Cost accounting can be defined within the accounting system as internal reporting for use in management planning, control, and in making routine and nonroutine decisions, and external reporting to the extent that its product-costing function satisfies external reporting requirements for reporting to shareholders, government, creditors, investors and various outside interested parties.

In that sense, cost accounting is a combination of managerial accounting and financial accounting, which will be discussed later.

Cost is the measurement of the sacrifice of economic resources, which has already been made or is to be made in the future, in order to achieve a specific objective. Cost management deals with estimated future or planned costs as well as with past, historical costs. It consists of the following basic activities, whether it is for a manufacturing or service business or for a profit or nonprofit organization:

1. Cost recording and reporting, including classifying, summarizing, communicating, and interpreting cost data to interested parties, internal or external.

2. Cost measurement or estimation for specific products, services, or subunits of the organization.

3. Cost planning It involves selecting the goals of the organization and its subunits, expressed as operating objectives, and then identifying the means of accomplishing them. Plans are summarized in budgets which are expressed in terms of money measurements. For example, a cost budget should be prepared so as to plan for expected expenditures. The profit budget outlines the planned revenues and expenses of the coming time period. The production and cost of goods manufactured budget shows planned inventory levels, units of product which the company plans to make, and the costs of the various types of inputs which will be needed in carrying out the production plans. A budget also achieves control through the comparison of actual and budgeted costs resulting variance determination and analysis.

4. Cost control It sets predetermined standards (such as standard costs and budgets) by which performance can be measured. It then reports differences between planned and actual performances to direct attention to what went wrong. Furthermore, cost control aids in fixing responsibility for departures from a plan so that corrective actions can be taken. For example, a cost accounting report to a production department manager may show that the cost of manufacturing one unit of output is significantly higher than the standard cost. Investigation may reveal that the higher cost is due to the inefficient labor, excessive spoilage of materials, or use of faulty equipment and improper production methods.

5. Cost analysis, obtaining accurate product-costing data and managing it to assist managers in making critical decisions such as pricing, product mix, and process technology decisions and analyzing cost data, translating them into the information useful for managerial planning and control, and for making short-term and long-term decisions. This phase involves measurement of accurate and relevant cost data and analyzing them for decision making. Activity-base costing (ABC) and Activity-base Management (ABM) are two new developments that enhance product costing accuracy. Decision making, which can be described as problem solving, is largely a matter of choosing among alternative courses of action. The questions that arise from time to time are many and varied. Should the new product be introduced? Should one of the products or services in a line be dropped? Should a special order be accepted at below the normal selling price? Should parts now being manufactured be purchased? Should the present equipment be replaced? Should equipment be purchased or leased? Should production capacity be expended? A cost management system is used to support management`s needs for better decisions about product design, pricing, marketing, and mix, and to encourage continual operating improvements. Quantitative methods may be used in various phases of cost analysis to determine costs and their financial effects, correlations, and the financial feasibility of adopting alternatives.

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