COST &

MANAGEMENT
ACCOUNTING
(BMB 207)
UNIT - I

Meaning, nature and scope of Management Accounting; Difference between management

accounting and financial accounting,Cost concepts: , Cost Unit, Cost Control and Cost Reduction;

Components of total Cost, Cost Sheet, Classification of costs, Types and methods of costing,

Inventory Management, Labour Cost, Overheads, Activity based costing.

UNIT 2

Cost-Volume-Profit Analysis: Marginal cost, Contribution per unit and Total

contribution. Profit- Volume Ratio, Break-even Point : Margin of safety. Decision
Making such as : Key Factor, Pricing, Product Profitability, Dropping a product line,
Make or Buy, Export Order, Sell or Process Further, Shut down vs. Continue
operations.
UNIT 3

Budgets and Budgetary Control: Meaning, Types of Budgets, Steps in Budgetary

Control, Fixed and Flexible Budgeting, Sales budget, Production Budget, Raw

material consumption Budget, Raw Material Purchase Budget, Overhead Budgets,

Cash Budget, and Master Budget. Zero based budgeting.

UNIT 4

Standard Costing and Variance Analysis: Meaning of Standard Cost and

Standard Costing, Advantages, Limitations and Applications; Material

Variance, Overhead Variance, Sales Variance, Sales Margin Variance

UNIT 5
Process costing, concepts of normal loss, abnormal loss, abnormal effectiveness.
Preparation of process accounts, normal loss account, abnormal loss account,
abnormal gain account. Process costing with opening and closing WIP; equivalent
units (using FIFO) and Cost allocation. Joint and by products : Allocation of joint
costs based on Physical units method, Relative market value methods (Sales value
at split off method and Net realizable value method). Introduction to the concept of
Target Costing, Life Cycle Costing, Quality Costing, and Activity based Costing.
Course Outcomes
 Meaning of Management Accounting

• Management accounting is the process of preparing financial reports, analysis, and data to assist

internal management in decision-making, planning, and controlling business operations.

• It focuses on using financial and non-financial information to improve efficiency, profitability, and

strategic planning within an organization.

• Unlike financial accounting, which is aimed at external stakeholders, management accounting is

used primarily for internal decision-making.

Example

A manufacturing company uses cost accounting, to determine the cost of producing each unit of a product. Suppose
a textile company produces shirts. Management accountants track costs like:

• Raw materials – ₹200 per shirt

• Labor costs – ₹100 per shirt

• Overhead expenses (electricity, rent, etc.) – ₹50 per shirt

By analyzing these costs, management can:

• Set the right price to ensure profitability.

• Identify cost-cutting areas, such as negotiating better raw material prices.

• Compare actual vs. budgeted costs to improve efficiency.

This helps the company make informed decisions, ensuring sustainable growth and profitability.
 Nature of Management Accounting

Management accounting has several key characteristics that define its role in decision-making
and business operations.
1. Future-Oriented
Unlike financial accounting, which focuses on past transactions, management accounting is
forward-looking. It helps in budgeting, forecasting, and strategic planning.
Example: A retail company uses sales forecasts to decide on inventory purchases for the next
quarter.
2. Decision-Making Tool
Management accounting provides relevant financial and non-financial data to support
managerial decisions.
Example: A company analyzing whether to continue or discontinue a product line based on
profitability reports.
3. Focus on Internal Users

It is designed for internal stakeholders like managers rather than external stakeholders like investors or regulators.
Example: A factory manager uses cost reports to reduce wastage and improve efficiency in production.

4. No Fixed Format

Unlike financial accounting, which follows standard formats (like balance sheets and income statements),
management accounting reports are customized based on business needs.
Example: A marketing manager receives a report comparing advertising costs with customer acquisition rates.

5. Includes Both Financial & Non-Financial Data

Management accounting integrates financial data (sales, costs) with non-financial data (customer satisfaction,
employee productivity) for holistic decision-making.
Example: A hospital tracks both patient treatment costs and patient recovery rates to improve healthcare efficiency.
6. Analytical and Interpretative

It involves analyzing data using techniques like variance analysis, break-even analysis, and ratio analysis to
provide actionable insights.
Example: A hotel chain analyzes room occupancy rates and pricing strategies to maximize revenue.

