WESTERN MINDANAO STATE UNIVERSITY

College of Liberal Arts

Accountancy Department

Chapter 3
ABSORPTION, VARIABLE AND THROUGHPUT COSTING
LEARNING OBJECTIVES
After studying this chapter, you should be able to…
1. Explain the meaning and underlying concept of variable costing.
2. Distinguish period costs from product costs.
3. Compare variable costing with absorption costing.
4. Describe throughput costing.

ABSORPTION COSTING
- Also called full costing, conventional costing
- A costing method that includes all manufacturing costs (direct materials, direct labor, and both variable and fixed
manufacturing overhead) in the ccost of a unit of product. It treats fixed manufacturing overhead as a product cost.
VARIABLE COSTING
- Also called direct costing
- A costing method that includes only variable manufacturing costs (direct materials, direct labor, and variable
manufacturing overhead) in the cost of a unit of product. It treats fixed manufacturing overhead as period cost.
DISTINCTIONS BETWEEN PERIOD COSTS AND PRODUCT COSTS:
PERIOD COST PRODUCT COST
1. Refers to an item charged against current 1. Refers to an item included in product costing
revenue on the basis of time period regardless which is apportioned between the sold and
of the difference between production and unsold units.
sales volume.
2. Does not form part of the cost of inventory. 2. The portion of cost, which has been allocated
to the unsold units, becomes part of inventory.
3. Diminishes income for the current period by its 3. Diminishes current income by that portion
full amount. thereof identified with the sold units only with
the remainder being deferred to the next
accounting period as part of the cost of ending
period.

PERIOD DIFFERENCES BETWEEN VARIABLE AND CONVENTIONAL ABSORPTION COSTING:

ABSORPTION COSTING VARIABLE COSTING
1. Cost segregation Seldom segregates costs into Costs are segregated into variable
variable and fixed costs and fixed
2. Cost of Inventory Cost of inventory includes all the Cost of inventory includes only the
manufacturing costs: materials, variable manufacturing costs:
labor variable factory overhead, and materials, labor, and variable
fixed factory overhead factory overhead
3. Treatment of fixed factory Fixed factory overhead is treated as Fixed factory overhead is treated as
overhead product cost. period cost.
4. Income Statement Distinguishes between production Distinguishes between variable and
and other costs. fixed costs.
5. Net Income Net income between the two methods may differ from each other because
of the difference in the amount of fixed overhead costs recognized as
expense during an accounting period. This is due to variations between
sales and production. In the long run, however, both methods give
substantially the same results since sales cannot continuously exceed
production, nor production can continually exceed sales.
DIFFERENCE IN NET INCOME UNDER ABSORPTION AND VARIABLE COSTING:
Variable and absorption costing methods of accounting for fixed manufacturing overhead result in different levels of net income in most
cases. The differences are timing differences, i.e., when to recognize the fixed manufacturing overhead as an expense. In variable
costing, it is expensed during the period when the fixed overhead is incurred, while in absorption costing, it is expensed in the period
when the units to which such fixed overhead has been related are sold.

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Production Equals Sales:
When production is equal to sales, there is no change in inventory. Fixed overhead expensed under absorption costing equals fixed
overhead expensed under variable costing. Therefore, absorption costing income equals variable costing income.
Production is Greater Than Sales
When production is greater than sales, there is an increase in inventory. Fixed overhead expensed under absorption costing is less
than fixed overhead expensed under variable costing. Therefore, absorption income is greater than variable income
Production is Less Than Sales
When production is less than sales, there is decrease in inventory. Fixed overhead expensed under absorption is greater than fixed
overhead expensed under variable costing. Therefore, absorption income is less than variable costing income.
ARGUMENTS FOR THE USE OF VARIABLE COSTING
1. Variable costing reports are simpler and more understandable.
2. Data needed for break-even and cost-volume-profit analysis are readily available.
3. The problems involved in allocating fixed costs are eliminated.
4. Variable costing is more compatible with the standard cost accounting system.
5. Variable costing reports provide useful information for pricing decisions and other decision-making problems encountered by
management.
ARGUMENTS AGAINST VARIABLE COSTING
1. Segregation of costs into fixed and variable might be difficult, particularly in the case of mixed costs.
2. The matching principle is violated by using variable costing which excludes fixed overhead from product costs and charges the
same to period costs regardless of production and sales.
3. With variable costing, inventory costs and other related accounts, such as working capital, current ratio, and acid-test ratio are
understated because of the exclusion of fixed overhead in the computation of product cost.
COMPARISON BETWEEN VARIABLE COSTING AND ABSORPTION COSTING
ABSORPTION COSTING VARIABLE COSTING
Product Costs Direct Materials Direct Materials
Direct Labor Direct Labor
Variable manufacturing overhead Variable manufacturing overhead
Fixed manufacturing overhead
Period Costs Variable selling and administrative expenses Variable selling and administrative expenses
Fixed selling and administrative expenses Fixed selling and administrative expenses

THROUGHPUT COSTING (or SUPERVARIABLE COSTING)

An extreme form of variable costing in which only direct material costs are included as inventoriable costs. All other costs
are costs of the period in which they are incurred.
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PRACTICE EXERCISES
1. Under variable costing, fixed manufacturing overhead is:
A. expensed immediately when incurred.
B. never expensed.
C. applied directly to Finished-Goods Inventory.
D. applied directly to Work-in-Process Inventory.
E. treated in the same manner as variable manufacturing overhead.

