Define cost. What are the classification of cost with examples in brief?
What is Cost?
Cost refers to the value of sacrifice made in order to acquire any goods or services. We can say cost refers to the expenses incurred to make a proposal or a product or service. The expenses incurred to produce a product is called cost.
In other words cost means the expenses incurred to bring a raw material into usable condition.
Cost can be classified in different ways:-
Some of the important classification of cost as follows:-
- Element wise classification of cost.
- Behaviour wise classification of cost.
- Function wise classification of cost.
- Classification of cost according to planning controlling and decision making.
- Classification of cost on the basis of ability to trace.
- Classification of cost according to depts where they are incurred.
A.Element wise Classification:
Under this cost can be classified as follows:
1.Material Cost
2.Labour Cost
3.Other Expenses
1.Material Cost:
Material Cost refers to those expenses which are incurred to acquire the required material to produce the product or provide the service. Such material may be direct or indirect so material cost can also be direct material cost and indirect material cost.
Material cost is of two types that is:
i.Direct Material Cost
ii.Indirect Material Cost
i.Direct Material Cost:
Direct material cost is the cost of the raw materials and components used to create a finished product. In other words direct material cost is the total cost of the company in purchasing of raw material including taxes, packaging of product, storage of cost.
Direct materials are those materials which can be easily identified in the finished product and it constitutes a major part of total material cost.
ii.Indirect Material Cost:
An indirect material is a material that indirectly forms part of the finished product. It can’t be directly charged to the unit of or credit.
In other words, indirect materials are those materials involved in the production which can’t be called direct material. its cost becomes a part of factory overheads.
2.Labour Cost:
Labour refers to the physical or mental effort incurred to make a product, labour cost refers to the expenses incurred to maintain the labour force of an organisation. Labour may be of two types; Direct Labour, In direct Labour.
Labour Cost is further Classified in to 2 types:
i.Direct Labour Cost
ii.Indirect Labour Cost
i.Direct Labour Cost:
Direct Labour cost includes those expenses which are incurred to maintain the labour force who are directly engaged in producing the product or providing the service. It represents a major part of total labour cost.
ii Indirect Labour Cost:
Indirect labour cost includes those expenses which are incurred to maintain the indirect labour force who are not directly involved in producing the products.
3.Other Expenses:
The other expenses incurred by an organisation can also classified into 2 types:-
i.Direct Expenses
ii Indirect Expenses
i.Direct Expenses:
Direct expenses includes expenses (other than direct material cost and direct Labour cost) which are incurred specifically for a product or dept or job.
In otherwords the expenses which can be directly identified with a product, process or job is known as Direct Expenses.
Ex-: charge of a specific machine used for a specific job, wages paid to the carpenter, fright on purchase, Exise duty etc.
ii.Indirect Expenses:
Indirect expenses are those expenses (other than indirect material cost and indirect labour cost) which are incurred not specially for a particular product/process/job/department but they are incurred in common for a number of units/depts/jobs/purchases.
B.Behaviour wise Classification:
Under this classification cost can be classified as follows:
i.Fixed Cost
ii.Variable Cost
iii.Semi-Variable Cost
i.Fixed Cost:
Fixed cost refers to those cost which remain constant/ fixed in total upto a specific level of activity and it varies when the actual level of activities exceeds that particular level. Though fixed cost remains fixed in total but it increases or decreases per unit with the change in the level of activity.
In otherwords the cost which is remains unchanged period to period or irrespective of change in volume of output is called fixed cost.
Ex-:Rent, Mangers Salary, insurance etc.
ii.Variable Cost:
Variable cost includes those cost which varies in direct proportion to the change in the volume of output. Though variable cost varies in total, it remains fixed per unit.
In otherwords the cost which changes period to period with change in volume of output is known as variable cost.
Exm:-Direct Material cost, Direct Labour cost, power expenses etc.
iii.Semi-variable Cost:
Semi variable cost refers to those cost which are partly fixed and partly variable.
In otherwords the cost which is partly fixed and partly variable is knows as Semi variable cost.