7. Helps in Performance Measurement & Control

Management accounting evaluates employee performance, department efficiency, and overall business
performance.
Example: A logistics company tracks delivery times and cost per shipment to optimize fleet management.
 Scope of Management Accounting

Management accounting covers various areas of business operations, providing financial and non-
financial insights to help managers make informed decisions. The key areas of its scope include:

1. Financial Planning and Control

It helps in preparing budgets, financial forecasts, and planning strategies to achieve business
objectives.
Example: A manufacturing company prepares an annual budget to allocate funds for raw materials,
salaries, and expansion plans.

2. Cost Accounting

Management accounting analyzes and controls costs to improve profitability.

Example: A textile company tracks material, labor, and overhead costs to determine the cost per shirt
and adjust pricing strategies accordingly.
3. Decision-Making
Provides data-driven insights to help managers make critical business decisions.
Example: A retail store uses sales data to decide whether to discontinue a slow-moving
product or offer discounts to boost sales.
4. Performance Measurement
Evaluates the efficiency of departments, employees, and business units.
Example: A call center tracks the number of customer complaints resolved per agent to assess
employee efficiency.
5. Budgeting and Forecasting
Estimates future revenue, expenses, and business trends to guide financial planning.
Example: A startup uses market trends to forecast sales and plan its marketing budget
accordingly.
6. Inventory Management
Helps in managing stock levels efficiently to reduce waste and optimize resources.
Example: A supermarket uses inventory management systems to track perishable goods
and minimize wastage.
7. Financial Reporting and Analysis
Analyzes financial statements to assess company performance and suggest improvements.
Example: A CFO prepares a profitability analysis report to determine which business
segments generate the highest returns.
8. Working Capital Management
Ensures efficient management of cash flow, receivables, and payables to maintain liquidity.
Example: A car dealership tracks customer payments and supplier dues to maintain
sufficient cash flow for operations.
9. Risk Management

Identifies and mitigates financial and operational risks to safeguard business

interests.
Example: A bank uses credit risk analysis to assess loan applicants' repayment
capacity.

10. Tax Planning

Helps in optimizing tax liabilities by using legal tax-saving strategies.

Example: A company strategically invests in tax-saving instruments to reduce
taxable income and maximize profits.
 Difference Between Management Accounting and Financial Accounting
Basis Management Accounting Financial Accounting

Records and reports financial transactions for external

Objective Helps in decision-making, planning, and internal control.
stakeholders.

Used by external parties (investors, creditors, government,

Users Used by internal management (managers, executives).
shareholders).

Time Focus Future-oriented (forecasting, budgeting). Past-oriented (records past financial transactions).

Regulations No fixed rules or standards (customized reports). Follows accounting standards (GAAP, IFRS, Ind AS).

Follows a standardized format (Balance Sheet, Income

Format Flexible and customized reporting format.
Statement, etc.).

Includes financial and non-financial data like customer Focuses only on financial data such as revenue, expenses,
Scope
satisfaction, employee efficiency, etc. assets, and liabilities.

Frequency of Reports Reports are generated as needed (daily, weekly, monthly). Reports are prepared periodically (quarterly, annually).

Provides information for external stakeholders but does not

Decision-Making Helps managers make strategic and operational decisions.
focus on internal decisions.
Example

• Management Accounting

A supermarket chain wants to optimize inventory levels. Management

accountants analyze sales trends, seasonal demand, and supplier costs to decide
how much stock to order, reducing waste and maximizing profits.

• Financial Accounting

At the end of the financial year, the supermarket prepares a Profit & Loss
Statement and Balance Sheet to report its financial position to investors and tax
authorities.
Cost Concepts

Cost concepts help businesses track, manage, and optimize their

expenses.

Cost Unit

A cost unit is a measurable unit of a product or service for which costs

are ascertained. It helps in determining the cost per unit of production.

Example: In a transport company, the cost unit is per kilometer per

passenger.
2. Cost Control

Cost control refers to maintaining costs within a planned budget to improve efficiency and profitability. It
involves setting cost standards, comparing actual costs with budgeted costs, and taking corrective actions.

