What is Cost Accounting?
Cost Accounting is that branch of accounting which is used for ascertainment of cost of products and servicers and its profitability. It is a set of procedures, used in refining raw data in to usable information for management decision making. In order to set competitive prices of the products of the companies, correct calculation of all manufacturing as well as non-manufacturing costs in necessary. Cost accounting is helpful to accomplish this task.
Cost Accounting is a business practice in which we record, examine, summarize, and study the company’s cost spent on any process, service, product or anything else in the organization. This helps the organization in cost controlling and making strategic planning and decision on improving cost efficiency.
BRANCHES OF ACCOUNTING
NATURE OF COST ACCOUNTING
1. It is a formal accounting system through which costs are recorded in the books of accounts.
2. It ascertains total cost and cost per unit of product and service.
3. It classifies the costs into different basis for purpose of cost reduction and cost control.
4. It presents cost data in a suitable form to the management for decision making in the areas of production, purchase, sales, etc.
5. It applies various cost control techniques to reduce cost.
6. It ascertains the cost and profitability of each job, contract, process, division, unit, activity,
7. It provides basis for comparative analysis through data collection and cost statement.
8. It informs the efficiency and real situation of production activity.
9. It forms a basis for the management information system through cost records.
10. It provides statistical data on the basis of which future estimates are prepared and quotations are submitted.
11. It serves as base to which the tools and techniques of management accounting can be applied to make it more purposeful and management oriented.
12. It focus on both present and future data. It makes use of both the historical costs and predetermined cost.
13. Outsiders generally have no access to cost records.
14. It values inventories at cost price only.
15. It records both monetary and physical information.
16. It establishes budgets and standards so that actual costs may be compared to find out variances.
17. It is complementary to Financial Accounting.
SCOPE OF COST ACCOUNTING
Cost Accounting is broader in scope. It encompasses not only the manufacturing sector but also the service sector like banking, insurance, educational institutions, hospitals, etc. The scope of cost accounting covers the following.
- Cost ascertainment: It ascertains cost in aggregate and costs per unit by collecting, classifying and analyzing costs at different stages of production by using various methods and techniques.
- Cost Accounting: It is the process of accounting for costs which begins with the incurrence of costs and ends with the control of costs. It maintains proper account of costs by linking them with cost centres.
- Cost Reduction: Cost reduction is the achievement of real and permanent reduction in the unit cost of goods produced of services rendered without sacrificing quality. Cost reduction can be achieved by improving efficiency at every stage, i.e., during product design, production process, administration, finance and marketing.
- Cost Control: Cost control involves the setting of standard performance, measuring actual performance, comparing actual performance against standard performance and taking corrective action in case of negative variance. It can be achieved through the techniques of standard costing and budgetary control.
- Cost Reporting: It is the timely presentation of cost information before management in a very comprehensive way for decision making. Reporting of cost made along with visual aids like charts, diagrams, table, etc. to make it more effective.
- Cost Audit: It is the application of auditing principles and procedures in the field cost accounting. It involves verification of cost accounting records and examining these records to ensure that they adhere to the cost accounting principles, plans, procedures and objectives. The overall objectives of cost audit is to protect the interest of consumers, share holders and the society at large.
