Module 2

College of Biomedical Engineering and Applied Sciences

Cost definition Resources sacrificed or forgone to achieve a

specific objectives

Cost is always evaluated in monetary value

Cost also thus define as monetary value paid to acquire goods and services.

Types of cost -1

1. Direct or Prime cost (That can be assigned to product or services directly) Material cost

Labour cost (direct)

Direct expenses

2. Indirect cost

Overhead cost ( burden to the company)

Administrative overhead

Sales overhead

Production overhead

Types of Costs -2 3. Fixed Costs

o Uneffected by change in activity,

e.g. Office rental, insurance, tax, admin costs, license fees, interests etc.

4. Variable Costs

Related with operation and vary with the quantity of output

Labor, production materials

5. Incremental Costs Additional costs to increase the product by One Unit.

Types of Costs -3 6. Cash Cost

• Costs involving payment of Cash at present or due in future

• Costs that need to be included in the CashFlow.

7. Book Cost

Not involving direct cash payment, but considered as expenses for recovery of the past expenditures over a fixed period of time e.g. Depreciation

In Engineering Analysis we consider only Cash Costs.

8. Sunk Costs.

Past Expenditures having no relevance to the estimate of future costs or revenues

Types of Costs- 4 9. Opportunity costs

Costs of the best foregone opportunity, often hidden and implied

10 Life Cycle Costs

Summation of Costs, recurring and non-recurring, related to project involving a product, structure, system, or service during its life span (see illustration)

Life Cycle Cost

Ref. Eng. Economy by W G Sullivan and colleagues

Types of Costs-5 11 Recurring Costs

Costs that occur regularly Rentals, salaries, O/M costs

12. Disposal Costs

Non-recurring Costs incurred in Shutting Down the operation and retirement and disposal of assets at the end of the Life Cycle.

13. Working Capital Funds required for current assets other than fixed assets

e.g. fund for inventory, salary, tools, and any other title, before CAPITALIZING the assets

Types of variance Variable overhead variance

The differences between actual variable overhead cost and the standard variable cost for production

Variable overhead cost is the aggregates of

Variable overhead expenditure variance(VOExV)

Variance due to less or more labour hour used in production than standard overhead

Given as VOExV=AH(AR-SR)

Variable overhead efficiency variance(VOEfV)

Given as VOEfV= SR(AH-AP*SH/standard Units of production)

COST VARIANCE Planning and operating a project is different

Due to change in certain and uncertain events there will be change in evaluated/estimated expense

The factor which study about change in actual and estimated value of the project is cost variance

Use to assist in planning and control, to evaluate performance and suggest change in strategies

Variance analysis is to measure performance, correct inefficiencies and deal with accountability function.

Variance Variance falls under two types

Favorable Variance

Due to actual expenditure being less than the standard allowance

FV are credits so they decrease production cost

Adverse Variance

Arise when the standard allowance is exceeded by actual expenditure

Adverse variance are debits and they increase the production cost

Types of variance Direct material cost variance(DMCV)

It is the difference between the actual expenditure and estimated/budgeted/evaluated expenditure of direct material used in production

It is the difference of what we actually paid for that what we have to pay using standard .

It is also of two type Direct material price variance (DMPV)

Given by DMPV= AQ(AR-SR)

Direct material usage variance

Given by DMUV= SR(AQ-SQ)

Types of variance Direct labour variance/ direct wages variance DLV/DWV

Difference between the actual payroll and the standard labour cost of actual production

Calculated individually and aggregate the following Direct labour wage rate variance (DLWRV)

Variance due to paying more or less than the standard wages for the actual labour hour used

Given as DLWRV= AH(AR-SR)

Direct labour efficiencies variance(DLEV)

variance due to using more or less labour hour in production than the standard hours

Given as DLEV= SR(AH-AP*SH/unit of production)

Types of variance Fixed overhead variance

Difference between actual fixed overhead incurred and standard cost of fixed overhead absorbed in the actual output

It is the aggregate of following

Fixed overhead expenditure variance(FOExV)

Given as actual fixed overhead(AFO)- budgeted fixed overhead(BFO)

Fixed overhead capacity variance

Given as BFO- AH*SR

Fixed overhead efficiency variance

Given as SR(AH-AP*SH/Unit of standard production)

Exercises