurred by a business were what
modern accountants call "variable costs" because they varied directly with the
amount of production. Money was spent on labor, raw materials, power to run a
factory, etc. in direct proportion to production. Managers could simply total the
variable costs for a product and use this as a rough guide for decision-making
processes.
Some costs tend to remain the same even during busy periods, unlike variable
costs, which rise and fall with volume of work. Over time, these "fixed costs"
have become more important to managers. Examples of fixed costs include the
depreciation of plant and equipment, and the cost of departments such as
maintenance, tooling, production control, purchasing, quality control, storage
and handling, plant supervision and engineering. In the early nineteenth century,
these costs were of little importance to most businesses. However, with the
growth of railroads, steel and large scale manufacturing, by the late nineteenth
century these costs were often more important than the variable cost of a
product, and allocating them to a broad range of products lead to bad decision
making. Managers must understand fixed costs in order to make decisions about
products and pricing.

For example: A company produced railway coaches and had only one product.
To make each coach, the company needed to purchase $60 of raw materials and
components, and pay 6 laborers $40 each. Therefore, total variable cost for each
coach was $300. Knowing that making a coach required spending $300,
managers knew they couldn't sell below that price without losing money on
each coach. Any price above $300 became a contribution to the fixed costs of
the company. If the fixed costs were, say, $1000 per month for rent, insurance
and owner's salary, the company could therefore sell 5 coaches per month for a
total of $3000 (priced at $600 each), or 10 coaches for a total of $4500 (priced
at $450 each), and make a profit of $500 in both cases.

Types of cost accounting:The Following are different Cost Accounting Approaches:

Standardized or standard cost accounting

Lean accounting

Activity-based costing

Resource consumption accounting

Throughput accounting

Life cycle costing

Environmental accounting

Target costing

Elements of cost
Basic cost elements are:

Raw materials

Labor

Indirect expenses/overhead

Material (Material is a very important part of business)

Direct material/Indirect material

Labor

Direct labor/Indirect labor

Overhead (Variable/Fixed)

Production or works overheads

Administration overheads

Selling overheads

Distribution overheads

Maintenance & Repair

Supplies

Utilities

Other Variable Expenses

Salaries

Occupancy (Rent)

Depreciation

Other Fixed Expenses

(In some companies, machine cost is segregated from overhead and reported as
a separate element)

Classification of costs
Classification of cost means, the grouping of costs according to their common
characteristics. The important ways of classification of costs are:
1.

By Element: There are three elements of costing i.e. material, labor and
expenses.

2.

By Nature or Traceability: Direct Costs and Indirect Costs. Direct Costs

are directly attributable/traceable to Cost Object. Direct costs are assigned
to Cost Object. Indirect Costs are not directly attributable / traceable to
Cost Object. Indirect costs are allocated or apportioned to cost objects.

3.

By Functions: production, administration, selling and distribution, R&D.

4.

By Behavior: fixed, variable, semi-variable. Costs are classified

according to their behavior in relation to change in relation to production
volume within given period of time. Fixed Costs remain fixed irrespective
of changes in the production volume in given period of time. Variable costs
change according to volume of production. Semi-variable Costs costs are
partly fixed and partly variable.

5.

By control ability: controllable, uncontrollable costs. Controllable costs

are those which can be controlled or influenced by a conscious
management action. Uncontrollable costs cannot be controlled or
influenced by a conscious management action.
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6.

By normality: normal costs and abnormal costs. Normal costs arise during
routine day-to-day business operations. Abnormal costs arise because of
any abnormal activity or event not part of routine business operations. E.g.
costs arising of floods, riots, accidents etc.

7.

By Time: Historical Costs and Predetermined costs. Historical costs re

costs incurred in the past. Predetermined costs are computed in advance on
basis of factors affecting cost elements. Example: Standard Costs.

8.

By Decision making Costs: These costs are used for managerial decision
making.
Marginal Costs: Marginal cost is the change in the aggregate costs due to
change in the volume of output by one unit.
Differential Costs: This cost is the difference in total cost that will arise
from the selection of one alternative to the other.
Opportunity Costs: It is the value of benefit sacrificed in favor of an
alternative course of action.
Relevant Cost: The relevant cost is a cost which is relevant in various
decisions of management.
Replacement Cost: This cost is the cost at which existing items of
material or fixed assets can be replaced. Thus this is the cost of
replacing existing assets at present or at a future date.

