Transcription
Variable Costing:A Tool for ManagementChapter 7McGraw-Hill/IrwinCopyright 2010 by The McGraw-Hill Companies, Inc. All rights reserved.
Overview of Absorption and Variable CostingAbsorptionCostingVariableCostingDirect MaterialsProductCostsDirect LaborProductCostsVariable Manufacturing OverheadFixed Manufacturing OverheadPeriodCostsVariable Selling and Administrative ExpensesPeriodCostsFixed Selling and Administrative Expenses7-2
Unit Cost ComputationsHarvey Company produces a single productwith the following information available:7-3
Unit Cost ComputationsUnit product cost is determined as follows:Under absorption costing, all production costs, variableand fixed, are included when determining unit productcost. Under variable costing, only the variableproduction costs are included in product costs.7-4
Income Comparison ofAbsorption and Variable CostingLet’s assume the following additional informationfor Harvey Company. 20,000 units were sold during the year at a priceof 30 each.There is no beginning inventory.Now, let’s compute net operatingincome using both absorptionand variable costing.7-5
Absorption CostingFixed manufacturing overhead deferred ininventory is 5,000 units 6 30,000.7-6
Variable CostingVariablemanufacturingVariable Costingcosts only.Sales (20,000 30)Less variable expenses:Beginning inventory Add COGM (25,000 10)250,000Goods available for sale250,000Less ending inventory (5,000 10)50,000Variable cost of goods sold200,000Variable selling & administrativeexpenses (20,000 3)60,000Contribution marginLess fixed expenses:Manufacturing overhead 150,000Selling & administrative expenses 100,000Net operating income 600,000All fixedmanufacturingoverhead isexpensed.260,000340,000250,000 90,0007-7
Comparing the Two Methods7-8
Comparing the Two MethodsWe can reconcile the difference betweenabsorption and variable income as follows:Variable costing net operating income 90,000Add: Fixed mfg. overhead costsdeferred in inventory(5,000 units 6 per unit)30,000Absorption costing net operating income 120,000Fixed mfg. overhead 150,000 6 per unitUnits produced25,000 units7-9
Extended Comparisons of Income DataHarvey Company – Year Two7-10
Unit Cost ComputationsSince the variable costs per unit, total fixed costs,and the number of units produced remainedunchanged, the unit cost computations alsoremain unchanged.7-11
Absorption CostingUnit productcost.Absorption CostingSales (30,000 30)Less cost of goods sold:Beg. inventory (5,000 16)Add COGM (25,000 16)Goods available for saleLess ending inventoryGross marginLess selling & admin. exp.Variable (30,000 3)FixedNet operating income 900,000 80,000400,000480,000- 90,000100,000480,000420,000190,000 230,000Fixed manufacturing overhead released frominventory is 5,000 units 6 30,000.7-12
Variable CostingVariablemanufacturingcosts only.All fixedmanufacturingoverhead isexpensed.7-13
Comparing the Two MethodsWe can reconcile the difference betweenabsorption and variable income as follows:Variable costing net operating income 260,000Deduct: Fixed manufacturing overheadcosts released from inventory(5,000 units 6 per unit)30,000Absorption costing net operating income 230,000Fixed mfg. overhead 150,000 6 per unitUnits produced25,000 units7-14
Comparing the Two Methods7-15
Summary of Key Insights7-16
CVP Analysis, Decision Makingand Absorption costingAbsorption costing does not dovetail with CVP analysis,nor does it support decision making. It treats fixedmanufacturing overhead as a variable cost. It assigns perunit fixed manufacturing overhead costs to production.Treating fixed manufacturing overhead as avariable cost can: Lead to faulty pricing decisions and faultykeep-or-drop decisions.Assigning per unit fixed manufacturing overheadcosts to production can: Potentially produce positive net operating incomeeven when the number of units sold is less thanthe breakeven point.7-17
External Reporting and Income TaxesTo conform toGAAP requirements,absorption costing must be used forexternal financial reports in theUnder the TaxUnited States.Reform Act of 1986,absorption costing must beused when filling outSince top executivesincome tax returns.are typically evaluated based onearnings reported to shareholdersin external reports, they may feel thatdecisions should be based onabsorption costing data.7-18
Advantages of Variable Costingand the Contribution ApproachManagement findsit more useful.Consistent withCVP analysis.Net operating incomeis closer tonet cash flow.Consistent with standardcosts and flexible budgeting.AdvantagesEasier to estimate profitabilityof products and segments.Impact of fixedcosts on profitsemphasized.Profit is not affected bychanges in inventories.7-19
Impact of Lean ProductionWhen companies use Lean Production . . .Productiontends to equalsales . . .So, the difference between variable andabsorption income tends to disappear.7-20
End of Chapter 77-21
07.05.2013 · Fixed manufacturing overhead deferred in inventory is 5,000 units 6 30,000. 7-6. Variable Costing. Sales (20,000 30) 600,000 Less variable
