INTRODUCTION TO COST ACCOUNTING

Meaning :
Cost Accounting : Cost accounting, as a tool of management, provides
management with detailed records of the costs relating to products,
operations or functions.

It refers to the process of determining and accumulating the cost of some

particular product or activity. It also covers classification, analysis and
interpretation of costs.

Definition :

The Institute of Cost and Management Accountants (ICMA), London, defines

cost accounting as “ the process of accounting for cost from the point at
which expenditure is incurred or committed to the establishment of its
ultimate relationship with cost centres and cost units. In its widest usage it
embraces the preparation of statistical data, the application of cost control
methods and ascertainment of the profitability of activities carried out or
planned”.

Meaning :
Costing: Cost Accounting and Costing have distinctly different meanings.
The Institute of Cost and Management Accountants, London has defined
costing as the ascertainment of costs.

Costing includes the ‘techniques’ and ‘processes’ of ascertaining costs.

OBJECTIVES OF COST ACCOUNTING

 1. To determine product costs.
2. To facilitate planning and control of regular business activities.
3. To supply information for short and long- run decisions.

ADVANTAGES OF COST ACCOUNTING

1. The cost accounting system provides data about profitable and
unprofitable products and activities.
After investigating the causes of low profitability and unprofitability,
management can take suitable corrective measures which may lead to
higher profit.
2. All items of costs can be analysed to minimise the losses and wastage
emerging from the manufacturing process and reduce the costs
associated with different activities.
3. Cost data can be obtained and compared with standard cost within
the firm or industry.
4. Cost accounting also provides cost data and information to determine
the price of the product. The cost of the product is perhaps the most
important determinant of product pricing.
5. Negotiations with government and labour unions can easily be made
with the information provided by the cost accounting system.
6. More accurate and reliable financial accounts can be prepared
promptly for use of management.

METHODS OF COSTING
Job Costing: It is used in those business concerns where production is
carried out as per specific order and customers specifications. Each job is
separate and distinct from the other jobs or products.

The method is popular in enterprise engaged in house- building, ship-

building, machinery production and repair.

It has the following variants :

(i) Batch Costing: This method is used to determine the cost of a

group of identical or similar products. The batch consisting of
similar products is the unit and not the single item within the
batch.
This method can be usefully applied for the production of nuts and
bolts, medicines, components and other item which are
manufactured in distinct batches.
 (ii) Contract or Terminal Costing: This method of costing, based on
the principle of job costing is used by house builders and civil
contractors. The contract becomes the cost unit for which relevant
costs are accumulated.
(iii) Multiple or Composite costing: This costing method is used in
those industries where the nature of the product is complex, such
as motor cars, aeroplanes, etc. In such cases costs are
accumulated for different component making final product and
then totalled to ascertain the total cost of the product.

PROCESS COSTING :

It has the following variants:

(i) Unit or single output costing:

This method is used where a single item is produced and the final
production is composed of homogeneous units. The per unit cost is
obtained by dividing the total cost by the total number of units
manufactured.
(ii) Operating (Service) Costing:
Operating costing method is used by those organisations which
render services and do not manufacture any physical item, such as
transport, power house, hospital. The cost units differ among these
service organisations depending upon the nature of service being
rendered. But usually the units are passenger- mile, tonne-mile, a
bed in hospital, per student in a college.
(iii) Operation Costing:
This costing method aims at ascertaining the costs of each
operation in place of each process. In this method the assumption
is that output is achieved through a number of different
operations.

Techniques of Costing:

1. Standard Costing
2. Budgetary Control
3. Marginal Costing
4. Total Absorption Costing
5. Uniform Costing

FEATURES OF COST ACCOUNTING

SYSTEM
 1. Basic for accumulating costs
2. Relationship with financial accounting
3. Basis of product costs
4. Full (absorption) costing or marginal (variable) costing

Difficulties in Installation of a Costing System

1. Opposition from the existing staff

2. Shortage of Trained Manpower

3.Error in Measuring Requirements

4.Non- cooperation from Management

Factors Influencing the Cost Accounting System

1. Size of the firm
2. Manufacturing process or methods
3. Nature and number of products
4. Management control needs
5. Raw materials
6. Staff efficiency
7. Comparability
8. Organisational structure
9. External factors

COST CENTRES
The ICMA, London defines cost centres as “ a location, person, or
item of equipment (or a group of these) for which costs may be
ascertained and used for the purposes of cost control.”

