Cost ing 5tgr

Evolution, Importance and Advantages of Cost ing

Historical Development (Evolution) The origin of cost ing, along with the origin of bookkeeping itself, is unknown. Attempts to keep manufacturing s have been traced to the time of Henry VII and to the’ Medici The books of Christophe Plantin, a' French publisher, showed some understanding of job lot ing before the 16th century. -Manuals for double-entry bookkeeping before the 19th century were common, but little or no mention was made" of manufacturing or costing methods until Charles Babbage in England (approximately 1830) presented a paper that emphasized the need for serious cost ing. The French, led by Anselme Pagen and Louis Mezieres, were active in the early part of the 19th century and in 1841 Armand Malo won a prize of 1,000 fr. for his manual of agricultural ing for primary schools. In the period from 1870 to 1900 engineers took the lead in developing cost ing methods and in 1900 Alexander Hamilton Church, president of the Institute of Cost and Works ants, set forth the modern approach to production centers and idle capacity charges. Fixed-variable analysis of business costs is credited to Dionysius Lardner (1850) and was developed in by C. Adolphe Guilbault about 1865, in Great Britain by John Manger Fells (1877) and Alfred Marshall (1890), and in by Eugen Schmalenbach (1900). Attempts to set and use standards were made in the textile industry by G. P. Norton (1889), but developed standards date from F. W. Taylor (Shop Management, 1903), John Whitmore (190S), and Harrington Emerson (1909). Fells presented profit charts and modern flexible budgeting in 1903. It is generally conceded that the structure of modem factory cost ing was established before World War I. Beginning about 1930 businessmen and economists became impressed with the magnitude of the costs of distribution and cost ants therefore began to extend their factory techniques to cover the control of distribution activities. Costs are accumulated and compared for size of order, method of delivery, line of distribution, customer call, ton warehoused and a myriad of office activities. The investigations of the Federal Trade commission and the age of the Robinson-Patman act in the United States accelerated the development of distribution cost methods by insisting that differences in selling prices over a large segment of business activity be justified in of differences in costs. Toward the middle of the 20th century, retail stores developed' expenseFinancial Management – Prof. Arvind Dhond

1

Evolution, Importance and Advantages of Cost ing

center ing, which is a highly developed method of determining the cost of merchandising activities, and they extended the older retail ing to a more comprehensive fixed-variable structure by developing merchandise management ing. During World War II emphasis on cost control was reduced, and temporarily attention returned to the older objective of compilation for billing purposes. Postwar competition, however, led to a rapid return to cost control and to the birth of managerial ing with renewed emphasis on enterprise goals and accomplishments. The extension of cost ing techniques and principles to governmental units in the United States was a development of the middle of the 20th century. Difficulties arose with regard to the measurement of certain governmental and institutional services, and unfortunately many costs exhibited erratic behavior, many institutions and governmental units that were using budgets primarily as expenditure controls installed performance budgeting, which combines financial controls with standard costing. Many school systems, universities, hospitals and clubs rapidly adopted similar type of performance budgeting. The problem of costing has been studied by the government in Great Britain, particularly in relation to the cost of medical services. The growth or uniform cost systems has been comparatively rapid even outside the totalitarian countries where uniform methods of costing are necessary for effective over-all planning. In the United States uniform costing has been sponsored by trade associations, which collect reports and compile statistical measures that serve as norms against which each firm can appraise its performance. These associations have been active in recommending specific cost Systems for their and have carried on educational work designed to impress their member with the importance of knowing production and distribution costs for intelligent pricing and effective control. European productivity teams have repeatedly expressed their surprise at the interest in costs shown by U.S. businessmen, and the display of competitive spirit directed toward bringing their costs within budgeted aids or below those reported by their competitors. The professional status of cost ing is encouraged by organizations such as the National Association of ants, Controllers Institute of America, Institute of cost and works ants, Society of Industrial and cost ants of Canada and similar groups. Financial Management – Prof. Arvind Dhond

2

Evolution, Importance and Advantages of Cost ing

Case Study ABC Pvt. Ltd, a new comer in small manufacturing firm of formals and casuals wears. Product range includes, shirts and T- Shirts (Full & Half sleeves), tros and jeans, cargo’s, etc… As it is a newly introduced firm, the burden is on the Finance Manager of deciding the ing method for maintaining books of in a factory. By considering all the factors determining cost, such as cost structure, condition of market, type of consumer, area of distribution, capacity of supply, product’s demand & supply, etc… Manager has to decided to follow the Cost ing for maintaining factory A/c or Manufacturing A/c. Cost ing does not includes physical stock-taking, but it includes detailed & relevant cost figure of closing stock, raw material, work-in-progress and Finished goods. Which helped the manager to find out most suitable and accurate cost per unit. These also helped him to avoid - material wastages, use of obsolete machinery, poor planning, etc… They took control over material, labour and overhead expenses, and started discussing day-to-day operations of business, so they can take remedial actions. Moreover, introduction of a cost reduction programme combined with operational research and value analysis leads to improvement in economic as well as financial condition of the firm.

