Your SlideShare is downloading. ×
0
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
basic concepts
Upcoming SlideShare
Loading in...5
×

Thanks for flagging this SlideShare!

Oops! An error has occurred.

×
Saving this for later? Get the SlideShare app to save on your phone or tablet. Read anywhere, anytime – even offline.
Text the download link to your phone
Standard text messaging rates apply

basic concepts

2,875

Published on

Published in: Education
1 Comment
7 Likes
Statistics
Notes
No Downloads
Views
Total Views
2,875
On Slideshare
0
From Embeds
0
Number of Embeds
0
Actions
Shares
0
Downloads
0
Comments
1
Likes
7
Embeds 0
No embeds

Report content
Flagged as inappropriate Flag as inappropriate
Flag as inappropriate

Select your reason for flagging this presentation as inappropriate.

Cancel
No notes for slide

Transcript

  • 1. MANAGEMENT ACCOUNTING & CONTROL SYSTEMS
  • 2. MODULE 1 MANAGEMENT CONTROL SYSTEMS
  • 3. MANAGEMENT CONTROL SYSTEMS The Management Control System refers to a framework or set- up by which the manager can ensure control over the actions of his subordinates as well as control over the whole operations in an organisation. The main purpose of the control system is to assist in target fixing, collecting information on actual performance, comparing actuals with targets, reporting the variations and initiating suitable action to ensure that the targets are achieved efficiently and effectively.
  • 4. Definition. Anthony “It is a total system that embraces all aspects of the firm’s operations because an important management function is to assure that all parts of the operation are in balance with one another and in order to examine balance, management needs information about each of the parts”.
  • 5. Characteristics of Management control system: 1. It focuses on programmes and responsibility centers. A programme is a product, product line, research and development project, etc. 2. The infn in a MCS is of two types: i)planned data i e programmes, budgets and standards and ii) actual data i e infn on what is actually happening, both inside the orgn and in the external envt 3. MCS is a total system. It embraces all aspects of a company’s operation. 4. It is built around a financial structure; i e resources and revenues are expressed in monetary units.
  • 6. 5. It follows a definite pattern and timetable, month after month and year after year. 6. It is a coordinated, integrated system; data on the actual performance be structured in the same way i e, have the same definitions and the same account content as data on planned performance.
  • 7. Phases of Management Control Systems The Mgmt Control process involves the following phases: 1. Programming 2. Budgeting 3. Operating and Accounting 4. Reporting and Analysis
  • 8. Phase I – Programming It is the process of deciding on the programmes that the company will undertake and the approximate amount of resources that are to be allocated to each programme. Programs are the principal activities that the orgn has decided to undertake in order to implement the strategies that it has decided upon. Eg. Product, a product line, setting up a plant, modification, etc Phase II - Budgeting It is a plan expressed in quantitative, usually, monetary terms that covers a specified period of time, usually one year. In the process of Budgeting each programme is translated into terms that correspond to the sphere of responsibility of each manager who is charged with executing the programme.
  • 9. Phase III - Operating and Accounting: During the period of actual operations, records are kept of resources actually consumed and of revenues actually earned. These records are structured so that cost and revenue data are classified both by programs and by responsibility centers. For this purpose, data on actual results are reported in such a way that they can be readily compared with the plan as set forth in the budget.
  • 10. Phase IV – Reporting and Analysis: MCS serves as a communication device. The information that is communicated consists of both accounting and non-accounting data. This information keeps the managers informed about what is going on in the organisation and helps coordination of different responsibility centers. Reports are also used as a basis for control. Such reports are derived from an analysis that compares actual performance with planned performance and attempts to explain the difference. Based on these formal reports, and also on information received through informal communication channels, managers decide what action should be taken.
  • 11. Levels of Management An orgn consists of 3 distinct levels of management; Corporate Management: It consists of executives who are responsible for the performance of the orgn as a whole. The Chairman or MD and executives in charge of specific functions such as finance, manufacturing, marketing or personnel constitute the corporate mgmt. They are responsible for the overall performance of the orgn Divisional Management: It consists of executives responsible for total performance of particular regions or product divisions. Operating Management: It consists of executives charged with the management of unit operations / or responsible for the accomplishment of specific operations tasks. Eg. Branch Manager, production Manager of a specific production unit.
