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UNIT 1 NATURE AND SCOPE OF COST
ACCOUNTING
Structure
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1 Introduction
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2
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3
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5
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7


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2

Costing and the Economy

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1

Possible Difficulties

Definitions of Costing and Cost Accounting
Objects of Cost Accounting
Difference between Cost Accounting and Financial Accounting
Advantages of Cost Accounting
Installation of a Costing System



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2 Factors to be Considered



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3 Success of the Costing System

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9 Key Words
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11 Terminal Questions

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It
is concerned with classifying, recording and appropriate allocation of
expenditure for the determination of costs of products and services and
the ascertainment of the profitability
...
In this unit, we shall introduce you to the
nature and scope of cost accounting and discuss in detail the need for
cost accounting, its definition and objects, the difference between cost
accounting and financial accounting, the advantages of cost accounting, and
the installation of a costing system in an organisation
...
2 NEED FOR COSTING
Every economic activity, particularly an activity involved in the production
of goods or in rendering service, involves some expenditure
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Basic Concepts

may be in terms of materials, labour and other direct or indirect expenses
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It
is, therefore, necessary that all the three elements of the transaction (i
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cost,
profit and price), are clearly identified
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It has to incur Rs
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30 for labour and
Rs
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The factory has fixed the selling price
of the shoes at Rs
...
Thus, the cost of a pair of shoes is Rs
...
100, and the profit per pair is Rs
...
The management requires such information in respect of each product
manufactured and each activity undertaken by the organisation for purposes
of planning, cost control and decision-making
...

Hence, the accountants developed a new system of accounting called ‘cost
accounting’ under which records of transactions are maintained in such
a manner that detailed cost information is readily available in respect of
each product, job, department, process, etc
...

1
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1 Limitations of Financial Accounting
1)

2)
3)

4)
5)
6)
7)

It does not provide detailed operating information for each department,
process, product, or other unit of activity within the organisation
...

It does not classify expenses into direct and indirect or fixed and
variable
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It does not set up a proper system of control over the main elements
of cost viz
...
Hence, the wastages and losses
of materials go unchecked and utilisation of labour time remains
uncontrolled
...

It does not provide adequate costing information for fixation of selling
price of various products manufactured or services provided by the
organisation
...
Hence, it becomes difficult to compile cost data at
frequent intervals
...
Financial accounts are at best like a thermometer
which can only indicate the temperature of the body but cannot help
diagnosis or cause analysis of its health
...
2
...
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Let us now analyse the need for costing in a relatively wider perspective
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These can be summarised as follows:
1) Global Competition :There is an ever increasing amount of
competition in the market both internally and externally
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2) Limited Resources: There has been an acute scarcity of resources
which require an effective and economic utilisation by curtailing
wastages and losses
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4) Fast Decisions: Correct and quick decisions are required on the basis
of adequate information supported by reliable data
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6) Optimum Profit: All business ventures aim at maximisation of
profit which is mainly based on an efficient performance in financial,
personnel, production and marketing activities
...
Costing aids pricing, checking of wastage, control of resources,
management of processes, flow of data for decisions, discharge of social
obligations and provides an opportunity for profit growth in the organisation
...


Nature and Scope of Cost
Accounting

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It consists of principles and rules which are applied for ascertaining
the cost of products manufactured and services rendered
...
It begins with the
recording of all incomes and expenditures and ends with the preparation
of periodical statements and reports for ascertaining and controlling costs
...

In actual practice, however, these two terms are used interchangeably
...

At initial stages of the development of cost accounting, the Terminology
published by the Institute of Cost and Management Accounts (ICMA) of
U
...
even distinguished between ‘cost accounting’ and ‘cost accountancy’
and defined the latter as “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 as well as the presentation of
information for the purpose of managerial decision-making
...
Most of the authors
use the term “CostAccounting” and do not even recommend the use of ‘Costing’

BCOC-138 (E)
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” Thus, we can say that,
a)

Cost accounting is a process of accounting for costs
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c)

It provides statistical data on the basis of which future estimates may
be prepared
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e)

It involves the functions of (i) analysis, (ii) recording, (iii) establishment
of budgets and standards, (iv) comparison, and (v) reporting
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4)

