Final answer:
Costs are categorized by the function when using traditional costing and by behaviour when using activity-based costing. Understanding these distinctions aids in performing cost/benefit analyses and managing a firm's finances better by considering various types of costs, such as fixed, marginal, average total, and average variable costs, as well as explicit and implicit costs.
Step-by-step explanation:
Costs are categorized by the function when using traditional costing and by behaviour when using activity-based costing. In traditional costing, costs are categorized by their function, such as production, administration, and sales. On the other hand, activity-based costing categorizes costs by their behavior and the activities that drive those costs. This distinction can be especially useful when a business performs a cost/benefit analysis, which compares what one will sacrifice and gain to make a decision. Weighing marginal costs—the extra cost of adding unit—against marginal benefits—the extra benefit of adding the same unit—is a crucial process in decision-making.
Understanding the different measurements of costs, such as fixed costs, marginal costs, average total costs, and average variable costs, offers unique insights for the firm. Moreover, it is important to distinguish between explicit costs, which are out-of-pocket and actual payments, and implicit costs, which represent opportunity costs of using firm-owned resources without direct payments. These concepts help business managers and accountants comprehend and organize the monetary implications of their business decisions.