Professional Documents
Culture Documents
Unit Four
Syllabus
Total Hours : 12
Cost
Accounts
Classification
of
manufacturing costs - Accounting for
manufacturing costs.
Cost Accounting Systems: Job order costing Process costing- Activity Based CostingCosting and the value chainTarget costing- Marginal costing including
decision making- Budgetary Control &
Variance Analysis Standard Cost system.
Meaning
Cost Accounting is the classifying, recording
and appropriate allocation of expenditure for
the determination of the costs of products or
services, and for the presentation of suitably
arranged data for purposes of control and
guidance of management.
It includes the ascertainment of the cost of
every order, job, contract, process, service or
unit as may be appropriate. It deals with the
cost of production, selling and distribution.
Definition
According to Wheldon, Cost accounting is the
application of accounting and costing principles,
methods and techniques in the ascertainment of costs
and the analysis of saving or excess cost incurred as
compared with previous experience or with standards.
Cost accounting relates to the collection, classification,
ascertainment of cost and its accounting and control
relating to the various elements of cost.
It establishes budgets and standard costs and actual
cost of operations, processes, departments or products
and the analysis of variances, profitability and social
use of funds.
Features
It is a process of accounting for costs;
Records income and expenditure relating to production
of goods and services;
Provides statistical data on the basis of which future
estimates are prepared and quotations are submitted;
Concerned with cost ascertainment, cost control and
cost reduction;
Establishes budgets and standards so that actual cost
may be compared to find out deviations or variance; and
Preparation of right information to the right person at
the right time so that it helps management on planning,
evaluation of performance, control and decision making.
Functions of Cost
Accounting
Analysis and Ascertainment of
costs
Cost control
Ascertainment of profitability
Determination of selling price
Cost reduction
Helps in formulating business policy
Objectives
To ascertain the cost per unit of different products
manufactured by a business concern;
To provide a correct analysis of cost both by processes or
operations and by different elements of cost;
To disclose sources of wastage whether of material, time
or expense or in the use of machinery, equipment and
tools and to prepare such reports which may be
necessary to control such wastage;
To provide requisite data and serve as a guide for fixing
prices of products manufactured or services rendered;
To ascertain the profitability of each of the products and
advise management as to how these profits can be
maximized;
Objectives
To exercise effective control of stocks of raw
materials, work-in-progress, consumable stores and
finished goods in order to minimize the capital locked
up in these stocks;
To install and implement a system of cost control for
materials, labour and overheads;
To advice management on future expansion policies
and proposed capital projects;
To prepare budgets and implementation of budgetary
control;
To organize internal audit system to ensure effective
working of different departments.
Advantages
To Top Management
Effective Decision making
Measuring Efficiency
Cost reduction
Fixation of selling price
Effective cost control
Increase in efficiency
Effective inventory control
Reduction of wastages
Effective utilization of resources
Help in effective budgeting
Advantages
To Employees
Costing an aid to
Management
Planning
Planning is thinking in advance i.e., looking ahead and
deciding in advance what to do, how to do it, when to do it
and who is to do it.
Decision Making
Management has to make a choice of a course of action out
of several alternative courses of action available, it involves
decision-making.
Controlling
Controlling is that part of management activity whereby
managers compare actual performance against the planned
performance, find out the deviations and take remedial
steps to remove the deviations.
Costing an aid to
Management
Planning
Planning is thinking in advance i.e., looking ahead
and deciding in advance what to do, how to do it,
when to do it and who is to do it.
In planning, management is concerned with
laying down objectives and determining the
courses of action to be followed out of several
alternatives available to achieve those objectives.
Thus planning is concerned with future activity
and formulates budgets to meet the objectives of
the organization.
Costing an aid to
Management
Decision Making
Since management has to make a choice of one
course of action out of several alternative courses of
action available, it involves decision-making.
All rational decisions are based on accounting
information.
Decisions may relate to price fixation, change in
production schedule, introduction of new product, to
export the product or not, profitable levels of
production, capacity utilization, exploring newer
markets, discontinuing product to avoid further loss
and investment in a particular asset etc.,
Costing an aid to
Management
Controlling
Controlling is that part of management activity whereby
managers compare actual performance against the
planned performance, find out the deviations and take
remedial steps to remove the deviations.
Immediate action should be taken to remove the
deviations to make an improvement in the performance
because promptness is the essence of an effective
control. Thus control helps correction.
Planning and control are interlinked with each other
because a manager cannot control unless he has
planned a course of action.
