Theoretically, selling expense is not a charge to production, but the dividing line between this view and the practical one in most cases is a very fine one, and in the interest of simplification instead of elaboration, the commercial will be treated in this presentation of the subject as a part of the general expense, and will be considered in detail later.
4. Expense Based on Cost Price or Selling Price. Having shown that expense is of necessity an item which must enter into true cost, the question at once arises as to what it is related. Is the amount of expense to be borne by any article of production based on its cost or its selling price? While it is noted that some accountants claim the latter should be the basis for calculation, the consensus of opinion seems decidedly in favor of the cost price as the correct one, and there seems to be good argument for the stand thus taken:
(a) Inasmuch as the selling price cannot be established until the cost price has been ascertained, which is to include the expense, it is apparent that the expense must be calculated from data already in hand; either the direct labor or material cost. The selling price is established after, and contingent on, the cost price, not the reverse.
(b) Again, the selling price may vary according to the demands of trade; different prices to different classes of customers, as well as the wholesale and retail prices for the same article. In either case, the cost price is the same and is not influenced one way or the other by the selling price. The selling price may fluctuate while the cost price remains positive and stationary.
(c) While the selling price is theoretically based on cost, it is often fixed by the trade, or regulated to meet competition regardless of cost, and the expense accounts are found to continue about the same each month whether the selling price is high or low.
(d) In times of depression, or when business is slack, it is common practice to "mark down" the selling price and increase the amount of sales at a smaller percentage of profit.
(e) It is difficult to see wherein there would be any difference in the expense of manufacturing an article which sells at $110.00 over what it would be were the price but $100.00, yet there would be if the selling price were used as a basis.
Other reasons will suggest themselves, but these just referred to are quite sufficient to show that the selling price is too erratic and that expense will be found more reliable when figured at cost price, which method has, therefore, been adopted as the best practice.
5. Expense Based on Cost of Labor or Material. Having decided that expense should be reduced in some manner from the direct cost price rather than the selling price, it is remembered that we still have two items of cost to choose from: The labor cost and that of the material. There are those who maintain that the material cost is the correct starting point for calculations, but there are few manufacturers, if any, who do this.
An attempt has been made to use the combined total of labor cost and material, but this method is hardly worthy of serious consideration. The best practice points almost without argument to the labor cost as the true basis of expense; this is not only the logical conclusion but common sense: