Bonus Chapter_Variable Costing

Bonus Chapter_Variable Costing - gar79611_ch07_279-306.indd...

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Variable Costing: A Tool for Management IBM’s $2.5 Billion Investment in Technology When it comes to state-of-the-art in automation, IBM’s $2.5 billion semiconductor manufactur- ing facility in East Fishkill, New York, is tough to beat. The plant uses wireless networks, 600 miles of cable, and more than 420 servers to equip itself with what IBM claims is more computing power than NASA uses to launch a space shuttle. Each batch of 25 wafers (one wafer can be processed into 1,000 computer chips) trav- els through the East Fishkill plant’s manufactur- ing process without ever being touched by human hands. A computer system “looks at or- ders and schedules production runs . . . adjusts schedules to allow for planned maintenance and . . . feeds vast reams of production data into enterprise-wide management and fi nancial- reporting systems.” The plant can literally run itself as was the case a few years ago when a snowstorm hit and everyone went home while the automated system continued to manufacture computer chips until it ran out of work. In a manufacturing environment such as this, labor costs are insignifi cant and fi xed overhead costs are huge. There is a strong temptation to build inventories and increase profi ts without increasing sales. How can this be done you ask? It would seem logical that producing more units would have no impact on profi ts unless the units were sold, right? Wrong! As we will discover in this chapter, absorption costing—the most widely used method of determining product costs—can artifi cially increase profi ts by increasing the quantity of units produced. Source: Ghostwriter, “Big Blue’s $2.5 Billion Sales Tool,” Fortune, September 19, 2005, pp. 316F–316J. BUSINESS FOCUS 7 Chapter LEARNING OBJECTIVES After studying Chapter 7, you should be able to: LO1 Explain how variable costing differs from absorption costing and compute unit product costs under each method. LO2 Prepare income statements using both variable and absorption costing. LO3 Reconcile variable costing and absorption costing net operating incomes and explain why the two amounts differ. LO4 Understand the advantages and disadvantages of both variable and absorption costing. 279
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280 Chapter 7 Overview of Absorption and Variable Costing T wo general approaches are used in manufacturing companies for costing products for the purposes of valuing inventories and cost of goods sold. One approach, called absorption costing, was discussed in Chapter 3. Absorption costing is generally used for external F nancial reports. The other approach, called variable costing, is preferred by some managers for internal decision making and must be used when an income statement is prepared in the contribution format. Ordinarily, absorption costing and variable costing produce different F gures for net operating income, and the difference can be quite large. In addition to showing how these two methods differ, we will consider the arguments for and against each costing method and we will show how management decisions can be affected by the costing method chosen.
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Bonus Chapter_Variable Costing - gar79611_ch07_279-306.indd...

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