These are the expenses that are channelized into different segments like retail, wholesale, internet. Revenues from each of the channels come after deducting the cost from sales.
These are the costs a company gets involved in to maintain its reputation and after-sale service for the customers. This cost includes returns, warranties, or customer service. This information pertaining to the individual consumers is then evaluated by the company to increase profitability Profitability Profitability refers to a company's ability to generate revenue and maximize profit above its expenditure and operational costs.
It aids investors in analyzing the company's performance. Expenses related to individual departments are assigned to respective departmental managers, which is then used to analyze the performance of the manager and develop trend analysis Trend Analysis Trend analysis is an analysis of the company's trend by comparing its financial statements to analyze the market trend or analysis of the future based on past performance results, and it is an attempt to make the best decisions based on the results of the analysis done.
Now since we have seen the categories of the cost classification briefly, let us examine the basis on which the costs are segregated:. As the category itself suggests that this is the expense to be recorded in the way the company bears it, and for the purpose, it is used for, some major categories can be material and labor.
For instance, raw material costs and all other costs related to the procurement of the raw material will fall under Material charges. Similarly, salary and wages will belong to labor costs Labor Costs Cost of labor is the remuneration paid in the form of wages and salaries to the employees.
The allowances are sub-divided broadly into two categories- direct labor involved in the manufacturing process and indirect labor pertaining to all other processes.
Here the costs are divided as they are allocated to different functions in the company, like Production costs, Commercial costs, Administration Costs, Distribution Costs Distribution Costs Distribution cost is the total of all expenses incurred by the producer to make possible the delivery of the product from its location to the location of the end customer. All the categories include the costs pertaining to their nature of occurrence throughout the whole production cycle.
It is an amount that is displayed as an expense classification in bookkeeping records. Classification of cost in economics is the classification of cost based on various factors which are discussed below. The following will be the types of cost classification. This classification of cost is based on the nature of the expenditure, which are the three broad categories as per this, namely Labor Cost, Materials Cost and Expenses.
This cost makes it easier to classify them on a cost sheet. They help in estimating the total cost and also to estimate the work-in-progress cost. Material Costs:. These are the costs of any materials that are used in the production of goods.
This is further divided into further costs. For instance, we can classify material costs into spare parts, raw material cost, packaging material cost etc.
Labour Costs:. These costs are as follows:. Marginal cost refers to the increase in total cost that results from an increase in output by one unit. Marginal cost is denoted by variable cost, and it consists of direct material cost, direct labor cost, direct expenses, and variable overheads.
Sunk Costs: Sunk costs refer to costs that have already been incurred and cannot be changed by a future decision. These costs become irrelevant costs for later decisions.
Out-of-pocket Costs: These costs represent the present or future case expenditure regarding decisions, which vary based on the nature of the decision. Management decisions are directly affected by such costs because they give rise to cash expenditure.
For example, consider a firm that has its own fleet for transporting raw materials and finished goods from one place to another. It seeks to replace these vehicles by employing public carriers. In making this decision, the depreciation of the vehicles is not to be considered but the management must take into account the present expenditure on fuel, maintenance, and driver salaries.
Such costs are treated as out-of-pocket costs. Opportunity Costs : The opportunity cost of a product or service is measured in terms of revenue that could have been earned by applying the resources to some other use. Opportunity cost can be defined as the cost of foregoing the best alternative. Thus, the opportunity cost of yarn produced by a composite spinning and weaving mill, which is used in the weaving section, would be the price that could have been obtained by selling the yarn in the market.
Imputed Costs : Imputed costs are costs that are not included in costs but are considered for making management decisions. These costs are hypothetical in character.
For example, interest on capital, though not actually payable, must often be included to judge the relative profitability of two products involving unequal outlays of cash. Differential Costs : Differential costs refer to the difference in total costs between two alternatives. When choosing an alternative increases total costs, such increased costs are known as incremental costs.
On the other hand, if the choice results in a decrease in total costs, such decreased costs are called decremental costs. Shut-down Costs: Shut-down costs are costs that will still be incurred when a plant is shut down temporarily. Sometimes, the normal operations of a business must be suspended temporarily due to unfavorable market conditions, strikes, or other forces.
Examples of shut-down costs include rent for factory premises, salaries of top management, and so on. Postponable Costs: These are the costs that can be postponed or shifted to the future with little or no effect on the efficiency of current operations.
These costs are postponable but not avoidable and must be incurred at a later stage. In manufacturing, economic crises can also be averted by postponing certain costs. This strategy was used during the depression period. Replacement Cost: Replacement cost is the cost of replacing an asset in the current market or at the current price. Thus, the replacement cost of an asset is the cost that would be incurred if the asset were purchased at the current market price and not at the original purchase price.
Abandonment Costs: Abandonment refers to the complete retirement or withdrawal of a fixed asset from service or use. Fixed assets are abandoned when they are no longer serviceable. Abandonment cost refers to the cost incurred in abandoning a fixed asset i. It is also known as abandonment loss.
Research Cost: This refers to the cost of searching for new or improved products, new applications of materials, or new or improved methods of production. Pre-production Cost: This refers to the part of the overall development cost that is incurred in making a trial production run before beginning formal production.
Conversion Cost : This refers to the costs incurred to convert raw materials into finished goods, and it consists of direct labor cost, direct expenses, and factory overhead.
True contributes to his own finance dictionary, Finance Strategists, and has spoken to various financial communities such as the CFA Institute , as well as university students like his Alma mater, Biola University , where he received a bachelor of science in business and data analytics. To learn more about True, visit his personal website , view his author profile on Amazon , his interview on CBS , or check out his speaker profile on the CFA Institute website. God bless you and rewards you abundantly.
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