costs approaches-to-costing

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Exam code:9609

An introduction to costing

Businesses can choose how to calculate the costs of manufacturing products, accounting for
- Direct costs, such as raw materials, components and direct labour
- Indirect costs, including overheads such as rent, rates, selling costs and administration expenses
Two of the most commonly used methods are
- Full costing
  - This method allocates all costs, direct and indirect, equally across all products a business manufactures
- Contribution costing
  - This method allocates only direct costs to products manufactured by a business
  - Indirect costs are covered and profits generated by contribution

If a business manufactures one type of product, full costing can be used to allocate all costs, direct and indirect, equally across all products

Luftig Soft Drinks Gmbh uses full costing to determine the cost of manufacturing each bottle it produces.

In 2023 it manufactured 455,000 bottles of soft drink, and recorded the following costs:

Total Direct Costs €52,300

Total Indirect Costs €120,600

Calculate the full cost of producing each bottle of soft drink.

(2)

Step 1: Add total direct costs to total indirect costs

$equals space € 52 comma 300 space plus space € 120 comma 600$

$begin mathsize 16px style equals space € 172 comma 900 end style$ (1)

Step 2: Divide total costs by output

$equals space fraction numerator € 172 comma 900 over denominator 455 comma 000 space bottles end fraction$

$equals space € 0.38$ (1)

When a business manufactures more than one product, it needs to decide how to allocate indirect costs across the range of products
- Each product may incur a different proportion of indirect costs
  - E.g. they may require more workers, machinery or factory space, or may be manufactured in greater volumes
- These decisions are unlikely to be straightforward and should remain constant over time
  - Inappropriate allocation of costs can lead to incorrect pricing decis