Costs by nature

What it means

Classifying costs by nature groups expenses by what was consumed: materials, energy, services, wages, contributions, depreciation, taxes and fees or finance costs. It answers the question of what the company spent money on, not for what purpose or which product.

The Slovak profit and loss statement is built on this classification and mirrors account class 5. Items such as production consumption, personnel costs and depreciation have their own lines, so any reader can see the company's cost structure.

The alternative is the classification by function, which groups costs by purpose, such as production, selling or administration, or by product and cost centre. International standards allow both formats, while Slovak rules prescribe the by-nature format for ordinary companies.

How it works in practice

The by-nature classification follows directly from the chart of accounts: materials, energy, repairs, travel, services, wages, statutory social contributions and so on. A company can add more detailed sub-accounts in its company chart of accounts, for example separating rent from telecoms.

On its own it is not enough for management. It shows that the company spent more on services but not which product or job is loss-making. It is therefore supplemented by tracking by cost centre and job, using sub-accounts or dimensions in the accounting system.

In financial analysis, the cost structure by nature is compared over time and with competitors. A rising share of personnel costs in revenue or a sharp increase in services are signals worth investigating. Comparison is easy because all Slovak companies report in the same structure.

What to watch out for

The same cost can be booked to different accounts, for example low-value equipment as materials consumed or as a service when supplied with installation. Inconsistent booking distorts year-on-year comparison, so classification rules should be set out in an internal policy.

Classification by nature says nothing about fixed and variable costs. For pricing decisions, break-even analysis or contribution margin, costs must also be split by how they behave with volume, which requires additional management analysis.