Absorption Cost Flashcards
What are the three main types of cost objects
Output cost object - the company would want to know the cost of its output to set the price
Operational cost object - objects within the company that the company would want to find the cost, machine department etc
Business relationship cost - objects outside of the company that they may wish to find the cost, supplier, renewing licenses etc
What are direct costs ?
A cost that can be identified with specific cost objects and can be measured reliably
There are two main types of direct costs, direct labour and direct materials
What is direct labour
A direct cost - consists of the conversion of raw materials into a product something that can be physically measured , for a store it could be staff wages etc
What is direct material costs ?
An example would be wood in chairs sold
What are indirect costs ?
Overheads
Indirect material = packaging materials, cleaning supplies etc
Indirect labour = salaries etc
How to calculate blanket overhead absorption rate ?
Overheads accumulated in one pool
Divide total overheads by selected allocation base
Overhead costs assigned to each cost by multiplying the OAR by units
Total cost = total direct costs + allocated overheads
Limitations of blanket overhead ?
The blanket method is not appropriate for diverse production because it assumes all products are similar and spend overheads similarly
Cost centre allocation method
1 . Assign overheads to a cost centre ( a place where overheads are initially assigned mainly a department)
- Costs accumulated are allocated to cost objects, the amount a product should be assigned from a cost centre is determined by the products usage of indirect resources
Criticisms of absorption costing
Full costing is more suitable for the preparation of accounts, stock inventory is not undervalued
Better for small businesses as it is easier to do the calculations
How to work out overhead absorption rate ?
Total overhead/month / total labour hours
How to work out cost per unit ?
Overhead allocation = hrs etc x absorption rate
+
Total variable costs
