B-SCHOOL
•
COST ACCOUNTING
Classification of Cost
on the Basis of Cost Object
Understanding Direct and Indirect Costs
[ Student Name 1 ]
COST CLASSIFICATION
[ Student Name 2 ]
[ Student Name 3 ]
[ Student Name 4 ]
01 / 06
Classification Based on Cost Object
The classification depends on whether a cost can be conveniently traced to a specific cost object.
COST
YES
NO
Can it be conveniently traced
to a specific cost object?
DIRECT
COST
INDIRECT
COST
Direct Cost
Conveniently traceable to a specific cost
object.
Indirect Cost
Cannot be conveniently or economically
traced to one specific cost object —
needs allocation.
COST CLASSIFICATION
03 / 06
Indirect Cost — Shared Across Cost Objects
Definition: A cost that cannot be conveniently or economically traced to one specific cost object.
Factory Rent
Factory Electricity
Supervisor's Salary
Machinery Depreciation
FACTORY
Electricity supports the ENTIRE factory
Product A
Product B
Product C
Difficult to assign directly to just one product → allocated across A, B and C.
INDIRECT COST → requires allocation
COST CLASSIFICATION
05 / 06
Direct Cost — Directly Traceable
Definition: A cost that can be conveniently traced to a particular cost object.
DIRECT MATERIAL
Wood used to make the table
EXAMPLE: A WOODEN TABLE
Wood
↳ Material
DIRECT LABOUR
Wages of the worker who builds the table
Worker Wages
↳ Labour
Special Expense
DIRECT EXPENSE
↳ Expense
A special expense incurred only for that table
All three costs go directly into that one table.
Key idea: If we can conveniently identify the cost with the cost object, it is a direct cost.
COST CLASSIFICATION
04 / 06
Direct vs Indirect Cost
DIRECT COST
INDIRECT COST
Conveniently traceable
Not conveniently traceable
Clearly associated with a particular cost object
Shared among multiple cost objects
Usually does not require allocation
Requires allocation
Example: Raw material for a specific product
Example: Factory rent
Can we conveniently trace it? YES → DIRECT COST
NO → INDIRECT COST
Thank You
COST CLASSIFICATION
06 / 06
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