Definition of cost accounting
a discipline that focuses on techniques or
methods for determining the cost of a project, process, or
thing through direct measurement, arbitrary assignment, or
systematic and rational allocation
a body established by Congress in 1970 to promulgate cost accounting
standards for defense contractors and federal agencies; disbanded
in 1980 and reestablished in 1988; it previously issued
pronouncements still carry the weight of law for those
organizations within its jurisdiction
a streamlined cost accounting method that speeds up, simplifies, and reduces accounting effort in an environment that minimizes inventory balances, requires
few allocations, uses standard costs, and has minimal variances
see cost accounting Standards Board
a discipline that includes almost
all manipulations of financial information for use by managers
in performing their organizational functions and in
assuring the proper use and handling of an entity’s resources;
it includes the discipline of cost accounting
A method of costing in which all fixed and variable production costs are charged to products or services using an allocation base.
a cost accumulation and reporting
method that treats the costs of all manufacturing components
(direct material, direct labor, variable overhead, and
fixed overhead) as inventoriable or product costs; it is the
traditional approach to product costing; it must be used for
external financial statements and tax returns
A methodology under which all manufacturing costs are assigned
to products, while all non-manufacturing costs are expensed in the current period.
Schedule of depreciation rates allowed for tax purposes.
A collection of systems and processes used to record, report and interpret business transactions.
A broad, all-inclusive term that refers to the methods and procedures
of financial record keeping by a business (or any entity); it also
refers to the main functions and purposes of record keeping, which are
to assist in the operations of the entity, to provide necessary information
to managers for making decisions and exercising control, to measure
profit, to comply with income and other tax laws, and to prepare financial
Administrative proceedings or litigation releases that entail an accounting or auditing-related violation of the securities laws.
An alteration in the accounting methodology or estimates used in
the reporting of financial statements, usually requiring discussion in a footnote
attached to the financial statements.
Earnings of a firm as reported on its income statement.
A business for which a separate set of accounting records is being
The representation of the double-entry system of accounting such that assets are equal to liabilities plus capital.
The formula Assets = Liabilities + Equity.
An equation that reflects the two-sided nature of a
business entity, assets on the one side and the sources of assets on the
other side (assets = liabilities + owners’ equity). The assets of a business
entity are subject to two types of claims that arise from its two basic
sources of capital—liabilities and owners’ equity. The accounting equation
is the foundation for double-entry bookkeeping, which uses a
scheme for recording changes in these basic types of accounts as either
debits or credits such that the total of accounts with debit balances
equals the total of accounts with credit balances. The accounting equation
also serves as the framework for the statement of financial condition,
or balance sheet, which is one of the three fundamental financial
statements reported by a business.
Unintentional mistakes in financial statements. Accounted for by restating
the prior-year financial statements that are in error.
The change in the value of a firm's foreign currency denominated accounts due to a
change in exchange rates.
Total liabilities exceed total assets. A firm with a negative net worth is insolvent on
Intentional misstatements or omissions of amounts or disclosures in
financial statements done to deceive financial statement users. The term is used interchangeably with fraudulent financial reporting.
The ease and quickness with which assets can be converted to cash.
The period of time for which financial statements are produced – see also financial year.
The principles, bases, conventions, rules and procedures adopted by management in preparing and presenting financial statements.
Accounting rate of return (ARR)
A method of investment appraisal that measures
the profit generated as a percentage of the
investment – see return on investment.
accounting rate of return (ARR)
the rate of earnings obtained on the average capital investment over the life of a capital project; computed as average annual profits divided by average investment; not based on cash flow
A set of accounts that summarize the transactions of a business that have been recorded on source documents.
The recording of revenue when earned and expenses when
incurred, irrespective of the dates on which the associated cash flows occur.
Well, frankly, accrual is not a good descriptive
term. Perhaps the best way to begin is to mention that accrual-basis
accounting is much more than cash-basis accounting. Recording only the
cash receipts and cash disbursement of a business would be grossly
inadequate. A business has many assets other than cash, as well as
many liabilities, that must be recorded. Measuring profit for a period as
the difference between cash inflows from sales and cash outflows for
expenses would be wrong, and in fact is not allowed for most businesses
by the income tax law. For management, income tax, and financial
reporting purposes, a business needs a comprehensive record-keeping
system—one that recognizes, records, and reports all the assets and liabilities
of a business. This all-inclusive scope of financial record keeping
is referred to as accrual-basis accounting. Accrual-basis accounting
records sales revenue when sales are made (though cash is received
before or after the sales) and records expenses when costs are incurred
(though cash is paid before or after expenses are recorded). Established
financial reporting standards require that profit for a period
must be recorded using accrual-basis accounting methods. Also, these
authoritative standards require that in reporting its financial condition a
business must use accrual-basis accounting.
