Costs Terms, Concepts and Classifications
Costs Terms, Concepts and Classifications
Costs Terms, Concepts and Classifications
Manufacturing Costs
Direct Materials
Direct Labor
Manufacturing Overhead
Direct Materials
Raw materials that become an integral part of the product and that can be conveniently traced directly to it.
Direct Labor
Those labor costs that can be easily traced to individual units of product.
Manufacturing Overhead
Manufacturing costs that cannot be traced directly to specific units produced.
Examples: Indirect labor and indirect materials
Wages paid to employees who are not directly involved in production work.
Examples: maintenance workers, janitors and security guards.
Non-manufacturing Costs
Selling Costs Administrative Costs
Classifications of Costs
Manufacturing costs are often classified as follows:
Direct Material Direct Labor Manufacturing Overhead
Prime Cost
Conversion Cost
Manufacturers . . .
Buy raw materials. Produce and sell finished goods.
Balance Sheet
Merchandiser Current assets
Cash Receivables
Manufacturer
Current Assets
u Cash u Receivables u Prepaid Expenses u Inventories Raw Materials Work in Process Finished Goods
Prepaid Expenses
Merchandise Inventory
Balance Sheet
Merchandiser Current assets
Cash Receivables
Manufacturer
Current Assets
u Cash
u Receivables u Prepaid Expenses
Prepaid Expenses
Merchandise Inventory Partially complete products some material, labor, or overhead has been added.
Materials waiting to u Inventories be processed. Raw Materials Work in Process Finished Goods
Manufacturing Company
Cost of goods sold: Beg. finished goods inv. + Cost of goods manufactured Goods available for sale - Ending finished goods inventory = Cost of goods sold
(12,100) $236,250
Finished Goods
Period Costs
Variable Cost
Your total long distance telephone bill is based on how many minutes you talk.
Total Long Distance Telephone Bill Minutes Talked
Fixed Cost
Your monthly basic telephone bill probably does not change when you make more local calls.
Monthly Basic Telephone Bill Number of Local Calls
Mixed Costs
A mixed cost has both fixed and variable components. Consider the example of utility cost.
Total Utility Cost
Y
Variable Cost per KW
Fixed
Opportunity Cost
The potential benefit that is given up when one alternative is selected over another.
Example: If you were not attending college, you could be earning $15,000 per year. Your opportunity cost of attending college for one year is $15,000.
Sunk Costs
Sunk costs have already been incurred and cannot be changed now or in the future. They should be ignored when making decisions.
Example: You bought an automobile that cost $10,000 two years ago. The $10,000 cost is sunk because whether you drive it, park it, trade it, or sell it, you cannot change the $10,000 cost.
Introduction
Before we allocate all manufacturing costs to products regardless of whether they are fixed or variable. This approach is known as absorption costing/full costing However, only variable costs are relevant to decision-making. This is known as marginal costing/variable costing
Absorption costing
It is costing system which treats all manufacturing costs including both the fixed and variable costs as product costs
Marginal costing It is a costing system which treats only the variable manufacturing costs as product costs. The fixed manufacturing overheads are regarded as period cost
Selling and administrative expenses are always treated as period expenses and deducted from revenue as incurred.
Now, lets compute net operating income using both absorption and variable costing.
Absorption Costing
Variable Costing
Variable Costing
Sales (20,000 $30) Less variable expenses: Beginning inventory $ Add COGM (25,000 $10) 250,000 Goods available for sale 250,000 Less ending inventory (5,000 $10) 50,000 Variable cost of goods sold 200,000 Variable selling & administrative expenses (20,000 $3) 60,000 Contribution margin Less fixed expenses: Manufacturing overhead $ 150,000 Selling & administrative expenses 100,000 Net operating income $ 600,000
260,000 340,000
250,000 $ 90,000