Note on cost terms in advanced management accounting
Briefly describe the following cost
terms in advanced management accounting study
(Terms used in Chapter 2)
1.
Cost object
2.
Cost accumulation
3.
Cost assignment
4.
Cost tracing and cost allocation
5.
Direct and indirect cost classifications
6.
Cost drivers
7.
Cost management
8.
Variable cost
9.
Fixed cost
10.
Relevant range
11.
Capitalised costs
12.
Operating costs
13.
Inventoriable costs
14.
Period costs
15. Actual, normal and standard costing
16. Opportunity cost
17. Imputed cost
18. Value
19. Value chain
20. Shared value
21. Markup vs margin.
These terms form
the foundation for measuring, analysing, and managing costs for products,
services, customers, departments, and decisions.
Cost identification and assignment
1.
Cost object — Anything for which management wants a
separate cost measurement, such as a product, service, customer, project,
department, activity, or sales territory.
2.
Cost accumulation — The organised collection of cost data
through the accounting system. For example, a job-costing system accumulates
direct materials, direct labour, and overhead by individual job; a
process-costing system accumulates them by department or process.
3.
Cost assignment — The overall process of linking accumulated
costs to cost objects. It includes direct tracing where feasible and allocating
indirect/shared costs on a reasonable, consistent basis.
4.
Cost tracing and
cost allocation —
o Cost tracing assigns a cost directly to a cost object
when a clear, economically feasible link exists—for example, fabric used for a
particular garment order.
o Cost allocation assigns shared indirect costs using a chosen
allocation base, such as allocating factory power by machine-hours. The
allocation base need not perfectly cause the cost, but should be rational and
consistently applied.
5.
Direct and
indirect cost classifications —
o Direct costs can be specifically and economically traced
to a particular cost object, such as components in a product or wages on a
specific client project.
o Indirect costs support multiple cost objects and cannot be
feasibly traced to one of them; examples include factory rent, supervision, and
general utilities.
6.
Cost drivers — Factors or activities that cause, or are strongly
associated with, changes in total cost. Examples include units produced,
labour-hours, machine-hours, customer orders, deliveries, or production setups.
Cost behaviour and control
7.
Cost management — The use of cost information to plan,
control, reduce, and strategically deploy resources while maintaining required
quality and performance. It supports budgeting, performance assessment, pricing,
process improvement, and managerial decisions.
8.
Variable cost — A cost that changes in total with activity
volume, assuming other factors are constant. For example, total packaging cost
normally rises as more units are shipped; variable cost per unit is
usually constant within the relevant range.
9.
Fixed cost — A cost that remains constant in total over
a specified short-term period despite changes in activity volume, within the
relevant range. Examples include monthly factory rent and a manager’s salary.
Fixed cost per unit falls as output increases.
10.
Relevant range — The normal band of activity or output over
which assumed cost behaviour is valid. For instance, rent may remain fixed from
0 to 10,000 units of output, but producing beyond that capacity may require
extra premises and create a higher fixed-cost level.
Cost recognition
11.
Capitalised costs — Expenditures recorded initially as an asset,
rather than immediately as an expense, because they are expected to provide
future economic benefits. They are subsequently charged to expense over time,
commonly through depreciation, amortisation, or cost of goods sold. Example:
the purchase cost of production equipment.
12.
Operating costs — Recurring costs incurred in running
ordinary business operations. They commonly include selling, administrative,
distribution, maintenance, utilities, and payroll costs; whether a specific
operating cost is expensed immediately or capitalised depends on its nature and
applicable accounting rules.
13.
Inventoriable
costs — Costs attached
to goods purchased or manufactured for resale. For a manufacturer, these are
product costs: direct materials, direct labour, and manufacturing overhead.
They are recorded in inventory first and become cost of goods sold when the
goods are sold.
14.
Period costs — Costs associated with a time period rather
than with producing or acquiring inventory. They are expensed in the period
incurred—commonly selling, marketing, and administrative expenses.