A method of accounting in which profit is calculated as the difference between income when it is earned and expenses when they are incurred.
A method of costing that uses cost pools to accumulate the cost of significant business activities and then assigns the costs from the cost pools to products or services based on cost drivers.
activity based costing (ABC)
A relatively new method advocated for the
allocation of indirect costs. The key idea is to classify indirect costs,
many of which are fixed in amount for a period of time, into separate
activities and to develop a measure for each activity called a cost driver.
The products or other functions in the business that benefit from the
activity are allocated shares of the total indirect cost for the period based
on their usage as measured by the cost driver.
activity-based costing (ABC)
a process using multiple cost drivers to predict and allocate costs to products and services;
an accounting system collecting financial and operational
data on the basis of the underlying nature and extent
of business activities; an accounting information and
costing system that identifies the various activities performed
in an organization, collects costs on the basis of
the underlying nature and extent of those activities, and
assigns costs to products and services based on consumption
of those activities by the products and services
Activity-based costing (ABC)
A cost allocation system that compiles costs and assigns
them to activities based on relevant activity drivers. The cost of these activities can
then be charged to products or customers to arrive at a much more relevant allocation
of costs than was previously the case.
The actual expenditure made to acquire an asset, which includes the supplierinvoiced
expense, plus the costs to deliver and set up the asset.
actual cost system
a valuation method that uses actual direct
material, direct labor, and overhead charges in determining
the cost of Work in Process Inventory
Agency cost view
The argument that specifies that the various agency costs create a complex environment in
which total agency costs are at a minimum with some, but less than 100%, debt financing.
The incremental costs of having an agent make decisions for a principal.
A forceful and intentional choice and application of accounting principles
done in an effort to achieve desired results, typically higher current earnings, whether the practices followed are in accordance with generally accepted accounting principles or not. Aggressive
accounting practices are not alleged to be fraudulent until an administrative, civil, or criminal proceeding takes that step and alleges, in particular, that an intentional, material misstatement
has taken place in an effort to deceive financial statement readers.
Aggressive Cost Capitalization
cost capitalization that stretches the flexibility within generally
accepted accounting principles beyond its intended limits, resulting in reporting as assets
items that more reasonably should have been expensed. The purpose of this activity is likely to
alter financial results and financial position in order to create a potentially misleading impression
of a firm's business performance or financial position.
Total costs, explicit and implicit.
cost of a security adjusted for the amortization of any purchase premium or
a quality control cost incurred for monitoring
or inspection; compensates for mistakes not eliminated
through prevention activities
attribute-based costing (ABC II)
an extension of activitybased costing using cost-benefit analysis (based on increased customer utility) to choose the product attribute
enhancements that the company wants to integrate into a product
Average accounting return
The average project earnings after taxes and depreciation divided by the average
book value of the investment during its life.
Average-Cost Inventory Method
The inventory cost-flow assumption that assigns the average
cost of beginning inventory and inventory purchases during a period to cost of goods sold and
Average cost of capital
A firm's required payout to the bondholders and to the stockholders expressed as a
percentage of capital contributed to the firm. Average cost of capital is computed by dividing the total
required cost of capital by the total amount of contributed capital.
costs that are identifiable with and able to be influenced by decisions made at the business
unit (e.g. division) level.
Bankruptcy cost view
The argument that expected indirect and direct bankruptcy costs offset the other
benefits from leverage so that the optimal amount of leverage is less than 100% debt finaning.
A cost that is incurred when a group of products or services are produced,
and which cannot be identified to specific products or services within each group.
a cost that is caused by a group of things
being made, handled, or processed at a single time
a planned expenditure
Capital Cost Allowance (CCA)
The annual depreciation expense allowed by the Canadian Income Tax Act.
capitalization of costs
When a cost is recorded originally as an increase
to an asset account, it is said to be capitalized. This means that the outlay
is treated as a capital expenditure, which becomes part of the total
cost basis of the asset. The alternative is to record the cost as an expense
immediately in the period the cost is incurred. Capitalized costs refer
mainly to costs that are recorded in the long-term operating assets of a
business, such as buildings, machines, equipment, tools, and so on.
Capitalized Cost An expenditure or accrual that is reported as an asset to be amortized against
costs that increase with increases in the level of investment in current assets.
the total variable cost of carrying one unit of
inventory in stock for one year; includes the opportunity
cost of the capital invested in inventory
The cost of holding inventory, which can include insurance,
spoilage, rent, and other expenses.
costs of maintaining current assets, including opportunity cost of capital.
A method of accounting in which profit is calculated as the difference between income
when it is received and expenses when they are paid.
