product cost accounting

product cost accounting

The Importance and Strategies of Product Cost Accounting in Modern Business Operations

1. Introduction to Product Cost Accounting

Yet, in fact, cost analysis and control is a wholly essential part of the production-design-use cycle. Because businesses rise out of their use of resources to their provision into the form that consumers purchase, there must be some concomitants that will tell decision makers how to achieve the event. Nevertheless, far too many companies attempt to provide information about costs without devoting anything like sufficient time to the consideration of what these costs are and of the purposes proposed uses of the information. Accountants, who have or should have a far better basis than any other group, and making only a superficial attempt to serve the impressions of the other group, have lost sight of the primary importance of their own professional knowledge. The finance area has taken over the concern cost accounting with providing temporary few temporary needs. Since the specialized grouping and saying of cost processes utilizes much, if not most, of the organization’s accounting mechanisms, cost accounting should be, at most, equal concern with financial accounting.

With its insistent demands for decision making, business not only steadily increases its claims upon the artificial aids it has developed for purposes of gathering and presenting reliable information, but also seeks new methods and techniques. All of the specialized branches of accounting – cost accounting, budgeting, internal reporting, material control and ordering, credit – and no less importantly than these, external reporting and the matters distinctively in the realm of financial accounting, such as the making of the balance sheet, profit and loss statement, and cash flow statement – have a steadily increasing importance as businesses themselves grow and change. Just as people may become so thoroughly engrossed in the provision of goods and services or in the happy or profitable consumption of these that they come to exclude all consideration for what the price should be, so too accountants may come to be occupied for long periods of time without much concern about either the final uses of the product.

2. Key Concepts and Components of Product Cost Accounting

Costs are measurable sacrifices of resources. In the context of business, costs are usually measured in terms of monetary units. Direct, indirect and joint costs are the familiar categories into which costs incurred in producing a desired product are classified. Quite a number of techniques are used to arrive at both cost allocation and cost apportionment in respect of indirect costs. The objective of such allocation and apportionment is to fix a value of these costs to the different products that produce or consume them. The desired output of such processes is the conversion of non-monetary transactions or information to their monetary equivalent, for easy, practical aggregation and cost assignment. While fixed costs are invariant with respect to level of output, variable costs vary directly and proportionally with the production and should therefore receive over-representation during the cost accumulation process. Costs can be classified by behavior patterns or their association with respect to a particular internal profit or investment center.

Awareness about operational outcomes is recognized as a fundamental necessity for both profit-motivated and not-for-profit business organizations. One of the most basic building blocks for the preparation of such useful information is the knowledge of the costs of products. Product cost information in the modern business scenario is necessarily required to be multi-dimensional, viz, valuation for financial reporting, control and performance evaluation. Cost accounting should therefore design processes that adequately collect, summarize, and report these myriad forms of product cost information.

3. Methods and Techniques for Calculating Product Costs

The huge variety of specific forms in which this component can appear, and the unique features that determine variation in specific costs place it in the forefront of managerial accounting importance.

The value of the labor component is more difficult to calculate, but the variety of possible calculation methods also provides a significant advantage in this case. Such opportunities in the structure and growth of possible labor cost items show the modern general level of labor flexibility, and the average wage in the workplace. However, most of the variety of possible options for calculating the expense component will become apparent only after a thorough audit of the enterprise. Moreover, it is the discrepancies between the standard and actual values of the expense component that call for such an audit.

The method of calculating the cost of the materials needed to create a product is simple, clear and well-defined in the normative legal documents, which significantly facilitates the life of accountants when the time comes to calculate the cost of specific products. The technological process cost can also be taken from standard documents in the relevant industry. The value of this component can easily be planned and monitored at all stages of the production cycle. The simplicity of the calculations nevertheless leads to certain inaccuracies and the necessity of additional control over the process of calculating the actual value of the component.

The classic approach provides for the calculation of the product cost as the sum of three blocks, which include: the price of materials; the amount of labor; the amount of expense. Each of these components is determined by a wide variety of methods and techniques. In addition, the classic approach provides for the calculation of production cost by methods that do not consider the redistribution of overhead costs as part of this component. Furthermore, it is this approach that is most widely used in the craft industry.

4. Benefits and Applications of Product Cost Accounting

The product cost accounting serves to be a crucial decision aid to the top management in planning and operating function of these organizations as the needs of the management are largely concerned in relation to product cost. The accounting system follows certain procedures and accounting techniques to measure the product cost. Thus, it presents helpful ideas to interested parties with useful information about actual facts. The primary users of such information are the management and the operating personnel at different levels, who largely operate either as a principal or management. However, these accounting data are utilized by other parties, e.g. the government to safeguard protection of investors and creditors by disclosing needed information regarding profitability situations.

It is the ultimate aim of every organization to minimize the cost of production and at the same time achieve the planned objectives such as increased efficiency, maximizing profits, reputation, and goodwill in the market, and so on. The product cost accounting system helps in achieving this objective by comparing the actual cost of producing a product with the costs as predetermined. Thus, it acts as an effective subsidiary to the business organization by effective utilization of resources at different levels. It aids the concern in several ways to know the following.

1. Serves as a tool of cost control. 2. Aids in fixation of sales prices. 3. Basis for segmentation and price fixation for different services. 4. Provides data for performance evaluation of key workers. 5. Includes a sound procedure for pricing work valuation. 6. Determines excess capacity. 7. Highlights cost variations. 8. By service-wise costing, induces management diligence. 9. By quantifying services rendered, helps service managers for better return. 10. A tool in control of revenues and aids financial statement analysis.

The following list includes some of the important benefits of product cost accounting:

5. Challenges and Solutions in Implementing Product Cost Accounting

Enterprises implement different product cost accounting systems and procedures to some extent of complexity to achieve common cost accounting objectives. Indeed, cost accounting, as displayed in Table I, has a number of valuable and necessary purposes in the decision-making process. The consensus is that it is virtually certain that a business would increasingly change its operating techniques as the environment of the product market and factory itself continues to evolve over time.

The anticipation has no implications on management strategies. For example, creating development plans involving both local and expatriate staff into the company, establishing a strategic partnership with the university to gain required knowledge and expertise, enhancing activity-based management capabilities, and reviewing the existing information system accordingly.

Challenges that are anticipated include the scarcity of accounting capabilities and a lack of understanding of the relationships of several factors related to product cost accounting processes. This creates the perception that many feasibility studies or best practices have almost the same benefit. Consequently, the magnitude of the benefits that can be derived is not too significant.

The shift toward implementing operations regarding MNCs developed in underdeveloped countries, such as Indonesia, tends to result in them facing a higher level of dependency. However, the consensus is that to ensure business sustainability, the dependency can be minimized through improving business competitiveness by reducing operational costs and implementing product cost accounting.