Classification of Costs

In a manufacturing concern, various costs are incurred which have different characteristics. By classifying each cost according to its nature, helps the management in making appropriate decisions in order to improve efficiency and productivity. 

On a broad scale, costs are classified into five major categories which are product cost, period cost, direct cost, indirect cost, fixed cost, variable cost, semi variable cost, sunk cost. opportunity cost, controllable cost and uncontrollable cost.

Product Cost – This refers to the cost incurred on the production of the product. It is presented over the balance sheet as an asset unless and until it is sold out. 

Period Cost – This refers to the cost incurred during the period irrespective of whether the production is being done or not such as advertisement expenses, electricity expenses and office staff salaries etc.

Direct Cost – This refers to the cost which is directly attributable to the production of the goods or products such as direct material and direct labour.

Indirect Cost – This refers to the cost which is not directly relevant to the production of the goods such as electricity of the whole factory, fuel consumption, depreciation of the plant and machinery etc.

Fixed Cost – This refers to the amount of cost which remains stable/ fixed up to certain level of production or output. For example, the fixed cost to product units up to 10,000 Kg of flour is $5,000. If the company produces 7,000 Kg, fixed cost remain the same at $5,000. It will not change by the change in the level of production level.

Variable Cost – This refers to the cost which changes with every increase in the production level. Examples are costs of direct materials, direct labours etc.

Semi-Variable Cost – This is also called the semi-fixed cost or the mixed cost and consists of some portion of fixed and some portion of the variable cost.

Sunk Cost – This refers to the cost which has incurred and as a result, this has no effect over the decision making process. It is also called retrospective cost. Decision makers ignore this cost while making any decision. For example, a market survey was conducted to analyse the customer’s needs. But when making the decision to introduce the product or not, this cost is not considered because it has already be consumed. 

Opportunity Cost – This is the value forgone of next best alternative as a result of choosing one option over the other.  

Controllable Cost – Cost which can be controlled by taking appropriate decisions such as closing office exactly at 5 P.M to ensure the electricity consumed over air conditioners and lights. 

Uncontrollable Cost – Cost which cannot be controlled and out of the reach of management such as insurance expenses because if any casualty happens to the factory workers, the company has to pay the insurance expenses for which the floor manager is not liable because he or she cannot control this type of cost.