Showing posts with label Cost accounting. Show all posts
Showing posts with label Cost accounting. Show all posts

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Cost Accounting - Introduction


Cost accounting measures and reports financial and nonfinancial information that relates to the cost of acquiring or consuming resources by the organization.

Cost is a resource sacrificed or forgone to achieve a specific objective. It is usually measured as the monetary amount (or money) that must be paid to acquire goods and services.

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Cost accounting measures and reports financial and nonfinancial information that relates to the cost of acquiring or consuming resources by the organization.

Cost Terminology

Cost is a resource sacrificed or forgone to achieve a specific objective. It is usually measured as the monetary amount (or money) that must be paid to acquire goods and services.

Budgeted cost is provided in the plan. Forecasted cost is an estimate. Actual cost is the cost actually incurred at the time of transaction.

Cost Object: Cost object is anything for which a separate measurement of cost is desired.
A cost system accumulates costs and the assigns them to various cost objects. This cost accumulation process follows the financial accounting system process of documents of financial transactions, journal entry, ledger entry. In ledger accounts, cost accounting system require more accounts that deal with various cost centers of the organization.

Cost accumulation is the collection cost using documents like purchase orders, invoices, various expense vouchers, and issue receipts of materials, wage and salary schedules. These documents are entered in journals and ledgers like the financial accounting or book keeping procedure.

Cost assignment is a term that encompasses both (1) tracing accumulated costs to a cost object, and (2) allocating accumulated costs to a cost object.

Direct cost: Directs of a cost object are related to the particular cost object and they can be traced to the cost object through accounting documents as and when they are incurred in an economically feasible way.

Indirect cost: Indirect costs are also related to the cost objects but they cannot be identified with cost objectsa the time they are incurred in an economically feasible way. Hence they are accumulated without explict reference to the cost obejcts at the time they are incurred and then allocated to various cost objects at a later date to find out the costs of cost objects.

Variable cost: A variable cost with reference to a cost object changes in total in proportion to changes in the level of total activity or volume of output. With reference to an automobile, petrol is an example of variable cost. If one drives more, more petrol is consumed.
Fixed cost: A fixed cost remains unchanged for a given time period despite changes in the level of activity or volume of output. Insurance premium for a car, an annual tax for a car can be given as examples. They are not related to the distance travelled by a car in a period.

Cost driver: Cost driver is a factor, that has a causal relation with a cost over a given time span. In the case of variable costs, activity volume or output volume are cost drivers. that is at the total variable cost level, more output would mean more total cost.

Fixed cost: Fixed cost has no cost driver in the short term. But in the long term it also has cost drivers.

Inventoriable costs: These costs are regarded as an asset when they are incurred and then become cost of goods sold when the product is sold.

Period costs: These costs are treated as expenses of the period in which they are incurred because it is presumed that they do not benefit future periods.

Prime cost and conversion costs are terms used in manufacturing companies. Prime costs are all direct manufacturing costs. Conversion costs are all manufacturing costs other than direct material costs.

Overhead cost: Costs which are not directly related to the production of goods being produced and sold are classified under overhead costs. They are essential for the production and selling process but they are not accounted directly on the job cards or batch cards of the goods being produced and sold.

References
Cost Accounting: A Managerial Emphasis, Charles T. Horngren, George Foster, and Srikant M. Datar, Prentice Hall Inc.,2000


Video Lecture by Prof Bassell On Cost Classification and Terminology

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Kaizen Costing and Kaizen Cost Management

Kaizen costing is variant of standard costing. Standard costing specifies a cost target for the production team for the coming period. Normally standard cost is set for an year. It will be revised every year. It is constant for an year as a planning device. Any variances from it are examined and the reasons are identified and understood.

Kaizen costing is cost planning that incorporates kaizen philosophy or philosophy of continuous improvement and implementation of the principles of learning effect.

According to learning effect principle, the average cost of an item is certain percentage of average cost of earlier volume. It is expressed  as  volume of production and sales doubles(X becomes 2X), the average cost of total sales (2X) is say, 90% of the average cost of producing and selling X units. There is a learning effect in every activity undertaken by the organization right from the lowest cadre employee to the CEO and Board and cost comes down.

