Operating Costing

It is a method of costing applied by undertakings which provide service rather than production of
commodities. Like unit costing and process costing, operating costing is thus a form of operation
costing. The emphasis under operating costing is on the ascertainment of cost of rendering
services rather than on the cost of manufacturing a product. It is applied by transport companies,
gas and water works, electricity supply companies, canteens, hospitals, theatres, school etc.
Within an organisation itself certain departments too are known as service departments which
provide ancillary services to the production departments.
For example, maintenance department; power house; boiler house; canteen; hospital; internal
transport.

Operation Costing
It represent a refinement of process costing. In this each operation instead of each process of
stage of production is separately costed. This may offer better scope for control. At the end of
each operation, the unit operation cost may be computed by dividing the total operation cost by
total output.
It is defined as the refinement of process costing. It is concerned with the determination of the
cost of each operation rather than the process. In those industries where a process consists of
distinct operations, the method of costing applied or used is called operation costing. Operation
costing offers better scope for control. It facilitate the computation of unit operation cost at the
end of each operation by dividing the total operation cost by total input units. It is the category of
the basic costing method, applicable, where standardized goods or services result from a
sequence of repetitive and more or less continuous operations, or processes to which costs are
charged before being averaged over the units produced during the period. The two costing
methods included under this head are process costing and service costing.

Role of Operating Cost Accounting

Balance sheets and profit and loss statements do not reveal how profitable one product is versus
another, or whether one plant produces more efficiently than another. Although the stockholder
or investment analyst may care little about details of efficiency and cost since to them the overall
profit of the business is sufficient, management must take a different point of view. Naturally,
management is interested in maintaining the overall position of the company.
The overall position of a company can include such measures as how successfully it competes,
how it is perceived by its customers, competitors, and investors, and its capacity for future
growth.
In cost accounting the total expenditures in operating a business are broken down on per item or
per unit basis, as for example the cost of producing a gallon of gasoline, a ton of coal, a dozen
shirts, or a refrigerator. The same idea can be extended to cost per production order, as when a
special product is made for a customer, or extended to cost per activity or operation, such as the
cost of drilling inch holes, or plating sheet metal of a certain size and quality.
Cost accounting provides information for the following purposes:

1. Cost determination
The costs and expense of a business are recorded, classified, and allocated to various jobs,
departments, products, or services.

2. Costs for pricing

Once costs are determined, the information also serves as a guide regarding prices to be quoted
to customers. Even though selling prices are governed only partly by the costs of production, in
the long run the selling price must at least equal the costs of production, or there will be serious
consequence to the profit and loss statement.

3. Cost for managerial decision

In a sense, both cost determination and cost for pricing provide bases for managerial decisions.
Although managerial decision making actually becomes much more complex than the statement
above implies, cost information may be helpful in making decision that have to do with (a)
whether to add a new product, or to drop one that is now being produced (b) Whether to
manufacture a certain unit, or buy it on the outside, and (c) whether to add certain sales terrories
and drop others.

4. Cost control
One of the more essential purposes of cost accounting is control of expenditures. Such control
leads to efficiency in the use of labor, materials machines and plants. Although to a large extent
selling prices are
determined by competition, the profit-making capacity of a business is guided by the efficiency
with which costs are controlled.

