Cost Accounting System

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a) COST ACCOUNTING

Cost accounting system is the part of management accounting that makes budget, actual cost of operations, analysis of variance and profitability of social use of funds. Cost accounting helps the manager in decision making regarding the reduction of the cost of the company and in improving the profitability. Cost accounting system is primarily used for internal managers therefore it does not need to follow the standards of GAAP. Cost accounting is also considered very important for the translation of supply chain into financial values.

(b) DIRECT COST

Direct cost is a costs which can be directly identified with a job, product or service. It may be fixed or variable and may be charged against a product, a sales program, a customer account, or a marketing plan. Besides that, direct costs (such as for labor, material, fuel or power) vary with the rate of output but are uniform for each unit of production, and are usually under the control and responsibility of the department manager. As a general rule, most costs are fixed in the short run and variable in the long run. Examples of direct cost such as direct materials, direct wages or direct labour cost and direct expenses.

• direct materials – raw materials used in a product, bought in parts and assemblies incorporated into the finished product, carriage inwards.

• direct wages – the remuneration paid to production workers for work directly related to production.

• direct expenses – expenses incurred specifically for a particular product e.g. royalties paid per unit for a copyright design, plant or tool hire charges for a particular job.

As a result, direct costs = prime cost = direct material + direct wager + direct expenses.

For example, the cost of rice in a fried rice should be attributed directly to the cost of manufacturing that product. Other costs, such as administrative expenses, are more difficult to assign to a specific product. So that not consider as a direct cost.

INDIRECT COST

An indirect cost is a cost that is not directly related to a cost object or the production of a specific good or service. Rather, the cost is common to several objects and requires an allocation and related to a variety of goods or services. Indirect costs which cannot be identified with a job, product or service.

For example, market research is an indirect cost because, while it may assist in making decisions about production, it does not affect the production of any one unit. Another common indirect cost is the purchase of office supplies. Indirect costs are necessary to running a business.

• indirect materials, indirect wages/indirect labour cost and indirect expenses

• indirect materials – lubricating oil, spare parts for machinery

• indirect labour – factory supervisors salaries, storemen’s wages, production clerk salaries

• indirect expenses – rent and rates for the factory, plant and machinery insurance, factory lighting, depreciation of factory plant

• indirect costs = factory overhead = indirect materials + indirect wages + indirect expenses

Production cost = Prime Cost + Factory Overhead

(c) VARIABLE COST

A cost that changes in proportion to a change in a company's activity or business. Variable costs are a direct function of production volume, rising whenever production expands and falling whenever it contracts. Examples of common variable costs include raw materials, packaging, and labor directly involved in a company's manufacturing process.

The formula of total variable cost is : Total Variable Cost = Total Quantity of Output * Variable

|Total Variable Cost Curve |
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[pic]

The total variable cost curve illustrates the graphical relation between total variable cost and the quantity of output produced. The shape of the total variable cost curve reflects increasing marginal...
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