COST ACCOUNTING THEORIES

1.0 INTRODUCTION

The word Cost is defined as the total amount of expenditure already incurred or yet to be incurred in the course of manufacturing a product or rendering a service. The process of classifying and estimating the total amount of expenditure that are yet to be incurred is referred to as cost analysis .Cost analysis therefore represents an amalgamation of cost, classification and cost estimation .Cost classification represents a logical groupings of the various item of cost according to particular yardstick, parameter or basis. It is however, important to note the different items of cost.

1.2 DEFINITIONS OF COST ACCOUNTING

The C1MA Official Terminology (1991) defines cost accounting as:”The establishment of budgets, standard costs and actual costs of operations, processes, activities or products; and the analysis of variances, profitability or the social use of funds”.

The BPP Study Text Cost Accounting puts it like this:”Cost accounting is a management information system which analyzes past, present and future data to provide the basis for managerial action”.

Shukla and Grewal (1977:1125)’ See Cost Accounting as – classifying,   recording   and appropriate allocation of expenditure for .the determination of the costs of products or services; and for the presentation of suitably arranged, data for purposes; of control, .and guidance of the management. It includes the ascertainment of the cost of every order, job, contract, process, services or such unit of output as may be appropriate. It deals with the cost of production, selling and distribution. Costing means such an analysis of information as to enable management to know the cost of producing and selling, that is, the total cost of various products and services and also to know how the total cost is constituted.

Osisioma (1990:85) defines cost accounting as The systematic analysis and recording of financial transactions in respect of material, labor and expense, the collation of and interpretation of these records   to   disclose   costs  of particular  products,  or  services,   and   ‘ne application of this financial information for purposes of efficient running on the business.

According to Izejelue (2001:254) however, Cost Accounting is the branch of accounting which is designed specifically to measure the economic resources exchanged or consumed (or to be exchanged or consumed) in the production of goods or services. It provides management with Information about the estimated arid actual cost of products or services being produced and sold, and the analysis of the variances between estimated and actual costs. The uses of cost accounting data include inventory valuation, cost control, revenue decisions, and performance evaluation. The cost accounting data are provided to management to enable it reach informed decisions on a number of issues such as whether to produce or delete; to manufacture or acquire; to close or continue; to buy or lease; to expand or contract;   to promote or demote; to increase or reduce price.

For Meigs and Meigs et al (1996:31) Cost Accounting is “Knowing the cost of each business operation and of manufactured product is essential to the efficient management of a business. Determining the per- unit cost of business activities and of manufactured products, and interpreting the cost data, comprise a specialized field call cost accounting.’

Cost accounting emphasizes the determination of what it cost to perform specific business activities and to manufacture products

Also Bhanacharyya and Deardcn  (1980:313),  are of the opinion that where cost accounting is used to determine product cost  in manufacturing operation,., these costs have four principal uses in business as follows:

(1)       Inventory valuation   (2 ) Revenue decisions:     (3) Diagnosis and

(4)        Cost control.

1.3   COST CLASSIFICATIONS

Cost may be classified according to the following basis:

(a)Behavioral Classification:

(i)    Variable cost

(ii)    Fixed cost  

(iii) Mixed cost

(iv)  Stepped cost

(b)Nature Classification:

(i)    Material cost

(ii)    Labor cost

(iii)  Overhead cost

(c)Controllability Classification:

(i)     Controllable cost

(ii)    Uncontrollable cost

(d)Traceability Classification:

(i)     Direct cost

(ii)   Indirect cost

(e)Functional Classification:

(i) Manufacturing or Production cost

(ii) Administrative cost

(iii) Selling and Distribution cost

(iv) Repairs and Maintenance cost

(v) Insurance cost etc. Cost information are needed to help managers

  1. Set selling prices
  2. Determining the cost of goods sold.
  3. Evaluate manufacturing efficiency
  4. Plan for the future and
  5. Control cost

     1.4   IMPORTANCE OF COSTACCOUNTING

Shukia and Grewal (1977:1125) noted that Costing Accounting as a branch of accounting has developed because of the limitations of financial accounting. They observed that, the following are the chief advantages which a concern can derive from cost accounting

  1. A cost Accounting system enables a concern to-first measure its efficiency and then to maintain and improve it.  This is done by comparing cost per unit in one-period with that in another actual cost with the standard.
  2. Costing will reveal activities which bring profits and those that results in losses.
  3. In case a firm is in a position to fix prices for its products, costing will help it to do so. In case of big contracts no quotations can be made unless the cost of completing a contract can be ascertained.
  4. In depression or slumps it becomes necessary to reduce the price even below the cost. Cost Accounting helps management to determine the proper reduction.
  5.  Costing helps management to plan its various activities.   This is because under a proper costing system, full information about production facilities will be maintained.
  6. Information about availability of various stores and materials helps in planning w:ork and in detecting unnecessary losses.
  7. Some of the important decisions e.g., whether or not to replace men by machines or the decision to make an article or buy it from the market – cannot be made without proper costing information.
  8. Exact causes of profits or losses will be revealed.
  9. Cost Accounting  inculcates the habit of making calculations before taking a decision.
  10. A good system of costing affords an independent and most reliable check on the accuracy of financial accounts.   The check operates through reconciliation, of profits shown by costing and by financial accounts (of course, using interlocking system).

                      Thus, cost accounting, as noted, has  the following very important  area of  concern;

  • Analysis and recording of financial transactions as they concern materials, labor an expenses – i.e.; elements of cost.
  • Collation and interpretation of the records to disclose costs of particular products, job services – i.e., costing;
  • Presentation and application of cost information for the efficient management of the business i.e. cost accountancy, which encroaches upon Management Accounting.
  • Similar to those used in job costing. The distinguishing feature of batch costing being that  the cost unit (the batch) is a separate, readily identifiable .group of units which maintain  their separate identity throughout the production process.
  • Single or output costs is the method applied by firms which produce only One product measurable in quantity, e.g. coal.
  • Process costs mean a method followed by concerns where the final product emerges after two or three distinct stages as in case of paper or oil.
  • Operating costs mean ascertaining the cost of a service rendered (rather than a product produced).   The system is followed by concerns like transport companies, electricity undertakings, etc.
  • Multiply costing is applied by concerns producing a number of products, e.g. toys, product will have to be ascertained usually by following two or more methods because of different nature of work. If the products are made in batches, the cost  of each batch will be  batch costs.
  • Departmental costs are used where a factory is divided into a number of departments and where, first, the cost of running a department is ascertained and then it is analyzed to give the cost of goods or services produced there. From another point of view, the following methods may be noted:-
  • Marginal costs: meaning the variable cost of producing a unit of output. It means that while ascertaining cost per unit, fixed or constant expenses are not taken into account.
  • Uniform costing: is the name given to a common system of costing in all respects followed by a number of firms in the same industry. This helps in comparing performance of one firm with that of another.
  • Standard costing which consists of determining cost beforehand on somewhat idealistic lines and then comparing the actual costs and standard costs, ascertaining the reasons for discrepancies