Methods of Costing
Specific Order Costing
Operation Costing
Job Costing
Contract Costing
Batch Costing
Process Costing
Output Costing
Standard Costing
Marginal Costing
Operation Costing
Multiple Costing
Classification of
Manufacturing Costs
Classification of Manufacturing
Costs
Elements of Cost
Materials
Direct Indirect
Labour
Direct
Other Expenses
Overheads
Production or Works
Overheads
Overheads
Administration
Overheads
Selling Distribution
Overheads
Divisions of Costs
Prime Cost
Direct Materials + Direct Labour + Direct
Expenses
Works or Factory Cost
Prime Cost + Works or Factory Overheads
Cost of Production
Works Cost + Administration Overheads
Total Cost or Cost of Sales
Cost of Production + Selling and Distribution
Overheads
Divisions of Costs
Direct Materials
Those materials which can be identified in the product
and can be conveniently measured and directly
charged to the product. These materials directly enter
the production and form a part of the finished product.
e.g., cloth in dress making, bricks in building work.
Direct Labour
It is that labour which can be conveniently identified
or attributed wholly to a particular job, product or
process or expended in converting raw materials into
finished goods.
Divisions of Costs
Overheads
The aggregate of the cost of indirect materials,
indirect labour and such other expenses including
services as cannot conveniently be charged direct
to specific cost units. Overheads are all expenses
other than direct expenses.
Expenses excluded from costs
The total cost of a product should include only
those items of expenses which are a charge
against profit. Items of expenses which are
relating to capital assets, capital losses, payments
by way of distribution of profits and matters of
pure finance should not form a part of the costs.
Cost Sheet
Cost sheet is a statement designed to show
the output of a particular accounting period
along with break-up of accounts.
It is prepared to analyse the total cost of
production and cost of sales in order to fix
selling price.
It is prepared at regular intervals ie.,
weekly, monthly, quarterly and yearly.
Comparative figures of various periods is
also shown in cost sheet.
Classification of Costs
According to Nature of Cost
Fixed,
Variable,
Semi-variable
expenses and Step Cost
According to relevance to Decision
Making
Decision making cost, Accounting
cost, relevant cost, Irrelevant cost,
Shutdown cost and Sunk cost
Classification of Costs
According to Controllability
Avoidable cost, Unavoidable cost, Controllable
cost, Uncontrollable cost, Hypothetical cost,
Differential cost, Incremental cost, Out-of-pocket
cost, Opportunity cost and Traceable cost.
According to Normality
Common cost, Joint cost, Non-joint cost,
Conversion cost and Production cost
According to Function
Administrative cost, Distribution cost and Selling
cost.
Cost Classification
Fixed Expenses or Period Costs
Expenses which are constant for given period of time E.g.,
Rent, Rates, Insurance etc.,
Variable Expenses or Product Cost
Expenses which are vary for increase or decrease in the
volume of output E.g., Materials, Wages, Expenses etc.,
Semi-Variable Expenses
Expenses which are critical to identity. It can also be named
as
semi-fixed cost e.g., Depreciation, Repairs etc.,
Step Cost
Expenses which remain constant over a range of activity.
Specimen Production
Order
Job Cost Sheet of Ms._______________ Customer ___________________
Particulars ________________________ Quantity ___________________
Date of commencement _____________ Date of completion
___________
Clock
Quality
Time
Ordered by
Ordered by
Operation
No. No.
Dept
Operation
No. Details
Approved by
Made
Rejected
Material No.
Actual Cost
Cost per Unit
Direct Material
Direct Labour
Direct Expenses
Prime Cost
Add: Works / Factory Overheads
Works / Factory Cost
Add: Administration Overheads
Cost of Production
Add: Selling and Distribution Overheads
Total Cost or Cost of Sales
Process Costing
Process Costing
It is the method according to which data relating
to cost of production are collected according to
the departments or processes and thereafter the
total cost is divided by the quantity of production,
to arrive at the cost per unit.
It is suitable for those industries in which
production flows from the beginning to the end
continuously and through various stages.
E.g., In a textile mill the production process flows
from carding, warping, spinning, drawing, sizing,
winding, weaving, painting, folding etc.,
Process Costing
Process costing is adopted in the following industries : Chemicals
Pharmaceutical
Oil Refinery
Flour Mills
Edible Oil
Steel manufacturing
Food processing
Textiles
Paper
Milk Diary
Paints
Difference between
Job Costing and Process Costing
Job Costing
Production
of
goods
against orders.
Cost of the job can be
easily determined.
Each job is different,
separate
and
independent from each
other.
Process Costing
Production of goods is
continuous process
Cost of all processes are
complied
together
to
determine the cost of
finished products.
Each and every process is
dependent on each other
i.e., finished product of
one process is input of
another process.
Difference between
Job Costing and Process Costing
Job Costing
Process Costing
Process Losses
Wastage: It is material that either is lost,
evaporates or shrinks in a manufacturing
process or is a residue that has no measurable
recovery value.
Scrap: It is discarded material having some
recovery value which is usually disposed off
without further treatment.
Normal Loss: It is the process loss which is
unavoidable and uncontrollable.
