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What Is Cost Accounting? Definition, Concept, and Types

By The Investopedia Team Updated February 09, 2025

Reviewed by David Kindness

Fact checked by Ryan Eichler

An accountant hand using a calculator.

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What Is Cost Accounting?

Cost accounting is a process that involves recording, analyzing, and reporting a company's expenses in
detail. Unlike financial accounting, cost accounting is an internal process used only by company
management to identify ways to improve the efficiency of their operations and reduce spending where
possible.

Cost accounting clarifies where a company is spending its money and where money is being wasted or
lost.

Key Takeaways

Cost accounting is the reporting and analysis of a company's cost structure.

Cost accounting involves assigning costs to all of the company's business activities.

The results can help management streamline the business and boost its profitability.

Understanding Cost Accounting

The scope of cost accounting is broader than a mere list of expenses. It is an analysis of the various types
of costs a company incurs.
Cost accounting has elements of traditional bookkeeping, system development, creating measurable
information, and input analysis. For many firms, cost accounting helps create and measure business
strategy in a more organic way.

Having a clear idea of the costs associated with running a business makes it easier for management to
devise ways to maximize productivity and profitability. Entrepreneurs and business managers rely on
actionable information before making allocation decisions. Cost accounting buoys decision-making
because it can be tailored to the specific needs of the company.

Fast Fact

Modern methods of cost accounting emerged in the manufacturing industries in the early days of the
Industrial Revolution, though its advantages helped it spread to other types of business.

How Cost Accounting Is Used

Cost accounting can be applied to many areas of a business. Here are some examples of how it is used.

Cost Controls

Cost accounting informs decisions on cost controls. Companies want to be able to spend less on their
inputs and charge more for their outputs. Cost accounting can identify inefficiencies that can be
resolved.

Cost controls can include budgetary controls, standard costing, and inventory management.

Internal Costs

Cost accounting can help with internal expenses such as the cost of transferring goods between a
company's divisions and subsidiaries.
For example, a parent company overseas might be the supplier for its U.S. subsidiary, meaning the U.S.
company would be charged by the parent for any purchases of materials.

Expansion Plans

Companies looking to expand their product line need to first understand their current cost structure.
Cost accounting helps management plan for future capital expenditures, which are large investments in
plants and equipment.

Preparing Financial Statements

Cost accounting contributes to the preparation of the financial statements required of public companies.
The prices and information developed and analyzed through cost accounting can make it easier to
gather the information needed for financial accounting purposes.

For example, raw material costs and inventory prices are shared between both accounting methods.

Types of Costs in Cost Accounting

Costs are assigned to one of a number of standard categories.

Direct Costs

A direct cost is attributable to a product's production. This typically includes raw materials, labor, and
distribution costs. Inventory and factory employee wages are examples.

Indirect Costs

Indirect costs cannot be solely attributed to the production of a single product. The electricity cost for a
factory is an example.

Variable Costs
Costs that increase or decrease with the volume of production tend to be classified as variable costs. A
company that manufactures cars or toys has materials costs that vary with the season and consumer
demand.

Fixed Costs

Fixed costs don't fluctuate with sales and production volumes. A factory building or equipment lease
would be classified as a fixed cost.

Operating Costs

Operating costs are the costs to run the company from day to day. Operating costs—or operating
expenses—are not directly associated with the manufactured product and can be fixed or variable.
Office staff is an example.

Cost Accounting vs. Financial Accounting

Financial and cost accounting systems have different target audiences. Financial accounting is prepared
for the company's shareholders, lenders, and regulators. It is a public report, compiled quarterly and
annually, detailing the company's income, outflow, assets, and debts.

Cost accounting is a report prepared for the company managers responsible for making critical business
decisions.

Unlike financial accounting for publicly traded firms, there is no legal requirement for cost accounting.

Important

Financial accounting is required and regulated by the Securities and Exchange Commission for all public
companies. Cost accounting is an internal process.

What Are the Advantages of Cost Accounting?

How Has Modern Technology Affected Cost Accounting?

The development of information technology has eased the process of cost accounting and speeded it up.
Accountants now use sophisticated data analytics tools. They can track vast amounts of data in real time.
That means adjustments can be made quickly.

What Are the 4 Types of Cost Accounting?

There are at least 4 types of cost accounting. They include:

Standard cost accounting

Activity-based cost accounting

Marginal cost accounting

Lean accounting

The Bottom Line

Keeping on top of costs is essential for businesses. The objective is to maximize profitability, and
achieving that goal depends largely on managing costs.

That’s essentially what cost accounting is designed to do. It helps managers and employees keep track of
the costs associated with running the business, which is information that makes it easier to boost
efficiency and profitability.

Article Sources

Read more

Business
Corporate Finance

Accounting

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