Topic 1 - Nature and behaviour of costs

Question 1

What are fixed costs and how do they behave

Answer 1

Fixed costs remain constant when changes occur to the volume of activity. For example, staff salaries, or rent. The way in which they behave can be shown on a graph plotting cost against volume of activity, and the fixed cost line is straight and horizontal, as they’re constant

Question 2

What are variable costs and how do they behave

Answer 2

Variable costs vary according to the volume of activity, they do not stay constant. For example, raw materials used in a. manufacturing business. They can be graphically represented again on a cost vs volume of activity graph and the cost will increase when the volume of activity does so.

Question 3

What are stepped fixed costs

Answer 3

These fixed costs increase in stages. For example, as volume of activity increases, a point will be reached where the existing accommodation for a business becomes inadequate, and this will mean having to purchase extra accommodation to equip for the increase in volume of activity. This will lead to a sharp increase in the otherwise fixed rent. They can be represented graphically like on page 327.

Question 4

What are semi fixed costs and semi variable cost? how can they be analysed?

Answer 4

These are costs that have elements of both fixed and variable costs. example is the electricity cost at a hairdressing business, some for heating and lighting (fixed) and some will vary will volume of activity, like electricity used for hairdryers and appliances.

they can be analysed using the high- low method. you take the highest and lowest total electricity cost figures from the range of the past quarterly data available, and the assumption is made that the difference between these two figures is caused entirely by the change in variable cost. see page 329 for example

Question 5

what is meant by depreciation cost?

Answer 5

most non current assets do not have a perpetual existence but a finite or limited lives. essentially ‘used up’ in process of generating revenue for the business. The amount used up, which is depreciation or amortisation must be measured for each reporting period for which the assets are held.

Question 6

what is a cost object?

Answer 6

a product, service, centre, activity or distribution Chanel in relation to which costs are ascertained

Question 7

what is a cost pool?

Answer 7

A cost pool is a grouping of individual costs, typically by department or service center. Cost allocations are then made from a cost pool. For example, the cost of the maintenance department is accumulated in a cost pool and then allocated to those departments using its services.

Question 8

what is a cost unit?

Answer 8

a unit of product or service in relation to which costs are ascertained

Question 9

what is the difference between direct and indirect costs?

Answer 9

direct costs - can be specifically and exclusively identified with a given cost object (indirect cannot) eg direct materials and direct labour

indirect costs (overheads)- (all other aspects of total costs) cannot be identified with each particular cost unit (job) eg rent to garage for a car repair would be an indirect cost of that particular job

more direct costs = more accurate cost record

Question 10

what are product costs?

Answer 10

those attached to the products and included in the stock (inventory valuation)

Question 11

what are period costs?

Answer 11

not attached to the product and not included in the inventory evaluation

Question 12

what is meant by relevant costs?

Answer 12

a cost relevant to a particular decision

Question 13

describe fixed indirect costs

Answer 13

eg office building, cost doesn’t change (fixed) and cannot be traced to individual units of output (indirect)

Question 14

describe variable direct costs

Answer 14

eg cost of raw materials and labour changes with volume of activity (variable) and easily traced to specific unit that incurred the cost (direct)

Question 15

describe fixed direct costs

Answer 15

cost of a factory doesn’t change with activity volume (fixed) and is directly responsible for the cost of that factory (direct)

Question 16

describe variable indirect costs

Answer 16

cost of advertising, as advertising increases so does sales (variable) but is very difficult to link to individual units produced in multi product company (indirect)

Question 17

what is inventory evaluation

Answer 17

Inventory valuation is the cost associated with an entity’s inventory at the end of a reporting period. It forms a key part of the cost of goods sold calculation, and can also be used as collateral for loans. This valuation appears as a current asset on the entity’s balance sheet.