Costing Principles: Costs Classification

July 17th, 2006 Comments off
Share |

The fundamental principle of classification of cost depends on the purpose for which costs are required.

Cost can be classified as follows:

(1) By Nature

Based on nature of major costs like material, labour and other expenses.

Material can be sub-classified into:

Raw material, semi-finished materials, components, consumables, maintenance materials

Labour can be sub-classified into:

Maintenance, supervision, clerical and others

Other expenses can be sub-classified into:

Rent, water, electricity and depreciation

(2) By Function:

Costs are classified by function to which they relate.

They are:

Production Costs:

All costs involved in the acquiring of raw materials to the delivery of finished goods to the warehouse.

For example, production overheads, direct materials, direct labour and direct costs.

Administration Costs

All costs involved in the general administration including managing the operations of the organization

For example:

Depreciation, Electricity and Audit fee

Marketing Costs

Costs incurred in securing orders, selling, advertising, promoting, distributing of the finished products

For example:

Salesmen salaries, commission and incentives

Samples, cost of advertisement, trade fairs, warehouse rent, transport costs and others

Finance Costs

Relate to the financing the activities of the business.

For example:

Overdraft interest, fixed term loan interest and commitment fees

Research Costs

Costs incurred in seeking new or improved ideas, designs, process/methods and new products

For example:

Cost of salaries of researches personnel, laboratory maintenance and cost of feasibility

Development Costs

Costs incurred in developing new or improved ideas, methods/process or new products so that production can take place.

For example:

Cost of tests/trail runs

(4) Based on Time

Categorized into two types:

Historical or Sunk Costs:

costs that have already been incurred. For example like cost of fixed assets

Future Costs:

– costs that needs to be predetermined like standard cost.

(5) By Cost Units

A cost unit consist of material, labor and other expenses. In turn they are analysed into direct and indirect costs. Direct costs are charged directly to a cost unit whilst indirect costs relate to more than one cost unit. Unlike direct cost, indirect cost cannot be charged to a cost unit.

Example of direct costs: direct material, direct labour and direct expenses

Example of indirect costs: indirect materials, indirect labour and indirect expenses/overheads.

(6) By Controllability

Categorized into two types:

Controllable or Managed Costs:

– costs that are influenced by the decisions or actions of a manager like shut down costs -retrenchment wages

Uncontrollable Costs:

– costs that are not influenced by the decisions or actions of a manager like increased price increase of raw materials.

(7) By Normality

Costs can be categorized into:

Normal costs are those costs that management expects to incur and is within a normal range for example: loss due to evaporation


Abnormal costs are those that are not expected to recur or one that is smaller or larger than expected for example lost production due to plant breakdown.

(8) Product Or Period Costs

Product costs are costs incurred in the manufacturing of the goods.

These costs comprise all cost of production whether it is direct or indirect which can be assigned to the goods produced.

Period costs related to costs that cannot be assigned to the goods produced and are incurred during the period and are charged as that year’s expense in the profit and loss account.

(9) Relevant and Non-Relevant Costs

Refer to earlier article on relevant and non-relevant costs

(10) By Behaviour

Refer earlier article on fixed, variable , semi-variable and step costs

Comments are closed now.