  • 12. Levels of Decision Making: 1. The institutional level for strategic thinking and planning 2. The managerial level which focuses on gathering, coordinating and allocating resources for the orgn; eg., planning budgets, deciding on capital expenditures, formulating personnel practices; 3. The technical level, involving the acquisition and utilisation of technical knowledge for operational controls, eg., inventory controls and production scheduling.
  • 13. The total planning and control system of an orgn is subdivided into 3 categories; i. Strategic planning ii. Management control iii. Operational control
  • 14. Strategic Planning: It is the process of deciding on the goals of the orgn, on changes in these goals, on the resources used to attain these goals and on the policies that are to govern the acquisition, use and disposition of these resources. It is a long range plan carried on at the top level of the management after analysing its own strengths and weaknesses and on the basis of the threats it faces and the opportunities available to it. Eg. Decisions to expand, diversify, etc
  • 15. Management Control: It is the process of evaluating, monitoring and controlling the various sub-units of the orgn so that there is effective and efficient allocation & utilisation of resources in achieving the predetermined goals. It focuses on the managers of organisational sub-units and hence its focus is on line managers responsible for the performance of their departments. Management control is exercised by evaluating the performance of each ‘responsibility center’ against planned performance. Eg. Legal department of a company.
  • 16. Operational control or Technical control: It is the process of assuring that specific tasks are carried out effectively and efficiently. The focus of operational control is on individual tasks or transactions: scheduling and controlling individual jobs through a shop, procuring specific items for inventory, specific personnel actions, etc. Eg. Inventory control system.
  • 17. Management By Objectives It is also known as Management By Results. MBO is defined as a process whereby superiors and subordinate managers of an enterprise jointly i. identify its common objectives, ii. Define each individual’s major areas of responsibility in terms of results expected of him, and iii. Use these measures as guides for operating the unit or enterprise and assessing the contribution of each of its members. It’s an approach to management planning and appraisal in which specific targets of performance are established for each individual and the actual results are measured against the original targets.
  • 18. Steps in MBO Process Appraising Annual performance Setting Objectives Conducting Periodic Reviews Developing Action Plans
  • 19. 1. Setting the Objectives: verifiable & measurable objectives for the overall orgn for all the positions. 1st – Top management sets the goals for the total enterprise in certain key areas considering environmental opportunities, resources and constraints of the orgn and forecasts 2nd – Objectives for each dept are laid down in consultation with the deptl heads. This process of goal-setting is repeated at lower levels of management until goals for each and every individual are established. Steps in MBO Process
  • 20. 2. Developing Action Plans: Responsibility for the achievement of each goal is specified. Job descriptions for various positions must define the goals to be attained. Resources required for goal attainment are identified and allocated. The means for the implementation of plans are decided. Goals and resources must be matched together. 3. Conducting periodic Reviews: At frequent intervals actual performance is reviewed jointly by the superior and the subordinate in order to know the progress. If necessary, the goals are modified. Ways and means are identified to overcome problems and to improve performance in future.
  • 21. 4. Appraising Annual Performance: A thorough evaluation of individual performance is done at the end of the year. At annual review, achievements are carefully analysed against the given objectives. Rewards are decided on the basis of annual appraisal.
  • 22. Advantages of MBO 1. Result – oriented planning 2. Co-operation and coordination 3. Motivation 4. Effective Communication 5. Training and Development 6. Performance Appraisal
  • 23. Limitations of MBO 1. It’s difficult to set verifiable goals in several cases 2. It involves lot of paper work 3. Time consuming and too pressure-oriented 4. It may prevent co-operation and teamwork 5. May lead to inflexibility 6. May be resented by subordinates
  • 24. COST ACCOUNTANCY Cost: It refers to the resources that are sacrificed to attain a particular objective. It is defined as a total of all expenses incurred in the manufacture and sale of a product. Costing: It refers to cost finding using any method like arithmetic process memorandum statements, etc Cost Accounting: Cost Accounting is the technique and process of ascertaining cost. It is the process of “classifying, recording and appropriate allocation of expenditure for the determination of costs of products or services.” It consists of principles and rules which govern the procedure of ascertaining costs of a product or service.
