MANAGEMENT ACCOUNTING If production is greater than sales, absorption costing ne
ID: 2490883 • Letter: M
Question
MANAGEMENT ACCOUNTING If production is greater than sales, absorption costing net income will be greater than variable costing net income. Absorption costing net income is higher because some of the fixed manufacturing overhead costs will be deferred in the inventory account until the products are sold.
1. Explain how absorption costing is used to calculate the cost of goods manufactured. Please give example.
2. Explain how variable costing system costing is used to calculate the cost of goods manufactured. Please give example.
Can you list the resources used please. -investpedia and wikipedia are not sources accepted. thank you
Explanation / Answer
1. Absorption costing
Absorption costing is a costing system which treats all costs of production as product costs, regardless weather they are variable or fixed. The cost of a unit of product under absorption costing method consists of direct materials, direct labor and both variable and fixed overhead. Absorption costing allocates a portion of fixed manufacturing overhead cost to each unit of product, along with the variable manufacturing cost. Because absorption costing includes all costs of production as product costs, it is frequently referred to as full costing method.
Example
A small company that produces a single product has the following cost structure.
Number of units produced : 6,000
Variable cost per unit =
Direct materials= $2
Direct labour=$4
Variable Manufacturing Overhead= $1
Variable selling & Adm exp = $3
Fixed cost per year =
Fixed manufacturing OH = $ 30,000
Fixed selling & adm exp = $ 10,000.
Using the above, Cost of goods manufactured under absorption costing
2. Variable costing
Variable costing is a costing system under which those costs of production that vary with output are treated as product costs. This would usually include direct materials, direct labor and variable portion of manufacturing overhead. Fixed manufacturing cost is not treated as a product costs under variable costing. Rather, fixed manufacturing cost is treated as a period cost and, like selling and administrative expenses, it is charged off in its entirety against revenue each period. Consequently the cost of a unit of product in inventory or cost of goods sold under this method does not contain any fixed overhead cost. Variable costing is some time referred to as direct costing or marginal costing. To complete this summary comparison of absorption and variable costing, we need to consider briefly the handling of selling and administrative expenses. These expenses are never treated as product costs, regardless of the costing method in use. Thus under either absorption or variable costing, both variable and fixed selling and administrative expenses are always treated as period costs and deducted from revenues as incurred.
Cost of goods manufactured under variable costing
Under the absorption costing, notice that all production costs, variable and fixed, are included when determining the unit product cost. Thus if the company sells a unit of product and absorption costing is being used, then $12 (consisting of $7 variable cost and $5 fixed cost) will be deducted on the income statement as cost of goods sold. Similarly, any unsold units will be carried as inventory on the balance sheet at $12 each.
Under variable costing, notice that all variable costs of production are included in product costs. Thus if the company sells a unit of product, only $7 will be deducted as cost of goods sold, and unsold units will be carried in the balance sheet inventory account at only $7.
$ Direct Mat 2 Direct Labour 4 Variable manufacturing OH 1 Total variable production cost 7 Fixed manufacturing OH 5 ( 30000/6000) Unit product cost 12Related Questions
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