Cost Terms, Concepts, and Classifications:

After studying this chapter you should be able to:

1. Identify and give examples of each of the three basic manufacturing cost categories.
2. Distinguish between product costs and period costs and give examples of each.
3. Prepare an income statement including calculation of the cost of goods sold.
4. Prepare a schedule of cost of goods manufactured.
5. Understand the difference between variable costs and fixed costs.
6. Understand the differences between direct and indirect costs.
7. Define and give examples of cost classifications used in making decisions: differential costs, opportunity costs, and sunk costs.
8. Properly account for labor costs associated with idle time, overtime, and fringe benefits.
9. Identify the four types of quality costs associated and explain how they interact.
10. Prepare and interpret a quality cost report.

The work of managers focuses on (1) planning, which includes setting objectives and outlining how to attain these objectives; and (2) control, which includes the steps to take to ensure that objectives are realized. To carry out these planning and control responsibilities, managers need information about the organization. From an accounting point of view, this information often relates to the costs of organization.

The term cost is used in many different ways in managerial accounting. The reason is that there are many types of costs, and these costs are classified differently according to the immediate need of management. For example, managers may want cost data to prepare external financial reports, to prepare planning budgets, or to make decisions. Each different use of cost data demands a different classification and definition of cost. For example, the preparation of external financial reports require historical cost data, whereas decision making may require predictions about future costs. In the following paragraphs we have discussed many of possible use of cost data and how costs are defined and classified for each use.

Manufacturing and Non-manufacturing Costs:

Manufacturing costs are those costs that are directly involved in manufacturing of products and services. Examples of manufacturing costs are raw material costs and salary of labor workers. Manufacturing cost is divided into three broad categories by most companies. Click here to read full article.

Product Costs Versus Period Costs:

Product costs include all the costs that are involved in acquiring or making product. In the case of manufactured goods, these costs consist of direct materials, direct labor, and manufacturing overhead. Period costs are all the costs that are not included in product costs. These costs are expensed on the income statement in the period in which they are incurred, using the usual rules of accrual accounting that we learn in financial accounting. Click here to read full article.

Cost Classifications on Financial Statement:

Merchandising and manufacturing firms, both prepare financial statement reports for creditors, stockholders, and others to show the financial condition of the firm and the firm's earnings performance over some specified intervals. Merchandising companies simply purchase goods and resale them to customers. Financial statement reports are therefore simple in case of merchandising companies. The financial statements prepared by manufacturing companies are more complex than the statements prepared by a merchandising company. Click here to read full article.

Cost Classifications for Predicting Cost Behavior (Variable and Fixed cost):

Quite frequently, it is necessary to predict how a certain cost will behave in response to a change in activity. Cost behavior refers to how a cost will react or respond to changes in the level of business activity. As the level of activity rises and falls, a particular cost may rise and fall as well--or it may remain constant. For planning purposes, a manager must be able to anticipate which of these will happen; and if a cost can be expected to change, the manager must know by how much it will change. To help make such distinctions, costs are often characterized as variable or fixed. Click here to read full Article.

Mixed or Semi variable Cost:

Mixed cost is also known as semi-variable cost. A mixed/semi variable cost is one that contains both variable and fixed cost elements. The relationship between mixed cost and level of activity can be expressed by the equation y = a + bX. Click here to read full article.

Cost classification for Assigning Costs to Cost Objects (Direct and Indirect Cost):

A direct cost is a cost that can be easily and conveniently traced to the particular cost object under consideration. A cost object is any thing for which cost data is required including products, customers jobs and organizational subunits. An indirect cost is a cost that cannot be easily and conveniently traced to the particular cost object under consideration. Click here to read full article.

Decision making costs--cost classification for decision making:

Costs can be classified for decision making purposes. Costs are important feature of many business decisions. For decision making purposes cost is usually classified as differential cost, opportunity cost, and sunk cost.  It is essential to have a firm grasp of these cost concepts. Click here to read full article.

Quality Costs:

Quality cost can be defined as a cost that is incurred to avoid defaults before the products are shipped to the customers or to satisfy the customers by removing the faults if defaulted products have been shipped to customers to secure the good will of the company. Quality costs can be broken down into four broad groups. Two of these groups are known as prevention costs and appraisal costs. These are incurred in an effort to keep defective products from falling into the hands of customers. The other two groups of costs are known as internal failure costs and external failure costs. These are incurred because defects are produced despite efforts to prevent them. These are also known as costs of poor quality. Click here to read full article.

Further Classification of Labor Costs:

Idle time overtime, and fringe benefits associated with direct labor workers pose particular problems in accounting for labor costs. Are these costs are a part of the costs of direct labor or are they something else? Click here to read full articles.

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