 Shutdown Cost: These costs are the costs which are incurred if the
operations are shut down and they will disappear if the operations are
continued.
Capacity Cost: These costs are normally fixed costs. The cost incurred by
a company for providing production, administration and selling and
distribution capabilities in order to perform various functions.
Other Costs

Standard cost accounting

In modern cost account of recording historical costs was taken further, by

allocating the company's fixed costs over a given period of time to the items
produced during that period, and recording the result as the total cost of
production. This allowed the full cost of products that were not sold in the
period they were produced to be recorded in inventory using a variety of
complex accounting methods, which was consistent with the principles
of GAAP (Generally Accepted Accounting Principles). It also essentially
enabled managers to ignore the fixed costs, and look at the results of each
period in relation to the "standard cost" for any given product.
For example: if the railway coach company normally produced 40 coaches per
month, and the fixed costs were still $1000/month, then each coach could be
said to incur an Operating Cost/overhead of $25 =($1000 / 40). Adding this to
the variable costs of $300 per coach produced a full cost of $325 per coach.
This method tended to slightly distort the resulting unit cost, but in massproduction industries that made one product line, and where the fixed costs were
relatively low, the distortion was very minor.
For example: if the railway coach company made 100 coaches one month, then
the unit cost would become $310 per coach ($300 + ($1000 / 100)). If the next

month the company made 50 coaches, then the unit cost = $320 per coach ($300
+ ($1000 / 50)), a relatively minor difference.
An important part of standard cost accounting is a variance analysis, which
breaks down the variation between actual cost and standard costs into various
components (volume variation, material cost variation, labor cost variation, etc.)
so managers can understand why costs were different from what was
planned and take appropriate action to correct the situation.
Marginal costing
The cost-volume-profit analysis is the systematic examination of the
relationship between selling prices, sales, production volumes, costs, expenses
and profits. This analysis provides very useful information for decision-making
in the management of a company. For example, the analysis can be used in
establishing sales prices, in the product mix selection to sell, in the decision to
choose marketing strategies, and in the analysis of the impact on profits by
changes in costs. In the current environment of business, a business
administration must act and take decisions in a fast and accurate manner. As a
result, the importance of cost-volume-profit is still increasing as time passes.

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CONTRIBUTION MARGIN
A relationship between the cost, volume and profit is the contribution margin.
The contribution margin is the revenue excess from sales over variable costs.
The concept of contribution margin is particularly useful in the planning of
business because it gives an insight into the potential profits that can generate a
business. The following chart shows the income statement of a company X,
which has been prepared to show its contribution margin:

Sales

$1,000,000

(-) Variable Costs

$600,000

Contribution Margin

$400,000

(-) Fixed Costs

$300,000

Income from Operations

$100,000

CONTRIBUTION MARGIN RATIO

The margin contribution can also be expressed as a percentage. The contribution
margin ratio, which is sometimes called the profit-volume ratio, indicates the
percentage of each sales dollar available to cover fixed costs and to provide
operating revenue. For the company Fusion, Inc. the contribution margin ratio is
40%, which is computed as follows:

The contribution margin ratio measures the effect on operating income of an

increase or a decrease in sales volume. For example, assume that the
management of Fusion, Inc. is studying the effect of adding $80,000 in sales
orders. Multiplying the contribution margin ratio (40%) by the change in sales

11

volume ($80,000) indicates that operating income will increase $32,000 if

additional orders are obtained. To validate this analysis the table below shows
the income statement of the company including additional orders:

Sales

$1,080,000

(-) Variable Costs

$648,000 (1,080,000 x 60%)

Contribution Margin

$432,000 (1,080,000 x 40%)

(-) Fixed Costs

$300,000

Income from Operations

$132,000

Variable costs as a percentage of sales are equal to 100% minus the contribution
margin ratio. Thus, in the above income statement, the variable costs are 60%
(100% - 40%) of sales, or $648,000 ($1'080,000 X 60%). The total contribution
margin $432,000, can also be computed directly by multiplying the sales by the
contribution margin ratio ($1'080,000 X 40%).

