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What is Cost Assignment?

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Cost assignment.

Cost assignment is the process of associating costs with cost objects, such as products, services, departments, or projects. It encompasses the identification, measurement, and allocation of both direct and indirect costs to ensure a comprehensive understanding of the resources consumed by various cost objects within an organization. Cost assignment is a crucial aspect of cost accounting and management accounting, as it helps organizations make informed decisions about pricing, resource allocation, budgeting, and performance evaluation.

There are two main components of cost assignment:

• Direct cost assignment: Direct costs are those costs that can be specifically traced or identified with a particular cost object. Examples of direct costs include direct materials, such as raw materials used in manufacturing a product, and direct labor, such as the wages paid to workers directly involved in producing a product or providing a service. Direct cost assignment involves linking these costs directly to the relevant cost objects, typically through invoices, timesheets, or other documentation.
• Indirect cost assignment (Cost allocation): Indirect costs, also known as overhead or shared costs, are those costs that cannot be directly traced to a specific cost object or are not economically feasible to trace directly. Examples of indirect costs include rent, utilities, depreciation, insurance, and administrative expenses. Since indirect costs cannot be assigned directly to cost objects, organizations use various cost allocation methods to distribute these costs in a systematic and rational manner. Some common cost allocation methods include direct allocation, step-down allocation, reciprocal allocation, and activity-based costing (ABC).

In summary, cost assignment is the process of associating both direct and indirect costs with cost objects, such as products, services, departments, or projects. It plays a critical role in cost accounting and management accounting by providing organizations with the necessary information to make informed decisions about pricing, resource allocation, budgeting, and performance evaluation.

Example of Cost Assignment

Let’s consider an example of cost assignment at a bakery called “BreadHeaven” that produces two types of bread: white bread and whole wheat bread.

BreadHeaven incurs various direct and indirect costs to produce the bread. Here’s how the company would assign these costs to the two types of bread:

• Direct cost assignment:

Direct costs can be specifically traced to each type of bread. In this case, the direct costs include:

• Direct materials: BreadHeaven purchases flour, yeast, salt, and other ingredients required to make the bread. The cost of these ingredients can be directly traced to each type of bread.
• Direct labor: BreadHeaven employs bakers who are directly involved in making the bread. The wages paid to these bakers can be directly traced to each type of bread based on the time spent working on each bread type.

For example, if BreadHeaven spent $2,000 on direct materials and $1,500 on direct labor for white bread, and $3,000 on direct materials and $2,500 on direct labor for whole wheat bread, these costs would be directly assigned to each bread type.

• Indirect cost assignment (Cost allocation):

Indirect costs, such as rent, utilities, equipment maintenance, and administrative expenses, cannot be directly traced to each type of bread. BreadHeaven uses a cost allocation method to assign these costs to the two types of bread.

Suppose the total indirect costs for the month are $6,000. BreadHeaven decides to use the number of loaves produced as the allocation base , as it believes that indirect costs are driven by the production volume. During the month, the bakery produces 3,000 loaves of white bread and 2,000 loaves of whole wheat bread, totaling 5,000 loaves.

The allocation rate per loaf is:

Allocation Rate = Total Indirect Costs / Total Loaves Allocation Rate = $6,000 / 5,000 loaves = $1.20 per loaf

BreadHeaven allocates the indirect costs to each type of bread using the allocation rate and the number of loaves produced:

• White bread: 3,000 loaves × $1.20 per loaf = $3,600
• Whole wheat bread: 2,000 loaves × $1.20 per loaf = $2,400

After completing the cost assignment, BreadHeaven can determine the total costs for each type of bread:

• White bread: $2,000 (direct materials) + $1,500 (direct labor) + $3,600 (indirect costs) = $7,100
• Whole wheat bread: $3,000 (direct materials) + $2,500 (direct labor) + $2,400 (indirect costs) = $7,900

By assigning both direct and indirect costs to each type of bread, BreadHeaven gains a better understanding of the full cost of producing each bread type, which can inform pricing decisions, resource allocation, and performance evaluation.

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The Comprehensive Guide to Cost Allocation in Accounting

Accounting is a fascinating field, and cost allocation is one of the most important concepts in accounting. Whether you’re an accounting student or an accountant just starting out, it’s important to understand how to allocate costs.

In this comprehensive guide, we’ll cover everything from what it means to its pros and cons. 

How Can Costs Be Allocated Among Departments or Product Lines When There Is No Clear Source?

Allocation is distributing costs among different departments or product lines in an organization. Trying to accurately estimate the cost of producing a good or rendering a service is a common challenge for many businesses.

This is especially true when there is no apparent source of the costs, as it requires the use of various techniques and methods to distribute the expenses fairly and reasonably.

What Is the Concept of Allocation?

Allocation (also known as “cost allocation”) is a process used to distribute the costs of a shared resource or expense among different departments, product lines, or activities within an organization.

This process is necessary to accurately determine the cost of producing a product, providing a service, or running a business. Allocation allows firms to identify the expenses incurred by each department or product line and helps make informed decisions about allocating resources.

The allocation concept has existed for centuries and is a fundamental part of modern accounting and financial management. The cost allocation process involves assigning costs to specific departments or product lines based on objective criteria, such as resource use or the benefit received from the expense.

The objective criteria used in the allocation process may vary depending on the type of business, but the goal is always to distribute the costs fairly and reasonably.

One of the main challenges of allocation is that many expenses cannot be traced directly to a specific department or product line. For example, the cost of electricity used to run a manufacturing plant cannot be directly traced to one particular product line.

In such cases, the cost of electricity must be allocated to different departments or product lines based on objective criteria, such as the number of hours each department uses the electricity or the production output of each product line.

There are different methods of allocation, each with its strengths and weaknesses. Some of the most common ways include direct allocation, step-down allocation, sequential allocation, and activity-based allocation. Each mode uses a different approach to allocating costs, but the goal is always to ensure that the costs are distributed fairly and reasonably.

What Doesn’t the Term Allocation Mean?

The term allocation” is commonly used in various contexts, such as finance, economics, project management, and resource management. However, it’s essential to understand that allocation ” doesn’t mean “equal distribution” or “uniform distribution” of resources.

Allocation refers to assigning a portion of resources, such as time, money, or labor, to specific tasks or activities. The goal of allocation is to optimize the use of resources to achieve the desired outcomes.

One of the most common misunderstandings about allocation is that it means dividing resources equally among tasks or activities. However, this is only sometimes the case. Resources are often not distributed evenly because different tasks or activities have different requirements and priorities.

For example, in project management, some jobs may require more time, money, or labor than others. In such cases, the project manager must allocate more resources to these critical tasks to ensure the project’s success.

Another misunderstanding about allocation is that it means distributing resources inflexibly and rigidly. Allocation is a flexible process that can be adjusted based on priorities or changes in resource availability. For example, in a business setting, the budget allocation may change based on market conditions or changes in customer demand. In these situations, the business must be able to reallocate its resources to respond to these changes.

The allocation also doesn’t mean that the resources are assigned once and never adjusted. Allocation is an ongoing process requiring constant monitoring and adjustments to ensure that resources are used optimally.

For example, in finance, the allocation of investments must be reviewed regularly to ensure that the portfolio is aligned with the investor’s goals and objectives.

Another misconception about allocation is that it only applies to tangible resources, such as money or equipment. However, allocation also applies to intangible resources like time and labor. These intangible resources are often more critical and limited than tangible ones. For example, allocating time is crucial in project management to ensure that projects are completed on time and within budget.

As you can see, allocation is a complex and flexible process that requires careful consideration of multiple factors, such as resource availability, priorities, and goals. It’s essential to understand that allocation doesn’t mean equal distribution or limited distribution of resources.

Instead, it’s a dynamic process that requires ongoing monitoring and adjustments to ensure the optimal use of resources. By avoiding common misconceptions about allocation, individuals and organizations can more effectively allocate their resources and achieve their desired outcomes.

Where the Term Allocation Originated From?

The word “allocation” comes from the Latin word “allocare.” The word allocation ” refers to setting aside or assigning a particular portion, amount, or portion of something for a specific purpose or recipient.

The allocation comes from the Latin prefix ad- (meaning “to”) and the noun loci (meaning “place”). The combination of these two words implies the idea of assigning a place, or portion of something, for a specific purpose.

In finance and economics, “allocation” refers to distributing resources, such as money, to different projects or initiatives based on their perceived importance and likelihood of success.

