Absorption costing and marginal costing

Question 1

Absorption costing

Answer 1

(also known as full costing) ) traces all
manufacturing costs to products and treats non-manufacturing
overheads as a period cost.

Question 2

Marginal costing

Answer 2

(also known as variable costing) traces all variable costs to products. does not include fixed overheads and non-manufacturing costs and just treats them as an expense.

Question 3

Explain the concept of contribution

Answer 3

• contribution is an important concept in marginal costing
• contribution is the amount left to pay towards fixed overheads, and the remaining is net profit

Question 4

Contribution formula

Answer 4

Contribution = sales - variable COS - all other non production variable costs

Question 5

Is absorption costing for external or internal reporting?

Answer 5

external reporting

Question 6

Is marginal costing for internal or external reporting

Answer 6

internal reporting

Question 7

What is absorption and marginal costing profit formula?

Answer 7

ABSORPTION - profit = gross profit - non-production overheads
MARGINAL - profit = contribution - fixed overheads

Question 8

Advantages of AC

Answer 8

• external reporting requirement
• organization needs to be aware of full cost of product to make decisions about organization long term
• can be used in cost plus pricing approach to pricing decisions
• matches costs with volume of sales in the period

Question 9

Disadvantages of AC

Answer 9

• apportionment or allocation of overheads may be arbitrary and not precise
  -can use it to manipulate profits by manipulating inventory levels
• could lose sales by always adopting a full cost price - may not be appropriate for short term decisions

Question 10

Advantages of MC

Answer 10

• gives understanding of where a product makes contribution to fixed cost and can help short-term decision making
  -more straightforward to manage
  -better for short term decision making
  -profit is not dependent on changing inventory levels.

Question 11

Disadvantages of MC

Answer 11

• long term need to recognize all costs associated with a product
• cannot be used for external reporting purposes

Question 12

why would profit differ for ac and mc on the income statement

Answer 12

as ac has full cost of opening and closing inv whereas mc has the variable cost of these factors.

Question 13

what affect would increase in inventory affect absorption costing and marginal costing

Answer 13

absorption costing - gives a higher profit (fixed overheads spread over larger amount of goods).

marginal costing - gives lower profit