Overheads and full costing - Lecture 8a

Question 1

What is a fixed cost?

Answer 1

Remain the same (in the short term) regardless of the no. of units produced
Typical examples: Rent and Rates

Question 2

What is a variable cost?

Answer 2

These rise and fall in direct proportion to the number of units produced
Typical examples:
- Raw materials used in production.
- Production workers wages

Question 3

What is a semi variable cost?

Answer 3

These have both a fixed and a variable element
Typical examples: Telephone expenses (fixed line rental and variable call
charge)

Question 4

What is a semi fixed (stepped) cost?

Answer 4

These are fixed up to a certain level of activity, beyond which point extra fixed
cost is incurred.
Typical examples: hire of special machinery/ equipment

Question 5

What is the direct cost?

Answer 5

Direct costs are those than can be directly attributed to a unit or batch of
product (or service). Direct costs are nearly always variable.
Typical examples:
- Raw Materials used in production.
- Production workers wages

Question 6

What is an indirect cost?

Answer 6

Indirect costs are also known as overheads.
Typical examples: Factory canteen costs, depreciation of machinery
Overheads can be fixed or variable.
Example of a fixed overhead: Rent, Rates
Example of a variable overhead: Power Costs

Question 7

Why should an organisation analyse and calculate its production costs?

Answer 7

In order to:
- Place a value on inventory (and hence measure profit)
- Set suitable prices
- Decision – making (for example on product mix or discontinuation)
- Budgeting and control (see earlier notes)

Question 8

What is full costing?

Answer 8

This term (also known as absorption costing) is used to describe a technique which arrives at a cost per unit including a share of the overheads (indirect costs).

Question 9

What is an absorption cost?

Answer 9

Full cost

Question 10

Traditional Absorbtion method steps:

Answer 10

Step 1: Allocate or apportion overheads to cost centres (departments)
Step 2: Derive absorption rates (e.g. per hour the product spent in each
department).
Step 3: Use the absorption rates to calculate the overhead per unit.

Question 11

Traditional Absorption formula:

Answer 11

Time (measured in labour hours or machine hours) spent by the product
in that department
X
pre-determined absorption rate

Question 12

What is traditional absorption?

Answer 12

The process by which overheads are transferred from cost centres to cost units at a pre-determined rate.

Question 13

ABC Absorption steps:

Answer 13

Step 1- derive one absorption rate for each activity

Step 2- use the absorption rates to calculate the overhead per product

Step 3- divide the total budgeted overhead cost per product by the budgeted
number of units in order to arrive at the budgeted overhead cost per unit.