Cost classification is the process of grouping costs according to their common characteristics.There are various ways of classifying costs.Costs may be classified according to- 1. Elements 2. Functions 3. Behaviour 4. Controllability 5. Normality
Costs are classified primarily according to the factors upon which expenditure is incurred viz; Materials,labour or wages and expenses. In other words the cost is composed of three elements namely materials,labour and expenses. Each of these three elements is divided into two parts (a) direct costs (b) Indirect costs.
A business performs a number of functions like manufacturing,administration,selling and distribution. Costs are classified on the basis of these functions. This classification facilitates the assessment of the efficiency and thus leads to better control over them. It enables the assessment of manufacturing profit as distinct from the trading profit.
With the increase or decrease in production,some costs will increase or decrease,while some costs will change but not in direct proportion to the change in the volume. On the basis of this behaviour costs may be classified into (a) Variable costs, (b) Semi-variable costs, (c) Fixed costs.
(a) Variable costs: Costs which vary in direct proportion to the volume of output are known as variable costs. The total cost will increase or decrease but the cost per unit remains the same. Ex:Direct materials,Direct wages,Power etc.
(b) Semi-variable costs: These are partly fixed and partly variable. Ex:Telephone charges,Depreciation,Supervision etc.
(c) Fixed costs: Costs which remains fixed and not change in proportion to the volume of output are known as fixed costs.
Under this,costs are classified according to whether they are capable of control or not. The broad divisions under this are (a) Controllable costs (b) Uncontrollable costs.
There are two types costs, which display the normality characteristic. They are
(a) Normal Costs: It is a cost which is normally incurred at given level of output in the conditions in which that level of output normally attained.Ex: repairs, maintenance, salaries paid to employees.
(b) Abnormal costs: It is a cost which is not normally incurred at a given level of output in the conditions in which that level of output is normally obtained.Ex: destruction due to fire; lockout; shut down of machinery etc.