Element wise Classification:
We come across three classes, if indirect expenses are classified element wise:
- Indirect Materials; (ii) Indirect labour & (iii) Indirect expenses.
The following are some examples:
- Indirect materials:
Factory: Stores which are consumable; Canteen food stuff; materials for first aid; materials for fire extinguishing etc.
Administration: Cost of stationery; expenses incurred in connection with canteen food stuff; cost incurred for the purpose of cleaning of materials etc.
Selling & Distribution: Expenses incurred with respect of packing of materials; stationery expenses; fuel & lubricating oil charges incurred in respect of delivery van etc.
- Indirect Labour:
Factory: Expenses incurred for payment of salary to the works manager, supervisor, foreman etc.; wages incurred for the purpose of payment made to the indirect workers, stores staff, maintenance & repairs staff etc.; wages incurred for payment to the personnel of the time office & pay-roll department etc.
Administration: Expenses incurred for the purpose of payment of salary for all the administrative function’s employees, starting from the managing director to sweeper; remuneration paid to the directors etc.
Selling & Distribution: Expenses incurred for the payment of salary of the staff of the sales office & for the salary of the distribution men.
- Indirect Expenses:
Factory: Expenses for the purpose of repairs & maintenance; payment of rent, rates & taxes; charges in respect of insurance; depreciation; expenses incurred with respect to stores, other than salaries paid to the repair staff, maintenance staff & stores staff etc.
Administration: All expenses incurred in connection with general administration other than the cost of the materials used & expenses regarding salary. Examples are depreciation; printing charges; rent, rates & taxes payment; cost of postage etc.
Selling & Distribution: Expenses relating to advertisement & exhibition; cost incurred in respect of market research; payment of rent for godown ; insurance charges; depreciation etc.
(c) Behavior wise (or Behavioral) classification:
The main consideration for behavior wise classification is how each element of overhead behaves, when there is a change in the volume of production etc.
Fixed overhead are constituted of expenses which irrespective of the level of output remain fixed; variable overhead are constituted of expenses which, with the change in the level of output, changes proportionately & semi-variable overhead or semi-fixed overhead are those expenses which, with the change in level of output, changes but not proportionately.
For the purpose of marginal costing, for the preparation of flexible budget or standards & also for the purpose of controlling overhead costs, behavioral classification is of fundamental importance.
Some of the examples of fixed, variable & semi-variable (or semi-fixed) overhead costs are the following:
Fixed Overhead:
Expenses incurred with respect of rent, rates etc; cost incurred for insurance; stationery cost; expenses incurred for the payment of salary to the management staff; expenses incurred for postage etc.
Variable Overhead:
Indirect material & labour; expenses incurred for the payment of commission to the salesmen; packing expenses; cost of power, etc.
Semi-variable or semi-fixed overhead:
Depreciation; charges for repairs & maintenance; salary paid to the supervisors etc. These charges are neither totally variable charges nor they are totally fixed charges. Only up to a certain production level, they remain fixed; but beyond that level these items increase, even though the proportion may vary. Thus, semi-variable overhead includes fixed elements & variable elements. However for the purpose of having only two classes- fixed overhead & variable overhead, segregation of semi-variable needs to be done.
For segregation of semi-variable overheads into fixed overhead & variable overhead, different methods can be used, like analytical method, simultaneous method, least square method, level of activity method, high & low method etc.
Let us assume the semi-variable overhead costs corresponding to the output be as below:
Semi-variable overhead costs ($) Output
(units)
16000 6000
18000 7000
The variable & fixed elements present in semi-variable overhead can be found by simultaneous equation method as below:
Let the fixed overhead cost be x & the variable overhead cost per unit be y. Now,
x + 6000y = $ 16000…………….. (i)
x + 7000y = $ 18000…………… (ii)
Deducting (i) from (ii), 1000y = $ 2000
Therefore, y = $ 2
Substituting the value of y in equation (i) we get,
x +6000*2 = $ 16000
Therefore, x = $ 4000
Thus, the variable element is $ 2 per unit & the fixed element amount is $ 4000
(d) Control wise Classification:
Overhead costs can either be controlled or uncontrolled. This is known as controllable cost when proper influence of management can control this. The same becomes uncontrollable when this cannot be controlled even by the exercise of proper management.
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