Example:A manufacturing company sets a budget of ₹500 per unit for raw materials but notices actual
spending has increased to ₹550 per unit. The company then negotiates with suppliers or finds alternative
materials to bring costs back within the budget.

Techniques of Cost Control:

• Budgetary Control (setting and monitoring budgets)

• Standard Costing (comparing actual vs. standard costs)

• Variance Analysis (identifying deviations in costs)

Cost Reduction
Cost reduction is the process of permanently decreasing costs without compromising product quality or
operational efficiency. It focuses on continuous improvement, efficiency enhancement, and waste minimization
to increase profitability.
Key Features of Cost Reduction
Long-term impact – Aims for sustained savings.
Focus on efficiency – Uses better methods, materials, or technology.
Does not compromise quality – Ensures customer satisfaction remains intact.
Examples
1. Manufacturing Industry – Process Improvement
A car manufacturer adopts robotic automation in assembly lines, reducing labor costs by 20% while increasing
production speed.
2. Retail Industry – Bulk Purchasing
A supermarket chain negotiates with suppliers to buy products in bulk, reducing procurement costs by 15%.
 Components of Total Cost

Total cost is the sum of all expenses incurred in producing goods or services. It
consists of three main components:

Prime Cost (Direct Costs)

Factory Cost (Works Cost)
Total Cost (Cost of Production)
1. Prime Cost (Direct Cost)
The sum of all direct costs involved in production.
Prime Cost=Direct Material Cost+Direct Labor Cost+Direct Expenses
2. Factory Cost (Works Cost)
Factory Cost= Prime Cost + Factory Overheads (Indirect costs in production).
3. Total Cost (Cost of Production)
Total Cost = Factory Cost + Administration, Selling & Distribution Costs.
 Cost Sheet

A Cost Sheet is a statement that shows the total cost incurred in the production of
goods or services. It helps in cost control, pricing decisions, and profit analysis.
 Classification of Costs

Costs can be classified based on different factors such as behavior, function,

controllability, and traceability.
1. Classification Based on Behavior
Fixed Cost – Costs that remain constant regardless of production levels.
Example: Rent of a factory (₹50,000 per month, whether 100 or 1,000 units are
produced).
Variable Cost – Costs that change with the level of production.
Example: Raw materials cost (if one unit requires ₹500 of material, then for 10 units,
it's ₹5,000).
Semi-Variable Cost – Costs that have both fixed and variable components.
Example: Electricity bill (fixed component of ₹5,000 + variable charge based on
usage).
2. Classification Based on Function
Production Cost – Costs related to manufacturing goods.
Example: Direct materials, labor, factory rent, and machine
depreciation.
Administration Cost – Expenses incurred for business operations.
Example: Salaries of managers, office rent, and stationery.
Selling & Distribution Cost – Costs related to marketing and delivery.
Example: Advertisement expenses, transportation, and sales
commissions.
Finance Cost – Expenses related to borrowing funds.
Example: Interest on loans and bank charges.
3. Classification Based on Controllability

Controllable Cost – Costs that can be managed by decision-makers.

Example: Employee bonuses (management can decide the amount).

Uncontrollable Cost – Costs that cannot be changed in the short term.

Example: Depreciation on machinery (cannot be avoided).

4. Classification Based on Traceability

Direct Cost – Costs that can be directly attributed to a specific product.

Example: Raw materials used for a car’s production.

Indirect Cost – Costs that cannot be directly linked to a specific product.

Example: Factory supervisor's salary (oversees multiple products).
5. Classification Based on Time Period
Historical Cost – Actual costs incurred in the past.
Example: Last year's production cost report.
Future (Predetermined) Cost – Estimated costs for planning purposes.
Example: Budgeted cost for the next quarter.
Types and Methods of Costing

Costing refers to the process of determining the cost of production or services. Different industries use
various types and methods of costing depending on the nature of their operations.

1. Types of Costing

1.1 Job Costing:Used when products are made as per customer specifications.
Example: A furniture manufacturer calculates the cost separately for each custom-made sofa.

