Cost Accounting and Cost Control

Cost accounting is a process of recording, analyzing and reporting all of a company’s

costs (both variable and fixed) related to the production of a product. This is so that a
company’s management can make better financial decisions, introduce efficiencies
and budget accurately. The objective of cost accounting is to improve the business’s
net profit margins (how much profit each dollar of sales generates).

What Is the Purpose of Cost Accounting?

Cost accounting allows for the following:

Cost Accounting Allows a Company to Budget

When a business has a better idea of exactly how its money is being spent, it can
better budget for the future. A company’s accountant is typically already aware of the
business’s fixed costs (utilities, rent, property taxes, etc.), but it’s variable costs (such
as labor and raw materials) change with output. Those costs need to be tracked and
estimated for, for the creation of the next budget. As well, the business will want to
know that the money being spent now is being done in ways that help maximize the
company’s profit.

Cost Accounting Allows a Company to Be More Efficient

Typically, an examination of a company’s processes will result in ways to improve

them. For instance, maybe a company will discover it doesn’t need a ten-hour shift on
a particular machine to produce a product, maybe eight hours will do. Or that
assigning three people to a production line has proven too much, as only two are
needed.

Cost Accounting Can Mean More Profit

If a company makes its production processes more efficient, meaning it is producing

the same output for less, than it will make more money.

What Are the Two Basics Types of Costs?

There are two basic types of costs:

Variable Costs
These are costs directly related to the production of a product, such as material and
labor costs. Often these types of costs fluctuate.

Fixed Costs

These are costs not directly related to production, but needed for production to
happen, like utilities and rent charges for a production facility. Often these types of
prices do not fluctuate, or if they do, they’re not by much.

What Is the Cost Accounting System?

Cost Accounting systems let a company know how much money it takes to produce
something. They are two types:

Job Order Costing

Job order costing organizes costs by each job. Job order costing is good for
companies with unique products. For instance, take a furniture company that produces
10 different types of chairs. By distinguishing between their production costs, the
company can know which chairs bring in more profit.

Process Costing

Process costing assigns costs based on a ‘process’. A cola bottling plant may use
process costing because all the bottles (or products) are indistinguishable from one
another.

What Are the Types of Cost Accounting?

There are many different types of cost accounting:

Standard Cost Accounting

Standard cost accounting is a very old method of accounting, popular in the

manufacturing industry. Rather than resource costs, manufacturers assign an
“expected” or “standard” cost. The problem with this method, is that although it can
save some time when it comes to budgeting, businesses will still have to pay the
actual costs eventually. The variances could be significant.
Activity-Based Costing

Also known as “ABC”, this is a very popular costing method. ABC takes into
account all activities required to manufacture a product, and assigns a value to them.
For instance, two products may have the exact same ‘machine time’ to produce
something. But the set up or testing times for one of the products may be significantly
longer.

ABC is a very popular method because it can:

 Help to determine which products are not profitable (because every cost
associated with it has been identified).
 Determine whether a product’s price is too high, related to the market, and
whether the company can afford to lower it.
 Provide information to help eliminate inefficiencies by reorganizing
production.

Environmental Accounting

Environmental accounting refers to the impact cost of a company’s product on the

environment. Costs associated with environmental accounting include:

 Penalties, fines and taxes

 Prevention technologies
 Waste management costs
 Management and handling of contaminated sites
 Pollution prevention technology
 Clean-up costs

Environmental accounting is important because the extra costs associated with the
production of a product, outside of manufacturing it, may make management decide
that a product is just too expensive to keep producing.

Project Accounting

Project accounting is assessing costs related to an individual project. A project

accounting report is typically run during a project’s execution, to update management
on whether the project is on track. Project accounting reports should include all
revenues, costs, assets and liabilities associated with each project.

Target Costing
Target costing is when a company knows in advance what it wants to pay for a
product’s production (perhaps because of very competitive market conditions). The
“target” cost is the most the company is willing to pay. Target costing helps a
company achieve consistent profitability.

Life Cycle Costing

Life cycle costing is the total cost of product ownership from inception to completion.
For instance, perhaps in order to produce a new product, a company needs to buy a
$600 machine. But how much is the financing, maintenance and disposal of that
machine going to add to the $600? What about the environmental costs (as listed
above)? As you can see, life cycle costing helps a company to get a complete picture
of all of a product’s related costs.

Throughput Accounting

o Throughput accounting is a relatively new and simplified form of

accounting. It is designed to identify the factors that prevent a business
from reaching its goals. What’s different about throughput is that it
does not concentrate on reducing expenses, it focuses on constraints,
regardless of whether they are internal or external.