question :) Explain how managers classify costs and how do they use these cost classifications.

answer :) Managers classify costs in several ways. Some of them are:

(i) On the basis of the behavior of the cost, costs can be fixed or variable. Fixed costs are those costs that are constant over a wide range of activity. Variable costs are those that are directly proportional to the level of activity i.e they increase when manufacturing increases and fall when the level of manufacturing is lowered.

(ii) on the basis of type the costs can be material, labor and overheads. Materials costs includes the raw materials cost, labor costs include the manpower costs and overheads are those costs that are ongoing in nature. They are also called operating expenses.

(iii) on the basis of their function - marketing costs, product development costs, general and administrative costs etc.

Managers use cost classifications to make prudent and rational decisions. For example, while taking decisions on production volume and calculating break-even, the fixed and variable costs figures are used by the management. In taking decisions about making new investments, managers ignore sunk costs i.e those costs that have already been incurred and cannot be recovered.

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