Chapter 6 MGMT 201

In absorption costing, product costs =

Direct materials, direct labor, variable manufacturing overhead, & fixed manufacturing overhead

LO 1

Explain how variable costing differs from absorption costing and compute unit product costs under each method

The difference between absorption costing net operating income and variable costing net operating income can be explained by the way these two methods account for...

Fixed overhead costs

When the number of units produced is greater than the number of units sold, variable costing net operating income will be...

less than absorption costing net operating income

LO 3

Reconcile variable costing and absorption costing net operating income and explain why the 2 amounts differ

Enabling CVP analysis

variable costing categorizes costs as variable and fixed so it is much easier to use this income statement format for CVP analysis because absorption costing assigns fixed manufacturing overhead costs to units produced, a portion of fixed manufacturing overhead resides in inventory when units remain unsold --> the potential result is positive operating income when the number of units sold is less than the breakeven point

in absorption costing, period costs =

variable selling & administrative expenses AND fixed selling & administrative expenses

Which of the following costing approaches is best suited for cost-volume-profit analysis?

Absorption Normal Standard Variable

traceable becomes common ...

As previously mentioned, fixed expenses that are traceable to one sement can become common fixed expenses if the company is divided into smaller groups

Find break even point for the company

CM Ratio = CM/Sales BE Point = (Traceable FC + Common FC)/(CM Ratio)

Break even point for a segment

CM Ratio = CM/Sales BE Point = Traceable FC/CM ratio

Common costs & segments

Common costs should not be arbitrary allocated to segments based on the rationale that "someone has to cover the common costs" for 2 reasons 1. this practice may make a profitable business segment appear to be unprofitable 2. Allocating common fixed costs forces managers to be held accountable for costs they cannot control

Identifying COMMON fixed costs

Common fixed costs arise because of the overall operation of the company they would not disappear if any particular segment were eliminated examples of common fixed costs include: - The salary of the CEO of GM is a common fixed cost of the various divisions of GM - The cost of a heating safeway or kroger grocery store is a common fixed cost of the various departments

LO 5

Compute company-wide and segment break-even points for a company with traceable fixed costs

Which of the following statements about the segment margin is not true?

In preparing a segmented income statement, the variable expenses are deducted from sales to yield the contribution margin for each segment. The segment margin is obtained by deducting the common fixed costs that have been allocated to a segment from that segment's contribution margin. The segment margin represents the margin available after a segment has covered all of its own costs. The segment margin is the best gauge of the long-run profitability of a segment because it includes only those costs that are caused by the segment.

segmented income statement ...

Once a company prepares a contribution format segmented income statement, it can use the statement to make decisions and perform break-even analysis

LO 2

Prepare income statements using both variable costing and absorption costing

Which of the following is a common mistake made by companies when assigning costs to segments?

They use allocation bases that drive the costs when assigning costs to segments. They trace fixed expenses to segments when it is feasible to do so. They assign the costs of the corporate headquarters buildings to segments because the segments must cover those costs. They include "upstream" and "downstream" costs when preparing profitability analyses that relate to individual product costs.

Financial Reporting

U.S GAAP requires absorption costing for external financial reporting since absorption costing is required for external reporting, most companies also use it for internal reports rather than incurring the additional cost of maintaining a separate variable cost system for internal reporting

Segment reporting

U.S GAAP requires publicly traded companies to include segment financial data in their annual reports companies must report segmented results to shareholders using the same method that are used for internal segment reports

what is a segment?

a segment is any part or activity of an organization about which a manager seeks cost, revenue, or profit data - an individual store - a service center - a sales territory

quiz 1. which method will produce the highest values for work in process and finished goods inventories?

absorption costing

When the units produced are equal to the units sold, the net operating income computed using the variable costing method is ______ the net operating income using the absorption costing method

equal to

When the units produced are less than the units sold, the net operating income computed using the variable costing method is ______ the net operating income using the absorption costing method.

greater than

traceable fixed costs

it's important to realize that traceable fixed costs of one segment may be a common fixed cost of another segment for example: the landing fee paid to land an airplane at an airport is traceable to the particular flight, but it is not traceable to first-class or economy-class passengers

When the units produced exceed the units sold, the net operating income computed using the variable costing method is ______ the net operating income using the absorption costing method

less than

segmented income statement

out approach to segment reporting uses the contribution format - Contribution margin is computed by making sales minus variable costs - segment margin is television contribution to profits

segment margin

the segment margin is the best gauge of the long-run profitability of a segment Segment sales (segment variable costs) --------- segment contribution margin (traceable fixed costs) --------- segment margin

keys to segmented income statements

there are 2 keys to building segmented income statements 1. a contribution format should be used because it separates fixed from variable costs and it enables the calculation of a contribution margin 2. Traceable fixed costs should be separated from common fixed costs to enable the calculation of a segment margin

Identifying Traceable Fixed Costs

traceable fixed costs arise because of the existence of a particular segment and would disappear over time if the segment itself disappeared examples of traceable fixed costs include: 1. the salary of the fritos product manager at pepsiCo is a traceable fixed cost of the fritos business segment of PepsiCo 2. the maintenance cost for the building in which Boeing 747s are assembled is a traceable fixed cost of the 747 business segment of Boeing

the difference between absorption costing and variable costing is the treatment of fixed manufacturing overhead

true

Absorption costing income statements ignore ________.

variable and fixed costs distinctions