A cost centre is an organisational segment or area of activity

considered to accumulate costs.

TYPES OF CENTRES
1. Impersonal Cost Centre
2. Personal Cost Centre
 3. Operation Cost Centre
4. Process Cost Centre

COST:

It is the amount of expenditure, actual(incurred) or notional(attributable),

relating to a specific thing or activity. The specific thing or activity may be a
product, job ,service, process or any other activity.

COST CLASSIFICATION BY ELEMENT

DIRECT INDIRECT

Material Labour Expenses

Material Labour Expenses

Factory Overheads

COST CLASSIFICATION BY BEHAVIOUR

FIXED VARIABLE SEMI- VARIABLE

Cost Control V/s. Cost Reduction

Cost Control:

It involves the establishment of target performance, measuring actual

performance, comparing actual performance against target performance and
taking corrective action.

Cost Reduction’s:

It is the achievement of real and permanent reduction in the unit cost of

products manufactured or services rendered without impairing their
suitability for the use intended or diminution in the quality of the product.

Specimen of Cost Sheet

Cost Sheet for the Period………
Production…………..Units
Particular’s Total Cost Cost per unit
 (Rs.) (Rs.)
Direct Materials:
Opening Stock……
Purchases…..
Carriage Inwards…..
Less: Closing Stock…..
Less: Scrap
Direct material consumed
Direct Wages
Direct Expenses

= Prime Cost
Add : Factory Overheads:
Indirect Materials
Loose tools
Indirect wages
Rent & rates (factory)
Lighting & Heating (factory)
Power and fuel
Repairs and maintenance
Cleaning
Drawing office expenses
Cost of research and experiments
Depreciation of factory plant
Works stationery
Welfare service expenses
Insurance- Fixed assets etc.
- Stock and finished goods
Works manager’s salaries
Add: Work-in-progress(beginning)

Less: Work-in-progress(closing)

= Factory or Work’s Cost or Cost

of Production
Add: Office and Administrative
Overheads:
Rent and rates(office)
Salaries (office)
Lighting and Heating
Insurance of office building and equipments
etc.
Telephone and postages
Printing and stationery
Depreciation of furniture and office
equipments and buildings
Legal expenses
Audit fees
Bank Charges
Add: Finished goods(beginning)
Less: Finished goods(closing)

= Cost of goods sold

Add: Selling and Distribution Overheads:
Showroom rent and rates
Lighting and heating
Salesmen’s salaries
Commissions
Travelling expenses of salesmen
Sales printing and stationery
Advertising
Bad debts
Postage
Depreciation and expenses of delivery van
Debt collection expenses
Carriage freight outwards
Samples and other free gifts
= Cost of Sales
Net profit (or loss)

Sales

Problems:

1. During March 2011, Thakkar Ltd. had produced 5,000 units of motor
parts. The following cost was incurred on its production :-
 Direct Materials 120,000.00
Direct Labour 180,000.00
Factory Rent 30,000.00
Office Rent 20,000.00
Showroom Rent 40,000.00
Power 15,000.00
Light 6,000.00
Factory Expenses 8,000.00
Non-Productive Wages 50,000.00
Advertisement 50,000.00
Sales Commission 20,000.00
Bad Debts 9,000.00
Managers Salary (2/3 Factory & 1/3 Office)
rd rd
15,000.00
Interest on Capital 5,000.00
Estimating Expenses 500.00
Haulage 1,000.00
Office Salaries 40,000.00
Sales Salaries 60,000.00
Carriage Outward 10,000.00
Delivery Van Expenses 15,000.00
Depreciation on Plant 25,000.00
Crane Expenses 20,000.00
Depreciation on Office Equipment 5,000.00
Direct Factory Expenses 40,000.00
Counting House Salaries 6,000.00
Drawing Office Salaries 8,000.00
Gas & Water 3,000.00
Cash Discount Allowed 500.00
Loose Tools 400.00
Sales 850,000.00
Prepare a Cost Sheet giving all details regarding various components of
cost.

