Techniques of Costing
For controlling costs and making managerial decisions, the management uses the following costing techniques:
a) Historical (or Conventional) Costing
It refers to the process of determining costs after they have been incurred. The cost of a product can only be calculated after it has been manufactured. Costs can only be determined through this system, but costs cannot be controlled. Only if future conditions remain the same can it be used as a guide for future production.
b) Standard Costing
This involves preparing standard costs and using them to measure variances from standard costs and analyzing the variances in order to maximize efficiency in production. This method of cost estimation involves determining the costs of each article before hand under present and anticipated conditions, but sometimes they are determined under normal or ideal conditions. Costs are then compared with those pre-determined and deviations referred to as variances are noted. The reason for the variances is then determined, and a plan is developed to eliminate them in the future.
c) Marginal Costing
By separating fixed costs from variable costs, marginal costs can be determined and a profit can be determined because of changes in volume or kind of output. Only variable costs are accounted for in this case, while fixed costs are attributed to the profit and loss account for the period in which they arose.
d) Uniform Costing
Having standardized principles and methods of cost accounting used by a variety of companies and firms is referred to as uniform costing. Comparing the performance of one company with another is easier in this way. Unlike job costing and process costing, uniform costing is not a separate or distinct method of cost accounting. It is only a method of cost accounting used by members of the industry or trade association. It involves industry members adopting the same costing principles, practices, and procedures for inter-firm comparison.
The term uniform costing system refers to the practice of using the same cost accounting principles and practices by two or more industrial enterprises. An industry’s members adopt and use the same costing principles, practices, and procedures, which, together, are known as uniform costing.
e) Direct Costing
Direct costing refers to the practice of charging all direct costs to operations, processes, and products while writing off indirect costs against profits in the period during which they occur. Direct costing is a special form of cost analysis that only uses variable costs to make decisions. The calculation does not include fixed costs, which are assumed to be related to the time periods during which they were incurred. For short-term decisions, direct costing is extremely useful, but it may be harmful for long-term decision making, since it does not include all costs that may be involved. The objective of direct costing is to determine how much incremental cost will be incurred during the project.
f) Absorption Costing
Absorption Costing involves charging all costs, both variable and fixed, to the operation, process, or product or process.The term absorption costing refers to a method of costing that takes into account all the manufacturing costs. This method is used by management to absorb the costs associated with a product. It includes both direct and indirect costs. Materials and labour used in production are direct costs.
Other indirect costs include factory rent, compliance, and insurance. Costs observed under absorption costing include variable costs, fixed costs, and semi-variable costs. As the proportion of goods produced increases or decreases, variable costs increase or decrease. Fixed costs remain constant regardless of production levels. Semi-variable costs decrease or increase as batches increase.
g) Activity Based Costing
A process of allocating resources costs through activities to the products and services provided to customers by a business organization is called Activity-Based Costing (ABC). The term refers to the attribution of costs to cost units on the basis of benefits received from indirect activities, such as ordering, setting up, and assuring quality. ABC involves identifying costs associated with each cost driving activity and using those costs as the basis for dividing costs among products or jobs according to the number of activities required to complete them. The method is primarily used for the apportionment of overheads in organizations with different volumes and complexity of productions.
With this technique, overhead costs of the organization are determined by identifying the activities that are causing overhead costs to accrue. Some of the cost drivers include purchase orders issued, quality inspections, maintenance requests, receipts of materials, inventory movement, power consumed, and machine time, among others. By identifying overhead costs with each cost centre, it is possible to determine the cost per unit for each cost driver. Depending on the number of activities required for the completion of a job, overhead costs can be assigned. Cost and profitability analysis is generally used to understand the cost and profitability of products and customers. This has primarily been used in support of strategic decisions such as pricing, outsourcing, and identifying and measuring process improvement initiatives.
Similarly, You may also like: