Cost management is the control of actual or forecasted costs incurred by a business. This is best applied as a formalized process, using some or all of the following steps:
- Collect information about current and projected costs. This typically comes from the general ledger for actual costs, but the information can also be compiled through an activity-based costing system or some less formal collection methodology. Projected costs come from comparisons to similar projects or products, or estimates based on projected bills of material.
- Review the collected information to see if costs can be reduced or avoided entirely. This can include the separation of costs into fixed, variable, and mixed costs, reviewing costs on a trend line, analyzing the impact on bottleneck operations, and comparing costs to those of benchmark companies.
- Reporting the results of the analysis to management, with recommended actions.
- Setting up controls to ensure that changes imposed by management are adhered to in the manner intended.
- Monitoring any changes imposed by management as a result of this analysis, to see how the alterations have modified the cost profile of the business.
If a business is trying to manage costs associated with future activities (such as the design of a new product or the construction of a new headquarters building) then the cost management activities are somewhat different. Any of the following activities could be followed:
- Using target costing to continually estimate costs as features are added to or subtracted from a project (usually a new product).
- Using milestone reviews to compare the costs originally estimated to be incurred to actual costs incurred. These reviews can sometimes result in the outright cancellation of projects.
Cost management can also involve a simple monitoring function, where there is no immediate need to make alterations. In this case, the following approaches to cost management can be followed:
- Using variance analysis to highlight any differences between incurred costs and budgeted costs.
- Using exception analysis to highlight only those variances from budgeted costs that exceed a certain threshold.
- Using trend analysis to note long-term changes in certain costs.
In short, cost management is a broad topic that encompasses a variety of data collection, analysis, reporting, and control activities. Every company wanting to remain profitable over the long term will need to spend a considerable proportion of its time attending to cost management activities.