Prepared by Debby Bloom-Hill CMA, CFM. Slide 5-2 CHAPTER 5 Variable Costing.

Prepared by Debby Bloom-Hill CMA, CFM

Slide 5-2

CHAPTER 5CHAPTER 5

Variable CostingVariable Costing

Slide 5-3

Full (Absorption) CostingFull (Absorption) Costing

Required by GAAP for external reporting purposes

Inventory costs include: Direct materials used

Generally variable Direct labor incurred

Generally variable Manufacturing overhead

Includes both fixed and variable costs

Learning objective 1: Explain the difference between full (absorption) and variable costing

Slide 5-4


Inventory costs includes: Direct materials used Direct labor incurred Variable manufacturing overhead

Fixed manufacturing overhead treated as a period cost

Helpful for internal decision making

Not allowed for GAAP reportingLearning objective 1: Explain the difference between full (absorption) and variable costing

Slide 5-5

Which of the following complies with GAAP for external reporting purposes?

a. Absolute costingb. Variable costingc. Fixed costingd. Full costing

Answer:d. Full costing, also known as

absorption costing


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Full (Absorption) CostingFull (Absorption) Costing


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Slide 5-8

Difference Between Full and Variable Costing

Difference Between Full and Variable Costing

The only difference between full and variable costing is their treatment of fixed manufacturing overhead Under full costing, fixed

manufacturing overhead is included in inventory These costs enter into the

determination of expense only when the inventory is sold

Under variable costing, fixed manufacturing overhead becomes a period expense


Slide 5-9

Variable Costing Income Statement


Classifies all expenses in terms of their cost behavior, either fixed or variable With variable and fixed expenses

separated, the contribution margin can be presented Contribution margin is revenues minus

total variable expenses The contribution margin allows users

to make reasonable estimates of how much profit will change with changes in sales

Learning objective 2: Prepare an income statement using variable costing.

Slide 5-10

Sales are $100,000 and contribution margin is $65,000

Calculate the contribution margin ratio:

Calculate the change in contribution margin if sales change by $10,000

$10,000 * 0.65 = $6,500




Slide 5-11

Variable Costing Income Statement Example

Variable Costing Income Statement Example


Slide 5-12

Full Costing Income Statement Example

Full Costing Income Statement Example


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The full costing income statement cannot be used to estimate the increase in profit due to an increase in sales The reason is that cost of goods sold

includes both fixed and variable costs

The fixed costs will not increase when sales increase Under full costing we do not know how

much of cost of goods sold is fixed or variable Learning objective 2: Prepare an

income statement using variable costing.

Variable Costing vs. FullCosting Income StatementVariable Costing vs. Full

Costing Income Statement

Slide 5-14

Example - Clausen Tube Example - Clausen Tube

Selling price $2,000 Variable costs (per unit):

Materials = $600/unit Labor = $225/unit Variable mfg. overhead = $75/unit Variable selling expense = $40/unit

Fixed mfg. overhead = $1,200,000

Production = 5,000 units

Learning objective 3: Discuss the effect of production on full and variable costing income.

Slide 5-15

Clausen TubeFull Cost per Unit

Clausen TubeFull Cost per Unit

Full cost per unit for 5,000 units is calculated as follows:


Total Material Costs

$600 per unit

Total labor costs $225 per unit

Total variable OH $75 per unit

Fixed Overhead $1,200,000/5,000 units

$240 per unit

Full Cost per Unit = $1,140 per unit

Slide 5-16

Clausen TubeVariable Cost per Unit

Clausen TubeVariable Cost per Unit

Variable cost per unit for 5,000 units is calculated as follows:


Total Material Costs $600 per unit

Total labor costs $225 per unit

Total variable OH $75 per unit

Variable Cost per Unit = $900 per unit

Slide 5-17

Clausen Tube – Income Statement

Clausen Tube – Income Statement

Selling price = $2,000/unit Full cost = $1,140/unit Variable cost = $900/unit Variable selling expense = $40/unit Fixed overhead = $1,200,000 Fixed selling expense = $100,000 Fixed administrative expense=

$500,000


Slide 5-18

Clausen Tube – Income Statements


Production equals sales (5,000 units)

Sales 5,000 x $2,000 = 10,000,000 Cost of goods sold 5,000 x $1,140 = 5,700,000 Gross margin 4,300,000 Selling & Admin Expenses* 800,000 Net Income 3,500,000

Sales 5,000 x $2,000 = 10,000,000 Variable costs 5,000 * ($900 + $40) 4,700,000 Contribution margin 5,300,000 Fixed costs** 1,800,000 Net Income 3,500,000

Full Cost

Variable Cost*100,000 + 500,000 + (5,000 x $40)

**1,200,000 + 100,000 + 500,000


Slide 5-19

Quantity Produced Equals Quantity Sold

Quantity Produced Equals Quantity Sold

When the quantity produced equals the quantity sold, there is no difference between net income calculated using full cost versus variable costing Since all units produced are sold, no

fixed cost ends up in ending inventory The only difference is that variable

costing calculates the contribution margin


Slide 5-20



Production (6,000 units) is greater than sales (4,800 units)