Normal Wastage: It should be absorbed by
goods units produced.
Process Losses
Computation of Abnormal Loss
Quantity of Normal Loss = Normal output Actual
output
Normal Output = Input Normal loss
If the actual output is less than normal output the
balance is positive figure, representing abnormal loss in
unit.
Value of abnormal loss =
Normal cost of normal output x Unit of abnormal loss
Normal output
Normal cost of normal output =
Expenditure of process Scrap value of normal loss
Process Losses
Computation of Abnormal Gain
Quantity of Normal Loss = Normal output Actual
output
Normal Output = Input Normal loss
If the actual output is more than normal output the
balance is positive figure, representing abnormal gain in
unit.
Value of abnormal gain =
Normal cost of normal output x Unit of abnormal gain
Normal output
Normal cost of normal output =
Expenditure of process Scrap value of normal loss
Concept of ABC
Activity Based Costing (ABC) is a new term
developed for finding out the cost.
The basic feature of ABC is its focus on activities as
the fundamental cost objects.
It uses activities as the basis for calculating the costs
of products and service.
ABC is an approach to developing the cost numbers
used in job costing or process costing systems.
ABC has the potential, however to provide managers
with information they find more useful for costing
purposes.
Concept of ABC
In ABC approach, the first step is to identify the activities
for which costs are to be collected and controlled.
The various activities may be identified as direct
activities and indirect activities.
Direct activities mat be taken as direct material and
direct labour. Indirect cost may be identified as order
processing, material handling, machine insertion of parts,
manual insertion of parts, repairs and maintenance,
quality testing etc.,
The next step is the selection of suitable cost allocation
base for assigning indirect costs to various activities so
that all activities are suitably burdened.
Objectives of ABC
To establish the linkage between the amount of
cost and the cost drivers, which are nothing but
resource and activity.
To determine the cost of every activity and
finally to find out the cost of product and service.
To apportion the overheads in accordance with
the activities involved in the process only in
order to ascertain the accurate cost.
To evade the bottleneck of the traditional cost
system through the determination of charging
the overheads on the functional basis.
Areas of ABC
Pricing Strategy
It deals with profit margin out of the activity. To fix
reasonable as well as competitive price not only to
attract the buyers but also to earn handsome surplus
out of the ABC.
Make or Buy decision
It is being calculated through the study of nature and
number of activities involved.
Out sourcing
The firm should identify the right mode of supplying the
goods to the customers either through production or
purchase, which is the best alternative to yield profit.
Benefits of implementing
ABC
1. Cost Management and Downsizing
2. Determination of Product / Service
costs
3. Improvements in Performance
4. Product / Service pricing
5. Make or Buy decision
6. Transfer pricing
Characteristics of ACBM
Cost Driver Analysis
This analysis is only on the basis of causes which
normally make the firm to perform the activities.
The efficiency and inefficiency of the activity is
studied with reference to particular reasons. To
study the root cause of the problem for
inefficiency.
Activity Analysis
The activities are to be studied in the light of the
value addition. The importance of the activities
are to be probed from time to time.
Characteristics of ACBM
Performance Analysis
The performance of the activities are to be
analyzed only in terms of the goals or
objectives of the activity centres in order to
have continuous improvement in the process.
Higher Quality
The service should be denominated in terms
of good quality which certainly reflects
customer / consumer delight and it will lead
to brand loyalty.
Characteristics of ACBM
Lower Cost
Cost reduction permanently for the charge of
reasonable. price
Faster Response Time
The customers are to be immediately responded to
without any further delay.
Great Innovation
The firm should always find its own ways and
means to attract the needs and demand of the
customers through the development of unique
features.
Non-value added
activities
Target Costing
Target Costing
Target costing is a pricing method used by
firms.
It is defined as a cost management tool for
reducing the overall cost of a product over its
entire life-cycle with the help of production,
engineering, research and design.
A target cost is the maximum amount of cost
that can be incurred on a product and with it
the firm can still earn the required profit margin
from that product at a particular selling price.
Target Costing
Price is a crucial product-positioning factor
that
defines
the
products
market,
competition and design.
Target costing involves setting a target cost
by subtracting a desired profit margin from a
competitive market price.
To compete effectively, organizations must
continually redesign their products in order
to shorten product life cycles.
The planning, development and design
stage of a product is therefor critical to an
organizations cost management process.
Target Costing
In traditional costing system it is presumed that a
product has already been developed, has been
costed, and is ready to be marketed as soon as a
price is set.
Alternatively , the company already knows what
price should be charged, and the problem is to
develop a product that can be marketed profitably
at the desired price.
Japanese companies have developed target
costing as a response to the problem of controlling
and reducing costs over the product life cycle.
Target Costing
The target costing for a product is calculated
by starting with the producers anticipated
selling price and then deducting the desired
profit.
