Excel Direct Costing.
Many companies think that they must include all the indirect costs in the products to calculate the final cost.
In this way, if we compare the sale price with the final cost, we will obtain the real profitability of each product.
Well, this would be a way of calculation, but it is necessary to understand very well the implication of this system in the analysis and decision making, since the costs can have different types of behavior, such as variable, semi-variable, fixed… and the indirect costs can be distributed with different criteria.
If you opt for a full costing system, you have to be very sure you understand it, since depending on the type of system chosen, we will have a different vision and therefore the decisions may also be different.
Depending on the cost calculation system chosen, their management may vary. Since as I have commented the perspective or the scope of how they are analyzed is different.
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In a system for calculating direct costs, we assign to the product only the direct costs (normally with a variable behavior)
In these cases, the company may be surprised and ask itself, so what do we do with the indirect costs?
If we only calculate direct costs, whether in a distribution, manufacturing or project-based company, the result of this calculation compared to the sale price will generate a gross margin.
You must understand that variable costs at the unit level have a fixed behavior, so this will be transferred to the gross margin. That is, the gross margin at the unit level will be more or less stable, which means that an increase or decrease in sales, this margin will not fluctuate very much.
This does not happen in a full costing calculation system, since by incorporating indirect costs (most of them with a fixed behavior) they can make the margin obtained highly variable.
Therefore, there are companies that prefer to control a more stable gross margin and manage indirect costs independently, since their behavior is mostly fixed.
In these cases, there are 2 types of controls, the control of the direct cost and the gross margin of each product and the indirect costs on the other hand.
For these companies, the most important thing is the gross margin, since by controlling this and comparing it with the total indirect costs, overall profitability can be more easily managed.
There are other companies, especially manufacturing companies, that add only the indirect manufacturing costs to the direct costs.
This makes sense since today many of the manufacturing processes are carried out by machines and this supposes a greater amount of the indirect costs over the direct ones in the calculation of the production cost.
Therefore, the cost calculation system to choose will depend on how the company needs to manage its costs, how it wants to control, analyze and plan them and what kind of decisions will be made as a result of its application.
I also want to comment that the cost systems may have different forms in the different companies that exist in the business world, conforming to the internal decision-making process and governed by a series of basic principles based on each purpose. What is clear is that cost accounting or cost systems improve information for decision-making in companies.
The Direct Costing system is based on the relevance of variable costs (which are those costs that vary with the level of activity), focusing on them.
In the process of classifying and analyzing all the company’s costs, it separates them into variable costs and fixed costs, allocating all the variable costs generated in the company to the product or service, taking all the costs directly to the income statement for the period. fixed costs.
Those who are in favor of this model base its correct application on the fact that the fixed costs that the company generates in a certain period are invariable to the product units that are manufactured or sold.
The model forces us to classify the costs into variable and fixed, it takes all the direct and indirect variable costs that exist in the company to assign them to each product or service, the fixed costs are taken to the income statement.
A concept closely linked to the variable cost system and perhaps the reason for its existence is the CONTRIBUTION MARGIN. The system helps us to calculate the contribution margin of our products or services and to be able to make decisions about them. A particular product or service? What product contributes more to assume the fixed costs of the company? Should we continue to produce or sell a product or service whose contribution margin is positive but whose gross margin is negative?
The company must know the unit and total contribution margin of its products or services, it will help you make important decisions.
Excel template prepared to perform profitability calculations with the Direct Costing method.
The Direct Costing calculation only takes into account the variable costs of the products to calculate their profitability, unlike the Full Costing system that distributes the fixed costs in the cost of the product.
The system calculates the gross margin for each product, including the variables quantity, unit price, unit cost…
The total profitability calculates the difference between the Total Margin of all products and the Fixed Costs.
The tool incorporates fields to carry out simulations with unit sales prices and costs.
The template is open and modifiable so you can adapt it to your company.
Images Direct Costing Free Excel Template
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