What is Cost Accounting? Friday, October 15, 2010

This can be described as the process of accumulating, measuring, analyzing, interpreting and reporting cost information that is both useful and relevant to the internal and external stakeholders of a business entity. External stakeholders are those who have a vested financial interest in a business or company. For example banks (loans), financial houses (mortgages), investors (investments), etc. Internal stakeholders are the business or company directors, managers, division heads, etc.

One of the many benefits of cost accounting is that it turns data into information, knowledge and wisdom about a business entity's operations that is useful for:

• measuring performance


• reducing or managing costs


• determining the fees or prices for goods and services


• deciding to authorize, modify or discontinue a program or activity

Another benefit is that information on the costs programs and activities may be used as a basis to estimate future costs in preparing and reviewing budget requests. Once budgets are approved and executed, cost information serves as a useful feedback on performance. Moreover, costs may be compared to known or assumed benefits to identify value-added and non-value added activities. Reliable information on the cost of programs and activities is crucial for the effective management of a business entity's operations. Cost accounting is especially important for fulfilling the objective of assessing operational performance. The objective is to improve the efficiency and effectiveness of operations by furnishing program managers and others with timely and relevant cost-based performance information to allow for continuous improvement in delivering outputs and outcomes to stakeholders. Cost accounting has been with us since early times to help managers understand the costs of running a business. Modern cost accounting originated during the industrial revolution, when the complexities of running a large scale business led to the development of systems for recording and tracking costs to help business owners and managers make decisions.

In the early industrial age, most of the costs incurred by a business were what modern accountants call "variable costs" because they varied directly with the amount of production. Money was spent on labour, raw materials, power to run a factory, etc. in direct proportion to production. Managers could simply total the variable costs for a product and use this as a rough guide for decision-making.

Some costs tend to remain the same even during busy periods, unlike variable costs which rise and fall with volume of work. Over time, the importance of these "fixed costs" has become more important to managers. Examples of fixed costs include the depreciation of plant and equipment, and the cost of departments such as maintenance, tooling, production control, purchasing, quality control, storage and handling, plant supervision and engineering. In the early twentieth century, these costs were of little importance to most businesses. However, in the twenty-first century, these costs are often more important than the variable cost of a product, and allocating them to a broad range of products can lead to bad decision making.

In modern accounting, costs are measured in accordance with Generally Accepted Accounting Principles (GAAP). In accordance to GAAP the principle is to record historical events and assign a monetary value to each event that has taken place. Costs are measured in units of currency by convention. Cost accounting could also be defined as a kind of management accounting that translates the Supply Chain (the series of events in the production process that, in concert, result in a product) into financial values.

In conclusion, for any business entity - from the smallest business enterprise to the largest multinational corporation - to be successful requires the use of cost accounting concepts and practices. It provides key data to managers for planning and controlling, as well as costing products, services, and customers. The central focus is how it could help managers make better decisions. For this reason businesses and companies hire cost accountants and they are increasingly becoming integral members of decision-making teams instead of just data providers.

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