Introduction of Transportation cost

The cost accounting principles for tracing/ identifying an element of cost, its
allocation /apportionment to a product or service are well established. Transportation cost is an
important element of cost for procurement of materials for production and for distribution of
product for sale. Therefore, cost accounting records should present transportation cost separately
from the other cost of inward materials or cost of sales of finished goods. The Finance Act 2003
also specifies the certification requirement of transportation cost for claiming deduction while
arriving at the assessable value for excisable goods cleared for home consumption / export.
There is a need to standardize the record keeping of expenses relating to transportation and
computation of transportation cost.
Economic Impacts refer to costs and benefits. Costs (benefits) reduce (increase) scarce
resources such as money, time, land, health, environmental quality, or any other item of value.
Costs and benefits have a mirror image relationship: a cost can be defined as a reduction in
benefits and a benefit can be defined as a reduction in costs. Transportation benefits are often
measured in terms reduced transportation costs. For example, congestion reduction benefits
consist of reductions in travel time and vehicle operating costs. Calculating costs is therefore the
basis for calculating benefits.
Economists have developed estimates of many transportation costs for use in economic
analysis, including vehicle expenses, travel time costs, road and parking facility costs, crash
costs and environmental costs. This chapter summarizes these cost estimates and describes how
to obtain additional information on individual costs.
This Encyclopedia evaluates TDM strategies based on effectiveness in achieving various
transportation improvement objectives (i.e., benefits), including congestion reduction, road and
parking facility savings, consumer savings, road safety, and environmental protection
(Evaluating TDM). These benefits are usually measured in terms of cost reductions, so this
chapter primarily describes transportation costs. However, focusing on costs does not ignore
transportation benefits.
Transport systems face requirements to increase their capacity and to reduce the costs of
movements. All users (e.g. individuals, enterprises, institutions, governments, etc.) have
tonegotiate or bid for the transfer of goods, people, information and capital because supplies,
distribution systems, tariffs, salaries, locations, marketing techniques as well as fuel costs are
changing constantly. There are also costs involved in gathering information, negotiating, and
enforcing contracts and transactions, which are often referred as the cost of doing business. Trade
involves transactions costs that all agents attempt to reduce since transaction costs account for a
growing share of the resources consumed by the economy.Frequently, enterprises and individuals
must take decisions about how to route passengers or freight through the transport system. This
choice has been considerably expanded in the context of the production of lighter and high value
consuming goods, such as electronics, and less bulky production techniques. It is not uncommon
for transport costs to account for 10% of the total cost of a product. This share also roughly

applies to personal mobility where households spend about 10% of their income for
transportation, including the automobile which has a complex cost structure. Thus, the choice of
a transportation mode to route people and freight within origins and destinations becomes
important and depends on a number of factors such as the nature of the goods, the available
infrastructures, origins and destinations, technology, and particularly their respective distances.
Jointly, they define transportation costs.
Transport costs are a monetary measure of what the transport provider must pay to produce
transportation services. They come as fixed (infrastructure) and variable (operating) costs,
depending on a variety of conditions related to geography, infrastructure, administrative barriers,
energy, and on how passengers and freight are carried. Three major components, related to
transactions, shipments and the friction of distance, impact on transport costs.
Transport costs have significant impacts on the structure of economic activities as well as on
international trade. Empirical evidence underlines that raising transport costs by 10% reduces
trade volumes by more than 20%. In a competitive environment where transportation is a service
that can be bided on, transport costs are influenced by the respective rates of transport
companies, the portion of the transport costs charged to users.
Rates are the price of transportation services paid by their users. They are the negotiated
monetary cost of moving a passenger or a unit of freight between a specific origin and
destination. Rates are often visible to the consumers since transport providers must provide this
information to secure transactions. They may not necessarily express the real transport costs.
The difference between costs and rates either results in a loss or a profit from the service
provider. Considering the components of transport costs previously discussed, rate setting is a
complex undertaking subject to constant change. For public transit, rates are often fixed and the
result of a political decision where a share of the total costs is subsidized by the society. The goal
is to provide an affordable mobility to the largest possible segment of the population even if this
implies a recurring deficit (public transit systems rarely make any profit). It is thus common for
public transit systems to have rates that are lower than costs. For freight transportation and many
forms of passenger transportation (e.g. air transportation) rates are subject to a competitive
pressure. This means that the rate will be adjusted according to the demand and the supply. They
either reflect costs directly involved with shipping (cost-of-service) or are determined by the
value of the commodity (value-of-service). Since many actors involved in freight transportation
are private rates tend to vary, often significantly, but profitability is paramount.

