Cost Accounting Essay

OriginsAll types of businesses, whether service, manuf soururing or trading, require apostrophize be to track their activities.1 monetary value accounting has long been used to help managers witness the be of running a business. Modern constitute accounting originated during the industrial revolution, when the daedalities of running a large scale business led to the development of systems for recording and tracking be to help business owners and managers flip decisions. In the previous(predicate) industrial age, most of the be incurred by a business were what modern accountants call variant be because they varied directly with the numerate of production.citation needed M maviny was spent on labor, raw materials, power to run a factory, etc. in direct ratio to production. Managers could simply inwardness the variable be for a product and use this as a rough guide for decision-making processes. Some tolls tend to bear the same even during busy periods, unlike variable equals, which rise and fall with volume of work. Over time, these frigid costs have become more big to managers.Examples of opinionated costs include the depreciation of plant and equipment, and the cost of de fall inments such as maintenance, tooling, production control, purchasing, quality control, storage and handling, plant supervision and engineering.2 In the early nineteenth century, these costs were of little importance to most businesses. However, with the growth of railroads, steel and large scale manufacturing, by the late nineteenth century these costs were a great deal more important than the variable cost of a product, and allocating them to a broad range of products lead to bad decision making. Managers must understand fixed costs in order to make decisions about products and pricing.For example A ships guild produced railway coaches and had exactly oneness product. To make each coach, the attach to needed to bribe $60 of raw materials and components, and p ay 6 laborers $40 each. Therefore, total variable cost for each coach was $300. Knowing that making a coach ask spending $300, managers knew they couldnt sell below that price without losing money on each coach. Any price above $300 became a contri thoion to the fixed costs of the company. If the fixed costs were, say, $1000 per month for rent, insurance and owners salary, the company could therefore sell 5 coaches per month for a total of $3000 (priced at $600 each), or 10 coaches for a total of $4500 (priced at $450 each), and make a profit of$500 in both cases.Cost Accounting vs monetary AccountingSee in like manner Financial accountingFinancial accounting aims at finding out results of accounting year in the form of addition and Loss Account and Balance Sheet. Cost Accounting aims at computing cost of production/service in a scientific manner and urge cost control and cost reduction. Financial accounting reports the results and position of business to government, creditors, investors, and external parties. Cost Accounting is an internal reporting system for an nerves own worry for decision making. In financial accounting, cost classification based on type of transactions, e.g. salaries, repairs, insurance, stores etc. In cost accounting, classification is fundamentally on the basis of functions, activities, products, process and on internal planning and control and nurture needs of the organization. Financial accounting aims at presenting authorized and fair trip up of transactions, profit and loss for a period and Statement of financial position (Balance Sheet) on a given date. It aims at computing true and fair perspective of the cost of production/services offered by the firm.3(In some companies, machine cost is segregated from overhead and reported as a separate element)Classification of costsClassification of cost means, the grouping of costs according to their common characteristics. The important ways of classification of costs argon 1. By Element There are three elements of costing i.e. material, labor and expenses. 2. By Nature or TraceabilityDirect Costs and validatory Costs. Direct Costs are Directly attributable/ attributable to Cost Object. Direct costs are assigned to Cost Object. Indirect Costs are non directly attributable/traceable to Cost Object. Indirect costs are allocated or apportioned to cost objects. 3. By Functions production,administration, selling and distribution, R&D. 4. By Behavior fixed, variable, semi-variable. Costs are classified according to their look in relation to change in relation to production volume within given period of time. Fixed Costs remain fixed irrespective of changes in the production volume in given period of time. Variable costs change according to volume of production. Semi-variable Costs costs are part fixed and partly variable. 5. By control ability controllable, uncontrollable costs. Controllable costs are those which can be controlled or influenced by a cogn izant management action.Uncontrollable costs cannot be controlled or influenced by a conscious management action. 