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Variable Costing:A Tool for Management

Chapter

5



© The McGraw-Hill Companies, Inc., 2000Irwin/McGraw-Hill

Absorption

Costing

Variable

Costing

Direct materials

Direct labor Product costs

Product costs Variable mfg. overhead

Fixed mfg. overhead

Period costsPeriod costs Selling & admin. exp.

Overview of Absorption and

Variable Costing




Harvey Co. memproduksi satuproduk jadi, berikut ini informasi :

Penghitungan Biaya per Unit




Unit product cost is determined as follows:

Selling and administrative expenses arealways treated as period expenses and

deducted from revenue.

Penghitungan Biaya per Unit




Absorption Costing

Sales (20,000 × $30) 600,000$Less cost of goods sold:

Beginning inventory -$

Add COGM (25,000 × $16) 400,000

Goods available for sale 400,000

Ending inventory (5,000 × $16) 80,000 320,000

Gross margin 280,000 Less selling & admin. exp.

Variable

Fixed

Net income

Harvey Co. had no beginning inventory, produced

25,000 units and sold 20,000 units this year.

Income Comparison of Absorption

and Variable Costing




Harvey Co. had no beginning inventory, produced

25,000 units and sold 20,000 units this year.Absorption Costing

Sales (20,000 × $30) 600,000$Less cost of goods sold:

Beginning inventory -$

Add COGM (25,000 × $16) 400,000


Ending inventory (5,000 × $16) 80,000 320,000

Gross margin 280,000 Less selling & admin. exp.

Variable (20,000 × $3) 60,000$

Fixed 100,000 160,000

Net income 120,000$




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Variable Costing

Sales (20,000 × $30) 600,000$

Less variable expenses:

Beginning inventory -$Add COGM (25,000 × $10) 250,000


Ending inventory (5,000 × $10) 50,000

Variable cost of goods sold 200,000

Variable selling & administrative

expenses (20,000 × $3) 60,000 260,000 Contribution margin 340,000

Less fixed expenses:

Manufacturing overhead 150,000$

Selling & administrative expenses 100,000 250,000

Net income 90,000$

Now let’s look at variable costing by Harvey Co.



Variablecostsonly.

All fixedmanufacturing

overhead isexpensed.



Let’s compare the methods.





Reconciliation

Variable costing net income 90,000$Add: Fixed mfg. overhead costs

deferred in inventory

(5,000 units × $6 per unit) 30,000

Absorption costing net income 120,000$

Fixed mfg. overhead $150,000Units produced 25,000

= = $6.00 per unit

We can reconcile the difference betweenabsorption and variable income as follows:



Extending the Example

Let’s look at the second year

of operationsfor HarveyCompany.



Harvey Co. Year 2

In its second year of operations, Harvey Co.started with an inventory of 5,000 units,

produced 25,000 units and sold 30,000 units.



Harvey Co. Year 2

Unit product cost is determined as follows:

No change in Harvey’s cost structure.



Harvey Co. Year 2

Now let’s look at Harvey’s income statement assuming absorption costing is used.



Absorption CostingSales (30,000 × $30) 900,000$

Less cost of goods sold:

Beg. inventory (5,000 × $16) 80,000$

Add COGM (25,000 × $16) 400,000

Goods available for sale 480,000 Ending inventory - 480,000

Gross margin 420,000

Less selling & admin. exp.

Variable (30,000 × $3) 90,000$

Fixed 100,000 190,000 Net income 230,000$

Harvey Co. Year 2

These are the 25,000 unitsproduced in the current period.




Harvey Co. Year 2

Next, we’ll look at Harvey’s income statement assuming is used.




Harvey Co. Year 2Variable

costsonly.

All fixed

manufacturingoverhead isexpensed.




Summary




Advantages of the Contribution

Approach

Advantages

Management finds it

easy to understand.

Consistent with

CVP analysis.

Net income is closer

to net cash flow.

Profit is not affected by

changes in inventories.

Impact of fixed

costs on profits

emphasized.

Consistent with standard

costs and flexible budgeting.

Easier to estimate profitabilityof products and segments.




End of Chapter 7




Variable versus Absorption Costing

Fixed costs arenot really the costs

of any particularproduct.

All manufacturing costsmust be assigned toproducts to properly

match revenues and costs.

AbsorptionCosting

VariableCosting





Depreciation, taxes,insurance and salariesare just as essential to

products as variable costs.

AbsorptionCosting

VariableCosting

These are capacitycosts and will be

incurred if nothingis produced.




I guess we won’t be solving this controversy

today!




© Th M G Hill C i I 2000/ G

Impact of JIT Inventory Methods

In a JIT inventory system . . .

Productiontends to equalsales . . .

So, the difference between variable andabsorption income tends to disappear.

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