The amount of cash expended.
Change in Accounting Estimate
A change in accounting that occurs as the result of new information
or as additional experience is acquired—for example, a change in the residual values
or useful lives of fixed assets. A change in accounting estimate is accounted for prospectively,
over the current and future accounting periods affected by the change.
Change in Accounting Estimate
A change in the implementation of an existing accounting
policy. A common example would be extending the useful life or changing the expected residual
value of a fixed asset. Another would be making any necessary adjustments to allowances for
uncollectible accounts, warranty obligations, and reserves for inventory obsolescense.
Change in Accounting Principle
A change from one generally accepted accounting principle to another generally accepted accounting principle—for example, a change from capitalizing expenditures
to expensing them. A change in accounting principle is accounted for in most instances
as a cumulative-effect–type adjustment.
a cost related either to the long-term investment
in plant and equipment of a business or to the
organizational personnel whom top management deem
permanent; a cost that cannot be changed without longrun
detriment to the organization
company cost of capital
Expected rate of return demanded by investors in a company, determined by the average risk of the company’s assets and operations.
Constant dollar accounting
A method for restating financial statements by reducing or
increasing reported revenues and expenses by changes in the consumer price index,
thereby achieving greater comparability between accounting periods.
Method of accounting for sales or service agreements where completion
requires an extended period.
a cost over which a manager has the ability to authorize incurrence or directly influence magnitude
Refers to the sum of manufacturing direct labor and overhead
costs of products. The cost of raw materials used to make products
is not included in this concept. Generally speaking, this is a rough measure
of the value added by the manufacturing process.
the total of direct labor and overhead cost;
the cost necessary to transform direct material into a finished good or service
A resource sacrificed or forgone to achieve a specific objective (Horngren et al.), defined
typically in monetary terms.
the cash or cash equivalent value necessary to attain an
objective such as acquiring goods and services, complying
with a contract, performing a function, or producing and
distributing a product
The expense incurred to create and sell a product or service. If a product is not
sold, then it is recorded as an asset, whereas the sale of a product or service will
result in the recording of all related costs as an expense.
the approach to product costing that determines
which manufacturing costs are recorded as part
of product cost
the assignment, using some reasonable basis,
of any indirect cost to one or more cost objects
the practice of finding acceptable alternatives
to high-cost items and/or not spending money for
unnecessary goods or services
An asset’s purchase price, plus costs associated with the purchase, like installation fees, taxes, etc.
The idea that fixed costs and variable costs react differently to changes in the volume of
The calculation and comparison of the costs and benefits of a policy or project.
cost-benefit analysis the analytical process of comparing the
relative costs and benefits that result from a specific course
of action (such as providing information or investing in a
The net present value of an investment divided by the investment's initial cost. Also called
the profitability index.
a responsibility center in which the manager has
the authority to incur costs and is evaluated on the basis
of how well costs are controlled
A division or unit of an organization that is responsible for controlling costs.
Cost company arrangement
Arrangement whereby the shareholders of a project receive output free of
charge but agree to pay all operating and financing charges of the project.
a company-wide attitude about the topics
of cost understanding, cost containment, cost avoidance,
and cost reduction
the practice of minimizing, to the extent
possible, period-by-period increases in per-unit variable
and total fixed costs
The process of either reducing costs while maintaining the same level of productivity or maintaining costs while increasing productivity.
cost control system
a logical structure of formal and/or informal
activities designed to analyze and evaluate how well
expenditures are managed during a period
A method of expensing the cost of a resource consumed by first determining
the total investment in the resource (such as the procurement of a coal mine),
then determining the total amount of extractable resource (such as tons of available
coal), and then assigning costs to each consumed unit of the resource, based on the
proportion of the total available amount that has been used.
The most significant cause of the cost of an activity, a measure of the demand for an activity
by each product/service enabling the cost of activities to be assigned from cost pools to products/services.
a factor that has a direct cause-effect relationship
to a cost; an activity creating a cost
A factor that directly impacts the incidence of a cost, and which is generally
based on varying levels of activity.
cost driver analysis
the process of investigating, quantifying,
and explaining the relationships of cost drivers and
their related costs
cost leadership strategy
a plan to achieve the position in a
competitive environment of being the low cost producer of
a product or provider of a service; it provides one method
of avoiding competition
cost management system (CMS)
a set of formal methods
developed for planning and controlling an organization’s
cost-generating activities relative to its goals and objectives
cost object anything to which costs attach or are related
Anything for which a measurement of cost is required – inputs, processes, outputs or responsibility centres.
An item for which a cost is compiled. For example, this can be a product,
a service, a project, a customer, or an activity.
Cost of capital
The required return for a capital budgeting project.
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