Absorption Costing vs Variable Costing
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Questions and Answers

What is the main difference between Absorption Costing and Variable Costing?

  • Treatment of Fixed Manufacturing Overheads (correct)
  • Valuation of Inventory
  • Calculation of Predetermined Overhead Rate
  • Classification of Period Costs

    • What is the formula to calculate Total Product Cost under Absorption Costing Method?

  • Direct Costs + Fixed MOH + Variable MOH (correct)
  • Direct Costs - Fixed MOH
  • Direct Costs + Variable MOH
  • Direct Costs + Fixed MOH

    • What is the purpose of calculating the Predetermined Overhead Rate?

  • To allocate Fixed MOH to products (correct)
  • To calculate Total Product Cost
  • To value Inventory
  • To determine Period Costs

    • What is included in the calculation of Total Cost under Variable Costing Method?

    <p>Direct Costs + Variable MOH</p> Signup and view all the answers

    What is the difference between Period Costs and Product Costs?

    <p>Period Costs are related to a specific period, while Product Costs are related to a specific product</p> Signup and view all the answers

    What is the formula to calculate Unit Product Cost under Absorption Costing Method?

    <p>Total Product Cost / No. of units produced</p> Signup and view all the answers

    What is the purpose of calculating the Cost of Goods Sold?

    <p>To determine Gross Profit</p> Signup and view all the answers

    What is the relationship between Gross Profit and Cost of Goods Sold?

    <p>Gross Profit = Revenue - Cost of Goods Sold</p> Signup and view all the answers

    What is included in the calculation of Total Manufacturing Overheads?

    <p>Oven Depreciation, Rental, and Utilities</p> Signup and view all the answers

    What is the purpose of calculating the Predetermined Overhead Rate for Fixed MOH?

    <p>To allocate Fixed MOH to products</p> Signup and view all the answers

    Study Notes

    Period Cost vs Product Cost

    • Under both Variable Costing and Absorption Costing, all costs (product and period) would have been deducted to arrive at the net profit.
    • No difference in the company's net profit whether Absorption Costing or Variable Costing is used.

    Variable Costing

    • Only variable manufacturing costs (DM, DL, VMOH) are included as product costs.
    • When sales occur, inventory is transferred to Cost of Goods Sold (COGS).
    • Gross profit is reduced by a lower product cost, resulting in a higher gross profit.
    • Fixed Manufacturing and Non-manufacturing costs are classified as period costs.

    Absorption Costing

    • All manufacturing costs (DM, DL, VMOH, and FMOH) are included as product costs.
    • When sales occur, inventory is transferred to Cost of Goods Sold (COGS).
    • Gross profit is reduced by a higher product cost, resulting in a lower gross profit.
    • Non-manufacturing costs (selling, general, and administrative) are classified as period costs.

    Comparison of Product Costs

    • Under Variable Costing, each unit of Tiramisu and Cheesecake's cost is lower compared to Absorption Costing.
    • This is because only variable manufacturing costs are included as product costs under Variable Costing, whereas all manufacturing costs are considered product costs under Absorption Costing.

    Product Cost Calculation

    • Absorption Costing Method: Total Product Cost = Direct Costs + Fixed MOH + Variable MOH
    • Variable Costing Method: Total Product Cost = Direct Costs + Variable MOH
    • Unit Product Cost = Total Product Cost / No. of units produced

    International Financial Reporting Standards (IFRS)

    • IFRS requires the use of Absorption Costing (also known as "full costing") for external reporting (i.e. Financial Statements).
    • The rationale for Absorption Costing is that it causes a product to be measured and reported at its complete cost.

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    Description

    Compare the impact of Absorption Costing and Variable Costing on a company's gross profit and net profit, including product costs and period costs.

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