MAF151

FUNDAMENTAL OF
COST ACCOUNTING
CHAPTER 1:
INTRODUCTION
Lesson outline:

■ Differences between cost and financial accounting

■ Cost classification by nature, function and behaviour
■ Cost Statement
Introduction
What is costing?
■ Basically it’s from the word ‘cost’.

■ Simply means finding cost or ascertainment of cost.

■ It means expenditure incurred for producing a product or

providing a service.
Let us take a look at the pictures below:
Materials needed to make a wooden chair…
What would be the ingredients in making a.......

■ Cake?
■ Sandwich?
 Differences between Cost Accounting and Financial
Accounting.
FINANCIAL ACCOUNTING
Financial accounting is a method to
analysing, classifying and
recording of financial transaction
and ascertainment of how such
transactions affect the performance
and financial position of a
business.
COST ACCOUNTING
It is concern with the provision of
cost information to people within
the organization to help them to
make better decision to improve
the efficiency and effectiveness of
existing of operation.
Main objective of cost accounting are:

3. To make decision
product pricing, make or buy, profitability analysis,
product mix

2. To plan and control cost

Plan = long-term or short term plan – relate to budgeting.
Control = performance report, evaluate performance
against the plan

1. To determine / ascertain cost

determine the classification of cost, amount of cost needed,
inventory valuation
 V COSTING
FINANCIAL ACCOUNTING
FINANCIAL ACCOUNTING S COSTING
Definition Process of identifying, measuring The application of accounting
and communicating the economic and costing principles,
information to permit informed methods, techniques in the
judgments and decisions by users ascertainment of costs
of the information

Users Orientation External parties Internal parties

Reporting Governed by Company Act 1965 No legal requirement/optional
requirement and the preparation of the financial
statements are accordance to FRS
 V COSTING
FINANCIAL ACCOUNTING
FINANCIAL ACCOUNTING S COSTING
Reporting Entity Report for the company as a Report based on different
whole segments and parts of the
company

Reporting Frequency Annually or semi-annually Depend on the management –

weekly, monthly, quarterly or
annually
Information Time Past information Past, present and future
Dimension
Degree of Accuracy Accurate because its reports Since focus on future, estimation
the past events amount is considered sufficient
COST ACCOUNTING..why?
In order to produce a product, we need to have raw
materials.

In cost accounting, it is very important to identify the raw

materials which are used to manufacture products for sale.

Products includes consumables products for example food,

drinks or;
products for use example hand phones, computers etc.
Why is it important to identify these raw materials?

To enable the cost accountant to find out the cost of raw

materials to produce the product.
ELEMENTS OF COSTS
Manufacturing costs

Labour
- Direct labour
Material - Indirect labour Expense
- Direct material - Direct expense
- Indirect material - Indirect expense
 Classification of Costs
■ Costs are classified according to the purpose for which the information is needed.

Classification of Costs

1. Nature 2. Function 3. Behaviour 4. Controllability 5. Normality

Materials Manufacturing Fixed costs Controllable

costs costs Normal costs

Labour Uncontrollable
Non manufacturing Variable costs cost Abnormal costs
costs

Semi-variable
Other expenses costs

Step costs
1. NATURE
■ MATERIALS
• All materials that can be physically identified with a specific product.
• Example: for Manufacturers such as Toyota, the direct materials include steel, tires,
Direct engines, etc.
materials

• Items of material that cannot be physically identified with a specific product.

• It is relate to more than one product.

• Example: Threads and buttons used in stitching clothes, lubricants used in
Indirect maintenance of plant and machinery, cotton waste used in cleaning the machinery
materials etc.

Sources of information: material requisition form, bin card, invoices

DM IDM
Example: Example:
Steel Cleaning Supplies

DM
Example:
Tires
1. NATURE, CON’T..
■ LABOUR
• Cost of salaries, wages, and fringe benefits for personnel who work directly on
manufactured products.

• Example: At Toyota, direct labour includes the wages of machine operators and
Direct technicians who assemble the parts and wire the electronics to build the completed
Labour vehicles.

• Wages of employees who do not work on the product itself, just assist in the
manufacturing operation

Indirect • Example: salaries, wages and benefits of plant janitors, plant supervisors, shop
clerks, plant guards etc.
Labour

Sources of information: pay slip, remuneration slip, payment voucher- salary

 DL IDL
Example: Example:
Technician Janitor, supervisor
1. NATURE, CON’T..
■ EXPENSE

• Expenses which are incurred specifically to a particular product.

• all other costs besides material and labour
• Example: Cost of design and layout, royalties payable on use of patents,
Direct copyrights, surveyors etc.
Expense

• all other costs needed to operate a factory which is not charged directly to the
product.

Indirect • Example: insurance, electricity, advertising etc.