Sales 4,800 x $2,000 = 9,600,000 Variable Costs 4,800 * ($900 + $40) 4,512,000 Contribution margin 5,088,000 Fixed Costs** 1,800,000 Net Income 3,288,000

Full Cost

Variable Cost*100,000 + 500,000 + (4,800 x $40)

**1,200,000 + 100,000 + 500,000


Slide 5-21

Quantity Produced is Greater Than Quantity Sold

Quantity Produced is Greater Than Quantity Sold

When the quantity produced is greater than the quantity sold income will be greater under full costing as opposed to variable costing Under full costing, inventory cost

includes fixed manufacturing overhead Under variable costing, fixed

manufacturing overhead is a period cost


Slide 5-22



Production (6,000 units) is less than sales (7,200 units)


Sales 7,200 X 2,000 = 14,400,000 Variable costs 7,200 * ($900 + $40) 6,768,000 Contribution margin 7,632,000 Fixed costs** 1,800,000 Net Income 5,832,000

Full Cost

Variable Cost*100,000 + 500,000 + (7,200 x 40)

**1,200,000 + 100,000 + 500,000


Slide 5-23

Quantity Produced is Less Than Quantity Sold

Quantity Produced is Less Than Quantity Sold

Then the quantity produced is less than the quantity sold, income will be greater under variable costing as opposed to full costing Beginning inventory under fixed costing

includes fixed manufacturing overhead When the beginning inventory is

charged to cost of goods sold the charge will be higher under full costing


Slide 5-24

Variable Costing for External Reporting

Variable Costing for External Reporting


Slide 5-25

Summit Manufacturing, Inc. produces snow shovels. The selling price is $25. Costs are:

Materials 4 Labor 3 Variable overhead 2 Fixed overhead 168,000 Variable selling & admin 1 Fixed selling & sdmin 152,000 Full cost per unit

Production is 42,000 snow shovels. Calculate full cost per unit.


Slide 5-26

Summit Manufacturing, Inc. produces snow shovels. The selling price is $25. Costs are:Materials 4 4Labor 3 3Variable overhead 2 2Fixed overhead 168,000 168,000 / 42,000 4Variable selling & admin 1 Fixed selling & sdmin 152,000 Full cost per unit 13

Full Cost

Production is 42,000 snow shovels. Full cost is $13 per unit.


Slide 5-27

Summit Manufacturing, Inc. produces snow shovels. The selling price is $25. Costs are:

Materials 4 Labor 3 Variable overhead 2 Fixed overhead 168,000 Variable selling & admin 1 Fixed selling & sdmin 152,000 Full cost per unit

Production is 42,000 snow shovels. Calculate variable cost per unit.


Slide 5-28

Summit Manufacturing, Inc. produces snow shovels. The selling price is $25. Costs are: Variable Cost

Materials 4 4Labor 3 3Variable overhead 2 2Fixed overhead 168,000 Variable selling & admin 1 Fixed selling & sdmin 152,000 Variable cost per unit 9

Production is 42,000 snow shovels. Variable cost is $9 per unit.


Slide 5-29

Impact of Method Selection on Income Statement

Impact of Method Selection on Income Statement

Units produced = units sold No difference in net income

Units produced greater than units sold Full costing yields higher net

income Units Produced less than units

sold Variable costing yields higher net

income


Slide 5-30

Reducing ProductionReducing Production


Slide 5-31

Kincade Faucets produces a variety of faucets. During the year, the company incurred $400,000 of depreciation expense on its manufacturing equipment. How much depreciation expense will be in Finished Goods Inventory under variable costing?

a. $400,000b. $285,714c. $0d. None of the above

Answer:a. Depreciation is a fixed cost which is

expensed as a period cost under variable costing


Slide 5-32

Impact of JIT on IncomeImpact of JIT on Income

Companies using JIT typically have low levels of inventory

Units produced are approximately equal to units sold

Difference between full costing and variable costing is likely to be very small.

Learning objective 4: Explain the impact of JIT on the difference between full and variable costing income

Slide 5-33

Benefits of Variable Costing for Internal Reporting


Variable costing facilitates cost-volume-profit (CVP) analysis Separates fixed and variable costs Allows managers to accurately

estimate the impact of changes in volume on cost and profit

Cannot be answered using full costing

Learning objective 5: Discuss the benefits of variable costing for internal reporting purposes

Slide 5-34



Variable costing limits management of earnings via production volume Managers are often compensated

based on income in their division Full costing produces higher income

when production is greater than sales

Managers have an incentive to manage earnings under full costing


Slide 5-35

Impact of Changes in SalesImpact of Changes in Sales


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Prepared by Debby Bloom-Hill CMA, CFM. Slide 5-2 CHAPTER 5 Variable Costing.

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