The allocation concept is ancient and can be traced back to the earliest civilizations, where resources were allocated based on the community’s needs. In early societies, central planning or direct control by the ruling class were common methods of allocation.

However, with the advent of market-based economies, the allocation has become more decentralized and is now primarily done through the market mechanism of supply and demand.

In modern economies, allocation is crucial in ensuring that resources are used efficiently and effectively. For example, in capital allocation, investors allocate their funds to different projects and businesses based on the perceived potential return on investment. This helps direct investment toward the most promising and profitable opportunities, thereby increasing the economy’s overall efficiency.

Similarly, prices play a crucial role in allocating goods and services in directing resources to where they are most needed. In a market economy, the interaction of supply and demand determines prices. When demand for a particular good or service is high, the price will increase, directing more resources toward its production. On the other hand, when demand is low, the price will decrease, reducing the allocation of resources to its production.

Government policies and regulations can also have an impact on allocation in addition to the market mechanism. For example, the government may allocate resources to specific sectors through funding or subsidies, such as education or healthcare.

Similarly, government regulations and taxes can also impact the allocation of resources by affecting the incentives for businesses and individuals to allocate their resources in a particular way.

How Allocation Relates to Accounting?

In accounting, allocation determines the cost of producing a product or providing a service. This information is then used to create accurate financial statements and make informed decisions about allocating resources in the future.

For example, a company may allocate resources to a new product line based on the expected revenue it will generate or distribute costs to specific departments based on their usage of resources.

The allocation also plays a crucial role in cost accounting . Cost accounting involves analyzing the cost of production, including direct and indirect costs, and using this information to make decisions about pricing and resource allocation.

By accurately allocating costs, a company can determine the actual cost of production and make informed decisions about pricing , production volume, and resource allocation.

In addition, allocation is used to allocate the costs of long-term assets, such as property, plant, and equipment. This is done through the process of depreciation, which is a systematic allocation of the cost of an asset over its useful life. Depreciation is used to determine the value of an investment for financial reporting purposes and the amount of tax that a company must pay.

Finally, allocation is also used in the budgeting process. In budgeting, an organization allocates resources to various departments and activities based on their priorities and goals. By accurately allocating resources, a company can ensure that it has enough resources to meet its goals and objectives while staying within its budget.

3 Examples of Allocation Being Used in Accounting Practice

Example #1 of allocation being used in accounting practice.

Allocating the Cost of Goods Sold In accounting, “cost of goods sold” (COGS) refers to the direct costs associated with producing a product or providing a service. These costs include the raw materials, labor, and overhead expenses incurred to produce the goods. COGS is crucial in determining a company’s gross profit because it represents the cost of producing and selling a product.

One example of allocation in accounting practice is when a company allocates the cost of goods sold to each product. This is done to understand the cost of producing each product and identify the most profitable products. 

The allocation process involves dividing the total COGS by the number of units sold to arrive at an average cost per unit. This average cost per unit is then applied to each unit of product sold to determine the COGS for that specific product.

This allocation process is vital because it allows the company to accurately determine the cost of producing each product. This information is then used to make informed business decisions such as pricing strategies, production decisions, and cost control measures. 

For example, suppose a company realizes that the cost of producing one product is much higher than the cost of producing another. In that case, it may choose to discontinue the higher-cost product or find ways to reduce the cost of production.

Example #2 of Allocation Being Used in Accounting Practice

One example of allocation in accounting practice is allocating indirect costs to different departments or products within a company. Indirect costs, such as rent, utilities, and office supplies, cannot be directly traced to a specific product or department. These costs must be allocated among different departments or products to calculate the cost of each accurately.

For example, consider a manufacturing company with three departments: production, research and development, and administration. The company has a total indirect cost of $100,000 for the year, which includes rent, utilities, and office supplies.

The company might determine the proportion of space each department uses to allocate these costs. If production uses 40% of the total space, R&D uses 30%, and administration uses 30%, the company would allocate 40% of the indirect costs to production, 30% to R&D, and 30% to administration.

Next, the company might allocate indirect costs based on the number of employees in each department. If production has 20 employees, R&D has 15, and administration has 10, the company would allocate indirect costs based on the ratio of employees in each department.

In this example, production would receive 40% of the indirect costs, R&D would receive 30%, and administration would receive 30%.

Finally, the company might allocate indirect costs based on the number of products produced in each department. If production produces 1000 products, R&D produces 500, and administration produces none, the company would allocate indirect costs based on the ratio of products produced in each department.

In this example, production would receive 67% of the indirect costs, R&D would receive 25%, and administration would receive 8%.

Example #3 of Allocation Being Used in Accounting Practice

Suppose a manufacturing company produces two products: Product A and Product B. To determine the cost of each product, the company must allocate the factory overhead costs, including utilities, rent, maintenance, and supplies, among other expenses. The overhead costs must be assigned to each product based on the proportion of total machine hours used to produce each product.

For example, if the company uses 60% of the total machine hours to produce Product A and 40% to produce Product B, then 60% of the factory overhead costs would be allocated to Product A and 40% to Product B. The company would then use the allocated overhead costs and the direct costs of material and labor to calculate the total cost of each product.

The allocation of overhead costs to each product is critical for the company to accurately determine the cost of goods sold and price its products competitively. The company can use an allocation method to ensure a fair and accurate picture of the costs of producing each product.

How to Do Cost Allocation in Simple Steps?

Cost allocation can be complex, but it doesn’t have to be. Here are five simple steps for cost allocation:

Step 1: Identify the Costs That Need to Be Allocated

The first step in cost allocation is identifying the costs that need to be allocated. This includes both direct and indirect costs. Direct costs can be easily traced to specific products or services, while indirect costs, such as rent and utilities, cannot.

Step 2: Choose the Appropriate Method of Cost Allocation

Once you have identified the costs that need to be allocated, the next step is to choose the appropriate cost allocation method. The most common methods include direct cost allocation, step-down allocation, sequential allocation, and activity-based costing. The method chosen will depend on the nature of the costs and the objectives of the cost allocation process.

Step 3: Determine the Allocation Base

The allocation base is the basis on which the costs will be allocated. This can be the number of units produced, the number of employees, or any other relevant factor that can be used to determine the cost of goods or services.

Step 4: Allocate the Costs

Once you have determined the allocation base, the next step is to allocate the costs. This can be done by dividing the total cost by the number of units, employees, or another relevant factor and multiplying this by the number of units, employees, or another relevant factor for each product, service, or department.

Step 5: Review and Adjust the Cost Allocation

Once the costs have been allocated, the final step is to review and adjust the cost allocation as necessary. This may involve reallocating costs based on new information or changes in the business.

Which Industries Can Cost Allocation Be Applied?

With the proper guidance, cost allocation can be applied to almost any industry. It’s all about the data you have and how you use it.

Let’s take a look at some of the industries that could benefit from cost allocation:

The healthcare industry is one of the most expensive in the world. It is also one of the most heavily regulated. These factors make cost allocation a necessity for many healthcare providers.

Healthcare organizations have many different costs, but the most significant sources are labor and supplies. Labor costs can be very high in this industry because it requires highly skilled people to perform various tasks, including surgery, patient care, and patient education. Supplies like bandages and IV bags are also expensive because they have to be sterile and meet regulatory requirements.

A hospital’s supply department has much control over its budget, but it also has little control over what happens in other departments, such as surgery or patient care. This makes it difficult to allocate costs accurately when they don’t know how much they will spend on supplies or how many patients they’ll see each year.

Cost allocation helps solve these problems by allowing managers to see which departments are consuming the most resources. They can adjust accordingly without guessing what’s happening behind closed doors (or behind locked doors).

Manufacturing

The manufacturing industry is one of the most common places where cost allocation can be applied. In this industry, it is crucial to know how much it costs to make each product and how much it costs to produce goods (including materials and labor) for sale.

With this information, manufacturers can determine how much they need to charge for their products to cover all of their expenses, including overhead costs like rent or electricity bills.

Cost allocation can also help manufacturers determine which products are more profitable than others so that they can focus on those areas instead of wasting time and money on less popular lines of goods. For example, suppose a company produces clothing and electronics but finds its clothing line more popular among consumers than its electronics line.

In that case, it may want to stop producing electronics altogether because there would need to be more demand for these products for them to make any money off of them.

This is an industry that benefits from cost allocation. Energy companies have long been able to allocate costs to different projects and branches, but they often face challenges when assigning overhead expenses. That’s because overhead costs are shared among the company’s functions, making them difficult to track.