Japanese implemented this cost reduction philosophy in a systematic manner. They made planned reductions in the standard costs of an item every year. So the production and sales team have to plan their department and activity cost to achieve reduction in standard cost. The idea was extended by them to monthly costs. They said we cannot achieve cost reduction in one day. So having a standard cost for an year and then asking for reduction in it next year is not the right approach for cost reduction. They came with a reducing cost target for every month. Such a reducing cost target for every month demands some effort on cost reduction by departments every month. Hence cost reduction is on the monthly agenda of every department in the company. Kaizen costing is providing the monthly cost target information and accounting for actuals durng the month.


For More Detailed Reading


Kaizen Costing and Value Analysis

Control Measures for Kaizen Costing - Formulation and Practical Use of the Half-Life Model

Introduction to Kaizen Budgeting

 B. Modarress;  A. Ansari; D. L. Lockwood,  “Kaizen costing for lean manufacturing: a case study” International Journal of Production Research, Volume 43, Issue 9 May 2005 , pages 1751 - 1760.






Index of articles on Cost Accounting, Costing and Cost Management



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Financial, Cost and Management Accounting - Review Notes List

Financial Accounting - Horngren - Review Notes List

Introduction to Financial Accounting - Google Books Link

Links to review notes and power point presentations accompanying the book are available as follows:

1. Accounting: The Language of Business

2. Measuring Income to Assess Performance

3. Recording Transactions

4. Accrual Accounting and Financial Statements

5. Statement of Cash Flows

6. Accounting for Sales

7. Inventories and Cost of Goods Sold

8. Long-Lived Assets and Depreciation

9. Liabilities and Interest

10. Stockholder's Equity

11. Intercorporate Investments and Consolidations

12. Financial Statement Analysis

Cost Accounting
1. Role of Costing and Cost Accounting in the Organization
2. Introduction to Cost Terms - Review Notes
3. Traditional Cost Objectives and Their Utility
4. Job Costing - Review Notes



Management Accounting

1. Managerial Accounting or Management Accounting - Role in Business and Industrial Organizations
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Introduction to Cost Terms - Review Notes

Cost: Cost is a resource sacrificed or forgone to achieve a specific objective. It is usually measured as the monetary amount (or money) that must be paid to acquire goods and services.

Budgeted cost is provided in the plan. Forecasted cost is an estimate. Actual cost is the cost actually incurred at the time of transaction.

Cost Object: Cost object is anything for which a separate measurement of cost is desired.

Cost System: A cost system accumulates costs and the assigns them to various cost objects.

Cost accumulation is the collection cost using documents like purchase orders, invoices, various expense vouchers, and issue receipts of materials, wage and salary schedules. These documents are entered in journals and ledgers like the financial accounting or book keeping procedure.

Cost assignment is a term that encompasses both (1) tracing accumulated costs to a cost object, and (2) allocating accumulated costs to a cost object.

Direct cost: Directs of a cost object are related to the particular cost object and they can be traced to the cost object through accounting documents as and when they are incurred in an economically feasible way.

Indirect cost: Indirect costs are also related to the cost objects but they cannot be identified with cost objects at the time they are incurred in an economically feasible way. Hence they are accumulated without explicit reference to the cost objects at the time they are incurred and then allocated to various cost objects at a later date to find out the costs of cost objects.

Variable cost: A variable cost with reference to a cost object changes in total in proportion to changes in the level of total activity or volume of output. With reference to an automobile, petrol is an example of variable cost. If one drives more, more petrol is consumed.

Fixed cost: A fixed cost remains unchanged for a given time period despite changes in the level of activity or volume of output. Insurance premium for a car, an annual tax for a car can be given as examples. They are not related to the distance traveled by a car in a period.

Cost driver: Cost driver is a factor, that has a causal relation with a cost over a given time span. In the case of variable costs, activity volume or output volume are cost drivers. that is at the total variable cost level, more output would mean more total cost.

Fixed cost: Fixed cost has no cost driver in the short term. But in the long term it also has cost drivers.

Inventoriable costs: These costs are regarded as an asset when they are incurred and then become cost of goods sold when the product is sold.

