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Unformatted text preview: Chapter 7 Variable Costing: A Tool for Management Solutions to Questions 7-2 Selling and administrative expenses are treated as period costs under both variable costing and absorption costing. 7-6 If production and sales are equal, net operating income should be the same under absorption and variable costing. When production equals sales, inventories do not increase or decrease and therefore under absorption costing fixed manufacturing overhead cost cannot be deferred in inventory or released from inventory 7-7 If production exceeds sales, absorption costing will usually show higher net operating income than variable costing. When production exceeds sales, inventories increase and under absorption costing part of the fixed manufacturing overhead cost of the current period is deferred in inventory to the next period. In contrast, all of the fixed manufacturing overhead cost of the current period is immediately expensed under variable costing. 7-8 If fixed manufacturing overhead cost is released from inventory, then inventory levels must have decreased and therefore production must have been less than sales. 7-9 Inventory decreased. The decrease resulted in fixed manufacturing overhead cost being released from inventory and expensed as part of cost of goods sold. This added fixed manufacturing overhead cost resulted in a loss even though the company operated at its breakeven 7-10 Under absorption costing net operating income can be increased by simply increasing the level of production without any increase in sales. If production exceeds sales, units of product are added to inventory. These units carry a portion of the current periods fixed manufacturing overhead costs into the inventory account, thereby reducing the current periods reported expenses and causing net operating income to increase. 7-12 Differences in reported net operating income between absorption and variable costing arise because of changing levels of inventory. In lean production, goods are produced strictly to customers orders. With production geared to sales, inventories are largely (or entirely) eliminated. If inventories are completely eliminated, they cannot change from one period to another and absorption costing and variable costing will report the same net operating income. Exercise 7-3 1. Year 1 Year 2 Year 3 Beginning inventories (units)....... 180 150 160 Ending inventories (units)............ 150 160 200 Change in inventories (units)....... (30 ) 10 40 Variable costing net operating income...................................... $292,400 $269,200 $251,800 Add: Fixed manufacturing overhead cost deferred in...
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This note was uploaded on 12/10/2011 for the course ACCT 208 taught by Professor Kingery during the Winter '08 term at University of Delaware.
- Winter '08