C1107 - ACCT 220 (Chapter 7 1 Chapter7: Variable costing...

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1 ACCT 220 Variable and Absorption Costing (Chapter 7)
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2 Chapter 7: Variable and Absorption Costing Variable costing and absorption costing are alternative methods of determining unit product costs. They affect: Inventory valuations (Balance Sheet) Net income (Income Statement)
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3 The Plan:   Classification of costs under variable and absorption  costing. Comparison between variable and absorption costing. Unit product cost Income statement Advantages of variable costing. Example: the effect of fluctuating sales. Comparative income effects. Example: the effect of fluctuating production.
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4 Classification of Costs  under Variable and Absorption Costing   ABSORPTION COSTING Absorption costing is generally required for external financial  reports and for tax reporting under both US GAAP and IFRS. Under absorption costing, product costs include  all  manufacturing  costs: DM, DL, Variable and  fixed Manufacturing overhead. VARIABLE COSTING Variable costing is a useful alternative for internal management  reports. Under variable costing, product costs include only the  variable   manufacturing costs: DM, DL (unless fixed), and Variable MOH •  Under variable costing, fixed MOH costs are treated as period  expenses and are excluded from product costs 
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5 Classification of Costs under Variable and Absorption  Costing Direct Materials Direct Labor Variable Manufacturing Overhead Fixed Manufacturing Overhead Variable Selling and Administrative Expenses Fixed Selling and Administrative Expenses Variable Costing Absorption Costing Product Costs Period Costs Product Costs Period Costs
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6 Comparison between Variable and Absorption Costing   Unit Cost Comparison Unit product costs differ between variable and absorption costing. EXAMPLE: Harvey Company produces a single product. Number of units produced annually 25,000 Variable costs per unit: Direct materials, direct labor, and variable manufacturing overhead $10 Selling & administrative expense $3 Fixed costs per year: Fixed manufacturing overhead $150,000 Fixed selling & administrative expense $100,000 Unit product costs are computed as follows: Absorption Variable Costing Costing Direct materials, direct labor, and variable manufacturing overhead $10 $10 Fixed manufacturing overhead ($150,000 ÷ 25,000 units) 6 -0- Total unit product cost $16 $10 Note: SG&A expenses are always treated as period costs; they are not treated as product costs under either costing method.
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7 Income Statement Comparison   Harvey Company had no beginning inventory, produced 25,000 units and sold 20,000 units last year. Absorption costing
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C1107 - ACCT 220 (Chapter 7 1 Chapter7: Variable costing...

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