STUDY SESSION ONE

INTRODUCTION TO COST ACCOUNTING

CONTENTS

1. Meaning of Cost Accountancy 6 Advantages and Disadvantages of Cost

2. Meaning of Costing and Cost Accounting Accounting
3. Purposes of Cost Accounting 7 Differences between Cost Accounting
4. Data and Information and Financial Accounting
5. Essential Elements of an Effective Cost 8 Revision Questions
Accounting Information

LEARNING OUTCOMES

After studying the contents of this chapter you should be able to:
▪ Define and differentiate between cost accountancy, costing and cost accounting.
▪ Identify the purposes or objective of cost accounting.
▪ Differentiate between data and information as they relate to cost accounting
▪ Explain the essential elements of an effective cost accounting information.
▪ Highlight the advantages and disadvantages of cost accounting
▪ Understand the distinction between cost accounting and financial accounting.

1.0 MEANING OF COST ACCOUNTANCY

According to CIMA, cost accountancy can be defined 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. It includes the presentation of information derived therefrom for
the purpose of managerial decision-making.”

As presented in the definition, cost accountancy is:

(a) a science because it follows logical principles and consists of systematic knowledge which
a cost accountant must possess for proper discharged of his duties
(b) an art because it involves the application of knowledge and skills by the cost accountant in
applying the principles, methods and techniques of cost accounting.
1.1 MEANING OF COSTING AND COST ACCOUNTING

CIMA, London, defines costing as “the technique and process of ascertaining costs” and cost
accounting as “the process of accounting from the point at which expenditure is incurred or
committed to the establishment of its ultimate relationship with cost centres and cos units…”
In simple terms, Costing is the process of ascertaining and assigning costs to products,
services or activities of a company, while Cost Accounting is the process of collecting,
summarizing, analyzing and reporting in monetary terms tailor made information to management
showing the costs and benefits of pursuing each alternative course of action open to management.
Cost Accounting provides a bank of data for the management Accountant to use. It is concerned
with the following:
(a) Preparing statements (e.g. budgets and costing)
(b) Cost data collection
(c) Applying costs to inventory, products and services
1.2 PURPOSES OF COST ACCOUNTING

The following are the purposes of cost accounting:

(i) to ascertain cost of goods produced or services rendered
(ii) to ascertain the cost of a department or work section
(iii) to facilitate pricing
(iv) to provide information to assist planning
(v) to provide information for decision making
(vi) to provide information to aid control
(vii) to assist in setting standards of performances
(viii) to provide feedback information for control purposes
(ix) For valuation of inventories of goods (raw materials, work-in-progress, finished goods)
that are still held in store at the end of a period
(x) to ascertain the profitability of a product, service, department, or the organisation as a
whole.

1.3 DATA AND INFORMATION

Data are raw materials yet to be processed. They relates to facts, events and transactions.
Information on the other hand is the outcome of processed data that is meaningful to the person
who receives it. Information is anything that is communicated and usable for decision making.

As they relate to cost accounting, the cost accounting system is designed to collect data and process
them into useful information to assist the management in planning, decision making and aid
control. Thus, a good cost accounting information must possess certain qualities to be meaningful
and useful to the management.
1.4 ESSENTIAL ELEMENTS OF AN EFFECTIVE COST ACCOUNTING INFORMATION

For cost accounting information to serve its purpose in assisting the management in performing
their functions, the following are the essential qualities it must possess.
a. Relevance: the information must be relevant to the purpose which it is meant for.
b. Completeness: the information user should have all the information needed in order to make
good decisions.
c. Accuracy: the information should be accurate enough for its purpose. Using incorrect
information could have serious and damaging consequences.
d. Clarity: the information provided should not be too difficult to interpret or ambiguous. It must
be clear to the user.
e. Confidence: the information must be trusted by the person or manger expected to use it.
f. Timing: the information should be provided to meet the purpose for which it is required or
meant. It should be made available at the right time without delay.
g. Cost: the information should be cost effective. That is, the benefit to be derived must outweigh
its cost.
h. Objectivity: the information should be free from personal bias i.e. it should be objective and
factual.
i. Volume: the information should be clear and concise. It should not be too voluminous to
avoid burden.
j. Channel of Communication: the information should be communicated to the person who
will implement it. It should get to the right place through proper channel to avoid any
omission.

1.5 ADVANTAGES AND DISADVANTAGES OF COST ACCOUNTING

Advantages of Cost Accounting

i. It helps to identify profitable and unprofitable products and services
ii. It helps to identify efficient and inefficient methods, and helps departments to take corrective
measures to improve efficiency
iii. It helps to generate comparative information on jobs, products, services and projects.
iv. It facilitates production control
v. It facilitates stock control
vi. It facilitates accurate estimation of cost of various cost units

Disadvantages of Cost Accounting

i. The analysis of cost data involves some amount of expenses and cost
ii. Some costing systems are complex and cumbersome to handle and are thus not well
understood by the managers who need to operate the systems.
 iii. The production of basic data requires the filling of many forms, sometimes inaccurate data
is provided. Under such conditions the foundation of subsequent analysis is weakened

1.6 DIFFERENCES BETWEEN COST ACCOUNTING AND FINANCIAL ACCOUNTING

Financial Accounting is that part of accounting that records actual transactions of an entity in
monetary term. It involves the process of collecting, recording, classifying, analyzing and
presenting financial transactions and the ascertainment of financial position of a business at the
end of a particular period for various users of accounting information. Cost Accounting on the
other hand is the process of collecting, summarizing, analyzing and reporting in monetary terms
tailor made information to management to aid in planning, controlling and decision making.

Difference between Cost Accounting and Financial Accounting

Basis of
Distinction Cost Accounting Financial Accounting

Information Cost accounts present both historical Financial accounts present essentially
provided records (e.g. standard costing) and historical picture of past operations.
future costs i.e. planning tools

Monetary/ Reports both financial and non Reports only financial information
non monetary financial information
information

Users Cost accounts provide information Financial accounts provide information

for internal users for both internal and external users.

Accounting Cost accounts are not subjected to Financial accounts are subjected to
Standards accounting standards accounting standards

Timing of They are prepared as the need arises They are prepared periodically usually
report at the end of accounting year

Audit No audit is required Audited by an external Auditor

requirement

Legal Not required by law They are required by law i.e.

requirement compulsory to prepare annual financial
statement

Purpose of Prepared for planning, decision Prepared for stewardship accounting

report making and control purposes i.e. giving the owners feedback on how
their funds have been utilized

Coverage of Prepared for a product, section as Prepared for the business as a whole
report well as the whole business
 Accuracy Cost accounts makes use of estimates Financial accounts make use of certain
i.e. future transactions figures i.e. historical transactions.

1.7 PRACTICE QUESTIONS

1. Write short note on the following

a. Cost accountancy
b. Cost accounting
c. Costing

2. Identify 7 objectives of cost accounting

3. What are the essential elements of a good cost accounting information?

4. What are the advantages and disadvantages of cost accounting?

5. Differentiate between cost accounting and financial accounting