The Meaning of Classification of Cost. (Cost Accounting)
Cost classification is the process of grouping costs according to their common characteristics. A suitable classification of costs is of vital importance in order to identify the cost with cost centres or cost units. Cost may be classified accounting to their nature, i.e., material, labor and expenses and a number of other characteristics. The same cost figures are classified according to different ways of costing depending upon the purpose to be achieved and requirements of particular concern. The important ways of classification are:
On the basis of Identity: According to this classification, the costs are divided into there categories i.e., Materials, Labor and Expenses. There can be further sub-classification of each element; for example, material into raw material components, and spare parts, consumable stores, packing material etc. This classification is important as it helps to find total cost, how such total cost is constituted and valuation of work-in-progress.
On the basis of Function: Production, Administration, Selling & Distribution are three important functions of a business concern. Taking these functions into consideration, costs have been classified by:
(a) Production or Manufacturing Cost: Manufacturing costs are those costs which are incurred in the course of manufacture. It includes cost of raw material, cost of labour, other direct cost and factory indirect cost. Example of production or manufacturing costs may be power, lighting, heating, rent, depreciation etc.
(b) Office and Administration Cost: These costs are incurred for the general administration of the enterprise. It includes office costs as well as administration cost. For example, salary of office staff, rent of office building, electricity charges, audit fee, printing and stationeries etc.
(c) Selling and Distribution Cost: It includes both selling cost as well as distribution cost. Selling costs are those costs which are incurred in connection with the selling of goods and services Distribution costs are those costs which are incurred on despatch of finished goods to the consumers. Example of selling and distribution costs are: sales men salary, packing charges, carriage, out ward, advertisement, ware house charges etc.
On the basis of Variability: The behavior of cost varies from one another as production increases, some cost remains constant or varies in direct proportion to the volume of out put, or others may vary partially. Thus on the basis of variability, costs can be classified into the following three categories.
(a) Fixed Cost / Period Cost: Fixed costs are those costs which remain fixed irrespective of the change in volume of out put. As production increases cost per unit of the fixed cost decreases and as production decreases fixed costs are, rent of the factory building depreciation, salary of the office manager etc.
(b) Variable Cost / Product Cost: Variable costs are those costs which very in direct proportion to the volume of out put. As production increases total cost increases but also per unit remains constant. As production decreases total cost decreases and cost per unit also decreases. Example of variable costs are, cost of raw materials labor etc.
(c) Semi-Variable Cost / Semi-Fixed cost: These costs are partly fixed and partly variable. Examples of variable costs are telephone rent. It includes partly fixed charge up to a certain level and then varies according to the calls.
On the basis of controllability: From the point of view of controllability, the cost has been classified in to two categories as controllable cost and uncontrollable cost.
(a) Controllable Cost: These costs are regulated or controlled by specified member of an organisation. Most of the variable costs are controllable. Generally direct material, direct labor and direct expenses are controlled by the lower level of the management.
(b) Uncontrollable Cost: These costs can not be regulated or controlled by specified member of an undertaking. Most of the fixed costs are uncontrollable. Example of uncontrollable costs are, factory rent, managers salary etc.
On the basis of normality: On this basis the costs have been classified in to two categories as.
(a) Normal cost: It is the cost which is normally incurred at a given level of out put. These costs are part of cost production.
(b) Abnormal cost: It is the cost which is not normally incurred at a given level of out put. These costs are not charged to the cost of production. It is transferred to the costing profit and loss account.
On the basis of Time: On this basis the costs have been classified as
(a) Historical Cost: These costs are ascertained after they have been incurred such costs are available only when the production of a particular thing has already been done.
(b) Pre-determined Cost: Pre-determined costs are estimated costs which are set in advance on a scientific way. It becomes standard cost and compared with the actual for adopting controlling measures.