Cost allocation software can help energy companies assign overhead expenses in a way that makes sense for each project or branch. The software also allows them to better understand where their money is going and gives them more flexibility in budgeting and forecasting future expenses.

Retailers are a great example of an industry that can benefit from cost allocation.

Retailers are often sold on the idea of one-stop shopping: you go to a store and buy everything you need, from clothing to food to furniture. But in reality, there are many different types of retailers, such as grocery stores, department stores, clothing stores, etc. And each has its own distinct set of costs for running that type of business. So how do these retailers know how much each product line contributes to their overall profits? They use cost allocation.

Cost allocation is a technique for allocating overhead costs across product lines based on their relative importance to the company’s overall performance. This way, retailers can determine which products contribute most (or least) to their bottom line and make decisions accordingly.

Information Technology

Information technology (IT) is one of the most significant cost allocation areas. IT costs are often divided into two categories: direct costs and indirect costs. The former refers to those costs that can be directly attributed to a particular project or product, while the latter refers to those costs that cannot be directly attributed.

Cost allocation in IT has many benefits. It helps managers determine how much it costs to develop a new product or service and where inefficiencies lie in their IT departments.

It also allows them to understand better how much revenue they’re generating from each product or service line, which will help them make better decisions about future investments in the company’s infrastructure.

Construction

This is one of the most apparent industries to apply cost allocation. Construction projects are often massive and complex, with many different stakeholders involved in the planning, execution, and completion of a project. It’s common for construction projects to have hundreds or thousands of contracts with hundreds or thousands of different suppliers.

Cost allocation helps ensure that those involved in the project are paid what they’re owed without overpaying anyone else who participated. It’s also used to ensure that a company only spends a little money on a project by ensuring that every expense is only charged once.

Transportation

This is the industry that can benefit the most from cost allocation.

Transportation has many parts that must work in unison to transport goods or passengers. It can be difficult to determine which part of a vehicle’s operation should be allocated to specific parts, and it usually requires a lot of math.

Cost allocation can make it easier for companies in this industry to understand which parts are costing them more than they expected so that they can make changes accordingly.

Food and Beverage

Food and beverage companies can benefit significantly from cost allocation. These companies are typically comprised of many different departments that must be managed to ensure the entire business runs smoothly. Each department has specific costs that it incurs, so allocating those costs among all of the departments will help you understand where your money is going and how it can be used most effectively.

Cost allocation is also helpful when dealing with food or beverage products because it allows you to track the costs associated with each product line and make sure you profit on every product line. This way, you know what kinds of products are selling well, which ones aren’t selling as well, and how much money each product line has made for your company.

Real Estate

This is one of the most common industries to use cost allocation methods. Real estate developers often create multiple project phases, which must be accounted for separately. The costs of these phases are usually allocated to determine how much profit (or loss) will be made in each phase.

This lets developers decide which phases should be completed first and what incentives may be offered to convince buyers to purchase units from those phases.

Utilities are another excellent example of an industry where cost allocation can be used.

They must deal with various costs, including purchasing raw materials, paying for labor, and buying equipment. The type of utility and the sector it operates in determine the cost of each of these. For example, a water utility may have very high costs for purchasing raw materials but low costs for labor and employee benefits because they only need a few employees or benefit packages.

Cost allocation can help utilities determine how much money they should spend on each part of their business so that they’re not overspending on one part while underinvesting in another.

Pros of Cost Allocation

Cost allocation is a common business practice. Companies use it to help determine the profitability of individual products, services, and departments within a company. Here are the pros of cost allocation:

Improved Decision Making

Cost allocation helps businesses make informed decisions by accurately determining the cost of goods or services. Companies can make informed decisions on pricing, production, and marketing strategies with a better understanding of the costs associated with producing a product or offering a service.

Better Resource Allocation

Cost allocation helps businesses to determine the costs associated with different departments, products, or services. This information can then be used to allocate resources more efficiently and allocate more resources to more profitable areas.

Increased Profitability

By allocating costs accurately, businesses can identify less profitable areas and make changes to improve profitability. This could involve reducing costs, improving efficiency, or adjusting pricing.

Better Budget Planning

Cost allocation helps businesses to create more accurate budgets. Companies can plan their budgets more effectively as they understand the costs associated with each product, service, or department.

Improved Internal Control

Cost allocation helps businesses to maintain better internal control over their operations. By allocating costs accurately, companies can track expenses and identify improvement areas. This helps to prevent fraud and embezzlement and increases accountability within the company.

Better Understanding of Overhead Costs

Overhead costs can be challenging to understand and allocate accurately. Cost allocation helps businesses to understand these costs better and allocate them to the proper departments or products. This allows companies to make informed decisions on pricing and production.

Improved Cost Reporting

Cost allocation helps businesses to produce more accurate cost reports. This allows companies to make informed pricing, production, and marketing strategies decisions. Cost reports are also essential for tax purposes and to meet regulatory requirements.

Better Negotiations

Cost allocation helps businesses to understand their costs better, which can be used in negotiations with suppliers and customers. Companies can better understand costs and negotiate better prices, terms, and conditions with suppliers and customers. This helps businesses to maintain better relationships and increase profitability.

Cons of Cost Allocation

Cost allocation can be an excellent tool for helping you understand where your money is going and how to save it, but this method has some drawbacks.

Time-Consuming Process

Cost allocation can be time-consuming and requires significant effort from various departments within the company. This can divert resources from other important tasks and may slow down other processes.

Increased Complexity

Cost allocation can be complex, especially for large organizations with multiple departments and products. This complexity can result in errors and misunderstandings, negatively impacting the accuracy of cost reports and other important financial information.

Implementing a cost allocation system can be expensive and require a significant investment in technology, software, and training. This cost can be a barrier for smaller organizations or those with limited resources.

Unreliable Data

Cost allocation is only as accurate as the data used in the process. Poor quality data, errors in data entry, and outdated data can all result in inaccurate cost reports and inefficient resource allocation.

Resistance to Change

Some employees may resist implementing a cost allocation system, especially if they feel the process may negatively impact their department or lead to job loss.

Limited Flexibility

Cost allocation systems are often rigid and lack the flexibility to adapt to changes in business conditions. This can result in inefficiencies and limit the ability of the company to respond to new opportunities or challenges.

Potential for Misallocation

If not implemented correctly, cost allocation can misallocate costs, negatively impacting decision-making and profitability.

Dependence on Cost Allocation

Overreliance on cost allocation can lead to a lack of creativity and initiative within departments. Employees may become too focused on cost allocation and need to be more focused on driving innovation and growth for the company. This can limit the ability of the company to adapt to changing market conditions.

Frequently Asked Questions- Cost Allocation in Accounting

What are the main objectives of cost allocation.

The main objectives of cost allocation are to accurately determine the cost of goods or services, improve resource allocation, increase profitability, create more accurate budgets, improve internal control, and provide better cost reporting.

What Is Direct Cost Allocation?

Direct cost allocation refers to assigning costs directly to specific products or services. This method is used when the costs can be easily traced to specific business areas.

What Is Step-Down Allocation?

Step-down allocation refers to allocating costs from one department to another department or product. This method is used when costs cannot be directly traced to specific products or services.

What Is Sequential Allocation?

Sequential allocation refers to allocating costs based on the sequence in which they are incurred. This method is used when costs cannot be directly traced to specific products or services.

What Is Activity-Based Costing?

Activity-based costing refers to allocating costs based on the activities involved in producing a product or offering a service. This method is used when multiple activities are involved in creating a product or service.

Why Is Cost Allocation Important for Businesses?

Cost allocation is essential for businesses as it helps them understand the costs associated with each business area and make informed pricing, production, and resource allocation decisions. This leads to improved profitability and better resource allocation.

How Does Cost Allocation Impact Resource Allocation?

Cost allocation helps companies determine the costs associated with each department, product, or service, which are used to allocate resources more efficiently. By allocating resources based on accurate cost

How Does Cost Allocation Impact Pricing Decisions?

Cost allocation helps companies understand the costs associated with each product or service used to make informed pricing decisions. By accurately determining the cost of goods or services, companies can ensure that their pricing is based on a solid understanding of the costs involved.

The Comprehensive Guide to Cost Allocation in Accounting – Conclusion

Allocation of costs is a critical component of any business. By allocating costs, you can ensure that your company makes the best use of its resources and operates efficiently.