Period costs: These costs are treated as expenses of the period in which they are incurred because it is presumed that they do not benefit future periods.

Prime cost and conversion costs are terms used in manufacturing companies. Prime costs are all direct manufacturing costs. Conversion costs are all manufacturing costs other than direct material costs.

Overhead cost: Costs which are not directly related to the production of goods being produced and sold are classified under overhead costs. They are essential for the production and selling process but they are not accounted directly on the job cards or batch cards of the goods being produced and sold.


Refer for More Detailed Explanation
Horngren et al. Cost Accounting, 13th Edition, Pearson Education
Cost Accounting - Horngren et al., Book Information and Review

Originally published at
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Role of Costing and Cost Accounting in the Organization

Purposes of Accounting Systems

Accounting is a major means of helping managers of an organization, equity investors of an organization, potential equity investors, creditors and bond holders of an organization, potential creditors and bond holders of an organization, suppliers and customers of an organization and other stake holders to take decisions.

Accounting provides information for three major purposes:

1. External reporting: These reports are used investors, creditors, government authorities, and other outside parties.

2. Routine internal reporting: These reports which are periodically generated are used by managers of the company for their internal decisions.

3. Nonroutine internal reporting: This information or reports are generated to support projects and other decisions that come up as the need arises from them.
While the reports are prepared in different formats and basic data is manipulated or summarized in various ways to facilitate decision making, there is one data base maintained by the accounting system that contains data in the form debits and credits to various accounts maintained in the accounting system. Accountants combine these data items in various ways to provide information to internal or external users.


Distinction Between Financial Accounting, Cost Accounting and Management Accounting

Horngren’s distinction between them is interesting.

Management accounting as a discipline focuses on accounting information that facilitates decision making by managers of the organization. If focuses on routine and nonroutine accounting reports.

Financial accounting measures and records business transactions and provides financial statements that are based on generally accepted accounting principles (GAAP). Executive compensation is tied to profit figures reported in the financial statements and equity share valuation is also based to a large extent on these financial statements.
Cost accounting provides information to facilitate both management accounting and financial accounting. Its focus is measuring and reporting financial and nonfinancial information that is related to the cost of acquiring or consuming resources by an organization.


Cost Management

Cost management is an activity of managers related to planning and control of costs. Managers have to take decisions regarding use of materials, processes, product designs and have to plan costs or expenses to support the operating plan for their department or section. All these activities come under cost management. Information from accounting systems help managers in cost management activities. But the cost accounting system and the reports it generates is not the cost management system. Accounting system can be interpreted as a part of cost management system of an organization.

Cost management is not cost reduction alone. It is much broader. Organization increase advertising expenditure to increase sales, increase research and development expenditures to promote new products. Here the concerned managers are deliberately incurring additional costs in a period (compared to the previous period) as they expect profits from such decisions or expenditures. Cost management system has to ensure that a cost is incurred with the expectation of profit.

The Role of Management Accounting

The role of management accounting is also described as problem solving, score keeping and attention directing.

Problem solving: The role of accounting in problem solving is to provide information useful in evaluating alternatives.

Scorekeeping: Scorekeeping records the results of various actions of the managers and helps in assessing whether the results expected from the various actions are realized or not.

Attention directing: The scorekeeping function in combination with expected results, and comparative analysis of scores of various companies, divisions and departments, comparative analysis of present period scores or results with previous periods show opportunities of focusing attention of managers to improve things.

Value Chain
Value chain is a visualization of complete business as a sequence of activities in which usefulness is added to the products or services produced and sold by an organization. Management accountants provide decision support for managers in each activity of value chain.

Design of Management Accounting System

The design of management accounting system has to take into consideration the decision needs of the managers. Also it has to take into consideration the new themes and challenges that managers face currently.

Horngren identified four such themes in the tenth edition of his book.

1. Customer focus: The challenge for managers it invest sufficient resources to enhance customer satisfaction. But every action of the organization has to result enhanced profitability or maintained profitability for the organization.

2. Key Success Factors: These are nonfinancial factors which have an effect on the economic viability of the organization.

Cost, quality, time and innovation are important key success factors. Management accounting systems need to have provisions for tracking the performance of the organization and its divisions as well as competitors on these success factors.

