CHAPTER 2: COST ACCOUNTING, JOB COSTING & BATCH COSTING Cost: Cost means the amount of expenditure incurred

on a particular thing. CAS-1 (Cost Accounting Standard 1, issued by the ICWA, India) defines Cost as: Cost is a measurement, in monetary terms, of the amount of resources used for the purpose of production of goods or rendering services. Costing: Costing means the process of ascertainment of costs. Costing involves the following steps (i) Ascertaining or collecting costs (ii) Analysing or classifying costs into basic elements such as Material, Labour, Expenses etc. and (iii) Allocating total costs to a particular thing i.e. a product, a contract or a process. Thus cost can now be defined as the total expenditure, duly classified into materials, labour, expenses etc. allocated to a particular product or contract or process. Cost Accounting: The Institute of Cost and Management Accountant, England (ICMA) has defined Cost Accounting as the process of accounting for the costs from the point at which expenditure incurred, to the establishment of its ultimate relationship with cost centres and cost units. In its widest sense, it embraces the preparation of statistical data, the application of cost control methods and the ascertainment of the profitability of activities carried out or planned. Cost accounting is a term broader than costing. It covers costing plus the reporting and control of costs. Thus Cost Accounting = Costing + Cost Reporting + Cost Control. Cost accounting can be defined as the technique of recording, classification, allocation, reporting and control of costs. Objectives of cost accounting: Cost accounting has the following basic aspects or objectives: 1. Costing: It involves the following basic aspects or 5 As: a. Ascertain costs relating to a particular period, b. Analyse or classify costs under different heads of accounts such as material, labour, expenses etc., c. Allocate costs fully to the direct expenses or the specific costs such as raw materials, labour to the relevant products, contracts or processes, d. Apportion or distribute common costs to each product, contract or process on a suitable basis and e. Absorb the total expenses of a department over its products so as to finalise the cost of each product that is then reported to the management. 2. Cost reporting: Cost reporting has the following aspects:a. What to report or the nature of information to be presented should be relevant and precise. b. Whom to report will determine the scope of the report to be submitted to the top management. c. When to report daily, weekly, monthly, quarterly or yearly etc. d. How to report or the format will depend on the factors mentioned above. Once the cost report is received, management can take action to control the costs. 3. Cost Control: Cost control has been defined by the ICMA as the guidance and regulation by executive action of the costs of operating an undertaking. Thus cost control means the control of costs by management. Following are the aspects or stages of cost control.

a. Set targets for cost, production, profits etc. for each period. b. Measure Actual Performance relating to cost, production profits for the period concerned. c. Compare targets with actuals to find out the variations d. Analyse variations, the causes for variations whether favourable or adverse are to be investigated. While adverse variations denote wastages and loses, favourable variations may indicate the targets fixed are very low. In both cases the exact reasons for the variations are to be known. e. Take action once the causes are known to eliminate avoidable losses etc. 4. Other aspects: The other aspects or objectives of cost accounting are as follows: a. Provide required data for fixing sales price for submitting tenders, quotations etc. b. Assist the management in controlling inventory for raw materials, goods in process, finished goods, spares and consumables etc. c. Advice management on future policies regarding expansion, growth, capital investment etc. d. Install labour incentive system for getting maximum productivity from labour at optimum cost. e. Advice management in deciding optimum product-mix, merits and demerits of alternative courses of actions (make or buy etc.,) introduction of automation, mechanization, rationalization of system of production etc. Thus the objectives can be summarized as follows: 1. Ascertainment of costs 2. Estimation of costs 3. Cost control 4. Cost reduction 5. Determining selling price 6. Facilitating preparation of financial and other statements 7. Providing basis for operating policy Importance and advantages of Cost Accounting: Cost accounting is not only important to the management and owners but also to many others like the workers, the Government, the consumers, the public at large and so on. The advantages are as follows. 1. To the management and the owners: Cost accounting helps the management of the concern to ascertain the cost and profitability of each individual product / service/ contract/ process/ division/ branch separately. This also helps in valuation of the closing stock of goods at the end of the year. It helps the management of the concern in controlling costs in reducing the avoidable expenditure, and minimizing wastages and losses. It ensures the reconciliation of quantity of input with the quantities of output, wastages and scrap. The management is thus able to regulate and monitor the movement of materials thus preventing theft and loss of materials during processing and handling. It is of great help to the management in taking several decisions such as, which products to produce more, how much to produce, whether to make or buy a component, what price to charge or quote. Thus cost accounting is an invaluable decision aid to decision making. It also facilitates in preparation of budgets and implementation of budgetary control in the organization. The end result of all the above advantages of cost accounting is maximization of profits of the concern thus