TYPE OF COST:

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Up-front costs comprise the initial investments and expenses necessary to

implement MSW services. These include public education and outreach, land
acquisition, permitting, and building construction or modification.
Operating costs are the expenses of managing MSW on a daily basis, including
operations and maintenance, capital costs, debt service, and any unexpected
costs.
Back-end costs include expenditures to properly wrap up operations and take
proper care of landfills and other MSW facilities at the end of their useful lives.
Costs include site closure, building/equipment decommissioning, post closure
care, and retirement/health benefits for current employees.
Remediation costs at inactive sites include investigation, containment, and
cleanup of known releases and closure and post closure care at inactive sites.
Many local governments have inactive MSW landfills that require "corrective
action" for known contamination of ground water, soil, or surface water. These
remediation costs can be relatively well estimated, though with somewhat more
uncertainty than other types of engineering projects such as road building.
Including these costs in FCA is a matter of choice. The decision to include
remediation costs depends on the intended use of the FCA information. For
example, if you are using FCA to document the revenue needs of an MSW
program, you might want to include costs entailed by inactive sites. However, if
you intend to use FCA to reveal the current economics (e.g., cost per ton) of
current MSW management or compare your performance to other communities
or state benchmarks, you might want to exclude inactive sites from such
calculations.

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Contingent costs are costs that might or might not be incurred at some point in
the future. Examples include the costs of remediating unknown or future
releases of pollutants, such as leaks from currently operating municipal landfills.
Contingent costs also include the liability costs of compensating for
undiscovered or future damage to property or persons adversely affected by
MSW services. Both of these types of contingent costs can be projected, but not
very precisely. (In contrast, where there is a known need to remediate, costs can
be projected much more precisely.)
Environmental costs are the costs of environmental degradation that cannot be
easily measured or remedied, are difficult to value, and are not subject to legal
liability. To truly capture all of the important life-cycle cost elements, some
people advocate assessing the upstream and downstream environmental costs of
resource use, pollution, and waste generated by providing goods and services.
Social costs are adverse impacts on human beings, their property and welfare
that cannot be compensated through the legal system. Social costs (also termed
"social externalities") might include the impacts of MSW transport on
neighborhoods along the routes taken, as well as the impacts of MSW facilities
themselves. Adverse effects on property values, community image, and
aesthetics, as well as the increase of noise, odor, and traffic all contribute to
social costs.

Operation Cost

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Operating costs are the expenses which are related to the operation of a
business, or to the operation of a device, component, piece of equipment or
facility. They are the cost of resources used by an organization just to maintain
its existence.
1)

Business operating costs

2)

Business overhead costs

3)

Equipment operating costs

For a commercial enterprise, operating costs fall into two broad categories:
Fixed costs, which are the same whether the operation is closed or running at
100% capacity. Fixed Costs include items such as the rent of the building. These
generally have to be paid regardless of what state the business is in.
variable costs, which may increase depending on whether more production is
done, and how it is done (producing 100 items of product might require 10 days
of normal time or take 7 days if overtime is used. It may be more or less
expensive to use overtime production depending on whether faster production
means the product can be more profitable). Variable Costs include indirect
overhead costs such as Cell Phone Services, Computer Supplies, Credit Card
Processing, Electrical use, Express Mail, Janitorial Supplies, MRO, Office
Products, Payroll Services, Telecom, Uniforms, Utilities, or Waste Disposal etc.
Business overhead costs
Overhead costs for a business are the cost of resources used by an organization
just to maintain its existence. Overhead costs are usually measured in monetary
terms, but non-monetary overhead is possible in the form of time required to
accomplish tasks.
Examples of overhead costs include:

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Payment of rent on the office space a business occupies cost of electricity for
the office lights some office personnel wages. Non-overhead costs are
incremental costs, such as the cost of raw materials used in the goods a business
sells.
Operating Cost is calculated by Cost of goods sold - Operating Expenses.
Operating Expenses consist of:

