AC & MC Costing

8/6/2019 AC & MC Costing

1/41

The McGraw-Hill Companies, Inc., 2002McGraw-Hill/Irwin

1919--11

Absorption, Variable,

and Throughput

Costing

Chapter

Nineteen


2/41


1919--22

Absorption Costing

A system of accounting for costs in whichA system of accounting for costs in whichboth fixed and variable production costsboth fixed and variable production costs

are considered product costs.are considered product costs.

FixedCosts

VariableCosts

Product


3/41


1919--33

Variable Costing

A system of cost accounting that onlyA system of cost accounting that onlyassigns the variable cost of production toassigns the variable cost of production to

products.products.

FixedCosts

VariableCosts

Product


4/41


1919--44

Absorption and Variable Costing

Absorption

Costing

Variable

Costing

Direct materials

Direct labor Product costsProduct costs Variable mfg. overhead

Fixed mfg. overhead

Period costs

Period costs Selling & Admin. ex p.


5/41


1919--55


Absorption

Costing

Variable

Costing

Direct materials

Direct labor Product costsProduct costs Variable mfg. overhead

Fixed mfg. overhead

Period costs

Period costs Selling & Admin. ex p.

The difference between absorption and variablecosting is the treatment of fixed manufacturing overhead.


6/41


1919--66

Let t e er t exampleandsee w at we an learnabout t edifferencebetweenabsorptionand ariablecosting.



7/41


1919--77

Mellon Co. produces a single product withMellon Co. produces a single product withthe following information available:the following information available:

Number of units produced annually 25,000

Variable costs per unit:Direct materials, direct labor

and variable mfg. overhead 10$

Selling & administrative

expenses 3$

Fixed costs per year:

Mfg. overhead 150,000$


expenses 100,000$



8/41


1919--88

Unit product cost is determined as follows:Unit product cost is determined as follows:

A r i

C i

V ri l

C i

ir m ri l , ir l r,

ri l m . r

i m . r

( , , i ) 6 -

U i r 6


Sellingandadministrati eexpensesarealways treatedasperiodexpensesand

deducted from revenue.


9/41


1919--99

Absorption Costing

Income Statements

Absorption osting

Sa le s (20,000 $30) 600,000$Lesscost ofgoodssold:

Be ginn ing inventory

Add OGM

Goodsava ila ble forsale

End ing inventory

Grossm arginLessse lling a dm in. e x p.

aria ble

ix e d

Ne t income

Mellon Co. had no beginning inventory, produced 25,000Mellon Co. had no beginning inventory, produced 25,000units and sold 20,000 units this year at $30 each.units and sold 20,000 units this year at $30 each.


10/41


1919--1010

Absorption osting


Be ginn ing inventory -$

Add OGM (25,000 $16) 400,000

Goodsava ila ble forsale 400,000$

End ing inventory (5,000 $16) 80,000 320,000

Grossm argin 280,000$Lessse lling a dm in. e x p.

aria ble

ix e d

Ne t income

Absorption Costing

Income Statements



11/41


1919--1111

Absorption osting


Be ginn ing inventory -$

Add OGM (25,000 $16) 400,000

Goodsava ila ble forsale 400,000$

End ing inventory (5,000 $16) 80,000 320,000

Grossm argin 280,000$Lessse lling a dm in. e x p.

aria ble (20,000 $3) 60,000$

ix e d 100,000 160,000

Ne t income 120,000$


Absorption Costing

Income Statements


12/41


1919--1212

Variable Costing

Income Statements

Now lets look at variable costing by Mellon Co.Now lets look at variable costing by Mellon Co.Variable osting

Sa le s (20,000 $30) 600,000$

Lessva ria ble expenses:

Be ginn ing inventory -$Add OGM

Goodsa va ila ble forsale

End ing inventory

Varia ble cost ofgoodssold

Varia ble se lling a dm inistra tive

expensesontribution margin

Less fix e dexpenses:

Ma nufa cturing over e a d

Se ll ing a dm inistra tive expenses

Ne t income


13/41


1919--1313

Variable Costing

Income Statements

Now lets look at variable costing by Mellon Co.Now lets look at variable costing by Mellon Co.Variable osting

Sa le s (20,000 $30) 600,000$


Be ginn ing inventory -$Add OGM (25,000 $10) 250,000

Goodsa va ila ble forsale 250,000$

End ing inventory (5,000 $10) 50,000

Varia ble cost ofgoodssold 200,000$


expensesontribution margin


Ma nufa cturing over e a d

Se ll ing a dm inistra tive expenses

Ne t income

Weexclude t efixedmanufacturing

over ead.


14/41


1919--1414

Variable ostingSa le s (20,000 $30) 600,000$


Be ginn ing inventory -$Add OGM (25,000 $10) 250,000

Goodsa va ila ble forsale 250,000$

End ing inventory (5,000 $10) 50,000

Varia ble cost ofgoodssold 200,000$


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


Ma nufa cturing over e a d 150,000$

Se ll ing a dm inistra tive expenses 100,000 250,000

Ne t income 90,000$

Variable Costing

Income Statements

Now lets look at variable costing by Mellon Co.Now lets look at variable costing by Mellon Co.


