This article is about how the costs are classified in a business organization.
In general, business costs can be classified in several different ways. We will take a look at two basic classifications. When a business is producing only one product, and when a business is producing many different products.
The classification of costs into different groups helps in business decision-making. Most financial business decisions require business managers to have accurate data about the costs involved. But, before we can begin to use costs data to assist us in making important business decisions, it is crucial to understand the different cost classifications.
A. Producing one type of product
The first classification will be looking at costs when a business is producing only a single type of product. Here, all costs are affected by the level of Output – the number of products of the same type produced by the business. Let’s say that the business is a restaurant specializing in serving only a beef hamburger.
The major categories of costs when producing one single product include:
- Fixed Costs (FC)
- Variable Costs (VC)
- Semi-Variable Costs (SVC)
- Total Costs (TC)
- Average Cost (AC)
- Marginal Cost
B. Producing many types of products
The second classification will be looking at costs in regards to allocating them among different products. Each product is considered as a cost center. In this case, the business is producing many different types of products. Let’s say that the restaurant is serving four different foods such as a beef hamburger, hot dog, pizza and ham & cheese sandwich.
The major categories of costs when considering the allocation classification include:
- Direct Costs
- Indirect Cost (Overheads)
It is very important for business managers to know as accurately as possible the costs of each product produced by their firm. One reason for this is the need to make good pricing decisions for those products. Therefore, accurate cost information is vital.
All in all, to do costs and pricing correctly for a particular business, the different approaches to classifying and calculating costs need to be considered depending on circumstances. In the next article, we will be looking in details at those eight different types of costs.
