cost accounting class

cost accounting class

The Importance and Application of Cost Accounting in Business

1. Introduction to Cost Accounting

Cost accounting methods and techniques differ from one industry to another and from one firm to another. This is the reason why cost accounting is called a systematic or practical branch of accounting. Although much of modern cost accounting has grown in the industrial climate, the underlying principles of cost accounting can be applied to such diverse fields as agriculture, engineering construction, service firms, government departments, and sewage disposal. To set up a costing system for a business firm, it is important to determine the following factors: the management’s authority to issue and enforce instructions, and the needs of managers and higher officials for data which they may employ for their decision-making and control responsibilities. The nature of these decision-making and control responsibilities will vary from business to business.

Cost accounting is concerned with providing information about the costs of operations. Hence, it may be defined as a specialized accounting system that is not concerned with general-purpose financial accounting and its audited reports. Cost accounting is concerned with the classification, allocation, and control of expenditure. It is also concerned with the effective and efficient control of production costs, operational costs, and the costs relating to the management of business undertakings. The data being accumulated, computed, and reported in cost accounting are not required to be uniform and are, therefore, not subject to the requirement of generally agreed principles.

2. Key Concepts and Principles of Cost Accounting

Every managerial analysis must be focused around a key factor, the concept whose effects justify further studies. Only one key factor must be considered at one time. The differentiation of key factors that occurs when the decision-making problem is analyzed in every managerial center generates, in turn, a broadening of the nicety of the understanding. The unit cost calculus only explores the cost’s behavior patterns. Other analytical processes need to study the effects of alternative lines of action. The steps necessary are launching the comparatively most advantageous alternative course. Only a fragmented analysis, realizable through the separation of the centers of responsibilities, may connect to the arbitrary decisions. Data are fundamental for the achievement of properly accurate details; a good management information aids, however, the need for simplification and selection in the planning and control phases.

The functional departments of industrial and marketing activities have different productive processes and pursue different objectives. The accounting information used for management’s decision-making should accommodate these different functions. Management accounting has evolved two branches: cost accounting, which aims at controlling activities, and profit accounting, which centers on profit improvement. Cost accounting is oriented to meet the needs of the company’s internal departments; it is often referred to as management accounting. In cost accounting, costs are classified to match overhead items with products according to a suitable standard of apportionment, support cost reduction and value engineering, and target savings. The branch of management accounting that aims at increasing a company’s profitability has as its primary goals the methods of calculating production costs necessary for determining the earnings from manufacturing.

Cost accounting is a method of accounting designed to help the business owner and managers make the best decisions. The notion of maximizing profits is central to cost accounting. That is, cost accounting provides key information for both profit-centered and profit-motivated enterprises, but is especially important in the case of the latter. In this business, attention tends to be sharply concentrated on maximizing profits, and in making decisions, cost becomes the determinant factor. But cost accounting is a matter of concern with any business interested in making a satisfactory and realistic profit in terms of both business ability and the capital risked, investment risked, and potential profit.

3. Costing Methods and Techniques

3. Costing Methods and Techniques Industrial or manufacturing costs are classified and accumulated according to some techniques and principles to come to a common platform where any cost-conscious expertise can interpret them to understand the various costs of a particular product at any specified point in time. The fundamentals guiding the theory and practice of cost allocation are Demand for Information, to which Allocations are Portable and accurately reflect underlying economics. When one or both of these grounds no longer hold, the Costs of Distorted Incentives must be compared with the Benefits of Reducing Dissonance. If the Costs are higher, it may well be preferable to let allocation discretion prevail, without the guidance of exact cost data. Sometimes there may be such disturbing interrelation among the departmental or cost unit operations that isolation of data and cost accumulation becomes extremely difficult for highly sophisticated engineering products. Then the process of cost determination in terms of actual factors, with the help of computers, and a part is apportioned and a part is absorbed on any imaginable rational basis which reflects the correct influence of cost-stressing activities from the larger planned operations.

Introduction: Two types of business units, operating in various sectors of the economy, provide goods and services. These business units are termed as Non-Industrial Business Units (NIBU) and Industrial Business Units (IBU). The examples of NIBU are banks, insurance companies, transporters, hospitals, theaters, and other public utilities, while IBUs are engaged in the manufacturing of diverse items at varying degrees of sophistication. Manufacturing units purchase raw materials, components, etc. and convert them into finished goods with the help of labor, plant, and machinery. Sometimes, for more sophisticated products, the same items pass through several processes. According to Gabriel Lazarsfeld and his associates, all these functions at different levels in the production process, and their functions must somehow be characterized in the records and accounts of the producers. The term “cost accounting” is used to identify this function in business organizations.

4. Cost Accounting in Decision Making

Management will have to answer questions like: should production continue as is, should they divert it to other lines of production or introduce others, will they raise or lower selling prices; should surplus capacity be eliminated and should capital assets be replaced? However, these decisions must be based on a complete understanding of all the variable operating factors that influence firm activities and these factors rest on cost accounting techniques; they both rest on cost accounting principles, techniques, and analyses. Therefore, all decisions have an element of cost involved. Consequently, in order to make sound decisions, they must be based on a clear understanding of all the significant costs associated with a particular decision. The value of certain elements of the cost accounting data vary among themselves under the decision-making circumstances. Such data are always represented in terms of money. The cost accounting data are, therefore, neither theoretical nor actual; they are determinable.

The scope of cost accounting analysis has been extended to decision making. This is because of the complexity of the modern business. In a business undertaking where different products and services are produced or rendered, so many factors have to be taken into consideration while making decisions. The management would like to know whether a certain line of production should be continued, reduced or expanded. The management would like to know whether production is profitable or not. As such, cost accounting system is designed to provide information which influences management decisions. No management decision is free from the influence of cost accounting data. It will be impossible for the management to make important decisions such as: make or buy, competitive decision, product decisions, pricing, and replacement of assets without the use of cost accounting.

5. Advanced Topics in Cost Accounting

Topics in this section: – 5.1 Overhead Systems: Multiple Predetermined Overhead Allocation Rates – 5.2 Standard Costs – 5.3 Quality Control – 5.4 Process Costing – 5.5 Joint Costs: Profit-Maximizing Pricing in the Presence of Joint Products – 5.6 Segment Information: Profit Maximization in a Decentralized Organization: An Introduction to Segment Income Statements.

In this section, we consider a number of advanced topics in cost accounting. We begin by providing an in-depth explanation of overhead systems and the computation of the predetermined overhead allocation rate. We then examine standard costs and the providing of variance analysis, discuss the importance of quality control, and explain process costing. We end this section with a brief introduction to joint costs, the price battles among firms, and the construction of segmented income statements.