6. By normality normal costs and abnormalcosts. convening costs arise during routine day-to-day business trading operations. Abnormal costs arise because of any abnormal activity or event not part of routine business operations. E.g. costs arising of floods, riots, accidents etc. 7. By Time Historical Costs and predetermine costs. Historical costs are costs incurred in the past. Predetermined costs are computed in advance on basis of factors affecting cost elements. Example Standard Costs. 8. By Decision making Costs These costs are used for managerial decision making. Marginal Costs Marginal cost is the change in the aggregate costs due to change in the volume of output by one unit. Differential Costs This cost is the difference in total cost that will arise from the selection of one alternative to the other.Opportunity Costs It is the value of benefit sacrificed in favor of an alternative blood of action. Relevant Cost The relevant cost is a cost which is relevant in various decisions of management. Replacement Cost This cost is the cost at which existing items of material or fixed assets can be replaced. hence this is the cost of replacing existing assets at present or at a future date. Shutdown CostThese costs are the costs which are incurred if the operations are shut down and they will disappear if the operations are continued. Capacity Cost These costs are normally fixed costs. The cost incurred by a company for providing production, administration and selling and distribution capabilities in order to perform various functions.Other CostsStandard cost accountingIn modern cost account of recording historical costs was taken further, by allocating the companys fixed costs over a given period of time to the items produced during that period, and recording the result as the total cost of production. This allowed the full cost of products th at were not sold in the period they were produced to be recorded in inventory using a variety of complex accounting methods, which was consistent with the principles of GAAP (Generally Accepted Accounting Principles). It also essentially enabled managers to disregard the fixed costs, and look at the results of each period in relation to the standard cost for any given product. For example if the railway coach company normally produced 40 coaches per month, and the fixed costs were still $1000/month, then each coach could be said to incur an Operating Cost/overhead of $25 =($1000 /40). Adding this to the variable costs of $300 per coach produced a full cost of $325 per coach.This method tended to slightly distort the resulting unit cost, but in mass-production industries that made one product line, and where the fixed costs were relatively low, the distortion was very minor. For example if the railway coach company made 100 coaches one month, then the unit cost would become $310 per coach ($300 + ($1000 / 100)). If the next month the company made 50 coaches, then the unit cost = $320 per coach ($300 + ($1000 / 50)), a relatively minor difference. An important part of standard cost accounting is a variance analysis, which breaks down the stochastic variable between actual cost and standard costs into various components (volume variation, material cost variation, labor cost variation, etc.) so managers can understand why costs were antithetical from what was planned and take appropriate action to correct the situation. The development of throughput accountingMain article Throughput accountingAs business became more complex and began producing a greater variety of products, the use of cost accounting to make decisions to maximize profitability came into question. Management circles became increasingly aware of the Theory of Constraints in the 1980s, and began to understand that every production process has a limiting factor somewhere in the chain of production. As business management learned to identify the constraints, they increasingly adopted throughput accounting to manage them and maximize the throughput dollars (or other currency) from each unit of constrained resource. Throughput accounting aims to make the best use of scarce resources(bottle neck) in a JIT environment.4Mathematical formulaActivity-based costingMain article Activity-based costingActivity-based costing (first principle) is a system for assigning costs to products based on the activities they require. In this case, activities are those regular actions performed inside a company.5 Talking with customer regarding invoice questions is an example of an activity inside most companies. Companies whitethorn be moved to adopt ABC by a need to improve costing accuracy, that is, understand better the true costs and profitability ofindividual products, services, or initiatives. ABC gets closer to true costs in these areas by turning many costs that standard cost accounting view s as indirect costs essentially into direct costs. By contrast, standard cost accounting typically