Formula for Target Costing =
Anticipated Selling Price (-) Desired Profit
The product development team is then given
the responsibility of designing the product so
that it can be made for no more than the
target cost.
Target Costing
The target costing approach was developed in
recognition of two important characteristics of
markets and costs.
The market (i.e., demand and supply) really
determines prices, and a company that attempts to
ignore this does so at its peril. Anticipated market
price is taken as target cost.
The cost of the product is determined in the design
stage. Instead of designing the product and then
finding out how much it costs, the target cost is set
first and then the product is designed so that the
target cost is attained.
Marginal Costing
Marginal Costing
Marginal costing is a technique of costing
totally
oriented
towards
management
decision-making and control.
Marginal costing is not a method of cost
ascertainment like job or operating costing. It
can also be used in combination with other
techniques such as budgeting and standard
costing.
Marginal costing is helpful in determining the
probability of product, department, process
and cost centre.
Marginal costing emphasis is on behaviour of
Marginal Costing
The
chartered
institute
of
management
accountants, England defines, Marginal cost is the
amount at any given volume of output by which
aggregate cost are changed if the volume of output
is increased or decreased by one unit. In this
context, a unit may be a single article, a batch of
articles, an order, a stage of production capacity or
a department. It related to the change in output in
the particular circumstances under consideration.
Marginal cost is the additional cost of producing an
additional unit of a product.
Elements of Marginal
Costing
Direct Material
Direct Wages
Direct Expenses
Variable Expenses
Marginal Costing =
(Prime cost + Total variable overheads)
() Fixed cost
Ascertainment of Marginal
Cost
Ascertainment of marginal cost is different from
total or absorption cost.
In marginal cost it is assumed that the difference
between the aggregate sales value and the
aggregate marginal cost of the output sold
provides a fund to meet the fixed cost and profit
of the firm.
In respect of each product, the difference
between its sales value and the marginal cost is
known as contribution made by the product to
this fund.
Ascertainment of Marginal
Cost
Contribution is the difference between the sale
value and the marginal cost of sales and it
contributes towards fixed expenses and profit.
If more than one product are produced,
contribution of all product are merged into the
fund out of which fixed expenses are deducted to
get the amount of the profit.
Contribution = Selling Price Marginal Cost (or)
Contribution = Fixed Expenses + Profit
(or)
Contribution - Fixed Expenses = Profit
Absorption Costing
Absorption costing technique whereby fixed as
well as variable costs are considered as cost of
production and are used in identifying the cost of
goods manufactured and inventories.
Entire manufacturing costs are fully absorbed into
finished goods.
Finished overheads are also treated as a part of
actual production cost. Stock and Cost of goods
are valued at total cost basis.
In Absorption costing, fixed factory expenses are
included in (1) Unit cost and (2) Inventory value.
Marginal
Costing
Only variable
costs are
charged to products,
marginal cost technique
does not lead to over or
under absorption of fixed
overheads.
Costs
are
classified
according
to
the
behaviour of costs i.e.,
fixed costs and variable
costs.
CVP Analysis
The study of Cost-volume profit can be made by
Break-even Chart
Break even chart is a graphical representation. It is
considered to be most important graphical
representation of accounting data.
Break even chart shows the inter relationship
between cost, volume and profit.
The graph clearly explains the break even point and
profit or loss at various volumes of activities.
It is a graph showing the amount of fixed costs and
variable costs and sales revenue at different volume
of operations. It shows at what volume the firm first
covers all costs with revenue and break even.
Significance of BE Chart
The break even chart shows the fixed costs, variable
costs and total costs.
The chart shows the sales units and sales value at
which sale revenue is equal to total costs.
It shows the break-even point at which there is no
profit or loss.
The chart shows the profit or loss at various volumes.
Margin of safety is clearly shown.
The chart shows the angle of incidence.
It shows the difference between total sales and total
cost line on the graph.
Assumptions of BE Chart
Costs are classified into fixed and variable.
Variable costs directly change in
proportion to output.
Fixed costs remain constant at all levels of
activity.
Selling price is same for different levels of
output.
No change in product mix.
Level of efficiency and management policy
do not change.
There is no opening and closing stocks
Advantages
They represent information in simple form to analyze and
understand the relationship between cost volume and profit.
They indicate profitability of products and in profit planning
Break even chart provide an insight into changes in the
various factor affecting profits
Break even chart serves as a tool of cost control as the
structure of the total costs is shown very clearly
Break even chart will be helpful to the management to
exercise decisions regarding control of cost
They help in presentation of flexible budgets as the cost
under both variable and fixed categories are analyzed
uniformly
Limitations
Assumption of break even point that fixed costs
remain constant and variable cost vary in proportion
to output will not hold good in long run.