Ex:-Electricity Charge, Telephone Charge, Depreciation of machinary etc.
C. Function wise classification:
Under this classification cost can be classified as follows:-
i. Manufacturing/Production Cost
ii. Administrative Cost
iii. Selling & Distributive cost.
i.Manufacturing/Production cost:
Manufacturing cost includes those expenses which are incurred for producing a product. In otherwords the cost which are incurred in the conversion of raw material into finished product is knows as production cost/Manufacturing Cost.
Direct material cost, Direct Labour Cost & Factory Overheads constitutes Manufacturing cost.
ii.Administrative Cost:
Administrative expenses are those expenses which are incurred in directing, controlling, and operating a company. In otherwords the cost which are incurred for undertaking managerial function of the enterprise is known as administrative/ Office cost.
Ex:- Salary of mangers, office expenses, legal fees, audit fees etc.
iii.Selling & Distribution Cost:
Selling cost includes those expenses which are incurred to promote the sales of the product/ service being produced by the organisation.
In otherwords the cost which are incurred for smooth running of selling activities is called selling Cost.
Ex:- Salary and Commision to salesman, Advertisement expenses, cost of free samples, Bad debt arrising out of credit sale etc.
Distribution cost includes those expenses which are incurred to make the product available at the door step of the customer.
In otherwords the cost which are incurred for transferring good for production place to consumption place is called Distribution Cost.
Ex:- Deliveryman expenses, Expenses incurred in distribution office, Expenses incurred being bark the employ containers & make them ready for reuse etc.
iv. Research and Development Cost:
The cost which is incurred in the discovery of new ideas and new methods is called research and development cost
Ex:- Laboratories Expenses, Rent of Laboratory etc.
D.According to Controlablity:
According to the controlablity of the cost the cost is classified into 2 types:-
i.Controlable Cost:
ii.Uncontrolable Cost
i.Controlable Cost:
The cost which can be controlled by the management is called Controlable Cost.
Ex:- Direct material, Direct Labour etc.
ii.Uncontrolable Cost:
The cost which cannot be controlled by the management is known as un controlable cost.
Exm:- Rent, Salary, Insurance etc.
E.According to Normality:
According to the Normality of the cost the cost is classified into 2 types:-
i.Normal Cost
ii Ab-normal Cost
i.Normal Cost:
The cost which are expected to be incurred in the normal course of production is called normal cost.
ii.Ab-normal Cost:
The cost which are incurred due to careless for some abnormal reason is called Abnormal Cost.It is charged to costing profit and loss account.
F. According to Time:
According to the Time of the cost the cost is classified into 2 types:-
i.Historical Cost:
The cost which are incurred at measured after the production is over is called Historical Cost.
In otherwords it refers to the technique of costing under which cost are determined after they have been incurred.It doesn’t help in Cost Control.
Ex:-If the cost of production ‘A’ is to be determined on this basis then one must wait till the materials are purchase and used labour actually paid and overhead expenses actually incurred. This system of costing is useful only for determining cost but not to control cost.
ii.Pre-determined Cost:
The cost which is determined in advance before production is known as predetermined Cost. it is helpful for Cost Control.
G.According to Capital and Revenue:
According to the capital and revenue of the cost, the cost is classified into 2 types:-
i.Capital Cost
ii.Revenue Cost
i.Capital Cost:
The huge expenses which are incurred for long period is called Capital Cost. It is non-recorring nature.
Ex:-Purchase of furniture, Wages for Institution,Repair of second hand asset.
ii.Revenue Cost:
The expenses which are incurred for short. Period of time is called Revenue Cost.
Ex:- Repairs and maintenance charges, salary of workers etc.
H.According to Planning:
According to the planning of the cost, the cost is classified into 2 types:-
i.standard Cost
ii.Budget Cost
i.Standard Cost:
The cost which is incurred by manufacturing organisation before production process as known as Standard Cost.
ii.Budget Cost:
The estimated cost expected to be incurred for a given unit of production is called Budget Cost.