question

break even point

answer

the level of sales at which profit is zero

question

contribution margin ratio

answer

a ratio computed by dividing contribution margin by dollar sales

question

degree of operating leverage

answer

a measure at a given level of sales of how a % change in sales will affect profits. the degree of operating leverage is computed by dividing contribution margin by net operating income

question

margin of safety

answer

the excess of budgeted or actual dollar sales over the break even dollar sales = total sales - break even sales divide that number by actual sales to get % or divide that number by unit price to get margin of safety units

question

operating leverage

answer

a measure of how sensitive net operating income is to a given percentage change in dollar sales CM / NI to get % increase in profits multiply % increase in sales by the operative leverage

question

target profit analysis

answer

# of units sold to attain a certain profit equation method and formula method both work

question

variable expense ratio

answer

total variable expense divided by total sales OR variable expense per unit divided by unit selling price

question

how is contribution margin ratio useful in planning business operations

answer

it is used in target profit and break even analysis and can be used to quickly estimate the effect on profits of a change in sales revenue

question

in all respects company A and B are identical except company A's costs are mostly variable while company B's costs are mostly fixed. When sales increase, which company will tend to realize the greatest increase in profits?

answer

Company B, with its higher fixed costs and lower variable costs will have a higher contribution margin ratio than company A. therefore it will tend to realize a larger increase in contribution margin and in profits when sales increase

question

key assumptions of CVP analysis

answer

1. selling price is constant 2. costs are linear and can be accurately divided into variable (constant per unit) and fixed (constant in total)

question

contribution income statement is helpful in...

answer

judging the impact on profits of changes in selling price, cost, or volume. the emphasis is on cost behavior

question

contribution margin

answer

amount remaining from sales revenue after variable expense has been deducted. Contribution margin is used first to cover fixed expenses; only remaining contribution margin contributes to net income

question

to estimate profits at a particular sales volume

answer

# of units sold times the contribution margin per unit

question

CVP relationship in equation form

answer

profit= (sales-variable expense) - fixed expense Profit= (P x Q - V x Q) - FE Profit= unit cm x Q - FE Profit= (CMR x Sales) - FE

question

unit contribution margin formula

answer

unit cm= selling price per unit - variable expense per unit unit cm= P - V

question

CM ratio

answer

total CM divided by total sales OR CM per unit divided by sale price per unit always 100% for sales

question

shortcut for changes in Fixed cost and sales volume

answer

increase in CM - increase in adv expense or any expense added = change in net income

question

unit sales to break even

answer

fixed expense divided by contribution margin per unit

question

dollar sales to break even

answer

fixed expense divided by contribution margin ratio

question

unit sales to attain target profit

answer

= (target + FE)/ CM per unit

question

dollar sales to attain target profit

answer

= (target + FE) / CMR

question

cost structure

answer

relative proportion of fixed and variable costs in an organization - managers often have some latitude in determining their organizations cost structure

question

High Fixed Cost with low variable cost

answer

income will be higher in good years and lower in bad years

question

Low Fixed Cost with high variable cost

answer

enjoy greater stability in income across good and bad years

question

absorption cost

answer

includes all manufacturing costs (DM, DL, VMOH, FMOH) in unit product costs

question

common fixed cost

answer

a fixed cost that supports more than one business segment but is not traceable in whole or in part of any one of the business segments

question

segment

answer

any part or activity of an organization about which managers seek cost, revenue, or profit data ex: departments, operations, sales, territories, divisions, product lines

question

segment margin

answer

a segments CM - its traceable FC represents margin available after a segment has covered all of its own traceable costs

question

traceable fixed cost

answer

a fixed cost that is incurred because of the existence of a particular business segment and that would be eliminated if the segment were eliminated

question

variable costing

answer

a costing method that includes only variable manufacturing costs (DM, DL, VMOH) in unit product costs

question

what is the basic difference between absorption costing and variable costing?

answer

under absorption costing, fixed manufacturing overhead is treated as a product cost and hence is an asset until products are sold. Under variable costing. fixed manufacturing overhead is treated as a period cost and is immediately expensed on the income statement

question

are selling and admin expenses treated as product costs or as period costs under variable costing?

answer

selling and admin expenses are treated as period costs under both variable and absorption

question

explain how FMOH costs are shifted from one period to another under absorption costing

answer

FMOH costs are included in product costs, along with DM, DL, and VMOH. if some of the units are not sold by the end of the period then they are carried into the next period as inventory. When the units are finally sold, the FMOH cost that had been carried over with the units is included as part of that period's CGS.