2. All of the following are inventoried under variable costing except:

A. direct materials.
B. direct labor.
C. variable manufacturing overhead.
D. fixed manufacturing overhead.
E. items "C" and "D" above.

3. All of the following are expensed under variable costing except:

A. variable manufacturing overhead.
B. fixed manufacturing overhead.
C. variable selling and administrative costs.
D. fixed selling and administrative costs.
E. items "C" and "D" above.
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 4. All of the following costs are inventoried under absorption costing except:
A. direct materials.
B. direct labor.
C. variable manufacturing overhead.
D. fixed manufacturing overhead.
E. fixed administrative salaries.

5. All of the following are inventoried under absorption costing except:

A. direct labor.
B. raw materials used in production.
C. utilities cost consumed in manufacturing.
D. sales commissions.
E. machine lubricant used in production.

6. The underlying difference between absorption costing and variable costing lies in the treatment of:
A. direct labor.
B. variable manufacturing overhead.
C. fixed manufacturing overhead.
D. variable selling and administrative expenses.
E. fixed selling and administrative expenses.

7. Which of the following costs would be treated differently under absorption costing and variable costing?
Variable Fixed
Direct Manufacturing Administrative
Labor Overhead Expenses
A. Yes No Yes
B. Yes Yes Yes
C. No Yes No
D. No No Yes
E. No No No

8. Lone Star has computed the following unit costs for the year just ended:

Direct material used P12

Direct labor 18
Variable manufacturing overhead 25
Fixed manufacturing overhead 29
Variable selling and administrative cost 10
Fixed selling and administrative cost 17

Under variable costing, each unit of the company's inventory would be carried at:
A. P35.
B. P55.
C. P65.
D. P84.
E. some other amount.

9. Prescott Corporation has computed the following unit costs for the year just ended:

Direct material used P18

Direct labor 27
Variable manufacturing overhead 30
Fixed manufacturing overhead 32
Variable selling and administrative cost 9
Fixed selling and administrative cost 17

Under absorption costing, each unit of the company's inventory would be carried at:
A. P75.
B. P107.
C. P116.
D. P133.
E. some other amount.

10. Santa Fe Corporation has computed the following unit costs for the year just ended:

Direct material used P25

Direct labor 19
Variable manufacturing overhead 35
Fixed manufacturing overhead 40
Variable selling and administrative cost 17
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 Fixed selling and administrative cost 32

Which of the following choices correctly depicts the per-unit cost of inventory under variable costing and absorption costing?
Variable Absorption
Costing Costing
A. P79 P119
B. P79 P151
C. P96 P119
D. P96 P151
E. Some other combination of figures not listed above.

11. Delaware has computed the following unit costs for the year just ended:

Variable manufacturing cost P85

Fixed manufacturing cost 20
Variable selling and administrative cost 18
Fixed selling and administrative cost 11

Which of the following choices correctly depicts the per-unit cost of inventory under variable costing and absorption costing?
A. Variable, P85; absorption, P105.
B. Variable, P85; absorption, P116.
C. Variable, P103; absorption, P105.
D. Variable, P103; absorption, P116.
E. Some other combination of figures not listed above.

Use the following to answer questions 12-13:

Indiana Company incurred the following costs during the past year when planned production and actual production each totaled 20,000
units:

Direct materials used P280,000

Direct labor 120,000
Variable manufacturing overhead 160,000
Fixed manufacturing overhead 100,000
Variable selling and administrative costs 60,000
Fixed selling and administrative costs 90,000

12. If Indiana uses variable costing, the total inventoriable costs for the year would be:
A. P400,000.
B. P460,000.
C. P560,000.
D. P620,000.
E. P660,000.

13. The per-unit inventoriable cost under absorption costing is:

A. P9.50.
B. P25.00.
C. P28.00.
D. P33.00.
E. P40.50.

14. Consider the following comments about absorption- and variable-costing income statements:

I. A variable-costing income statement discloses a firm's contribution margin.

II. Cost of goods sold on an absorption-costing income statement includes fixed costs.
III. The amount of variable selling and administrative cost is the same on absorption- and variable-costing income
statements.

Which of the above statements is (are) true?

A. I only.
B. II only.
C. I and II.
D. II and III.
E. I, II, and III.

15. Roberts, which began business at the start of the current year, had the following data:

Planned and actual production: 40,000 units

Sales: 37,000 units at P15 per unit
Production costs:
Variable: P4 per unit
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 Fixed: P260,000
Selling and administrative costs:
Variable: P1 per unit
Fixed: P32,000

The gross margin that the company would disclose on an absorption-costing income statement is:
A. P97,500.
B. P147,000.
C. P166,500.
D. P370,000.
E. some other amount.

16. McAfee, which began business at the start of the current year, had the following data:

Planned and actual production: 40,000 units

Sales: 37,000 units at P15 per unit
Production costs:
Variable: P4 per unit
Fixed: P260,000
Selling and administrative costs:
Variable: P1 per unit
Fixed: P32,000

The contribution margin that the company would disclose on an absorption-costing income statement is:
A. P0.
B. P147,000.
C. P166,500.
D. P370,000.
E. some other amount.

17. Chicago began business at the start of the current year. The company planned to produce 25,000 units, and actual
production conformed to expectations. Sales totaled 22,000 units at P30 each. Costs incurred were:

Fixed manufacturing overhead P150,000

Fixed selling and administrative cost 100,000
Variable manufacturing cost per unit 8
Variable selling and administrative cost per unit 2

If there were no variances, the company's absorption-costing net income would be:
A. P190,000.
B. P202,000.
C. P208,000.
D. P220,000.
E. some other amount.

18. Norton, which began business at the start of the current year, had the following data:

Planned and actual production: 40,000 units

Sales: 37,000 units at P15 per unit
Production costs:
Variable: P4 per unit
Fixed: P260,000
Selling and administrative costs:
Variable: P1 per unit
Fixed: P32,000
The contribution margin that the company would disclose on a variable-costing income statement is:
A. P97,500.
B. P147,000.
C. P166,500.
D. P370,000.
E. some other amount.

19. Madison began business at the start of the current year. The company planned to produce 30,000 units, and actual
production conformed to expectations. Sales totaled 28,000 units at P32 each. Costs incurred were:

Fixed manufacturing overhead P150,000

Fixed selling and administrative cost 90,000
Variable manufacturing cost per unit 11
Variable selling and administrative cost per unit 2

If there were no variances, the company's variable-costing net income would be:
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 A. P270,000.
B. P292,000.
C. P308,000.
D. P532,000.
E. some other amount.

20. The following data relate to Lobo Corporation for the year just ended:

Sales revenue P750,000

Cost of goods sold:
Variable portion 370,000
Fixed portion 110,000
Variable selling and administrative cost 50,000
Fixed selling and administrative cost 75,000

Which of the following statements is correct?

A. Lobo’s variable-costing income statement would reveal a gross margin of P270,000.
B. Lobo’s variable costing income statement would reveal a contribution margin of P330,000.
C. Lobo’s absorption-costing income statement would reveal a contribution margin of P330,000.
D. Lobo’s absorption costing income statement would reveal a gross margin of P330,000.
E. Lobo’s absorption-costing income statement would reveal a gross margin of P145,000.

Problems

1. Information taken from Grille Corporation's May accounting records follows.

Direct materials used P150,000

Direct labor 80,000
Variable manufacturing overhead 30,000
Fixed manufacturing overhead 100,000
Variable selling and administrative costs 51,000
Fixed selling and administrative costs 60,000
Sales revenues 625,000

Required:
A. Assuming the use of variable costing, compute the inventoriable costs for the month.
B. Compute the month's inventoriable costs by using absorption costing.
C. Assume that anticipated and actual production totaled 20,000 units, and that 18,000 units were sold during May. Determine the amount of fixed
manufacturing overhead and fixed selling and administrative costs that would be expensed for the month under (1) variable costing and (2)
absorption costing.
D. Assume the same data as in requirement "C." Compute the contribution margin that would be reported on a variable-costing income statement.

2. Krell Corporation, which uses throughput costing, began operations at the start of the current year (20x1). Planned and actual production equaled 40,000
units, and sales totaled 35,000 units at P80 per unit. Cost data for 20x1 were as follows:

Direct materials (per unit) P 20

Conversion cost:
Direct labor 215,000
Variable manufacturing overhead 340,000
Fixed manufacturing overhead 528,000
Selling and administrative costs:
Variable (per unit) 8
Fixed 220,000

The company classifies direct materials as a throughput cost.

Required:
A. What is meant by the term "throughput costing"?
B. Compute the cost of the company's year-end inventory.
C. Prepare Krell's income statement for the year.

3. The following data relate to Hunter, Inc., a new company:

Planned and actual production 200,000 units

Sales at P48 per unit 170,000 units
Manufacturing costs:
Variable P18 per unit
Fixed P840,000
Selling and administrative costs:
Variable P7 per unit
Fixed P925,000

There were no variances during the period.

Required:
A. Determine the number of units in the ending finished-goods inventory.
B. Calculate the cost of the ending finished-goods inventory under (1) variable costing and (2) absorption costing.
C. Determine the company's variable-costing net income.
D. Determine the company's absorption-costing net income.

-END-
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