📚 Cost & Management Accounting (BMB207)
Important Section A Questions & Answers

Management Accounting: The process of preparing reports and accounts that provide accurate and timely financial and statistical information to help managers make short-term and long-term decisions.

Key Differences:
(1) Management Accounting is for internal users; Financial Accounting is for external users.
(2) Management Accounting is not legally mandatory; Financial Accounting is compulsory.
(3) Management Accounting focuses on future planning; Financial Accounting records past transactions.

Cost Control: Keeping costs within pre-determined standards/budgets. It is a continuous process of monitoring and correcting costs. Example: Comparing actual material cost with standard cost.

Cost Reduction: Permanently reducing the per-unit cost of a product/service without affecting quality. It is a long-term improvement. Example: Using cheaper raw material of same quality.

Difference: Cost Control maintains standards; Cost Reduction improves/lowers the standards themselves.

A Cost Sheet is a statement that shows the detailed cost of production for a given period. It presents costs in a systematic manner.

Components (structure):
(1) Prime Cost = Direct Material + Direct Labour + Direct Expenses
(2) Works Cost = Prime Cost + Factory Overheads
(3) Cost of Production = Works Cost + Office Overheads
(4) Cost of Goods Sold = Cost of Production + Opening Stock – Closing Stock
(5) Total Cost (Cost of Sales) = Cost of Goods Sold + Selling & Distribution Overheads

Fixed Cost: Cost that remains constant regardless of the level of output/production. Example: Rent, salaries, insurance. Total fixed cost stays same; per unit fixed cost decreases as output increases.

Variable Cost: Cost that changes in direct proportion to the level of output. Example: Raw material, direct labour (piece rate), power. Total variable cost increases with output; per unit variable cost remains constant.

Overhead Cost (also called indirect cost) refers to all production costs that cannot be directly traced to a specific product or job. It includes indirect material, indirect labour, and indirect expenses.

Examples:
(1) Factory Overhead: Factory rent, depreciation on machinery, electricity
(2) Office Overhead: Office salaries, stationery, telephone bills

Marginal Cost is the cost of producing one additional unit of output. In marginal costing, only variable costs are charged to products; fixed costs are treated as period costs.

Formula:
Marginal Cost = Direct Material + Direct Labour + Direct Expenses + Variable Overheads

Also: Contribution = Sales – Marginal Cost
Profit = Contribution – Fixed Cost

Break-Even Point is the level of output/sales at which total revenue equals total cost — neither profit nor loss. Below BEP → loss; Above BEP → profit.

Formulas:
BEP (in units) = Fixed Cost / Contribution per unit
BEP (in ₹) = Fixed Cost / P/V Ratio

Example: Fixed Cost = ₹1,00,000; Contribution per unit = ₹25
BEP = 1,00,000 / 25 = 4,000 units

P/V Ratio (Profit-Volume Ratio) measures the relationship between contribution and sales. It shows what percentage of each rupee of sales contributes towards fixed costs and profit.

Formula:
P/V Ratio = (Contribution / Sales) × 100
Or = (Change in Profit / Change in Sales) × 100

Higher P/V ratio = Better profitability
Example: Sales = ₹5,00,000; Contribution = ₹2,00,000 → P/V Ratio = 40%

A Key Factor (also called Limiting Factor or Scarce Factor) is a resource that is in short supply and limits the output of the business. It constrains the production volume.

Examples of key factors: Limited raw material, machine hours, labour hours, cash, or market demand.

Decision rule: When a key factor exists, products should be ranked by Contribution per unit of key factor (not total contribution) to maximize profit.

Make or Buy Decision is a management decision whether to manufacture a component/product in-house or purchase it from an outside supplier.

Decision rule:
• If Marginal Cost of making < Purchase price → Make it (in-house)
• If Purchase price < Marginal Cost of making → Buy it (outsource)

Fixed costs are ignored unless they can be avoided. Qualitative factors like quality control and supply reliability also matter.