3. Continuous improvement: Continuous improvement or kaizen is a popular theme. Innovation related to this area in costing is kaizen costing .

4. Value Chain and Supply Chain Analysis: Value chain as a strategic framework for analysis of competitive advantage was promoted by Michael Porter. Management accountants have to become familiar with the framework and provide information to implement the framework by strategic planners.
The term supply chain describes the flow of goods, services and information from cradle (the mines sources of raw materials) to grave (where discarded products or dumped), regardless of whether those activities occur in the same organization or many organizations.

Key Guidelines for Management Accounting System Design

Cost Benefit Approach: In the system design resource allocation decisions are to be made. Examples would be software to buy and associates to employ. A cost-benefit approach should be used for all such decisions. Resources should be spent only when there is profit to the organization due to that expenditure. Each incremental addition to the accounting system must be supported by incremental profit to the organization.

Behavioral and Technical Considerations: Management has human dimension and it has to focus on how to help individuals to do their jobs better. Managing people involves discussion of managers with his associates on improving performance. The behavioral responses of people to reports highlighting their underperformance have to be understood. Management accounting should lead to cordial relations and climate.
Different Costs for Different Purposes: It is to be noted that there are several cost concepts and cost measures can be created for each of these concepts. Cost accountants have to careful to provide appropriate cost to the managers. The accounting system has to have some precautions to make sure that the accountant understands the decision situation of a manager and provides appropriate cost measures.

Professional Ethics

Like other professionals, accountants also face ethical dilemmas. They need ethical guidelines. Institute of Management Accountants (IMA), USA published guidance note on ethics to be followed by management accountants.

Competence, confidentiality, integrity and objectivity are important themes of the guidance note.

References

Horngren, Charles T., George Foster, and Srikant Datar, Cost Accounting: Managerial Emphasis, Tenth Edition, Prentice Hall, Inc., Upper Saddle River, New Jersey, USA, 2000

Cost Accounting - Horngren et al., Book Information and Review

Originally posted on Knol
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Job Costing - Review Notes

Job Costing System

In this system of costing, the cost object is an individual unit of product or service, batch, or lot.  A classic example is an order based job made for a specific customer. Hence the name job costing.

Relevant Cost Concepts

Cost object
Direct cost of a cost object
Indirect cost of a cost object
Cost pool:  Cost pool is grouping of individual cost items. It can be very broad comprising of hundreds of cost items. Or it can be narrow having only two items
Cost-allocation base: Cost allocation bases are used to link an indirect cost pool to a cost object. Usually cost drivers are used as cost allocation bases. Horngren gave the example automobile operating cost of an organization. The cost driver is number of miles traveled. Number of miles traveled is used as a cost allocation base. Different jobs are charged for automobile cost on the basis of number of miles traveled by the persons of the organization in producing and delivering the job.

Relevant Costing Concepts

Actual Costing:  Actual costing is costing method that traces direct costs to a cost object by using actual direct-cost rate of cost item times the actual quantity of the direct-cost input (item) and allocates indirect costs based on the actual indirect-cost rate (rates in case multiple indirect cost pools are there) times the actual quantity of the cost-allocation base (appropriate base when multiple cost pools are used).
Normal Costing: In this method of costing, direct costs are traced to cost object in the same manner as in actual costing. But indirect costs are allocated on the basis of budgeted indirect-cost rate and the actual cost quantity of cost allocation base.

Source Documents in Job Costing

An accountant in financial accounting system makes entries on the basis of some source documents and journal and ledger are the main registers for accounting entries.
Similarly cost accounting is also based on source documents and records.  A key document or record or account in cost accounting is job cost record (or job cost sheet). It records and accumulates all the costs assigned to a specific job as resources were consumed in producing the goods and services specified in the job. Hence, the job cost record is started as soon as the work begins on a particular job.
Each entry in a job cost record is based on a source document.
Materials from the store are ordered by the manufacturing engineers using a materials requisition record. This form is the source document for charging job cost records and department for the cost of direct materials used on a specific job.
For recording direct labor related costs in job cost record, labor-time record is the source document.  Each employees of the organization can have a labor time record and the time that he spends on various jobs is recorded on a daily basis on this record.  The cost per hour of each employee is determined and accordingly labor cost is recorded in job cost records. 
The indirect cost items are given standing order numbers and standing order cost records are maintained for them. Based on materials requisition records and labor-time records costs are charged to standing order cost records.
Special attention needs to be paid to the accuracy of the source documents as the accuracy of job cost records depends on the reliability of inputs.

Seven Step Procedure of Job Costing

Step 1: Identify the chosen cost object. The specific jobs for which job cost is to be ascertained is to uniquely idenfied and a job cost record is to be opened for each job.
Step 2: Identify the direct costs of the job: The job number is to be mentioned in the material requisition record and labor-time records. From these source documents, the job cost records are to be posted or charged with direct costs.
Step 3: Select the cost allocation bases to use for allocating indirect costs to the job:
Step 4: Identify the indirect costs associated with each cost allocation base.
Step 5: Compute the rate per unit of each cost-allocation base.
Step 6: Compute the indirect costs allocated to the job.
Step 7: Compute the total cost of the job by adding all direct and indirect costs.

Journal and Ledger Entries in Cost Accounting

Like in financial accounting, in cost accounting also journal and ledger are maintained.
Job costing system has a separate job cost record for each job and entries are made in it for each cost item charged to it. A summary of the job cost record is posted in a subsidiary ledger. In the general ledger, Work-in-Process Control Account is there and it presents the totals of the separate job cost records pertaining to all unfinished jobs.
A general ledger account with control in their name or title signifies or indicates that they are supported by underlying subsidiary ledgers that have additional details. Materials Control Account and Accounts Payable Control Account are additional examples of control accounts. Material Control Account has a subsidiary ledger – Stores Ledger that has detail on each type of material stored and used in the company. Accounts Payable Control Account has a subsidiary ledger that has accounts of individual suppliers.
Horngren has given examples of transactions to illustrate the use of journal entries in cost accounting
1. Purchases of materials on credit $89,000
Materials Control A/c Dr.   $89,000
 To Accounts Payable Control     $89,000
2. Materials issued to manufacturing departments: direct materials: $81,000, and indirect materials $4,000
Work-in Process Control A/c   Dr.   $81,000
Manufacturing Overhead Control A/c  Dr.         4,000
 To Materials Control      $85,000
3. Total manufacturing payroll or salaries and wages: Direct $39,000 and indirect, $15,000
Work-in Process Control A/c   Dr.   $39,000
Manufacturing Overhead Control A/c  Dr.       15,000
 To Materials Control      $54,000

Summary

The important points to be remembered from this chapter or topic are the method of arriving at job cost and method of arriving at indirect cost of a job. There are source documents and from these source documents job cost record is prepared and this record will show the cost of a job. Journal and ledger are kept and the ledger will show the value of inventory in the form of material, work-in process and finished goods.

References

Horngren, Charles T., George Foster, and Srikant Datar, Cost Accounting: Managerial Emphasis, Tenth Edition, Prentice Hall, Inc., Upper Saddle River, New Jersey, USA, 2000


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originally posted in Knol
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Traditional Cost Objectives and Their Utility - Review Notes

Concept


Cost Object: Cost object is anything for which a separate measurement of cost is desired.

Product cost and department cost are two main cost objects or cost objectives. But as a concept cost object can be anything for which a measurement of cost is desired.

Managers can ask the cost accounting department for cost information that is required for their decision models. Ordering cost, inventory carrying cost, shortage cost etc. are cost information for decision making in inventory area. Inventory managers or materials managers are justified in asking for these pieces of cost information from the cost accounting department.

Similarly, production management decisions, equipment replacement decisions require cost information for decision making.

There is a possibility that cost accountants do not understand the concepts, that operating managers are using for cost information. But cost accounting texts do use many of these concepts. So basically a coordination is required between the operating department and the cost accounting department to arrive at proper cost information.

A cost system accumulates costs and the assigns them to various cost objects. Information regarding cost objects requires that there is a cost accumulation system designed for providing the required cost information is in place. Activity based costing system can give much more information compared to traditional cost accumulation systems. But operating departments have to provide more information also in Activity based costing system when they are preparing their expense vouchers or material issue slips and similar other documents.