15/41


1919--1515

Cost of

oods

old

Ending

Inv ntory

riod

Expense Tot l

sorption ostingri le fg. osts 200,000$

ix e d fg. osts 120,000

20,000$

ariable osting

aria ble fg. osts 200,000$ix e d fg. osts -

200,000$

Comparing Absorption and

Variable Costing

Lets compare the methods.Lets compare the methods.


16/41


1919--1616


Variable Costing

Lets compare the methods.Lets compare the methods.Cost of

Goods

Sold

Ending

Inventory

Period

Expense Total

Absorption costingVariable mfg. costs 200,000$ 50,000$ -$

Fixed mfg. costs 120,000 30,000 -

320,000$ 80,000$ -$

Variable costing

Variable mfg. costs 200,000$ 50,000$ -$Fixed mfg. costs - - 150,000

200,000$ 50,000$ 150,000$


17/41


1919--1717

Cost of

Goods

Sold

Ending

Inventory

Period

Expense Total

Absorption costingVariable mfg. costs 200,000$ 50,000$ -$ 250,000$

Fixed mfg. costs 120,000 30,000 - 150,000

320,000$ 80,000$ -$ 400,000$

Variable costing

Variable mfg. costs 200,000$ 50,000$ -$ 250,000$Fixed mfg. costs - - 150,000 150,000

200,000$ 50,000$ 150,000$ 400,000$


Variable Costing

Lets compare the methods.Lets compare the methods.


18/41


1919--1818

Reconciling Income Under


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

Varia ble costingnet income 90,000$

Add: ix e dm fg. ove r e a dcosts

de ferre d in inventory

(5,000 units $6 perunit) 30,000

Absorptioncostingnet income 120,000$

ixedmfg. over ead $150,000Unitsproduced 25,000

= $6.00 perunit=


19/41


1919--1919

Extending the Example

Lets lookat

t esecondyearof

operationsfor Mellon

Company.


20/41


1919--2020

Mellon Co. Year 2

In its second year of operations, Mellon Co. started with anIn its second year of operations, Mellon Co. started with aninventory of 5,000 units, produced 25,000 units and soldinventory of 5,000 units, produced 25,000 units and sold

30,000 units at $30 each.30,000 units at $30 each.

Number of units produced annually 25,000Variable costs per unit:

Direct materials, direct labor

and variable mfg. overhead 10$


expenses 3$Fixed costs per yea r:

Mfg. overhead 150,000$


expenses 100,000$


21/41


22/41


1919--2222

Mellon Co. Year 2

Now lets lookat Mellons incomestatementassumingabsorptioncosting isused.


23/41


1919--2323

AbsorptionCostinga le s ( 0,000 $30) 900,000$

Le ss ost ofgoodssold:

e g. inve ntory ( ,000x $16) 0,000$AddCOGM (25,000 $16) 00,000

Goodsava ila ble forsa le 480,000$

End ing inve ntory - 480,000

Gross argin 420,000$

Le ssse lling a dm in. e x p.

aria ble (30,000 $3) 90,000$

ix e d 100,000 190,000

Net incom e 230,000$

Mellon Co. Year 2

Units inending inventory from t epreviousperiod.


24/41


1919--2424

AbsorptionCostinga le s (30,000 $30) 900,000$

Le sscost ofgoodssold:

e g. inve ntory (5,000x $16) 80,000$AddCOGM (25,000 $16) 400,000

Goodsava ila ble forsa le 480,000$

End ing inve ntory - 480,000

Grossm argin 420,000$

Le ssse lling a dm in. e x p.

aria ble (30,000 $3) 90,000$

ix e d 100,000 190,000

Net incom e 230,000$

Mellon Co. Year 2

25,000unitsproduced in t ecurrent period.


25/41


1919--2525

Mellon Co. Year 2

Next, well lookat Mellons incomestatementassumingvariablecostingvariablecosting isused.


26/41


1919--2626

Mellon Co. Year 2

Variable CostingSa les (30,000 $30) 900,000$

Lessva riable expenses:

Beg. inventory (5,000 $10) 50,000$

Add COGM (25,000 $10) 250,000

Goodsava ilable forsa le 300,000$End ing inventory -

Variable cost ofgoodssold 300,000$

Variable se lling adm inistrative

expenses (30,000 $3) 90,000 390,000

Contribution m argin 510,000$

Less fixedexpenses:Manufacturing over ead 150,000$

Se ll ing adm inistrative expenses 100,000 250,000



27/41


1919--2727

Variable CostingSa les (30,000 $30) 900,000$

Lessva riable expenses:

Beg. inventory (5,000 $10) 50,000$

Add COGM (25,000 $10) 250,000

Goodsava ilable forsa le 300,000$End ing inventory -

Variable cost ofgoodssold 300,000$

Variable se lling adm inistrative

expenses (30,000 $3) 90,000 390,000

Contribution m argin 510,000$

Less fixedexpenses:Manufacturing over ead 150,000$

Se ll ing adm inistrative expenses 100,000 250,000


Mellon Co. Year 2

Excludes fixedmanufacturingover ead.


