COST AND MANAGEMENT ACCOUNTING

Module 1: Costing Principles

Objectives:

1. Define Management Accounting, Cost Accounting, Cost and Management

Accounting and Financial Accounting

2. Explain the purposes of Cost and Management Accounting

3. Understand the similarities and differences between Financial Accounting and

Cost and Management Accounting
Define the types of Accounting
The origins of Cost and Management Accounting
How businesses determine their prices? How would a change in price affect a
new customer? How do managers know if they using resources efficiently?
Managers need information to answer these questions, make decisions and plan
ahead; and a good managerial system will therefore help them in doing so.
Financial accounting has been in existence since the 15 th century and was first
exposed to the world by Luca Paciolli, an Italian renaissance Mathematician,
known as the “Father of Accounting” who described the double-entry accounting
method.
Conversely, Cost and Management accounting is more recent, historically
speaking, which came into existence in the 19 th century in the time of the
Industrial Revolution. The emergence of large factories was the main reason that
gave rise to a greater need of a different kind of accounting; because owners
needed to assess and gain more efficiency in production, in terms of, materials,
labor and other costs incurred in the production process.
Cost and Management accounting assists managers in determining the unit cost
of producing output, a more accurate measure to assign to Inventory and other
valuable metrics used in accounting today.

Management Accounting
Management accounting, also called Managerial accounting, is a field of accounting that
provides financial and non-financial information to managers and other internal users of
a company to determine how resources should be obtained and used. Management
accounting applies to all types of businesses including manufacturing, merchandising
and service-oriented. It also applies to all forms of businesses, for example, sole
proprietor, partnerships or corporations.

Cost Accounting
Cost accounting involves collecting, measuring, recording, reporting and interpreting a
company's total cost of producing a product or providing a service by assessing the
variable costs, as well as the fixed costs. Costing analyses inefficiencies, wastage of
materials, losses from breakdowns and evaluates actual costs against
estimated/budgeted costs. This allows businesses to identify and reduce unnecessary
spending and maximize profits.
 Cost and Management Accounting
Based on the definitions above, Cost and Management accounting is therefore a
combination of Cost accounting and Management accounting. It is more detailed,
management-biased and future oriented to provide information to help managers make
decisions about formulating overall strategies and long-term plans, resource allocation,
cost planning and control and performance measurement and evaluation.

Financial Accounting
Financial accounting communicates the true and fair presentation of the performance
and position of a firm’s economic activities, to external parties such as investors and
creditors. The information reported describes what a business entity or individual (sole
trader) owns, owes and transactions they are involved in (nature of business activity –
sales and expenses). The reports follow established accounting guidelines, standards
and principles (International Financial Reporting Standards (IFRS)).

The purposes of Cost and Management Accounting

Cost and Management accounting is adopted by management for the following
purposes:
1. Planning – creating budgets for each segment of the company thereby setting a
plan and estimating costs for the year of operation.

2. Decision making – for example, determining unit costs to decide on what the
selling price should be, deciding whether to produce or buy a particular item of
Inventory or deciding whether to accept or reject certain offers/special orders
from customers.

3. Directing and Motivating – using the process of cost allocation to each

segment/department of the company to encourage managers and other
employees to be more efficient in their operations.

4. Controlling operations – using variance analysis for controlling costs by

comparing budgets against actual results and identify reasons for any
favorable/unfavorable differences and provide recommendations for the future.

5. Performance Evaluation – the Income Statement shows the performance of the

company as a whole, however, owners would want to assess the performance of
each of their line/department/segment managers to evaluate if they are achieving
their responsibilities of their respective sections in an efficient and effective
manner. They may also compare managers to each other. Whichever evaluation
tool or metric is used is at the discretion of the owners/management.
Cost and Management accounting vs Financial Accounting
Although the emphasis is different, both Cost and Management accounting and
Financial accounting are similar in some aspects:
1. They both measure, record and report the economic events or business
transactions of a company. For example, determining the unit cost of
manufacturing a product is part of Cost and Management accounting, similarly,
determining the total cost of goods manufactured and sold is part of Financial
accounting. They may both use the same source documents.

2. They both require accounting information for performance evaluation. For

example, Cost and Management accounting uses information to assess product
pricing, inventory valuations, plant and machinery, similarly, Financial accounting
uses information to assist investors and creditors in evaluating the financial
strength and performance of the company.

3. Most of the elements of the financial statements relate to both fields of

accounting, therefore, although there is no requirement to follow IFRS in Cost
and Management accounting, many of the same accounting principles and
guidelines are used to ensure that the information reported to management is
accurate, relevant, timely and understandable.

Cost and Management Accounting and Financial Accounting have differences, as

identified below:

Differences Cost and Management Accounting Financial Accounting

Users of reports Internal (Management) External (investors, creditors)

Purpose (use) of Special-purpose to assist management General purpose to report the

reports in planning, performance evaluation performance and position of the
and decision making company

Type of reports Internal reports based on General purpose financial

management’s requirements e.g. Cost statements
analysis or budgets
Frequency of reporting Varies with purpose; can be monthly or Prepared periodically; quarterly or
weekly annually
Reporting standards Flexible; no constraining factors Rigid; in accordance with
on the information International Financial Reporting
presented Standards (IFRS)
Requirement of Not required; managers have freedom Mandatory; firms are required to
reports of choice whether to prepare a report periodically prepare and present
financial statements for users
Content of the - Monetary and non-monetary - Mostly monetary
information - Very detailed - Highly aggregated (condensed)
- Extends beyond double-entry - Limited to double-entry
- Can relate to the entire company but - Relates to entire company only
more focus is on a - Past-oriented - Financial
segment/department statements report historical data
- Future-oriented - Managers use both (past transactions) of the accounting
historical data and other information to period (last year/quarter)
predict future outcomes of either the
entire company or a
segment/department
Verification process No independent audit Independently audited by an
external auditor