The ability to allocate costs allows you to make strategic decisions about your business’s operations and management and take appropriate actions regarding financial reporting.

The Comprehensive Guide to Cost Allocation in Accounting – Recommended Reading

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Module 5: Job Order Costing

Introduction to accumulating and assigning costs, what you will learn to do: assign costs to jobs.

Financial and managerial accountants record costs of production in an account called Work in Process. The total of these direct materials, direct labor, and factory overhead costs equal the cost of producing the item.

In order to understand the accounting process, here is a quick review of how financial accountants record transactions:

Let’s take as simple an example as possible. Jackie Ma has decided to make high-end custom skateboards. She starts her business on July 1 by filing the proper forms with the state and then opening a checking account in the name of her new business, MaBoards. She transfers $150,000 from her retirement account into the business account and records it in a journal as follows:

For purposes of this ongoing example, we’ll ignore pennies and dollar signs, and we’ll also ignore selling, general, and administrative costs.

After Jackie writes the journal entry, she posts it to a ledger that currently has only two accounts: Checking Account, and Owner’s Capital.

Debits are entries on the left side of the account, and credits are entries on the right side.

Here is a quick review of debits and credits:

You can view the transcript for “Colin Dodds – Debit Credit Theory (Accounting Rap Song)” here (opens in new window) .

Also, this system of debits and credits is based on the following accounting equation:

Assets = Liabilities + Equity.

• Assets are resources that the company owns
• Liabilities are debts
• Equity is the amount of assets left over after all debts are paid

Let’s look at one more initial transaction before we dive into recording and accumulating direct costs such as materials and labor.

Jackie finds the perfect building for her new business; an old woodworking shop that has most of the equipment she will need. She writes a check from her new business account in the amount of $2,500 for July rent. Because she took managerial accounting in college, she determines this to be an indirect product expense, so she records it as Factory Overhead following a three-step process:

• Analyze transaction

Because her entire facility is devoted to production, she determines that the rent expense is factory overhead.

2. Journalize transaction using debits and credits

If she is using QuickBooks ® or other accounting software, when she enters the transaction into the system, the software will create the journal entry. In any case, whether she does it by hand or computer, the entry will look much like this:

3. Post to the ledger

Again, her computer software will post the journal entry to the ledger, but we will follow this example using a visual system accountants call T-accounts. The T-account is an abbreviated ledger. Click here to view a more detailed example of a ledger .

Jackie posts her journal entry to the ledger (T-accounts here).

She now has three accounts: Checking Account, Owner’s Capital, and Factory Overhead, and the company ledger looks like this:

In a retail business, rent, salaries, insurance, and other operating costs are categorized into accounts classified as expenses. In a manufacturing business, some costs are classified as product costs while others are classified as period costs (selling, general, and administrative).

We’ll treat factory overhead as an expense for now, which is ultimately a sub-category of Owner’s Equity, so our accounting equation now looks like this:

Assets = Liabilities + Owner’s Equity

147,500 = 150,000 – 2,500

Notice that debits offset credits and vice versa. The balance in the checking account is the original deposit of $150,000, less the check written for $2,500. Once the check clears, if Jackie checks her account online, she’ll see that her ledger balance and the balance the bank reports will be the same.

Here is a summary of the rules of debits and credits:

Assets = increased by a debit, decreased by a credit

Liabilities = increased by a credit, decreased by a debit

Owner’s Equity = increased by a credit, decreased by a debit

Revenues increase owner’s equity, therefore an individual revenue account is increased by a credit, decreased by a debit

Expenses decrease owner’s equity, therefore an individual expense account is increased by a debit, decreased by a credit

Here’s Colin Dodds’s Accounting Rap Song again to help you remember the rules of debits and credits:

Let’s continue to explore job costing now by using this accounting system to assign and accumulate direct and indirect costs for each project.

When you are done with this section, you will be able to:

• Record direct materials and direct labor for a job
• Record allocated manufacturing overhead
• Prepare a job cost record

Learning Activities

The learning activities for this section include the following:

• Reading: Direct Costs
• Self Check: Direct Costs
• Reading: Allocated Overhead
• Self Check: Allocated Overhead
• Reading: Subsidiary Ledgers and Records
• Self Check: Subsidiary Ledgers and Records
• Introduction to Accumulating and Assigning Costs. Authored by : Joseph Cooke. Provided by : Lumen Learning. License : CC BY: Attribution
• Colin Dodds - Debit Credit Theory (Accounting Rap Song). Authored by : Mr. Colin Dodds. Located at : https://youtu.be/j71Kmxv7smk . License : All Rights Reserved . License Terms : Standard YouTube License
• What the General Ledger Can Tell You About Your Business. Authored by : Mary Girsch-Bock. Located at : https://www.fool.com/the-blueprint/general-ledger/ . License : All Rights Reserved . License Terms : Standard YouTube License

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What Is Cost Allocation?

Cost allocation is a process businesses use to identify costs. Here's everything you need to know.

Table of Contents

Entrepreneurs, small business owners and managers need accurate, timely financial data to run their operations. Specifically, understanding and connecting costs to items or departments helps them create budgets, develop strategies and make the best business decisions for their organizations. This is where cost allocation comes in. Detailed cost allocation reports help businesses ensure they’re charging enough to cover expenses and make a profit. 

While a detailed cost allocation report may not be vital for extremely small businesses, more complex businesses require cost allocation to optimize profitability and productivity.

What is cost allocation?

Cost allocation is the process of identifying and assigning costs to business objects, such as products, projects, departments or individual company branches. Business owners use cost allocation to calculate profitability. Costs are separated or allocated, into different categories based on the business area they impact. These amounts are then used in accounting reports . 

For example, say you’re a small clothing manufacturer. Your product line’s cost allocation would include materials, shipping and labor costs. It would also include a portion of the operation’s overhead costs. Calculating these costs consistently helps business leaders determine if profits from sales are higher than the costs of producing the product line. If not, it can help the owner pinpoint where to raise prices or cut expenses .

For a larger company, cost allocation is applied to each department or business location . Many companies also use cost allocation to determine annual bonuses for each area.

Types of costs

If you’re starting a business , the cost allocation process is relatively straightforward. However, larger businesses have many more costs that can be divided into two primary categories: direct and indirect costs:

• Purchased inventory
• Materials used to make inventory
• Direct labor costs for employees who make inventory
• Payroll for those who work in operations
• Manufacturing overhead, including rent, insurance and utilities costs
• Other overhead costs, including expenses that support the company but aren’t directly related to production, such as marketing and human resources

What is a cost driver?

A cost driver is a variable that affects business costs, such as the number of invoices issued, employee hours worked or units of electricity used. Unlike cost objects, such as units produced or departments, a cost driver reflects the reason for the incurred cost amounts. 

How to allocate costs

While cost objects vary by business type, the cost allocation process is the same regardless of what your company produces. Here are the steps involved.

1. Identify your business’s cost objects.

Determine the cost objects to which you want to allocate costs, such as units of production, number of employees or departments. Remember that anything within your business that generates an expense is a cost object. Review each product line, project and department to ensure you’ve gathered all cost objects for which you must allocate costs.

2. Create a cost pool.

Next, create a detailed list of all business costs. Categories should cover utilities, business insurance policies, rent and any other expenses your business incurs.

3. Choose the best cost allocation method for your needs.

After identifying your business’s cost objects and creating a cost pool, you must choose a cost allocation method. Several methods exist, including the following standard ones: 

• Direct materials cost method: This cost allocation method assumes all products have the same allocation base and variable rate.
• Direct labor cost method: This cost allocation method is most helpful if labor costs can be allocated to one product or if expenses vary directly with labor costs.
• High/low method. This cost allocation method is best if you have more than one cost driver and each driver has different fixed or variable rates.
• Step-up or step-down method: With this cost allocation method, departments are first ranked and then the cost of services is allocated from one service department to another in a series of steps. 
• Full absorption costing (FAC): This cost allocation method combines direct material and direct labor costs with a predetermined FAC rate based on company historical data or industry standards.
• Variable costing: Consider this cost allocation method if your business has many variable cost allocations (costs that vary by quantity) and uses significant direct labor.

4. Allocate costs.

Now that you’ve listed cost objects, created a cost pool and chosen a cost allocation method, you’re ready to allocate costs. 

