Question

Variable Costing and Absorption Costing - under the traditional costing approach, absorption costing, or full costing, products absorb all costs incurred to product them which can result in misleading product cost information for decision-making. Under variable costing only costs that change in total with changes in production level are included in product costs. The difference between the two costing methods is the exclusion of fixed overhead from product cost for variable costing. Post your response and ideas of the following questions: 1) What are the benefits of using variable costing when striving to control costs? Are these benefits available under absorption costing? 2)How can the use of absorption costing result in overproduction? 3) How will net income under variable costing compare to net income under absorption costing when units produced exceed units sold situation?

Answer 1

Benifits of Variable costing:

1.Constant in nature – Variable costs fluctuates from time to time, but in the long run, marginal costs are stable. Marginal costs remain the same, irrespective of the volume of production.

2. Effective cost control – It divides cost into fixed and variable. Fixed cost is excluded from product. As such, management can control marginal cost effectively.

3. Treatment of overheads simplified – It reduces the degree of over or under-recovery of overheads due to the separation of fixed overheads from production cost.

4. Uniform and realistic valuation – As the fixed overhead costs are excluded from product cost, the valuation of work-in-progress and finished goods become more realistic.

5. Helpful to management – It enables the management to start a new line of produc­tion which is advantageous. It is helpful in determining which is profitable whether to buy or manufacture a product. The management can take decision regarding pricing and tendering.

these benifits are not available under absorption costing.

Question 2 :

Absorption costing could result in an increase in net income if a company increases its production and its inventory. This occurs because fixed manufacturing overhead is allocated to more production units—some of which will be reported as inventory.

Question 3:

in absorption costing, net income is arived after deducting fixed expenses . so if the units produced exceed units sold, net income will be lower as per absorption costing than variable costing.