ELEMENTS OF COST IN COST ACCOUNTING

Direct Material Cost:

Direct material is material that can be directly identified with each unit of
the finished product. Direct material is that material which becomes a part
of the product. Raw materials, semi-finished materials, components etc.
which become part and parcel of the product are known as direct materials.
For example, cloth in garments, leather in shoe-making, spares parts in
assembling of radio, cycle, scooter etc. In case, certain materials become
part of the product, but are of negligible value; they may be grouped under
indirect materials.
Direct material includes the following:
i. Materials including component parts specially purchased for the job.
ii. Material transferred from one cost center to another, one process to
another process.
iii. Primary packing materials like cartons, wrappings, card-board boxes etc.

Indirect Materials:

Indirect materials are those materials which cannot be traced as part of the
product. They are also known as on cost materials or expense materials
which cannot be allocated, but which, can be apportioned to or absorbed by
the cost centers or cost units also come under this group.
Examples are:
(i) Stores items used in maintenance of machinery like lubricant, cotton
waste, grease, oil, stationery etc.
(ii) Small tools for general use.
(iii) Some minor items of materials, treated as indirect materials, due to their
small costs, such as cost of thread in dress-making, cost of nails in shoe-
making etc

Direct Wages/ Direct Labour:

All labour expenses in altering, composition, construction, confor¬mation
etc. of the product are included in direct wages; they include the payment
made to the following group of labour:
i. Labour engaged on the actual production of the product; i.e., carrying out
the oper¬ation or process.
ii. Labour engaged in aiding the operation; i.e., supervision, foreman, wages
of internal transport personnel, shop clerks etc.
iii. Inspectors, analysts etc., especially needed for the production.
Direct wages are also known as direct labour, productive labour, process
labour or prime cost labour.
Indirect Labour:

Labour whose wage cannot be allocated, but which can be appor-tioned to

or absorbed by the cost center or cost units is known as indirect labour.
Indirect wages represent the cost of labour, ancillary to the production. In
other words, wages which cannot be directly identified with a job; are
generally treated as indirect wages. Examples are- Salaries and wages of
foremen, supervisors, inspectors, maintenance labour, store-keepers,
clerical staff, watch and ward, internal transport etc.

Direct or Chargeable Expenses:

Expenses other than direct material, direct labour, which can be identified
with and allocated to cost units or cost centers as they are specially
incurred for a particular product or process, form a part of prime cost.
Direct expenses are also known as chargeable expenses, prime cost
expenses, process expenses or productive expenses.

The following groups of expenses fall under direct expenses:

i. Cost of special drawings, designs or layout
ii. Hire charge, repair and maintenance of special equipment hired
iii. Experimental expenses of a job
iv. Excise duty, Royalty
v. Architect or surveyor’s fee
vi. Travelling expense connected to the job
vii. Cost of rectifying defective work.

Indirect Expenses:
These are expenses which cannot be allocated, but can be apportioned to or
absorbed by the cost centers or cost units. In other words, expenses other
than indirect material and labour are indirect expenses.
The following are examples of indirect factory expenses:
(i) Rent, rates and insurance in relation to factory
(ii) Depreciation, repairs, maintenance on factory building, plant etc.
(iii) Welfare and medical expenses
(iv) Expenses of service department such as tool-room, boiler-house,
drawing-office, pro¬duction and planning center.
(v) Cost of training of new employees.

Overheads:
All expenses other than the direct material cost, direct wages and direct
expenses are known as indirect expenses or overhead. According to Weldon,
overhead means “the cost of indirect materials, indirect labour and such
other expenses, including services as cannot conveniently be charged direct
to specific cost units”. In other words, overhead means the aggregate of
indirect material cost, indirect labour and indirect expenses.
In general, overheads may be sub-divided into the following groups:

(i) Production Overhead or Works Overhead or Factory Overhead or

Manufacturing Overhead:
They refer to all indirect expenses incurred on processes and operations,
which commence from the receipt of work order till its completion, ready for
delivery to customer or to the finished goods store.
They are:
a. Indirect materials in works.
b. Indirect wages to workshop employees.
c. Factory expenses like rent, rates, taxes, insurance, repairs etc.
d. Depreciation on plant, machinery and maintenance of factory building.
e. Welfare and medical expenses of factory employees.

(ii) Administrative Overhead:

It consists of all expenses incurred in formulating the poli¬cies, directing the
organisation and controlling the operations of an undertaking, which are not
directly connected to production, selling, distribution, research and
development activities.

(iii) Selling Overhead:

It is the cost of seeking to create and stimulate demand and of securing
orders. In other words all expenses in securing and retaining customers for
the prod¬ucts are selling expenses, since they have been spent on creating
and maintaining demand for the product.

(iv) Distribution Overhead:

These are the expenses concerned with the delivery and dispatch of finished
goods to customers. In other words, it is an expenditure incurred from the
time; the product is completed until it reaches its destination, for example-
(a) Cost of packing cases.
(b) Oil, grease, spare parts used in the upkeep of delivery vans.
(c) Warehouse rent, insurance, depreciation etc.
(d) Loading expenses, carriage out, salaries of dispatch clerk, wages of
dispatching attenders, cost of repairing of empties for reuse.

The total expenditure consisting of material, labour and expenses can

further be analyzed as under:
Prime Cost = Direct materials + Direct Labour + Direct expenses
Works Cost (Factory) = Prime Cost + Factory overhead
Cost of Production = Factory Cost + Administration overhead
Total Cost (Cost of sales) = Cost of production + Selling and distribution overhead