Cost terms

Question 1

Direct Materials

Answer 1

Those materials that become an integral part of the finished product and whose costs can be conveniently traced to the finished product.
E.g.
Seats used in airplanes
Electric motor used in DVD players

Avg. about 55% of revenues

Question 2

Direct labor

Answer 2

DL consists of labor costs that can be easily (I.e. physically & conveniently ) traced to individual units of product.
E.g. Assembly line workers at car manufacturers, carpenters at home builder, electricians who instal equipment’s

Avg. about 10% of revenues

Question 3

Indirect labor

Answer 3

Labor costs that can’t be physically traced to particular products or that can be traced only at great cost and inconvenience.

Question 4

Manufacturing overheads

Answer 4

All manufacturing costs except DM and DL such as indirect materials, indirect labor, maintenance and repair on production equipment and heat and light property taxes, depreciation and insurance on manufacturing facilities.

Avg. about 16% of sales revenues

Question 5

Selling cost

Answer 5

All costs that are incurred to secure customer orders and get finished product to the customer. Also called ‘order-getting’ and order-filling costs.
Eg. advertising, shipping, sales travel, sales commissions, sales salaries and cost of finished goods warehouse, depreciation of delivery equipment

Question 6

Administrative costs

Answer 6

Includes all costs associated with general management of an organisation.
Eg. executive compensation, general accounting, secretarial, PR, exec travel costs, depreciation of office buildings and equipment

Question 7

Matching principle / accrual concept

Answer 7

Costs incurred to generate a particular revenue should be recognised as expenses in the same period that the revenue is recognised. This means that if a cost is incurred to acquire or make something that will eventually be sold, then the cost should be recognised as an expense only when the sales takes place.

Question 8

Product costs

Answer 8

Includes all costs involved in acquiring or making a product. Eg. DM, DL, MO

Question 9

Inventorial cost

Answer 9

Product cost are also called inventorial cost as they are initially assigned to an inventory account on the B/S

Question 10

Touch labor

Answer 10

Direct labor Also called ‘touch labor’ because direct labor workers typically touch the product while it is being made.

Question 11

Period costs

Answer 11

Period costs are not included as part of the cost of either purchased or manufactured goods; instead these are expenses on I/S in the period in which they are incurred.

Selling and administrative costs are period cost like advertising cost, exec salaries, Sales commissions, rental cost of administrative offices, PR

Question 12

Prime cost

Answer 12

DM + DL

Question 13

Conversion cost

Answer 13

DL + MO

Called so because these costs are incurred to convert materials into finished product.

Question 14

Inventories in a merchandise and manufacturing company

Answer 14

Merchandising - 1, merchandise inventory

Manufacturing - 3
Raw materials , WIP, finished

Question 15

Raw materials

Answer 15

Materials used to make a product

Question 16

Work in process

Answer 16

Consists of units of product that are only partially complete and will require further work before they are ready for sale to a customer

Question 17

Finished goods

Answer 17

Consist of completed units of product that have not yet been sold to customers

Question 18

Cost of goods manufactured

Answer 18

Consists of manufacturing costs associated with goods that were finished during the period

Question 19

Cost behaviour

Answer 19

How a cost reacts to changes in level of activity

Question 20

PURPOSE OF COST CLASSIFICATION:

Preparing external financial statements

Answer 20

Product cost(inventoriable)

• direct materials
• direct labor
• manufacturing overhead

Period cost(expensed)

1. Non manufacturing cost
   a. Selling cost
   b. Administrative costs

Question 21

PURPOSE OF COST CLASSIFICATION:

Predicting cost behaviour in response to changes in activity

Answer 21

Variable cost (proportional to activity)
Fixed cost (constant in total)

Question 22

PURPOSE OF COST CLASSIFICATION:

Assigning cost to cost objects such as departments /products

Answer 22

Direct cost ( can be easily traced )
Indirect cost ( cannot be easily traced )

Question 23

PURPOSE OF COST CLASSIFICATION:

Making decisions

Answer 23

Differential cost ( differs between alternatives)
Sunk cost (past cost not affected by a decision )
Opportunity cost (forgone benefit )

Question 24

PURPOSE OF COST CLASSIFICATION:

Cost of quality

Answer 24

Prevention costs
Appraisal costs
Internal failure costs
External failure costs

Question 25

Variable cost

Answer 25

Cost that varies , in total, in direct proportion to changes in the level of activity

Variable cost is constant when expressed on per unit basis

DM, Shipping cost, Sales commissions , some
Elements of MO like lubricants, DL

Question 26

Variable cost in merchandising company

Answer 26

Cost of goods sold, sales commissions and billing cost

Question 27

Variable cost in a hospital

Answer 27

Cost of supplies, drugs, meals, nursing services

Question 28

Fixed cost

Answer 28

Cost that remains constant, in total, regardless of change in activity

Per unit F.C. decreases as activity level increases and vice versa

Straight line depreciation , insurance, property tax, rent, supervisor salary , administrative salaries , and advertising

Question 29

Relevant range

Answer 29

It’s the range of activity within which the assumption about variable and fixed cost are valid

Question 30

Cost object

Answer 30

Anything for which cost data are desired like products , customers , jobs and organisational subunits.

Cost of such cost objects may be a direct cost or indirect cost

Question 31

Direct cost

Answer 31

Cost that can be easily and conveniently traced to a specified cost object.

If cost object is determining cost of national sales office of Tokyo then salary of sales manager in Tokyo office would be a direct cost of that office

Question 32

Indirect cost

Answer 32

Cost that can’t be easily and conveniently traced to a specified cost object.

Question 33

Common cost

Answer 33

It’s a cost that is incurred to support a number of cost objects but can’t be traced individually. It is a type of indirect cost.

Question 34

Differential cost and revenue

Answer 34

A difference in costs between any two alternatives is called differential cost.

Difference in revenues between two alternatives is called differential revenue.

Also called incremental cost

Can be fixed or variable cost

Question 35

Opportunity cost

Answer 35

It’s the potential benefit that is given up when one alternative is selected over another

Question 36

Sunk cost

Answer 36

It’s a cost that had already been incurred and that cannot be changed by any decision made now or in the future.

Sunk cost are not differential cost as it can’t be changed by any decision now and hence are ignored.