WHAT ARE THE ELEMENTS OF COST IN COST

ACCOUNTING?
The elements that constitute the cost of manufacture are known as
the elements of cost. Such element of cost is divided into three
categories. In a manufacturing concern, raw materials are converted
into a finished product with the help of labour and other service
units. They are Material, Labour and Expenses.

Again, these elements of cost are divided into two categories such
as Direct Material and Indirect Material, Direct Labour and Indirect
Labour, Direct Expenses and Indirect Expenses. All direct material,
direct labour and direct expenses are added to get prime cost.
Likewise all indirect material, indirect labour and indirect expenses
are added to get overhead. Again, overhead is divided into four
categories. They are factory overhead, administration overhead,
selling overhead and distribution overhead.

1. Direct Material: It refers to material out of which a product is to

be produced or manufactured. The cost of direct material is varying
according to the level of output. For example: Milk is the direct
material of butter.
2. Indirect Material: It refers to material required to produce a
product but not directly and does not form a part of a finished
product. For example: Nails are used in furniture. The cost of
indirect material is not varying in direct proportion of product.
3. Direct Labour: It refers to the amount paid to the workers who
are directly engaged in the production of goods. It varies directly
with the output.
4. Indirect Labour: It refers to the amount paid to the workers who
are indirectly engaged in the production of goods. It does not vary
directly with the output.
5. Direct Expenses: It refers to the expenses that are specifically
incurred by the company to produce a product. A product cannot be
produced without incurring such expenses. It varies directly with
the level of output.
6. Indirect Expenses: It refers to the expenses that are incurred by
the organization to produce a product. But, these expenses cannot
be easily found out accurately. For example: Power used for
production.
7. Overhead: It is the combination of all indirect materials, indirect
labour and indirect expenses.
8. Factory Overhead: It is otherwise called Production Overhead or
Works Overhead. It refers to the expenses that are incurred in the
production place or within factory premises. For example: Indirect
material, rent, rates and taxes of factory, canteen expenses etc.
9. Administration Overhead: It is otherwise called Office Overhead.
It refers to the expenses that are incurred in connection with the
general administration of the company. For example: Salary of
administrative staff, postage, telegram and telephone, stationery
etc.
10. Selling Overhead: It refers to all expenses incurred in connection
with sales. For example: Salary of sales department staff, travelers’
commission, advertisement etc.
11. Distribution Overhead: It refers to all expenses incurred in
connection with the delivery or distribution of goods and
services from the producer to the consumer. For example: Delivery
van expenses. loading and unloading, customs duty, salary of
deliverymen etc.

Elements of Cost Accounting – Top 7 Elements:

Direct Material Cost, Direct Wages, Chargeable
Expenses, Indirect Material, Indirect Labour,
Indirect Expenses and Overheads
In order to exercise proper control of costs for sound managerial
decisions, the management may be provided with necessary data.
For this reason, the total cost of the product is analysed by the
elements of cost—nature of expenses. Traditionally, the product cost
is divided into three—material, labour and other overhead expenses
and these can further be analyzed into different elements.

The total expenditure consisting of material, labour and

expenses can further be analyzed as under:
Prime Cost = Direct materials + Direct Labour + Direct expenses
Works Cost (Factory) = Prime Cost + Factory overhead
Cost of Production = Factory Cost + Administration overhead
Total Cost (Cost of sales) = Cost of production + Selling and
distribution overhead
Each element of cost is explained in detail, as below:

Element # 1. Direct Material Cost:

Direct material is material that can be directly identified with each
unit of the finished product. Direct material is that material which
becomes a part of the product. Raw materials, semi-finished
materials, components etc. which become part and parcel of the
product are known as direct materials. For example, cloth in
garments, leather in shoe-making, spares parts in assembling of
radio, cycle, scooter etc. In case, certain materials become part of
the product, but are of negligible value; they may be grouped under
indirect materials.
Direct material includes the following:
i. Materials including component parts specially purchased for the
job.
ii. Material transferred from one cost center to another, one process
to another process.
iii. Primary packing materials like cartons, wrappings, card-board
boxes etc.

