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Variable Costing
Versus Absorption Costing System:
Under absorption costing system, all
costs of production (both variable and fixed) are treated as product costs. The
unit product cost consists of direct materials, direct labor and both variable
and fixed overhead. When absorption costing method is used a portion of fixed
manufacturing overhead cost is allocated to each unit of product along with
variable manufacturing cost. This approach is also called full costing
method because all costs of production are included in the product cost.
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Income Comparison of Variable and Absorption Costing:
The income
statements prepared under absorption costing and
variable costing usually produce different net
operating income figures. This difference can be
quite large. Here we will explain the basic reason
of this difference in income. The explanation for
this difference needs two separate income statements
one under absorption costing and other under
variable costing.
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Advantages, Disadvantages and Limitations of
Variable Costing System:
The data
that are required for cost volume profit (CVP)
analysis can be taken directly from a variable
costing format income statement. These data are not
available on a conventional income statement based
on absorption costing.
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Variable Costing and Theory of Constraints:
The Theory of Constraints
(TOC) focuses on managing constraints in a company as the key to
improving profits. Companies involved in Theory of Constraints (TOC) use a form
of variable costing.
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Advantages and Disadvantages of Absorption Costing:
Absorption
costing method recognizes the importance of fixed
costs in production.
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Impact of
Just In Time (JIT) Inventory Methods on Variable and
Absorption Costing System:
Variable costing and absorption costing produce
different net operating income figures whenever the
number of units produced is different from the
number of units sold.
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