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BBA-III Semester
Total Hrs: 49 Faculty: Rachna Chawla
UNIT –II
COST:
Cost is defined as the ‘value’ of the sacrifice made to acquire goods and services. It’s the
expenditure, actual (outlay of cash or other property) or notional (incurring of a liability),
incurred on, or attributable to a product, a service or any activity.
At the time of acquisition, the cost incurred is for the present or future benefits. When
these benefits are utilized, the costs become expense. An expense is defined as a cost that
has given a benefit and is now expired.
COSTS
Expired Unexpire
Costs d Costs
Appear
in P& L Appear in
Account Balance Sheet
in the form of
Assets
COST OBJECT:
All costs incurred or likely to be incurred can be attributed to the firm. This general
identification of costs with the firm is, however of not much managerial use. For planning
and control purposes, costs should be measured for and associated with the segments or
components of the firm: they should be attributed to products or services or other cost
objects. The purpose or object for which costs are measured is called a cost object. A cost
object may be a single unit of a product, a group/batch of products, a department,
division, machine, a sales territory, an order, a job, and so on.
COST UNIT:
CIMA London defines a unit of cost as ‘a unit of quantity of product, service or time in
relation to which costs may be ascertained or expressed.’
It is a form of physical measurement, like a number, weight, area, volume length, time,
area etc.
COST OBJECT- COST UNIT
Advertising : Each job
Bridge Construction: Each Contract
Gas: Cubic Meter, Kg
Nursing Home: Per Bed/ Per Day
Sugar: Quintal/ Tonne
Machine: Per Hour
Labour: Per Hour
Canteen: Per meal, Per dish
Nickel Plating: Per square meter
Fencing: Per square feet
COST CENTER:
Cost center refers to one of those convenient units into which the whole factory is being
appropriately divided for costing purposes. It is the segment of an activity or the area of
responsibility for which costs are accumulated. It may be a location (department or a sub
department), a person or a group of persons, or an item of equipment or machinery or a
combination of these for which costs are ascertained and used for cost control.
The determination of a suitable cost center as well as analysis of costs under cost centers
is very helpful for periodical comparison and control of costs. In order to obtain the cost
of a product or services, expenses should be suitably segregated to cost centers. The
manager of a cost center is held responsible for control of cost of his cost center. The no.
of cost centers and size of each cost center may vary from one undertaking or another and
are independent upon the expenditure involved and requirements of the management for
the purpose of cost ascertainment and cost control. Too many cost centers tend to be
expensive but having too few cost centers defeats the very purpose of cist ascertainment
and cost control.
COST CENTERS
Productive Unproductive
Cost Centers Mixed cost Centers
Cost
Centers
Tool Shop
(Sometimes in
production of dies
n sometimes in
Repairs)
Cost Center
Process
Personal Cost Operation Impersonal Cost
Cost
Center Cost Center Center
Center
Cost
center
which
A cost
consists
One which center
of
consists of a which
persons
person or a consists of
or
group of continuous
machines
persons sequence of
that carry
operations
out the
same
operation
Location Equipment
Marketing Department Conveyor Belt
Reception Blast Furnace
Finance Department Welding Machine
Shop Floor etc etc
Centre
Profit Center
It is that segment of the Cost Center
activity of a business in A cost center is
which case both the created for
revenues and expenses accounting
are identified and P& L convenience for
made by that particular ascertaining and
segment of activity is controlling costs.
determined.
COST CLASSIFICATION:
Nature
Materials/ Wages/
or Expenses
Elemen
t
Normality
Normal Cost/ Abnormal Cost
One of the most important inputs in managerial decision-making is cost data. There is
however no single concept of cost which can cater to all management needs. The “needs”
concept of cost depends on the conditions under which the costs are required to be
measured and the purpose for which measurement is required. In other words cost data
which is relevant in one situation may be irrelevant in other situation. Developing the
data on the required lines can be designated as “concept of cost relevancy”. This concept
implies the needed of different set of cost data for different objectives, purposes and
situations. Ass such various concepts of cost related to management needs are:
(ii) Period Costs:- Period costs are costs which are matched against the revenue of the
current period. Period costs vary with passage of time and not with volume of production.
