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Variable and Full Costing

Managerial Accounting

Prepared by Diane TannerUniversity of North Florida

Chapter 3

Measuring Product Costs

Includes all costs necessary to get products ready to sell

Two methods to determine product costs Full (absorption) costing

Required for GAAP reportingEmphasizes the cost function

Variable costingUsed for internal decision makingEmphasizes cost behavior

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Helps managers make product

decisions as it is easy to predict how costs will behave in

the future

Reporting Product Costs

• Merchandising companies– Buy goods to sell– Product costs reported

• Merchandise Inventory on the balance sheet • Cost of Goods Sold on the income statement

• Manufacturing companies– Buy materials to produce products to sell– Product costs reported

• Raw Materials, Work in Process, Finished Goods on the balance sheet

• Cost of Goods Sold on the income statement

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Components of Product Costs

Inventoriable costs include Direct materials Direct labor Variable manufacturing overhead

costs Fixed manufacturing overhead costs

Full Costing

Variable Costing

Inventoriable costs include Direct materials Direct labor Variable manufacturing overhead

costs

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Two Forms of Income Statements5

Gross margin is the amount available to cover operating expenses and to go

towards profit.

Full costing income statement Costs are reported based on function

Product versus period

Variable costing income statement Costs are reported based on behavior

Variable versus fixed

Contribution margin is the amount available to cover fixed costs and to go

towards profit.

GP Ratio vs. CM Ratio

Gross Profit (in $)

Sales (in $)Indicates the portion of every sales dollar available to cover operating costs and to go towards profit

Contribution Margin (in $)Sales (in $)

Indicates the portion of every sales dollar available to cover fixed costs and to go towards profit

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Interpretation

Interpretation

Expanded GAAP Income Statement7

Sales $100,000Cost of goods sold: Variable product costs $22,000 Fixed product costs 11,000Total cost of goods sold 33,000Gross margin (gross profit) 67,000Operating expenses:

Variable period costs 38,000Fixed period costs 19,000

Total operating expenses 57,000Net operating income $10,000

$67,000$100,000

Gross profitSales

= = 67.00%

Expanded Variable Costing Income Statement

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Sales $100,000Variable costs: Variable product costs $22,000

Variable period costs 38,000Total variable costs 60,000Contribution margin 40,000Fixed expenses: Fixed product costs 11,000

Fixed period costs 19,000Total fixed expenses 30,000Net operating income $10,000

$40,000$100,000

Contribution MarginSales

= = 40.00%

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The Contribution Approach

Consider the following information developed by the accountant at Element Skateboard Co:

Total Per Unit PercentSales (500 skateboards) 250,000$ 500$ 100%Variable expenses 150,000 300 60%Contribution margin 100,000$ 200$ 40%

Fixed expenses 80,000 Net operating income 20,000$

For each additional skateboard sold, profit will

increase by $200. Fixed costs in total do not change.

For each sales dollar generated by Element, profit will increase by $0.40. Fixed costs in total do not change.

CMR: = $200/$500 = 40%

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The End