benefiting the owners by increasing their net worth or the share prices, higher dividends etc. 2. To the workers: Cost accounting has an elaborate system of assessing the performance of workers and rewarding them suitably through incentives and bonus. The increase in profits due to a cost accounting system also leads to higher remuneration and bonus to the workers. 3. To the Government / Consumers / Public: In case the products are under price control, cost accounting furnishes the data required by the government for fixing fair prices. Consumers benefit since the prices fixed on the basis of the cost data are just and reasonable and cannot be too high. It also leads to efficiency and productivity in the industrial sector. It ensure optimum utilization of the scarce economic resources of the country. Cost accounting leads to maximum profits for an organization. Naturally the Government also gains by way of more taxes on production, income and sales etc. The higher revenue is used by the Government for public welfare and economic development. Criticisms of Cost accounting: 1. Duplication: It is argued that cost accounting is duplication when a good financial accounting system is already in operation. Cost accounting takes its basic data from books of accounts and just rearranges it in a different way. 2. Inapplicable: In a concern producing a single product involving no complex processes, cost accounting is inapplicable. It is also of no use in non-profitable organizations or in agriculture etc. 3. Not useful for decision making: In many cases, the decisions of the management are not based on cost accounting data. Thus the decision regarding which item to produce and how much to produce depends on the license given by the Government and the market forces of demand and supply. 4. Expensive and routine: A cost accounting system is quiet expensive to install and operate. At times the cost accounting systems become mere routing of filling the forms and submitting standard reports. Non-cooperation from staff also may lead to failure of the system in many concerns. However, proper planning and implementation of the cost accounting system will overcome these criticisms and would stand null and void in view of the objectives, importance and advantages of the cost accounting system. Functions of Cost Accountant: The main functions of a cost accountant can be summarized as follows: 1. Determining cost and analyzing income: A cost accountant determines the cost of a job, product or process as the case may be. He analyses and classifies costs according to different cost elements, viz., materials, labour and expenses. Such analysis enables him to tell the management the significance of the different cost elements and fixation of the selling prices of the products manufactured by the business. He advises the management about the profitability or otherwise of each job, product or process. Thus, he helps the management in maximizing business profits. 2. Providing cost data for planning and control: A cost accountant collects, classifies and presents in appropriate form suitable data to the management for planning and controlling the operations of the business. He makes constant endeavour to control and reduce the cost by the following techniques:

a. He submits regular reports to the management regarding wastage of material, idle time, idle capacity, etc. He identifies the causes and suggests suitable controlling measures to prevent or reduce losses on account of these causes. b. He makes product-wise or process-wise comparisons to identify non-profitable products or processes. c. He develops cost consciousness in the organization by adoption of budgetary control and standard costing techniques. d. He maintains an even flow of materials and at the same time prevents unnecessary investment of materials through different material control techniques e.g. ABC analysis, perpetual inventory system, materials turnover ratios, fixation of different levels of materials etc. e. He organizes various cost reduction programmes with the co-operation and coordination of different departmental heads. 3. Undertaking special cost studies for managerial decision-making: A cost accountant undertakes special cost studies and carries out investigation for collecting and presenting suitably the data to the management for decision-making regarding the following areas: a. Introduction of new products, replacement of manual labour by machines etc. b. Make or buy decisions, replacing or repairing old machines, accepting orders below cost, etc. c. Expansion plans, installation of new capital project, etc. d. Utilisation of idle capacity and development of a proper information system to provide prompt and correct cost information to the management. e. Installation of a cost audit system. All types of manufacturing concerns can broadly be classified into two categories (i) Massproduction concerns, (ii) Special order concerns. Mass production concerns such as chemical plants, flour mills, paper manufacturing, tyre and rubber companies etc., produce uniform standard products and involve generally a continuous production process. The finished products are the result of successive operations. On the other hand, special-order concerns manufacture products in clearly distinguishable lots in accordance with special orders and individual specifications. Printing shops, construction companies, machine tool manufacturing, repair shops, wood-working shops etc., come in this category. In case of mass production concerns the products when produced are of the same type, and involve the same material and labour and pass through the same set of process. In such industries each process is designated as a separate cost-centre and the cost per unit is calculated by dividing total cost of the process with the total number of units produced by the process. The cost of production of the product is obtained by adding the unit costs of various processes through which the product has passed. This method of costing is known as process costing. Job Costing: In case of special-order concerns products produced or jobs undertaken are of diverse nature. They involve materials and labour in different quantities and entail different amounts of overhead costs. In such concerns it is necessary to keep a separate record of each lot of products or jobs from the time the work on the job or product begins till it is completed. A separate job card or sheet is maintained for each job or product in which all expenses of materials, labour, overheads are entered and cost of completing a job or manufacturing a product is found out. Such a cost system is known as job or terminal or specific costing. Objectives of job costing:

1. It helps in finding out the cost of production of every order and thus helps in ascertaining profit or loss made out on its execution. The management can judge the profitability of each job and decide its future courses of action. 2. It helps management in making more accurate estimates about the costs of similar jobs to be executed in future on the basis of past records. The management can conveniently and accurately determine and quote prices for orders of a similar nature which are in prospect. 3. It enables management to control operational inefficiency by comparing actual costs with the estimated ones. A system of job costing should be adopted after considering the following two factors. a. Each order or job should be continuously identifiable from the raw material stage to the stage of completion. b. The system is very expensive because it requires a lot of clerical work in estimating costs, designing and scheduling of production. It should, therefore, be adopted when absolutely warranted. Procedure: The following is the procedure adopted for costing purposes in a concern using job costing: 1. Job order number: Every order received is allotted a certain number from a running list maintained for this purpose. Every order or job will be known by its number throughout its production process in the factory. 2. Production / job order: A production / job order is a written order issued to the manufacturing department to proceed with a job. It is issued by the production planning department on receipt of a job order to the foreman of the relevant department. Instructions to the costing department to collect particulars of costs on execution of the job are also issued simultaneously. The production order is prepared with sufficient copies for all the departmental managers or foreman who will be required to take any part in the production. 3. Bills of materials: The production and planning department also prepares a list of materials and stores required for the completion of the job. A copy is also sent to the concerned foreman with the production order which serves as an authority to him for collecting the materials and stores mentioned from the storekeeper. On the same pattern a list of tools required is also prepared. 4. Job cost card: Job cost card or job cost sheet is the most important document used in the job costing system. A separate card or cost sheet is maintained for each job in which all expenses regarding materials, labour and overheads are recorded directly from costing records. The method of finding out the cost of these elements in respect of a particular order is as follows. a. Materials: The information regarding cost of materials or stores used for a particular job order can be obtained from materials or stores requisition slips. In case of large job orders, materials abstracts can be prepared for finding out the total value of materials issued to different jobs. b. Labour: The cost of labour incurred on each job can be ascertained with the help of time and job cards. In case of a large number of jobs, preparation of wages abstract may considerably help in computing the amount paid as wages for completion of specific jobs. Wages paid for indirect labour will constitute an item of factory overheads. c. Overheads: Every job will be charged with amount of overheads determined on the basis of the method selected for allocation of overheads. Normally on

