Everything you need to know about the limitations of cost accounting.
Despite the fact that the development of cost accounting in one of the most significant steps to improve performance, certain objections are raised against its introduction.
There are also objections raised by businessmen against the introduction of cost accounting.
Sometimes certain objections are raised against cost accounting system and some disadvantages thereof pointed out. But the fact remains that there are no real disadvantages of the system itself.
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The disadvantages of the cost accounting system arise only if the system is not applied with caution and care.
Though Costing System ensures a number of benefits to the company and contribute heavily to the managerial decisions, a number of objections have been raised against Costing System.
These objections were raised mainly by those who have failed to understand and appreciate the important role that the Costing System plays in the overall growth of the company.
Some of the limitations of cost accounting are:-
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1. It is Expensive 2. It is Unnecessary 3. Matter of Routine Forms and Statements 4. Failure of Costing System 5. Not Applicable to Many Industries 6. It is not Reliable
7. More Complex 8. Not applicable to Small Concerns 9. Lack of Uniformity 10. Lack of Accuracy 11. Confusion Regarding Non-Cost Items 12. Not useful for Handling Futuristic Situations and a Few Others.
Limitations of Cost Accounting: Expensive, Unnecessary, Not Reliable, More Complex, Lack of Uniformity and a Few Others
Limitations of Cost Accounting – 6 Important Limitations: Expensive, Unnecessary, Not Applicable to Many Industries, Failure of Costing System, Reliable and a Few Others
Common sense and reasoning are the base on which cost accounting, as an art, is to be developed. The principles of any theory have to be changed with the change of circumstances and time. Cost accounting is not static, as it is dynamic with the change of time. Estimations, conventions etc., are adopted in the system. And there are flexible factors— different pricing methods of materials, division of overhead expenses into fixed and variable cost, apportionment of overhead expenses, costs into controllable and uncontrollable etc.
It is difficult to derive correct costs. The valuation of stock, work-in-progress, estimated cost etc., are calculated on the basis of estimation. Since we determine cost on the basis of estimation, the actual cost may vary from the estimated cost. Moreover, there are many formalities to be observed by firms; and the establishment costs may be heavy to be afforded by medium size concerns.
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Cost accounting has become an indispensable organ of accounting process in modern times.
However, the following are the objections raised against costing:
Limitation # 1. It is Expensive:
Many people raise the objection against cost accounting on the basis that it involves a considerable amount of expenditure in the introduction stage. Double set of account books has to be maintained and it is not economical for small concerns. In the installation stage, it consumes a good amount of finance.
But when we install a system of costing, bearing in mind the requirements of the industry in the long run; with the active cooperation of the personnel of the costing organisation, benefits will be more than the initial cost. Moreover, the purpose of costing is not only to find out the cost, but also to try to introduce cost reduction schemes, which bring adequate return to the firm.
Limitation # 2. It is Unnecessary:
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It is argued that costing is only recently originated and that many industries have prospered well and are still prospering without cost accounting. Therefore, the system is unnecessary.
It may be true; however the present period is different from the past. At present, cut throat competition, economic policies of the government, production of variety of products etc., contribute to uncertainty and risk. Even in the case of absolute monopoly, substitutes may appear in the market. The modern industries are passing- through highly competitive conditions, and as such every manufacturer should know the actual cost in order to fix the selling price, at the minimum. Therefore, it is a must for progressing firms.
Limitation # 3. Matter of Routine Forms and Statements:
Reporting of the costing information to the management involves the use of a number of forms. As such, filling of forms becomes a stereotyped mechanical reporting of cost data and is a monotonous work. There is unnecessary paper work.
It is right to say that introduction of costing system involves additional work. It is not merely one system of forms and statements. When time passes, the forms are to be revised to make them up-to-date and fewer in numbers.
Limitation # 4. Failure of Costing System:
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It is claimed that Costing system has failed to bring good or desired results in many cases. Therefore, it is defective.
But the costing system is not faulty. There is no rigid system of cost accounting applicable to all the industries of all types. The unsuited costing system will naturally bring failure. The adoption of proper system into practice through cooperation of the personnel will not be a failure. Deliberate obstructions from the management, non-cooperation of the personnel, non-availability of facilities for efficient work etc. are the causes for failure, and for these, the costing system should not be blamed.
Limitation # 5. Not Applicable to Many Industries:
Modern methods of costing cannot be applied to certain type of industries.
There is no ready-made system of cost accounting applicable to all concerns. But the cost system, in the modified form, can be adopted to suit the special requirements of an industry. A modified costing system has to be devised to suit the concern and not the business to suit the system.
Limitation # 6. It is not Reliable:
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It is stated that cost accounting is based on estimates and therefore cannot be relied upon.
But, in costing, it is not mere estimates. Estimate in costing is based on scientific technique of reasoning, and actual figures of the past. As such, it is quite near to reality. There are certain circumstances, where the estimation is only the method, such as tenders, fixation of standard costs etc. Standard cost is widely used in modern times.
Limitations of Cost Accounting – 10 Major Limitations: More Complex, Limited Applicability, Lack of Uniformity, Lack of Accuracy, Failure in Many Cases and a Few Others
Besides the various advantages of cost accounting system, it suffers from certain limitations which are as follows:
i) Expensive – Highly paid cost accountants and the organisation of costing system Involve additional expenditure. However, before installing it, care must be taken to ensure that the benefits derived are more than the investment made on this system of accounting.
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ii) More Complex – Cost accounting system involves a number of steps in ascertaining cost such as collection and classification of expenses, allocation and apportionment of expenses etc. These steps are considered as complicated and requires several forms and documents in preparing the reports. This will lead to delay in the preparation of accounts.
iii) Limited Applicability – All business enterprises cannot make use of a single method and technique of costing. It all depends upon the nature of the business and type of product manufactured by it. If a wrong technique and method is used, it misleads the results of the business.
iv) Not applicable to Small Concerns – A cost accounting system is applicable only to large sized business and not suitable for small sized business because it is more expensive.
v) Lack of Uniformity – This is the greatest limitation of cost accounting system. It fails to confirm to any uniform procedure. It is possible that two equally competent cost accountants may arrive at different results from the same information. So it is said that all cost accounting results are mere estimates and not reliable.
vi) Lack of Accuracy – Accuracy in Cost Accounting is relative. Certain assumptions are always made while ascertaining cost to suit a particular situation.
vii) Confusion regarding Non-cost Items – There may be confusion regarding non-cost items for e.g., interest in capital, cash discount etc., should be included or to be excluded from cost accounts.
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viii) Not useful for Handling Futuristic Situations – The contribution of Cost Accounting for handling futuristic situations has not been much. For example, Cost Accounting has not evolved any tool so far, for handling inflationary situation.
ix) Failure in many Cases – It is argued that the adoption of costing system failed to produce the desired results in many cases and so it was not effective.
x) It fails in considering Social Obligations – Cost Accounting fails to take into account the social obligations of the business. In other words, social accounting is outside the purview of the cost accounts.
Thus, Cost Accounting cannot be termed as an exact science like physics, or mathematics but it is a subjective art which is practised based on the accounting theories, reasoning and most important the common sense. Hence, all the decisions of the management are based upon the best judgment of the cost accountants who take into account the various factors while preparing the cost statements, which may not be the same with other cost accountants.
But apart from the above limitations, Cost Accounting helps the management to take vital decisions with valuable cost figures without which management today, cannot solve the complex business problems.
Limitations of Cost Accounting – 8 Important Limitations
In spite of the various advantages claimed by cost accounting, the discipline suffers from the following limitations:
1. Like any other accounting system, it is not an exact science but an art that has developed through theories and practices.
2. Many judgements are biased and depend on individual discretion.
3. Different views are held by different cost accountants about the items to be included in cost
4. Optimum use of resources is not possible even with cost accounting.
5. Determination of standards such as labour hours, material cost, etc. are subject to fluctuations leading to suspicion.
6. Financial management and control are not possible.
7. Strategic planning and management are also not possible.
8. No one cost is suitable for all purposes.
Limitations of Cost Accounting – Unnecessary, May Not be Applicable to All Types of Industries, Expensive, Based on Estimation and Failure in Many Cases
These limitations are given below:
Limitation # 1. It is Unnecessary:
Some people feel that it is unnecessary to adopt cost accounting system as the transactions that are recorded in financial accounting are again posted in cost accounting. This may be true but in the present world of competition, to conduct a business with utmost efficiency, the management needs to know detailed cost information for decision-making. Only a cost accounting system can serve this need of the management and thus help in the efficient conduct of a business.
Limitation # 2. It may not be Applicable to All Types of Industries:
It is said that the modern costing is not applicable to many types of industries e.g. rice production. However, with the proper selection of ways and means, it will be applicable there also. The costing system cannot be implemented theoretically. It has to fit into the industry in which it is introduced. Some sort of costing method can be devised for any type of industry. It is not necessary that it should be the text book method only.
Limitation # 3. It is Expensive:
It is argued that the cost and the expenses involved in implementing the costing system is prohibitive and not commensurate with the benefits received from it. The system should not be elaborate and should not introduce the forms which are not necessary. It should be made very dynamic and adaptable to the needs of the industry.
Limitation # 4. It is Based on Estimation:
It is argued that the costing system depends on predetermined data and therefore it is not reliable. It is true that in this system, there is more estimation but it does not become unreliable because the estimation is done on some scientific basis and not on imagination. Moreover, the entire working of the system does not depend on estimates.
Limitation # 5. It is a Failure in Many Cases:
This argument is fallacious. It is not proper to hastily conclude that the system is at fault. The failure may be due to other factors such as lack of facility or dearth of appropriate data. Therefore, the failure of any costing system can be overcome and made adaptable to any industry.
A close study on the objections raised against cost accounting system would reveal that there is no merit in them. For understanding the whole costing system, specific knowledge of its principles is required. It is really a very useful subject and its careful use in any organisation may prove advantageous to the management in many ways.
Limitations of Cost Accounting – Expensive, Inapplicable, Unnecessary, Becomes Stereotyped and Mechanical
Following are the limitations of Cost Accounting:
(1) It is Expensive:
A cost accounting system involves recording, classification, analysis, allocation and apportionment of costs and absorption of overheads. It also requires the completion of forms, documents and records necessary for its working. Further, it becomes necessary to change the structure of the organisation and departmentalise the business.
This involves additional expenditure. After all, information cost money and effort. Unless benefits of procuring information exceed the cost, it should not normally be sought. According to W.W. Bigg, “A system of costing must be an investment and produce benefits commensurate with the expenditure in the time and money incurred in running it.”
(2) It is Inapplicable:
It is very often argued that modern methods of cost accounting cannot be applied to all types of industry. Here, it should be remembered that there is no readymade or a stereotyped system of cost accounting applicable to all industries regardless of their nature or the nature of the article produced or service rendered. Consequently, it is impossible to fit an industry to a readymade costing system, but the system itself should be adapted to the industry concerned.
(3) It becomes Stereotyped and Mechanical:
It is argued that after sometime, a costing system degenerates itself into merely one of the forms and rulings. Although it is true that forms and ruling are an integral part of any system of cost accounting but they must be revised and made up-to-date in the light of altered conditions. If this is not done, then the system is bound to degenerate into a mere matter of forms and rulings.
(4) It is Unnecessary:
Another objection is that the introduction of costing by itself does not control costs and contribute to the operating efficiency of the concern. It only gives management information with which to control costs. To provide management with this information, those engaged in cost accounting activities must be thoroughly familiar with the processes, materials and equipment used in the business. They must also be fully familiar with cost accounting techniques, report-writing and record-keeping.
Limitations of Cost Accounting – Necessity, Inapplicability, Organizational Issues, Failure in Many Cases, Cost and Mere Matters of Forms and Ruling
Cost accounting has become an important limb of management now-a-days. Some people, however, do not agree with this view.
The following limitations are raised against the introduction of a system of cost accounting in an organisation:
Limitation # 1. Necessity:
It is often argued that industrial activity continued from times immemorial, without depending on a costing system. Industries have prospered without the introduction of the costing system, and hence, any expenses incurred in introducing the same seem to be totally unwarranted.
However, this is the same method of argument as to say that human beings have lived for so many years in the past without the use of modern medicines or modern methods of treatment, hence, medical science and its methods are not at all necessary; but people who argue in this manner would not hesitate, in times of need, to turn to a doctor for medical help.
The fact is that as time goes by, the competition in every sphere of activity increases tending to lower the selling price in the market. Then, it becomes necessary for every manufacturer to know what is his cost of production and how far he can mark down his selling price. This necessarily presupposes the existence of an efficient system of costing.
When business is not difficult to secure, many manufacturers are able to show profit notwithstanding the leakages which pass unchecked; but, in periods of cut-throat-competition, concealed inefficiencies have to be checked and rigorous controls must be exercised to ensure even modest margins of profit.
Failure to maintain normal output results in overhead expenses not being recovered in full. The value of a costing system is, thus, seen since by indicating where economies may be sought, waste eliminated and inefficiency increased some of the loss occasioned by reduced manpower and falling prices may be avoided. Further, advance knowledge of the cost of production helps a manufacturer fix a remunerative price for enjoying a fair share of the market.
Limitation # 2. Inapplicability:
Another argument is that modern methods of costing are not applicable to many types of industry. Cases in support of this argument could be readily cited. Such industries are unique and are not easily amenable to introduction of any type of costing system e.g., rice mills.
The plea of inapplicability, however, is not very apt; what really is at fault is an attempt to foist an unsuitable system or to try to introduce or work a system suitable for a particular type of industry but in environments or on lines, relating to a particular factory, which are not suitable for that system.
It is possible to devise an appropriate costing system to suit the unique requirements of business. A workable solution could always be ascertained, if the attempt is to enjoy the benefits of a good costing system in the long run.
Limitation # 3. Organisational Issues:
The system must suit the nature of business. Before introducing the same, the technical aspects of business must be examined carefully. The organisational details such as layout, nature, size etc., must also receive due attention. Finally, the objective for which the system is sought after should also be looked into. For example, if a firm is not able to sell its product, the focus must be on improving sales through cost reduction at various levels.
Limitation # 4. Failure in Many Cases:
There is no guarantee that the system will deliver the goods. The system does not have any insurance value. Hence, why take the trouble? The argument, obviously, is not based on sound logic. If a system fails to produce desired results, it is wrong to conclude that the system itself is at fault.
The staff might not be cooperative; the implementation might be defective; employees might not relish the idea of accountability, they may not be comfortable with new ways of working out things; and, more importantly, management may not extend a helping hand whenever things go off the track and so on and so forth.
Repeated failures on previous occasions is an indicator of more serious troubles to come and, hence, the need for an urgent installation of a proper system of cost accounting. An experienced cost accountant would, surely be in a position to explain the utility of the system to both management and workers and ensure an effective implementation of the system to the satisfaction of one and all.
Limitation # 5. Mere Matter of Forms and Rulings:
Another argument is that, once a system of cost accounting is introduced, it is only a question of filling additional forms and rulings without any initiative or driving force behind it. This, obviously, is not the fault of the system but the way in which it is taken up for implementation.
Even the best of systems soon tends to become stereotyped if it is not examined and revised from time to time—in line with constant changes in the environment in which it operates. Forms and rulings are indeed essential components of a costing system but these must always be brought up-to-date, in line with the current and future requirements of business.
Limitation # 6. Cost:
Cost accounting involves the use of varied forms, employment of qualified personnel, introduction of proper procedures and techniques. This may prove to be quite costly, especially in the case of small scale units. The argument is obviously very weak. Costing systems come in flexible packages. They can be tailored to suit the unique requirements of business. There is no hard and fast rule that the system should be elaborate and extensive.
Limitations of Cost Accounting – Unnecessary, Expensive, Inapplicable and Failure
Despite the fact that the development of cost accounting in one of the most significant steps to improve performance, certain objections are raised against its introduction.
1. It is Unnecessary:
It is argued that maintenance of cost records is not necessary and involves duplication of work. It is based on the premise that a good lumber of concerns are functioning prosperously without any system of costing. This may be true, but in the present world of competition, to conduct a business with utmost efficiency, the management needs to know detailed cost information for its decision making. Only a cost accounting system can serve this need of the management and thus help in the efficient conduct of a business.
2. It is Expensive:
It is pointed out that installation of a costing system is quite expensive which only large concerns can afford. It is also argued that installation of the system will involve additional expenditure which will lead to a diminution of profits. In this respect, it may be said that a costing system should be treated as an investment and the benefits derived from the system must exceed the amount spent on it. It should not prove a burden on the finances of the company. For an economical operation of the system, the maintenance of the records should be kept to the minimum taking into account the need and use of each record.
3. It is Inapplicable:
Another argument sometimes put forward is that modern methods of costing are not applicable to many types of industries. This plea is not very apt. The fault lies in an attempt to introduce a readymade costing system in an industry. A costing system must be specially designed to meet the needs of a business. Only then the system will work successfully and achieve the objectives for which it is introduced. In fact, applications of costing are very wide. All types of activities, manufacturing and non-manufacturing, should consider the use of cost accounting.
4. It is a Failure:
The failure of a costing system in some concerns is quoted as an argument against its introduction in other undertakings. This is a very fallacious argument. If a system does not produce the desired results, it is wrong to jump to the conclusion that the system is at fault. The reasons for its failure should be probed.
Often it is discovered that employees were opposed to the introduction of any method which was not known to them or to which they were not accustomed. Thus, to make the system a success, the utility of the system should be explained to the management and the cooperation of the employees should be sought by convincing term that the system is for the betterment of all.
Limitations of Cost Accounting – Top 9 Limitations
In spite of the various advantages of cost accounting , the discipline suffers from the following limitations:
1. Managerial need for auditing, so essential for safeguarding assets, is not satisfied by cost accounting.
2. Cost accounting does not facilitate capital budgeting.
3. Optimum use of resources is not possible even with cost accounting.
4. Financial management and control are also not possible.
5. Strategic planning and management are not possible.
6. Cost accounting is not an exact science because of the existence of human element in its installation and successful operation.
7. The term ‘cost’ is susceptible to various connotations. There is no generally agreed concept of cost.
8. Cost accounting does not provide ready-made solutions to managerial problems.
9. Although costing principles are the same, costing procedures being different, cost of production of two concerns may not be the same, in spite of their product being the same.
Limitations of Cost Accounting – It is Unnecessary, Inapplicable, Failure, Expensive and Becomes Stereotyped and Mechanical
There are also objections raised by businessmen against the introduction of cost accounting.
These objections, summarised by Sarkar, are the following:
Limitation # 1. It is Unnecessary:
It is often argued that the efficiency of a business concern does not depend upon the installation of a cost accounting system since there have been in existence concerns which have proved themselves efficient even without cost accounting.
Although there seems to be some justification in this argument, the environment in which a business operates is quite different from what it was some years ago. Further, the term efficiency being relative, there appears to be no reason why an efficient concern should not aim at greater efficiency.
Again, the fact that a concern is efficient does not mean that it would be so forever. Taking into consideration the benefits conferred by a modern cost accounting system, the argument that it is unnecessary does not hold good.
Limitation # 2. It is Inapplicable:
Another argument against cost accounting is that the modern method of costing cannot be applied to all types of industries, and in particular, certain unique or special types of industry are not amenable to the introduction of a cost accounting system.
Against this argument, it may be pointed out that cost accounting is flexible. As such, it can be adapted to the nature and type of industry. It is not necessary to fit an industry to a readymade costing system. Further it is also not necessary to apply all the rigorous principles of costing. However simple the system might be, if it can be worked well, even special types of industries are bound to reap the benefits of cost accounting.
Limitation # 3. It is a Failure:
The techniques of cost accounting necessarily depend upon the operations, personnel and the policy of the enterprise. Such being the case, if cost accounting is introduced without any regard to the nature of business and the system does not suit the business, it is but natural that the system should prove a failure.
This, however, does not mean that the system itself is bad. The success or failure of a system depends not merely upon the system designed but also the way it is worked. Cost accounting should never be introduced merely because it is fashionable to do so.
Limitation # 4. Becomes Stereotyped and Mechanical:
It is often argued that the accumulation of cost information, and reporting of the same to management, involves the use of a number of forms. In course of time, therefore, the filling in of these forms is bound to become mechanical, making the system stereotyped.
Although, it is true that forms and ruling are an integral part of any system of cost accounting, it is wrong to argue that the system degenerates itself into merely one of forms and ruling. With the passage of time, and with the altered conditions of business, it becomes necessary to revise these forms and make them up-to-date. There may also be the possibility of reducing the number of forms in course of time when the operating personnel become cost conscious.
Limitation # 5. It is Expensive:
Of all the arguments advanced against cost accounting, the argument that it involves a considerable amount of expenditure appears to be the most powerful. This is because of the reason that according to C. T. Horngren, “Accounting systems are economic goods. They cost money just like beer and milk.” In his view, the criterion for choosing among alternative methods of accounting is management goals vis-a-vis their costs. This is what he calls the ‘cost-benefit’ approach.
If the installation and working of a suitable system of cost accounting are too expensive to be considered in the light of the expected benefits, this argument should certainly hold good. It is, no doubt, true that the introduction of cost accounting involves some amount of expenditure, but the same should be treated as an investment.
If the cost-benefit approach to decide whether or not to introduce cost accounting, convinces management that the benefits are not commensurate with the expenditure involved, instead of taking a decision not to introduce the system at all, certain procedures may be avoided.
It is, in this context, that Bigg opines that, “A system of costing must be an investment and must produce benefits commensurate with the expenditure in time and money incurred in running it. Although theory may demand a certain procedure, if it is found in practice that this is inexpedient or unduly expensive, it must, for the time being at any rate, be discarded in favour of something more practicable.”
Limitations of Cost Accounting – Cost Accounting is Unnecessary, Cannot be Adopted by Small Business Concerns, Very Costly and Results are Misleading
Sometimes certain objections are raised against cost accounting system and some disadvantages thereof pointed out. But the fact remains that there are no real disadvantages of the system itself. The disadvantages of the cost accounting system arise only if the system is not applied with caution and care.
The main limitations of cost accounting system are as follows:
1. Cost Accounting is Unnecessary:
It is generally argued that maintenance of the costing records for the purpose of operating the cost accounting system, is unnecessary and involves duplication of accounting work. But this argument cannot be treated as valid in this present age of cut throat competition. The management of any manufacturing concern, in order to face competition, should know not only the exact cost of its products but also the constitution of cost or its various elements.
Cost accounting system renders invaluable services to the management in the following ways:
(i) It helps the management in ascertaining the accurate cost of products of the manufacturing concern and how it has been made up.
(ii) It provides a reliable basis to the management for fixing a reasonable and competitive selling price and quotation price.
(iii) It assists in controlling the costs of material, labour and overhead by eliminating or mininising all types of wastages, leakages and inefficiencies.
(iv) It helps the management in exercising cost control and maximising profits through the techniques of standard costing and budgetary control.
(v) It provides invaluable data for the assistance and guidance of the management in the decision-making process.
Keeping in view the above mentioned advantages of the cost accounting system, it can be said that cost accounting is not unnecessary.
2. Cost Accounting System cannot be adopted by Small Business Concerns:
It is generally said that the adoption of cost accounting system is costly and hence the small business concerns are unable to adopt it and to enjoy its advantages. But it should be remembered that costing system should be adopted not as a matter of fashion but as a matter of necessity.
If a small business concern needs the costing system, the system should be so designed that it is within the financial capacity of that business. The practical importance of the objection is, therefore, negligible.
3. Cost Accounting System is Very Costly:
The third disadvantage of the cost accounting system is that its installation and subsequent operation involves additional expenditure which leads to an increase in the cost of production and reduces the profitability of the business concern. But cost accounting system being costly in itself is no disadvantage provided the system is a profitable investment for any business concern.
The cost accounting system should be economical and the cost of its operation should be commensurate with the advantages accruing from it. If this principle is faithfully observed, there is no possibility of the cost accounting system being costly.
4. Costing Results are Misleading:
It is generally said that cost accounting system involves the use of the estimated figures and costing results may be misleading if errors somehow creep in. But it may happen only in case of wrong application of the system by the persons who are not well- trained in cost accounting principles. Thus, the fault lies with the man and not with the cost accounting system.
Limitations of Cost Accounting – Expensive, System is More Complex, Not Suitable for Small Scale Units, Lack of Accuracy and Lacks of Social Accounting
Limitation # 1. It is Expensive:
The system of cost accounting involves additional expenditure to be incurred in installing and maintaining it. However, before installing it, care must be taken to ensure that the benefits derived are more than the investment made on this system of accounting.
Limitation # 2. The System is More Complex:
As the cost accounting system involves number of steps in ascertaining cost such as collection and classification of expenses, allocation and apportionment of expenses, it is considered to be complicated system of accounts. Moreover the system makes use of several documents and forms in preparing the reports. This will tend to delay in the preparation of accounts.
Limitation # 3. Inapplicability of Same Costing Method and Technique:
All business enterprises cannot make use of a single method and technique of costing. It all depends upon the nature of business and type of product manufactured by it. If a wrong technique and method is used, it misleads the results of business.
Limitation # 4. Not Suitable for Small Scale Units:
A cost accounting system is applicable only to a large-sized business but not to a small-sized one. Hence, there is limitation to its application to all types of business.
Limitation # 5. Lack of Accuracy:
The accuracy of cost accounts get distorted owing to the use of notional cost such as standard cost, estimated cost, etc.
Limitation # 6. It Lacks Social Accounting:
Cost accounting fails to take into account the social obligation of the business. In other words, social accounting is outside the purview of cost accounts.
Limitations of Cost Accounting – Summarised by Sarkar: Unnecessary, Inapplicable, Failure, Expensive and Stereo-Typed and Mechanical
Though Costing System ensures a number of benefits to the company and contribute heavily to the managerial decisions, a number of objections have been raised against Costing System. These objections were raised mainly by those who have failed to understand and appreciate the important role that the Costing System plays in the overall growth of the company. However, it is necessary to have a look at these objections.
Sarkar has summarised these limitations under five heads viz.:
1. Unnecessary,
2. Inapplicable,
3. Failure,
4. Stereo-typed and mechanical, and
5. Expensive.
1. It is Unnecessary:
In the light of many a number of industrial undertakings which have prospered in the past without adopting any Costing System, many a number of persons and business enterprises argue that Costing System is unnecessary. Before looking into the validity of this argument, it is better to have a look at an interesting counter argument put forward by Prof. Agarwal, it (i.e., the argument that Costing System is unnecessary) is a frog-in-the well attitude.
It is similar to the argument that if one can live in darkness, why to have electricity fitted in the house, or if the people enjoyed blissful health in the past without modern system of medicines, why to have hospitals or dispensaries? But it is a fact that the people prefer to have electricity fitted in their houses, and in pain and agony of disease, rush to hospital for recovery, for the simple reason of their utility and service to mankind. The argument against Costing System has, therefore, got no validity.
Because, in this highly competitive business environment, only those business enterprises which are capable of cutting their costs to the maximum extent, which are able to produce the qualitative product by incurring minimum cost and the companies which are in a position to offer the product at a comparatively lower prices are in a position to survive. Others are thrown out of the market. Hence, every effort should be made by the companies to offer the product at a comparatively lower prices.
This calls for the information to take decisions about the price, price revision, acceptance or rejection of the offer, eliminating unnecessary costs, etc. Cost Accounting provides yeoman service to the management through its timely cost statements and reports, to take various appropriate and timely decisions. Hence, Cost Accounting is not unnecessary but a necessity for both survival and growth.
2. It is Inapplicable:
Another important argument against Costing System is that it cannot advantageously be applied to all types of industries. Of course, it is true to some extent. Because, there is no Costing System which is readily available and which can be applied to all industries. But, what is to be noted here is the fact that the Costing System does not demand or require the industrial enterprises to fit to the Costing System. Rather, it is opposite. It recognises the reality that each industrial enterprise is unique in one way or the other.
Therefore, Costing System shall be devised in such a way that it suits to the enterprise and it takes into consideration the requirements of the enterprise. Then only it is possible to accomplish the objectives with which the Costing System is installed. Hence, it can be concluded that Costing System can be applied with advantage to all types of industries irrespective of their nature, size, etc.
3. It is a Failure:
This objection comes from the business concerns which have installed a Costing System but failed to reap the benefits of the system. Just because of this reason, one cannot blame the system and say it is a failure. Because, there are many reasons for the failure of the system such as, failure to devise a suitable Costing System, indifferent attitude of management and others, lack of adequate facilities, lack of support and co-operation of supervisory and work staff, etc.
It is, therefore, not proper to find fault with the system. By finding out the reasons as to why the system has failed and taking necessary steps, it is possible to have a Costing System serving all levels of management and also the company at large.
4. It is Stereotyped and Mechanical:
Another objection against Costing System is that it (i.e., Costing System) is stereotyped and mechanical as it (i.e., Costing System) involves filling in of a large number of forms continuously. But what is to be noted here is that the details are collected on a continuous basis for the purpose of preparing reports to the management for proper action.
Further, there is a flexibility to change, improve and to modify the forms, reports, etc., in the light of changes in the business which is a common phenomenon. Therefore, it cannot be dubbed as stereotyped and mechanical.
5. It is Expensive:
Another important objection raised against Costing System is that the installation and operation of Costing System requires a huge initial capital employment and high
operating expenses which a majority of the companies, more particularly small scale organizations, can ill-afford.
Though some expenses shall be incurred periodically and some capital outlay is required at the time of installation, the Costing System is not expensive if one considers the benefits from the system. Costing System is, therefore, not an expensive exercise.
Limitations of Cost Accounting – 6 Important Limitations
Though the Costing System ensures a number of benefits, it also suffers from a few limitations. But what is to be noted here is the fact that these limitations are, to some extent, unavoidable. However, they do not affect much the realisation of the objectives for which Cost Accounting is introduced. Further, they are, to some extent, essential for the purpose of operation of the system.
Keeping these points in mind, important limitations are presented below:
1. Cost Accounting is not an exact science. Because, though Cost Accounting system aims at ascertaining cost, it is impossible to ascertain the actual cost of goods and services. Because, in order to ascertain the cost of goods and services, it is necessary to use a number of estimates, bases for apportionment, etc.
Further, a number of accounting methods are available for each of a number of costing problems. Hence, the cost of goods and services is influenced by all these. Therefore, it is said that it is not possible to compute the actual cost.
2. Availability of a number of accounting treatments for each of few major elements of costs results in the operating performance influenced even by the accounting methods and treatments. Because, the companies are free to use any of these accepted accounting treatments. This also makes the results not comparable (for both Trend Analysis and Inter-firm Comparison).
3. Cost Accounting identifies the deficiencies in the performance of the company. It also identifies the probable reasons and suggests remedial measures. But it does not ensure the result as result depends upon the action initiated by the management.
4. A number of bases are available for classification of costs. But the classification of cost for one purpose based on one base is not normally suitable for other purposes. There is, therefore, a considerable increase in the clerical work.
5. One cost figure does not serve all purposes and is not suitable to all circumstances. For instance, for quoting special business offer, only incremental costs are reckoned. For the purpose of regular pricing, total cost is considered. This way, cost is ascertained, usually, afresh for each decision considering only items of expenses which are most pertinent to the decision under consideration. It results in considerable increase in clerical work.
6. It excludes some of the items of expenses though they are accounted for in the Financial Accounting system.
Limitations of Cost Accounting – Expensive, Inapplicability to Many Industries, Not a Necessity, Failure in Some Industries, Lacks Uniformity and Difference in Results
Cost Accounting is a branch of Accounting. It is not an exact science rather based on theories and accounting practices. The principles and practices change from time to time. A number of objections is raised by some people against the installation of costing system.
1. Expensive – Installing a costing system is quite expensive and required additional cost. Analysis, allocation, apportionment and absorption of overheads, in costing increase clerical work. But the answer to this objection is that it is not expensive if its benefits exceed its expenditure cost.
2. Inapplicability to Many Industries – It is argued that a single costing system is not applicable to all industries. Moreover it is not advantageous to trading concerns and small business. But a specific costing system may be designed according to the needs of business.
3. Not a Necessity – It has been argued that it is an unnecessary expenditure. Costing system itself does not control on cost. It has to be managed by experienced staff. But answer to this argument is that in the age of competition it is must to minimize the cost of per unit product.
4. Failure in Some Industries – Some people argue that costing system failed to give desired results in some industries, but this is not correct. This failure can be because of other reasons. For example, Non-co-operation of employees or lack of adequate facilities.
5. Cost Accounting Lacks Uniformity – Some people oppose it because of lack of uniformity. According to them, two cost accountants give different results from the same information. But this problem can be avoided by adopting uniform accounting principles.
6. Difference in Results of Cost A/c and Financial A/c – The results shown by cost accounts differ substantially from those shown by the financial accounts. Reconciliation statement has to be prepared to reconcile the results of two. But argument against objection is that an integrated system of accounts should be introduced to remove this problem.
7. It is Unnecessary in Case Large Profits are Earned – Some people argue that businesses which are earning large profits need not have system of cost accounting. But this objection is worthless. Because earning of more profit does not necessarily means low cost of production and no scope for further reduction in it.
Limitations of Cost Accounting
Cost accounting can never be an exact science because of the inherent element of judgement. There is, often, no uniformity in costs ascertained by different cost accountants using the same data. Disagreements in the cost of a product usually arise owing to different procedures of cost ascertainment, allocation and apportionment followed by cost accountants.
For this reason, cost results must be accepted as reasonable approaches to accuracy (only) and not as precise measurements. Accuracy in cost accounting is, therefore, relative. Unless uniform principles are followed in the collection, allocation and apportionment of expenses, results are bound to be different.
Also, costs have no utility in themselves. Their usefulness, to a large extent, depends on how promptly remedial steps are taken up by top management, once certain loopholes are detected and pointed out by the cost accountant.
Limitations of Cost Accounting – A Capsule:
1. Cost accounting is not an exact science
2. It is based on assumptions and presumptions
3. No one cost is suitable for all purposes
4. Two cost accountants draw different conclusions from the same cost data
5. The true cost of a product can never be ascertained as it has to take into account a number of assumptions, conventions etc.
6. Cost accounting provides data for arriving at decisions; it does not offer solutions to a problem.
Limitations of Cost Accounting – 6 Major Limitations of Cost Accounting
Some of the limitations of cost Accounting are discussed below:
1. It is expensive and requires reconciliation with financial accounts.
2. It is unnecessary.
3. It is not applicable to the trading concerns and small firms.
4. If the system is not revised as per the changing circumstances, it will become a matter of routine forms and statements.
5. It is not useful unless the action is taken on the various cost data or efficiencies/inefficiencies revealed.
6. Cost Accounting is not an exact science and there is no such thing as “True Cost” in the world because of the following conventions and estimations-
(a) Adoption of FIFO, LIFO, Weighted Average Pricing of material issues instead of actual price.
(b) Apportionment of Group Bonus.
(c) Apportionment of overheads, i.e., not actual overheads
(d) Under absorption and over absorption of overheads
(e) Apportionment of joint costs
(f) Different valuations of work-in-progress or finished goods based on Absorption Costing or Marginal Costing Techniques,
(g) Adoption of Standard Cost and Marginal Costs.
(h) Certain items are excluded from Cost Accounts even though they are actually incurred and imputed costs are included in cost accounts even though these are not incurred.
(i) Separation of Semi-variable overheads into fixed and variable overheads.
(j) There is no uniformity in cost ascertainment.