2. Costs and Time Components

Transportation offers a spectrum of costs and level of services. The price of a transport service
does not only include the direct out-of-the-pocket money costs to the user but also includes time
costs and costs related to possible inefficiencies, discomfort and risk (e.g. unexpected delays).
However, economic actors often base their choice of a transport mode or route on only part of
the total transport price. For example, motorists are biased by short run marginal costs. They
might narrow down the price of a specific trip by car to fuel costs only, thereby excluding fixed
costs such as depreciation, insurance and vehicle tax. Many shippers or freight forwarders are
primarily guided by direct money costs when considering the price factor in modal choice. The
narrow focus on direct money costs is to some extent attributable to the fact that time costs and
costs related to possible inefficiencies are harder to calculate and often can only be fully assessed
after the cargo has arrived. Among the most significant conditions affecting transport costs and
thus transport rates are:
Geography. Its impacts mainly involve distance and accessibility. Distance is commonly the
most basic condition affecting transport costs. The more it is difficult to trade space for a
cost, the more the friction of distance is important. It can be expressed in terms of length,
time, economic costs or the amount of energy used. It varies greatly according to the type of
transportation mode involved and the efficiency of specific transport routes. Landlocked
countries tend to have higher transport costs, often twice as much, as they do not have direct
access to maritime transportation. The impact of geography on the cost structure can be
expanded to include several rate zones, such as one for local, another for the nation and
another for exports.
Type of product. Many products require packaging, special handling, are bulky or
perishable. Coal is obviously a commodity that is easier to transport than fruits or fresh
flowers as it requires rudimentary storage facilities and can be transshipped using
rudimentary equipment. Insurance costs are also to be considered and are commonly a
function of the value to weight ratio and the risk associated with the movement. As such,
different economic sectors incur different transport costs as they each have their own
transport intensity. With containerization the type of product plays little in the transport cost
since rates are set per container, but products still need to be loaded or unloaded from the
container. For passengers, comfort and amenities must be provided, especially if long
distance travel is involved.
Economies of scale. Another condition affecting transport costs is related to economies of
scale or the possibilities to apply them as the larger the quantities transported, the lower the
unit cost. Bulk commodities such as energy (coal, oil), minerals and grains are highly suitable
to obtain lower unit transport costs if they are transported in large quantities. For instance,
moving a barrel of oil over 4,000 km would cost $1 on a 150,000 deadweight tons tanker
ship and $3 on a 50,000 deadweight tons tanker ship. A similar trend also applies to container
shipping with larger containerships involving lower unit costs.

Energy. Transport activities are large consumers of energy, especially oil. About 60% of all
the global oil consumption is attributed to transport activities. Transport typically account for
about 25% of all the energy consumption of an economy. The costs of several energy
intensive transport modes, such as air transport, are particularly susceptible to fluctuations in
energy prices.
Trade imbalances. Imbalances between imports and exports have impacts on transport costs.
This is especially the case for container transportation since trade imbalances imply the
repositioning of empty containers that have to be taken into account in the total transport
costs. Consequently, if a trade balance is strongly negative (more imports than exports),
transport costs for imports tend to be higher than for exports. Significant transport rate
imbalances have emerged along major trade routes. The same condition applies at the
national and local levels where freight flows are often unidirectional, implying empty
movements.
Infrastructures. The efficiency and capacity of transport modes and terminals has a direct
impact on transport costs. Poor infrastructures imply higher transport costs, delays and
negative economic consequences. More developed transport systems tend to have lower
transport costs since they are more reliable and can handle more movements.
Mode. Different modes are characterized by different transport costs, since each has its own
capacity limitations and operational conditions. When two or more modes are directly
competing for the same market, the outcome often results in lower transport
costs.Containerized transportation permitted a significant reduction in freight transport rates
around the world.
Competition and regulation. Concerns the complex competitive and regulatory
environment in which transportation takes place. Transport services taking place over highly
competitive segments tend to be of lower cost than on segments with limited competition
(oligopoly or monopoly). International competition has favored concentration in many
segments of the transport industry, namely maritime and air modes. Regulations, such as
tariffs, cabotage laws, labor, security and safety impose additional transport costs,
particularly in developing countries.
Surcharges. Refer to an array of fees, often set in an arbitrary fashion, to reflect temporary
conditions that may impact on costs assumed by the transporter. The most common are fuel
surcharges, security fees, geopolitical risk premiums and additional baggage fees. The
passenger transport industry, particularly airlines, has become dependent on a wide array of
surcharges as a source of revenue.
The transport time component is also an important consideration as it is associated with the
service factor of transportation. They include the transport time, the order time, the timing, the
punctuality and the frequency. For instance, a maritime shipper may offer a container transport
service between a number of North American and Pacific Asian ports. It may take 12 days to
service two ports across the Pacific (transport time) and a port call is done every two days
(frequency). In order to secure a slot on a ship, a freight forwarder must call at least five days in

advance (order time). For a specific port terminal, a ship arrives at 8AM and leaves at 5PM
(timing) with the average delay being two hours (punctuality).