Assumption that all units produced are sold is wrong
Assumption regarding constant selling price is
ridicules as the prices are affected by demand and
supply
Management policy keeps changing due to several
factors
Break even chart assumes that product mix remains
same
Angle of
Fixed Cost
Budgetary Control
Budget
A budget is the monetary expression of business
plans and policies to be pursued in the future
period of time.
Budgeting is an estimate prepares in advance of
the period to which it applies.
A budget is prepared to have effective utilization
of funds and for the realization of objectives as
efficiently as possible.
Budgeting is a powerful tool to the management
for performing its functions efficiently.
Budget
The Chartered Institute of Management Accountants,
England defines a Budget as A plan quantified in
monetary terms prepared and approved prior to a
defined period of time usually showing planned
income to be generated and / or expenditure to be
incurred during the period and the capital to be
employed to attain a given objective.
Budget may be defined as, a predetermined
detailed plan of action developed and distributed as
a guide to current operations and as a partial basis
for the subsequent evaluation of performance.
Budgetary Control
The Chartered Institute of Management Accountants,
England
defines
Budgetary
Control
as,
the
establishment of budgets relating to their responsibilities
of executives to the requirements of a policy, and the
continuous comparison of actual with budgeted results,
either to secure by individual action the objective of that
policy or to provide a basis for its revision.
Budgetary Control is applied to a system of management
and accounting control by which all operations and
output are forecasted as far as possible and actual
results when known are compared with budget
estimates.
Essentials of Budgetary
Control
Establishment of budgets
Continuous comparison of actual
with budgets for achievements of
targets
and
placing
the
responsibility
for
failure
to
achieve the budget figures
Revision of budgets in the light
of changed circumstances
Budget Manual
The budget manual is a written document
or booklet which specifies the objective of
the budgeting organization and procedures.
The Chartered Institute of Management
Accountants, England defines a Budget
Manual as, a document schedule which
sets out, inter alia, the responsibilities of
the persons engaged in the routine of and
the forms and records required for
budgetary control.
Types of Budget
Budget
Coverage
Capacity
Condition Period
Functional
Long term
Master
Short term
Fixed Budgets
Flexible Budgets
Basic
Current
Types of Budget
Functional Budgets
Sales budget
Production budget
Materials budget
Direct Labour budget
Manufacturing overheads
Administrative cost budgets
Plant utilization budgets
Capital expenditure budgets
Research and development cost budget
Cash budget
Types of Budget
Sales budget
Is an estimate of anticipation of sales in the near future
in terms of quantity and value. To forecast the cost of
selling and distribution cost for budget period.
Production budget
Is mainly dependent on the sales budget as to how
much to be produced in terms of quantity in monetary
terms
Materials budget
Takes place after identifying the quantity of finished
products expected to produce in order to meet the
demands of the customers.
Types of Budget
Purchase budget
Is mainly dependent on production budget and material
requirement budget. It provides information about the
materials to be acquired from the market during the budget
period.
Direct Labour budget
It provides an estimate of the requirements of direct labour
essential to meet the production target.
Manufacturing overhead budget
Ascertains the work overhead expenses to be incurred in a
budget period to achieve the production target. It includes
the cost of indirect material, indirect labour and indirect
works expenses.
Types of Budget
Administrative expenses budget
It covers the expenses incurred in framing policies,
directing and conducting the business operations.
Plant utilization budget
Express the requirement of plant capacity to carry
out the production as per production schedule.
Capital Expenditure budget
Deals with the estimated amount of capital that may
be needed for acquiring the fixed assets required for
fulfilling production requirements.
Types of Budget
Research and Development budget
Deals with work relates to research and
development activity
Cash budget
Gives an estimate of anticipated receipts and
payments of cash during the budget period.
Master budget
Prepared by the budget committee on the basis of
coordinate functional budgets and becomes the
targets for the company. It is a consolidated
summary of the various functional budgets.
Types of Budget
Fixed budget
This budget is drawn for one level of activity and one set
of conditions. It has been defined as a budget which is
designed to remain unchanged irrespective of the
volume of output.
Flexible budget
A flexible budget as a budget which, by recognizing the
difference in attitude between fixed and variable costs
in relation to fluctuations in output.
Basic budget
A basic budget has been defined as a budget which is
prepared for use unaltered over a long period of time.
Types of Budget
Current budget
A current budget can be defined as a budget which
is related to the current conditions and is prepared
for use over a short period of time.
Long-term budget
A long term budget can be defined as a budget
which is prepared for periods longer than a year.
Short-term budget
This budget is defined as a budget which is prepared
for period less than a year and is very useful to
lower levels of management for control purposes.
Performance Budgeting
In conventional system of budgeting, money
concept was given more performance i.e.,
estimating or projecting rupee value for various
accounting heads or classification of revenue or
cost.
These days, budgets are established in such a way
so that each item of expenditure is related to
specific responsibility centre and is closely linked
with the performance of that standard.
