January 10th, 2018
Importance of Cost Accounting to a Firm
Cost accounting can be used to support many processes in business including reporting, decision making and supportive functions. In reporting cost accounting provides information support to both external and internal reporting processes. For external reporting; cost accounting provides necessary information that ensures the published accounts presented are accurate. Such information includes the value of inventory (closing stock) which factors into accurate presentation of production costs and incase of reporting per section (such as in notes to financial statements) cost accounting provides the information necessary to delineate the profitability level in different segments or product lines. With regard to inventory valuation, cost accounting provides business entities with various ways of assessing the cost such as FIFO, LIFO, and weighted averages which are required to be consistently applied to facilitate comparability of financial reports. Firms are thus required to evaluate the best inventory taking method for their entity a process that can be aided by in-depth understanding of the effect of each method on the production cost – a knowledge that is impacted by cost accounting practices.
In internal reporting the value of cost accounting is emphasized by its non-restriction to “Generally Accepted Accounting Practices” (GAAP). For instance GAAP emphasizes the use of full-absorption costing in preparation of external reports which might not provide useful information in regard to specific internal operations. Through the freedom to choose between a range of methods such as job costing, direct-cost costing, throughput costing and process costing, cost accounting as able to deliver customized reports for various functions and organization levels (Hopper & Armstrong, 1991). These would include corporate level reports (in which a detailed presentation may be avoided since senior management may not have adequate time to go through such details); unit-level reports that must include adequate information for the recipient to comprehend each department’s operation; and operations-level reports which are tuned to the recipient’s requirements. In the latter case examples would be such as the need for customer bad debts information incase the recipient is a sales manager whereas a warehouse manager would be interested in inventory level to inform on restocking level and time. Internal reports could also be for specific projects, comparing the incurred costs to budgeted ones; whereas specific decisions such as make or buy decisions, target pricing, special order decisions, sell or process further, and scarce resource allocation to different processes necessitates an analysis that is provided through cost accounting tools (David & Carol, 1993).
In addition to formal reports, cost accounting is also involved in other simple reports that at times are provided on daily terms. These are exemplified by such records as machine utilization graphs which provide performance trend over a given period. In the long-term these reports can be useful in comparing the activity level in a given period to optimum levels and thus serve as key indicators of resource wastage which further informs on appropriate corrective actions. It is also in the domain of cost accounting to inform the sales and marketing teams of products’ cost to avoid below-costs price level set up. Where the organization is involved in contracts such as cost-plus contracts whose payment is based on a reimbursement of costs incurred plus an allowed profit on such costs; astute use of cost accounting knowledge ensures that an accurate cost of such contracts is presented thus preventing a loss to the organization. Alternatively, cost accounting could serve to inform a reduction in operating costs by tracking overall costs to individual processes thus identifying and eliminating unnecessary costs incurred at any level or by different procedures.
Finally, cost accounting provides important tools for the budgeting process in a firm. A production budget would for instance require estimates of direct costs of materials for the production level required in future periods (Hopper & Armstrong, 1991). Similarly a budget for direct labor requirements to achieve such a level of production would require information on forecasted labor costs that may not be availed by the Human resources department. Such information is well within the realms of cost accounting personnel whose experiences in respect to such costs in the previous years can inform realistic forecasts. In addition to these, cost accounting is also involved in formulating cash budgets for a business plan – an important document that does not only chart the organization future but also invites potential financers for business operations (Hopper & Armstrong, 1991). The diverse areas of a business that cost accounting information is required means that having such functions being effectively executed in a firm would promote the success of the entity.