Element # 2. Direct Wages/ Direct Labour:

All labour expenses in altering, composition,
construction, conformation etc. of the product are
included in direct wages; they include the payment made
to the following group of labour:
i. Labour engaged on the actual production of the product; i.e.,
carrying out the operation or process.
ii. Labour engaged in aiding the operation; i.e., supervision,
foreman, wages of internal transport personnel, shop clerks etc.
iii. Inspectors, analysts etc., specially needed for the production.
Direct wages are also known as direct labour, productive labour,
process labour or prime cost labour.

Element # 3. Direct or Chargeable Expenses:

Expenses other than direct material, direct labour, which can be
identified with and allocated to cost units or cost centers as they are
specially incurred for a particular product or process, form a part of
prime cost. Direct expenses are also known as chargeable expenses,
prime cost expenses, process expenses or productive expenses.
The following groups of expenses fall under direct
expenses:
i. Cost of special drawings, designs or layout
ii. Hire charge, repair and maintenance of special equipment hired
iii. Experimental expenses of a job
iv. Excise duty, Royalty
v. Architect or surveyor’s fee
vi. Travelling expense connected to the job
vii. Cost of rectifying defective work.

Element # 4. Indirect Materials:

Indirect materials are those materials which cannot be traced as
part of the product. They are also known as on cost materials or
expense materials which cannot be allocated, but which, can be
apportioned to or absorbed by the cost centers or cost units also
come under this group.
Examples are:
(i) Stores items used in maintenance of machinery like lubricant,
cotton waste, grease, oil, stationery etc.
(ii) Small tools for general use.
(iii) Some minor items of materials, treated as indirect materials,
due to their small costs, such as cost of thread in dress-making, cost
of nails in shoe-making etc.

Element # 5. Indirect Labour:

Labour whose wage cannot be allocated, but which can be appor-
tioned to or absorbed by the cost center or cost units is known as
indirect labour. Indirect wages represent the cost of labour,
ancillary to the production. In other words, wages which cannot be
directly identified with a job; are generally treated as indirect wages.
Examples are- Salaries and wages of foremen, supervisors,
inspectors, maintenance labour, store-keepers, clerical staff, watch
and ward, internal transport etc.

Element # 6. Indirect Expenses:

These are expenses which cannot be allocated, but can be
apportioned to or absorbed by the cost centers or cost units. In
other words, expenses other than indirect material and labour are
indirect expenses.
The following are examples of indirect factory expenses:
(i) Rent, rates and insurance in relation to factory
(ii) Depreciation, repairs, maintenance on factory building, plant
etc.
(iii) Welfare and medical expenses
(iv) Expenses of service department such as tool-room, boiler-
house, drawing-office, production and planning center.
(v) Cost of training of new employees.

Element # 7. Overheads:
All expenses other than the direct material cost, direct wages and
direct expenses are known as indirect expenses or overhead.
According to Weldon, overhead means “the cost of indirect
materials, indirect labour and such other expenses, including
services as cannot conveniently be charged direct to specific cost
units”. In other words, overhead means the aggregate of indirect
material cost, indirect labour and indirect expenses.
In general, overheads may be sub-divided into the
following groups:

(i) Production Overhead or Works Overhead or Factory

Overhead or Manufacturing Overhead:
They refer to all indirect expenses incurred on processes and
operations, which commence from the receipt of work order till its
completion, ready for delivery to customer or to the finished goods
store.
They are:
a. Indirect materials in works.
b. Indirect wages to workshop employees.
c. Factory expenses like rent, rates, taxes, insurance, repairs etc.
d. Depreciation on plant, machinery and maintenance of factory
building.
e. Welfare and medical expenses of factory employees.

(ii) Administrative Overhead:

It consists of all expenses incurred in formulating the policies,
directing the organisation and controlling the operations of an
undertaking, which are not directly connected to production,
selling, distribution, research and development activities.

(iii) Selling Overhead:

It is the cost of seeking to create and stimulate demand and of
securing orders. In other words all expenses in securing and
retaining customers for the products are selling expenses, since they
have been spent on creating and maintaining demand for the
product.
(iv) Distribution Overhead:
These are the expenses concerned with the delivery and dispatch of
finished goods to customers. In other words, it is an expenditure
incurred from the time; the product is completed until it reaches its
destination, for example-
(a) Cost of packing cases.
(b) Oil, grease, spare parts used in the upkeep of delivery vans.
(c) Warehouse rent, insurance, depreciation etc.
(d) Loading expenses, carriage out, salaries of dispatch clerk, wages
of dispatching attenders, cost of repairing of empties for reuse.