by Actual Cost
Actual cost is the actual expenditure made to acquire an asset, which includes the supplier-invoiced expense, plus the costs to deliver, set up, and test the asset. This is the cost of an asset when it is initially recorded in the financial statements as a fixed asset.
The actual cost approach is different from the use of estimates to derive costs that may occur in the future. The two approaches are commonly blended together, so that budgeted costs derived in advance are compared to actual costs to create a variance. The variance can be used to control operations and/or to work on improving the accuracy of predictions.
Well keep in mind in managerial accounting, you also have budgeted and forecasted costs. Neither of these costs reflects reality or actual costs most of the time. Management might set a budget to buy a new piece of equipment, but this budget does not always happen. Sometimes companies can get discounts from vendors and other times product prices increase.
Actual Cost = Direct Costs + Indirect Costs + Fixed Costs + Variable Costs + Sunken Costs
Direct Costs: Obvious costs directly related to your projects like fixed costs and variable costs.
Indirect Costs: Additional cost that supports your project but is not easily measured like administrative services.
Fixed Costs: Costs that remain consistently the same throughout the project, such as cost to rent equipment.
Variable Costs: Changing costs during the course of the project. An example the hours of anticipated labor for a project might be greater than the actual time it took for labor to be complete.
Sunken Costs: These are costs that have incurred due to an error or change of scope that must be included in the total cost of the project.
Normal costs
Normal costing uses a predetermined annual overhead rate to assign manufacturing overhead to products. In other words, the overhead rate under normal costing is based on the expected overhead costs for the entire accounting year and the expected production volume for the entire year.
Normal costing uses actual direct materials and direct labor costs, but adds budgeted factory overhead to track manufacturing costs. The budgeted factory overhead is calculated using your indirect costs and production estimates. Estimates are based on actual indirect costs and units produced from prior manufacturing runs. Since indirect costs like utilities, rent and depreciation remain fixed over time, normal costing can be used as a benchmark to monitor production costs.
It is a general rule that in the calculation of actual overhead rate, actual overheads will be divided with the actual quantity and not with the budgeted quantity. The vice versa also applies. The reason for this rule is simple as this provides more authentic results as you are comparing the like terms. However, contradictory as the may sounds, these rules do not apply in normal costing as in this method, the budgeted manufacturing overhead rate is multiplied with the actual quantity to derive the actual overhead costs. The reason for this is that it provides for the more authentic allocation base, and the overheads are allocated properly this way.
The overhead rate is the only figure that is budgeted in this method. To determine the material and labor costs, the actual figures are used. The same goes with the quantity of allocation.
Normal costing is used to derive the cost of a product. This approach applies actual direct costs to a product, as well as a standard overhead rate. It includes the following components:
- Actual cost of labor
- Actual cost of materials
- A standard overhead rate that is applied using the product’s actual usage of whatever allocation base is being used.
