Prepared byDiane TannerUniversity of North Florida

Review Concepts

Basic Cost Terminology

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What is a Cost?

Asset • Expected to provide future

economic benefits (not used up)

Expense• Not expected to provide future

economic benefits (used up)

Can be an asset or an expense Dependent upon whether it has future

economic benefits or not

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Cost Terms Based on Behavior

Variable costs Total cost increases when production/sales

increases Cost per unit stays the same Examples: cost of products, hourly wages

Fixed costs Total cost stays the same when production

increases Cost per unit decreases Examples: Rent, depreciation, insurance,

salaries, advertisingMore activity (sales) causes total costs to increase

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Cost Terms

• Cost object– Any product or service for which a company

wants to know its cost• Cost pool

– A group of indirect costs to be allocated to cost objects

• Cost driver– An activity that causes a cost to change

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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

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Product Costs on the Financials

• Merchandising company– ‘Inventory’ on the balance sheet– ‘Cost of goods sold’ on the income statement

• Manufacturing company– ‘Raw Materials’, ‘Work in Process’, ‘Finished Goods’

on the balance sheet– ‘Cost of goods sold’ on the income statement

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Period Costs on the Financials

• Includes all costs that are non-inventoriable

• Often reported as prepaids or plant assets on the balance sheet until used

• Reported as operating expenses on the income statement once used

• Some examples– Corporate, selling, administrative

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Manufacturing Costs

• Direct costs• Consist of

• Direct materials• Direct labor

• Are traced to products/services• Indirect costs

• Manufacturing overhead costs• Are allocated to products/services

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Prime Costs

Conversion Costs

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Product Costs for Manufacturers

• Traced to products• Easily identified with specific productsDirect Materials

• Traced to products• Easily identified with specific productsDirect Labor

• Allocated to products• Not easily identified with specific

productsManufacturing

Overhead

Only product costs (not period costs) are labeled as direct or indirect.

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Direct Material Costs

• Material costs that can be traced to products or services provided

• Includes all materials costs directly related to getting the materials ready to use (ultimately to get the product ready to sell) – Invoice cost to buy materials– Less cash discount– Plus sales taxes– Plus freight-in

Parallels accounting for merchandise

inventory

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Direct Labor

• Labor costs that can be directly traced to products or services provided

• Includes all direct labor needed to get the product ready to sell– Assumed to be hourly wages– Fringe benefits should be included as part of

the hourly rateOvertime related to a rush job is part of

direct labor.Idle time related to equipment failure is

indirect labor.

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INDIRECT manufacturing (product) costs that cannot be traced directly to specific units produced, but are costs of production

Manufacturing Overhead

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

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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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The End