Cost Concept
• The term cost refers to the amount of resources given up
in exchange for some of goods or services. The resources
so given up are always expressed in terms of money.
• According to CIMA, London, the term cost in general
means “the amount of expenditure (actual or notional)
incurred on or attributable to a given thing or activity.”
Cost interpretation depends upon:
• The nature of business, or industry, and
• The context in which it is used.
Cost Classification
Cost classification is the process of grouping
costs according to their common
characteristics. The classification of costs can
be done in the following ways:
•By nature of element
•By functions
•By variability
•By controllability
•By normality
•By time
Cost Classification
• According to planning and control
• For managerial decisions
By Nature of Element
• Materials: Materials are the principal
substances that go into the production process
and are transformed into finished goods. It is
further classified into direct and indirect
material
• Labor: It refers to human efforts to produce
goods and services. It is a factor of production.
It is further classified into direct and indirect
labor.
By Nature of Element
• Overheads: These are of such a nature that the
amount applicable to the product or service cannot
be determined accurately or readily. Usually they
relate to those objects of expenditures which do
not become an integral part of the finished product
or service, like- Rent, light, supplies, management
supervision. it further classified into factory
overhead, office and administration overheads
and selling and distribution overheads.
By Functions
• Manufacturing and production costs
• Administrative costs
• Selling and distribution costs
Manufacturing and Production Costs
• This category includes the total of costs
incurred in manufacture, construction and
fabrication of units of production. The
manufacturing and production costs comprise
of direct materials, direct labor and factory
overheads.
Administrative Costs
• This category includes costs incurred on
account of planning, directing, controlling and
operating a company. For example, salaries
paid to managers and other administrative
staff.
Selling and Distribution Costs
• Selling costs are the cost of seeking to create and
stimulate demand and of securing orders.” example
of selling cost are advertisement, salesman salaries,
etc.
• Distribution costs are defined as the cost of
sequence of operations which begin with making
the packed product available for dispatch and ends
with making the reconditioned, returned empty
packages, if any available for re-use. Example,
insurance on goods in transit, warehousing etc.
By Variability
• Fixed cost
• Variable cost
• Semi-variable cost: telephone expenses
includes a fixed monthly charges plus variable
charges according to the number of calls
made, thus total telephone expenses are
semi-variable.
By Controllability
• Controllable costs: it can be controlled by a
particular person or a group of persons in the
organization.
• Uncontrollable costs: it cannot be controlled
by a particular person or a group of persons in
the organization.
By Normality
• Normal cost: the cost which the organization
incurs on a particular activity under normal,
external and internal circumstances.
• Abnormal cost: any cost that is not warranted
under normal, external and internal conditions
are abnormal costs. The incidence of these
costs are supposed to be temporary and not
expected to recur over a long period of time.
By Time
• Historical costs
• Predetermined costs: helpful for cost control,
reduction and cost analysis. These costs are
estimated in advance.
For managerial decisions
• Marginal cost: cost incurred for producing an
additional unit.
• Differential costs: change in cost due to
change in the level of activity or pattern or
method of production is known as differential
cost. Where increase in cost is known as
incremental cost and decrease in cost is
known as decremental cost.
• Sunk cost: another name for historical cost.
Example: depreciation
• Imputed or notional cost: salary of proprietor or
partner of the business.
• Opportunity cost: it is the cost of an opportunity
forgone by using a resource for one purpose rather
than another. For example, when proprietor uses
his own building for business he is foregoing the
rent that he could earn by letting it out.
For planning and control
• Budgeted cost
• Standard cost