Thus in performance budget classification of
expenditure there are three pattern i.e., function,
programme and activity. Performance or production
goals in physical and financial terms are established
in accordance with this new classification and actual
System of Performance
Budgeting
Establishment of well defined responsibility centres
or action points where operations are performed and
financial transactions in terms of money take place.
Establishment of each responsibility center and a
programme of expected performance in physical
units of that centre.
To forecast the amount of expenditure under the
various classification heads to meet the physical
plan.
Performance reporting indicating the result of
analysis of the variance from the budget is done like
that of variance reporting.
Responsibility Accounting
According to Certified Institute of Management
Accounting, London, Responsibility accounting is
a system of Management Accounting under which
accountability is established according to the
responsibility delegated to various levels of
management and management information and
reporting system instituted to give adequate feedback in terms of the delegated responsibility.
Under this system divisions or units of an
organization under specified authority in a person
are developed as a responsibility centre and
evaluated individually for their performance. A
good system of transfer pricing is essential to
establish the performance and results of each
Responsibility Accounting
Responsibility accounting fixes responsibility for cost
control purposes.
It is method of accounting in which costs and
revenues are identified with persons who are
responsible for their control rather than with products
or functions.
This method classifies costs and revenues according
to the responsibility centres that are responsible for
incurring the costs and generating the revenues.
Responsibility centres can be broadly classified into
three categories i.e., Cost centres, Profit centres and
Investment centres
Responsibility Accounting
Principles
A target is fixed for each responsibility centre.
Actual performance is compared with the target.
The variance from the budgeted plan are
analyzed so as to fix the responsibility of centres.
Corrective action is taken by the higher
management and is communicated to the
responsibility centres.
All apportioned costs and policy costs are
excluded in determining the responsibility for
cost.
Responsibility Accounting
Advantages
It establishes a sound system of control.
It is tailored according to the needs of an organization.
It encourages budgeting for comparison of actual
achievement with the budgeted figures.
It increases interests and awareness among the
supervisory staff as they are called upon to explain
about the deviation for which they are responsible.
It simplifies the structure of reports and facilities the
prompt reporting because of exclusion of those items
which are beyond the scope of individual responsibility.
Responsibility Accounting
Demerits
Basically the prerequisites for a successful
responsibility accounting scheme.
It becomes different to have a further analysis of
expenses than provided by traditional classification
of expenses.
While introducing the system supervisory staff may
require additional classification especially in the
responsibility reports.
Responsibility accounting must be explained properly
the purpose and benefits of the new system.
Standard Costing
Standard Costing
It is pre-determined calculation of what cost
ought to be under specific working conditions.
It is built by correlating standard quantity and
forecast of future market trend for price
standards.
It provides bases for control through variance
accounting.
It provides bases for valuation of stock and
work-in-progress and some cases for fixing
selling price.
Standard Costing
Standard Costing is the preparation of standard costs and
applying them to measure the variations from actual costs
and analyzing the causes of variations with a view to
maintain maximum efficiency in production.
It is a technique which uses standards for costs and revenue
for the purpose of control through variance analysis.
The system of standard costing can be useful in all types of
industries. But it is more commonly used in industries
producing standardized products which are repetitive in
nature and not suitable for job order industries.
Comparison of the actual cost and the standard cost of the
operations will be helpful in controlling the cost of the
operations.
Setting
the
standard
or
establishment of standard cost
Standard committee which should be
entrusted with the work of setting
standard costs.
Direct material cost
Determination of standard quantity of
materials needed for the production.
Determination of standard price unit of
material.
Analysis of Variances
Analysis of variance is helpful in controlling the
performance and achieving the profits that have
been planned.
The deviation of the actual cost or profit or sale
from the standard cost or profit or sales is known
as variance.
When actual cost is less than standard cost or
actual profit is better than standard profit, it is
known as favourable variance and such variance
is usually a sign of efficiency of the organization.
When actual cost is more than standard cost or
actual profit or turnover is less than standard
profit or turnover, it is called unfavourable
Variance Analysis
Analysis of Variances
Analysis of variance may be done
in respect of each elements of cost
and sales viz.,
Direct Material Variance
Direct Labour Variance
Overheads Variance
Sales Variance
Analysis of Variances
Direct Material Variance
Material cost variance
Material Price variance
Material usage or quantity
variance
Material mix variance
Material yield variance
Analysis of Variances
Direct Material Cost Variance (DMCV)
It is the difference between the standard cost of
materials allowed for the output achieved and the
actual cost of material used.
DMCV = (Standard cost of materials for actual output)
(-) Actual cost of materials used
DMCV = Direct material price variance (+)
Direct material usage variance
DMCV = Direct material price variance (+)
Material mix variance (+) Material yield
variance
Analysis of Variances
Direct Material Price Variance (DMPV)
It is that portion of the material cost variance
which is due to the difference between the
standard cost of materials used for the output
achieved and the actual cost of material used.
