1. Prepared by Debby Bloom-Hill CMA, CFM

2. CHAPTER 5
Variable Costing

3. Full (Absorption) Costing
Required by GAAP for external reporting purposes
Inventory costs include:
Direct materials used
Generally variable
Direct labor incurred
Manufacturing overhead
Includes both fixed and variable costs
Learning objective 1: Explain the difference between full (absorption) and variable costing

4. Variable Costing 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 reporting
Learning objective 1: Explain the difference between full (absorption) and variable costing

5. Test Your Knowledge 1 Answer:
Which of the following complies with GAAP for external reporting purposes?
Absolute costing
Variable costing
Fixed costing
Full costing
Answer:
d. Full costing, also known as absorption costing
Learning objective 1: Explain the difference between full (absorption) and variable costing

6. Full (Absorption) Costing
Learning objective 1: Explain the difference between full (absorption) and variable costing

7. Variable Costing
Learning objective 1: Explain the difference between full (absorption) and variable costing

8. 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
Learning objective 1: Explain the difference between full (absorption) and variable costing

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.

10. Variable Costing Income Statement
Sales are $100,000 and contribution margin is $65,000
Calculate the contribution margin ratio:
𝐜𝐨𝐧𝐭𝐫𝐢𝐛𝐮𝐭𝐢𝐨𝐧 𝐦𝐚𝐫𝐠𝐢𝐧 𝐬𝐚𝐥𝐞𝐬 = $𝟔𝟓,𝟎𝟎𝟎 $𝟏𝟎𝟎,𝟎𝟎𝟎 =𝟎.𝟔𝟓 𝐨𝐫 𝟔𝟓%
Calculate the change in contribution margin if sales change by $10,000
$10,000 * 0.65 = $6,500
Learning objective 2: Prepare an income statement using variable costing.

11. Variable Costing Income Statement Example
Learning objective 2: Prepare an income statement using variable costing.

12. Full Costing Income Statement Example
Learning objective 2: Prepare an income statement using variable costing.

13. Variable Costing vs. Full Costing Income Statement
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.

14. 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.

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

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

17. 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
Learning objective 3: Discuss the effect of production on full and variable costing income.

18. Clausen Tube – Income Statements
Production equals sales (5,000 units)
Learning objective 3: Discuss the effect of production on full and variable costing income.

19. 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
Learning objective 3: Discuss the effect of production on full and variable costing income.

20. Clausen Tube – Income Statements
Production (6,000 units) is greater than sales (4,800 units)
Learning objective 3: Discuss the effect of production on full and variable costing income.

21. 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
Learning objective 3: Discuss the effect of production on full and variable costing income.

22. Clausen Tube – Income Statements
Production (6,000 units) is less than sales (7,200 units)
Learning objective 3: Discuss the effect of production on full and variable costing income.

23. 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
Learning objective 3: Discuss the effect of production on full and variable costing income.

24. Variable Costing for External Reporting
Learning objective 3: Discuss the effect of production on full and variable costing income.

25. Test Your Knowledge 2
Summit Manufacturing, Inc. produces snow shovels. The selling price is $25. Costs are:
Production is 42,000 snow shovels. Calculate full cost per unit.
Learning objective 3: Discuss the effect of production on full and variable costing income.

26. Test Your Knowledge 2
Summit Manufacturing, Inc. produces snow shovels. The selling price is $25. Costs are:
Production is 42,000 snow shovels. Full cost is $13 per unit.
Learning objective 3: Discuss the effect of production on full and variable costing income.

27. Test Your Knowledge 3
Summit Manufacturing, Inc. produces snow shovels. The selling price is $25. Costs are:
Production is 42,000 snow shovels. Calculate variable cost per unit.
Learning objective 3: Discuss the effect of production on full and variable costing income.

28. Test Your Knowledge 3
Summit Manufacturing, Inc. produces snow shovels. The selling price is $25. Costs are:
Production is 42,000 snow shovels. Variable cost is $9 per unit.
Learning objective 3: Discuss the effect of production on full and variable costing income.

29. 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
Learning objective 3: Discuss the effect of production on full and variable costing income.

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

31. Test Your Knowledge 4
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?
$400,000
$285,714 $0
None of the above
Answer:
Depreciation is a fixed cost which is expensed as a period cost under variable costing
Learning objective 3: Discuss the effect of production on full and variable costing income.

32. Impact 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

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

34. Benefits of Variable Costing for Internal Reporting
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
Learning objective 5: Discuss the benefits of variable costing for internal reporting purposes

35. Impact of Changes in Sales
Learning objective 5: Discuss the benefits of variable costing for internal reporting purposes

36. Copyright
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