State whether each of the following statements is True or False and
justify your answer
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ii)

Cost Control means a lower amount of profit to the company
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iv) If resources are scarce, cost of production will be low
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vi) Cost Accounting provides data for managerial decisionmaking
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4 OBJECTS OF COST ACCOUNTING
The main objects of cost accounting are as follows:
1)

To ascertain the cost of products and services;

2)

To aid in fixation of selling price or quotation for tenders;

3)

To analyse and classify the different elements of cost which constitute
the total cost;

4)

To identify causes of wastage and apply appropriate course of action
for checking the wastage;

5)

To control costs by analysis and comparisons;

6)

To communicate to the management all information relating to costs
and facilitate managerial decision-making;

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BCOC-138 (E)
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Nature and Scope of Cost
Accounting

Thus, the objects of costing establish the fact that it is an essential branch of
accounting
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1
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Serves the information needs
Provides financial information
of the management
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Need not be followed by a
Needs a system of independent
system of external audit
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Classifies expenses into
Transactions relating to all
material cost, labour cost,
receipts and payments of the
fixed overheads and variable
business are classified into debit
overheads
...

Shows expenses in a cost
Consolidates all transactions
sheet, process account,
into two financial statements
contract account or some other i
...
Trading and Profit & Loss
statement of account
...

Does not form a basis for tax
assessment because this is not
a record
...

Presents the cost information
at frequent intervals
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Acts as a basis for determination
of tax liabilities of the business
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Presents financial information
once or twice a year
...


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BCOC-138 (E)
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Uses accounting ratios to compute
the major trends which have
already taken place in the
previous, accounting period
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Follows only monetary units
for recording transactions in the
books of account
...
In fact, the two
are complementary to each other
...


1
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An effective and organised system of costing helps:
1)

Continuous flow of information regarding production, cost, materials,
labour, stores, plant capacity, etc
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2)

Identification of unproductive activities, losses or wastage of resources,
obsolete machinery and points of inefficiency which demand a quick
remedial action
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4)

Preparation of budgets and business forecasts
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6)

Fixation of selling prices
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8)

Estimates of costs and revenue in advance
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10) Identification of idle capacity and the cost of working below the
installed capacity
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12) Decisions on the basis of facts and figures and formulation of suitable
policies for various matters such as:
i)

level of output

ii) make or buy decision
iii) replacement or modernisation of old equipment
iv) shut down or continue during depression
v)

introduction of new products or elimination of old ones

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BCOC-138 (E)
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Now-a-days, costing is used by various
institutions-such as hospitals, transport undertakings, local authorities,
offices, banks, educational institutions, etc
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They
get products at reasonable prices due to proper costing system
...
Costing helps the investors, bankers,
lenders and shareholders in evaluating the past profitability and future
prospects of the company
...

Check Your Progress B
1)

Give four main objects of costing
...

3)

Select and tick the most appropriate alternative to fill in the blanks
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the future cost of production
a) ascertain;

b) forecast;

c) analyse;

d) estimate
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a)

employees’ welfare;

b)

decisions;

c)

efficiency;

d)

profitability
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a) published;

b) statutory;

c) internal;

d) taxation
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figures
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v) Costing records must also be …………………by management
...


b) prepared;

c) verified;

d) analysed
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1
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The principles and procedures of
costing, therefore, have to be applied in each organisation according to its
own characteristics and environment
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Before introducing a system of costing, it would be advisable to conduct a
preliminary investigation to assess the exact requirements of the business in
respect of: (a) product, (b) organisation, (c) manufacturing process, and (d)
selling and distribution methods
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Basic Concepts

i)

the existing organisation is disturbed to the minimum;

ii)

the system is implemented gradually;

iii) the process of costing designed for the organisation is compact and
goes into meaningful details only;
iv) the procedure is simple and economical to operate; and
v) the system is able to generate periodical reports to various levels of
management
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2)

What are the practical difficulties in the process of introduction of the
system?

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1 Possible Difficulties
We must be conscious of the difficulties in introducing the system of costing
and that they have to be overcome
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2)

Resistance from staff associated with the operation of the financial
accounting system
...

