COST CONCEPT

Concepts which are used in cost accounting are as follows:

1) Cost- It is the amount of resource given up in exchange for some goods or

services. The resources given up are expressed in monetary terms. Cost is defined as the amount of expenditure incurred on or attributable to a given thing or to ascertain the cost of given thing.
2) Expenses- Expenses are cost which has been applied against revenue of

particular accounting period in accordance with the principle of matching cost to revenue e.g. Cost of goods sold, office salaries of period in which they are incurred.
3) Loss- It represents diminuation in ownership equity other than from withdrawal

of capital for which no compensating value has been received e.g., destruction of property by fire.
4) Cost centre- A cost centre is the smallest segment of activity or area or

responsibility for which costs are accumulated. Cost centres are departments but in some instances, a department may contain several cost centres.
5) Profit centre- A profit centre is that segment of activity of a business which

is responsible for both revenue and expenses and discloses the profit of a particular segment of activity.
6) Cost object- cost object is anything for which a separate measurement of

cost is desired. If the users of accounting information want to the cost of something this something is called cost object.
7) Cost driver- A cost driver is any factor that influences costs. A change in the

cost driver will lead to a change in the total cost of a related cost object.
8) Conversion cost- It is the sum of direct wages, direct expenses and

overhead costs of converting raw materials from one stage of production to the next.
9) Contribution margin- This is the excess of sales price over variable

costs. This can be expressed in total or ratio of sales or percentage of sales.

10)

Carrying cost- also known as holding costs, are basically the cost incurred on the maintenance of inventory and include cost of money locked up in the inventory, storage space rent and costs of stores operation.

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Out-of-stock cost- This cost takes place when a stock shortage occurs and includes loss of sales, loss of goodwill on account of disgruntled customers and employees ill will and cost of idle machines. Ordering cost- These costs are incurred each time an order for the purchase of material is placed and expressed as rupee cost per order and include the cost of getting a item into the firms inventory. Development cost- is the cost of the process which begins with the implementation of the decision to produce a new or improved method and ends with the commencement of formal production of the product by that method. Policy cost- is the cost which is in addition to normal requirement, incurred in accordance with the policy of an undertaking. Discretionary costs Idle facilities cost Expired cost Incremental revenue Added values Urgent costs Postponable costs Pre-production costs Research cost Training cost

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COST CLASSIFICATION

Cost classifications are needed for the development of the cost data that are useful to management with regard to the five purposes or aims described on pages 40-43. Therefore costs are CLASSIFIED: By the nature of the item (a natural classification).

With respect to the ACCOUNTING period to which they apply. By their tendency to vary with volume or activity. By their relation to the product. By their relation to manufacture departments. According to their nature as common and/or joint costs. For planning and control. For analytical process.

The process of classifying cost and expense can begin with total cost which may be considered as all costs or deductions from sales revenue before INCOME TAX. In a manufacturing concern total operating cost in divided into (1) manufacturing cost and (2) commercial expenses. Manufacturing cost often name production cost or factory cost is the head during the ACCOUNTING period the part of manufacturing past represent work completed is transferred to finished goods while incomplete works remain in work in process.

Expenditure can be divided in to two broad classes: (1) capital expenditure and (2) revenue expenditure. A capital expenditure is intended to benefit future periods is CLASSIFIED as an asset; a revenue expenditure benefit the current period as is termed is expense. An expenditure CLASSIFIED originally as assets will ultimately flow into the expense stream when the assets is either consumed or charged off.

STANDARD COSTING

Standard costing is an important subtopic of cost accounting. Standard costs are usually associated with a manufacturing company's costs of direct material, direct labor, and manufacturing overhead. Rather than assigning the actual costs of direct material, direct labor, and manufacturing overhead to a product, many manufacturers assign the expected or standard cost. This means that a manufacturer's inventories and cost of goods sold will begin with amounts reflecting the standard costs, not the actual costs, of a product. Manufacturers, of

course, still have to pay the actual costs. As a result there are almost always differences between the actual costs and the standard costs, and those differences are known as variances. Standard costing and the related variances is a valuable management tool. If a variance arises, management becomes aware that manufacturing costs have differed from the standard (planned, expected) costs. If actual costs are greater than standard costs the variance is unfavorable. An unfavorable variance tells management that if everything else stays constant the company's actual profit will be less than planned. If actual costs are less than standard costs the variance is favorable. A favorable variance tells management that if everything else stays constant the actual profit will likely exceed the planned profit.

VARIANCE ANALYSIS
Variance analysis is usually associated with explaining the difference (or variance) between actual costs and the standard costs allowed for the good output. For example, the difference in materials costs can be divided into a materials price variance and a materials usage variance. The difference between the actual direct labor costs and the standard direct labor costs can be divided into a rate variance and an efficiency variance. The difference in manufacturing overhead can be divided into spending, efficiency, and volume variances. Mix and yield variances can also be calculated. Variance analysis helps management to understand the present costs and then to control future costs. Variance analysis is also used to explain the difference between the actual sales dollars and the budgeted sales dollars. Examples include sales price variance, sales quantity (or volume) variance, and sales mix variance. A difference in the relative proportion of sales can account for some of the difference in a companys profits. Variance Analysis involves two phases:

Computation of individual variances , and Material Cost Variance Labour Cost Variance Overhead Variance

Determination of the cause(s) of each variance

 Reporting Variance to manager Accounting disposition of Variance

ACTIVITY-BASED COSTING
Activity-based costing (ABC) is a costing model that identifies activities in an organization and assigns the cost of each activity resource to all products and services according to the actual consumption by each: it assigns more indirect costs (overhead) into direct costs. In this way, an organization can precisely estimate the cost of individual products and services so they can identify and eliminate those that are unprofitable and lower the prices of those that are overpriced.
Resources or Factors Activitie s Produc ts

ABC Process

Stages and Flow of costs in ABC:

There are two primary stages in ABC-first tracing costs to activities; second tracing activities to products. The different steps in two stages of ABC are explained as follows: Step 1: Identify the main activities in the organization Step2: Identify the factor which determines the cost of an activity. These are known as cost drivers. Step3: collect the cost of each activity. These are known as cost pools and directly equivalent to conventional cost centers. Step4: charge support overhead to products on the basis of their uses of the activity, expressed in terms of chosen cost drivers.

LIFE CYCLE COSTING

Life-cycle costing is a method of costing that looks at a products entire value chain from a cost perspective. Other types of costing generally look only at the production process, whereas life-cycle costing tracks and evaluates costing from the research and development phase of a products life, through to the decline and eventual conclusion of a products life. Life cycle cost is the total cost of ownership of machinery and equipment, including its cost of acquisition, operation, maintenance, conversion, and/or decommission (SAE 1999). LCC are summations of cost estimates from inception to disposal for both equipment and projects as determined by an analytical study and estimate of total costs experienced in annual time increments during the project life with consideration for the time value of money. The objective of LCC analysis is to choose the most cost effective approach from a series of alternatives (note alternatives is a plural word) to achieve the lowest long-term cost of ownership. LCC is an economic model over the project life span. Usually the cost of operation, maintenance, and disposal costs exceed all other first costs many times over (supporting costs are often 2-20 times greater than the initial procurement costs). The best balance among cost elements is achieved when the total LCC is minimized (Landers 1996). As with most engineering tools, LCC provides best results when both engineering art and science are merged with good judgment to build a sound business case for action.