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Cost Accounting

Basics of Cost Accounting

Specific cost accounting terms and ideas are used to communicate meaning and understand procedures. Understanding basic concepts in crucial, so to start using cost accounting analysis, you should be familiar with these terms:

Contribution margin - This term is defined as sales minus variable cost. When you subtract your fixed costs from contribution margin, the amount left over is your profit.

Breakeven point formula - The breakeven point is the level of sales where your profit is zero. The breakeven formula is sales minus variable cost minus fixed cost. You multiply your sales per unit by units sold. You also multiply the variable cost per unit by the same units sold. The sales level that makes the formula equal to zero is the breakeven point.

Relevant range - Relevant range is a term that relates to machinery, equipment, or vehicles in your business. Think of relevant range as the maximum level of use for the item you operate in your business. Say you use a sewing machine. As long as you operate the machine at or below the relevant range, it should operate normally. The machine’s cost should come in at the level you expect. If you operate above the relevant range, the machine won’t operate as you expect. You need to invest in a second machine to operate above the relevant range.

Job costing - This method of costing assumes that every customer job is different. Plumbers and carpenters are good examples of businesses that use cost accounting. Because every job is different, each customer job is assigned material, labor, and overhead costs.

Process costing - Companies use process costing when partially completed units are moved from one production area to another. Process costing assumes that the products you produce are similar or even identical.

Activity-based costing (ABC) - ABC costing can be used for both job costing and process costing analysis. You use ABC costing to assign costs to your product more specifically. ABC costing analyzes the activities that cause you to incur costs; you then connect the cost to the activity.