Administrative and office expenses like rent, salaries, to staff, insurance,

directors fees etc. Selling and distribution expenses like advertisement, salaries
of salesmen. It includes all operating cost such as salary, rent, stationery,
furniture etc.
Equipment operating costs
In the case of a device, component, piece of equipment or facility (for the rest of
this article, all of these items will be referred to in general as equipment), it is
the regular, usual and customary recurring costs of operating the equipment.
This does not include the capital cost of constructing or purchasing the
equipment (depending on whether it is made by the owner or was purchased as a
constructed system).
Operating costs are incurred by all equipment unless the equipment has no
cost to operate, requires no personnel or space and never wears out (any
examples? perhaps intangibles, though not equipment, per se). In some cases,
equipment may appear to have low or no operating cost because either the cost
is not recognized or is being absorbed in whole or part by the cost of something
else.
Equipment operating costs may include:

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Salaries or Wages of personnel

Advertising
Raw materials
License or equivalent fees (such as Corporation yearly registration fees)

imposed by a government
Real estate expenses, including
Rent or Lease payments
Office space rent
furniture and equipment
Investment value of the funds used to purchase the land, if it is
owned instead of rented or leased
Property taxes and equivalent assessments
Operations taxes, such as fees assessed on transportation carriers for

use of highways
Fuel costs such as power for operations, fuel for production
Public Utilities such as telephone service, Internet connectivity, etc.
Maintenance of equipment
Office supplies and consumables
Insurance premium

Depreciation of equipment and eventual replacement costs (unless the facility

has no moving parts it probably will wear out eventually). Damage due to
uninsured losses, accident, sabotage, negligence, terrorism, routine wear and
tear
Taxes on production or operation (such as subsidence fees imposed on oil wells)
Income taxes
Some of these are not applicable in all instances. For example,

A solar panel placed on one's home for use in generating electric power
generally has only capital costs; once it's running there are no personnel costs,
utility costs or depreciation and it uses no extra land (that wasn't already part of

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the place where it is located) so it has no real operating costs; however there
may need to be taken into account costs of replacement if damaged.
An automobile or any other item purchased for personal use has no salary cost
because the owner does not charge themselves for operating the device.
An item which is leased may have some or all of these costs included as part of
the purchase price.
It might be questionable to assert that the cost of ten extra people on the sales
force are an incremental cost or an overhead cost, since the wages for these
people are both overhead and incremental. The staff needed to keep the shop
operational is mostly considered overhead.
formula for operating cost = total cost* number of weeks

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Operating cost

Operating costs are costs that are incurred on a day-to-day basis related to the
business operations. It can also be related to the operation of a device,
component, and piece of equipment or facility. Operating costs are also known
as operating expenses. For example sales and administration costs are
operating costs. Operating costs are referred to as cost per unit of a product or
service, or the annual cost incurred on a continuous process. The operating costs
are those that do not include capital outlays or the costs incurred in design and
implementation phases of a new process.

Operating

costs

are

divided

into

two

categories.

They

are fixed

costs and variable costs. Fixed costs are those which are fixed and do not vary
with the changes in the level of output. They do not change whether the business
is inactive or operating at full capacity. Variable costs are those costs which
vary with the changes in the level of output. Flexible expenditures are also
known as the variable operating costs. The expenses fluctuate on the basis of a
variety of factors.

Operating expenses differ in every country. The actual expenses vary in every
location. The calculation of operating costs is essential for sound business
planning. These costs should be properly budgeted; otherwise it will adversely
affect the business. The lack of planning in a business increases the risk that a
business will not maintain adequate funds to operate properly. When the
operating costs are fixed, the likely business interruptions or economic
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declines should be taken into consideration. The business generally cannot be

deferred until a business finds it convenient to pay them. Fixed operating costs
are set on a payment schedule and need to be paid accordingly for the company
to maintain good credit.
Operation costing is an accounting method used to allocate costs of similar
products that are manufactured in batches. It combines two other popular
costing methods to get a more accurate picture of how a particular company's
manufacturing process works. It simplifies the accounting process by only
differentiating activities that cause a variation in cost between products. Similar
items are allocated in batches that reflect the actual cost involved in creating
that group. Here is a basic guide to the operation costing accounting method.
Operation costing: How it works
Operation costing is a combination of process costing and job-order costing.
Process costing is an accounting method used for the creation of identical
products. The costs are allocated to all products in a batch equally because they
are all identical. Job-order costing is better suited for products that are different
from each other. The products are separated into batches. The costs of each
batch tracked separately and allocated only to the products contained in that
batch.
Operation costing: What products are suitable?
Operation costing works for products that have some similarities, but can still be
separated out into batches. Some common products that use operation costing
are electronic equipment or cosmetics. The manufacturing process is similar for
all of the individual products, but there may be different costs involved. Using

