Basic Cost Management Concepts

Basic Cost Management Concepts

1. What is a cost object? Give some examples

A cost object is any item, such as products, customers, departments, projects, and so on, for which costs are measured and assigned.

Some examples are

• A bicycle

• An individual fast food franchise

• The produce department of a grocery store

2. What is an activity? Give some examples of activities within a manufacturing firm.

An activity is an aggregation of actions within an organization useful to managers for purposes of planning, controlling, and decision making.

Some examples are

• Setting up equipment for production

• Moving materials and goods

• Purchasing parts

• Designing products

• Inspecting products

3. What is a direct cost? An indirect cost?

Indirect costs are costs that cannot be traced easily and accurately to a cost object. Direct costs are those costs that can be traced easily and accurately to a cost object.

4. What does traceability mean?

Traceability is simply the ability to assign a cost directly to a cost object in an economically feasible way by means of a causal relationship.

5. What is allocation?

Allocation is the assignment of indirect costs to cost objects.

6. What is a tangible product?

Tangible products are goods produced by converting raw materials through the use of labor and capital inputs such as plant, land, and machinery.

7. What is a service? Explain how services differ from tangible products.

Services are tasks or activities performed for a customer or an activity performed by a customer using an organization’s products or facilities.

Services differ from tangible products on three important dimensions:

• Intangibility that means the buyers of services cannot see, feel, hear, or taste a service before it is bought.

• Perishability that means that services cannot be stored.

• Inseparability that means that producers of services and buyers of services must usually be in direct contact for an exchange to take place.

8. Give three examples of product cost definitions. Why do we need different product cost definitions?

• For pricing decisions, product mix decisions, and strategic profitability analysis, all traceable costs along the value chain need to be assigned to the product.

• For strategic product design decisions and tactical profitability analysis, costs for production, marketing, and customer service are needed.

• For external financial reporting, rules and conventions mandate that only production costs be used in calculating product costs.

9. Identify the three cost elements that determine the cost of making a product (for external reporting)

• Direct materials

• Direct

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