Period Costs

Period costs refer to all those costs which are not related or tied with the production process of the company, i.e., they are not assigned with any of the particular products of the company and are thus shown in the financial statement of the company for the accounting period in which they are incurred.

Also termed as period expenses, time costs, capacity costs, etc these are apportioned as expenses against the revenue for the given tenure. Some examples include General administration costs, sales clerk salary, depreciation of office facilities, etc.

• Period costs are those expenses that are not connected to the company's production process, i.e., they are not assigned to any specific goods and are thus included in the business's financial statement for the accounting period in which they are incurred.
• These expenses are allocated as a percentage of income for the specified period. Examples include general administration expenses, sales clerk salaries, and office facility depreciation.
• Period costs are of three types: historical, current, and pre-determined. They are segregated based on the period that they are attributed.
• There isn't a precise method for figuring out this cost. Finding the period expenditure in all the details does not have a set method. The management accountant must carefully assess the time expense and determine if it will be included in the income statement.

Period costs help the management understand the burden of cost that a firm is facing irrespective of whether the company is working or not, earning any profit or not. Moreover, it helps authorities identify the irrelevant unavoidable costs that will always consider reaching the breakeven point.

Such cost classifications have been proven useful to people, like most analysts who develop several costs, classifying them per their uses in various managerial applications. Identifying and categorizing these costs is important as different purposes require different cost constructs.

To understand the period costs definition well, let us understand the cost classifications. Costs can be classified into product and period expenses. Product costs are a cost that is allocated to products and are to be formed as part of inventory valuation. Period costs, on the other hand, are not associated with production and should not form part of inventory valuation. Generally, unavoidable costs are considered period expenses.

Accounting

So far as period costs accounting is concerned, these are reported based on the following:

• Revenue for which they are incurred
• Tenure got over and needed to be charged to profit and loss account
• Accrual for a specific accounting period

Period expenses appear on the income statement with an appropriate caption for the item, which acts as a disclosure, in the period when the cost is incurred or recognized.

Period expenses, however, hardly play a role in decision-making. However, it is mandatory to consider it for decision-making in below mentioned exceptional situations:

• When they are specifically incurred for any contract;
• When they are incremental;
• When they are avoidable or discretionary
• When they are incurred instead of another

These costs are classified into three categories – historical, current, and pre-determined.

• Historical Expense – Expenses relating to the prior period. Such costs are already incurred and are irrelevant during decision-making.
• Current Expense – Expenses relating to the present period.
• Pre-Determined Expense– Expenses based on estimates of a future period. Such costs are computed in advance to prepare the budget by considering all the factors affecting such costs. Such costs are to be kept well in mind while doing the decision-making.

There is no clear-cut formula for calculating this cost. There is no fixed approach to identifying the period expense in all the particulars. The Management accountant has to carefully evaluate the time cost and check whether the same will form part of an income statement.

Time cost forms a significant portion of indirect costs, hence critical for running the business.

Let us consider the following period costs examples to understand the concept better:

#1 - Fixed Cost

The best example is the Fixed Cost. Fixed costs remain constant for a given tenure, irrespective of the level of output. Generally, fixed cost consists of fixed production overhead and Administration Overhead. The fixed cost per unit of output will vary inversely with changes in output level. As output increases, fixed cost decreases and vice–versa. Fixed cost is treated as a time cost and charged to the Profit and Loss Account.

It will keep accruing, and an entity will have to bear the same without profit or revenue. Examples of Fixed costs are rent, salary, insurance, etc.

#2 - Usage of Period Expense in Inventory Valuation

FIFO method. Weighted-average costing mixes current period expenses with the costs from prior periods in the beginning inventory. This mixing makes it impossible for managers to know the current period expense of manufacturing the product. First-in, first-out (FIFO) costing addresses this problem by assuming that the first units worked on are the first units transferred out of a production department.

FIFO separates current period expenses from those in the beginning inventory. In FIFO costing, the costs in the beginning inventory are transferred out in a lump sum. FIFO costing does not mix costs from prior tenure (in beginning inventory) with a current period expense.

#3 - Capacity Cost

Resources consumed to provide or maintain the organization’s capacity to produce or sell are capacity costs or supportive overheads. Capacity costs are further divided into standby costs and enabling costs. Standby costs will continue if the firm shuts down operations or facilities temporarily. Examples are depreciation, property taxes, and some executive salaries.

The firm will not incur enabling costs if operations shut down but will incur them if operations occur. Some will likely be constant over the entire output range; others will vary in steps. For example, a single-shift operation might require only one departmental supervisor, but the operation of a second shift will require a second supervisor.

This has been a guide to what are Period Costs. Here we explain its formula and accounting technique along with its types and examples. You can learn more about accounting from the following articles –

• Examples of FIFO Inventory
• Semi Variable Cost
• Examples of Period Cost
• Period Cost vs Product Cost