Here’s a cost allocation example to help you visualize the process: 

Dave owns a business that manufactures eyeglasses. In January, Dave’s overhead costs totaled $5,000. In the same month, he produced 3,000 eyeglasses with $2 in direct labor per product. Direct materials for each pair of eyeglasses totaled $5. Here’s what cost allocation would look like for Dave: Direct costs: $5 direct materials + $2 direct labor = $7 direct costs per pair Indirect costs: Overhead allocation: $5,000 ÷ 3,000 pairs = $1.66 overhead costs per pair Direct costs: $7 per pair + Indirect costs: $1.66 per pair Total cost: $8.66 per pair

As you can see, cost allocation helps Dave determine how much he must charge wholesale for each pair of eyeglasses to make a profit. Larger companies would apply this same process to each department and product to ensure sufficient sales goals.

5. Review and adjust cost allocations.

Cost allocations are never static. To be meaningful, they must be monitored and adjusted constantly as circumstances change.

What are the benefits of cost allocation?

Accurate, regular cost allocation can bring your business the following benefits: 

• Helps you run your business: The information you glean from cost allocation reports helps you perform vital functions like preparing income tax returns and creating financial reports for investors, creditors and regulators. 
• Informs business decisions: Cost allocation is an excellent business decision tool that can help you monitor productivity and justify expenses. Cost allocation gives a detailed overview of how your business expenses are used. From this perspective, you can determine which products and services are profitable and which departments are most productive. 
• Helps produce accurate business reports: Tax accounting, financial accounting and management accounting all require some kind of cost allocation. This information is the foundation of accurate business reports. 
• Can reveal accurate production costs: Knowing what it costs to create a product, including all expenses allocated to it, is essential to making good pricing decisions and allocating resources efficiently.
• Helps you evaluate staff: Cost allocation can help you assess the performance of different departments and staff members. If a department is not profitable, staff productivity may need improvement. 

Common cost allocation mistakes

To get the most from cost allocation, avoid these common mistakes:

• Equal or inflexible allocation : Cost allocation is not as simple as allocating any given cost over different product lines or departments. Some cost objects require more time, expense or labor than others, for example.
• Missing costs: Costing is meaningless if it doesn’t include all expenses. Don’t forget costs, such as overhead, time spent and intangible expenses.
• Failing to adjust as needed: Costs and priorities in business are changing constantly. Be sure your cost allocations are monitored and adjusted to meet your information needs.
• Not considering fluctuating revenue with indirect costs: If your business is seasonal or fluctuates over time, it’s important to account for that when allocating costs. 

Cost allocation and your business

Even if you operate a very small business, it’s essential to properly allocate your expenses. Otherwise, you could make all-too-common mistakes, such as charging too little for your product or spending too much on overhead. Whether you choose to start allocating costs on your own with software or with the help of a professional small business accountant , cost allocation is a process no business owner can afford to overlook.

Dachondra Cason contributed to this article. 

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• Cost Classifications
• Relevant Cost of Material
• Manufacturing Overhead Costs
• Conversion Costs
• Quality Costs
• Revenue Expenditure
• Product Cost vs Period Cost
• Direct Costs and Indirect Costs
• Prime Costs and Conversion Costs
• Relevant vs Irrelevant Costs
• Avoidable and Unavoidable Costs
• Cost Allocation
• Joint Products
• Accounting for Joint Costs
• Service Department Cost Allocation
• Repeated Distribution Method
• Simultaneous Equation Method
• Specific Order of Closing Method
• Direct Allocation Method

Cost allocation is the process by which the indirect costs are distributed among different cost objects such as a project, a department, a branch, a customer, etc. It involves identifying the cost object, identifying and accumulating the costs that are incurred and assigning them to the cost object on some reasonable basis.

Cost allocation is important for both pricing and planning and control decisions. If costs are not accurately calculated, a business might never know which products are making money and which ones are losing money. If cost are mis-allocated, a business may be charging wrong price to its customers and/or it might be wasting resources on products that are wrongly categorized as profitable.

Cost allocation is a sub-process of cost assignment , which is the overall process of finding total cost of a cost object. Cost assignment involves both cost tracing and cost allocation. Cost tracing encompasses finding direct costs of a cost object while the cost allocation is concerned with indirect cost charge.

Steps in cost allocation process

Typical cost allocation mechanism involves:

• Identifying the object to which the costs have to be assigned,
• Accumulating the costs in different pools,
• Identifying the most appropriate basis/method for allocating the cost.

Cost object

A cost object is an item for which a business need to separately estimate cost.

Examples of cost object include a branch, a product line, a service line, a customer, a department, a brand, a project, etc.

A cost pool is the account head in which costs are accumulated for further assignment to cost objects.

Examples of cost pools include factory rent, insurance, machine maintenance cost, factory fuel, etc. Selection of cost pool depends on the cost allocation base used. For example if a company uses just one allocation base say direct labor hours, it might use a broad cost pool such as fixed manufacturing overheads. However, if it uses more specific cost allocation bases, for example labor hours, machine hours, etc. it might define narrower cost pools.

Cost driver

A cost driver is any variable that ‘drives’ some cost. If increase or decrease in a variable causes an increase or decrease is a cost that variable is a cost driver for that cost.

Examples of cost driver include:

• Number of payments processed can be a good cost driver for salaries of Accounts Payable section of accounting department,
• Number of purchase orders can be a good cost driver for cost of purchasing department,
• Number of invoices sent can be a good cost driver for cost of billing department,
• Number of units shipped can be a good cost driver for cost of distribution department, etc.

While direct costs are easily traced to cost objects, indirect costs are allocated using some systematic approach.

Cost allocation base

Cost allocation base is the variable that is used for allocating/assigning costs in different cost pools to different cost objects. A good cost allocation base is something which is an appropriate cost driver for a particular cost pool.

T2F is a university café owned an operated by a student. While it has plans for expansion it currently offers two products: (a) tea & coffee and (b) shakes. It employs 2 people: Mr. A, who looks after tea & coffee and Mr. B who prepares and serves shakes & desserts.

Its costs for the first quarter are as follows:

Total tea and coffee sales and shakes sales were $50,000 & $60,000 respectively. Number of customers who ordered tea or coffee were 10,000 while those ordering shakes were 8,000.

The owner is interested in finding out which product performed better.

Salaries of Mr. A & B and direct materials consumed are direct costs which do not need any allocation. They are traced directly to the products. The rest of the costs are indirect costs and need some basis for allocation.

Cost objects in this situation are the products: hot beverages (i.e. tea & coffee) & shakes. Cost pools include rent, electricity, music, internet and wi-fi subscription and magazines.

Appropriate cost drivers for the indirect costs are as follows:

Since number of customers is a good cost driver for almost all the costs, the costs can be accumulated together to form one cost pool called manufacturing overheads. This would simply the cost allocation.

Total manufacturing overheads for the first quarter are $19,700. Total number of customers who ordered either product are 18,000. This gives us a cost allocation base of $1.1 per customer ($19,700/18,000).

A detailed cost assignment is as follows:

Manufacturing overheads allocated to Tea & Cofee = $1.1×10,000

Manufacturing overheads allocated to Shakes = $1.1×8,000

by Irfanullah Jan, ACCA and last modified on Jul 22, 2020

Related Topics

• Cost Behavior

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Cost Assignment

Cost assignment is the process of allocating or attributing costs to specific cost objects or activities. It involves identifying and assigning costs to various cost drivers, such as products, services, projects, departments, or customers, in order to determine the total cost associated with each.

Explanation:

In the world of finance, cost assignment plays a crucial role in accurately determining and understanding the financial impact of various activities within an organization. By allocating costs to specific cost objects or activities, businesses can assess the profitability and efficiency of different operations, make informed decisions, and evaluate performance.

Cost assignment involves a systematic and methodical approach, ensuring that costs are distributed fairly and reasonably according to their drivers. This process aids in providing a clearer financial picture, allowing managers and stakeholders to evaluate the value and return on investment of each cost object.

Methods of Cost Assignment:

1. direct cost assignment:.

This method involves directly assigning costs that can be easily traced to a specific cost object or activity. For example, direct labor costs in the manufacturing of a product are allocated directly to that particular product.

2. Indirect Cost Assignment:

Indirect costs, also known as overhead costs, are costs that cannot be directly associated with a specific cost object. To allocate indirect costs, various techniques are employed, such as activity-based costing (ABC) or cost allocation based on usage, time, or percentage. Indirect costs may include expenses related to rent, utilities, administrative salaries, or maintenance.