Expense
 Direct expense
Example:
layout, royalties copyrights, Indirect expense
surveyors, etc. Example:
Insurance, advertising, etc
Total direct costs are known as prime cost.
Total indirect costs are known as the overhead costs.
CLASSIFICATION OF COSTS IN MANUFACTURING
COMPANY

Direct Direct Manufacturing

Material Labor Overhead

Prime Conversion
Cost Cost

Slide 22
2. FUNCTION
Non Manufacturing
Manufacturing

Selling &
administrative Research &
expenses development
 2. FUNCTION
■ Classification of cost according to function is a classification according to the type of
activity for which the costs were incurred. According to function the cost are classified
as manufacturing or non-manufacturing.
■ Manufacturing = production
■ Non-manufacturing=administration, marketing, selling & distribution, R&D.
production = indirect cost related to production activities. Eg: Supervisors’ salaries, factory rental.
administration= indirect cost of operation in order to formulate policy and control cost. eg:
manager’s salaries, clerk salaries.
marketing = indirect cost related to marketing( promoting products), selling and distribution
activities/. Eg: printing banner, petrol for delivery van, salesmen commissions.
 R&D= indirect cost of searching for new ideas, materials, method and new scientific knowledge to
produce new or improved product.
 Finance= indirect costs related to financing the operation of the companies
E.g:Interest on loan paid for purchase of machinery
3. BEHAVIOUR

Cost behavior means how a cost will react to changes in the

level of business activity.

Fixed cost Variable cost

Semi-
Step-cost
variable cost
FIXED COST
 costs that do not vary with level of activity, but remain the same
regardless of how much work is done.
 Total fixed costs remain unchanged even when activity changes..
 Eg; depreciation, rental & insurance
The rate of streamyx bill per month.
Total Streamyx Bill

Data Usage per Month

VARIABLE COST
• cost that vary with level of activity, cost that change in total in direct
proportion to the level of activity
• Total variable costs change when activity changes.
Eg: material costs, labour costs.
Total Long Distance
Telephone Bill

Your total long distance

telephone bill is based on
how many minutes you talk.
Minutes Talked
SEMI VARIABLE COST (MIXED COST)
Slope is • A semi-variable cost is partly fixed and partly variable.
variable cost
• Eg: telephone cost, which consist of fixed period rental and
per unit
charges for calls made (call charges vary with no of calls
of activity. made).

l e
ab
r i
Total Telephone Bill

v a
i
e m
ls Variable
t a
To st Excess Charge
co

Fixed Monthly
Charge
Minutes Talked
Semi-variable Cost, con’t..
Examples :
■ Telephone bill
■ Water bill
■ Electricity bill
whereby there will be a fixed cost element
ie the monthly rental and the variable element
ie depending on the usage.
STEP COST
Step cost – cost that are fixed over a range of activity and then rise to a new
level as activity level changes.
E.g. supervisory salaries, depreciation of machines, etc.
4. CONTROLLABILITY
Non
Controllable
Controllable
cost
cost

cost that can be controlled/

influenced by decisions/actions cost that cannot be
of manager controlled/influenced
Eg; cost of machines repairs
by manager
and maintenances are Eg; price of raw
controlled by production materials.
manager, number of employees.
5. NORMALITY
• Cost that have been planned for or known to
happen and cannot be eliminated.
Normal costs • Ex: Losses occur in cutting wood to make
furniture.

• Losses/costs that are not expected to happen under

efficient operating conditions.

Abnormal costs • Ex: Machine breakdown, destruction due to fire

CONVERSION COST
• It is impossible for a product to produce by itself. It needs the
service of direct labour and other facilities such as factory
area, machines, power tools and lighting for factory area.
• Thus, conversion costs are the combination of direct labour
cost and production overhead in order to convert raw
materials into finished goods
Product Cost & Period Cost

Product costs – costs identified with goods produced or produced for

resale.
Eg: direct wages

• Period costs – costs that are not included for stock valuation
purposes and treated as expenses in the period which they are
incurred.
Eg: administrative expenses
• Period Costs:
• General and administrative
expenses
• Marketing expenses
• Insurance premiums
• Income taxes
• Nonmanufacturing costs

• Product Costs:
• Direct material costs
• Direct labor costs
• Manufacturing overhead
And lastly…
■ Preparation of a….

Cost statement is a statement showing all

the costs that make up a product or
service.
 RM RM
Direct Material Cost 3
Direct Labour Cost 2
Direct expenses 1

Prime Cost 6
Add: Manufacturing overhead
Indirect material 5
Indirect labour 4
Indirect expense 3
Production Cost 12
Add: Non Manufacturing Cost
Administration overhead 2
Selling & distribution overhead 1
Finance cost 1
4
TOTAL COST 22

Profit 8
SELLING PRICE 30