This document defines various cost terminology and classifications. It discusses the definitions of costs, stages of determining costs, and how costs are classified based on factors like time of incurrence, reaction to activity level, balance sheet presentation, impact on decision making, and relation to products and accounting periods. Key cost categories include direct and indirect costs, fixed and variable costs, product and period costs, and different types of inventories for merchandising and manufacturing companies.

1. Costs and Cost
Terminology

2. Definitions of cost:
• Cost – a resource sacrificed or foregone
to achieve a specific objective
• Cost (such as direct materials or
advertising) is usually measured as the
monetary amount that must be paid to
acquire goods or services
• Actual cost – the cost incurred (historical)
• Budgeted cost – a predicted or future
cost

3. Stages of determining the cost of
various cost objects:
• Cost object – anything for which cost
measurement is desired. This maybe a
product, service, project, an activity, or a
program.
• Cost accumulation – the collection of
cost data in some organized way by
means of an accounting system
• Assignment of accumulated costs to
designated cost objects

4. Cost Classification Categories
• As to time of incurrence –
a. Historical cost - resource sacrificed or
foregone
b. Budgeted cost – planned or predetermined
amount
c. Replacement cost – the amount of cash
required to replace the same product or
service at present

5. Cost Classification Categories
• Cost based on reaction to activity level
– Fixed cost – does not change in direct
relation to change in volume within the
relevant range (specified range of activity
over which a variable cost remains constant
per unit or fixed cost remains fixed in total)
– Variable cost – changes in direct proportion
to change in volume
– Semi-variable/semi-fixed – cost which is
fixed up to a certain point, beyond this point,
it becomes variable

6. Cost Classification Categories
• Based on FS presentation
– Expired costs – costs for which benefits
have been received and therefore shown in
the income statement as expenses (salaries,
supplies, transportation, etc.)
– Unexpired costs – constitute prepayments
and are shown as assets in the balance
sheet as prepaid expenses (prepaid rent,
prepaid insurance, etc.)

7. Cost Classification Categories
• With respect to impact on decision-making
– Relevant cost – quantitative or qualitative
that is pertinent to a specific problem or
decision
– Out-of-pocket cost – amount paid for a
particular product or service or activity
– Sunk cost (historical cost) – cost incurred
in the past and is not relevant to any future
courses of action
– Quality cost – cost associated with
conforming to standards.

8. Cost Classification Categories
• Cost in relation to a product (operating
costs)
a. Manufacturing costs
- Indirect materials – not easily traceable to a
product
- Indirect labor – wages paid to factory
helpers, supervisors, timekeepers
b. Commercial expenses – selling and
administrative expenses such as
advertising, sales commissions, and other
general expenses

9. Cost Classification Categories
• Costs in relation to accounting period
– Capital expenditures – relate to the use of
resources for future benefits (i.e. major
repairs of building, purchase of equipment)
– Revenue expenditures – benefit only the
current period and therefore recorded as
expenses

10. Cost Classification Categories
• Direct materials – materials that can easily
be identified with or seen in the finished
product (i.e. wood for furniture, leather for
shoes, textile for clothes).
• Direct labor – wages paid to factory workers
who have direct hand in the conversion of
raw materials to finished goods.
• Factory overhead – constitutes all the other
manufacturing costs aside from direct
materials and direct labor.

11. Cost Classification Categories
• Product cost – the sum of the costs
assigned to an item
– For a merchandising firm
PC = invoice price - discounts,returns +
transport cost
- For a manufacturing firm
PC = materials + labor + factory overhead

12. Types of Inventories
• For merchandising company
– Merchandise Inventory – represents unsold
merchandise at the end of the accounting period
• For manufacturing company
– Direct materials inventory – direct materials in stock
and awaiting use in the manufacturing process
(ex. Computer chips and components for cell phones
– Work-in-process Inventory – goods partially worked
on but not yet completed
– Finished goods inventory – goods completed but
not yet sold