3. Step-Down Cost Assignment:

Step-down cost assignment is utilized when multiple cost objects share common resources or services. In this method, costs are allocated in a sequential manner. For example, in a shared administrative department, the costs may be assigned to different cost objects based on the proportion of resource utilization.

4. Reciprocal Cost Assignment:

Reciprocal cost assignment is used when multiple cost objects mutually benefit from each other’s resources or services. This method requires complex calculations to determine the interdependence of cost objects and to simultaneously allocate costs to all relevant objects.

Importance and Applications of Cost Assignment:

Accurate cost assignment provides several benefits to organizations, including:

1. Cost Control and Decision-making:

By assigning costs to specific cost objects, businesses can identify areas of excessive or inefficient spending. This information enables managers to make informed decisions regarding cost control, pricing strategies, product profitability assessment, and resource allocation.

2. Performance Evaluation:

Cost assignment helps evaluate the performance and efficiency of different departments, projects, or product lines. By allocating costs accurately, organizations can compare actual performance against budgeted targets, identify areas for improvement, and measure cost effectiveness.

3. Regulatory Compliance and Reporting:

Accurate cost assignment is crucial for complying with financial reporting standards, such as the Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS). Proper allocation of costs ensures transparency and integrity in financial statements, providing stakeholders with reliable information for decision-making.

In conclusion, cost assignment is the process of allocating costs to specific cost objects or activities within an organization. It is a fundamental aspect of financial management, enabling businesses to evaluate profitability, make informed decisions, and assess performance. By employing various methods of cost assignment, organizations can obtain a comprehensive understanding of the financial implications of their operations, ultimately contributing to improved efficiency and profitability.

Main Content

Lesson 1a: cost concepts, cost assignment.

Cost assignment is a general term indicating the process of putting costs incurred into cost objects. Now, how do we assign costs? In general, there are two ways we do it: we either (1) trace the cost, or (2) allocate the cost.

Cost Tracing

Cost tracing is the placement of a cost that belongs to only one cost object into that cost object. To the extent that you can trace costs, determining cost is easy. The costs that can be traced are called direct costs, and they are covered in another presentation.

Cost Allocation

Cost allocation is the placement of a cost that belongs to two or more cost objects into those cost objects, which we will do extensively in future lessons. The costs that cannot be traced and, therefore, must be allocated are called indirect costs, and they are covered in another presentation.

Cost allocation involves a numerator and a denominator. The numerator is always money, while the denominator is always some measure of activity. The result of the division is always the amount of the numerator for every one of the denominators.

For example, your manufacturing overhead is $1,000,000 and you produce 100,000 units of a product. For the product cost object, the allocation would be $1,000,000/100,000 = $10 of manufacturing overhead per unit produced.

Product cost object allocation = $ activity

Product cost object allocation =   $ 1 , 000 , 000 manufacturing overhead 100 , 000 units produced = $ 10   of manufacturing overhead per unit produced

Here is an extremely important point about cost allocations that people do not always realize. Numbers look  very precise, so if someone says that the product cost for making a particular part is $17.33, people tend to think of that as gospel; but a lot of cost allocations went into that $17.33. If you change how cost allocations are done, it might be $16.05 or $18.10, and these other amounts might be just as correct, that is just as defensible. So, what is the point?

The point is that there is more than one logically defensible way to allocate the same costs to the cost objects. And if there is more than one logically defensible way to allocate the cost, then there is more than one right answer. From the standpoint of an independent observer, the choice between multiple right answers is arbitrary. So, accountants say that all cost allocations are arbitrary.

A simple example is depreciation methods. One company might allocate depreciation of its machinery based on a ten-year life with no salvage value. Another might allocate depreciation on the same equipment based on 1,000,000 units of output. A third organization might allocate it based on a nine-year life with a 10% salvage value. Each time you change how you calculate depreciation or change any of the depreciation assumptions, you will get a different amount of depreciation allocated to each unit of product produced. Which cost per unit is correct? Well, they're all correct as long as your assumptions are reasonable. Notice that your assumptions need to be reasonable. You cannot simply say, "Ah, well, if all cost allocations are all right, I'm just going to use a 10,000-year life for my equipment." Of course, that's not reasonable.

Saying all cost allocations are arbitrary does not mean they are unnecessary. People need a reasonable estimate of cost in order to make decisions. But you want to remember that no matter how precise your costs look when you hand them to people, the number is not the  right answer. In fact, if someone says, "The true cost is...", they are misspeaking, because there is no one true cost. At best, all you can reasonably say it that some cost calculations are more accurate than others for the particular decision to be made.

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What Is Cost Accounting?

Understanding cost accounting.

• Cost vs. Financial Accounting
• Cost Accounting FAQs

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Cost Accounting: Definition and Types With Examples

Yarilet Perez is an experienced multimedia journalist and fact-checker with a Master of Science in Journalism. She has worked in multiple cities covering breaking news, politics, education, and more. Her expertise is in personal finance and investing, and real estate.

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Cost accounting is a form of managerial accounting that aims to capture a company's total cost of production by assessing the variable costs of each step of production as well as fixed costs, such as a lease expense.

Cost accounting is not GAAP-compliant , and can only be used for internal purposes.

Key Takeaways

• Cost accounting is used internally by management in order to make fully informed business decisions.
• Unlike financial accounting, which provides information to external financial statement users, cost accounting is not required to adhere to set standards and can be flexible to meet the particular needs of management.
• As such, cost accounting cannot be used on official financial statements and is not GAAP-compliant.
• Cost accounting considers all input costs associated with production, including both variable and fixed costs.
• Types of cost accounting include standard costing, activity-based costing, lean accounting, and marginal costing.

Investopedia / Theresa Chiechi

Cost accounting is used by a company's internal management team to identify all variable and fixed costs associated with the production process. It will first measure and record these costs individually, then compare input costs to output results to aid in measuring financial performance and making future business decisions. There are many types of costs involved in cost accounting , each performing its own function for the accountant.

Types of Costs

• Fixed costs are costs that don't vary depending on the level of production. These are usually things like the mortgage or lease payment on a building or a piece of equipment that is depreciated at a fixed monthly rate. An increase or decrease in production levels would cause no change in these costs.
• Variable costs are costs tied to a company's level of production. For example, a floral shop ramping up its floral arrangement inventory for Valentine's Day will incur higher costs when it purchases an increased number of flowers from the local nursery or garden center.
• Operating costs are costs associated with the day-to-day operations of a business. These costs can be either fixed or variable depending on the unique situation.
• Direct costs are costs specifically related to producing a product. If a coffee roaster spends five hours roasting coffee, the direct costs of the finished product include the labor hours of the roaster and the cost of the coffee beans.
• Indirect costs are costs that cannot be directly linked to a product. In the coffee roaster example, the energy cost to heat the roaster would be indirect because it is inexact and difficult to trace to individual products.

Cost Accounting vs. Financial Accounting

While cost accounting is often used by management within a company to aid in decision-making, financial accounting is what outside investors or creditors typically see. Financial accounting presents a company's financial position and performance to external sources through financial statements , which include information about its revenues , expenses , assets , and liabilities . Cost accounting can be most beneficial as a tool for management in budgeting and in setting up cost-control programs, which can improve net margins for the company in the future.

One key difference between cost accounting and financial accounting is that, while in financial accounting the cost is classified depending on the type of transaction, cost accounting classifies costs according to the information needs of the management. Cost accounting, because it is used as an internal tool by management, does not have to meet any specific standard such as  generally accepted accounting principles (GAAP) and, as a result, varies in use from company to company or department to department.

Cost-accounting methods are typically not useful for figuring out tax liabilities, which means that cost accounting cannot provide a complete analysis of a company's true costs. 

Types of Cost Accounting

Standard costing.

Standard costing assigns "standard" costs, rather than actual costs, to its cost of goods sold (COGS) and inventory. The standard costs are based on the efficient use of labor and materials to produce the good or service under standard operating conditions, and they are essentially the budgeted amount. Even though standard costs are assigned to the goods, the company still has to pay actual costs. Assessing the difference between the standard (efficient) cost and the actual cost incurred is called variance analysis.

If the variance analysis determines that actual costs are higher than expected, the variance is unfavorable. If it determines the actual costs are lower than expected, the variance is favorable. Two factors can contribute to a favorable or unfavorable variance. There is the cost of the input, such as the cost of labor and materials. This is considered to be a rate variance.

