CH. 7 ACCT II

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 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

Max, Incorporated, has two divisions, South Division and North Division. South Division's sales, contribution margin ratio, and traceable fixed expenses are $500,000, 60%, and $100,000, respectively. What is the segment margin for the South Division?

$200,000 (contribution margin = sales x % contribution margin) (Segment margin = contribution margin - traceable fixed expenses)

Bovine Corporation has two divisions: televisions and mobile phones. The mobile phone division has a contribution margin of $600,000. The company's common fixed costs and total traceable fixed costs are $100,000 and $500,000 respectively. Assuming the traceable fixed costs of the television division are $300,000, what is the segment margin of the mobile phone division?

$400,000

Absorption Cost Method

(Fixed manufacturing ÷ units produced) + direct materials + direct labor + variable manufacturing overhead = Absorption costing

What needs to be included in segmented income statements?

- A contribution format should be used because it separates fixed from variable costs, and it enables the calculation of a contribution margin - Traceable fixed costs should be separated from common fixed costs to enable the calculation of a segment margin

Traceable Fixed Costs

- It is important to realize that the traceable fixed cost 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, business-class, and economy-class passengers.)

When preparing segmented income statements

- Use CM format - Identify traceable costs and deduct from segmented CM

Segment Margin =

Contribution Margin - Traceable fixed costs

Omission of Costs

Costs assigned to a segment should include all costs attributable to that segment from the company's entire value chain

Traceable costs

Costs easily traced to the revenue earned.

Failure to trace costs directly

Costs that can be traced directly to specific segments of a company should not be allocated to other segments.

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

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

Fixed Manufacturing Overhead is a

Period Cost

Fixed Selling and Administrative Expenses are

Period Costs

Variable Selling and Administrative Expenses are

Period Costs

Direct Labor is a

Product Cost

Variable Manufacturing Overhead is a

Product Cost

Contribution Margin =

Sales x %

Inappropriate allocation base

Some companies allocate costs to segments using arbitrary bases. Costs should be allocated to segments only when the allocation base actually drives the cost being allocated.

What is a common mistake made by companies when assigning costs to segments?

They assign the cost of the corporate headquarters buildings to segments because the segments must cover those costs

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

Variable

Absorption costing income statements ignore

Variable and Fixed Cost Distinctions

Segment

any part or activity of an organization about which a manager seeks cost, revenue, or profit data

Business segment's break-even point

computed by dividing its traceable fixed expenses by its contribution margin ratio.

Companywide break-even point

computed by dividing the sum of the company's traceable fixed expenses and common fixed expenses by the company's overall contribution ratio

Segment Margin

computed by subtracting the traceable fixed costs of a segment from its contribution margin, is the best gauge of the long-run profitability of a segment

Breakeven analysis for company and segment

o Divide common fixed + traceable fixed by CM margin ratio o Divide traceable fixed cost by segment CM margin ratio

Common Costs

should not be arbitrarily allocated to segments based on the rationale that "someone has to cover the common costs" for two 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

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

What is true about segment margin?

In preparing a segmented income statement, the variable expenses are deducted from sales to yield the 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