COSTING AND PRICING - Indirect labor: Salaries paid to all

BS IN ENTREPRENEURSHIP other factory personnel necessary in

the manufacturing process but is not
directly related in the conversion
LESSON 2:
process.
COST CONCEPTS, TERMINOLOGIES AND
• Overhead - All indirect costs necessary
BEHAVIORS
for product conversion that are not
direct materials and direct labor.
For this lesson you should be able to:
 Differentiate product costs from period
costs.
 Enumerate and explain the components
of product costs.
 Differentiate direct costs and indirect
costs.
 Explain the different kinds of costs
according to their behavior.
 Separate mixed costs using the high-low
method.
 Separate mixed costs using the least
square regression method.
 Define other cost terminologies.

What is a cost? 2. Period Costs – are the entity's operating

- A cost reflects the amount of resources expenses. They are called as such since they are
sacrificed in order for the company to achieve a much more associated with time periods rather
certain objective such as creation of goods or than the manufacturing process. They are all
rendering of services in order to earn revenues. other expenses not related to manufacturing.
• Marketing and advertising Expenses
As to classification in the FS: incurred in promoting the entity's
1. Product Costs - are costs identified and products and services.
incurred by an entity to manufacture a product. • Selling and distribution They include
It includes all raw materials used, labor costs salaries of sales personnel and delivery
incurred, and all other indirect costs. expenses.
• Materials - All raw materials and other • Administrative expenses They include
supplies used in the manufacturing office utilities, depreciation of office PPE,
process. repairs and maintenance of office PPE,
- Direct materials: e.g. Cost of glass in and all other expenses in the office.
lightbulb manufacturing
- Indirect materials: Cost of glue, As to Behavior:
lubricating oils, nails, screws, and the 1. Variable Costs - They are costs that change as
like. the quantity of the goods produced changes.
• Labor - Salaries and other benefits Total amount of variable costs is dependent to
provided to all workers. the level of production.
- Direct labor: e.g. Cost of salaries paid Examples: Cost of materials
to laborers of furniture associated Cost of direct labor computed per piece
directly in the process. - Constant on a per-unit basis.
- Varies when presented as a total.
2. Fixed Costs - At whatever level of production 3. Mixed Costs - Refers to costs that has both
within the relevant range, this cost does not variable and fixed components.
change. It is independent of the level of Examples: Utilities, since these are charged with
production. a base amount and goes higher with any usage
Examples: Rent of facilities over the base amount.
Depreciation of equipment
- Constant when presented as a total. 4. Step Costs - Costs that are constant on a
- Varies on a per unit basis. certain level of activity but increases on another
certain level of activity.
Assume an entity's normal manufacturing Examples: Salaries and commission of agents
process with a range of 5,000 to 7,000 units that goes higher with different ranges of activity
of goods with a variable cost per unit of P20 e.g. people served.
and P15,000 fixed costs.

VC per unit Total VC Separating Mixed Costs

@5,000 units In separating mixed costs, there can be two
@6,000 units methods to be used:
@7,000 units • High-Low Method
Step 1: Determine the highest and
lowest activity and costs associated
thereunto.
Step 2: Obtain the variable cost per unit
Fixed Costs FC per unit
by dividing the change in cost over the
@5,000 units
change in activity.
@6,000 units
Step 3: Obtain the total fixed costs by
@7,000 units
removing the variable cost component in
the total costs.

• Least Squares Regression Method

Step 1: Prepare a table calculating
COST EQUATION: x(activity), y (total cost), xy and x2 .
y=a+bx Step 2: Substitute the computed
y=total cost amounts in the following equation to get
a= total fixed cost VC/unit.
b= variable cost per unit
x= volume of activity

EXERCISE: How much is the total cost to

manufacture products with a variable
manufacturing cost per unit of P25 and total
manufacturing fixed cost of P40,000 at the Step 3: Substitute b to any equation to
following production levels. get a fixed cost.
a. 2,000 units
b. 4,500 units
c. 7,250 units
SAMPLE PROBLEM: ACTIVITY:
Alpha Corporation builds tabletop replicas of Legends Manufacturing Company incurred the
some of the most famous tourist attractions in following costs during its current production of
Seoul. The company is highly automated where 2,500 teddy bears, alongside its office and
maintenance costs show as a significant expense. administrative operations:
The owner decided to use machine hours as the • Direct materials used, P80 per unit
basis of predicting maintenance costs and has • Indirect materials, P40,000 (P16 per
gathered the following data for the following unit)
eight weekly operations: • Direct labor, 3 hours per teddy bear at
P60 per hour
WEEK
MACHINE MAINTENANCE • Indirect labor, P80,000 (1 hour per unit,
HOURS COST P32 per hour)
1 3,000 9,800 • Office salaries, P354,000
2 4,500 12,900 • Depreciation - manufacturing
3 8,000 18,100 equipment, P3,700
4 6,000 13,500 • Depreciation - office equipment, P4,800
5 9,000 24,800 • Rent of factory facility - P80,000
6 3,500 10,400 • Rent of office and selling space - P92,000
7 5,500 13,000
8 7,000 16,000 All office salaries, depreciation, and rent
costs are fixed.
1. Using the High-Low Method, determine the
following: Relating to Legends Manufacturing
a. Variable cost per unit Company's current production, how much
b. Total Fixed Cost are total product costs and period costs?
c. Total expected maintenance cost on A. P770,000 and P534,500, respectively.
8,200 machine hours B. P650,000 and P654,500, respectively.
C. P853,700 and P450,800, respectively.
2. Using the Least Squares Regression Method, D. P1,304,500 and P-0-, respectively.
determine the following:
a. Variable cost per unit
b. Total Fixed Cost

Other cost terminologies

Opportunity cost - Benefits foregone in choosing

one action over another.
Sunk cost - Cost incurred that will not affect a
future decision.
Committed cost - Costs resulting from
organizational structure or use of facilities.
Discretionary cost - Costs arising from
managerial decisions.
Controllable cost - Costs that are able to be
influenced on how much shall be spent.
Noncontrollable cost - Costs that cannot be
controlled or influenced.