Rent, Insurance, Salary of work’s manager are example of fixed costs.
(iv)Unabsorbed Costs
(v)Expired Costs:- Expired cost is a cost which cannot contribute to the production of
future revenues. Eg. Electricity Bill, Telephone Bill, Rent etc. Expired Costs are written
in P& L account against revenues.
(vi)Unexpired Costs:- Unexpired cost has the capacity to contribute to the production of
revenue in future. Inventory constitutes a good amount of unexpired costs as it can be
sold in subsequent years and will influence total future revenues. Unexpired costs are
written in Balance Sheet.
1
Fixed Cost Line
0
1 2 3 4 5
Production (in thousand units)
Fixed Costs are those costs that do not vary directly with the volume or rate of output.
They are period costs and are recoverable if firm is shut down. Eg. Rent, Property taxes,
supervisor’s salary, insurance, depreciation etc.
Fixed cost per unit varies due to change in output. If production increases fixed cost per
unit declines and if production declines fixed cost per unit increases. There are
two types of fixed costs:
Committed fixed Costs- These are unavoidable in short run and must continue to
be paid to ensure the operating existence of the company. Eg. Rent,
depreciation, pay and allowances of management etc.
Discretionary fixed costs- These are not related to current operations or activities
and are subject to management discretion and control. Eg. New Researches,
Management Programmes etc These are set at a fixed amount for specific
time periods by management in budgeting process.
(ii)Variable Costs:
3
TVC Line
Total
2
Variable
Cost
1
0
1 2 3 4 5
Production (in thousand units)
VARIABLE COST PER UNIT
1
Variable Cost Line
0
1 2 3 4 5
Production (in thousand units)
Variable costs are those costs that vary directly with the volume or rate of output. They
are product costs.
Variable cost per unit does not vary due to change in output. If production increases total
variable cost increases but variable cost per unit remains the same.
1
Semi -Variable Cost
Line
0
1 2 3 4 5
Production(inthousandunits)
Semi variable costs are also known as mixed costs. These are those costs which consist of
partly fixed costs and partly variable costs. The fixed component of mixed costs
represents the cost of providing capacity, whereas the variable component is caused by
using the capacity.
0
1 2 3 4 5
Production (in thousand units)
(V)Future costs: Future costs are relevant costs in profit planning function of
management. Those costs which are reasonably expected to be incurred at some
future date as a result of current decision are known as Future costs. These costs
are of paramount importance to management as they are the only costs which it
can control. If they are too high resources can be [planned to meet the high costs
and efforts can be made if possible to reduce them.
(VI)Budgeted costs: When an operating plan involving future costs is accepted, and
incorporated formally in the budget for a specific period, such costs get converted
to what may be referred to as Budgeted costs. Budgeted costs are important
elements in that they provide the basis for measuring the actual performance of
different cost centers and therefore they are of utmost importance for
management.
(ii) Controllable Costs- An item of cost is controllable if the amount of cost incurred in
a responsibility center is significantly influenced by the action of the manager of the
responsibility center.
The concept of controllable and costs is a relative concept in the sense that when a
company is viewed as a single entity, all costs are controllable at one level or another of
management. The office in charge of a cost center can control costs only of those matters
which come directly under his control but not of other matters.
(iv)Direct Costs- Direct costs are costs which can be identified logically and practically
in their entirety to a particular department/ product. They are controllable.
(v)Indirect Costs- The expenses incurred on those items which are not directly
chargeable to production are known as indirect costs.
Indirect costs are also called common costs as they are allocated between two units/
products/ divisions/ departments
(i) Marginal costs: The incremental cost of producing an additional unit of output. In
cost accounting variable cost represents marginal cost. This cost concept is of great
relevance in managerial decision making.
(ii) Relevant costs: These are costs which are influenced by a decision. In taking a
decision, all costs are not relevant. For example, in a decision related to replacement of
old machinery, the written down value of an existing machine is not relevant but its sale
value is relevant.
