Flashcards
6. Absorption Costing
Cards in this deck (17)
- 1Define: Variable CostingOnly those costs that vary with output (direct materials, direct labour and the variable portion of overheads) were included in product costs. Fixed costs are treated as period costs.
- 2Define: Absorption CostingAbsorption costing methods allocate a portion of manufacturing overhead costs to each unit of product, along with direct costs (direct material, direct labour).
- It treats all manufacturing costs as product costs, whether variable or fixed.
- It allocates a portion of fixed manufacturing overhead cost to each unit of product, along with the variable costs - 3Purpose: Absorption CostingAllocation is aimed at:
- Inventory valuation: allocation is required for valuing inventories as per the generally accepted accounting principles
- Planning: allocations help managers in making decisions relating to product planning and resource planning
- Behaviour modification: allocations help managers in inducing desired organizational behaviour and in dissuading or “taxing” undesired behaviour - 4Define and Explain: Job/Order CostingJob/order costing: an absorption costing system used in situations where many different products or services are produced each period
--> Receive orders from customers
--> Schedule jobs
--> Order materials
--> Begin production - 5Full Costing (Manufacturing)
- 6Full Costing (Service)
- 7List: Applications of Manufacturing OverheadPlant-wide apportionment systems
Multiple overhead rate systems - 8Define: Plant-Wide Apportionment SystemsUse a single, pre-determined overhead rate for the entire factory
- 9Define: Multiple Overhead Rate SystemsDivide the production line in cost centres
Use different overhead rates for different centres - 10Explain: Plant-Wide Apportionment SystemsPredetermined overhead rate (POHR) used to apply overhead to jobs
- POHR is determined before the period begins
• Allows to estimate total job costs (pricing purposes)
• Actual overhead for the period is not known until the end of the period
Allows comparison between estimated and actual usage - 11Explain: Multiple Overhead Rate Systems- Based on preliminary identification of cost centres
- Cost centre: a department responsible for costs associated to its activities
- Cost centres can be:
• Production cost centres (PCC): directly involved in the production activity. Output is a (semi)finished product
• Service cost centres (SCS): not directly involved in the production activity but provides support or assistance to PCCs - 12Explain: Two Categories of Overhead CostsOverhead costs can be divided into two categories:
• OCs that can be allocated as a whole to a cost centre
• OCs that have to be apportioned (split) over several cost centres according to how each cost centre benefit from the cost incurred
--> Using a single POHR
--> Using different POHRs for different overhead costs - 13Explain: Multiple Overhead Rate System Computation SequenceComputation sequence:
• Allocate relevant OC items to centres
• Apportion relevant OC items to centres
• Apportion cost of service centres to production centres
• Derive cost of job - 14Explain: Service Departments and Allocation Base- Costs are usually assigned from a service department to operating departments using an allocation base.
• The cost being allocated should be ‘driven’ by the allocation base
• The allocation base should reflect the benefits received by the department
• E.g. for cleaning services, PCCs can be charged based on the area (floor space) occupied - 15Explain: Direct MethodCosts of services between service departments are ignored and all costs are allocated directly to operating departments.
- 16Evaluate: Absorption Costing- Full costing methods may lead to a distorted product cost when:
• All manufacturing costs – even those that are not caused by any specific product – are allocated to products.
• Non-manufacturing costs that are caused by products are not assigned to products.
- Traditional methods tend to place too much reliance on unit- level allocation bases such as direct labour or machine-hours.
- This results in over-costing high-volume products and under-costing low-volume products and can lead to mistakes when making decisions. - 17Inaccurate Product Costs - Historical Reasons
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- Business and Management 2A (Accounting and Finance) Flashcards on 6. Absorption Costing, created by Nina Olsson on 27/11/2017.
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