Cambrige AS and A Level Accounting Notes (9706)/ ZIMSECĀ  Advanced Accounting Level Notes: Costing for Overheads: Introduction

  • A business needs to know the cost per unit of its products for many reasons
  • For example in order to be able to:
  • Value its inventory properly
  • Come up with an appropriate selling price so that they can ensure they are making a profit
  • To analyse the profitability of the business, certain strategic units, different product mixes etc
Cost type$/unit
Direct materialsxxx
Direct Labour costxxx
Direct expenses (e.g. royalty per unit)


Prime Cost/unitxxx
Overhead portion/unitxxx
Total Cost/Unit


  • In principle the unit cost of direct materials, direct labour and direct expenses should not be a problem to ascertain
  • By their nature they can be traced to the product for example a baker would know how much flour,salt,sugar and milk (direct materials) each loaf requires
  • Arriving at the cost of these materials should be pretty routine
  • Overheads on the other hand cannot be so readily calculated
  • In particular fixed overheads are really difficult to establish for each given unit
  • Consider a baker who pays rentals of $10 00 per year
  • How much of this should he include into each unit of bread that he bakes and sells?
  • Traditionally two methods have been used to solve this problem:
  • Absorption costing and
  • Marginal Costing
  • Both have their advantages and disadvantages

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