Additionally, there is the efficiency or quantity of the input used. This is considered to be a volume variance. If, for example, XYZ company expected to produce 400 widgets in a period but ended up producing 500 widgets, the cost of materials would be higher due to the total quantity produced.

Activity-Based Costing

Activity-based costing (ABC) identifies overhead costs from each department and assigns them to specific cost objects, such as goods or services. The ABC system of cost accounting is based on activities, which refer to any event, unit of work, or task with a specific goal, such as setting up machines for production, designing products, distributing finished goods, or operating machines. These activities are also considered to be cost drivers , and they are the measures used as the basis for allocating overhead costs .

Traditionally, overhead costs are assigned based on one generic measure, such as machine hours. Under ABC, an activity analysis is performed where appropriate measures are identified as the cost drivers. As a result, ABC tends to be much more accurate and helpful when it comes to managers reviewing the cost and profitability of their company's specific services or products.

For example, cost accountants using ABC might pass out a survey to production-line employees who will then account for the amount of time they spend on different tasks. The costs of these specific activities are only assigned to the goods or services that used the activity. This gives management a better idea of where exactly the time and money are being spent.

To illustrate this, assume a company produces both trinkets and widgets. The trinkets are very labor-intensive and require quite a bit of hands-on effort from the production staff. The production of widgets is automated, and it mostly consists of putting the raw material in a machine and waiting many hours for the finished good. It would not make sense to use machine hours to allocate overhead to both items because the trinkets hardly used any machine hours. Under ABC, the trinkets are assigned more overhead related to labor and the widgets are assigned more overhead related to machine use.

Lean Accounting

The main goal of lean accounting is to improve financial management practices within an organization. Lean accounting is an extension of the philosophy of lean manufacturing and production, which has the stated intention of minimizing waste while optimizing productivity. For example, if an accounting department is able to cut down on wasted time, employees can focus that saved time more productively on value-added tasks.

When using lean accounting, traditional costing methods are replaced by value-based pricing  and lean-focused performance measurements. Financial decision-making is based on the impact on the company's total value stream profitability. Value streams are the profit centers of a company, which is any branch or division that directly adds to its bottom-line profitability.

Marginal Costing

Marginal costing (sometimes called cost-volume-profit analysis ) is the impact on the cost of a product by adding one additional unit into production. It is useful for short-term economic decisions. Marginal costing can help management identify the impact of varying levels of costs and volume on operating profit. This type of analysis can be used by management to gain insight into potentially profitable new products, sales prices to establish for existing products, and the impact of marketing campaigns.

The  break-even point —which is the production level where total revenue for a product equals total expense —is calculated as the total fixed costs of a company divided by its contribution margin. The contribution margin , calculated as the sales revenue minus variable costs, can also be calculated on a per-unit basis in order to determine the extent to which a specific product contributes to the overall profit of the company.

History of Cost Accounting

Scholars believe that cost accounting was first developed during the  industrial revolution  when the emerging economics of industrial supply and demand forced manufacturers to start tracking their fixed and variable expenses in order to optimize their production processes.

Cost accounting allowed railroad and steel companies to control costs and become more efficient. By the beginning of the 20th century, cost accounting had become a widely covered topic in the literature on business management.

How Does Cost Accounting Differ From Traditional Accounting Methods?

In contrast to general accounting or financial accounting, the cost-accounting method is an internally focused, firm-specific system used to implement  cost controls . Cost accounting can be much more flexible and specific, particularly when it comes to the subdivision of costs and inventory valuation. Cost-accounting methods and techniques will vary from firm to firm and can become quite complex.

Why Is Cost Accounting Used?

Cost accounting is helpful because it can identify where a company is spending its money, how much it earns, and where money is being lost. Cost accounting aims to report, analyze, and lead to the improvement of internal cost controls and efficiency. Even though companies cannot use cost-accounting figures in their financial statements or for tax purposes, they are crucial for internal controls.

Which Types of Costs Go Into Cost Accounting?

These will vary from industry to industry and firm to firm, however certain cost categories will typically be included (some of which may overlap), such as direct costs, indirect costs, variable costs, fixed costs, and operating costs.

What Are Some Advantages of Cost Accounting?

Since cost-accounting methods are developed by and tailored to a specific firm, they are highly customizable and adaptable. Managers appreciate cost accounting because it can be adapted, tinkered with, and implemented according to the changing needs of the business. Unlike the  Financial Accounting Standards Board (FASB)-driven financial accounting, cost accounting need only concern itself with insider eyes and internal purposes. Management can analyze information based on criteria that it specifically values, which guides how prices are set, resources are distributed, capital is raised, and risks are assumed.

What Are Some Drawbacks of Cost Accounting?

Cost-accounting systems ,and the techniques that are used with them, can have a high start-up cost to develop and implement. Training accounting staff and managers on esoteric and often complex systems takes time and effort, and mistakes may be made early on. Higher-skilled  accountants  and  auditors  are likely to charge more for their services when evaluating a cost-accounting system than a standardized one like GAAP.

Cost accounting is an informal set of flexible tools that a company's managers can use to estimate how well the business is running. Cost accounting looks to assess the different costs of a business and how they impact operations, costs, efficiency, and profits. Individually assessing a company's cost structure allows management to improve the way it runs its business and therefore improve the value of the firm. These are meant to be internal metrics and figures only. Since they are not GAAP-compliant, cost accounting cannot be used for a company's audited financial statements released to the public.

Fleischman, Richard K., and Thomas N. Tyson. "The Economic History Review: Cost Accounting During the Industrial Revolution: The Present State of Historical Knowledge." Economic History Review , vol. 46, no. 3, 1993, pp. 503-517.

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COST ASSIGNMENT Definition

COST ASSIGNMENT involves assigning costs of an account to the accounts that are responsible or accountable for incurring the cost. For example, the cost of issuing purchase orders is allocated to the various objects procured. The cost assignment is done through assignment paths and cost drivers. The assignment path identifies the source account (the account whose cost is being assigned "Issue Purchase Orders" in the above example) and destination accounts (the accounts to which the costs are being allocated the various cost objects procured by issuing purchase orders in the above example). The cost driver identifies the measure or rationale on the basis of which the assignment needs to be done, that is, whether the costs of issuing purchase orders need to be assigned to various cost objects evenly, based on some defined percentage values, or based on some criterion, like the number of purchase orders of each cost object issued. Defining the cost drivers and assignment paths (i.e., source and destination accounts) enable proper assignment and accounting of the various costs incurred in the organization.

Learn new Accounting Terms

BUSINESS ENTITY PRINCIPLE is where the business is seen as an entity separate from its owner(s) that keeps and presents financial records and prepares the final accounts and financial statements. The accounting is kept for each entity as a whole (groups of companies must present consolidated accounts and consolidated financial statements).

KIP is a currency of Laos.

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Trump Has Been Convicted. Here’s What Happens Next.

Donald J. Trump has promised to appeal, but he may face limits on his ability to travel and to vote as he campaigns for the White House.

• Share full article

By Jesse McKinley and Maggie Astor

• May 30, 2024

The conviction of former President Donald J. Trump on Thursday is just the latest step in his legal odyssey in New York’s court system. The judge, Juan M. Merchan, set Mr. Trump’s sentencing for July 11, at which point he could be sentenced to as much as four years behind bars, or to probation.

It won’t stop him from running for president, though: There is no legal prohibition on felons doing that . No constitutional provision would stop him even from serving as president from a prison cell, though in practice that would trigger a crisis that courts would almost certainly have to resolve.

His ability to vote — for himself, presumably — depends on whether he is sentenced to prison. Florida, where he is registered, requires felons convicted there to complete their full sentence, including parole or probation, before regaining voting rights. But when Floridians are convicted in another state, Florida defers to the laws of that state, and New York disenfranchises felons only while they are in prison.

The Trump Manhattan Criminal Verdict, Count By Count

Former President Donald J. Trump faced 34 felony charges of falsifying business records, related to the reimbursement of hush money paid to the porn star Stormy Daniels in order to cover up a sex scandal around the 2016 presidential election.

“Because Florida recognizes voting rights restoration in the state of conviction, and because New York’s law states that those with a felony conviction do not lose their right to vote unless they are incarcerated during the election, then Trump will not lose his right to vote in this case unless he is in prison on Election Day,” said Blair Bowie, a lawyer at the Campaign Legal Center, a nonprofit watchdog group.

Mr. Trump will almost certainly appeal his conviction, after months of criticizing the case and attacking the Manhattan district attorney, who brought it, and Justice Merchan, who presided over his trial.

