ost oncepts

Dr. Suchismita SenguptaIES MCRCEmail : sensmita123@gmail.com

“Nothing in life is certain except death and taxes.” --Benjamin Franklin

LEARNING OBJECTIVES Define and illustrate a cost object Distinguish between direct costs and indirect costs Explain variable costs and fixed costs Interpret unit costs cautiously Distinguish among manufacturing companies, merchandising companies, and service-sector

companies Describe the three categories of inventories commonly found in manufacturing companies Distinguish inventoriable costs from period costs Explain why product costs are computed in different ways for different purposes Describe a framework for cost accounting and cost management

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Cost – sacrificed resource to achieve a specific objective

Actual cost – a cost that has occurred Budgeted cost – a predicted cost Cost object – anything of interest for which

a cost is desired

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Basic Cost Terminology

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Introduction

Different cost concepts and terms are often used in accounting reports.

Managers who understand these concepts and terms are able to...

– best use the information provided, and– avoid misuse of that information.

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Cost Object Examples at BMW

Cost Object Examples at BMW

Cost Object Illustration

Product BMW X 5 sports activity vehicle

Service Dealer-support telephone hotline

Project R&D project on DVD system enhancement

Customer Herb Chambers Motors, a dealer that purchases a broad range of BMW vehicles

Activity Setting up production machines

Department Environmental, Health & Safety

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Cost

Cost is a resource sacrificed or forgone to achieve a specific objective.

It is usually measured as the monetary amount that must be paid to acquire goods and services.

An actual cost is the cost incurred (a historical cost) as distinguished from budgeted costs.

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Cost Object

A cost object is anything for which a separate measurement of costs is desired.– Product – Service– Project– Brand– Activity– Department

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Cost Accumulation - Assignment

There are two basic stages of accounting for costs:

1 Cost accumulation2 Cost assignment to various

cost objects

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Cost Accumulation - Assignment

Cost accumulation – a collection of cost data in an organized manner

Cost assignment – a general term that includes gathering accumulated costs to a cost object. This includes:

Tracing accumulated costs with a direct relationship to the cost object and Allocating accumulated costs with an indirect relationship to a cost object

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Cost Accumulation - Assignment

Cost accumulation is the collection of cost data in some organized way by means of an accounting system.

Cost assignment is a general term that encompasses...

– tracing accumulated costs to a cost object,

– allocating accumulated costs to a cost object.

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BMW: Assigning Costs to a Cost Object

Cost Examples

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Direct Costs– Parts– Assembly line wages

Indirect Costs– Electricity– Rent– Property taxes

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Classification of Cost Concepts

Indirect

Direct

T racebility C

By-product

Joint

Com m on

Separate

Separability C

Standard

Replacem ent

Historical

Com putation C

Sales & Dist

Office & Adm in

M anufacturing

Function C

DESCRIPT IVE T

Average or Unit

Total

Average C

Conversion

Prim e

G roup C

ST AT IST ICAL T

Sem i-Variable

Sem i-Fixed

Variable

Fixed

Variability C

BEHAVIOUR T

Period

Sunk

M arginal

Opportunity

CONCEPTUAL T

COST CONCEPTS

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Descriptive TermsTracebility CriterionDirect Costs

Direct costs of a cost object are those that are related to a given cost object (product, department, etc.) and that can be traced to it in an economically feasible way.

Cost-Tracing describes the assignment of direct costs to the particular cost object.

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Descriptive TermsTracebility Criterion Indirect Costs

IDC are related to the particular cost object but cannot be traced to it

in an economically feasible way.

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Direct & Indirect Costs

Several factors affect the classification of a cost as direct or indirect:

– The materiality of the cost in question– Available information-gathering technology– Design of operations– Contractual arrangements The direct/indirect classification depends

on the choice of the cost object.

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Descriptive TermsSeparability CriterionSeparate Cost

– which can be traced to each particular unit of batch of production

Common Cost– which are common for 2 or more

products / product lines which can be produced separately

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Joint Cost– which are incurred in producing products

which must necessarily be produced together

By-Product Cost– is variation of Joint Cost– BP & JP cost depends upon significance

and importance

Descriptive TermsSeparability Criterion

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Descriptive TermsComputation CriterionHistorical Cost

– is on past figuresReplacement Cost

– is present replacement valueStandard Cost or Budgeted

– is based on standards

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Descriptive TermsFunction CriterionManufacturing Cost

– is total of consumption of raw materials, direct labour and manufacturing overheads

Selling & Distribution Cost– is cost incurred to sell & distribute

Administrative Cost– is incurred in office administration

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Statistical TermsAverage CriterionTotal Cost

– sum total of all costsUnit Cost

– is Total Cost divided by number of units produced

– Hours worked– Packages delivered– No. of units assembled

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Statistical Terms Grouping Criterion

Prime Cost– total of Cost of RM consumed & Direct Labour– Here Cost of RM consumed = Op. Stock RM +

Purchases RM – Closing Stock RM Conversion Cost

– total of Direct Labour and Manufacturing OH

RM DL MOH

PC CC

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Behavioural TermsVariability Criterion

Fixed Cost– which do not vary with cost object/no. of

units producedVariable Cost

– which varies with no. of units producedSemi-FixedSemi-Variable

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Conceptual Terms

Marginal Cost– is cost of producing one more unit

Sunk Cost– is cost which cannot be recovered

even if the course of action is not madePeriod Cost

– is for a particular period

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Cost Drivers

A cost driver is a factor, such as the level of activity or volume, that causally affects costs (over a given time span).

The cost driver of variable costs is the level of activity or volume whose change causes the (variable) costs to change proportionately.

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Relationships of Types of Costs

Direct

Indirect

Variable Fixed

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Manufacturing

Manufacturing-sector companies purchase materials and components and convert them into finished goods.

A manufacturing company must also develop, design, market, and distribute its products.

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Trading

Trading-sector companies purchase and then sell tangible products without changing their basic form.

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Service Companies

– provide services or intangible products to their customers.

Labour is the most significant cost category.

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COST OF GOODS MANUFACTURED

COST OF RM CONSUMED+ DIRECT MANUFACTURING LABOR

COSTSPRIME COST =>

+ INDIRECT MANUFACTURING COSTSFACTORY COST =>

+ OP. STOCK WIP - CL. STOCK WIP COST OF GOODS MANUFACTURED =>

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COST OF GOODS SOLD (COGS)

OP. STOCK FG

+COGM

- CL. STOCK FG

COST OF GOOD SOLD =>

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INCOME STATEMENT

REVENUES (SALES)- COGS

GROSS PROFIT/MARGIN- Sales & Dist. Cost

OPERATING INCOME

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IMPACTS

BALANCE SHEETPROFIT & LOSS ACCOUNT

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Thank You

‘Cost means sacrifice’