Classification of Cost explained for beginners of Management Accounting (F2 - ACCA Kaplan)

Short Descriptions: (ACCA Exam - One liners)

Classification of Cost:

Classification by Element

Material –The material purchased for production or non production activities.

E.g. raw material, Stationary

Labour Costs – Includes all staff on the payroll of organization. E.g. salary of clerk, wages of machinist.

Expenses – Other costs except material and labour. E.g. Rent, depreciation of equipments.

Classification by Function – classification by production

 Direct Material – Material that go into making a product. E.g. wood in making chair

Direct labour – Directly engaged in making a product. E.g. wages of machinist

Direct Expenses – Directly involved in making a product. E.g. Factory water & power overheads

Variable production overheads – Vary in direct proportion to the quantity of product manufactured (Quantity α Variable Expenses). E.g. Fuel used.

Fixed production overheads – These expenses is fixed whatever the quantity manufactured. E.g. rent of factory.

Classification by Function – Classification by Non-production

Not directly associated with the production process.

Administrative costs – Involved in running the general administration departments. E.g.HR department

Selling cost – Associated with taking orders from customers who wish to buy products. E.g. Value added facility

Distribution Cost – Involved in an organization finished products. E.g. Delivery Costs

Finance costs – Incurred in order to finance the Org. E.g. Loan Interest, Bank overdraft etc.

Cost Behavior

 

Cost behavior is the way in which input cost vary with different level of activity. Following is its classification.

Variable costs

Variable cost is the cost that tends to vary in total with the level of activity. As the activity level increases the total variable cost also increases (Total variable cost α Activity level).E.g. raw material α Quantity (the more you produce the more raw material will be needed).

Fixed costs

A fixed cost is a cost which is incurred within accounting period and remains constant for a certain levels of activity but cost per unit falls as the level of activity increases. E.g. Salary of Executive

Stepped fixed costs

The cost which only fixed within certain level of activity. E.g. warehouses costs (the inventory increases more warehouses will be needed).

Semi-Variable Costs

It contains both fixed and variable cost elements. E.g. Electricity & Telephone bills.

Cost Estimation Method

High/low method:

 Variable cost per unit =  cost at high level of activity - cost at low level of activity

                                                                                                           

                                                                                                  ÷  

                                                High level of activity - low level of activity

      Fixed cost = Total cost at activity level – Total variable cost

Cost equation

It is used to estimate the future cost.

            Total cost = Fixed cost + variable cost (dependent on the activity level)

I.e.       Y = a + bx        a= fixed cost      b= variable cost       x= activity level       y= total cost

Cost Analysis

Cost objects

A cost object is any activity for which a separate measurement of cost is undertaken.

e.g. Cost of a product

Cost unit

A cost unit is a unit of a product or service in relation to which cost are ascertained. E.g. A room (In a hotel)

Cost Center

A cost center is a production, service location or equipment. E.g. A department, Machine

Cost Cards

The card at which cost element are brought together and recorded. Direct material, direct expenses, direct labour, prime cost, variable production overheads, fixed production overheads, Non-production overheads.

Cost coding

A code is a system of letters pre-designed to be applied to a classified set of items to record.

Its purpose is to assist precise information and facilitate data processing.