Introduction

The standard on classification of costs deals with the basis of classification of costs and the
practice to be adopted for classification of cost elements in regard to its nature and management
objective. The statement aims at providing better understanding on classification of cost for
preparation of various cost statements required for statutory obligations or cost control measures.

What is cost?
In accounting, the term cost refers to the monetary value of expenditures for raw materials,
equipment, supplies, services, labor, products, etc. It is an amount that is recorded as an expense
in bookkeeping records.

Cost denotes the amount of money that a company spends on the creation or production of goods
or services. It does not include the mark-up for profit.

From a seller’s point of view, cost is the amount of money that is spent to produce a good or
product. If a producer were to sell his products at the production price, his costs and income
would break even, meaning that he would not lose money on the sales. However, he would not
make a profit.

From a buyer’s point of view the cost of a product is also known as the price. This is the amount
that the seller charges for a product, and it includes both the production cost and the mark-up,
which is added by the seller in order to make a profit.

Classification of Cost
Classification of cost is the process of grouping the components of cost under a common
designation on the basis of similarities of nature, attributes or relations. It is the process of
identification of each item and the systematic placement of like items together according to their
common features. Items grouped together under common heads may be further classified
according to their fundamental differences. The same costs may appear in several different
classifications depending on the purpose of classification.

Cost is classified normally in terms of a managerial objective. Its presentation normally requires
sub-classification. Such sub-classification may be according to nature of the cost elements,
functional lines, areas of responsibility, or some other useful break-up. The appropriate sub-
classification depends upon the uses to be made of the cost report.

Basic Rules for Classification of Costs

1

Scheme of classification should be such that every item of cost can be classified Basis of classification  Nature of expense  Relation to object – traceability  Functions / activities  Behavior fixed.Classification of cost is the arrangement of items of costs in logical groups having regard to their nature (subjective classification) or purpose (objective classification). semi-variable or variable  Management decision making  Production Process  Time period 2 . Items should be classified by one characteristic for a specific purpose without ambiguity.

rent of building etc. direct labor and direct overheads. Leather in shoe manufacturing is a direct expenses and salaries. By Association with the Product There are two categories under this classification:  Product cost . By Relationship with Accounting Period Classifications are measured by the period of use and benefit. come under indirect expenses.Product cost is identifiable in any product. Any profitability is reflected only when 3 . labor and overheads are three costs.  Uncontrollable . and spare parts etc. Revenue expenses relate to current accounting period. salaries. The capital expenditure and revenue expenditure are classified under it. and other indirect expenses. By Controllability In this classification. these products are shown and valued as inventory and they form a part of balance sheet. packing materials.These are controlled by management like material labour and direct expenses. It includes direct material. Fixed assets come under category of capital expenditure and maintenance of assets comes under revenue expenditure category. which can be further sub-divided into raw materials. Up to sale. material.Costs can be classified based on the following attributes By Nature In this type. By Degree of Traceability of the Product Direct and indirect expenses are main types of costs come under it. two types of costs fall:  Controllable .They are not influenced by management or any group of people. Capital expenditures are the benefits beyond accounting period. They include rent of a building. consumables. Direct expenses may directly attributable to a particular product.

and selling and distribution cost. and semi-variable costs:  Fixed cost . the cost is divided as fixed.Selling expenditure and Administrative expenditure. It means the variable cost per unit remains constant irrespective of production of units. if any. the cost is divided by its function as follows:  Production Cost . 25. In case the production increases to 50. both are time or period based expenditures. 5.A specific portion of these costs remains fixed and the balance portion is variable. is charged @ Tk.It includes operational expenses of the business and may be sub- divided into administration cost. if the minimum electricity bill per month is Tk. It increases or decreases according to the volume of production.000. That is. 0.  Time/Period base cost .000 for 1000 units and excess consumption.It mainly relates to time or period. 5.It represents the total manufacturing or production cost. For example. depending on their use. Profitability and costs are depends on both. In this case. fixed electricity cost is Tk. The Costs of these products are transferred to costs of goods sold account. The cost per unit fluctuates according to the production.  Variable cost . the cost per unit is inversely proportional to the production.000 units.50 per unit.  Commercial cost . variable. rent of a building. product cost and time/period cost. Direct material and direct labor are the most common examples of variable cost. etc. if the factory rent is Tk. 7. It remains unchanged irrespective of volume of production like factory rent. For example. By Functions Under this category. The cost per unit decreases if production increases and cost per unit increases if the production decreases.000 and the total cost depends 4 . salaries to employees are related to period only.000 per month and the number of units produced in that month is 25. By Change in Activity or Volume Under this category.50 per unit.Variable cost directly associates with unit. For example. 1 per unit. then the cost of rent per unit will be Tk. these products are sold.  Semi-variable cost . then the cost of rent per unit will be Tk. insurance.

