Introduction to Cost Accounting

and Cost Concepts

Introduction to Cost 1
Accounting
 Objective
To Understand:
• Interface of Financial Accounting with Cost
Accounting
• Types of Costs
• Cost Units
• Characteristics of Cost Information
• Costs on Financial Statements
• Cost Behavior and Cost Estimation
• Preparation of Cost Sheet

Introduction to Cost 2
Accounting
 Cost Accounting- Definition
• ‘Classifying, recording and appropriate allocation
of expenditure for the determination of costs, the
relation of these costs to sales value and
ascertainment of profitability’ - Weldon
• ‘A measurement in monetary terms of the
amount of resources used for the purpose of
production of goods or rendering of services’ –
ICWAI (Now ICAI)

Introduction to Cost 3
Accounting
 Contd.
• Cost Accounting is the Classifying, recording
and appropriate allocation of expenditure for the
determination of expenditure for the
determination of the cost of products or services,
and for the presentation of suitably arranged
data for purpose of control and guidance of
Management.

Introduction to Cost 4
Accounting
 Cost Accountancy

Cost Accountancy is the application of costing

and cost accounting principles, methods and
techniques to the science, art and practice of
cost control and the ascertainment of
profitability.
Scope of Cost Accountancy
 Cost Ascertainment
 Cost Accounting
 Cost control
Introduction to Cost 5
Accounting
 Financial Accounting Vs. Cost
Accounting
• Users
• Money measurement
• Macro/micro nature
• Statutory requirements
• Purpose
• Nature
• Time of preparation

Introduction to Cost 6
Accounting
 Cost Accounting

• Cost Accounting lays emphasis on cost

ascertainment, cost control and ascertainment of
profitability of concerns.

• Cost accounting embraces the preparation of

statistical data, the application of cost control methods
and the ascertainment of the profitability of activities
carried out or planned.

Introduction to Cost 7
Accounting
 Interface of Financial Accounting with Cost
Accounting

Financial Accounting Cost Accounting

It provides information about the overall It provides information to the management
performance of the business to the for proper planning, operation and control.
owners of the business and outsiders.

Financial accounts are kept to the fulfill Cost Accounts are kept voluntarily to meet
the requirement of law the requirements of the management

In Financial accounting, classification of In Cost accounting, classification of costs

costs is subjective is objective
Financial accounts are prepared on a Cost accounts are prepared on a need
periodic basis. basis.
Financial statements give an idea about Cost statements provide idea about each
the overall performance of the enterprise. and every product, job or service.

Introduction to Cost 8
Accounting
 Interface of Financial Accounting with Cost
Accounting
Financial Accounting Cost Accounting
Financial statements report the total costs. Cost accounts report the cost per unit.
Financial accounts relate to the cost accounts relate to the transactions
commercial transactions. with in the enterprise like manufacture of
the product, provision of service etc.
Financial accounting deals only with Cost accounting also deals with non-
monetary transactions. monetary information.
Financial accounting data is meant to Cost accounting provides data for fixation
report the profits or losses of the of selling prices.
enterprises.
Financial accounting is based purely on Cost accounting is also based on
facts and figures. estimates.
In Financial accounting, stocks are valued In Cost accounting, the stock is always
at cost or market value, which ever is less valued at cost.
Introduction to Cost 9
Accounting
 Types of Costs

Basis Classification
Nature of Element Materials cost, Labor cost and Overheads cost.
Functions Manufacturing and Production costs, Administrative
costs, and Selling and Distribution costs
Traceability Total cost is divided into direct costs and indirect costs
Variability Fixed cost, Variable cost and semi-variable cost
Controllability Controllable costs and Uncontrollable costs
Normality Normal costs and Abnormal costs
Capital and Revenue or Capital Expenditure and Revenue Expenditure
Financial accounting
classification