Long before that appeal is heard, however, Mr. Trump will be enmeshed in the gears of the criminal justice system.

A pre-sentencing report makes recommendations based on the defendant’s criminal record — Mr. Trump had none before this case — as well as his personal history and the crime itself. The former president was found guilty of falsifying business records in relation to a $130,000 payment to Stormy Daniels, a porn star who says she had a brief sexual tryst with Mr. Trump in 2006, in order to buy her silence.

At the pre-sentence interview, a psychologist or social worker working for the probation department may also talk to Mr. Trump, during which time the defendant can “try to make a good impression and explain why he or she deserves a lighter punishment,” according to the New York State Unified Court System.

The pre-sentencing report can also include submissions from the defense, and may describe whether “the defendant is in a counseling program or has a steady job.”

In Mr. Trump’s case, of course, he is applying — as it were — for a steady job as president of the United States, a campaign that may be complicated by his new status as a felon. Mr. Trump will likely be required to regularly report to a probation officer, and rules on travel could be imposed.

Mr. Trump was convicted of 34 Class E felonies, New York’s lowest level , each of which carry a potential penalty of up to four years in prison. Probation or home confinement are other possibilities that Justice Merchan can consider.

That said, Justice Merchan has indicated in the past that he takes white-collar crime seriously . If he did impose prison time, he would likely impose the punishment concurrently, meaning that Mr. Trump would serve time on each of the counts he was convicted of simultaneously.

If Mr. Trump were instead sentenced to probation, he could still be jailed if he were later found to have committed additional crimes. Mr. Trump, 77, currently faces three other criminal cases: two federal, dealing with his handling of classified documents and his efforts to overturn the 2020 election , and a state case in Georgia that concerns election interference.

Mr. Trump’s lawyers can file a notice of appeal after sentencing, scheduled for July 11 at 10 a.m. And the judge could stay any punishment during an appeal, something that could delay punishment beyond Election Day.

The proceedings will continue even if he wins: Because it’s a state case, not federal, Mr. Trump would have no power as president to pardon himself .

Jesse McKinley is a Times reporter covering upstate New York, courts and politics. More about Jesse McKinley

Maggie Astor covers politics for The New York Times, focusing on breaking news, policies, campaigns and how underrepresented or marginalized groups are affected by political systems. More about Maggie Astor

Our Coverage of the Trump Hush-Money Trial

Guilty Verdict : Donald Trump was convicted on all 34 counts  of falsifying records to cover up a sex scandal that threatened his bid for the White House in 2016, making him the first American president to be declared a felon .

Next Steps: The judge in the case set Trump’s sentencing for July 11, and Trump already indicated that he plans to appeal. Here’s what else may happen .

Reactions: Trump’s conviction reverberated quickly across the country and over the world . Here’s what Trump , voters , New Yorkers , Republicans  and the White House  had to say.

The Presidential Race : The verdict will test America’s traditions, legal institutions and ability to hold an election under historic partisan tension , reshuffling a race that has been locked in stasis and defined by a polarizing former president.

Making the Case: Over six weeks and the testimony of 20 witnesses, the Manhattan district attorney’s office wove a sprawling story  of election interference and falsified business records.

Legal Luck Runs Out: The four criminal cases that threatened Trump’s freedom had been stumbling along, pleasing his advisers. Then his good fortune expired .

Connecting the Dots: As rumors circulated of Trump’s reported infidelity, two accounts of women  being paid to stay silent about their encounters became central to his indictment.

How will Donald Trump's guilty verdict hit his reelection bid? Is his political fallout here?

NEW YORK – Former President Donald Trump's 2024 White House campaign now enters unknown territory: Voter reaction to the first major party nominee to be convicted of crimes .

Trump must now convince Americans he deserves a second term even after a New York jury found him guilty of all 34 felony counts tied to falsifying business records as part of a plan to influence the 2016 presidential election.

While the challenge is unprecedented, Trump’s approach is very familiar: Attack the legal system.

"This was a rigged decision, right from day one," Trump told reporters at the courthouse on Thursday less than an hour after being found guilty and echoing past comments the Republican has made designed to brace voters for the possibility of a guilty verdict .

Expect that effort to continue now that a jury has found the former president guilty, while supporters of President Joe Biden will likely argue that the unprecedented verdict proves Trump is unfit for another four-year term.

Prep for the polls: See who is running for president and compare where they stand on key issues in our Voter Guide

On point, the Trump campaign sent out a series of fundraising solicitations within minutes of the verdict. “I am a political prisoner!” he told potential donors.

More rallies, more fundraisers

So what comes after Trump's historic conviction?

Sentencing will come on July 11, just four days before the start of the Republican National Convention in Milwaukee where Trump is set to accept the GOP presidential nomination.

Don't expect that looming decision to stop the former president and his campaign from holding rallies and fundraisers, giving him more chances to argue that the judge and prosecutors played politics in pursuing the hush money case against him.

Trump will also be preparing for a couple of important events. There's a June 27 debate with Biden hosted by CNN in Atlanta, as well as the decision on selecting a running mate . The former president has said he will probably announce his pick at the Republican convention, scheduled for July 15-18 in Milwaukee.

In the meantime, pollsters associated with Trump and Biden will pore over data to assess how voters react to the first-ever conviction of a former president and current presidential candidate.

One thing Trump likely won't have to worry about anytime soon: Prison. He plans to appeal the verdict, and that process could drag out for years.

Target: Independents

The coming campaign will be directed at a relatively small number of voters: Independents who are on the fence between Trump and Biden.

Campaign officials and independent pollsters have said for months that the verdict will have no impact on Trump partisans; nor will it affect solid Biden voters.

Everybody else? No one really knows how they will react to a convicted felon running for president. After all, it's never happened.

But even a small percentage turning away from Trump could make a difference in tightly contested battleground states like Arizona, Michigan, Pennsylvania and Wisconsin.

At the same time, Trump has suggested that even a guilty verdict could help him because "the people of the country see this as a rigged deal."

It's a pitch that still has to play out, but the trial itself does not seem to have hurt Trump much. The former president is  leading Biden slightly  in many polls nationwide and in battleground states, although most of those leads are within margins of error.

During the six-week trial, Trump was able to campaign and do fundraisers on Wednesday, the court's off-day, and on weekends. Now look for him to work on the campaign just about every day of the week. That starts with a press conference Trump is planning for Friday at his namesake tower in midtown Manhattan.

The Biden campaign also enters a new phase

Trump will also have to contend with a more aggressive Biden campaign, which is relishing the idea of running against the former president following a conviction.

During the trial, Biden officials said they don't plan to focus exclusively on the guilty verdict, but the full panoply of allegations against Trump.

The former president has been indicted in three other criminal cases, including two accusing him of trying to steal the 2020 race for the White House. In civil court actions, Trump has been found liable for bank fraud and sexual abuse .

Michael Tyler, the Biden campaign's communications director, said the Trump guilty verdict proves that “no one is above the law,” but the election will be decided on issues like the former president's threat to be a “dictator on day one” and his willingness to promote authoritarianism and violence.

“There is still only one way to keep Donald Trump out of the Oval Office: at the ballot box,” Tyler said. “Convicted felon or not, Trump will be the Republican nominee for president. The threat Trump poses to our democracy has never been greater.”

One thing is clear: Trump and Biden's post-conviction playbooks will be put to the test this summer as the candidates both seek a second term.

Sarah Longwell, who as founder of the organization Republican Voters Against Trump has conducted many focus groups, predicted that the verdict “won’t be a public opinion earthquake.” But she said it could still be significant.

“In an election where inches will matter,” she said, “this just created a new barrier for undecided swing voters: voting for a convicted felon.”

More trials? Who knows?

Another unknown is whether Trump will face another trial before Election Day on Nov. 5.

The former president is facing federal criminal charges in Washington accusing him of trying to steal the 2020 election from Biden. But that trial was delayed when the Supreme Court agreed to hear Trump's claim that he should be immune from prosecution for presidential actions.

The court is expected to rule around the start of July, and a decision against Trump could mean a trial before Election Day – perhaps in the middle of the fall campaign season.

A favorable Trump ruling would almost certainly push the trial past Election Day.

There are also no trial dates scheduled for Trump in the South Florida federal case over allegations the former president mishandled classified information and obstructed justice and the one in Georgia over his attempts targeting the 2020 election results in the Peach State.