A List of Cost Objectives in Different Disciplines of Management

Materials Management (Inventory Control)

Ordering Cost
Inventory Carrying Cost
Shortage Cost

Production Management

Set Up cost
Cost of Quality

Maintenance Management

Breakdown cost

Human Resources Management

Cost Absenteeism
Cost of Ignorance


Cost-Volume-Profit Analysis



Cost-Volume-Profit analysis examines the behavior of total revenues, total costs, and profit as changes occur in the output level, selling price, variable costs per unit, or fixed costs. Therefore, the analysis is useful in taking decisions that involve change in these variables or setting these variables.

The standard model of CVP analysis is based on these assumptions.

1. At this stage of decision making, revenues and costs changes only because of change in output sold.
2. Total cost related to the product under consideration can be broken down into fixed cost and variable cost.
3. In the range where decision making is involved, the relation between total revenue and total cost is linear (straight line).
4. The unit selling price, variable cost, and fixed cost are constant within the range of decision making.
5. This analysis is used with single product focus (Change in the volume of this product has no effect on other product costs)
6. As it is a short period decision, time value of money is not considered in the analysis.

In the chapter, Horngren et al. defined Operating income from the product as total revenue from operations (manufacture and sale of the product) minus operating costs that include manufacturing, selling and distribution.

Contribution margin: The difference between total revenues and total variable costs is called contribution margin.

Contribution margin per unit is the difference between the selling price and the variable cost of the unit.

Breakeven point: Breakeven point is that quantity of sales where total revenues equal total costs. Managers are interested to know this figure as they have to plan and make efforts to keep sales well above this level of sales and should not allow sales to fall below this level except under extraordinary circumstances.

Equation of method of calculating breakeven point
Revenue - variable cost - fixed cost = 0 (Total renue = Total cost)
(USP * SQ) - (UVC * SQ) - FC = 0

Where USP = Unit selling price, SQ = Sales in quantity, UVC = Unit variable cost, FC = Fixed cost)

Above equation can be rewritten as

SQ(USP - UVC) = FC
As UVP - UVC is called Contribution margin per unit or Unit contribution margin (UCM)
Break even point = FC/UCM

Target Operating
What should be the sales target to get a prespecified operating income.
As the equation is
Revenue - Variable cost - Fixed cost = Operating income
(USP * SQ) - (UVC * SQ) - FC = OI

Where USP = Unit selling price, SQ = Sales in quantity, UVC = Unit variable cost, FC = Fixed cost, OI = Operating income)
if a target is specified for OI, the targt sales quantity can be calculated.


Refer for More Detailed Explanation
Horngren et al. Cost Accounting, 13th Edition, Pearson Education
Cost Accounting - Horngren et al., Book Information and Review


Originally posted in
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Cost Allocation: Joint Products and By Products - Review Notes

In certain process joint products are produced. As a simple example, support a truck is hired by a company and ten different products are transported on it. Accounting system has task of allocating a portion of the cost of the truck to each product on a rational basis.

Similarly when a main product and a byproduct with some value are produced, accountants have to use a logical basis to allocate costs.
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Activity-Based Costing and Activity-Based Budgeting Review Notes

In traditional costing, direct material, direct labor and direct expenses are identified with the jobs and all other expenses are accumulated under the head “overheads” and are charged to the jobs on the basis of one or two measurements such as direct labor cost or direct material cost of the jobs.


Proponents of activity based costing first brought out the fact that product costs derived by using traditional costing techniques are giving wrong information. The actual product cost of certain jobs is high but traditional costing system is reporting a low cost for them. If the selling price is determined on the basis of such wrong low cost, at the end of the year, companies find that they have not earned the anticipated profits.

In activity based costing, all the costs which are classified as overheads in traditional costing system are accumulated under various activities which are carried out in the organization. From the activity cost for a period, and the number of times the activity is carried out in the period, cost for doing the activity once is ascertained. Then an account is maintained each time the activity is carried and the job responsible for performing the activity is recorded. Therefore the activity cost can be charged to the job.

Thus the job cost, now comprises of direct material cost, direct labor costs, direct expenses and costs of each of the activities consumed by the job.