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computer monitors as an example, each size of monitor may use the same
manufacturing process, but will incur different levels of materials cost. The
labor costs could then be allocated using a process costing system while the
materials costs are allocated with a job-order costing system to account for the
different sizes.
Operation costing: Procedures vary by company
Each company has its own specific operation costing procedures, but most of
them will resemble both process costing and job-order costing. Direct materials
costs are usually booked into work-in-process accounts in batches the way they
would be under a job-order system. Most operation costing systems require the
use of several work-in-process accounts to keep the batches separate.
Conversion and labor costs are tracked in a lump sum that is later spread to all
units produced during the accounting period.
Operation costing: How to determine the batches
The variation between products can be large or small, as long as it can be
differentiated from another group of products. When deciding how to group
products for operation costing, the difference in cost is the most important
consideration. One product may have more features than another, but that only
matters if it costs significantly more to produce that item. Each company must
tailor its operating costing system to their specific products.

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FEATURES OF OPERATING COSTING

The main features of operating costing are as following:
(1)

The undertaking which adopts service costing does not produce any
tangible goods. These undertakings render unique services to their
customers.

(2)

The expenses are divided into fixed and variable cost. Such a
classification is necessary to ascertain the cost of service and the unit cost
of service.

(3)

The cost unit may be simple or composite. The examples of simple cost
units are cost per unit in electricity supply, cost per liter in water supply,
cost per meal in canteen etc. Similarly cost per passenger kilometers in
transport cost per patient-day in hospital, cost per room-day in hotel etc.
are the examples of composite cost unit.

(4)

Total cost are averaged over the total amount of service rendered.

(5)

Costs are usually computed period-wise. However, in the case of

utilization of vehicles, use of road-rollers etc., the costs are computed
order wise.

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(6)

Service costing can be used for service performed internally or externally.

(7)

Documents like the daily log sheet, cost sheet etc. are used for
the collection of cost data.

Operating (cost) characteristics

In some cases, the supplier and customer may wish to come to an agreement
about how the risks of incorrect decisions might be shared between them by
examining the respective levels of risk in the first case, in percent risk terms,
but also in economic terms.
Operating characteristic (power) curves

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Operating characteristic

Classical statistical hypothesis testing [Montgomery 1996] uses percent risk

tools such as the so-called operating characteristic or power curve. This is
obtained by calculating the risk of incorrect decisions associated with either
measurement uncertainty or entity dispersion in terms of the area of the
probability distribution function extending beyond the specification limit, for
instance, in the case of consumer risk, the tail (figure (a)) above the upper
specification limit. This risk is calculated as the location of the uncertainty
interval of fixed width is swept across the specification limit, USL, of
interest, as illustrated.
Customer and supplier can use such curves to agree on:
A maximum level, , of consumer risk say, 10% where the
uncertainty interval is located at the value LQL (limiting quality level) of
the quality characteristic. Characteristic entity values further away from

24

(below) the (upper) specification limit, will have probabilities of incorrectly accepting a non-conforming entity less than .
A minimum level, , of supplier risk say, 95% where the uncertainty
interval is located at the value AQL (acceptable quality level) of the
quality characteristic. Characteristic entity values further away from
(above) the (upper) specification limit, will have probabilities of correctly
rejecting a non-conforming entity greater than .

25

Operating cost characteristic (power) curves

It may be more meaningful and easier to communicate between customer and
supplier in economic terms rather than just percentage terms. Additionally,
economics terms can capture additional impact factors, such as increasing costs
as product deviates increasingly from specification, as well as whether it is a
profit or loss in terms of the sign for either party.
Overall costs equation

In a new kind of plot [Pendrill 2008] the operating cost characteristic

overall costs, according to the above equation, can be plotted over:
(I) a range of quantity values of ym for a given test dispersion, , and guardband factor h yielding an operating cost characteristic analogous to the
traditional, probability-based operating characteristic.

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Cost operating characteristic in the case of a linear cost model.

