The Importance of Cost Accounting in Business

Multiple operations are going on in any business activity, and it is very much important for the business owner to have a good idea of the cost that each of the activities requires, otherwise, there are chances that the cost incurred in a specific business activity becomes more than the income that the same activity manages to generate. Therefore, to take care of all such things, it is important to have good management of cost accounting. And hence, Cost accounting is one of the significant parts of Managerial Accounting.

So, for the students of Commerce, it is just as important to learn and master the subject of Cost Accounting, like that of Financial Accounting. But before Mastering any of the topics it is important for the students, the value of the subject, in this case, Cost Accounting, adds not only to their own life but in the various operations of the business. In simple terms, it means that the students must learn about the importance of Cost Accounting. Hence, Vedantu explains the importance of cost accounting in a simple and accessible language.

What is Cost Accounting?

Cost accounting is the version of Managerial Accounting, this aims to capture the company's total cost of production. The same is done by assessing the variable costs at each step of production as well as the fixed costs as assessed such as the expense.

The main point in this regard is that - 

• Cost accounting is used internally by the management to make a fully assured business decision.

• Unlike financial accounting, which provides information to external financial statement users, cost accounting is not required to conform to any set standards which can be flexible to meet the needs of the management.

• Cost accounting considers all kinds of input costs that are associated with production, including both variable and fixed costs.

• Types of cost accounting include standard costing, activity-based costing, and marginal costing.

A Brief Overview of Cost Accounting

Many believe that the concept of cost accounting was developed during the era of the industrial revolution because due to the new global demand and supply of the product it became inevitable for the business owners to monitor their fixed and variable costs and manage their manufacturing process. Cost Accounting is a form of managerial accounting that tries to encapsulate the total cost of production in the business, and it does it by measuring the Variable costs of each phase of production and by measuring the fixed costs, for example, lease expense etc.

The basic forms of cost, included in the cost accounting are Fixed Costs, Operating Costs, Direct Costs, Variable costs, Indirect Costs.

Types of Cost Accounting

There are various types of Cost Accounting:

1. Standard Costing

Standard costing assigns ‘standards’ to the costs. The standard costs are grounded to the labour and materials to produce the goods and services under standard operating conditions. 

2. Activity-Based Costing

Activity-Based Costing identifies the overhead costs from each department and then assigns specific cost objects like goods or services. The ABC system of cost accounting is based on these activities.

3. Marginal Costing

Marginal costing is also known as the cost volume profit analysis is the impact where the cost of a product is added to one additional unit into the production unit. This type of costing is useful for short-term economic decisions. 

All these types of costs help the management in identifying the impact of cost in the business unit. This type of analysis is used by the management to gain analysis into them potentially to produce profitable products.

Importance of Cost Accounting

The importance of cost accounting is very much useful to the management of an organization, the importance of Cost Accounting is discussed in the following section vividly:

• Classification of Costs

Cost is a generic term that needs to be classified for further use. Cost Accounting involves the recording and classification of all such costs. Costs involve the prime cost, direct cost, factory cost, selling cost and more other costs. Classification allows the management of the costs and to ascertain the profitability of any such processes and further activities. This also helps in calculating the efficiency.

• Cost Control

This is efficient for the business to focus on controlling the cost of the inventory, labour, and various other kind overhead costs. For example, to achieve maximum efficiency in their inventory management they can adopt the EOQ technique which is the costing technique. Similarly, by analysing the costs of labour and the capacity of machinery their efficiency can be improved also. Cost accounting classifies the overheads into fixed and variable.

• Price Determination

Cost accounting makes the basic distinction between fixed and variable costs. This is then used by the company or the business unit to fix the prices of the products, according to their costs of the product. The management here finds the most ideal price for the product or the service, which is not too high and not too low. For example, where the economy suffers a depression period.

The businessman lowers the prices of his products to survive the depression circumstances in the economy. He can start this by trying to control the variable costs and to allow him to fix the product’s prices.

• Fixing of the Standards

The organizations use the standards to make the estimates and the budgets for their future. They use this as the basis to measure the actual efficiency of the process or about the department.

This is an entire branch of cost accounting which is known as Standard Costing dedicated priorly to this process.

Advantages of Cost Accounting

• Helps in managing costs: As said earlier, the main idea behind implementing cost accounting into the business is to manage the various types of costs. It also helps the management to have an idea of the cost price and selling price of the product and service.

• Helps determine the total per-unit cost: The business needs to fix the selling price of the product or the service that they provide, beforehand. For doing so, it is important to know the per-unit cost of production. And hence, the techniques of cost accounting help the manager in knowing the total-per unit cost of production.

• Helps in understanding the profitable and non-profitable activities: In any business, many activities are going on at any specific point in time, but the thing is that not all business activities are profitable. Hence, the manager needs to know about all the activities which are not making any profit. And cost accounting helps in identifying all those activities.

• Helps in Fixing the Standards: The business needs to have fixed standards regarding everything. It helps in estimating the budgets for the future. And Cost accounting helps in that there is a whole field of costing dedicated to this called Standard Costing.

An Overview of the Types of Cost Accounting

• Standard Costing: As the name suggests it helps in assigning the standards to the costs. The factors that are to be considered in standard costing are labour and materials.

• Activity-based costing: More often than not it is referred to as ABC, due to its initial. When the company assigns the overhead costs to the specific goods or services, Activity-based costing is used.

• Marginal Costing: to examine the variable costs on the total volume of the production of the output, marginal costing is used. It is beneficial and used quite often in making short-term financial decisions.

If you wish to learn more about cost, costing, and cost accounting then you may follow this link: Cost, Costing and Cost Accounting - Characteristics, Types and Advantages