  • 25. Cost Accountancy: It is the application of costing and cost accounting principles, methods and techniques to the science, art and practice of cost control and the ascertainment of profitability. It includes the presentation of information derived there from for the purposes of managerial decision making.
  • 26. Objectives of Cost Accounting:  Ascertainment of cost  Fixation of selling price  Cost control  Matching cost with Revenue  Special cost studies and investigations  Preparation of Financial Statement.
  • 27. Differences between Financial Accounting & Cost Accounting • Transactions are recorded for a definite period • It covers transactions of the whole firm pertaining to business • It’s prepared to show the final results during a particular period to owners, outsiders, etc • It analyses the expenditure under different types of expenses eg. Wages, salaries, depn., etc • The overall business result is revealed by P&L A/c, but results of each dept. can’t be known. • It can work independently. • Reconciliation of results is not required • It deals with external transactions • Stock is valued at cost price or market price which ever is less • To be maintained as the requirements of Companies Act, Income Tax Act. • Transactions are identified with cost units. • It covers only a part of the transactions viz., manufacturing, sales, services, etc. partial • Guides the management for proper planning, control and decision making • It analyses the expenditure under different heads of performance eg., direct labour, indirect labour, Materials, etc • It analyses the profitability and unprofitability of each department/product. • It depends upon Financial Accounting • Reconciliation is required • It deals with internal transactions • Stock is valued at cost • To be maintained to meet the requirements of the management
  • 28. Differences between Cost Accounting and Management Accounting • It deals with ascertainment, allocation, apportionment and accounting aspect of costs • It provides a base for management accounting • It helps in collecting costing data for the management • The status of cost accountant comes after the management accountant • He refers to economic and statistical data for analysing cost effects • It has standard costing, variable costing, BEA, etc., as the basic tools and techniques • It does not include financial accounting, tax planning and tax accounting • It can be installed without management accounting • It deals with the effect and impact of costs on the business • It is derived from both cost accounting and financial accounting • It has greater degree of relevance and objectivity • Management accountant is senior in position to cost accountant • He reports the effect of cost on the business along with cost analysis • Along with these, Management Accountant has funds and cash flow statements, Ratio Analysis, etc as his accounting tools and techniques • It includes all these • It needs financial and cost accounting as its base for its installation.
  • 29. COST UNIT It is a device for the purpose of breaking up or separating cost into smaller sub-divisions attributable to products and services. It is the unit of product, service or time in relation to which costs may be ascertained. E.g.. Tonne in case of coal. In case of brick kiln the unit should be 1000 bricks. In case of industries rendering service, usually the unit is a compound of two measures, since the single measure may be meaningless eg/ tonne-km in transport
  • 30. Methods of Costing- Basically there are two methods of costing (i) specific order costing (or job/terminal costing and (ii) Operation Costing ( or process or period costing) 1. Job costing a. Batch Costing b. Contract Costing c. Multiple Costing 2. Process costing a. Unit or Single output costing b. Operating (Service) Costing c. Operation costing
  • 31. Job Costing Under this method, costs are collected and accumulated for each job, work order or project separately. Each job can be separately identified; so it becomes essential to analyse the cost according to each job. A job card is prepared for each job for cost accumulation. Eg. Printers, machine tool manufacturers etc
  • 32. Batch costing This is an extension of job costing. A batch may represent a number of small orders passed through the factory in batch. Each batch is treated as a unit of cost and separately costed. The cost per unit is determined by dividing the cost of the batch by a number of units produced in a batch. Applied in buscuits mfg, garments mfg and spare parts/components manufacturing plants
  • 33. Contract costing When the job is big and spread over long periods of time. The method of contract costing is used. A separate account is kept for each individual contract. This method is used by builders, civil engineering contractors, construction and mechanical engineering firms.
  • 34. Multiple(0peration)costing This method of manufacture consists of a number of distinct operations. It refers to conversion cost .i.e. cost of converting the raw materials into finished goods. The different operations in machine screw are- stamps, knurl, thread and trim. The cost per unit is determined wrt final output