Operating Costing In Different Undertakings:
Operating costing is similar to output costing. All costs are suitably classified
under fixed and variable. These costs are then collected, analyzed and
expressed in terms of an appropriate cost unit. The classification of costs into
fixed and variable is very important, as it draws managements attention to
the fixed costs to which they are committed regardless of the units of service
ultimately given. It also indicates the change in the cost structure due to
change in the operating level.
Transport Costing:
In transport undertakings most of the statistical data required for cost finding
and cost control purposes are obtained from Daily Log Report.
All repairing and maintenance work are recorded on repair tickets and are then
costed. In order to prepare a Transport Cost Sheet for a transport undertaking
the costs may be subdivided as under:a)

Wages and running costs: - These include cost of petrol, oil, grease,
wages of assistants and drivers, etc.

b)

Maintenance charges: - These include repairs and overhauling of

vehicles, garage charges, tyres, etc.

c)

Fixed charges: - These fixed expenses include insurance, license,

depreciation, etc.

The statistical data regarding costs, maintenance and performance are helpful
in preparing a performance in respect of each vehicle.

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In order to compare the operating efficiency for each period, the total costs
thus arrived at are divided by the bases such as number of hours or days,
number of kilometers run, number of commercial ton-kilometers, etc. Costs
per unit thus obtained are compared with the past result. A monthly Vehicle
Cost Sheet and Performance Statement are generally used in many transport
undertakings.
Cost control is always possible by means of comparison of actual performance
with the budgeted performance. Various control measures, viz., securing the
optimum use of vehicles, regular maintenance as a planned operation,
avoidance of loading and unloading delays prevention of overlapping and
duplicated journeys, planned replacement of vehicles, etc., may be instituted.
Where transport department is treated as service department all costs are
collected and apportioned to other departments on the basis of commercial
ton-kms. The haulage of incoming material might be charged as an addition to
cost of raw material, and the haulage of fabricated goods to customers
becomes a part of distribution overhead.
Generally, commercial ton-km, is obtained by multiplying the total tonnage
carried by the kilometers traveled and dividing the product by two. This is
done where the vehicles return empty as is found in most cases.

ILLUSTRATION 1:
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Adhunik Transport Organization Limited

The visit was made to Adhunik Transport Organization Limited. The company
was established in the year 1988 as an organization. In 1991, it got the status
of a limited company after reaching the minimum turnover level. The
company currently has a turnover of approximately Rs. 10 Crores. The
company is a member of Bombay Goods Transport Association (BGTA) AND
Indian Bank Association (IBA), which is very essential for the smooth conduct
of their business activities. BGTA checks all business malpractices and IBA is
needed for regulating payments within different states. The company has its 17
branches all over the country, along with 3 agencies in certain remote areas.
The company also provides warehousing facilities to companies like PhilipsIndia and Colgate. The company is involved in delivery of goods all over the
country.
Number of vehicles:
The company has owned as well as dedicated trucks and trailers.
Owned Vehicles
8 HCVs- Heavy Commercial Vehicles 4 Trailers
Dedicated Vehicles 25 LCVs- Light Commercial Vehicles
Dedicated Vehicles are delivery trucks, which are made according to certain
specifications, operated under the name of another company for which they
give a minimum amount of business and certain running costs are borne by
that company.

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The company has its LCVs dedicated to ELBEE Delivery Services. They are
used for delivering goods given by ELBEE. The driver charges and
maintenance charges are borne by Adhunik Transport. Other expenses are
borne by Elbee. The advantage to Elbee is that its capital is not blocked. The
advantage to the company is that it does not have to look for customers and
keeps getting a minimum amount of business.
No. of Employees:
The company has on an average 8 office staff members per branch. There are
30 staff members in the head office in Mumbai. The salaries of these
employees vary from Rs. 2,000- Rs. 10,000 depending upon the nature of the
job they do.
Measurement of Materials is done in tons.
COSTS:
FIXED COSTS
Salaries

54,00,000

Insurance

8,00,000

Transport Permits (Every 5 yrs)

1,00,000

Administrative Overheads

2,11,00,000

Taxes
Depreciation

30,00,000

Interests

34,00,000

TOTAL

3,38,00,000

VARIABLE COSTS
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Maintenance (Per Vehicle)