determines so-called indirect and overhead costs simply as a theatrical role of certain direct costs, which may or may not reflect actual resource usage for individual items. Under ABC, accountants assign 100% of each employees time to the different activities performed inside a company (many will use surveys to have the workers themselves assign their time to the different activities).The accountant then can determine the total cost spent on each activity by summing up the percentage of each workers salary spent on that activity. A company can use the resulting activity cost data to determine where to focus their operational improvements. For example, a job-based manufacturer may find that a high percentage of its workers are spending their time trying to figure out a hastily written customer order. Via ABC, the accountants now have a currency amount pegged to the activity of Researc hing Customer Work Order Specifications. Senior management can now decide how much focus or money to budget for result this process deficiency. Activity-based management includes (but is not restricted to) the use of activity-based costing to manage a business.While ABC may be able to pinpoint the cost of each activity and resources into the ultimate product, the process could be tedious, costly and subject to errors. As it is a tool for a more accurate way of allocating fixed costs into product, these fixed costs do not vary according to each months production volume. For example, an elimination of one product would not eliminate the overhead or even direct labor cost assigned to it. ABC better identifies product costing in the long run, but may not be too helpful in day-to-day decision-making.Integrating EVA and Process Based CostingRecently, Mocciaro Li Destri, Picone & Min (2012).6 proposed a carrying into action and cost measurement system that integrates the Economic Value A dded criteria with Process Based Costing (PBC). The EVA-PBC methodology allows us to implement the EVA management logic not only at the firm level, but also at lower levels of the organization. EVA-PBC methodology plays an interesting role in bringing strategy back into financial doing measures.Lean accountingMain article Lean accountingLean accounting7 has developed in recent years to countenance the accounting, control, and measurement methods supporting flow manufacturing and other applications of lean thinking such as healthcare, construction, insurance, banking, education, government, and other industries. There are two main thrusts for Lean Accounting. The first is the application of lean methods to the companys accounting, control, and measurement processes. This is not different from applying lean methods to any other processes. The objective is to eliminate waste, free up capacity, speed up the process, eliminate errors & defects, and make the process clear and understan dable.The second (and more important) thrust of Lean Accounting is to fundamentally change the accounting, control, and measurement processes so they motivate lean change & improvement, provide information that is suitable for control and decision-making, provide an reasonableness of customer value, correctly assess the financial impact of lean improvement, and are themselves simple, visual, and low-waste. Lean Accounting does not require the traditional management accounting methods like standard costing, activity-based costing, variance reporting, cost-plus pricing, complex transactional control systems, and untimely & confusing financial reports. These are replaced bylean-focused performance measurementssimple summary direct costing of the value streamsdecision-making and reporting using a box scorefinancial reports that are timely and presented in plain English that everyone can understand radical simplification and elimination of transactional control systems by eliminating th e need for them driving lean changes from a deep understanding of the value created for the customers eliminating traditional budgeting through monthly sales, operations, and financial planning processes (SOFP) value-based pricingcorrect understanding of the financial impact of lean change As an organization becomes more mature with lean thinking and methods, they recognize that the combined methods of lean accounting in fact creates a lean management system (LMS) intentional to provide the planning, theoperational and financial reporting, and the motivation for change required to prosper the companys on-going lean transformation.Marginal costingSee also Cost-Volume-Profit outline and Marginal costThe cost-volume-profit analysis is the systematic examination of the relationship between selling prices, sales, production volumes, costs, expenses and profits. This analysis provides very useful information for decision-making in the management of a company. For example, the analysis can be used in establishing sales prices, in the product mix selection to sell, in the decision to choose selling strategies, and in the analysis of