  • 35. Multiple costing It represents the application of more than one method of costing in respect of the same product. This is suitable for industries where a number of component parts are separately produced and subsequently assembled into a final product. This method is used in factories mfg cycles, automobiles, engines, radios , typewriters, aero planes and other complex . This method has been dropped from the CIMA terminology.
  • 36. Process costing This is suitable for industries where production is continuous, manufacturing is carried on by distinct and well defined process, the finished product of one process becomes the raw material of the subsequent process, different products with or without by products are produced simultaneously at the same process and products produced during a particular process are exactly identical. Textile industries. Chemical industries, tanneries, paper industries etc.
  • 37. (One) Operation (Unit or Output) Costing This is suitable for industries where manufacture is continuous and units are identical. This method is applied in industries like mines, quarries, oil drilling, breweries, cement works, brick works etc. The cost per unit is determined by dividing the total expenditure incurred during a given period by the number of units produced during that period.
  • 38. Service (or Operating) Costing This is suitable for industries which render services as distinct from those which manufacture goods. This is applied to transport undertakings, power supply companies, hospitals, hotels et. This method is used to ascertain the cost of services rendered. There is usually a compound unit in such undertakings, e.g. tonne-kilometre, kilowatt-hour, patient day etc.
  • 39. TYPES OF COSTING 1. Historical Costing 2. Standard costing 3. Absorption or Full costing 4. Variable or Marginal costing 5. Uniform costing 6. Direct costing
  • 40. Historical costing It is ascertainment of costs after they have been incurred. It aims at ascertaining costs actually incurred on work done in the past. It has a limited utility, though comparison of costs over different periods may yield good results.
  • 41. Standard costing A comparison is made of the actual cost with a pre-arranged standard and the cost of any deviation ( called variances) is analysed by causes. This permits the management to investigate the reasons for these variances and to take suitable corrective action.
  • 42. Absorption Costing It is the practice of charging all costs, both variable and fixed to operations, process or products. This differs from marginal costing where fixed costs are excluded.
  • 43. Variable or Marginal costing It is ascertainment of marginal cost by differentiating between fixed and variable cost. It is used to ascertain the effect of changes in volume or type of output on profit.
  • 44. Uniform Costing It is the use of same costing principles and/or practices by several undertakings for common control or comparison of costs.
  • 45. Direct Costing It is the practice of charging all direct costs, variable costs and some fixed costs relating to operations .processes or products leaving all other costs to be written off against profits in which they arise.
  • 46. Cost Centre: As per the definition given by The Institute of Cost and Management Accountants, London: It is defined as a “location, person, or an item of equipment (or a group of these) for which costs may be ascertained and used for the purposes of cost control”. It is an organisational segment or area of activity considered to accumulate costs. Its managers are held responsible for the costs incurred in that segment. Performance evaluation of a cost centre is guided by a cost variance equal to the difference between the actual and budgeted costs for a given period.
  • 47. Cost Centre A cost centre is the smallest segment of activity or area or responsibility for which costs are accumulated. Typically cost centres are departments but in some instances, a department may contain several cost centres. These cost centres are the sub departments of an organisation wrt which cost is collected for cost ascertainment and cost control
  • 48. Cost centre The determination of a suitable cost centre is very important for ascertainment and control of cost. The manager in charge of a cost centre is held responsible for control of cost of his cost centre. It enables the accumulation of all such costs at one place for which a common base of recovery may be used.
  • 49. Types of Cost Centres: 1. Impersonal Cost centre: It consists of a location or item of equipment (or a group of these). 2. Personal cost centre: It consists of a person or group of persons. 3. Operation cost centre: It consists of the machines and / or persons carrying out similar operations 4. Process cost centre: It consists of a specific process or a continuous sequence or operations.
