Cost And Management Accounting

Cost is the amount of expenditure (actual or notional) incurred on or attributable to, a specified thing or activity. Cost object is defined by Charles T. Horngren as ‘any activity for which a separate measurement of cost is desired’. It may be an activity, or operation in which resources, like materials, labour, etc. are consumed. The cost object may be a product or service, a project or a department, or even a program like eradication of illiteracy. Again, the same cost may pertain to more than one cost objects simultaneously. For example, material cost may be a part of product cost as well as production department cost.

Cost accounting is a method of managerial accounting which aims to capture the total production cost of a business by measuring the variable costs of each production phase as well as fixed costs, such as a lease expense.

Management accounting means accounting designed for the management, i.e., accounting which provides necessary information to the management for discharging its functions. It is basically concerned with presentation of accounting information in a manner which can assist the management in the creation of policy and in the day-to-day operations of an undertaking. Its aim primarily is to assist the management in performing its functions effectively.

Broadly speaking, there are three types of accounting – Financial Accounting, Cost Accounting and Management Accounting.

1.0      Financial Accounting : Financial Accounting is mainly concerned with recording business transactions in the books of accounts for the purpose of presenting final accounts to Board of Directors, shareholders and tax authorities etc. It is defined as “the art of recording, classifying and summarizing in a significant manner and in terms of money, transactions and events, which are in part at least, of a financial character and interpreting the results thereof. The purpose of financial accounting it is to summarize the information recorded in the following three-statements at the end of the year :

(a)      Profit and loss Account-showing the net profit or loss during the year;

(b)       Balance sheet-showing the financial position of the firm at a point of time; and

(c)       Statement of Sources and Application of Funds – showing the flow of funds arising from activities during the year.

However, financial accounting is faced with certain limitations. Financial accounting is so limited and inadequate in regard to the information which it can supply to management that business have been eager to adopt supplementary methods like cost accounting. The limitations of financial accounting are summarized as follows:

  1. Provides only limited information: There are now no set patterns of business on account of radical changes in business but it may have to be incurred because it may bring advantage to the business in the long-run or may be necessary simply to sell the name of business. The management needs a lot of varied information to decide whether on the whole it will be justifiable to incur a particular expenditure or not. Financial accounting fails to provide such information.
  1. Treats figures as single, simple and silent items. Financial accounting fails to make the people realize that accounting figures are not mere isolated phenomena but they represent a chain of purposeful and pertinent events. The role of accountant these days in not only of a book-keeper and auditor, but also that of a financial adviser. Recording of transactions is now the secondary function of the accountant. His primary function now is to analyze and interpret the results.

3. Provides only a post-mortem record of business transactions. Financial accounting provides only a post-mortem record of business transactions since it records transactions only on historical These days business decisions are made on the basis of estimates and projections rather than historical facts. Of course, past records are helpful in: making future projections but they alone are not sufficient. Thus, needs of modem management demand a break-up from the principles and practice of traditional accounting.

4. Considers only quantifiable information. Financial accounting considers only those factors which are capable of being quantitatively expressed. In modern times, the concept of welfare state has resulted in increased government interference in all sectors of the national economy. The management has, therefore, to take into account government decisions over and above purely commercial considerations. Some of these factors are not capable of being quantitatively expressed and hence their impact is not reflected in financial statements.

  1. Financial accounting fails to provide information needs of different levels of management. Company form of business organization has divorced ownership from management. The shareholders are only contributors of capital. The business is run in reality by different executives, each an expert in his area. There are usually three levels of management-Top Management, Middle Management and Lower Management. The type of information required by each level of management is different. The top management is mainly concerned with the policy decisions. They, therefore, are interested in knowing about the soundness of the plans, proper structuring of the organization, proper delegation of authority and its effectiveness. The middle management executives function as coordinators. They must know: (i) What happened? (ii) Where happened? and (iii) Who is responsible? The lower management, people function as operating supervisors. The reports submitted to them should give details about the planned performance, actual performance and the deviations with their reasons. Financial, accounting does not have a built-in system to provide all such information.
  1. Inadequate information for price fixation – Costs are not available as an aid in determining prices of products, services or production orders.
  1. 7. No cost comparison – Comparison is the foundation of modem management control But financial accounting does not provide data for comparison of costs of different periods, different jobs or departments, or sales territories.

1.1      Cost Accounting : Compared with financial accounting, cost accounting is relatively a recent development. In fact, cost accounting started as a branch of financial accounting, but now it may well be regarded as a profession in its own right. The vital importance that cost accounting has acquired in the modem age is because of the growth of complexities in modem industry.

 

Financial information supplied by financial accounting in the form of financial statements stated above relate to past activity. Cost accounting is not so restricted and is concerned with the ascertainment of past, present and expected future costs of products manufactured or services supplied. Detailed meaning and definition of cost accounting is given later in this chapter. In brief, cost accounting is the activity of finding out the costs of products or services.

 

Cost accounting has primarily developed to meet the needs of management. Profit and Loss Account and Balance Sheet are presented to management by the financial accountant. But modem management needs much more detailed information than supplied by these financial statements. Cost accounting provides detailed cost information to various levels of management for efficient performance of their functions. The information supplied by cost accounting acts as a tool of management for making optimum use of scarce resources and ultimately add to the profitability of business.

1.2      MANAGEMENT ACCOUNTING

Management accounting means accounting designed for the management, i.e., accounting which provides necessary information to the management for discharging its functions. It is basically concerned with presentation of accounting information in a manner which can assist the management in the creation of policy and in the day-to-day operations of an undertaking. Its aim primarily is to assist the management in performing its functions effectively.

The Chartered Institute of Management Accountants (CIMA) London, defines Management Accounting as follows: “The application of professional knowledge and skill in the preparation of accounting information in such as way as to assist management in the formation of policies and in the planning and control of the operations of the undertaking.”

 

The definition given by the Management Accounting Team of the Anglo- American Council of Productivity seems to be more precise. It reads :

“Management accounting is the presentation of accounting information in such a way as to assist management in the creation of policy and in the day- to-day operations of an undertaking”.

The above definitions clearly indicate that management accounting is concerned with accounting information which is useful to the management. Efficiency of the various phases of management is, as a matter of fact, the common thread which underlies all these definitions. However, it should be clearly understood that it does not supplement financial accounting but rather it supplements it in order to serve the diverse requirements of modem management.

Read more in details here:

Cost Accounting Study Note

COST AND MANAGEMENT ACCOUNTING SIMPLIFIED

COST AND MANAGEMENT ACCOUNTING STUDY MATERIAL

 

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