Basic Cost Terminology ACG 4361 Basic Cost Terminology Prepared by Diane Tanner University of North Florida 1-1

What is a Cost? A sacrificed resource Can be an asset or an expense Dependent upon whether the cost has future economic benefits or not Asset A resource that is expected to provide future economic benefits (not used up) Expense A resource that is not expected to provide future economic benefits (used up)

Can be actual or budgeted Cost Terms Cost object Any product, project, customer, department, activity or service for which a company wants to know its cost Cost pool A group of costs to be allocated to cost objects Cost driver An activity that causes a cost to change Can be actual or budgeted

Grouping Costs Cost accumulation Cost assignment A process of collecting costs Cost assignment Designating accumulated costs to a cost object If accumulated costs are direct costs Trace to cost object Must be easily identified with cost object If accumulated costs are indirect costs Allocate to cost object Distribute in a systematic and rational manner

Cost Terms Based on Behavior Variable costs When activity increases (decreases) Total cost increases Cost per unit stays the same Fixed costs Total cost stays the same Cost per unit decreases (increases) Examples Cost of most materials & supplies, hourly wages Examples Rent, insurance, depreciation, salaries, advertising Relevant range Activity span in which cost behavior can be relied upon

Cost Terms Based on Function Product Costs Inventoriable costs Period Costs Non-inventoriable costs Expensed when the product is sold Expensed in a period unrelated to sales; i.e., when used Costs are expensed in the same period the related revenue is earned Per GAAP

Costs on the Financial Statements Merchandiser Manufacturer Product Costs Period Costs Product Costs Period Costs Merchandise Inventory or Inventory Often capitalized as prepaids or plant assets Raw Materials, Work in Process, or Finished Goods Operating expenses (SG&A) Balance Sheet Income statement Cost of Goods Sold Operating expenses (SG&A) Cost of Goods Sold Operating expenses (SG&A)

Manufacturing Inventories Raw Materials Direct and indirect materials to be used in production Work in process Products started but not yet completed Finished goods Products completed and ready for sale

Product Costs for Manufacturers Traced to products Easily identified with specific products Direct Materials Direct Labor Allocated to products Not easily identified with specific products Manufacturing Overhead Prime Costs Conversion Costs

Parallels accounting for merchandise inventory Direct Materials Includes all materials costs directly related to getting the materials ready to use in production (ultimately to get the product ready to sell) Invoice cost to buy materials Less cash discount Plus sales taxes Plus freight-in Traced to cost objects Parallels accounting for merchandise inventory

Direct Labor Includes all direct labor needed to get the product ready to sell Labor is assumed to be hourly wages Can be directly traced to products or services provided Fringe benefits should be included as part of the hourly rate

Manufacturing Overhead INDIRECT manufacturing (product) costs that cannot be efficiently traced directly to specific units produced, but are costs of production Indirect materials Indirect labor Factory-related costs Factory supplies Oil, lubricants, blades Glue, staples Janitor labor Production supervisor labor Dedicated cost accountant labor Factory and equipment depreciation Factory insurance Factory rent and utilities Other factory costs

Classification of Costs Product costs can be Fixed or variable Controllable or uncontrollable Direct or indirect Period costs can be Fixed or variable Controllable or uncontrollable Direct materials Direct labor Manufacturing overhead

Other Cost Classifications Opportunity Costs An amount or benefit given up when choosing a particular course of action Never recorded in accounting records Always part of management decision making Sunk Costs Amounts incurred in the past Costs that exist no matter which decision is made Generally ignored in decision making

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