cost accounting methods

cost accounting methods

Optimizing Cost Accounting Methods for Improved Financial Decision-Making

1. Introduction to Cost Accounting

Because cost accounting is a decision-making tool, most of the significant changes in the techniques of cost accounting have been oriented toward providing more relevant and useful cost information to managers. Consider a few examples: in the early 1900s, one of the important research efforts was in the area of providing better production planning and control information; in the middle and late 1900s, with automation and increased global competition in large manufacturing cycle industries, significant efforts were again spent refining the cost awareness of non-accountants through cost-simulation models and improving the information-processing capabilities of the cost accountant; since the late 1980s and early 1990s, the majority of research in the area of cost accounting has been toward advance (business process improvements, quality improvement, and activity-based management).

The purpose of cost accounting is to trace the costs of producing a particular product or providing a specific service, or of the cost components (usually raw materials, labor, and manufacturing overhead) involved in the process or processes of producing some product or service. The results of cost accounting are usually formally published in the form of financial accounting statements. These financial statements are often used both to evaluate the performance of management in using its resources and in assuring owners interested in the enterprise, such as shareholders, lenders, employees, bondholders, and unions, that the resources are being utilized efficiently. Essentially, then, cost accounting provides information about the costs of products to aid managers in making decisions.

2. Traditional Costing Methods vs. Activity-Based Costing

From the early days of accounting to the present, accounting has primarily centered on collecting, recording, compiling, verifying, maintaining, and preparing financial reports. As a result, the primary users of financial information such as stockholders, bankers, creditors, legislators, and others are ill-served. They search for ways for accountants to assist in their decision-making activities such as product-line discontinuation, product costing, capital investment decisions, and pricing dilemmas. Using traditional costing methods can lead to incompatible and incoherent financial decisions. This has created a major shift toward the use of sophisticated and modern cost accounting methods.

Inactivity-based costing (simply referred to as activity-based costing) is a newer and more sophisticated costing method that builds on the strengths of traditional costing methods. As products and services become more complex, increasingly diverse, and often demanding unique characteristics, the direct and indirect costs associated with the overhead item are determined as accurately as possible. To accomplish this, accountants use activity-based costing to allocate the indirect costs to cost objects (products and services). Activity-based costing refines a costing system by identifying multiple cost drivers and finding the rate at which each activity costs are driven. This means more indirect costs are moved from the overhead pool of costs to the many activities occurring within an organization and, ultimately, assigned to cost objects.

3. Implementing and Utilizing Technology in Cost Accounting

The availability of third-party software modules and other third-party add-on hardware devices has promoted this industry as much as an increasing inevitable implementation of the Y2K issue. The price of CPUs and other data processing equipment has come down to an affordable level for the average growing business, and the associated software packages have been developed to the point where any average person can learn to utilize their full potential. The systems that are now in use and available are capable of giving instant availability to all enterprises of the management and cost accounting reports.

Cost accounting technologies are very advanced and have become an essential tool for businesses and accounting firms specializing in cost accounting matters. While there are many cost accounting software applications available to professionals, many growing, smaller, or mid-sized businesses have found that available accounting software packages provide all the detail if they utilize the software to its fullest capacity. It is worth noting that capturing and tracking this level of cost data must be reasonable in relation to its cost. The general tendency to capture more and more cost data must be assessed against the cost/benefit of having that detail available.

4. Cost Accounting for Decision-Making: Case Studies and Best Practices

Many cost accounting experts suggest that standard costs should not be used as a tool for management information, but only for inventory piloting. The main assertions displayed by these experts are that beyond a period of fiscal years, there are no direct labor costs and that overhead costs are calculated by gestalt. They underline the limitation of this method by these two assertions, for them to apply the method only to products progressively transformed with a direct cost being a significant stake, to promote the enterprise’s interest in the use of modern costs, and to find a simple method and clear calculation for the variable overheads and standard hours.

The publication advantages of standard cost systems and modern costing techniques for management, developed in this chapter, are analyzed using a restructuring experience at a division of Groupe Bull in France, a successful best practice model at Hitachi in Japan, and a theoretical model. Contrary to the conclusion of most prior research, evidence is provided that standard cost systems have utility in supporting efforts of top management to define and pursue a clear strategy. The most significant difficulties encountered when implementing standard cost indicators refer to problems of data collection and calculation of direct labor variance, which is precisely one of the most significant limitations of standard cost systems.