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Evolution of Cost Accounting – Introduction to Cost Accounting | Management Notes

Evolution of Cost Accounting

Cost accounting seeks to establish the costs of each product produced or service provided by an organization through systematic recording and analysis of expenses. By knowing the costs of each product or service, the company’s management will be able to reduce costs, fix prices, and maximize profits.

Accounting has existed since the dawn of civilization. The process by which economic information is identified, measured, recorded, and communicated in terms of money. The utility of accounting information resides in its ability to reduce uncertainty. Relevant, verifiable, quantifiable and biased information must be presented.

Businesses were traditionally small and market exchanges between individuals and organizations characterized them before the industrial revolution. At that time, there was a need for accurate bookkeeping, but not so much cost accounting.

As a result of the industrial revolution in the 18th century, large industries were formed to perform single activities (e.g. textiles, railways etc.). There were no markets for intermediary products during this time, so cost information became a valuable tool to measure the efficiency of different processes. But the concept of prime cost was used by some industrialists around 1875. Between 1880 AD and 1925 AD, complex product designs emerged and multi-activity diversified corporations such as Du Pont, General Motors, and others rose to prominence.

Science-based management was developed at this time, which led accountants to transform physical standards into cost standards, the latter of which is used for variance analysis and control. The book “Cost Accounting Theory and Practice” was published in New York in 1913 by J.L. Nicholson.

During World War I and II, the growing defense budgets of the United States increased the importance of cost accounting. Many countries resorted to cost-plus contracts to purchase the supplies needed for war in the absence of competitive markets, under which the government would pay the price of production plus profit. After World War II, the parties to defence contracts continued to rely on cost information. The government continues to use a cost-plus method when awarding contracts.

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