Activity based costing provides a more realistic estimate of costs of products.

Normally compared to traditional costing system, ABC system provides lower cost figures for standard products and higher cost figures for nonstandard orders.


The logic of ABC systems is that more finely structured activity-cost pools with activity-specific cost-allocation bases, which are cost drivers for the cost pool, lead to more accurate cost-allocation systems


Hierarchy of Cost Pools


ABC systems commonly use a four-part cost hierarchy or hierarchy of cost pools - output unit-level costs, batch-level costs, product-sustaining costs, and facility sustaining costs - to identify cost-allocation bases that are preferably cost drivers of costs in activity cost pools.


Implementing Activity-Based Costing


1. Identify the chosen cost objects

2. Identify the direct costs of the products

3. Select the cost-allocation bases to use for allocating indirect costs

4. Identify the indirect costs associated with each cost-allocation base

5. Compute the rate per unit of each cost-allocation base used to allocate indirect costs to the products

6. Compute the indirect costs allocated to the products

7. Compute the total costs of the products by adding all direct and indirect costs assigned to them.


Use of ABC Systems

Pricing and Product-mix decisions

Cost Reduction and Process Improvement Decisions

Design Decisions

Planning and Managing Activities


Based on

Horngren et al. Cost Accounting Chapter 5. Activity Based Costing and Activity-Based Management, 10th Edition

Cost Accounting - Horngren et al., Book Information and Review


Originally posted in
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Cost Information for Pricing Decisions

Pricing decisions are normally market based and they are based on analysis of demand curves.

But product cost information is required in the pricing decision to arrive at the profit available at a proposed price. If the profit available is insufficient, a firm can't sustain its production and marketing. Only for short periods of time, the firms may be in market even though profits are inadequate in the light of expected long term profits.
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Process Costing - Review Notes

In processes output can not be separated and accounted for as in discrete product manufacture. The production process is continuous. Therefore period costs are accumulated and they are charged to the output in a period. In the process there is work-in-progress. So at the start of a period there is beginning inventory and at the end of the period there is ending inventory. During the period, there is input of costs. From these three figures cost of production of a period is calculated and charged to the number of units produced during the period.


Bibliography

Detailed explanation of Process Costing and normal and abnormal losses in process
http://www.futureaccountant.com/process-costing/study-notes/characteristics-features-application-industry.php
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Cost Behavior Analysis and Relevant Costs Concept

Cost behavior is identified by estimating cost functions. Cost function is mathematical relationship between cost and the level of an activity. Examples of activities used in cost accounting to develop cost functions are units of output, direct manufacturing labor hours, machine hours etc. A cost function can be depicted on a graph by showing activity level on the x-axis and cost on the y-axis.

Two basic assumptions are used in estimating cost functions.


1. Variations in the cost under consideration are explained by variations in the level of a single activity (Single activity is sufficient to capture the variation in the cost).
2. Cost behavior is adequately approximated by a linear function within the relevant range. (Even though the function is shown on the graph from zero to infinity, the decision maker knows that the graph is valid only between some range and not from zero to infinity).

Cost Estimation Procedures


1. Industrial Engineering Method
2. Conference Method
(W. Wichelll, Realistic cost Estimating for Manufacturing, 2nd ed., Society for Manufacturing Engineers, Dearborn, Michigan, 1989)
3. Account Analysis Method
4. Quantitative Analsis Method
a. High-Low Method
b. Regression Analysis

Learning Curves


Learning has an effect on efficiency and productivity. The effect was first identified and described in aircraft industry. As workers become more familiar with their tasks, their efficiency improves. Managers learn how to improve the allocation and scheduling of the work among available operators and machines. Some of the machines are provided facilitating devices like jigs and fixtures to increase production. As a result of improved efficiency, unit costs decrease as output increases. This effect is nonlinear and in cost estimating for future this effect needs to be considered.



Originally posted at
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Costing for Strategic Profitability Analysis

Strategic management accounting is a recently developed branch in management accounting. It helps management in developing required estimates for various proposed strategies based on accounting information. The main job of management accountant is to provide accounting statements that have the relevant information of use in developing estimates of the results.
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Cost Information for Customer Profitability Analysis and Other Such Analyses

Like product profitability analysis, customer profitability analysis is also important. Product profitability analysis mainly concentrates on manufacturing activities.