Therefore. and after that. 5 . 7. the cost per unit remains constant @ Tk. on the consumption of units in excess of 1000 units. The following chart shows the various elements of cost and how they are classified.50 per unit. the cost per unit up to a certain level changes according to the volume of production.

Elements of Cost Direct or Indirect Materials The materials directly contributed to a product and those easily identifiable in the finished product are called direct materials. nails in shoes or furniture. and directly associate in conversion of raw material into finished goods are called direct labor. Overheads are classified as:  Production or manufacturing overheads  Administrative expenses 6 . Wages paid to trainee or apprentices does not comes under category of direct labor as they have no significant value. Direct Labor Any wages paid to workers or a group of workers which may directly co-relate to any specific activity of production. Overheads Indirect expenses are called overheads. For example. transportation of material. which include material and labor. For example. Other lower cost items or supporting material used in the production of any finished product are called indirect material. and leather in shoes are direct materials. paper in books. supervision. plastic in water tank. or product. maintenance. wood in furniture. They are also known as high-value items.

 Selling Expenses  Distribution expenses  Research and development expenses Cost Control Accounting provides business-related information to the owner. Comparison of budgeted with actual performance provide the management an idea to eliminate weak performances. investors. Preparation of budget is a part of planning and controlling relates to putting a check on the actual function of planning. the management. the employees of the company as well as to the government. Cost Control Techniques Costs can be controlling by employing the following methods:  Material Control  Labor Control  Overheads Control  Standard costing  Budgetary Control  Capital Expenditure Control  Productivity and Accounting Ratios Requirements for Successful Cost Control The following requirements are to be fulfilled to implement successful cost control: 7 . Financial accounting is based on actual past and cost accounting is based on planning and controlling. creditors. and customers.

 A plan and a set of well-defined responsibilities to all executives are essential. The classification of cost item should be done on ‘ basis of classification’ chosen with pre- determined objective. both performances to enable the management to take corrective steps. Any change in classification of cost which has a material effect on the cost of the product should be disclosed in the cost statements. For example. On the other hand. The classification of cost item should be followed consistently from period to period and preparation of cost statements should be made with reference to a period of time. the fact should be indicated in the cost statement. Conclusion The separation of expenses into different categories.  Reward for good performances and Punishment for the poor ones. variable. in case of deviation between targeted and actual. Where the effect of such change is not ascertainable wholly or partly.  Highlights of good and bad.  A fixed responsibility. 8 . cost classification in economics might involve categories of fixed. opportunity.  Prompt collection of performance data from each department of an organization as the delay in information equals to no information and the management is unable to take correct decision due to lack of complete information. accounting costs can be classified as either direct or indirect for a business.  Clear definition of tasks for performance and cost to execute those tasks. production and sunk costs. A change in classification should be made only if it is required by law or for compliance with a Cost Accounting Standard or the change would reset in a more appropriate preparation or presentation of cost statements of an enterprise.

com/accounting_basics/cost_accounting_classification_of_cos t. http://opentuition.htm 3.tutorialspoint. https://en.org/wiki/Cost_accounting 2.com/articles-summary-costing/ 4. https://www.accountingtools.References 1. http://www.wikipedia.com/fia/ma1/cost-classification/ 9 .