15. Actual, normal and standard costing (re: a brief note)
Quick illustration
For an online
retailer, a particular customer order can be a cost object. The
merchandise purchase price and order-specific delivery charge are direct,
inventoriable costs that may be traced to that order. Warehouse rent and
the salary of a general operations manager are typically indirect costs;
they may be allocated across orders using floor space, orders processed, or
units shipped as a cost driver. Advertising expenditure is normally a period/operating
cost, expensed when incurred.
Regarding the subject of advanced management accounting, provide 2 examples of cost drivers on each of the following business functions in the value chain:
1. Research and development
2. Design of products
3. Production
4. Marketing
5. Distribution
6. Customer service.
A cost driver is a measurable
factor that causes, or is closely associated with, a change in the cost of an
activity. In advanced management accounting—particularly activity-based costing
(ABC)—the objective is to select drivers that reflect a credible
cause-and-effect relationship between the activity performed and the resources
consumed.
Cost-driver examples by value-chain function
|
Value-chain
function |
Cost
driver 1 |
Cost
driver 2 |
|
1. Research and
development |
Number of research projects
or new-product ideas investigated |
Researcher/ technical staff
hours spent on each project |
|
2. Design of
products |
Number of products,
prototypes, or variants designed |
Number of engineering/ design-change
orders |
|
3. Production |
Machine-hours used |
Number of production setups
or changeovers |
|
4. Marketing |
Number of advertisements or
campaigns run |
Advertising space/ time
purchased—for example, print-column inches, online impressions, or TV/ radio
minutes |
|
5. Distribution |
Number of deliveries or
shipments |
Delivery distance, such as
kilometres driven |
|
6. Customer
service |
Number of customer-service
requests/ calls/ tickets |
Number of complaints handled
or service/ repair hours provided |
These examples fit the normal value-chain view used in management
accounting. For instance, research effort is more plausibly driven by project
volume and specialist time than by units eventually sold; distribution cost is
often driven by delivery frequency and distance; and customer-service cost
rises with the number and complexity of customer contacts.
Why these are appropriate
The basic ABC logic is:
Cost object→ demands activities→
activities consume resources→ costs arise
A cost driver should therefore measure the activity consumption that
a product, service, customer, channel, or project creates. ABC distinguishes
this from simply allocating overhead using a broad volume measure such as
direct labour-hours or total units produced.
For example:
·
A product that requires
frequent engineering changes should absorb more product-design
cost than a standard product, even if both sell in the same quantity.
·
A customer requiring many
small, distant deliveries should be assigned more distribution cost than a
customer buying one large delivery nearby.
·
A product generating many
support calls, warranty claims, or returns may appear profitable at the
gross-margin level but be substantially less profitable once customer-service
activities are traced to it.
Important qualification
The “best” driver is context-specific. A company should select a measure
that is:
·
Causally related to the cost
being assigned.
·
Measurable reliably from
operational records.
·
Economical to collect and
maintain.
·
Difficult for managers to
manipulate.
·
Useful for management action,
not merely for accounting allocation.
For example, machine-hours may be
an appropriate production driver in a highly automated factory, whereas labour-hours may
be more appropriate in a labour-intensive operation. Likewise, an online
retailer might use number of orders, order lines, items picked, packages
shipped, return requests, and customer-chat minutes rather than traditional
production-oriented measures. The key is to model the actual activities that
consume resources, rather than assume that all overhead varies with sales
volume.
** A note on opportunity cost application; a related note on imputed cost; a related note on value.
** A note on manufactory rental expense: product cost or period cost?
** A note on a manufacturing firm income statement using absorption costing, highlighting product and period costs.
** A note on a manufacturing firm income statement using variable costing, highlighting product and period costs.
** a note on value chain.
** a note on shared value.
** a video on markup and margin.
** Also study the following Youtube
videos: video 1; video 2; a briefing on cost concepts.; a video on value chain.
A collection of perplexity notes on Accounting and Finance
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