Questions for Discussion (1)How cost ing helps the firm in determining the Selling Price? (2)According to you, by adopting Cost ing method, Can a firm prepare a Financial Statement? (3)Which kind of operating policy decision can we take by using Cost ing Method? (4)From the case, what are the benefits/ Advantages enjoyed by a firm, by adopting Cost ing? Financial Management – Prof. Arvind Dhond

3

Evolution, Importance and Advantages of Cost ing

Answers (1) How cost ing helps the firm in determining the Selling Price? Soln: - Cost ing provides detailed and relevant cost figures for determining the selling price of products or services. In fixing selling prices. However, regard must be had to the cost structure, condition of the market, the type of consumer, the area of distribution, the quantity, which can be supplied, the demand for the product and supply thereof. A cost ant should not only accurately ascertain the total cost but also analyze such total cost under variable and fixed cost so that management may quote prices even below total cost but above variable or marginal costs for increasing volume of sales leading maximization of profit. (2) According to you, by adopting Cost ing method, Can a firm prepare a Financial Statement? Soln: - In order to prepare financial statements it is required to determine the stock-values at the end of the period over which such financial statements are to be prepared. Physical stock-taking is a lengthy procedure and the business has to be closed down for stock-taking purpose. Where cost s are kept, the ascertainment of the value of closing stocks of raw materials, work-in-progress and finished goods become easy and as such financial statements can be prepared monthly or even weekly. (3) Which kind of operating policy decision can we take by using Cost ing Method? Soln: - These policies may bea) Determination cost-volume-profit relationship; b) Whether to shut down or operate at a loss; c) Whether to make or buy from outside suppliers; and d) Whether to continue with the existing plant and machinery or to replace them by improved and economic ones. Financial Management – Prof. Arvind Dhond

4

Evolution, Importance and Advantages of Cost ing

(4) From the case, what are the benefits/ Advantages enjoyed by a firm, by adopting Cost ing? Soln: - They are as follows --a) Establishment of more accurate unit costs, a knowledge of which results in establishment of fair selling prices and in the elimination of unprofitable lines of product. b) Elimination of inefficiencies in plant operation. These inefficiencies are costly and arc caused by material wastage, use of obsolete machinery, poor planning, or assignment of men to work for which they are not qualified. c) Presentation of more frequent and more accurate financial s with the help of perpetual inventory system of stock control.

Financial Management – Prof. Arvind Dhond

5

Evolution, Importance and Advantages of Cost ing

Importance of Cost ing: 1)

Ascertainment of costs: - Costs arc ascertained using any costing method e.g. job costing or process costing as well as any one more of the costing techniques and systems, such as historical costing, standard costing, marginal costing, direct costing, absorption costing, and mi form costing.

2)

Determining the selling price: - Cost ing provides detailed and relevant cost figures for determining the selling price of products or services. In fixing selling prices. However, regard must be had to the cost structure, condition of the market, the type of consumer, the area of distribution, the quantity, which can be supplied, the demand for the product and supply thereof. A cost ant should not only accurately ascertain the total cost but also analyze such total cost under variable and fixed cost so that management may quote prices even below total cost but above variable or marginal costs for increasing volume of sales leading maximization of profit. It is during periods of industrial stress that costing is put to its greatest test. When orders and production begin to fall, the manufacturer who has a sound costing system may start to cut his prices judicially. Where there is no costing system. The manufacturer is apt to cut costs in such a haphazard way that it may ruin himself.

3)

Determining and controlling efficiency: - A cost ant must study the various operations involved in the manufacture of products. This study will enable him to render me service of measuring efficiency of the organization as a whole or cost-center wise and in doing so he will be able to devise means of exercising efficiency.

Financial Management – Prof. Arvind Dhond

6

Evolution, Importance and Advantages of Cost ing 4)

Preparation of financial statement: - It is essential to have frequent review of production, Sales and operating results. In order to prepare financial statements it is required to determine the stock-values at the end of the period over which such financial statements are to be prepared. Physical stock-taking is a lengthy procedure and the business has to be closed down for stock-taking purpose. Where cost s are kept, the ascertainment of the value of closing stocks of raw materials, work-in-progress and finished goods become easy and as such financial statements can be prepared monthly or even weekly.

5)

Providing a basis for operating policy: - Cost ing plays an important pan in the management, as it is used as a basis for formulating operating policies. These policies may bea) Determination cost-volume-profit relationship; b) Whether to shut down or operate at a loss; c) Whether to make or buy from outside suppliers; and d) Whether to continue with the existing plant and machinery or to replace them by improved and economic ones.

Financial Management – Prof. Arvind Dhond

7

Evolution, Importance and Advantages of Cost ing

Advantages of cost ing: The principal advantages of cost ing are --1)

Establishment of more accurate unit costs, a knowledge of which results in establishment of fair selling prices and in the elimination of unprofitable lines of product.

2)

Development of cost comparisons, enabling the management to note unfavorable developments and to institute procedures for their elimination. Such comparison may be made, from period to period, of the figures in respect of the same unit or of several units in an industry by employing uniform costing and inter-firm comparison methods.

3)

Elimination of inefficiencies in plant operation. These inefficiencies are costly and arc caused by material wastage, use of obsolete machinery, poor planning, or assignment of men to work for which they are not qualified.

4)

Presentation of more frequent and more accurate financial s with the help of perpetual inventory system of stock control.

5)

Establishment of increased operating efficiency through the use of standards and subsequent analysis and comparison of actual performance with established standards.

Financial Management – Prof. Arvind Dhond

8

Evolution, Importance and Advantages of Cost ing

6)

Establishment of control over materials, 1abour and overhead expenditures. The facts of the day-to-day operations of the business arc discussed and prompt remedial action can be taken to correct adverse trends. Moreover, introduction of a cost reduction programme combined with operational research and value analysis leads to considerable economy.

7)

Assisting in developing cost calculations for new products and designs to guide management in its efforts to determine the profitableness of proposed changes in products and design.

8)

Establishment of an effective costing system prevents manipulation and fraud and assist in furnishing correct and reliable cost data to the management as well as to other interested parties such as the shareholders, the consumers and the Government.

Financial Management – Prof. Arvind Dhond

9