1.2 Batch Costing : Costs are accumulated for a batch of identical products.
Example: A pharmaceutical company produces a batch of 1,000 tablets and calculates the cost per batch.

1.3 Process Costing :Used in industries where production is continuous, and costs are assigned to different
stages.
Example: Oil refineries, where the cost is calculated for each stage (crude processing, refining, packaging).
1.4 Contract Costing : Used for large projects and contracts that take a long time to
complete.
Example: A construction company tracks costs separately for each highway project.
1.5 Operating Costing (Service Costing) :Used in service industries where costs are
calculated per unit of service.
Example: A transport company calculates the cost per kilometer per bus.
1.6 Uniform Costing : A standardized costing system used by multiple companies in the
same industry.
Example: Textile manufacturers following a uniform costing method to compare efficiency.
1.7 Marginal Costing : Considers only variable costs for decision-making, ignoring fixed
costs.
Example: A company pricing a new product based on variable costs alone to penetrate the
market.
Methods of Costing
1. Specific Order Costing Methods
Used for unique products or services.
Examples:
Job Costing (Printing press, shipbuilding)
Batch Costing (Pharmaceuticals, bakery)
Contract Costing (Construction, infrastructure projects)
2. Continuous Operation Costing Methods
Used when production is continuous.
Examples:
Process Costing (Chemicals, petroleum)
Operation Costing (Automobile assembly)
Operating Costing (Hospitals, railways)
3. Activity-Based Costing (ABC)
Allocates costs based on activities rather than traditional cost centers.
Example: A manufacturing company uses ABC to assign costs based on machine usage, labor, and overhead.
Activity-Based Costing (ABC)

Activity-Based Costing (ABC) is a costing method that allocates overhead costs based on
activities that drive costs rather than simply using labor or machine hours. This method
provides a more accurate way to assign indirect costs to products or services based on
their actual resource consumption.

Features of ABC:

Focuses on activities as cost drivers

Helps in precise cost allocation
Used in complex and multi-product businesses
Useful for cost control and decision-making
 Inventory Management

Inventory management refers to the process of tracking, controlling, and optimizing

stock levels to ensure smooth production, minimize costs, and avoid stockouts or
excess inventory. It plays a crucial role in cost and management accounting by directly
impacting working capital, profitability, and production efficiency.
Types of Inventory
1. Raw Materials Inventory : Basic materials required for production.
Example:
Steel sheets in an automobile factory used for car manufacturing.
2. Work-in-Progress (WIP) Inventory : Partially completed products still in production.
Example:
Half-assembled mobile phones in an electronics factory.
3. Finished Goods Inventory: Completely manufactured products ready
for sale.
Example: Packaged smartphones in a warehouse, ready for shipment.

4. Maintenance, Repair, and Operations (MRO) Inventory: Supplies

needed for business operations but not part of the final product.
Example: Lubricants and tools used in a manufacturing plant.
Inventory Management Techniques

1. Economic Order Quantity (EOQ)

Helps determine the optimal order quantity to minimize total inventory costs (ordering + holding costs). Example: A

pharmaceutical company calculates EOQ to avoid frequent orders while keeping storage costs low.

2. Just-in-Time (JIT)

Inventory is ordered only when needed, reducing storage costs. Example: Toyota’s JIT system ensures parts arrive just before

assembly, reducing excess inventory.

3. ABC Analysis:Categorizes inventory into:

• A: High-value, low-quantity items (e.g., microchips in electronics).

• B: Moderate-value items (e.g., raw materials in furniture).

• C: Low-value, high-quantity items (e.g., screws, packaging material).

Example: A retail chain uses ABC analysis to focus on managing high-value stock more efficiently.
4. FIFO (First-In, First-Out)

Old stock is sold/used first to prevent obsolescence.

Example: Supermarkets use FIFO to sell perishable goods like dairy and
vegetables before newer stock.

5. LIFO (Last-In, First-Out)

Newest inventory is sold first, useful during inflation to reduce tax liability.
Example: A hardware store sells newly arrived cement bags before older
ones to benefit from rising prices.
Importance of Inventory Management in Cost Accounting:

Helps in cost control by minimizing holding costs.