HCV

10,000

LCV

6,000

TRAILERS

15,000

Wages
Drivers

2,000

Cleaners

1,200

Transit Expenses

500-1,500

TOTAL

35,000
Approx

Notes:
There are 2 drivers and 1 cleaner for every long journey. In

case

of

short journeys, there is only 1 driver and 1 cleaner. The maximum

distance covered in a day is 300kms. The average distance covered 225280kms.
THE CUSTOMERS ARE CHARGED:
Rs. 1.20 PER KM PER TON (For HVC)
Rs. 1.00 PER KM PER TON (For LVC)
The Profit-Margin is between 10%-20%

IILUSTRATION 2:
Costing Club Transport Limited is running 4 buses between two towns,
which

are

180 kilometers apart. Seating

capacity of

each

bus

is

45 passengers. The following particulars are obtained from their books for

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January 2013.
Particulars
Wage of drivers, conductors and cleaners
Salaries
Diesel
Repairs and Maintenance
Taxation and Insurance
Depreciation
Interest
Total

Amount (Rs.)
5,20,000
1,50,000
6,30,000
1,20,000
2,20,000
3,20,000
3,00,000
22,60,000

Passenger carried were 75% of seating capacity. All buses ran on all day of the
month. Each bus made one round trip per day. Find out the cost per passenger
kilometer.
Solution:
Costing Club Transport Limited
January 2012
Vehicle No. xxxxxxx
Registration No. xxxxxxxx operated: 31 days

Particulars
A) Standing Charges/Fixed charges

Amount (Rs.)

Wages of drivers, conductors and cleaners

5,20,000

Salaries

1,50,000

Taxation and Insurance

2,20,000

Interest

3,00,000

Depreciation

3,20,000

Amount (Rs.)

15,10,000

Total
32

B)Running Charges/Variable Expenses

Petrol/Diesel

6,30,000

Total
C)Maintenance Charge/Semi- Variable
Repairs & Maintenance
Total
D) Total Cost
E) Total passenger kilometer ( shown below)
F) Cost per ton kilometer/passenger kilometer

6,30,000
1,20,000
(A+B+C)

1,20,000
22,60,000
4,46,400
5.062

=22,60,000/4,46,400
Passenger kilometers are computed as shown below:
Number of buses X Distance in one round trip X Seating Capacity
X Percentage of Seating Capacity actually used X Number of days in a
month
= 4 buses X 50 kilometer X 2 X 45 passengers X 80% X 31 days = 4,46,400

OVERVIEW
OPERATING COSTING
INTRODUCT The method of costing used in service rendering undertakings is
ION

known as operating costing.

This method of costing is generally made use of by transport
companies, gas and water works departments, electricity supply
companies, canteens, hospitals, theatres, schools etc.

33

OPERATING Preparation of Cost Sheet under Operating Costing: For preparing

COST

a cost sheet under operating cost, costs are usually accumulated for a

SHEET

specified period viz., a month, a quarter, or a year etc.

All of the accumulated costs should be classified under the
following three heads:
1. Fixed costs or standing charges,
2. Variable costs or running charges, ( Fuel, Driver Wages,
Depreciation, oil etc.)
3. Semi-variable costs or maintenance costs. (Supervision
salary, Repairs and Maintenance)
Note : In the absence of information about semi -variable costs,
the costs may be shown under two heads only, i.e., fixed and
variable.
Under operating costing, the per unit cost of service may be
calculated by dividing the total cost for the period by the total
units of service in the period.

34

Particulars

Total

Cost

cost

per

A Standing
charges :License

fees

Insurance

Premium Road tax

Garage rent
Drivers wages
Total
B Running
charges :Repairs and maintenance
Cost of fuel (diesel, petrol etc.)
Lubricants, grease and oil
Cost of tires, tubes and other
Total
C Total charges [ (A) + (B) ]
CHART SHOWING COST UNITS
COST UNITS
FOR VARIOUS
ENTERPRISES

No. Enterprise

Cost per unit

1.

Railways

or

bus Per passenger-kilometer

2.

companies
Hospital

Per

3.

Canteen

bed/dayserved , cups of
Meals

4.

Water supply service

tea 1000 gallons

Per

patient/day,

per

35

5.

Boiler House

1000 kg of steam

6.

Goods Transport

Per tonne km, quintal

7.

