variable costing for management analysis

Prepared by: C. Douglas Cloud Professor Emeritus of AccountingPepperdine University

© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

Variable Costing for Management Analysis

Chapter 20Student VersionThese slides should be viewed using the presentation mode (left click your mouse on the icon).

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Describe and illustrate reporting

income from operations under absorption and

variable costing.

Learning Objective 1

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Absorption costing is required under generally accepted accounting principles for financial statements distributed to external users.

Absorption and Variable CostingLO 1

For internal use in decision making, managers often use variable costing, sometimes called direct costing.

Under variable costing, the cost of goods manufactured includes only variable manufacturing costs.

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Variable CostingLO 1

Manufacturing margin is sales less variable cost of goods sold.

Variable cost of goods sold consists of direct materials, direct labor, and variable factory overhead for the units sold.

Contribution margin is manufacturing margin less variable selling and administrative expenses.

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Assume that 15,000 units are manufactured and sold at a price $50.

Comparing Variable and Absorption Costing

LO 1

(continued)

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Units Manufactured Equal Units Sold

LO 1

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Assume that 5,000 units of inventory were on hand at the beginning of a period, 10,000 units were manufactured during the period, and 15,000 units were sold at $50 per unit.

Units Manufactured Less Than Units Sold

LO 1

(continued)

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Units Manufactured Less Than Units Sold

LO 1

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(continued)

Units Manufactured Less Than Units Sold

LO 1

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Units Manufactured Less Than Units Sold

LO 1

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Describe and illustrate the

effects of absorption and

variable costing on analyzing income from operations.

Learning Objective 2

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Frand Manufacturing Company has no beginning inventory, and sales are estimated to be 20,000 units at $75 per unit, regardless of production levels.

The management of Frand Manufacturing Company is evaluating whether to manufacture 20,000 units (Proposal 1) or 25,000 units (Proposal 2).

Frand Manufacturing CompanyLO 2LO 2

FRAND

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Proposal 1LO 2

FRAND

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Proposal 2LO 2

FRAND

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LO 2LO 2Income Analysis Under Absorption and Variable Costing

FRAND

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Learning Objective 3

Describe management’s use of absorption and variable costing.

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Controlling Costs For a specific level of management,

controllable costs are costs that can be influenced by management at that level.

Noncontrollable costs are costs that another level of management controls.

LO 3

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LO 3

Pricing Products Many factors enter into determining

the selling price of a product. The cost of making the product is

significant in all pricing decisions. In the short run, fixed costs cannot be

avoided. In the long run, a company must set

its selling price high enough to cover all costs and expenses and generate income.

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LO 3

Planning Production In the short run, planning production

is limited to existing capacity. In the long run, planning production

can consider expanding capacity. Managers often plan and control

operations by evaluating the differences between planned and actual contribution margins.

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LO 3

Analyzing Market Segments A market segment is a portion of a

business that can be analyzed using sales, costs, and expenses to determine its profitability.

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Learning Objective 4

Use variable costing for analyzing market

segments, including product, territories, and

salespersons segments.

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LO 4

Analyzing Market SegmentsCamelot Fragrance Company manufactures and sells Gwenevere perfume for women and the Lancelot cologne line for men. The company’s data for the month ended March 31, 2012, is shown in the next slide.

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LO 4

Analyzing Market Segments

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LO 4Sales Territory Profitability Analysis

Camelot Fragrance Company analyzes its profit differences by sales territory.

Contribution Margin Ratio = Contribution Margin

Sales

Northern Territory: 43% ($34,400/$80,000)

Southern Territory: 50.5% ($40,400/$80,000)

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LO 4Sales Territory Profitability Analysis Sales mix, sometimes referred to as product

mix, is the relative amount of sales among the various products.

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Learning Objective 5

Use variable costing for analyzing and

explaining changes in contribution margin as

a result of quantity and price factors.

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LO 5

Contribution Margin Analysis Contribution margin analysis focuses

on explaining the differences between planned and actual contribution margins.

A difference between the planned and actual contribution margin may be caused by an increase or a decrease in: Sales Variable costs

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Sales Quantity Factor

Actual Units Sold

Planned Units of Sales

Planned Sales Price

= – ×

Variable Cost Quantity Factor

Planned Units of Sales

Actual Units Sold

Planned Unit Cost

= – ×

LO 5

Contribution Margin Analysis Quantity factor is the effect of a

difference in the number of units sold, assuming no change in unit sales price or unit cost.

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Unit Price Factor

Actual Selling

Price per Unit

Planned Selling

Price per Unit

Actual Units Sold

= – ×

Unit Cost Factor

Planned Cost per

Unit

Actual Cost per

Unit

Actual Units Sold

= – ×

LO 5

Contribution Margin Analysis Unit price factor or unit cost factor is

the effect of a difference in unit sales price or unit cost on the number of units sold.

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Learning Objective 6

Describe and illustrate the use of variable costing for

service firms.

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Variable Costing for Service Firms Unlike a manufacturing company, a

service company does not make or sell a product.

As a result, service companies do not have inventory and, thus, do not allocate fixed costs to inventory using absorption costing concepts.

LO 6

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Service firms can report and analyze contribution margin as the difference between revenues and variable costs. To analyze a service firm, we will use Blues Skies Airlines. The fixed and variable costs associated with operating Blue Skies are shown in Exhibit 13 (next slide).

Variable Costing for Service Firms

LO 6

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Variable Costing for Service Firms

LO 6

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The variable costing income statement for Blue Skies Airlines is shown in Exhibit 14 (next slide). Blue Skies Airlines uses the activity base number of passengers for food and beverage service and selling expenses. The company uses number of miles flown for fuel and wages expenses.

Variable Costing for Service Firms

LO 6

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Variable Costing for Service Firms

LO 6

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LO 6Market Segment Analysis for Service Companies

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Blue Skies Airlines

LO 6Market Segment Analysis for Service Companies

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Contribution Margin AnalysisLO 6

Prepared by: C. Douglas Cloud Professor Emeritus of AccountingPepperdine University

© 2011 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.

Variable Costing for Management Analysis

The End