Introduction to Cost 10
Accounting
 Types of Costs

Basis
Time
Association with Product
According to Planning and Control
Managerial Decisions
Classification
Historical costs and Predetermined costs
Product cost and Period cost
Budgeted costs and Standards costs
Marginal costs, Out of pocket costs, Differential
costs, Sunk costs, Imputed (or Notional ) costs,
Opportunity cost, Replacement cost, and
Avoidable and Unavoidable costs

Other Costs Future costs, Programmed cost, Joint cost,

Conversion cost, Discretionary costs and
Committed cost

Introduction to Cost 11
Accounting
 Cost Unit and Cost Centers

• Unit of product or service for which cost is ascertained

is known as cost objective or cost object or cost unit.
• In other words A unit of product or service or time in
relation to which cost may be ascertained or
expressed
Cost Unit includes – Products, activities, departments,
number of patients treated, sales regions, etc.
For Example, if a factory produces motor cars then
the cost unit would be a motor car because the costs
are all incurred in producing motor cars
Introduction to Cost 12
Accounting
 Contd.
• Examples showing how cost unit is
expressed:

Product: ton, Kg, liters, Kw. etc.

Service:
Passenger-Km, consulting hours etc.

Introduction to Cost 13
Accounting
 Cost Unit and Cost Centers
• A location or person or item of equipment or a
group for which costs may be ascertained and
used for the purpose of control. -CIMA

• In cost accounting each department would be

called as a cost center.

• Cost centers are departments, but in some

instances, a department may contain several
costs centers.
Introduction to Cost 14
Accounting
 Characteristics of Cost Information
• Cost accounting provides information that helps
planning, control and decision making.

• Cost data is gathered from the information about the

operations to determine the costs which are related to
each cost center.

• Costs accumulated in each cost center are then

“loaded” or distributed over the cost units produced by
them.

Introduction to Cost 15
Accounting
 Characteristics of Cost Information
• Tracing of costs is an attempt to assign costs on the
basis of their cause. Tracing of costs is essential for
two primary reasons: the cost control and product
costing.

• Process of assigning the costs in the cost pool to the

cost objects is called cost allocation or cost
distribution.

• Cost driver is an output measure that causes costs.

Introduction to Cost 16
Accounting
 Costs on Financial Statements
• Generally Accepted Accounting Principles (GAAP)
determines how costs are to be classified for financial
reporting.
• Product costs are identified with goods manufactured
or purchased for resale, they include all manufacturing
costs.
• Period costs are identified with a time period rather
than a product, they include selling, administrative and
interest costs.

Introduction to Cost 17
Accounting
 Cost Behavior and Cost Estimation
• Organization’s cost behavior enables managers to
anticipate changes in cost when the organization’s
level of activity changes.
• Cost predictions are valid for a range of activity known
as relevant range. Relevant range is the range of
activity for which the fixed costs remain the same.
• Variety of cost behavior patterns exist, ranging from
simple variable and fixed costs to more complicated
semi-variable and curvilinear costs.
Introduction to Cost 18
Accounting
 Elements of Cost
• Cost
• It is the amount of resources given up in exchange for
some goods or services

• The following are the elements of cost, they include;

Material
Labor and
Overheads - Indirect
Introduction to Cost 19
Accounting
 Elements of Cost

1. Material
I. Direct
II. Indirect
• 2.Labour
I. Direct
II.Indirect
• 3.Other Expenses
I. Direct
II.Indirect

• All Indirect Elements are known as Overheads

Introduction to Cost Accounting 20
 Overheads
 Production or Works Overheads
(Indirect Material, Indirect Labor and Indirect
Expenses related to Factory/Production)

 Administration Overheads
(All Indirect Expenses related to Administration)

 Selling Overheads & Distribution Overheads

(All Indirect Expenses related to S&D)
Introduction to Cost 21
Accounting
 Statement of Cost or Cost Sheet
• Total cost is made up of cost of production and cost of
distribution. Total cost is also called as selling cost,
which consists of:
– Prime cost
– Factory cost or work cost
– Administration cost or Office Overheads
– Selling and Distribution Cost.

