cost and cost classifications.pdf

7/30/2019 Cost and cost classifications.pdf

1/5

I

PART I

INDEX

A. COST . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

B. COST CLASSIFICATIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

B.1. Costs by Management Function . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

B.2. Direct Costs And Indirect Costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

B.3. Product Costs And Period Costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

B.4. Variable Costs, Fixed Costs, And Semivariable Costs . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

B.5. Costs For Planning, Control, And Decision Making . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3

C. CONCLUSION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3

D. REFERENCE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4


2/5

2

A. COST

Cost has different meanings in financial accounting and managarial accounting. In financial

accounting, it is defined as a measurement of the amount of resources used. In managarial accounting,

it is described in many ways since there are different types of costs for different purposes.

B. COST CLASSIFICATIONS

Costs can be classified according to their

1. Management Function

1.1. Manufacturing costs

1.2. Nonmanufacturing costs

2. Ease of traceability

2.1. Direct costs

2.2. Indirect costs

3. Timing of charges against sales revenue

3.1. Product costs

3.2. Period costs

4. Behaviour in accordance with changes in activity

4.1. Variable costs

4.2. Fixed costs

4.3. Semivariable costs

5. Relevance to control and decision making

5.1. Controllable and noncontrollable costs

5.2. Standard costs

5.3. Incremental costs

5.4. Sunk costs

5.5. Opportunity cost

5.6. Relevant costs

(Shim, Siegel, 1998)

B.1. Costs by Management Function

In a manufacturing firm, costs are divided into two in according to their functions, manufacturing

costs and nonmanufacturing costs.

Manufacturing costs are the costs that are related to manufactuing, which are direct materials, direct

labor, and factory overhead. All materials that form the final product are called direct materials. Minor

items used during the production are called indirect materials. Direct labour is the labour that directly


3/5

3

contributed to the production. Labour which does not involve directly in production is called indirect

labour, such as security guards, accountants, supervisors. Lastly, factory overhead is defined as all

costs except direct materials and direct labour. As examples depreciation, rent, taxes, insurance and

cost of idle time can be given.

Nonmanufacturing costs are divided into selling expenses and general and administrative expenses.

Selling expenses are all expenses related to obtaining sales and delivery of the product. Shipping

charges, advertising, sales commision can be given as examples. General and administrative expenses

can be described as money spent in operating business that is not directly related to production, such

as rent, salaries, legal expenses.

B.2. Direct Costs And Indirect Costs

Costs can be categorized in accordance with their traceability. Direct costs are the costs that can be

traced directly to a costing object. Direct materials, direct labour are the examples of direct costs.

Indirect cost is an expense incurred in joint usage and that is why it is difficult to assign to a specific

cost object. For example, expenses of advertising, maintenance, security and supervision are called

indirect costs.

B.3. Product Costs And Period Costs

Costs can be categorized due to being inventoriable. Product costs are inventoriable costs, therefore

until they are sold they are assests. When they are sold, they are accepted as cost of goods sold. All

manufacturing costs are product costs. Period costs are not inventoriable. Period costs are selling and

general administrative expenses identified with the accounting period in which they are incurred.

Selling and general and administrative expenses are period costs.

B.4. Variable Costs, Fixed Costs, And Semivariable Costs

These costs are classified by their behaviour. Costs that change according to change in volume are

called variable costs, such as cost of direct labour and direct material. Fixed costs are the costs that

does not vary depending on changes in activity, such as rent, insurance and taxes. Semi variable costs

are composed of fixed and variable costs. Costs are fixed until a level of production or consumption

but after exceeding that level, it becomes variable. Labour costs are semi-variable because the fixed

protion is the wage paid to workers for regular working hours and variable portion is the overtime

payment.


4/5

4

B.5. Costs For Planning, Control, And Decision Making

Controllable And Noncontrollable Costs: If the amount of the cost is assigned to a member of

undertaking and the level of the cost is mostly under this members influence, this cost is called

controllable. Costs that are not subject to influence of managerial supervision are callednoncontrollable.

Standard Costs: Startard costs are the estimated production or operating costs. It is a target cost and it

is used to measure performance by comparing with actual cost.

Incremental Costs: It is the difference in costs between two or more alternatives.

Sunk Costs: Money already spend and lost is called sunk cost. They are irretrievable and that is why

they are irrelevant to future decion making.

Opportunity Cost: Net value forgone by rejecting an alternative is called opportunity cost.

Relevant Cost: Expected future costs that will differ between alternatives are called relevant costs.

C. Conclusion

Knowing all these classifications helps us to know terminology and facilitates using costing methods.

That is why cost classifications form the basis of costing methods.

To illusrate, lets take a look at ABC method. Increase in the automation of manufacturing led to

change in nature of composition of total product cost because while significance of direct labor cost

has decreased, significance of overhead costs has increased. Since overhead application rates based on

direct labour and any other volume-based cost driver would not provide accurate overhead charges any

more, activity based costing is used in order to get around this problem. In this method, costs are

assigned to pools based on the activities not volumes and the costs in the activity cost pools are

allocated to products using a variety of cost drivers. (Edmonds et al., 2011, p.207) As it can be

understood, without knowing the meaning of direct labour and overhead cost, it is difficult to use this

method.


5/5

5

REFERENCE

Shim, J.K., Siegel, J.G. 1998. Managerial Accounting2nd ed. S.l.: McGraw-Hill

Edmonds, T. P., Tsay, B. and Olds, R.R. 2011. Fundamental Managerial Accounting Concepts 6th

ed. S.l.: Vertovec, T.

cost and cost classifications.pdf

Documents