Lecture_Nov_21_variable_costing

Lecture_Nov_21_variable_costing - Lecture Notes ORIE 350...

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Lecture Notes ORIE 350 November 21, 2006 Variable Costing
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Absorption vs. Variable Identify what distinguishes absorption costing versus variable costing. What is the difference? The treatment of fixed manufacturing overhead. It is expensed with variable costing, and included in the asset cost with absorption costing.
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Variable Costing Variable costing treats only those costs of production that vary with output as product costs. Those would usually be direct material, direct labor, and variable manufacturing overhead. Fixed manufacturing overhead is not treated as a product cost with this method. Rather it is treated as a period cost and charged off as an expense each period.
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Absorption Costing We looked at absorption costing first, which treats ALL costs of production as product costs, regardless of whether they are fixed or variable in nature. Under absorption costing, we allocate a portion of the fixed manufacturing overhead to the cost of each unit of product.
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Reminder Product cost becomes the Cost of Goods Sold when the product is sold. Remember, product costs consist only of three things! 1. Direct Material 2. Direct Labor 3. Manufacturing Overhead
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Comparison of the two 1. Deferral of fixed manufacturing costs under absorption costing. If inventories increase, then a portion of the fixed manufacturing overhead is deferred to future periods. Only later, when the units are taken out of inventory and sold, do they show up on the income statement.
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Comparison of the two 2. Differences in inventory values – the ending inventory figure under the two methods will be different. Absorption costing includes the fixed manufacturing overhead allocation, variable costing does not.
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