Cost Accounting: Classification of Cost 02

Classification of Costs

It means the grouping of costs according to their common characteristics. The important ways
of classification of costs are:
(1) By Nature or Element
(2) By Functions
(3) By Variability or Behaviour
(4) By Controllability
(5) By Normality
(6) By Costs for Managerial Decision Making

By Nature or Element: This type of classification is useful to determine the total
cost.

By Functions: Under this classification, costs are divided according to the function for
which they have been incurred.

It includes the following:

(i) Prime Cost
(ii) Factory Cost or Works Cost
(iii) Cost of Production
(iv) Cost of Goods Sold
(v) Cost of Sales

Variability or Behaviour: According to this classification costs are classified
into three group viz., fixed, variable and semi-variable.
(a) Fixed costs – These are the costs which are incurred for a period, and which, within
certain output and turnover limits, tend to be unaffected by fluctuations in the levels of
activity (output or turnover). They do not tend to increase or decrease with the changes
in output. For example, rent, insurance of factory building etc., remain the same for
different levels of production.
(b) Variable Costs – These costs tend to vary with the volume of activity. Any increase in
the activity results in an increase in the variable cost and vice-versa. For example, cost
of direct labour, etc.

Semi-variable costs – These costs contain both fixed and variable components and are
thus partly affected by fluctuations in the level of activity. Examples of semi variable
costs are telephone bills, gas and electricity etc.

Controllability: Costs here may be classified into controllable
and uncontrollable costs.
(a) Controllable Costs: – Cost that can be controlled, typically by a cost, profit or investment
centre manager is called controllable cost. Controllable costs incurred in a particular
responsibility centre can be influenced by the action of the executive heading that
responsibility centre. For example, direct costs comprising direct labour, direct material,
direct expenses and some of the overheads are generally controllable by the shop level
management.
(b) Uncontrollable Costs – Costs which cannot be influenced by the action of a specified
member of an undertaking are known as uncontrollable costs. For example, expenditure
incurred by, say, the tool room is controllable by the foreman in-charge of that section but
the share of the tool-room expenditure which is apportioned to a machine shop is not to
be controlled by the machine shop foreman.


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