  • 50. Revenue Centre: It is a segment of the orgn which is primarily responsible for generating sales revenue. A revenue centre manager has control over some of the expenses of the marketing department. The performance of a revenue centre is evaluated by comparing the actual revenue with budgeted revenue. Eg. Marketing Manager of a product line, sales representative. Profit Centre: A profit centre is a segment of the orgn for which both revenue and costs are accumulated. The main purpose of profit centre is to earn profit. Profit centre managers aim at both the production and marketing of a product. Its performance is evaluated in terms of whether the centre has achieved its budgeted profit. Eg. A division of the company which produces and markets the products may be called a profit centre.
  • 51. Responsibility Centres It is defined as an area of responsibility which is controlled by an individual. The following types of responsibility centers are found;
  • 52. Differences between Profit Centre and cost centre (i) Cost centre is the smallest unit of activity or area of responsibility for which costs are collected whereas a profit centre is that segment of activity of a business which is responsible for both revenue and expenses. (ii) Cost Centres are created for accounting conveniences of costs and their control whereas a profit centre is that segment of activity of a business which is responsible for both revenue and expenses.
  • 53. Differences between Profit Centre and cost centre (iii) Cost Centres are not autonomous whereas profit centres are autonomous. (iv) A cost centre does not have target costs but efforts are made to minimise costs, but each profit centre has a profit target and enjoys authority to adopt such policies as are necessary to achieve its targets. (v) There may be a number of cost centres in a profit centre as production or service cost centres or personal or impersonal but a profit centre may be a subsidiary company within a group or division in a company.
  • 54. Investment Centre: It is responsible for both profits and investments. The investment centre manager has control over revenues, expenses and the amounts invested in the center's assets. He also formulates the credit policy which has a direct influence on debt collection, and the inventory policy which determines the investment in inventory.
  • 55. COST UNIT It is a device for the purpose of breaking up or separating cost into smaller sub-divisions attributable to products and services. It is the unit of product, service or time in relation to which costs may be ascertained. E.g.. Tonne in case of coal. In case of brick kiln the unit should be 1000 bricks. In case of industries rendering service, usually the unit is a compound of two measures, since the single measure may be meaningless eg/ tonne-km in transport
  • 56. Cost Units: The Institute of Cost and Management Accountants, London: A cost unit is defined as “a unit of quantity of product, service or time (or a combination of these), in relation to which cost may be ascertained or expressed”. In the job costing method, cost unit is a single specific order; in batch costing it consists of a group of similar articles and in contract costing, it consists of a single contract. Eg: Building – Sq. foot of area / House Cement, Steel – Tonne Automobile – Number Power – Kilowatt hour paper – Ream etc
  • 57. Cost Concepts: Cost: It is the amount of expenditure, actual (incurred) or notional (attributable), relating to a specific thing or activity. The specific thing or activity may be a product, job , service, process or any other activity. Cost is the amount of resources given up in exchange for some goods or services. The resources given up are generally in terms of money. Expenses: They are expired costs, incurred and totally used up in generation of revenue. It results from a productive usage of an asset. It is that portion of the revenue producing potential of an asset which has been consumed in the generation of revenue. Eg. Selling & administrative expenses, salary, rent, commission paid, taxes paid, interest paid, etc
  • 58. Loss: It refers to “reduction in firm’s equity, other than from withdrawals of capital for which no compensating value has been received”. It is an expired cost resulting from the decline in the service potential of an asset that generated no benefit to the firm. Eg; obsolescence or destruction of stock
  • 59. COST CLASSIFICATION (1) By nature or Elements (2) By Functions (3) By degree of traceability to the product (4) By changes in activity or volume (5) By Controllability (6) By Normality
  • 60. COST CLASSIFICATION (7) By relationship with accounting period ( Capital and Revenue) (8) By Time (9) According to Planning and Control (10) By Association with the product (11) For Managerial Decisions.
  • 61. CLASSIFICATION OF COST I Natural classification of costs: 1. Direct Material: refers to the cost of materials which are traceable to specific units of output. Eg. Raw cotton in textiles, crude oil for petrol, steel to make automobile bodies, etc 2. Direct labour: It is the labour of those workers who are engaged in the production process. It is the labour expended directly upon the materials comprising the finished product. Eg. Labour of machine operators and assemblers. 3. Direct expenses (chargeable expenses): It includes other expenses other than direct material and direct labour directly incurred on a specific product or job. Eg. Cost of hiring special machinery or plant, cost of patents, royalties, licence fees, etc. Total of the above 3 elements of costs is referred to as Prime Cost.