Difference Between Cost Accounting and Financial Accounting
|Sl.No.||Basis||Financial Accounting||Cost Accounting|
|1.||Meaning||Recording of transactions is part of financial accounting. We make financial statements through these transactions. With the help of financial statements, we analyze the profitability and financial position of a company.||Cost accounting is used to calculate cost of the product and also helpful in controlling cost. In cost accounting, we study about variable costs, fixed costs, semi-fixed costs, overheads and capital cost.|
|2.||Purpose||Purpose of the financial statement is to show correct financial position of the organization.||Purpose is to calculate cost of each unit of product/service on the basis of which we can take accurate decisions.|
|3.||Recording||Here, estimation in recording of financial transactions is not used. It is based on actual transactions only.||In cost accounting, we book actual transactions and compare it with the estimation. Hence costing is based on the estimation of cost as well as on the recording of actual transactions.|
|4.||Controlling||Here, Correctness of transaction is important without taking care of cost control.||Cost accounting done with the purpose of control over cost with the help of costing tools like standard costing and budgetary control.|
|5.||Period||Period of reporting of financial accounting is at the end of financial year.||Reporting under cost accounting is done as per the requirement of management or as-and-when desired.|
|6.||Reporting||In financial accounting, costs are recorded broadly.||In cost accounting, minute reporting of cost is done per-unit wise.|
|7.||Fixation of Selling Price||Fixation of selling price is not an objective of financial accounting.||Cost accounting provides sufficient information, which is helpful in determining selling price only.|
|8.||Relative Efficiency||Relative efficiency of workers, plant, and machinery cannot be determined under it.||Valuation basis is ‘cost or market price whichever is less’. Valuable information about efficiency is provided by cost accountant.|
|9.||Valuation of Inventories||Valuation basis is ‘cost or market price whichever is less.’||Here, inventory is valued at cost price only.|
|10.||Process||Here, process starts with journals end with preparation and financial statements.||Process starts with computation of cost and end with fixation of selling price of the product/service.|
|11.||Historical||Financial Accounting deals exclusively with historical data, i.e., the cost which have already been incurred.||Cost Accounting deals with historical as well as predetermined cost as it focuses on future.|
|12.||Recording aspect/ controlling aspect||Financial Accounting gives more importance on the recording aspect.||Cost Accounting focuses more on controlling aspect as it aims at cost control and cost reduction.|
Difference Between Cost Accounting and Management Accounting
|Sl. No.||Basis||Cost Accounting||Management Accounting|
|1.||Meaning||Cost accounting revolves around cost computation, cost control and cost reduction.||Management accounting helps management in making effective decisions for the business.|
|2.||Objective||The main objective of cost accounting is to assist the management in cost control and decision-making.||The primary objective of management accounting is to provide necessary information to the management in the process of its planning, controlling, and performance evaluation, and decision-making.|
|3.||Uses of Date||Cost accounting system uses quantitative cost data that can be measured in monetary terms.||Management accounting uses both quantitative and qualitative data. It|
|4.||Primary Rote||Determination of cost and cost control are the primary roles of cost accounting.||Efficient and effective performance of a concern is the primary role of management accounting.|
|5.||Dependence||Success of cost accounting does not depend upon management accounting system.||Success of management accounting depends on sound financial accounting system and cost accounting systems of a concern.|
|6.||Scope||Scope is much narrow.||Scope is much broader.|
|7.||Data base||Cost-related data as obtained from financial accounting is the base of cost accounting.||Management accounting is based on the data received from financial accounting and cost accounting.|
|8.||Users||Cost accounting reports are useful to the management as well as the shareholders and creditors of a concern.||Management accounting prepares reports exclusively meant for the management.|
|9.||Principles||Only cost accounting principles are used in it.||Principles of cost accounting and financial accounting are used in management accounting.|
|10.||Audit||Statutory audit of cost accounting reports are necessary in some cases, especially big business houses.||No statutory requirement of audit is required for management accounting reports.|
|11.||Output Data||Cost accounting is restricted to cost- related data.||Management accounting uses financial accounting data as well as cost accounting data.|
|12.||Application||Cost accounting prevents a business from incurring cost beyond budget.||Management accounting offers a big picture of how management should strategize.|
|13.||Evolution||Cost Accounting evolves due to the limitations of financial accounting.||Management accounting evolves due the limitations of cost accounting. It is the managerial aspects of financial accounting and cost accounting.|
Objectives/Functions of Cost Accounting
1. Undertaking cost studies and investigation to Assist In Decision Making: It undertakes special cost studies and investigations to help management in decision making such as make or buy decision, drop or continue decision, future expansion policies, pricing of product, product mix, etc.
2. Preparation of budgets and standard costs: It provides data to the management for the preparation of budgets and standard costs. An analysis of variances between budgeted figures and actual or standard and actual throw light on the weak areas of business operations and guides the management in taking corrective action to remove the unfavorable cost variances.
3. Ascertainment of Profit: Cost accounting helps in tracking and ascertaining profitability of the product by preparing profit and loss account and balance sheet periodically. The determination of profitability of each product, process, department, etc., is the important object of costing.