Customer profitability analysis concentrates on marketing activities and the resulting costs. We can say customer profitability analysis is detailed analysis of marketing costs.
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Costing for Quality, Time and the Theory of Constraints

Cost of quality framework

Prevention costs

Appraisal costs

Internal failure costs

External failure costs

Cost accountants have to take them as cost objectives and provide cost figures for them.
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Costing for Spoilage, Rework and Scrap

The key objectives in accounting for spoilage are determining the magnitude of the costs of spoilage and distinguishing between the costs of normal and abnormal spoilage.
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Costing for Inventory Management, JIT and Backflush Costing

The most commonly used methods for inventory costing in manufacturing companies are absorption costing and variable costing. In many countries, absorption costing is the prescribed method for external reporting and tax accounting.

Throughput costing also referred to as super-variable costing is being advocated by Eliyahu Goldratt.

Absorption costing of inventories

In absorption costing, all variable manufacturing costs and all fixed manufacturing costs are included in finished goods and work-in-progress (WIP) inventory costs. That means, inventory absorbs all the costs incurred to manufacture the items to semi-finished or finished state.

Variable Costing of Inventories

In variable costing, only variable manufacturing costs are included as inventoriable costs. All fixed manufacturing costs are treated as period costs and are shown in the period's expenses.

Throughput costing

The advocates of throughput costing suggest that only direct material is treated as inventoriable cost and all other expenses including direct labor are treated as period expenses. Such a treatment removes any incentive for creating inventory for showing a better financial picture on the balance sheet or profit and loss account. Inventory then will be created only serve the market in the coming periods if it is anticipated that capacity will be short at that point in time.

Originally posted at
http://knol.google.com/k/narayana-rao/inventory-costing/2utb2lsm2k7a/3157
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Cost Information for Management Control and Performance Management

Variable overhead costs are related to the production volumes of products and services but their usage is not measured with respect to the specific products. The cost incurred on these heads of expenditure is pooled together and allocated to the products periodically.

Fixed overhead costs are facility maintenance costs and are not related to the production volume. Fixed overhead costs include factory building maintenance, Factory or plant manager's salary, reception department for the factory, Hospital expenditure etc.

Planning Variable Overhead Costs

Horngren et al. bring in the concept of nonvalue added activities and specify that a firm has to undertake only those variable overhead activities that add value for consumers using the related product or service. So this prescription suggests that a firm has to question each of its variable overhead costs and justify its incurrence.

Planning Fixed Overhead Cost

In the case of fixed overhead costs also, each head has to be justified and the activity has to be done efficiently. The important decision issue in the case fixed overhead is the capacity decision. Fixed cost is mostly a top management decision, while variable cost is an operating decision.

Developing Budgeted Variable Overhead Cost-Allocation Rates

As the overhead costs are allocated to cost objects (products), and in job costing, the allocation is to be done immediately after a job is finished, cost allocation rates are calculated.

The steps involved are:
1. The time period to compute the budget is decided. Variable over costs are budgeted.
2. Selection of the cost-allocation base to use in allocating variable overhead costs to the cost objects.
3. Identify the variable over costs associated with each cost allocation base and create the cost pool
4. Computer the rate per unit of each cost allocation base used by dividing the cost pool/budgeted allocation base.

Flexible Budget Analysis of Overhead Variance

Variable Overhead = Actual cost - Flexible budget amount
flexible budget variance

Variable overhead efficiency variance = (Actual units of CAB consumed - Budgeted units of CAB)*
(For each allocation base (CAB) ) Budgeted variable overhead rate for the CAB unit

Variable Overhead Spending Variance

VOSV = (Act. Var. over head cost per unit of CAB - Budgeted Var. overhead cost per unit of CAB)*
Actual quantity of Var. overhead CAB used for the actual output.


Originally posted at
http://knol.google.com/k/narayana-rao/overhead-costs-planning-and-variance/2utb2lsm2k7a/3145
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Cost Information and Analysis for Capital Budgeting

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Cost Information for Transfer Pricing

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