Chapter – 9 Inventory Costing

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Absorption Costing
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A product costing method that assigns all manufacturing costs to a product: DM, DL, VOH, and Fixed OH
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Super-Variable Costing
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Also known as Throughput Costing, is an extreme form of variable costing in which only direct material costs are included as inventoriable costs. All other costs are costs of the period in which they are incurred.
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Variable Costing
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A product costing method that assigns only VARIABLE manufacturing costs to production: DM, DL, and VOH. Fixed OH is treated as period costs Also known as Direct Costing
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Difference between Variable and Absorption
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• Variable costing and absorption costing differ in only one respect: how to account for fixed manufacturing costs. Under variable costing, fixed manufacturing costs are excluded from inventoriable costs and are a cost of the period in which they are incurred. Under absorption costing, fixed manufacturing costs are inventoriable and become a part of cost of goods sold in the period when sales occur.
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How does income differ under Variable and Absorption
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• The variable-costing income statement is based on the contribution-margin format. Under it, operating income is driven by the unit level of sales. Under absorption costing, the income statement follows the gross-margin format. Operating income is driven by the unit level of production, the unit level of sales, and the denominator level used for assigning fixed costs.
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Why might managers build up finished goods inventory if they use absorption costing?
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• When absorption costing is used, managers can increase current operating income by producing more units for inventory. Producing for inventory absorbs more fixed manufacturing costs into inventory and reduces costs expensed in the period. Critics of absorption costing label this manipulation of income as the major negative consequence of treating fixed manufacturing costs as inventoriable costs.
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o Advantages of variable costing
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Income is not affected by CHANGE in inventories Consistent with the Cost Volume Profit CVP materials NOI under VC is closely tied to changes in SALES FIXED costs are more visible
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o Differences in operating income between variable costing and absorption costing are due solely to accounting for fixed costs. Do you agree? Explain.
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No. Differences in operating income between variable costing and absorption costing are due to accounting for fixed manufacturing costs. • Variable costing, only variable manufacturing costs are included as inventoriable costs. • Absorption costing, both variable and fixed manufacturing costs are included as inventoriable costs. • Fixed marketing and distribution costs are not accounted for differently under variable costing and absorption costing.
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o Do companies in either the service sector or the merchandising sector make choices about absorption costing versus variable costing?
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No. The difference between absorption costing and variable costs is due to accounting for fixed manufacturing costs. As service or merchandising companies have no fixed manufacturing costs, these companies do not make choices between absorption costing and variable costing.
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o Which of the following are inventoried when using variable costing
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Fixed manufacturing costs Direct manufacturing costs
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o Variable costing
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Treat direct manufacturing costs as a product cost
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o _____ method include fixed manufacturing overhead costs as invetoriable costs
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Absorption costing
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o The contribution margin format of the income statement
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Variable Costing
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o _____ method expense variable marketing costs in the period incurred
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Absorption, variable, throughput
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o To discourage producing for inventory, management can
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Evaluate nonfinancial measure such as units in ending inventory compared to units in sales Incorporate carrying charge for inventory in the internal accounting system Evaluate performance over a three to five year period rather than a single year
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o Which of the following inventory costing methods shown below is most likely to cause undesirable incentives for manager to build up finished goods inventory
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Absorption costing
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o Under variable costing, if a mangers bonus is tied to operating income, then increasing inventory levels compared to last year would result in
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Not affecting the managers bonus
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o Are fixed manufacturing costs inventoried
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VC: No AC: Yes
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o Is there a production volume variance
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VC: No AC Yes
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o How do changes in unit inventory levels affect operating Income
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Production = Sales – VC =AC Production > Sales – VC < AC Production AC o

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