4. Formulating Policies: Cost accounting plays important role to formulate policies of the organization. It provides necessary information and data to the top level management which are essential for framing marketing policies of the company.
5. Basis of Preparing Financial Statements: Cost accounting is the foundation for the preparation of different financial statements (profit and loss account, balance sheet, trial balance, etc.) of the company.
6. Determination of Cost: To accumulate, allocate and ascertain cost for each cost object is the primary objective of the cost accounting. It enables the management to ascertain the cost of Product, job, contract, service, or unit of production using different costing principles like standard costing, Marginal Costing, Uniform Costing, etc.
7. Submission of quotations and tenders: It provides information including cost data upon which estimates and tenders are based. It provides with the scope for price adjustments to meet market conditions, so as to ensure that no orders for supply of products are lost.
8. Basis for fixing selling prices: As the prices of the cost object, i.e., the product is determined by the external factors such as market demand for the product, competitor’s price, etc. However, the basis for ascertaining the price is the total cost of production and the cost accounting techniques helps in determining it. Along with that, it acts as a guide for estimating prices for tender and quotations.
9. Cost Control: Another important objective of the cost accounting system is to control the costs. It keeps a check on the expenses made by the company, against the set standards and the deviations are recorded and reported continuously.
10. Cost Reduction: The management works to further reduce the cost to increase the profitability of the company. Cost reduction implies the actual and permanent reduction in the cost of production without compromising with the quality and the suitability of its bandesired use.
11. Analysis and classification of cost of production: Cost accounting helps to analyse and classify various items of cost incurred which leads to the revaluation of various forms of waste, whether of materials, time or expenses. Analysis of the causes of unsatisfactory results may suggest possible remedial measures to attain efficiency in the utilization of resources.
12. Assisting Management in Identifying and Controlling Efficiency: To report to the management about the inefficiencies of the workers and eliminates wastes like material, expenses, equipment, tools and so forth. It also ensures optimum utilization of resources of the organization by making sure that no machines are left idle, the workers get incentives for their performance, proper utilization of by-products and so forth.
PRINCIPLES OF COST ACCOUNTING
Following are the main principles of Cost Accounting:
1. Principle of Cause-Effect Relationship: Cause-effect relationship should be established for each item of cost. Each item of cost should be related to its cause as minutely as possible and the effect of the same on the various cost centres. A cost should be shared only by those units which pass through the departments for which such cost has been incurred.
2. Principle of Charging Costs: Unit cost should include only those costs which have been actually incurred. For example unit cost should not be charged with selling cost while it is still in factory.
3. Principle of Forming of Costs: Past costs (which could not be recovered in past) should not be recovered from future costs as it will not only affect the true results of future period but will also distort other statements.
4. Principle of Exclusion of Abnormal Costs: All costs incurred because of abnormal reasons (like theft, negligence) should not be taken into consideration while computing the unit cost. If done so, it will distort the cost figures and mislead management resulting in wrong decisions. Abnormal costs are charged to costing profit and loss account.
5. Principles of Double Entry: To reduce the chances of any mistake or error, cost ledgers and cost control accounts, as far as possible, should be maintained on double entry principles. This will ensure the correctness of cost sheets and cost statements which are prepared for cost ascertainment and cost control.
Limitations Of Cost Accounting
The cost accounting is subject to the following limitations
- Cost Accounting is not an exact science. It involves inherent limitations of judgement. The principle changes with the change of time.
- Cost Accounting presents the base for taking the best decisions, but it doesn’t give instant solution to the problems.
- Many formalities are to be observed to obtain the benefit from costing system.
- Small and medium concerns may not be able to afford heavy amount in installing costing system.
- Cost Accounting lacks an uniform procedure. Cost varies with purpose. Therefore, Cost selected for a certain purpose will not suitable for other purposes.
- There are different methods of apportionment and absorption of overheads, segregation of cost into fixed and variable, division of costs into controllable and non-controllable, valuation of stocks, etc.
- Cost Accounting may become a matter of routine forms and statements unless the system is revised with the changing business environment.