Fundamentals of Cost Accounting

 



Learning Objectives

·         Define cost accounting and distinguish it from financial accounting.

·         Understand the objectives and importance of cost accounting.

·         Identify key elements of cost.

·         Appreciate the role of cost accounting in decision-making.

1. Introduction to Cost Accounting

Cost accounting is the process of recording, classifying, analyzing, summarizing, and allocating costs associated with a process, and then developing various courses of action to control the costs.

"Cost accounting is the technique and process of ascertaining costs. It is the formal mechanism by means of which costs of products or services are ascertained and controlled." — Wheldon (1953)

2. Differences Between Cost Accounting and Financial Accounting

Feature

Financial Accounting

Cost Accounting

Objective

To show the financial position

To compute cost and aid decision-making

Users

External (investors, government)

Internal (management)

Reports

Income Statement, Balance Sheet

Cost Sheets, Variance Reports

Time Orientation

Historical

Past, present, and future

3. Objectives of Cost Accounting

1.       Cost Ascertainment: To determine the cost of products, services, or operations.

2.       Cost Control: To compare actual costs with standards and find out variances.

3.       Cost Reduction: To identify wastage and unnecessary expenditures.

4.       Decision Making: To support managerial decisions on pricing, product mix, outsourcing, etc.

4. Importance of Cost Accounting

·         Helps in budgeting and cost control.

·         Assists in setting selling prices.

·         Aids in performance evaluation.

·         Supports strategic decision-making.

·         Ensures optimum utilization of resources.

5. Elements of Cost

The total cost of a product is composed of three main elements:

·         a) Direct Costs

- Direct Material: Raw materials directly traceable to the product.

- Direct Labor: Wages of workers directly involved in production.

- Direct Expenses: Expenses specifically incurred for the product.

·         b) Indirect Costs (Overheads)

- Factory Overheads: Indirect materials, labor, utilities.

- Administrative Overheads: Office salaries, rent, depreciation.

- Selling & Distribution Overheads: Advertising, delivery costs.

6. Cost Classification

Costs may be classified:

- By behavior: Fixed, Variable, Semi-variable

- By function: Production, Administration, Selling

- By traceability: Direct vs. Indirect

- By relevance: Relevant vs. Irrelevant

7. Cost Accounting Cycle

5.       Identifying costs

6.       Recording in cost sheets

7.       Classifying and analyzing

8.       Preparing reports

9.       Decision-making support

Example: Cost Sheet Format

Particulars

Amount (Rs.)

Direct Material

40,000

Direct Labor

25,000

Direct Expenses

5,000

Prime Cost

70,000

Add: Factory Overheads

10,000

Factory/Works Cost

80,000

Add: Administrative Overheads

5,000

Cost of Production

85,000

Add: Selling & Distribution Overheads

10,000

Total Cost / Cost of Sales

95,000

Summary

·         Cost accounting provides essential information to internal management.

·         It differs from financial accounting in purpose and scope.

·         Knowing cost elements is crucial for cost control and pricing decisions.

References

1.       Horngren, C. T., Datar, S. M., & Rajan, M. (2018). Cost Accounting: A Managerial Emphasis (15th ed.). Pearson Education.

2.       Drury, C. (2013). Management and Cost Accounting (8th ed.). Cengage Learning.

3.       Maheshwari, S. N., & Mittal, S. N. (2017). Cost Accounting: Theory and Problems. Shree Mahavir Book Depot.

4.       ICMA Pakistan. (2020). Cost Accounting Manual. Institute of Cost and Management Accountants of Pakistan.


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