by VINCENT T. DONNELLY Principal, Los Angeles Office
Presented before the Pomona Chapter of the National Association
of Accountants, Pomona, California—January 1961
MANAGEMENT has long realized that volume plays an important part in the determination of costs and profits. Direct Costing is a method of providing information about the relationship of cost-volume-profit in such a way as to make it more understandable to various levels of management. This is accomplished by integrating into the accounts various related techniques which include variable or flexible budgets, break-even charts and marginal profit analysis. These techniques are not new and did not come into being with the origination of Direct Costing. However, by the integration of the techniques into the accounting system it has been made possible to obtain facts and perform more accurate profit planning without the necessity of resorting to after-the-fact analysis.
Direct Costing has been defined in the NACA Research Report #23 as the "segregation of manufacturing costs between those which are fixed and those which vary directly with volume. Only the prime costs plus variable factory costs are used to value inventory and cost of sales. The remaining factory expenses are charged off currently to profit and loss. However, the point to be emphasized is that direct costing is primarily a segregation of expenses and only secondarily a method of inventory valuation. By this approach, full attention can be devoted to the effect which direct costing has on the profit and loss statement and supplementary operation reports."
Many of you have probably heard the statement made that direct costing is a system for eliminating fixed costs from inventory. While this is true for a pure system of direct costing, it is an incidental
feature rather than the chief objective of the plan, which is the providing of information on a timely and current basis about cost-volume-profit relationships.
You also may have heard individuals say that they have utilized direct costing techniques for many years. What most of them really mean is that they have omitted from inventory valuation such fixed