Managerial Accounting

1

• Managerial Accounting
• 2008
• William F. OBrien, MBA, CPA

2
Session V

• Variable or Direct Costing

3
Session V Objectives

• A comparison between variable and absorption
  costing.
• Income statements under both methods.
• Reconciliation between variable and absorption
  costing.
• The advantages and disadvantages of both methods.

4
Variable Costing

• Do not include any variable costs other than
  variable manufacturing or production costs in
  inventory values.
• See pages 277-288

5
Contribution Margin Format

• Traditional Format
• Sales
• - COGS
• Gross Margin
• - Operating Expenses
• Net Income

• C/M Format
• Sales
• - Variable Costs
• Contribution Margin
• - Fixed Costs
• Net Income

6
Sales Volume - Prod. Volume -Income Relationships

• If Sales lt Production, then Absorption Net income
  gt Variable Costing Net income.
• If Production lt Sales, then Absorption Net income
  lt Variable Costing Net income.
• Note Exhibit 7-5

7
Advantages of Contribution Approach

• Absorption costing does not work well with CVP.
• Variable costing more useful for pricing.
• Absorption costing required by GAAP and the IRS.
• Profit not affected by the level of fixed costs.
• Easier for management to use.
• Fixed costs are emphasized under variable
  costing.
• Results not obscured by arbitrary allocations of
  FC.

8
Key Points-Session V

• Financial managers can play games with their
  costing methods.
• Fixed costs can be hidden in the inventory.
• Direct costs ? direct costing
• The relationship between production and net
  income is sometimes illogical.
• The IRS and GAAP only allow absorption costing.