the basis of past results an overhead rate is determined and each job is charged for overheads at the pre-determined rate. Profit or loss on a job can also be found out by preparing a job account. The job account is debited with all expenses incurred on the job and is credited with the job price. The difference of the two sides will be the profit or loss made or suffered on the job. 5. Work-in-process: The account is maintained in the cost ledger and it represents the jobs under production. The account may be maintained in any of the following two ways depending upon the requirements of the business: a. A composite work-in-process account for the entire factory. b. A composite work-in-process account for every department. For example, if the factory has three departments A, B and C, a work-in-process for each of these three departments will be opened. The work-in-process account is periodically debited with all costs direct and indirect incurred in execution of the jobs. At intervals of month or so a summary of completed jobs is prepared and the work-in-process account is credited with the cost of completed jobs. In case work-in-progress account for each department of the factory has been opened, it will be necessary to find out the cost of completed jobs regarding each department. The balance in work-in-process account at any time represents the cost of jobs not yet completed. 6. Job ticket: In order to provide information regarding the progress of each job at each operation, generally a job ticket is issued by the production control department. The ticket contains detachable portions for different operations. The job ticket is useful for both production control and costing departments. On completion of an operation, the relevant portion of ticket is detached and sent to production control department. This enables production control department in keeping production schedule up-to-date. On the basis of detached portion a departmental summary of production can be prepared which is very useful for costing purposes. Moreover, the amount of work-in-process as shown by the cost ledger can be checked by listing the ticket number of jobs in process in any department and valuing this list. 7. Progress advice: The foreman of a department may be required to send periodically a statement regarding the stage of completion of each job to ensure completion of jobs by scheduled dates. Such a note is called progress advice. Advantages of job costing: 1. Job costing enables the management to identify spoiled and defective work in respect to particular production orders, departments or groups of workers and hence the management can fix up responsibility for inefficiency. 2. Management can determine the trends in costs and compare the operating efficiency of men and machines in each cost centre. It can also determine the completion cost of each job. 3. It enables the preparation of estimates of costs of jobs before production. 4. It enables comparison of estimated costs with actual costs as the costs are analysed on the basis of costs, services and production. 5. It makes available to the management a complete file of production orders which contains valuable statistics on cost. 6. It enables ascertainment of profit or loss on each job immediately after their completion. 7. It enables the management to identify unprofitable jobs. 8. In case of cost plus contracts, job costing enables to provide precise quotations.

9. It helps in production planning. 10. It facilitates fixation of selling price. Limitations of job costing: 1. Job costing involves a lot of clerical work in identifying materials, labour and overheads with specific jobs and departments. 2. Management cannot evaluate precisely the operating efficiency of men and machines. 3. Since costs ascertained and compiled are historical costs, they are not of much utility to the management. 4. It does not apply budgetary control to important cost elements such as labour, materials and overheads. 5. Job costs over any period of time cannot be compared if major economic changes take place in between. 6. It is expensive to operate and errors are possible due to increased clerical work. Batch Costing: Batch costing is a modified form of job costing. While job costing is concerned with costing of jobs that are executed against specific orders of the customers, batch costing is used where articles are manufactured in definite batches. The articles are usually kept in stock for selling to customers on demand. The term batch refers to the lot in which the articles are to be manufactured. Whenever a particular product is required, one unit of such product is not produced but a lot of say 500 or 1000 units of such product are produced. It is therefore also known as Lot Costing. This method of costing is used in case of pharmaceutical or drug industries, ready-made garment factories, industries manufacturing component parts of radio sets, television sets, watches, etc. The costing procedure for batch costing is similar to that under job costing except with the difference that a batch becomes the cost unit instead of a job. Separate job cost sheets are maintained for each batch of products. Each batch is allotted a number. Material requisitions are prepared batchwise, the direct labour is engaged batchwise and the overheads are also recovered batchwise. Cost per unit is ascertained by dividing the total cost of a batch by number of items produced in that batch. Ordinary principles of inventory control are used. Production orders are issued only when the stock of finished goods reaches the ordering level. In case the batches are repetitive, the costing work is much simplified. Since in batch costing production is done in batches and each batch consists of a number of units, the determination of optimum quantity to constitute an economical batch is all the more important. Such a quantity can be fixed on the basis of same formulae and principles as are applicable to economic order quantity of materials. Economic Batch Quantity = 2U x P S

Where: U = Annual demand P = Setting up and order placing costs per batch S = Storage or inventory carrying over cost per unit per annum