28/41


1919--2828

Summary

In t e first period, production (25,000 units)

wasgreater t ansales (20,000).

Inco e Co parison

osting e t od 1st Period 2nd Period Tota l

Absorption 120,000 2 0,000 50,000Variable 0,000 2 0,000 50,000

In t esecondperiod, production (25,000 units)was less t ansales ( 0,000).


29/41


1919--2929

Summary

For t e two-yearperiod, total absorption

incomeand total variable incomeare t esame.

ncome Comparison

ostin e t od 1st Period 2nd Period Tota l

Absorption 120,000$ 230,000$ 350,000$Varia ble 0,000 260,000 350,000


30/41


1919--3030

Summary

Lets see if we can get an overview ofLets see if we can get an overview ofwhat we have done.what we have done.


31/41


1919--3131

Summary Comparison of Absorption

(AC) and Variable Costing (VC)

Pr i r

S l

T l

I r

E Peri E ense E ect Pr it E ect

i ed m . i ed m .

Pr duced > S ld Increase costsexpensed < costsexpensed AC > VC

AC VC

ixed m . ixed m .

Produced < Sold Decrease costsexpensed > costsexpensed AC < VC

AC VC

ixed m . ixed m .

Produced = Sold Nochange costsexpensed = costsexpensed AC = VC

AC VC

Thiswasthecase inthe irstperiodwhenproduction

of25,000unitswasgreaterthansalesof20,000units.

Inventor increasedfrom zeroto5,000unitsand$120,000absorption incomewasgreaterthan

$90,000variable income.


32/41


1919--3232

Productionversus

Sales

Total

Inventor

Effect Period Expense Effect Profit Effect

ixed mfg. ixed mfg.

Produced > Sold Increase costsexpensed < costsexpensed AC > VC

AC VC

ixed mfg. ixed mfg.


AC VC

ixed mfg. ixed mfg.


AC VC



Inthesecondperiodsalesof30,000unitsInthesecondperiodsalesof30,000unitsweregreaterthanproductionof25,000.weregreaterthanproductionof25,000.


33/41


1919--3333

Productionversus

Sales

Total

Inventor


ixed mfg. ixed mfg.


AC VC

ixed mfg. ixed mfg.


AC VC

ixed mfg. ixed mfg.


AC VC



Inventor decreasedfrom 5,000unitsto zero,and$230,000absorption incomewas less

than$260,000variable income.


34/41


1919--3434

Productionversus

Sales

Total

Inventor


ixed mfg. ixed mfg.


AC VC

ixed mfg. ixed mfg.


AC VC

ixed mfg. ixed mfg.


AC VC



orthetwo- earperiod,unitsproducedequalsunitssold,sototal absorption income

equalstotal variable income.


35/41


1919--3535

Cost-Volume-Profit Analysis

CVP includes all fixed costs to computeCVP includes all fixed costs to computebreakeven.breakeven.

Variable costing and CVP are consistent as bothVariable costing and CVP are consistent as bothtreat fixed costs as a lump sum.treat fixed costs as a lump sum.

Absorption costing defers fixed costs intoAbsorption costing defers fixed costs intoinventory.inventory.

Absorption costing is inconsistent with CVPAbsorption costing is inconsistent with CVPbecause absorption costing treats fixed costs onbecause absorption costing treats fixed costs ona per unit basis.a per unit basis.


36/41


1919--3636

Advantages

Management finds itManagement finds iteasy to understand.easy to understand.

Consistent withConsistent withCVP analysis.CVP analysis.

Emphasizes contribution inEmphasizes contribution inshortshort--run pricing decisions.run pricing decisions.

Profit for period notProfit for period notaffected by changesaffected by changes

in fixed mfg. overhead.in fixed mfg. overhead.

Impact of fixedImpact of fixedcosts on profitscosts on profitsemphasized.emphasized.

Evaluation ofVariable Costing


37/41


1919--3737

AdvantagesConsistent with longConsistent with long--runrun

pricing decisions that mustpricing decisions that mustcover full cost.cover full cost.

External reportingExternal reportingand income tax lawand income tax law

require absorption costing.require absorption costing.

Evaluation of Absorption Costing

Fixed manufacturing overhead isFixed manufacturing overhead istreated the same as the other producttreated the same as the other productcosts, direct material and direct labor.costs, direct material and direct labor.


38/41


39/41


1919--3939

Throughput Costing

Product

cost

Unit-levelspending for

direct costs.

Unit-level costs are incurred every time a unit of

product is manufactured and will not be incurredagain until the next unit is manufactured.


40/41


1919--4040

Throughput Costing

Example

In an automated process direct material may bethe only unit-level cost and so is the only product cost.

All other manufacturing costs are expensed as period costs.

Incentive to

overproduceis reduced

Average unit cost does

not vary with changesin production levels.

Advantages


41/41


1919--4141

End of Chapter 19

The End

Documents

AC & MC Costing