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Summary - Higher Certificate In Accounting Sciences
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- University Of South Africa (Unisa)
English notes from Unisa in the accounting sciences
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LEARNING UNIT 2: BASIC CONCEPTS OF COSTACCOUNTING
SPECIFIC LEARNING OUTCOMES FOR THIS LEARNING
UNIT
After studying this learning unit, you should be able to:
x describe the basic cost concepts
x perform cost classification
ASSESSMENT CRITERIA
After working through this learning unit, you should be able to do the following:
x classify costs as
fixed, variable or mixed costs
product or period costs
direct costs or overheads
x describe the flow of costs in a manufacturing company
OVERVIEW
This learning unit is divided into the following sections:
2.1 Introduction
2.2 Types of business organisations
2.3 Costing terminology
2.4 The flow of costs in a manufacturing environment
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,2.1 INTRODUCTION
In learning unit 1, we mentioned that the cost accounting system is an important sub-system of
the management accounting system. In learning unit 3, we will take a closer look at how a cost
accounting system is built. The purpose of this learning unit is to introduce you to a number of cost
concepts used in a manufacturing environment. There are many cost concepts, and you may well
feel somewhat overwhelmed by the end of this learning unit. However, as you progress through
the learning units, these concepts and the need for distinguishing between them will become a lot
clearer.
What does cost mean? Simply put, cost refers to the amount of money paid in order to obtain
something. For example, one would say that the cost of a loaf of bread is R13,00; the shop would
require you to pay an amount of R13,00 in order for you to obtain the bread.
In a business environment, cost means the total of all the costs incurred by the company. At the
outset it is important to understand how cost is established and for what purposes. Both financial
accounting and management accounting are concerned with costs.
Financial accounting
The objective of financial accounting is to ensure that all costs incurred by the company during a
specific period are recorded in the accounting records for that period and are disclosed accurately
in either the statement of profit or loss and other comprehensive income or the statement of
financial position. (For the sake of brevity, we will refer to the first mentioned statement as the
statement of profit or loss in the remainder of these learning units, although the correct name – as
you will learn in financial accounting – is the statement of profit or loss and other comprehensive
income.)
In your financial accounting studies, you will learn that costs can be classified as either assets or
expenses. For example, the cost of a building is accounted for as an asset, and that asset is
reported in the statement of financial position. On the other hand, telephone cost is accounted for
as an expense, and that expense is reported in the statement of profit or loss.
Management accounting
The objective of management accounting is, amongst others, to ensure that its cost accounting
system accurately identifies and fairly assigns all costs incurred in the manufacturing process to
the cost of the products manufactured.
2.2 TYPES OF BUSINESS ORGANISATIONS
There are three basic types of business organisations: manufacturers, merchandisers and service
organisations.
Manufacturers
Manufacturers purchase materials and use labour and other resources to convert the material into
finished goods that can be sold for a profit. Tiger Brands is one of the largest manufacturers of
food products in South Africa. Wheat is an example of a material that is converted in the production
of flour. The costs assigned to finished goods (e.g. flour) that have not been sold yet are shown in
an inventory of finished goods account in the general ledger of the manufacturer.
13 .......
MAC1501/1
, Merchandisers
Merchandisers purchase finished goods that they then resell for a profit. Checkers is an example
of a merchandiser. One of the finished goods that Checkers buys to resell is the flour produced
by Tiger Brands. The cost of goods purchased that have not been resold yet is shown in an
inventory of merchandise account in the general ledger of the merchandiser.
Service organisations
Service organisations provide services rather than goods. Some service providers, like auditors
and lawyers, sell services for a profit, while other service providers, like charities and government
departments, may provide services at no cost or very little cost to the users of those services.
Service organisations do not have inventory accounts.
2.3 COSTING TERMINOLOGY
2.3.1 Cost concepts
In the discussion that follows, we will look at cost concepts and the costs incurred in the
manufacturing process. Costs incurred for the acquisition of long-term assets such as buildings,
vehicles and machinery fall beyond the scope of this discussion.
Cost objects
One of the purposes of cost accounting is to establish the cost of things. These things are called
cost objects. In a manufacturing environment, the goods being produced will be cost objects.
Anything for which you wish to determine the cost separately is a cost object. An artist may wish
to know the cost of a painting she has made; the painting is a cost object. If you wish to determine
the cost of the reports produced by the management accounting system, each report will be a cost
object. In certain companies, certain departments may be classified as cost objects. Therefore,
not only manufacturing companies use costing principles to establish the cost of their
manufactured products; any type of organisation can use costing principles to establish the cost
of the products or services they provide.
Cost drivers
Cost drivers are the activities that cause the cost of something to change. For example, one of the
drivers of the cost of electricity in your home is the activity number of hours the lights are on.
Product costs
In a manufacturing company, we distinguish between product and period costs. Product costs are
those costs that are incurred for the purposes of manufacturing something. Product costs consist
of material, labour and factory overheads that are assigned to the goods being manufactured so
that the cost of finished goods is accurately disclosed in the financial statements – either as an
asset called inventory (where the goods are not yet sold) or as an expense called cost of sales
(where the goods have been sold).
Period costs
Expenses that are not incurred in the manufacturing process and are therefore not classified as
product costs are period costs (meaning they were incurred for that period) and must be accounted
for in the statement of profit or loss for that period. (You will remember from your financial
accounting studies that the heading of the statement of profit or loss ends with the words for the
year ended The year referred to in the heading is the period we are talking about.) Examples of
period costs are advertising costs, audit fees, depreciation of office furniture, etc. Period costs are
often categorised as administrative expenses and selling and distribution expenses.
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