  • 62. 4. Factory overhead: It is also called manufacturing overhead. It is the cost of indirect materials, indirect labour and indirect expenses. Indirect material refers to materials that are needed for the completion of the product but whose consumption with regard to the product is small. Eg. Lubricants, cotton waste, hand tools, works stationery, etc Indirect labour refers to the labour cost of production-related activities that cannot be associated the final product. Eg. Labour of foremen, shop clerks, general helpers, cleaners, etc Indirect expenses covers all indirect expenditure incurred by the manufacturing enterprise from the time production has started to its completion and its transfer to the finished goods store. According to Institute of Cost and Management Accountants Indirect expenses are the expenses which cannot be allocated but which can be apportioned to or absorbed by cost centres or cost units. They are incurred for the benefit of more than one product, job or activity. Eg: Heat, Light, Maintenance, factory manager’s salary, etc
  • 63. 5. Selling, distribution and administrative overheads: S & D overheads are the expenses incurred for the selling the products. It covers the cost of making sales and delivering / dispatching products. Eg. Advertising, salesmen salaries, and commissions, packing, storage, transportation, etc Administrative overheads includes costs of planning and controlling the general policies and operations of a business enterprise. Such costs which cannot be charged either to the production or sales division.
  • 64. II on the basis of Cost Behaviour (By changes in Activity or Volume) Fixed cost: It is the cost which does not change in total for a given time period despite wide fluctuations in output or volume of activity. They are also called standby costs, capacity costs or period costs. Eg. Rent, property taxes, salaries, depn, etc Fixed Cost Volume Total cost
  • 65. Classification of Fixed costs: a. Committed costs: They are primarily incurred to maintain the company’s facilities and physical existence, and over which management has little or no discretion. Eg. Depn, taxes, insurance premium rate, rent charges, etc b. Managed costs: They are related to current operations which must continue to be paid to ensure the continued operating existence of the company. Eg. Management and staff salaries. c. Discretionary costs: They are also known as programmed costs. They result from special policy decisions, management programmes, new researches, etc. Eg. R&D costs, marketing programmes, new system dvpt. d. Step Costs: it is constant for a given amount of output and then increases in a fixed amount at a higher output level. Eg. Supervisor’s salary
  • 66. 2. Variable Cost: They are the costs that vary directly and proportionately with the output. There is a constant ratio between the change in the cost and change in the level of output. Eg. Direct material cost, direct labour cost, factory supplies, sales commission, office supplies, etc. V.C
  • 67. 3. Mixed cost (Semi-variable and semi-fixed cost) They are a combination of semi-variable costs and semi-fixed costs. Because of the variable component, they fluctuate with volume; because of the fixed component, they do not change in direct proportion to output. Semi-fixed costs are those costs which remain constant up to a certain level of output after which they become variable. Eg. Electricity charges, water, supervisors salary, etc
  • 68. III. On the basis of degree of traceability to the product: 1. Direct Cost 2. Indirect cost IV. On the basis of association with the product 1. Product cost: They are the costs which are identified with the product and included in inventory values, i e they are included in the cost of manufacturing a product. In a manufacturing concern, it is composed of 4 elements: i) direct materials, ii) direct labour iii) direct expenses iv) manufacturing overhead 2. Period Cost: They are the costs which are not identified with product or job and are deducted as expenses during the period in which they are incurred. Eg. All Selling & administrative expenses.
  • 69. V.Functional Classification According to this classification costs are divided in the light of the different aspects of basic managerial activities involved in the operation of a business undertaking. Eg production, administration, selling and distribution.
  • 70. VI. By relationship with Accounting period (Capital and Revenue) Capital cost and Revenue costs: Costs can also be divided into a) Capital Expenditure & b) Revenue Expenditure Capital expenditure provides benefit to future periods and is classified as an asset; a revenue expenditure is assumed to benefit the current period and is classified as an expense. A capital expenditure will flow into the cost stream as an expense when the asset is used up or written off.
