COST ACCOUNTING

LECTURE ONE
LECTURE OBJECTIVES
After studying this lesson, you will be able to:
• state the meaning and scope of cost accounting;

• explain the objectives of cost accounting;

• differentiate between cost accounting and financial accounting;
• state importance of cost accounting;
• explain limitations of cost accounting.
MEANING OF COST ACCOUNTING
• Cost accounting is the process of determining and accumulating the
cost of product or activity.
• It is a process of accounting for the incurrence and the control of cost.
• It also covers classification, analysis, and interpretation of cost.
• it is a system of accounting, which provides the information about the
ascertainment, and control of costs of products, or services.
• It is measures the operating efficiency of the enterprise.
• It concerns itself with the internal aspect of the organization and is
aimed at providing cost data, statement and reports for the purpose of
managerial decision making.
Definition by ICMA - UK

• “Cost accounting is the process of accounting from the point at which

expenditure is incurred or committed to the establishment of its
ultimate relationship with cost centres and cost units. In the widest
usage, it embraces the preparation of statistical data, application of
methods and the ascertainment of profitability; and of cost control on
activities carried out or planned”.
DEFINITION OF COSTING
Costing includes “the techniques and processes of ascertaining costs.”
• The ‘Technique’ refers to principles which are applied for ascertaining
costs of products, jobs, processes and services.
• The `process’ refers to day to day routine of determining costs within
the method of costing adopted by a business enterprise.
Costing involves “the classifying, recording and appropriate allocation of
expenditure for the determination of costs of products or services; the
relation of these costs to sales value; and the ascertainment of
profitability”.
THE FIVE A’s OF COSTING

• COST ASCERTAINMENT

• COST ANALYSIS

• COST ALLOCATION

• APPORTIONMENT

• COST ABSORBTION
 Scope of Cost Accounting
The terms ‘costing’ and ‘cost accounting’ are many times used

interchangeably.

However, the scope of cost accounting is broader than that of costing.

Following functional activities are included in the scope of cost

accounting:
Scope
1. Cost book-keeping: It involves maintaining complete record of all costs
incurred from their incurrence to their charge to departments, products
and services. Such recording is preferably done on the basis of double
entry system.
2. Cost system: Systems and procedures are devised for proper accounting
for costs. There are two cost accounting systems; i.e. integrated and
interlocking systems
3. Cost ascertainment: Ascertaining cost of products, processes, jobs,
services, etc., is the important function of cost accounting. Cost
ascertainment becomes the basis of managerial decision making functions
such as pricing, planning and control.
Scope
4. Cost Analysis: It involves the process of finding out the causal factors

of actual costs varying from the budgeted costs and fixation of

responsibility for cost increases.

5. Cost comparisons: Cost accounting also includes comparisons

between cost from alternative courses of action such as use of
technology for production, cost of making different products and
activities, and cost of same product/ service over a period of time.
Scope
6. Cost Control: Cost accounting is the utilization of cost information for
exercising control. It involves a detailed examination of each cost in
the light of benefit derived from the incurrence of the cost. Thus, we
can state that cost is analyzed to know whether the current level of
costs is satisfactory in the light of standards set in advance.

7. Cost Reports: Presentation of costing reports is the ultimate function

of cost accounting. These reports are primarily for use by the
management at different levels. Cost Reports form the basis for
planning, control, performance appraisal and managerial decision
making.
Objectives of cost accounting
There is a relationship among information needs of management, cost
accounting objectives, and techniques and tools used for analysis in
cost accounting.
Cost accounting has the following main objectives to serve:
1. Determining selling price,
2. Controlling cost
3. Providing information for decision-making
4. Ascertaining costing profit
5. Facilitating preparation of financial and other statements.
DIFFERENCES BETWEEN FINANCIAL
ACCOUNTING AND COST ACCOUNTING
COST ACCOUNTING
FINANCIAL ACCOUNGING
1. Reports are submitted to
1. Reports are submitted to
shareholders management.
2. Preparation of financial statement is 2. Preparation of cost accounting is
a statutory requirement. voluntary.
3. Financial accounting statements are 3. Reports are continuous.
periodic
4. Not subject to audit
4. Statements are subject to audit.
5. Information contained is about
5. Information contained is historical
the future
6. Its convectional.
6. Its dynamic.
7. Emphasis on recording financial
transactions 7. Emphasis on cost control.
Importance of Cost accounting
The limitation of financial accounting has made the management to
realize the importance of cost accounting. The importance of cost
accounting are as follows:
1. Importance to Management
2. Importance to Employees
3. Cost accounting and creditors
4. Importance to National Economy
5. Data Base for operating policy
1. Importance to Management
• Helps in ascertainment of cost
• Aids in Price fixation
• Helps in Cost reduction
• Elimination of wastage
• Helps in identifying unprofitable activities
• Helps in checking the accuracy of financial account
• Helps in fixing selling Prices
• Helps in Inventory Control
• Helps in estimate for quotations
Other benefits of costing
2. Importance to Employees
Worker and employees have an interest in organizations in which they
are employed. An efficient costing system benefits employees through
incentives plan in their enterprise, etc. As a result both the productivity
and earning capacity increases.

3. Cost accounting and creditors

Suppliers, investor’s financial institution and other money lenders have
a stake in the success of the business concern and therefore are
benefited by installation of an efficient costing system. They can base
their judgment about the profitability and prospects of the enterprise
upon the studies and reports submitted by the cost accountant.
 Other benefits of costing
4. Importance to National Economy
An efficient costing system benefits national economy by stepping up
the government revenue by achieving higher production. The overall
economic developments of a country take place due to efficiency of
Production
5.Data Base for operating policy
Cost Accounting offers a thoroughly analyzed cost data which forms the
basis of formulating policy regarding day to day business, such as:
• Whether to make or buy decisions from outside?
• Whether to shut down or continue producing and selling at below
• cost?
• Whether to repair an old plant or to replace it?
Criticism of cost accounting
• Like other branches of accounting, cost accounting is not an exact
science but is an art which has developed through theories and
accounting practices based on reasoning and common sense.
• These practices are not static but changing with time.
• Cost accounting lacks a uniform procedure.
• There is no stereotyped system of cost accounting applicable to all
industries.
• There are widely recognized cost concepts but understood and applied
differently by different industries.
• Cost accounting can be used only by big enterprises.
LIMITATIONS OF COSTING
1. It is expensive because analysis, allocation and absorption of
overheads require considerable amount of additional work.
2. The results shown by cost accounts differ from those shown by
financial accounts. Preparation of reconciliation statements
frequently is necessary to verify their accuracy. This leads to
unnecessary increase in workload.
3. It is unnecessary because it involves duplication of work. Some
Industrial units are functioning efficiently without any costing
system.
4. Costing system itself does not control costs. If the management is
alert and efficient, it can control cost without the help of the cost
accounting. Therefore it is unnecessary.
Self review questions

l. State the meaning and scope of cost accounting.

2. Explain the objectives of cost accounting.

3. Differentiate between cost accounting and financial accounting

4. What is the importance of cost accounting in a production unit?

5. State the limitation of cost accounting.