4)

Shortage of trained and qualified staff to handle the new system
...


1
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2 Factors to be Considered
The following factors should be considered before the installation of a
system of costing:
1)

Objective of the costing system
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3)

Quality of the management
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5)

Technical aspect of the business
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BCOC-138 (E)
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8)

Manner of reconciliation between cost and financial accounts and
the possibilities of developing them into an integrated system of
accounting through control accounts
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10) Nature of the product and the type of costing system which will suit
the product
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Nature and Scope of Cost
Accounting

1
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3 Success of the Costing System
The requisites of an effective system of costing are as follows:
1)

It suits the nature and requirements of the business
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For this purpose, standard forms
should be used and the objective of every record and report should be
clear to all concerned
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4)

It ensures promptness and regularity in flow of required information
for the preparation and presentation of costing reports
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6)

It contributes to cost control effectively
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8)

There is considerable amount of flexibility in the system so that it
can easily adjust with the changing conditions or requirements of the
business
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Thus, the system of costing proposed to be installed in an organisation must
be properly planned and introduced carefully so that it is competent enough
to deliver the desired results
...

Check Your Progress C
1)

State four major factors which you will take into account for
installation of a costing system in an organisation
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3)

Answer YES or NO in case of the following statements and justify
your answer
...


ii)

Wastage of labour need not be checked in an effective system of
costing
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iv) There is a standard system of costing which suits all types of
organisations
...


vi) The costing system should be independent of the financial
accounting system
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Basic Concepts

1
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Its need arosebecause of the limitations of the
financial accounting and the complexities of managing a modern enterprise
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Its main
objects are (i) ascertainment of costs, (ii) fixation of prices, (iii) control
of costs, and (iv) providing cost data for managerial use
...
For installation
of a costing system in any organisation, it must be ensured that (i) it suits
the nature of the business, (ii) it is simple to understand and easy to operate,
(iii) it is introduced gradually, (iv) it provides the necessary information
promptly and regularly, (v) it is economical, and (vi) it is flexible
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9 KEY WORDS
Allocation: Distribution of expenditure among various cost centres
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Costing: The technique and process of ascertaining costs
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Cost Centre: A location, person, equipment or department for which costs
may be ascertained and used for purposes of control
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which can be directly identified with items produced
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Idle Capacity: Unutilised production capacity of an enterprise
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Indirect Expenses: Overheads relating to manufacturing, administration,
distribution or selling which cannot be directly identified with items
produced and so have to be allocated on some rational basis
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Quotation: Minimum acceptable price offered for the supply of goods or
services
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Standard: Pre-determined level of performance or cost based on previous
experience and a realistic assessment of the present situation
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Variance: Difference between standard cost and actual cost
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Variable Expenses: Expenses which increase or decrease in the same
proportion as the increase or decrease in the output
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10 ANSWERS TO CHECK YOUR PROGRESS
A) 3
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1
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(i) d

(ii) b

(iii) c

(iv) a

(v) c

3
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11 TERMINAL QUESTIONS
1)

Why do we need an effective system of cost accounting in a business
enterprise?

2)

Define ‘Cost Accounting’
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3)

State the importance of costing in a modern economy
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5)

What are the major advantages of Cost Accounting to a manufacturing
concern?

6)

How can you install a system of costing in a biscuit producing factory?
What are the possible difficulties in installing such system?

7)

“Financial Accounting procedures are generally designed to ascertain
the periodic profit or loss, but there are important limitations and
deficiencies in the system
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8)

How do Cost Accounting records help in the planning and control of
business operations of an enterprise?

Note: These questions will help you to understand the unit better
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But do not submit your
answers to the University
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SOME USEFUL BOOKS
Arora M
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2003
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Ltd
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(Chapter 3-8)
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K
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Cost Accounting: Methods and Problems, Academic
Publishers: Calcutta
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Iyenger, S
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, Cost Accounting, Sultan Chand and Sons
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N
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Mittal, 2018
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(Chapter 2-3)
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M
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and G
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Sharma, 2018
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(Chapter 4-7)
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BCOC-138 (E)

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