Introduction to Cost 22
Accounting
 Proforma of Cost Sheet

• Cost sheet is a statement designed to show the output

of a particular accounting period along with break up
of costs.

• According to ICMA, London, the cost sheet is ‘a

statement which provides for the assembly of the
detailed cost of a cost center or a cost unit’.

Introduction to Cost 23
Accounting
 Cost Sheet or Statement of Cost
• Cost Sheet is a statements designed to show
the output of a particular accounting period
along with break-up of cost.
• Objectives
1. To Disclose the total cost and cost per unit
2. To control over the cost of production
3. Comparative study (present and past results)
4. Fixing the Selling Price of a product
5. Preparation of Quotations.

Introduction to Cost 24
Accounting
 Cost sheet of ---- for the year ended ----
Particulars Rs. Per Unit
Opening Stock of Raw Material xxxx
Add: Purchase of Raw Material xxx
Xxxx
Less: Closing Stock of Raw Material xxx
Raw Material Consumed xxx xxx
Add: Direct Labor xxx xxx
Direct Expenses xxx xxx
Prime Cost xxxx xxx
Add: Factory of Works Over heads xxx xxx
Add: Opening Stock of Work-in-Progress xxx xxx
Less Closing Stock of Work-in-progress xxx xxx
Less: Sale of Scrap xx xx
Factory or Works Cost xxxx xxx
Add: Office and Administration Over heads xxx xxx
Cost of Production xxxx xxx

Introduction to Cost 25
Accounting
Add: Opening Stock of Finished Goods xxx xxx
Less: Closing stock of Finished Goods xxx xxx
Cost of Goods Sold xxxx xxxx
Add: Selling and Distribution Overheads xxx xxx
Cost of Sales or Total Cost xxxx xxx
Profit xxx xxx
Sales xxxxx xxxx

Introduction to Cost 26
Accounting
• PRIME COST
Prime cost consists of Direct Materials, Direct Labor and Direct
Expenses.
• PRIME COST = Direct Material + Direct Labor + Direct Expenses
• WORKS COST
Works Cost consists of Prime cost plus works or factory overheads.
• WORKS COST = Prime Cost + Works or Factor Overheads
• COST OF PRODUCTION
Cost of production consists of Works cost and Administration over
heads
• COST OF PRODUCTION = Works Cost + Administration
Overheads
• TOTAL COST OR COST OF SALES
The term Total Cost consists of Cost of Production and selling and
distribution over heads.
• TOTAL COST = Cost of Production + Selling and distribution
overheads
Introduction to Cost 27
Accounting
 Tenders or Quotations

• Tender or Quotation means quoting prices for the

supply of the commodities or for the service to be
rendered by the produced in response to the
advertisement.

• Possible adjustments in prices of material, wages and

other cost should be considered before preparing the
tender.

Introduction to Cost 28
Accounting
 Techniques of Costing
In addition to the different methods of costing, the
following techniques are used to ascertain costs:
• Historical Costing
• Absorption Costing
• Marginal Costing
• Direct Costing
• Standard Costing
• Uniform Costing

Introduction to Cost 29
Accounting
 Summary
• Cost Accounting lays emphasis on cost
ascertainment, cost control and ascertainment of
profitability of concerns.

• Costs are based on nature of element, function,

direct/indirect, variability, controllability, normality,
capital/revenue, time, planning and control,
managerial decisions etc.

• Unit of product or service for which cost is ascertained

is known as cost objective or cost object or cost unit.
Introduction to Cost 30
Accounting
 Summary

• Cost accounting provides information that helps

planning, control and decision making.

• Generally Accepted Accounting Principles (GAAP)

determines how costs are to be classified for financial
reporting.

• Understanding an organization’s cost behavior

enables managers to anticipate changes in cost when
the organization’s level of activity changes.
Introduction to Cost 31
Accounting