Accounting cost can be described as the process of recording a cost in a business's ledger accounts so that it appears in the company's financial statements.
If the Accounting Cost is not consumed or is equal to or greater than the firm's total capitalization limit, it is reported in the company's balance sheet.
If the firm used cash as a mode of transaction, it will be reflected in the cash flow statements. It should be noted that the firm's dividend has no accounting cost because it is distributed to the firm's investors as their earnings from the stocks and shares purchased.
Meaning of Accounting Cost:
- Accounting Cost's role and scope vary depending on the business scenario and the merit of the situation.
- For example, if the finance or accounts manager needs to know the Accounting Cost of the product in order to make a short-term pricing decision, he must include the variable costs associated with the product.
- And if the information is needed to set a long-term price, he must consider the allocation of fixed costs as well as overheads.
- The primary goal of Accounting Cost is to capture the firm's production cost by considering and analysing the input costs, fixed costs, and depreciation of equipment and machinery.
- It assists the firm in making decisions and measuring the firm's financial performance in the market in comparison to its competitors.
- Accounting Cost is a very useful and important tool for the firm's management for budgeting and organising cost control programmes, especially during product manufacturing.
- It also contributes to the firm's long-term profit margin improvement.
Types of Accounting Costs:
1) Fixed Costs:
Fixed costs are costs that are fixed in nature and do not vary based on the amount of work performed by the firm. It includes aspects such as purchasing land, machinery, and office space, all of which depreciate at a fixed rate over time.
2) Variable Costs:
Variable costs include costs associated with manufacturing, marketing, distribution, and other aspects of the business that are subject to change. Shipping costs, raw material costs, and packaging costs, to name a few.
3) Operating Costs:
Operating costs are associated with the firm's day-to-day operations. Depending on the circumstances, they can be either fixed or variable in nature.
4) Direct Costs:
Direct costs are associated with the production of the product. For example, if the company makes and sells shirts, the direct costs will include electricity, daily labour wages, machinery depreciation, and packaging.
Methods of Calculating Accounting Cost:
A) Standard Accounting Cost:
Through the variance analysis technique, it compares the efficiency levels of labour and materials required to manufacture goods and services under standard work conditions using ratios.
B) Activity-based Accounting Cost:
The activity-based accounting methodology is a method of monitoring the cost activities that involve the consumption of resources assigned to the specific activity. It also takes into account the final output and the various activities in order to cost the objects that are based on consumption estimates.
C) Lean Accounting:
The concept of lean accounting is intended to be an extension of the Japanese companies' lean manufacturing philosophy.
The majority of accounting methods for manufacturing units are based on the assumption that all goods are produced on a large scale and in massive quantities.
In addition, instead of using activity-based accounting, standard costing, and other management accounting methods, lean accounting replaces them with lean, focused performance measurements and value-based pricing.
D) Marginal Costing:
One of the most basic Accounting Cost methods is marginal costing. It is an examination of the relationship between the product's sales price, the volume of sales, expenses, overheads, costs, profits, and quantity produced.
This relationship between the various factors is referred to as the contribution margin.
The contribution margin is calculated by dividing revenue minus variable costs by revenue. It enables the firm's management to gain comprehensive insights into how changing costs affect the potential margin of profits, the types of marketing and promotional campaigns to pursue, and the sales price to be established in the market to attract the target customers.
Example of Accounting Cost:
The Accounting Cost of an MNC firm in the field of manufacturing:
- Raw Materials – Opening Stock: $50,000; Closing Stock: $40,000.
- Purchases during the period: $135,000.
- Direct labour – $110,000
- Works’ overheads – $60,000
- Administration overheads – $15,000
- Selling & distribution overheads – $35,000
- Finished units – $150,000
How HBF Direct Can Help:
The growth of SMEs and startups are essential for the economic growth of the country. Our team of expert consultants works with many SMEs and startups and helps them improve their accounting standards and reduce their accounting costs by enabling an automated structure.
Also if you liked this article then you may go on to read another of our blog on the difference between auditing and accounting. Click here to read it.