Chapter 6 Smartbook

Variable costing

- Variable and fixed **Variable costing deducts all variable expenses from sales to determine contribution margin and all fixed expenses from contribution margin to determine income or loss.

When preparing a contribution margin income statement:

- Variable and fixed costs are listed in separate sections of the statement - Cost of goods sold consists of only variable manufacturing costs

Variable costing treats fixed manufacturing overhead as a(n) ______ cost.

- Period Cost

When a segment cannot cover its own costs, that segment should:

- Probably be dropped

The segment margin is a valuable tool for assessing the long-run ______ of a segment.

- Profitability

Absorption Costing

- Required by GAAP and IFRS - Used by most companies for both internal and external reports

Contribution Variable Income Statement:

- Sales - Variable expenses - Contribution margin - Fixed Expenses - Net operating income

When there is no change in inventory, Net operating income will be:

- The same under both absorption costing and variable costing

When allocating fixed manufacturing overhead cost to units under absorption costing, the total fixed overhead costs must be divided by the number of units ______.

- produced

A part or activity within an organization about which managers would like cost, revenue or profit data is called a(n)_______.

- segment

The only time that the net income under absorption costing could be equal to net income under variable costing is when _____

There is no change in inventory

Citrus Scents produces body sprays. Each bottle has a unit product cost of $5.38. The company produced 1,490 bottle this month and sold 1,203 of those bottles. Total cost of goods sold was:

1,203 x $5.38 = 6,472.14

The difference between reported net income on variable costing and absorption costing income statements is based on how:

- Fixed overhead is accounted for

A traceable fixed cost:

- Is incurred because of the existence of the segment

JPL Company has two segments - Retail and Commercial. The retail segment has a contribution margin ratio of 40% and traceable fixed expenses of $70,000. Commercial has traceable fixed expenses of $50,000 and a contribution margin ratio of 55%. The company also has $30,000 of common fixed expenses. The break-even point in dollar sales for the Retail segment equals:

$70,000/40% = $175,000

When the number of units produced equals the number of units sold:

** No change in inventories occurs and absorption costing and variable costing net operating incomes are the same. - Absorption costing net income is equal to variable costing net income - Under both absorption costing and variable costing, all fixed overhead incurred flows to the income statement.

Absorption and variable costing net income are usually different due to the accounting for:

*** The two methods account for fixed manufacturing overhead costs differently - Fixed manufacturing overhead

Frames, Inc. manufactures large wooden picture frames. Each frame requires $19 of direct materials and $40 of direct labor. Variable manufacturing overhead cost is $9 per frame produced, and variable selling and administrative expense is $13 per frame sold. The company produces 5000 units each month and total fixed manufacturing overhead cost per month is $15,000. The unit product cost of each frame using variable costing is $ ____.

- 68 *** Unit product cost = $19 + $40 + $9 = $68 Selling and administrative costs are not product costs. Under variable costing, fixed overhead is also not a product cost.

For external reporting, Income statements are generally prepared using _____ costing, and _____ costing is used for internal decision making purposes.

- Absorption - Variable

When inventory increases, which costing method generally results in higher net income?

- Absorption Costing

One mistake companies make when preparing segmented income statements is arbitrarily assigning ____ fixed costs to segments.

- untraceable

Absorption Costing

-Manufacturing and selling administrative **Absorption costing separates products (manufacturing) costs from period (selling and administrative costs).

Pearls, Pearls, Pearls! manufactures and sells jewelry. The total variable cost of goods sold this month is $72,490. Variable selling and administrative cost is $22 per unit sold. If 350 units are produced and 314 units are sold this moth, the total variable cost reported on the income statement fir the month is $ ______.

79,398 Total variable cost = $72,490 + ($22 x 314). Variable selling costs are incurred on units sold, not units produced.)

Using variable costing and the contribution approach for internal decision making:

- Enables CVP analysis - Facilitates explaining changes in net income - supports decision making

Product costs under absorption costing are:

***Absorption costing treats all manufacturing costs as product costs, regardless of whether they are variable or fixed. Frequently referred to as the full cost method. - Variable manufacturing overhead - Fixed manufacturing overhead - Direct Labor - Direct materials

Advocates of variable costing believe fixed manufacturing costs:

- Are not caused by and cannot be meaningfully traced to specific units of production - Are period expenses

Under absorption costing product costs consist of:

- Both variable and fixed manufacturing costs

A fixed cost that supports the operations of more than one segment, but is not traceable in whole or part to any one segment is a(n) _____ fixed cost.

- Common Fixed Cost

Which of the following is NOT a common mistake in preparing segmented income statements?

- Computing contribution margin instead of gross margin

When inventory increases, absorption costing net operating income is higher than variable costing net income due to the fixed manufacturing overhead:

- Deferred in the inventory account on the balance sheet

Incorrectly or arbitrarily assigning common costs to segments:

- Distorts the profitability of segments - Could reduce the overall profits of the company - Holds managers responsible for costs they cannot control.

A segment should be discontinued when the segment:

- Has a contribution margin that cannot cover traceable fixed costs - Cannot cover its own costs ***If a segment can't cover its own costs, then that segment probably should be dropped (unless it has important side effects on other segments).

Net operating income under absorption costing is generally _____ net operating income under variable costing in periods in which inventory increases.

- Higher than

When units sold exceed units produced, net income under variable costing will generally be _____ net income under absorption costing

- Higher than

Absorption costing can lead managers to mistakenly believe that fixed manufacturing overhead costs will _____ as the number of units produced increases.

- Increase in total

When using absorption costing and explaining changes in operating income, financial statement users need to be aware of changes in _____ levels

- Inventory

Absorption costing and variable costing net operating income will be equal when:

- There is no beginning and no ending inventory - The number of units produced equals the number of units sold

When a segment is eliminated, a:

- Traceable fixed cost will disappear - Common fixed cost will remain unchanged

True or False: Under absorption costing, fixed overhead is treated like a variable cost because a portion of the total cost is allocated to each unit produced, rather than being expensed as one large sum.

- True

The use of ____ costing can lead to the omission of segment costs because non-manufacturing costs are not included as costs of a product.

- Variable