COST MANAGEMENT TERMINOLOGY

 Cost management is at the heart of the field of management accounting. Thus, the CMA exam places great emphasis. on this area of study.' The candidate will face many questions involving
numerical calculations and others requiring a knowledge of cost terminology and the implications of cost management decisions.

A) Subdisciplines of Accounting

1. Financial accounting is concerned principally with reporting to external users, usually through a set of financial statements produced in. accordance with GAAP. Financial accounting thus has a historical focus.
2. Management accounting is concerned principally with reporting to internal users. The Management accountant's goal is to produce reports that improve organizational decision making. Management accounting is thus future-oriented.
3. Cost accounting supports both financial and management accounting. Information about the cost of resources acquired and consumed by an organization underlies effective reporting for both internal and, external users. 

B) Basic Definitions
 A cost is defined by the IMA in two senses: 

In management accounting, a measurement in monetary terms of the amount of- resources used for some purpose. The term by itself is not operational. It becomes operational when modified by a term that defines the purpose; such as acquisition cost, incremental, cost, or fixed cost.

In financial accounting, THE sacrifice measured by the price paid or required to be paid to acquire  goods or services. The term 'cost' is often used when referring to the valuation of a good or service acquired. When 'cost' is used in this sense, a cost is an asset. When the benefits of the acquisition (the goods or services) expire, the cost becomes an expense or loss.

A cost object is any entity to Which'costs can be attached. Examples are products, processes, employees, departments, and facilities.

A cost driver is the basis used to assign costs to a cost object. It's defined by the IMA as

a measure of activity; such as direct labor hours, machine hours, beds occupied, computer time used, flight hours, miles-driven, or contracts, that is a causal factor in the incurrence of cost to an entity.

The key aspect of a cost driver is the existence of a direct cause-and-effect relationship between the quantity of the driver consumed and the amount of total cost.
 
C) Manufacturing vs. Non-manufacturing
The costs of manufacturing a product can be classified as one of three types:

1. Direct materials are those tangible inputs to the manufacturing process that can practicably be traced to the product, e.g., sheet metal welded together for a piece of heavy equipment.
2. Direct labor is the cost of human labor that can practicably be traced to the product, e.g., the wages of the welder.
3. Manufacturing overhead consists of all costs of manufacturing that are not direct materials or direct labor.such as; Indirect materials, Indirect laborand Factory operating costs.

Manufacturing costs are often grouped into the following classifications:

1. Prime cost = direct materials + direct labor, i.e.; those costs directly attributable to a product.
2. Conversion cost = direct labor + manufacturing overhead, i.e., the costs of converting raw materials into the finished product. 

Operating a manufacturing concern requires the incurrence of non-manufacturing costs:

1. Selling (marketing) expenses are those costs incurred in getting the product from the factory to the consumer, e.g., sales personnel salaries and product transportation.
2. Administrative expenses are those costs incurred by a company not directly related to producing or marketing the product, e.g., executive salaries and depreciation on the headquarters building.

D) Product vs. Period
One of the most important classifications a management accountant can make is whether to capitalize a cost as part of finished goods inventory or to expense it as incurred.

1. Product costs (also called inventoriable costs) are capitalized as part of finished goods inventory. They eventually become a component of cost of goods sold.
2. Period costs are expensed as incurred, i.e., they are not capitalized in finished goods inventory and are thus excluded from cost of goods sold.  

This distinction is crucial because of the required treatment of manufacturing costs for external financial reporting purposes.

1. Under GAAP, all manufacturinq costs (direct materials, direct labor, variable overhead, and fixed overhead) must be treated as product costs, and all selling and administrative (S&A) costs must be treated as period costs.
2. For internal reporting, a more informative accounting treatment is often to capitalize only variable manufacturing costs as product costs, and treat all other costs (variable S&A and the fixed portion of both production and S&A expenses) as period costs.

E) Direct vs. Indirect
Costs can be classified by how they are assigned to cost objects:

1. Direct costs are ones that can be associated with a particular cost object in an economically feasible way, i.e., they can be traced to that object.
2. Indirect costs are ones that cannot be associated with a particular cost object in an economically feasible way and thus must be allocated to that object.
3. Common costs are another notable type of indirect cost. A common cost is one shared by two or more users.