Fixed (Static) Budget: A budget prepared for a single level of activity that does not change with actual output. Suitable when output can be predicted accurately. Example: Office rent budget.

Flexible Budget: A budget that adjusts/changes with the actual level of activity/output. It shows budgeted costs at different output levels. More useful for control and comparison with actual results.

Key difference: Fixed Budget is rigid; Flexible Budget adjusts to actual activity level.

Budgetary Control is the process of establishing budgets, comparing actual performance with budgeted figures, and taking corrective action on variances.

Objectives:
(1) Planning future activities systematically.
(2) Coordinating different departments.
(3) Controlling costs by comparing actual vs budgeted.
(4) Motivating employees to achieve targets.
(5) Evaluating departmental performance.

A Master Budget is a comprehensive budget that consolidates all functional budgets (sales, production, purchases, overheads, cash) into one overall plan for the organization.

It consists of:
(1) Operating Budget: Sales budget, Production budget, Cost budget
(2) Financial Budget: Cash budget, Budgeted Balance Sheet, Budgeted P&L

It gives the complete financial picture of the organization for the budget period.

A Cash Budget is a statement showing estimated cash receipts and cash payments for a future period. It helps management plan cash inflows and outflows.

Importance:
(1) Identifies future cash shortages in advance.
(2) Helps plan borrowing requirements.
(3) Ensures liquidity — firm can meet its obligations.
(4) Avoids idle cash — surplus can be invested.

Standard Costing is a cost control technique where predetermined (standard) costs are set for products/processes and compared with actual costs to identify variances.

Advantages:
(1) Helps in cost control by identifying variances.
(2) Useful for budgeting and planning.
(3) Simplifies accounting and stock valuation.
(4) Motivates employees by setting performance targets.
(5) Helps in fixing selling prices.

Material Usage Variance is the difference between the standard quantity of material that should have been used for actual production and the actual quantity used, valued at standard price.

Formula:
MUV = (Standard Qty – Actual Qty) × Standard Price

Favourable: Actual qty used < Standard qty (less material used)
Adverse: Actual qty used > Standard qty (more material used)

Note: Total Material Cost Variance = MPV + MUV

Sales Price Variance is the difference between actual selling price and standard selling price, for the actual quantity sold.

Formula:
Sales Price Variance = (Actual Price – Standard Price) × Actual Quantity Sold

Favourable: Actual price > Standard price
Adverse: Actual price < Standard price

Example: Standard price = ₹50, Actual price = ₹45, Qty sold = 1,000 units
SPV = (45 – 50) × 1,000 = –₹5,000 (Adverse)

Sales Volume Variance measures the effect on profit/contribution due to the difference between actual sales quantity and budgeted sales quantity.

Formula:
Sales Volume Variance = (Actual Qty – Budgeted Qty) × Standard Profit (or Contribution) per unit

Favourable: Actual qty > Budgeted qty
Adverse: Actual qty < Budgeted qty

Target Costing is a pricing strategy where the selling price is first determined by the market, and then the maximum allowable cost is calculated by subtracting the desired profit margin.

Formula:
Target Cost = Market Price – Desired Profit

Example: Market price = ₹500; Desired profit = ₹100 → Target Cost = ₹400. The company must design and produce the product within ₹400.

Key point: Cost is determined by market, not the other way around.

Life Cycle Costing (LCC) tracks and accumulates the costs (and revenues) of a product over its entire life — from design/development to withdrawal from market.

Stages: Introduction → Growth → Maturity → Decline

Importance: Helps managers understand the total cost over a product's life and make better pricing, design, and investment decisions. Costs committed at design stage are 80–85% of total life cycle costs.

Normal Loss: The expected/unavoidable loss inherent in the production process. It is anticipated and budgeted for. Its cost is absorbed by the remaining good output.
Example: 5% loss in chemical processing is normal.

Abnormal Loss: Loss over and above the normal expected loss — unexpected and undesirable. It is valued at the same rate as good output and debited to Costing P&L as a loss.
Example: Loss due to machine breakdown or careless h