DMPV = Actual usage (standard unit price Actual
unit price)
Actual usage = Actual quantity of materials used
Standard unit price = Standard price of materials per
unit
Actual unit price = Actual price of materials per unit
Analysis of Variances
Direct Material Usage or quantity
variance (DMUV)
It is that portion of material cost variance
which is due to the difference between the
standard quantity of materials specified for
the actual output and the actual quantity of
materials used.
Material usage variance =
Standard price per unit x
(Standard quantity - Actual quantity)
Analysis of Variances
Direct Material Mix Variance
(DMMV)
Material mix variance is the difference
between standard and the actual
composition of a mixture. This
variance arises because the ratio of
materials being changed from the
standard ratio set. It is calculated as
difference between the standard price
of standard mix and standard price of
Analysis of Variances
Actual weight of mix and the standard weight of
mix do not differ
Standard unit cost x (standard quantity
actual quantity)
Standard cost of standard mix ()
Standard cost of actual mix
If the standard is revised due to shortage of a
particular type of material, the material mix
variance is calculated as follows:
Standard unit cost x (Revised standard quantity
Actual quantity)
Standard cost of revised standard mix ()
Standard cost of actual mix
Analysis of Variances
Direct Material Yield Variance
(DMYV)
It is that portion of the material usage
variance which is due to the difference
between the standard yield specified
and the actual yield obtained. This
variance measures the abnormal loss
or saving of materials.
Analysis of Variances
When standard and actual mix do not differ
Yield variance = Standard rate x
(Actual yield Standard yield)
Standard rate = Standard cost of standard mix
Net standard output Standard loss
When actual mix differs from standard mix
Yield variance = Standard rate x
(Actual yield Revised Standard yield)
Standard rate = Standard cost of revised standard
mix
Net standard output
Analysis of Variances
Labour Variances
Labour cost variance
Labour rate variance
Total labour efficiency variance
Labour efficiency variance
Labour idle time variance
Labour mix variance
Labour yield variance
Analysis of Variances
Labour cost variance
It is the difference between the standard cost of labour
allowed for the actual output achieved and the actual cost
of labour employed. It is also known as wages variance.
Labour variance =
(Standard cost of labour Actual cost of labour)
Labour rate variance
It is that portion of the labour cost variance which arises
due to the difference between the standard rate specified
and the actual rate paid.
Labour rate variance =
Actual time taken (Standard rate Actual rate)
Analysis of Variances
Total labour efficiency variance
It is that part of labour cost variance which arises
due to the difference between standard labour
cost of standard time for actual output and
standard cost of actual time paid for.
Total labour efficiency variance =
(Standard time for actual output Actual time
paid for)
Labour efficiency variance
It is that portion of labour cost variance which
arises due to the difference between the standard
labour hours specified for the output achieved
and the actual labour hour spend.
Analysis of Variances
Labour idle time variance
It is suitable to calculate only when there is abnormal
idle time. It is that portion of labour cost variance
which is due to the abnormal idle time of workers.
Idle time variance = (Abnormal idle time x standard
rate)
Labour mix variance
Like materials mix variance and is a part of labour
efficiency variance. The variance shows to the
management as to how much of labour cost variance
is due to the change in the composition of labour force.
Analysis of Variances
Labour mix variance =
Standard cost of standard composition ( )
(Actual time taken)
Standard cost actual composition
(Actual time worked)
Labour yield variance
Like material yield variance and arises due to the difference
between yield that should have been obtained by actual
time utilized on production and actual yield obtained.
Standard labour cost per unit =
Actual yield in units Standard yield in units expected from
the actual time worked on production
Analysis of Variances
Overhead Variance
Overhead cost can be defined as the
difference between the standard cost of
overhead allowed for the actual output
achieved and the actual overheads cost
incurred. Overhead cost variance is under or
over absorption of overheads.
Overhead cost variance =
Actual output x Standard overhead rate per
unit () Actual overhead cost
Analysis of Variances
Overhead cost variance can be classified as :
Variable overhead variance
Variable overhead expenditure variance
Variable overhead efficiency variance
Analysis of Variances
Variable overhead variance
It is the difference between the standard variable
overhead cost allowed for the actual output
achieved and the actual variable overhead cost.
This variance is represented by expenditure
variance only because variable overhead cost will
vary in proportion to production so that only a
change in expenditure can cause such variance.
Actual output x Standard variance overhead rate
(-)
Actual variable overheads
Analysis of Variances
Variable overhead expenditure variance
VOEV = Actual hours worked x
Standard variable overhead rate per hour (-)
Actual variable overhead
Variable overhead efficiency variance
VOEV =
Standard time for actual production
x
Standard variable rate per hour ()
Actual hour worked x Standard variable
overhead rate per hour
Analysis of Variances
Fixed overhead variance
It is that portion of total overheads cost variance which is
due to the difference between the standard cost of fixed
overheads allowed for the actual output achieved and the
actual fixed overhead cost incurred.
FOV = Actual output x Standard fixed overhead
rate per unit ( ) Actual fixed overheads
Expenditure variance
It is that portion of the fixed overhead variance which is due
to the difference between the budgeted fixed overheads and
the actual fixed overheads incurred during a particular
period.
EV = Budgeted fixed overheads () Actual fixed overheads
Analysis of Variances
Volume variance
It is that portion of the fixed overhead variance
which arises due to the difference between the
standard cost of fixed overhead allowed for the
actual output and the budgeted fixed overhead for a
period during which the actual output has been
achieved.
This variance shows the over or under absorption of
fixed overheads during a particular period. If the
actual output is more than the budgeted output,
there is over-recovery of fixed overheads and
volume variance is favourable and vice versa
if
the actual output is less than the budgeted output.
This is so because fixed overheads are not expected
Analysis of Variances
Capacity variance
It is that portion of volume variance which is due to
working at higher or lower capacity than the budgeted
capacity. Capacity variance is related to the under and
over utilization of plant and equipment and arises due
to idle time, strikes and lock-out, breakdown of the
machinery, power failure, shortage of materials and
labour, absenteeism, overtime, changes in number of
shifts. The variance arises due to more or less working
hours than the budgeted working hours.
CV = Standard rate (Revised budgeted unit Budgeted
units)
Analysis of Variances
Calendar variance
It is that portion of the volume variance which is due to
the difference between the number of working days in
the budget period and the number of actual working
days in the period to which the budget is applicable.
If the actual working days are more than the standard
working days, the variable will be favourable and vice
versa if the actual working days are less than the
standard days.
CV = Increase or decrease in production due to
more or less working days at the rate of
budgeted capacity
x Standard rate per unit
Analysis of Variances
Efficiency variance
It is that portion of the volume
variance which is due to the difference
between the budgeted efficiency of
production and the actual efficiency
achieved. This variance is related to
the efficiency of workers and plan.
EV = Standard rate per unit x
(Actual production Standard
production)
Analysis of Variances
Sales Variances
Sales variances have complete analysis of profit
variance because profit is the difference between sales
and cost.
Sales variance may be calculated in two different ways.
The first method of calculating sales variances is profit
method of calculating sales variances and the second is
known as value method of calculating sales variance.
These may be computed so as to show the effort on
profit or to show the effect on sales value.
Sales variance showing the effect on profit are more
meaningful, so these would be considered first.
Analysis of Variances
Profit method of calculating
sales variances
Total sales margin variance
Sales margin variance due to
selling price
Sales margin variance due to
volume
Sales margin variance due to sales
mixture
Analysis of Variances
Value method of calculating
sales volume
Sales value variance
Sales price variance
Sales volume variance
Sales mix variance
Sales quantity variance
Analysis of Variances
Profit method of calculating sales volume
Total sales margin variance
TSMV = (Actual profit Budgeted profit)
Sales margin variance due to selling price
It is that position of total sales margin variance
which is due to the difference between the actual
price of quantity of sale effected and the standard
price of those sales.
TSMV = Actual quantity of sales x
(Actual selling price per unit Standard price per
unit)
Analysis of Variances
Sales margin variance due to volume
It is that portion of total sales margin variance which
arises due to the number of articles sold being more or
less than the budgeted quantity of sales.
SMV = Standard profit per unit x
(Actual quality of sales Budgeted quality of sales)
Sales margin variance due to sales mix
Which arises because of different portion of actual sales
mix. It is taken as different between the actual and
budgeted quantities of each product of which the sales
mixture is composed, valuing the difference of
quantities at standard profit.
Analysis of Variances
SMVSM = Standard profit per unit
x
(Standard proportion for actual sales Budgeted
quantity of sales)
Sales margin variance due to sales quantities
It is that portion of sales margin variance due to
volume which arises due to the difference between
the actual and budgeted quantity sold of each
product.
SMVSQ = Standard profit per unit x
(Standard proportion for actual sales Budgeted
quantity of sales)
Analysis of Variances
Value method of calculating sales variances
Sales value variances
It is the difference between the standard value and
actual value of sales effected during the period.
SVV = (Actual value of sales Budgeted value of sales)
Sales price variance
It is that portion of sales value variance which arises
due to the difference between actual price and standard
price specified.
SPV = Actual quantity sold (Actual price Standard
price)
Analysis of Variances
Sales volume variance
It is that portion of the sales value
variance which arises due to difference
between actual quantity of sales and
standard quantity of sales.
SVV
= Standard price x
(Actual quality Budgeted quality of
sales)