  • 71. VII.Costs for Decision Making and Planning 1. Opportunity Cost: It is the cost of opportunity lost. It is the cost of selecting one course of action in terms of the opportunities which are given up to carry out that course of action. It is the benefit lost by rejecting the best competing alternative to the one chosen. 2. Sunk Cost: It is the cost that has already been incurred. Also known as unavoidable cost, it refers to all past costs since these amounts cannot be changed once the cost is incurred. Eg. Book values of existing assets – Plant and equipment, inventory, investment in securities, etc
  • 72. 3. Relevant Costs: They are the future costs which differ between alternative. They are the costs which are affected and changed by a decision. Irrelevant costs are the costs which remain the same and not affected by the decision whatever alternative is chose. Features of Relevant Costs: i. They are only future costs, they are expected to be incurred in future. ii. They are only incremental (additional) or avoidable costs. Incremental costs refer to an increase in cost between 2 alternatives. Avoidable costs are those which are not incurred from one alternative to another.
  • 73. 4. Differential Cost: It is the difference in total costs between any 2 alternatives. They are equal to the additional variable expenses incurred in respect of the additional output, plus the increase in fixed costs. They are also known as incremental costs. They are calculated by taking the total cost of production and comparing it with the total costs incurred if the extra output is undertaken.
  • 74. 5. Imputed Cost: They are not actually incurred but are relevant to the decision as pertain to a particular situation. Eg. Interests on internally generated funds, rental value of company owned property and salaries of owners of a single proprietorship or partnership, etc 6. Out-of-Pocket Cost: It refers to the cash cost incurred on an activity. It is significant for management in deciding whether or not a particular project will at least return the cash expenditures associated with the project selected by management.
  • 75. 7. Shut Down Cost: These are the costs which have to be incurred under all situations in the case of stopping manufacture of a product or closing down a department or a division.They are always fixed costs. If the manufacture of a product is stopped, variable costs like direct materials, direct labour, direct expenses, variable factory overhead will not be incurred. However, a part of fixed costs associated with the product will be incurred.
  • 76. VIII. By Normality Under this , costs are classified according to whether these are costs which are normally incurred at a given level of output in the conditions in which that level of activity is normally obtained. On this basis, it is classified into two categories: ( a) normal cost – It is the cost which is normally incurred at a given level of output in the conditions in which that level of output is normally attained. It is a part of cost of production. (b) Abnormal cost. It is not a part of cost of production and charged to P & L Account.
  • 77. IX.BY TIME: Costs can be classifed as (i) Historical costs and (ii) Predetermined costs. (I) Historical costs: The costs which are ascertained after their incurrence are called historical costs. (II) Predetermined costs : Such costs are estimated costs. i.e, computed in advance or production taking consideration the previous period’s costs and the factors affecting such costs.
  • 78. X. COSTS FOR CONTROL 1. Controllable and Uncontrollable cost The ICMA (UK) defines Controllable cost as “a cost which can be influenced by the action of a specified member of an undertaking” and a non-controllable cost as “a cost which cannot be influenced by the action of a specified member of an undertaking. Controllable costs can be controlled (reduced) by a manager at a given organisation level. Eg. Indirect labour, lubricants, cutting tools, etc
  • 79. XI. ACCORDING TO PLANNING AND CONTROL : Planning and control are two important functions of management. According to this, costs can be classified as budged costs and standard costs. Budgeted costs: represent an estimate of expenditure for different phases of business operations such as manufacturing, administration etc coordinated in a well conceived framework for a period of time in future which subsequently becomes the written expression of managerial targets to be achieved. Standard costs: They are the costs which are planned or predetermined cost estimates for a unit of output in order to provide a basis for comparison with actual costs. They are used to prepare budgets. Standard cost is a unit concept and indicates standard cost per unit of output, per labour hour, etc.
  • 80. Other costs: 1. Joint cost: They arise where the processing of a single raw material or production resources results in two or more different products simultaneously. Joint costs relate to two or more products produced from a common production process. They are apportioned to different products using suitable bases of apportionment. Eg. Kerosene, fuel oil, gasoline & other oil products are derived from crude oil.
  • 81. 2. Common Costs: They are those which are incurred for more than one product, job, territory or any other specific costing object. They cannot be easily identifiable with individual products and therefore, are generally apportioned. Eg. Salary of a manager of a production dept which is manufacturing 3 products

×