Cost classification
MANAGEMENT ACCOUNTING
Learning objectives
Explain and illustrate production and non-production costs
Describe the difference elements of non-production cost – administrative, selling, distribution and finance
Describe the difference elements of production costs – material, labor and overhead
Explain the importance of the distinction between production and non-production costs when valuing
output and inventories
Classification of costs
Graphically illustration of different type of the costs
Explain advantages and disadvantages of using high low method
Explain the structure of the linear functions and equations
Explain and illustrate the concepts of cost objects, cost units and cost centers
Explain and illustrate the use of codes in categorizing transaction
Analyzing cost
Cost objects: Cost units: Cost centres: cost card:
cost of a product a room (in a hotel) a department direct materials
cost of a service a litre of paint a machine direct labour
cost of running a (paint a project direct expenses
department manufacturers)
a ward (in a prime cost (total
cost of running a in-patient (in a hospital) direct costs)
regional office. hospital)
variable production
overheads
fixed production
overheads
non-production
overheads.
Element Nature Function Behavior
Material Direct Production Variable
Labor Indirect Non-Production Fixed
Expenses Stepped
Fixed
Semi
variable
Classification costs
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Answer
Types of Cost Behavior Patterns
Examples of stepped
fixed costs:
– warehousing costs (as
more space is required,
more warehouses must
be purchased or rented)
– supervisors’ wages
(as the # of employees
increases, more
supervisors are equired).
The high low method
The total cost of a semi-variable cost is:
Total costs = Total fixed costs + (Variable cost per
unit × Activity level)
To be able to predict costs at different activity levels it is
necessary to separate the fixed cost element from the
variable cost element. The high low method can be used
to approximate the variable cost per unit and the total
fixed cost.
Step 1 Step 2 Step 3 cost card:
Select the highest Calculate the Calculate the fixed Use the total fixed
and lowest activity variable cost (VC) cost by cost and the
levels, and their per unit: substitution, using variable cost per
associated costs. either the high or unit values from
VC per unit = steps 2 and 3
low activity
(Cost at high level to calculate the
of activity – cost level: estimated cost at
at low level of Fixed cost = Total different activity
activity)/ cost at activity levels:
(High level of level – (Variable Total costs = Total
activity – low level cost per unit × fixed costs +
of activity) Activity level) (Variable cost per
unit × Activity level)
Test yourself
Cost codes
Generic or functional codes - Once
a cost has been allocated its correct
Specific codes - may be necessary
cost center code then it may also be
for cost allocation, decision making
useful to know the particular type of
or accounting purposes to allocate a
expense involved. Therefore, some
code which specifically identifies the
more digits might be added to the
item of cost.
cost center code to represent the
precise type of cost.
Sequential code - means that each code follows a numerical or
alphabetical sequence. Planning is needed to determine how many
codes might be needed in total.
Block code - often used to categorise sequential codes together.
Hierarchical code - Each digit in the code represents a classification. As
the code progresses from left to right each digit represents a smaller
subset.
Significant digit code - is a code that contains individual digits and letters
Coding systems that
are used to represent features of the coded item.
Faceted code - one that is broken down into a number of facets or fields,
each of which signifies a unit of information.
Mnemonic code - something that aids the memory or understanding.
This uses an alphabetical coding rather than a numerical coding system.
It is often used to abbreviate or simplify information.
Quiz
Cost Classification | Quizizz