Electricity Boards

km
Per kilowatt hours

8.

Road

9.

department
Bricks

maintenance Per

10. Hotel

mile

or

road

maintenance
One
thousand
Per room/day

BASIC

1. Absolute (weighted average) tonnes-kms:

FORMULAS

Absolute tonnes-kms., are the sum total of tonnes-kms.,

arrived at by multiplying various distances by respective load
quantities carried.
Absolute Tonne Km =

Dist1 x Qty1 + Dist2 x Qty2

36

2. Commercial (simple average) tonnes-kms :

Commercial tonnes-kms., are arrived at by multiplying total distance
kms.,
by average load quantity.
Commercial Tonne Km =

Total Dist x Average Qty

EXAMPLE
A lorry starts with a load of 20 tonnes of goods from station A. It
unloads 8 tonnes at station B and rest of goods at station C. It reaches
back directly to station A after getting reloaded with 16 tonnes of
goods at station C. The distance between A to B, B to C and then
from C to A are 80 kms., 120 kms., and 160 kms., respectively.
Compute Absolute tonnes-kms, and Commercial tonnes-kms.
Solution
Absolute tonnes-kms. = 20 tonnes 80 kms + 12 tonnes 120 kms
+ 16 tonnes 160 kms. = 5,600 tonnes-kms.
Commercial tonnes-kms. = Average load total kilometres travelled
16 tonnes( i.e. (20+12+16)/3 ) 360 kms. = 5,760 tonnes-kms.

37

IMPORTANT

Question 1:

QUESTIONS

The more the kilometre you travel with your own vehicle the

FOR THEORY

cheaper it becomes. Comment briefly on the statement.

Solution:
The given statement is based on the fact that when we travel more,
the costs which are fixed in nature or do not vary with output
remain same. As we all are aware of the fact that all the costs can
be classified as fixed and variable in nature. In the above case, the
costs relating to cost of vehicle (i.e. depreciation), wages of driver
etc. are fixed costs and on the other hand, fuel expenses, repairs
and maintenance etc. are variable. As we travel more and more,
there is a proportionate rise in variable costs and fixed costs remain
the same. Thus, when we compute the cost per kil ometre, i t kee ps
on decli ni ng for more kil ometres and Hence, the travelli ng
becomes cheaper.
Question 2:
Write a short note on operating costing?
Solution:
Operating Costing - The method of costing used in service
rendering undertakings is known as operating costing.
This method of costing is generally made use of by transport
companies, gas and water works departments, electricity supply
companies, canteens, hospitals, theatres, schools etc.

TREATMENT

Depreciation - Depreciation if related to effluxion of time,

OF

may be treated as fixed. If it is related to the activity level, it

SPECIAL

SOME

may be treated as variable.

ITEMS
Interest - If information about interest is explicitly given, it
may be treated as fixed cost.
38

REVSION

The Union Transport Company has been given a twenty

ILLUSTRATIO

kilometer long route to ply a bus. The bus costs the company `

1,00,000. It has been insured at 3% per annum. The annual road

tax amounts to ` 2,000. Garage rent is ` 400 per month. Annual
repair is estimated to cost ` 2,360 and the bus is likely to last for
five year. The salaries of the driver and the conductor are ` 600
and ` 200 per month respectively in addition to 10% of the
takings as commission to be shared equally by them.
The managers salary is ` 1,400 per month and stationery will
cost ` 100per month. Petrol and oil will cost ` 50 per 100
kilometers. The bus willmake three round trips per day carrying
on an average 40 passengers in each trip. Assuming 15% profit
on takings and that the bus will ply on an average 25 days in a
month, prepare operating cost statement on a full year basis and
also calculate the bus fare to be charged from each passenger per
kilometer.
Solution
Union Transport Company Statement showing operating cost
of the bus per annum:
A Standing Charges:
Managers salary (` 1,400 * 12) = 16,800
Drivers salary (` 600 * 12) = 7,200
Conductors salary (` 200 * 12) = 2,400
Calculation of bus fare to be
charged:

Effective

passenger kilometers:

39

(2 * 20 km * 3 trips * 40 passengers * 25 days * 12 months)

= 14,40,000.
Rate to be charged per km. from each passenger:
= ` 1,03,680 /14,40,000 = ` 0.072.

40