CHAPTER 3: STANDARD COSTING Standard costing is defined as the preparation and use of Standard Costs, their comparison with actual costs and the analysis of variance as to their causes and point of incidence. ICWA London had defined Standard Costing as the preparation of Standard Costs and applying them to measure the variations of actual costs from standard costs and analyzing the causes of variations with a view to maintain maximum efficiency in production. Material Variances: 1. Material Cost Variance [MCV] It is the difference between the standard cost of material specified for the output achieved and the actual cost of direct material used. It is said to be favourable when standard cost is more than actual cost and adverse when actual cost exceeds standard costs. It is further divided into Material Usage Variance and Material Price Variance. MCV = SC AC = (SQ x SP) (AQ x AP) 2. Material Usage Variance [MUV] It is that portion of the Material Cost Variance which is due to the difference between the Standard Quantity specified for the actual output and the Actual Quantity used for the actual output. It is said to be favourable when standard quantity is more than actual quantity and adverse when actual quantity exceeds standard quantity. MUV = (SQ AQ) x SP 3. Material Price Variance [MPV] It is that portion of the Material Cost Variance which is due to the difference between the Standard Price specified for the Actual Output and the Actual Price paid. Material Price Variance is said to be favourable when the actual price is less than the standard price and adverse when the actual price is more than the standard price. MPV = (SP AP) x AQ 4. Verification Material Cost Variance = Material Usage Variance + Material Price Variance i.e. MCV = MUV + MPV

Labour Variances: 1. Labour Cost Variance [LCV] It is the difference between the standard cost of labour specified for the output achieved and the actual cost of direct labour used. It is said to be favourable when standard cost is more than actual cost and adverse when actual cost exceeds standard costs. It is further divided into Labour Efficiency Variance and Labour Rate Variance. LCV = SC AC = (SH x SR) (AH x AR)

2. Labour Efficiency Variance [LEV] It is that portion of the Labour Cost Variance which is due to the difference between the Standard Hours specified for the actual output and the Actual Hours used for the actual output. It is said to be favourable when standard hour is more than actual hour and adverse when actual hour exceeds standard hour. LEV = (SH AH) x SR 3. Labour Rate Variance [LRV] It is that portion of the Labour Cost Variance which is due to the difference between the Standard Rate specified for the Actual Output and the Actual Rate paid. Labour Rate Variance is said to be favourable when the actual rate is less than the standard rate and adverse when the actual rate is more than the standard rate. LRV = (SR AR) x AH 4. Verification Labour Cost Variance = Labour Efficiency Variance + Labour Rate Variance i.e. LCV = LEV + LRV

Standard Costing 1. Given the cost standard for material consumption are 40 kg. @ Rs. 10 per kg. Compute the material variances when actuals are: a. 48 kg @ Rs.10 per kg. b. 40 kg @ Rs.12 per kg. c. 48 kg @ Rs. 12 per kg. d. 36 kg for a total cost of Rs.360. 2. Gemini chemical industries provide the following information from their records. For making 10 kgs of GEMCO standard material requirement is : Material Quantity (kg) Rate per kg(Rs.) A 8 6.00 B 4 4.00 During April 1000 kg of GEMCO were produced. The actual consumption of materials is as under: Material Quantity (kg) Cost (Rs.) A 750 5250 B 500 2500 Calculate material variances 3. Using the following information of department X, calculate all possible labour variances. Actual wage rate per hour Rs.3.40 Standard hours for production 8640 hours Standard rate per hour Rs.3.00 Actual hours worked 8200 hours. 4. The standard cost card for one unit of a product shows the following costs for material and labour: Material 4 pieces @ Rs. 5.00 and Labour 10 hours @ Rs.1.50 5700 units of product were manufactured during the month of March 2002 with the following material and labour costs: Material 23000 pieces @ Rs.4.95 and Labour 56,800 hours @ Rs.1.52 Calculate material and labour variances. 5. The standard cost card of a product shows the following Material cost Rs.5 for 2 kg. and Wages Re. 1.00 for 2 hours. The actual which have emerged from business operations are as follows: Production: 8000 units. Material consumed worth Rs.39600 for 16500 kg. and wages paid Rs.7200 for 18000 hours of work. Calculate appropriate material and labour variances.