Traceable and Common Fixed Costs: Definitions, Differences, Examples, Formula

For unprofitable cost objects, the company’s management can cut the costs allocated and divert the money to other more profitable cost objects. The cost object can be a brand, project, product traceable cost line, division/department, or a branch of the company. The company should also determine the cost allocation base, which is the basis that it uses to allocate the costs to cost objects.

1. For example, electricity costs may not be straightforwardly traced to a specific product as usage was shared by different departments.
2. A cost object is more accounting and budgeting, while a cost driver is more management.
3. Some examples of cost objects are products, departments, customers, plant, territory, product line, enterprise R&D, etc.
4. The costs are first identified, pooled, and then allocated to specific cost objects within the organization.

Ignoring sunk costs has its own problems though, namely, the sunk cost dilemma. A fixed cost is a classification of expense within managerial accounting. Companies may also further classify it into other types, including traceable and common. Before discussing the difference between them, it is crucial to view them individually.

This type of thinking should lead to the choice that provides the greatest net additional benefits, regardless of what has happened in the past. After using the equipment for 8 years, the company decided to scrap it. For instance, if a business did not have a research-and-development division, the business would not have a research-and-development division manager to whom it had to pay a salary. If the research-and-development division never existed, the cost of the division manager’s salary would have never existed. Furthermore, if the research-and-development division ceased to exist, the cost of the division manager’s salary would no longer exist.

What is Cost Tracing – Meaning and Purpose of Cost Tracing

In accounting, it means the amount remains the same over several periods. Usually, companies view this cost according to the activity levels over that period. Therefore, a fixed cost is an expense that does not change regardless of activity levels over different periods. Operating cost objects include objects within the company for which the company would like to determine a cost.

What is Cost Allocation?

Like traceable fixed costs, common fixed costs affect management decisions. However, companies must allocate and divide these costs before further analysis. Usually, companies use costing methods and techniques to assign common costs to the responsibility centers. While still fixed, these costs may differ from one department to another based on the allocation basis used. Direct or traceable costs of departments can be determined using primary documents and accounting records.

What are Traceable and Common Fixed Costs? ( Definition and Explaination)

The use of the term “direct costs” is not limited to direct materials and direct labor. Cost allocation provides the management with important data about cost utilization that they can use in making decisions. It shows the cost objects that take up most of the costs and helps determine if the departments or products are profitable enough to justify the costs allocated.

While those premiums might be considered sunk in a personal sense, they’re not, because they provided you with a continuing benefit by protecting you from potential losses. The fact that you were lucky enough not to need the insurance doesn’t mean the money was wasted. Economists refer to this approach as “acting on the margins” because you’re focusing on the relative merits of future actions.

It’s never coming back, regardless of whether you continue or cancel the project. Only future costs and revenues matter since your decision affects only the future, not the past. If you continue, your future revenue is $600,000, but your future costs are only $150,000, a 4x return. Believing that sunk costs should be taken into account when making a decision is called the sunk cost fallacy, a common mistake in decision-making.

Therefore, companies must use allocation techniques to assign them to different centers. Traceable fixed costs, the meaning of this type of cost, and the distinction between traceable and common fixed costs are relevant in segmented financial reporting. The Financial Accounting Standards Board (FASB) requires that businesses provide segmented financial data in their annual reports. Besides common costs can be apportioned to costing objects like products, jobs, department, etc. without much difficulty. But the apportionment of joint costs involves many complexities and difficulties in cost accounting. The incurrence of common costs are influenced by management decisions, But joint costs are influenced by common production process and use of common raw materials.

In the case where the machinery is used specifically for a project, the depreciation on that particular machinery will be regarded as a traceable fixed cost. On the other hand, if the machinery is commonly used in the business, it would be treated as a common fixed cost. A cost that is easily traceable to a specific cost object is called a direct cost.

It becomes imperative to consider these costs to get a fair idea of the profitability of a certain segment. Any cost that can be easily and conveniently traced back to a specific product, customer, branch, plant, or any other cost object is a direct cost. Some examples of cost objects are products, departments, customers, plant, territory, product line, enterprise R&D, etc. These are the most common types of cost objects because a company would like to know the cost of its products in order to set a price. It also includes a group of products, services, departments, customers and suppliers, and so on. Any item to which a value can be traced and which plays a critical role in management strategy can be considered a cost object.

There is often certain ambiguity regarding the treatment of depreciation. Whether depreciation should be charged as a traceable fixed cost or a common fixed cost depends on the usage of the machinery. For example, the depreciation expense of the machinery is the fixed cost for the company. The company can separate the cost base on the depreciation expense of the location unit.