(iii) Irrelevant costs: Cost which is not affected by a decision. For example Sunk costs
are not considered in decision making as they are irrelevant.
(iv) Incremental costs: Incremental costs are the additional costs which will be incurred
if management chooses one course of action as opposed to another. These are the extra or
incremental costs, caused by a particular decision. It represents the change (increase or
decrease) in total cost or in specific elements of cost that occurs due to change in activity
level, technology or method of production.
(v) Differential costs: It represents the change in total cost or in specific elements of cost
that occur due to adopting another alternative. This approach compares the two
alternatives directly by looking at the differences between them. Eg. Difference inn cost
between buying a component from outside or manufacturing the same in-house is a
differential cost.
Incremental and Differential are by far the most important concepts of cost
in decision making.
(vi) Out- of- pocket costs: A cost which requires current or future cash expenditure as a
result of a decision is called out of pocket costs. It is that portion of total cost which
involves cash outlay as against those costs which do not require any cash outlay, such as
depreciation.
(vii) Sunk costs: It is a historical cost incurred in the past. In other words sunk costs are
those costs that cannot be recovered- As such these costs do not play any role in decision
making.
(viii)Opportunity costs: Represents benefits foregone by not choosing the second best
alternate in favor of the best one.
(ix) Imputed Costs: These are notional costs and do not involve any cash outlay. These
costs are also computed and considered only for decision making purposes. Imputed costs
are similar to opportunity costs. Interest on capital, the payment for which is actually not
made, is an example. Rent of factory which is actually not paid in case the owner has his
own factory is a imputed cost.
COST SHEET
DIRECT MATERIAL
DIRECT LABOUR
DIRECT EXPENSES
PRIME COST
INDIRECT MATERIAL
INDIRECT LABOUR Factory overheads
INDIRECT EXPENSES
OFFICE OVERHEADS
COST OF PRODUCTION
+ PROFIT
SALES
COST SHEET ADVANCED
DIRECT MATERIAL
(Opening stock of raw material+ net purchases + carriage inwards-abnormal
wastage of raw material - closing stock) XXXXXXXXXXXXXXX
DIRECT LABOUR
DIRECT EXPENSES
PRIME COST
INDIRECT MATERIAL
INDIRECT LABOUR Factory overheads
INDIRECT EXPENSES
OFFICE OVERHEADS
COST OF PRODUCTION
+ PROFIT
SALES
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Exercise:
A company manufactures and retails clothing. You are required to group the costs which
are listed below and numbered 1 to 20 into the following classification.( each cost is
intended to belong to only one classification
1. Prepare a cost sheet from the following data to find out profit and cost per unit.
You are required to prepare a cost sheet from the above showing
(a) The cost per unit
(b) The profit per unit sold and profit for the period)
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3. Calculate
(I) Value of Raw Material Consumed
(II) Total cost of production
(III) Cost of goods sold
(IV) The amount of profit from the e following particulars:
Opening Stock:
Raw Materials 5000
Closing Stock
Raw Materials 4000
Finished Goods 5000
Raw Material Purchased 50000
Wages Paid to Laborers 20000
Chargeable Expenses 2000
Rent rates and Taxes 5000
Power 2000
Factory Heating and Lighting 2000
Factory Insurance 1000
Experimental expenses 500
Wastage of Materials 200
Office Management Salaries 4000
Office Printing and Stationary 200
Salaries of Salesmen 2000
Commission of Traveling Agents 1000
Sales 100000
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4. The books of Anand Manufacturing Company Present the following data for the month
of August:
Direct Labor Cost Rs. 16000 being 160% of work overheads
Cost of goods sold Rs. 56000
Inventory Accounts showed the following opening and closing balances
(b) Prepare a cost statement showing the various elements of the cost- cost of goods
manufactured and sold also the profit earned.
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x
5. The books of Adarsh Manufacturing Company present the following data for the
month of April:
Direct Labor Cost Rs. 17500 being 175% of work overheads
Cost of goods sold excluding administrative expenses administrative expenses 56000
Inventory Accounts showed the following opening and closing balances