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Cost Classifications Cost Classifications
Relevance
Behavior
Controllability
Traceability
Function
Time
Costs
can be
classified
by:
Costs Classification by Relevance
If costs influence a decision
Costs that are applicable to a particular decision.
Costs that should have a bearing on which
alternative a manager selects.
Costs that are avoidable.
Future costs that differ between alternatives.
Relevant
If costs do not influence a decision
Irrelevant
Costs Classification by Relevance
Sunk Costs (Historical Cost)
All costs incurred in the past that cannot be
changed by any decision made now or in the
future.
should not be considered in decisions.
Irrelevant
Example: You bought an automobile that cost
Rs.30,000 two years ago. The Rs.30,000 cost is
sunk because whether you drive it, park it, trade it,
or sell it, you cannot change the Rs.30,000 cost.
Costs Classification by Relevance
Out-of-pocket costs
require future outlays of cash
associated with a particular decision
relevant for future decisions
Example: Considering the decision to take
a vacation or stay at home, if you choose a
vacation, you will only have travel costs
(out-of-pocket costs), labour cost, material
cost etc..
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Costs Classification by Relevance
Opportunity Costs
The potential benefit that is given up
when one alternative is selected over
another.
Example: If you were not attending
college or university, you could be
earning Rs.25,000 per year. Your
opportunity cost of attending college or
university for one year is Rs.25,000.
Costs Classification by Behavior or by Costs Classification by Behavior or by
Variability Variability
Cost behavior refers to
how a cost will react to changes in the level of
business activity.
Fixed costs
do not change when activity changes e.g.
factory rent.
Variable costs
change in proportion to changes in the
volume of activity e.g. material costs
Semi Variable costs Partly Fixed
and partly Variable e.g. telephone
charges
Costs Classification by Controllability Costs Classification by Controllability
Controllable vs. not controllable
depends upon the employees
responsibilities.
Example: A lower level manager may
have control over overtime costs but
not over the purchase of high-cost
machinery.
Example of controllable and non
controllable cost
For example, certain advertising spent
specifically for a given department
would be an expense controllable by
the manager of that department.
Advertising expenses that benefit
many departments or products are,
however, non controllable cost .
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Costs Classification by traceability Costs Classification by traceability
Direct Cost
- that can be traceable directly e.g.
direct wages
Indirect Cost
- that cannot be directly traceable e.g.
Factory rent
Costs Classification by Function Costs Classification by Function
Manufacturing Costs Manufacturing Costs
are necessary and integral to the production are necessary and integral to the production
of finished goods. of finished goods.
Examples: direct labour, direct materials, and Examples: direct labour, direct materials, and
manufacturing overhead. manufacturing overhead.
Non Non- -Manufacturing Costs Manufacturing Costs
are not integral to the manufacture of finished are not integral to the manufacture of finished
goods. goods.
Examples: selling and administrative Examples: selling and administrative
expenses. expenses.
Costs Classification by Function
Non-Manufacturing costs (period costs)
are expenses not charged to the product.
Selling Costs
Costs incurred to obtain customer orders and to
deliver finished goods to customers advertising
and shipping.
Administrative Costs
Non-manufacturing costs of staff support and
administrative functions accounting, data
processing, personnel, research and development.
Cost classification by time
Historical Cost
- ascertained after being occurred
- has already been done
Predetermined Cost
- Estimated cost
- Helps to control the cost