Prevents stockouts and overstocking, ensuring smooth operations.
Improves cash flow management by optimizing working capital.
Enhances profitability by reducing waste and obsolescence.
 Labour Cost

Labour cost refers to the total expense incurred by a company on its workforce, including wages, salaries,
benefits, and other related costs. It plays a crucial role in cost and management accounting as it directly affects
production costs and profitability.
Types of Labour Costs
1. Direct Labour Cost : The cost of workers who are directly involved in the production of goods or services.
Example:
In an automobile factory, workers assembling car engines are considered direct labour, as their work is directly
related to the product.
2. Indirect Labour Cost : The cost of employees who do not directly contribute to the production process but
support it. Example:
Supervisors, maintenance workers, and security staff in a factory are considered indirect labour, as they help in
operations but do not work on the product itself.
3. Fixed Labour Cost: Labour costs that remain unchanged regardless of production levels. Example:
A factory manager’s salary remains the same whether 100 or 1,000 units are produced.
4. Variable Labour Cost : Labour costs that fluctuate with production output.

Example:

Wages paid to part-time workers in a bakery, where more workers are hired during
festive seasons.

5. Semi-Variable Labour Cost : Labour costs that have both fixed and variable
components.

Example:

A salesperson earns a fixed salary of ₹20,000 plus a commission of ₹100 per unit
sold.
Importance of Labour Cost in Decision-Making:

Helps in cost control and improving efficiency.

Assists in pricing decisions to maintain profitability.
Essential for budgeting and financial planning.
Helps in determining profit margins and labour productivity.
 Overheads
Overheads refer to indirect costs incurred in the production of goods or services that cannot be
directly attributed to a specific product, service, or job. They are essential for business operations
but do not directly generate revenue.

Types of Overheads with Examples:

1. Fixed Overheads (Costs that remain constant regardless of production level).Example: A factory's
rent remains ₹50,000 per month, whether the factory produces 500 or 5,000 units.

2. Variable Overheads (Costs that change with production volume).Example: Electricity cost in a
textile mill increases as more machines operate due to increased production demand.
3. Semi-Variable Overheads (Have both fixed and variable components).Example: A salesperson’s
salary includes a fixed monthly salary of ₹20,000 plus a commission of ₹50 per unit sold.

4. Manufacturing Overheads (Costs incurred during production but not directly tied to raw
materials or labor).Example: Depreciation of machinery used in production or maintenance
expenses of factory equipment.

5. Administrative Overheads (Expenses related to overall business management).Example: Office

staff salaries, legal fees, and audit expenses in a corporate office.

6. Selling & Distribution Overheads (Expenses related to marketing and delivering

products).Example: Advertising expenses for a new product launch, commission paid to sales
agents, or fuel costs for delivery trucks.
 Uses of ABC
Activity-Based Costing (ABC) is a costing method that assigns costs to products and services based on the
activities involved in their production
1. More Accurate Costing Than Traditional Methods
Example: A manufacturing company produces two products: basic chairs and luxury office chairs.
• Traditional costing might allocate overhead costs based on direct labor hours.
• ABC, however, considers activities like machine setup, quality inspections, and packaging.
Since luxury office chairs require more quality checks and customization, ABC assigns more overhead to them,
reflecting the actual cost more accurately.
2. Helps in Identifying Expensive Activities
Example: A car manufacturing company finds that the painting process is the most expensive due to high
labor and material costs.
• Using ABC, the company breaks down costs by activity (assembly, painting, testing).
• The analysis shows painting consumes the most resources, prompting management to explore cost-cutting
measures like automation.
3. Aids in Better Pricing and Cost Control
Example: A software company develops two products: a basic app and an enterprise solution.
• ABC reveals that customer support and software customization for enterprise clients take up
more resources than initially thought.
• The company adjusts pricing, charging enterprise customers higher rates while reducing
prices for basic users to stay competitive.
4. Improves Profitability Analysis
Example: A retail company sells multiple product categories (electronics, clothing, groceries).
• ABC shows that electronics generate high revenue but also incur high service costs (returns,
warranties).
• Meanwhile, clothing has lower overhead costs and a higher profit margin.
• With this insight, the retailer decides to promote clothing more aggressively to boost overall
profitability.