the impact on profits by changes in costs. In the current environment of business, a business administration must act and take decisions in a fast and accurate manner. As a result, the importance of cost-volume-profit is still increasing as time passes.CONTRIBUTION borderA relationship between the cost, volume and profit is the contribution circumference. The contribution leeway is the revenue excess from sales over variable costs. The concept of contribution moulding is particularly useful in the planning of business because it gives an insight into the potential profits that a business can generate. The following chart shows the income statement of a company X, which has been prepared to show its contribution marginSales$1,000,000(-) Variable Costs$600,000Contribution Margin$400,000(-) Fixed Costs$300,000Income from Operations$100 ,000CONTRIBUTION MARGIN RATIOThe contribution margin can also be expressed as a percentage. The contribution margin ratio, which is sometimes called the profit-volumeratio, indicates the percentage of each sales dollar available to cover fixed costs and to provide operating revenue. For the company Fusion, Inc. the contribution margin ratio is 40%, which is computed as followsThe contribution margin ratio measures the effect on operating income of an increase or a decrease in sales volume. For example, assume that the management of Fusion, Inc. is studying the effect of adding $80,000 in sales orders. Multiplying the contribution margin ratio (40%) by the change in sales volume ($80,000) indicates that operating income will increase $32,000 if additional orders are obtained. To sustain this analysis the table below shows the income statement of the company including additional ordersSales$1,080,000(-) Variable Costs$648,000 (1,080,000 x 60%)Contribution Margin$432,000 (1,080,000 x 40%)(-) Fixed Costs$300,000Income from Operations$132,000Variable costs as a percentage of sales are equal to 100% minus the contribution margin ratio. Thus, in the above income statement, the variable costs are 60% (100% 40%) of sales, or $648,000 ($1,080,000 X 60%). The total contribution margin $432,000, can also be computed directly by multiplying the sales by the contribution margin ratio ($1,080,000 X 40%).See alsoAccountancyCost infestFixed asset turnoverManagement accountingIT Cost TransparencyKaizen costingProfit modelReferences1. Principles of Cost Accounting Edward J. Vanderbeck Google Books. Books.google.co.uk. Retrieved 2013-03-01. 2. Performance management, Paper f5. Kapalan make UK. Pg 3 3. Cost and Management Accounting. Intermediate. ICA. p. 15. 4. Performance management, Paper f5. Kapalan publishing UK. Pg 17 5. Performance management, Paper f5. Kaplan publishing UK. Pg 6 6. Mocciaro Li Destri A., Picone P. M. & Min A. (2012), Bringing schema Back into Financ ial Systems of Performance Measurement Integrating EVA and PBC, Business System Review, Vol 1., Issue 1. pp.85-102. 7. Maskell & Baggaley (December 19, 2003). Practical Lean Accounting. Productivity Press, New York, NY. Books and journalsMaher, Lanen and Rahan, Fundamentals of Cost Accounting, 1st Edition (McGraw-Hill 2005). Horngren, Datar and Foster, Cost Accounting A Managerial Emphasis, 11th edition (Prentice Hall 2003). Consortium for Advanced Manufacturing-InternationalKaplan, Robert S. and Bruns, W. Accounting and Management A celestial orbit Study Perspective (Harvard Business School Press, 1987) ISBN 0-87584-186-4 Sapp, Richard, David Crawford and Steven Rebishcke Article title? journal of Bank Cost and Management Accounting (Volume 3, Number 2), 1990. Author(s)? Article title? Journal of Bank Cost and Management Accounting (Volume 4, Number 1), 1991. External linksAccounting Systems, introduction to Cost Accounting, ethics and relationship to GAAP.National Conference on College Cost AccountingCost accounting is a process of collecting, analyzing, summarizing and evaluating various alternative courses of action. Its goal is to advise the management on the most appropriate course of action based on the cost efficiency and capability. Cost accounting provides the detailed cost information that management needs to control current operations and plan for the future.1 Since managers are making decisions only for their own organization, there is no need for the information to be comparable to similar information from other organizations. Instead, information must be relevant for a particular environment.Cost accounting information iscommonly used in financial accounting information, but its aboriginal function is for use by managers to facilitate making decisions. Unlike the accounting systems that help in the preparation of financial reports periodically, the cost accounting systems and reports are not subject to rules and standards like the Generally A ccepted Accounting Principles. As a result, there is wide variety in the cost accounting systems of the different companies and sometimes even in different parts of the same company or organization.