Questions and Answers
What are the four main purposes for different cost classifications?
Which of the following are the three major types of businesses?
What is a cost object?
Anything for which cost data are desired, including products, customers, jobs, and organizational subunits.
Costs are classified into direct and indirect costs.
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What is a direct cost?
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What is an indirect cost?
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What must be true for a cost to be considered a direct cost?
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Common costs can be traced to individual cost objects.
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Does the identity of the cost object impact the classification of a cost as direct or indirect?
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What does product cost include?
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What are the three broad categories of product costs for manufacturing companies?
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What is direct material?
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What defines indirect materials?
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What constitutes fixed costs?
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What is opportunity cost?
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Which of the following methods are used for analyzing cost behavior?
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Study Notes
Cost Classifications and Their Purposes
- Cost classifications serve four primary purposes: preparing external financial reports, predicting cost behavior, assigning costs to cost objects, and decision making.
Types of Businesses
- Service companies provide services without inventory.
- Merchandise companies buy and resell inventory.
- Manufacturing companies convert raw materials into finished products.
Cost Object Definition
- A cost object is any item for which cost data is required, such as products, customers, or organizational subunits.
Cost Classification
- Costs can be classified as Direct or Indirect based on whether they can be easily traced to a cost object.
Direct and Indirect Costs
- Direct costs are easily traced to a specific cost object, like sales commissions or materials used.
- Indirect costs cannot be easily traced, including HR costs and general facility rent.
Direct Cost Rule
- A cost is classified as direct if it is caused by the cost object.
Common Costs
- Indirect costs supporting multiple cost objects, which cannot be traced to a single object.
Impact on Cost Classification
- The identity of the cost object influences whether a cost is direct or indirect and must be identified for accurate classification.
Product Cost Overview
- Product costs encompass all expenses associated with purchasing or manufacturing inventory, differing from operating expenses.
Three Product Cost Categories
- Manufacturing costs consist of Direct Material, Direct Labor, and Manufacturing Overhead.
Direct Material and Labor
- Direct material includes raw materials integral to the product. Direct labor refers to labor costs easily traced to individual product units.
Manufacturing Overhead Components
- Manufacturing overhead includes all manufacturing costs not classified as direct materials or labor, including indirect materials and labor.
Indirect Costs Explained
- Indirect materials are minor components not worth tracking individually; indirect labor includes supervisory and maintenance costs.
Treatment of Costs
- Product costs are assigned to inventory upon incurrence and expensed as Cost of Goods Sold (COGS) when sold.
- Period costs are expensed in the period incurred and include operating expenses not related to manufacturing.
Cost Classification for Predictions
- Important terms are Cost Structure (relationship of variable vs. fixed costs), Cost Behavior (how costs react to activity changes), Activity Base (causes variable costs to change), and Relevant Range (operating range for cost behavior assumptions).
Variable and Fixed Costs
- Variable costs change directly with activity levels, while fixed costs remain constant regardless of activity changes.
Cost Characteristics
- Variable costs vary in total with activity, but fixed costs remain total, with cost per unit changing inversely with activity.
Committed vs. Discretionary Fixed Costs
- Committed fixed costs are long-term investments, while discretionary fixed costs arise from annual management decisions and can be adjusted more easily.
Mixed Costs Explained
- Mixed costs have both variable and fixed components and are also known as semi-variable costs.
Cost Behavior Analysis Methods
- The four methods for analyzing cost behavior are Account Analysis, Scattergraph Method, High-Low Method, and Least-Squares Regression Method.
Traditional vs. Contribution Margin Approaches
- The traditional approach separates product costs from selling/admin expenses but doesn't distinguish between variable and fixed costs.
- The contribution margin approach categorizes costs into fixed and variable, helping in internal planning and decision making.
Cost Classifications for Decision Making
- Differential cost and revenues represent changes between options, opportunity cost refers to foregone benefits, and sunk cost describes costs already incurred and irrelevant for future decisions.
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Description
This quiz explores various cost classifications and their purposes in different types of businesses. It covers direct and indirect costs, cost objects, and the implications of these classifications for financial reporting and decision making. Test your understanding of how costs impact different business models.