2. From the following information relating to the production of

commodity ‘X’, you are required to ascertain:
(a) Value of Material Used (b) Cost of Production (c) Cost of Sales

(d) Net Profit and (e) Profit per Ton of commodity.

 Purchases of Raw Materials 132,000.00
Carriage Inward 1,550.00
Rent, Rates & Insurance of Factory 44,000.00
Opening Stock of Raw Materials 22,000.00
Opening Stock of Finished Goods (800 Tonnes) 17,600.00
Closing Stock of Raw Materials 24,460.00
Closing Stock of Finished Goods (1,600 Tonnes) 35,200.00
Opening Work-in-Progress 5,280.00
Closing Work-in-Progress 17,600.00
Sales of Finished Products 330,000.00
Cost of Factory Supervision 8,800.00
Direct Wages 110,000.00
Discount Allowed, Advertisement and Selling expenses amounted to
75 paisa per ton sold. 12,800 tonnes of Commodity were produced
during the period.

3. A company manufactures two types of pens namely ‘Hero’ & ‘Raja’.

Following are the details of cost for the year ended as on 31st March,
2011:

Direct Material 130,000.00

Direct Labour 110,000.00
Production Overheads 75,000.00
Following additional information is given below:-
(i) The direct materials in ‘Raja’ pen was 40% of that in Hero pen.
(ii) The direct labour cost in ‘Hero’ pen was twice as much as that
in ‘Raja’ pen.
(iii) Production overhead per pen was in the ratio of 5:3 (Hero &
Raja).
(iv) Administration overhead for each type of pen was 100% of
direct labour cost.
(v) Selling & Distribution overhead was Re.1 per pen.

Following was the production & sale of pen during the year:-

Type of Pen Production Sales Rate

Hero Pens 20,000.00 18,000.00 @ Rs 22.00
Raja Pens 15,000.00 14,000.00 @ Rs 14.00
Prepare a statement showing the Cost Details & Profit per pen of each
type.

4. The following cost information related to a manufacturing company is

provided. Prepare a statement showing Cost of Production, Cost of
Sales and Net Profit:-

Opening Stock:-
 Raw Materials 80,000.00
Finished Goods 30,000.00
Work-in-progress 74,000.00
Purchase of Raw Material 260,000.00
Direct Wages 136,000.00
Work Expenses 70,400.00
Dividend Paid 80,000.00
Office Expenses 30,000.00
Depreciation 10,000.00
Selling Expenses 36,000.00
Goodwill Written-Off 10,000.00
Payment of Sales Tax 16,000.00
Closing Stock:-
Raw Material 48,000.00
Finished Goods 36,000.00
Work-in-Progress 72,000.00
Sales 660,000.00

5. Vijay Industries manufactures a product X. On 1st January 2011,

there were 5,000 units of Finished Product in Stock. Other stocks on
1st January 2011 were as follows:

Information / Detail’s as on 1st January’2011

Work-in-Progress 57,400.00
Raw Materials 116,200.00

Information available as on 31st December’2011

Direct Materials 906,900.00
Direct Labour 326,400.00
Freight on Raw Materials Purchased 55,700.00
Indirect Labour 121,600.00
Other Factory Overheads 317,300.00
Stock of Raw Materials 96,400.00
Work-in-Progress 78,200.00
Sales (150,000 Units) 3,000,000.00
Indirect Materials 213,900.00
There are 15,000 units of Finished Stock in hand on
31st December’11.

You are required to prepare:-Statement of Cost and Profit assuming

that Opening Stock of Finished Goods is to be valued at the same
cost per unit as the Finished Stock at the end of the period.

6. Vardhman Ltd., manufactures one product. A summary of its

activities for the year 2010 is given below:-

Particular’s Units Amount (Rs)

Sales 80,000.00 800,000.00
Material Inventory as on 40,000.00
01/01/2010
Material Inventory as on 32,000.00
31/12/2010
Work-in-Progress as on 01/01/2010 55,000.00
Work-in-Progress as on 31/01/2010 72,000.00
Finished Goods as on 01/01/2010 16,000.00 64,000.00
Finished Goods as on 31/12/2010 34,000.00 151,265.00
Material Purchased 152,000.00
Direct Labour 145,000.00
Manufacturing Overhead 108,000.00
Selling Expenses 50,000.00
General Expenses 40,000.00

Prepare a Cost Sheet.