question

what are arguments in favor of treating FMOH costs as product costs

answer

absorption costing advocates argue that absorption costing does a better job of matching costs with revenues than variable costing. they argue that all manufacturing costs must be assigned to products to properly match the costs of producing units of product with the revenues from the units which they are sold. they believe that no distinction should be made between variable and fixed manufacturing costs for the purposes of matching costs and revenues

question

what are the arguments in favor of treating FMOH costs as period costs

answer

advocates of variable costing argue that FMOH costs aren't really the cost of any particular unit of product. If a unit is made or not, the total fixed manufacturing costs will be the same. Therefore, how can one say that these costs are part of the costs of the products? These costs are incurred to have the capacity to make products during a particular period and should be charged against the period as period costs according to the matching principle

question

if the units produced and unit sales are equal which method would you expect to show the higher net operating income, variable or absoption

answer

Net income should be the same under absorption and variable costing. inventories do not increase or decrease and therefore under absorption, FMOH costs cannot be deferred in inventory or released from inventory

question

if the units produced exceed unit sales, which method would you except to show higher net operating income

answer

absorption costing will usually show a higher net operating income than variable costing. when production exceed 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 FMOH cost of the current period is immediately expensed under variable costing

question

if FMOH costs are released from inventory under absorption costing, what does this tell you about the level of production in relation to the level of sales?

answer

the inventory levels must have decreased and therefore production must have been less than sales

question

under absorption costing, how is it possible to increase NI without increasing sales

answer

under absorption, NI can be increased by increasing the level of production without any increase in sales. if production exceeds sales, the unites of product are added to inventory. These units carry a portion of the current period's FMOH costs into the inventory account, reducing the current period's reported expenses and causing net operating income to increase

question

how does lean production reduce or eliminate the difference in reported net operating income between absorption and variable costing

answer

arise because of changing levels of inventory. In lean production, goods are produced strictly to customers' orders. With production tied 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.

question

what costs are assigned to a segment under the contribution approach?

answer

costs are assigned to a segment if and only if the costs are traceable to the segment (i.e. could be avoided if the segment were eliminated). common costs are not allocated to segments under the contribution approach

question

segment margin vs contribution margin

answer

CM is the difference between sales revenue and variable expenses. SM is the amount remaining after deducting traceable fixed expenses from the CM. the CM is useful as a planning tool for many decisions, particularly those in which fixed costs don't change. The segment margin is useful in assessing the overall profitability of a segment

question

why aren't common costs allocated to segments under the contribution approach?

answer

costs of segments would be overstated and their margins would be understated. some segments may appear to be unprofitable and managers may be tempted to eliminate them. If a segment were eliminated because of the existence of arbitrarily allocated common costs, the overall profit of the company would decline and the common cost that had been allocated to the segment would be reallocated to the remaining segments—making them appear less profitable.

question

how is it possible for a cost that is traceable to a segment to become a common cost if the segment is divided into further segments?

answer

there are often limits to how far down an organization a cost can be traced. costs that are traceable to a segment may become common as that segment is divided into smaller segment units. for example, the cost of nation TV and print advertising might be traceable to a specific product line but be a common cost of a geographical sale territory

question

should a company allocate its common fixed expenses to business segments when computing the break even point for those segments? why?

answer

NO. these costs are not traceable to individual segments and will not be affected by segment level decisions

question

variable costing product costs

answer

DM, DL, VMOH

question

variable costing period costs

answer

FMOH, Vselling and admin, Fselling and admin

question

absorption costing product costs

answer

DM, DL, VMOH, FMOH

question

Absorption costing period costs

answer

Vselling and admin, Fselling and admin

question

units produced = units sold

answer

no change in inventory absorption = variable

question

units produced > units sold

answer

inventory increases absorption > variable

question

units produced < units sold

answer

inventory decreased absorption < variable

question

which method to use for CVP analysis

answer

Variable costing because categorized fixed and variable

question

variable costing is only affected by...

answer

changes in unit sales not affected by the # of units produced when sales increased net income increase vice versa

question

absorption costing is affected by...

answer

changes in unit sales AND units of production net income can be increased by producing more units even if those units are not sold

question

variable costing emphasizes...

answer

the impact of the total fixed costs on profits absorption can create wrong pricing and product discontinuation decisions because FMOH seems to be variable with respect to # of units produced, but it is not

question

2 keys to building segmented income statements

answer

1) contribution format to separate fixed from variable which enables CM calculation 2) traceable FC should be separated from common FC so you can calculate segment margin

question

common costs should never....

answer

be allocated to the divisions/segments of a company

question

can fixed costs become common costs

answer

YES. if they company is divided into smaller segments

question

common cost should not be randomly assigned to segments based on the thought that "someone has to cover the common cost" because

answer

1) may make a profitable business segment appear unprofitable 2) allocating common FC forces managers to be held accountable for costs they cant control

question

can a common fixed cot be eliminated by dropping a segment

answer

NO

question

both U.S. GAAP and IFRS require ....

answer

absorption costing for external reports! also use absorption for internal reports rather than incurring the additional cost of maintaining a separate variable cost system for interval reporting

question

fixed manufacturing costs in absorption vs variable

answer

Absorption: fixed manufacturing costs must be assigned to products to properly match revues and costs Variable: fixed manufacturing costs are capacity costs and will be incurred even if nothing is produced

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