Lecture 1: Cost Accumulation and assigning the cost to
cost objects
In broader context, the cost of manufacturing a product or services can be
differentiated into direct and indirect costs. The direct costs are one which are
directly linked to the product/service and the indirect costs are the one which
can’t be directly traced back to production. The allocation of indirect cost has
always been a problem. However recently the indirect costs have further
increased due to a greater degree of automation than direct labour involvement.
Because the cost of direct labour is easy and in case of machines, maintenance,
electricity and depreciation etc. can’t be allocated directly. This semester we will
deal will the different ways to allocate the indirect costs and this lecture forms
the starting point for the allocation process.
Basic definitions:
Cost object – different parts of the organisation where the costs are incurred refer
to as cost objects. For example the production, supply and maintenance etc.
each form a different cost object.
Cost Pool – when the direct and indirect costs are allocated to different cost
objects, a cost pool is formed. These allocations are done on the basis of a
common allocation base and make the calculations a lot easier.
Purposes of allocating costs:
To provide information for economic decisions: the calculation of full cost
will enable us to decide on the selling price. If we know the full cost of the
product and the profit margin, we can set up the price for the product.
Also the reverse income analysis and the target costing we did last
semester, are all dependant on the calculation of the full costs. Apart from
that the knowledge of full costs will also enable us to make important
decisions such as to add a new product by looking at its profitability; and
make or buy decisions.
Motivate the Managers: encourage the managers to design the product
which are simple to produce and cost efficient. We also need to think what
adds value to the customer. Also we can motivate the managers to sell
more of products which have high profit margin.
Justify costs: this factor is more important in the government sector. Many
organisations such as the hospitals might get reimbursements. Therefore
it’s important for them to know how that money is being spent and also so
that they can justify their costs to the government. Incentive schemes also
need justification of costs so that we can develop a plan accordingly.
Reporting purposes: majority of the figures that we see in the financial
statements are based on the full costing. We are required to evaluate
inventory as it goes on the balance sheet.
cost objects
In broader context, the cost of manufacturing a product or services can be
differentiated into direct and indirect costs. The direct costs are one which are
directly linked to the product/service and the indirect costs are the one which
can’t be directly traced back to production. The allocation of indirect cost has
always been a problem. However recently the indirect costs have further
increased due to a greater degree of automation than direct labour involvement.
Because the cost of direct labour is easy and in case of machines, maintenance,
electricity and depreciation etc. can’t be allocated directly. This semester we will
deal will the different ways to allocate the indirect costs and this lecture forms
the starting point for the allocation process.
Basic definitions:
Cost object – different parts of the organisation where the costs are incurred refer
to as cost objects. For example the production, supply and maintenance etc.
each form a different cost object.
Cost Pool – when the direct and indirect costs are allocated to different cost
objects, a cost pool is formed. These allocations are done on the basis of a
common allocation base and make the calculations a lot easier.
Purposes of allocating costs:
To provide information for economic decisions: the calculation of full cost
will enable us to decide on the selling price. If we know the full cost of the
product and the profit margin, we can set up the price for the product.
Also the reverse income analysis and the target costing we did last
semester, are all dependant on the calculation of the full costs. Apart from
that the knowledge of full costs will also enable us to make important
decisions such as to add a new product by looking at its profitability; and
make or buy decisions.
Motivate the Managers: encourage the managers to design the product
which are simple to produce and cost efficient. We also need to think what
adds value to the customer. Also we can motivate the managers to sell
more of products which have high profit margin.
Justify costs: this factor is more important in the government sector. Many
organisations such as the hospitals might get reimbursements. Therefore
it’s important for them to know how that money is being spent and also so
that they can justify their costs to the government. Incentive schemes also
need justification of costs so that we can develop a plan accordingly.
Reporting purposes: majority of the figures that we see in the financial
statements are based on the full costing. We are required to evaluate
inventory as it goes on the balance sheet.
