Week 1 Chapter 3 - Cost Concepts
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What are the purposes of Costs?
- Preparation of external financial statements
- Short-term planning (e.g., budgeting, C-V-P analysis)
- Short-term decision-making (e.g., capacity use)
- Long-term decision making (e.g., capacity acquisition, normal product pricing)
- Control (feedback)
What is the Cost Classification for the purpose of preparing external financial statements?
Functional Classification - Product vs. Period Costs
What is the cost classification for the purpose of short-term planning?
- Variable, Fixed, Mixed, Semi-Fixed Costs
What is the cost classification for the purpose of short-term decision making?
Opportunity costs vs. Sunk costs vs. Incremental costs
What is the cost classification for the purpose of long-term decision making?
What is the cost classification for the purpose of control?
Controllable vs. Non-controllable costs
What are the two types of Costs in Financial Accounting?
- Product Costs - Manufacturing, Inventoriable
- Period Costs - Non-manufacturing, Operating Expenses
What is the Accounting Treatment of Product Costs as they move forward in time?
Recorded as an Asset in Inventory and when sold reported as CGS Expense
What is the Accounting Treatment of Period Costs as they move forward in time?
Period costs are expensed in the same year in which they are incurred.
What is meant by the term "cost behavior"?
It describes how a cost changes in relation to some cost driver.
What are the three considerations in classifying costs by "behavior"?
- Activity variable(s)/Cost driver(s)
- Relevant range
- Time horizon
What is a Cost Driver?
The activity variable(s) that affects the increase or decrease of a cost.
What is the Relevant Range consideration when classifying costs by "behavior"?
The typical range in which costs fluctuate.
What is the Time Horizon consideration when classifying costs by "behavior"?
- The start, end, and length of time a cost's behavior is observed.
- Longer time horizon allows more costs to be considered variable.
What are Variable Costs?
Costs that fluctuate based on changes in a cost driver.
What are Fixed Costs?
- Costs that are not affected by any independent variable(s) or cost drivers.
- Capacity-related costs
What are Semi-Variable (Mixed) Costs?
A combination of Fixed and Variable costs.
What are Semi-Fixed Costs?
- Costs that remain constant within a narrow range of activity.
- Step variable cost
What is Cost Plus Pricing?
Organizations set a price that is an increment of tits product's cost.
What is Target Costing?
A tool used to focus efforts in product and process design on developing a product that has a good profit potential in view of market requirements.
How is Variable Cost calculated?
Variable cost = Variable cost per unit of the cost driver x Cost driver units
What are Incremental Costs?
The cost of the next unit of production and is similar to the economist's notion of marginal cost.
What is a Sunk Cost?
A cost that results from a previous commitment and cannot be recovered.
What is the Sunk Cost Effect?
A maladaptive economic behavior that is manifested in greater tendency to continue an endeavor once an investment in money, effort, or time has been made.
What is a Relevant Cost?
A cost that will change as a result of some decision.
What is an Opportunity Cost?
The maximum value forgone when a course of action is chosen.
What is an Avoidable Cost?
A cost that can be avoided by undertaking some course of action.
What is a Make-Or-Buy Decision?
- Deciding whether to contract out for a product or service.
- e.g., Internal costs avoided vs. external costs incurred
What are the three types of Manufacturing Costs?
- Direct Materials
- Direct Labor
- Manufacturing Overhead
What are Direct Materials Costs?
Materials that can be traced easily to a unit of output and are of significant economic consequence to the final product.
What are Direct Labor Costs?
Labor costs that can be traced easily to the creation of a unit of output.
What are Manufacturing Overhead Costs?
All costs incurred by a manufacturing facility that are not direct materials costs or direct labor costs.
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