Variable Costing for Management Analysis

1. 5 Click to edit Master title style • Click to edit Master text styles • Second level • Third level • Fourth level • Fifth level Variable Costing for Management Analysis Student Version 1/3/2020 1

2. 1 Describe and illustrate reporting income from operations under absorption and variable costing. 5-2

3. 1 0 Absorption Costing Absorption costing is required under generally accepted accounting principles for financial statements distributed to external users.

4. 1 0 Variable Costing For internal use in decision making, managers often use variable costing.

5. 1 Assume that 15,000 units are manufactured and sold at a price $50.

6. 1 0 Exhibit 1 Absorption Costing Income Statement

7. 1 0 Contribution Margin Note in Exhibit 2 that the variable selling and administrative expenses are deducted from the manufacturing margin to yield the contribution margin.

8. 1 Exhibit 2 Variable Costing Income Statement

9. 1 0 Income from Operations When Units Manufactured Exceed Units Sold Assume that in the preceding example only 12,000 units of the 15,000 units manufactured were sold. Examine Exhibit 3 and you will see that income from operations using variable costing is $40,000 while absorption costing provides an income of $70,000.

10. 1 0 Exhibit 5 Units Manufactured Exceed Units Sold Exhibit 3 (continued)

11. 1 0 Exhibit 5 Units Manufactured Exceed Units Sold Exhibit 3

12. 1 0 Income from Operations When Units Manufactured Are Less than Units Sold 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.

13. 1 0

14. 1 0 Exhibit 5 Units Manufactured Are Less Than Units Sold Exhibit 4 (continued)

15. 1 0 Exhibit 5 Units Manufactured Are Less Than Units Sold Exhibit 4

16. 0 2 Describe and illustrate the effects of absorption and variable costing on analyzing income from operations. 5-16

17. 2 0 Frand Manufacturing Company Frand Manufacturing Company has no beginning inventory and sales are estimated to be 20,000 units at $75 per unit, regardless of production levels.

18. 2 0 Proposal 1: 20,000 Units to be Manufactured and Sold

19. 2 Proposal 2: 25,000 Units to be Manufactured and 20,000 Units to be Sold

20. 2 0 Exhibit 5 Absorption Costing Income Statements for Two Production Levels Exhibit 5

21. 2 Frand Manufacturing Company Now, assume that Frand Manufacturing uses variable costing and has sales of 20,000 units. Exhibit 6 illustrates that net income remains a constant $200,000 at the three levels of production.

22. 2 0 Variable Income Statements for Three Production Levels Exhibit 6

23. 0 3 Describe management’s use of absorption and variable costing. 5-23

24. 3 0 Pricing Products Many factors enter into determining the selling price of a product. However, the cost of making the product is significant in all pricing decisions. In the short run, fixed costs cannot be avoided.

25. 3 0 Pricing Products In the long run, a company must set its selling price high enough to cover all costs and expenses (variable and fixed) and generate income.

26. 3 0 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.

27. 0 4 Use variable costing for analyzing market segments, including product, territories, and salespersons segments. 5-27

28. 4 0 Analyzing Market Segments Camelot Fragrance Company manufactures and sells the Gwenevere perfume for women and the Lancelot cologne line for men. The inventories are negligible.

29. 4 Sales Territory Profitability Analysis Sales territory profitability analysis may lead management to: • Reduce costs in lower-profit sales territories • Increase sales efforts in higher-profit territories

30. 4 0 Sales Territory Profitability Analysis To illustrate the analysis of profit differences by sales territory, Exhibit 8 shows the variable costing income statements by sales territories for Camelot Fragrance Company.

31. 4 0 Contribution Margin by Sales Territory Report Exhibit 8

32. 4 Sales Territory Profitability Analysis Contribution Margin Ratio Contribution Margin Sales = Northern territory: 43% ($34,400/$80,000) Southern territory: 50.5% ($40,400/$80,000)

33. 4 Sales mix, sometimes referred to as product mix, is defined as the relative distribution of sales among the various products sold.

34. 4 Contribution Margin by Product Line Report Exhibit 9

35. 4 Contribution Margin by Salesperson Report Exhibit 10

36. 0 5 Use variable costing for analyzing and explaining changes in contribution margin as a result of quantity and price factors. 5-36

37. Planned Sales Price Actual Units Sold Planned Units of Sales Sales Quantity Factor = – × Planned Unit Cost Planned Units of Sales Actual Units Sold Variable Cost Quantity Factor = – × 5 Quantity factor is the effect of a difference in the number of units sold, assuming no change in unit sales price or unit cost.

38. Actual Selling Price per Unit Planned Selling Price per Unit Actual Units Sold Unit Price Factor – × = Planned Cost per Unit Actual Cost per Unit Actual Units Sold Unit Cost Factor – × = 5 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.

39. 5 Contribution Margin Analysis

40. 5 Contribution Margin Analysis Report Exhibit 12

41. 0 6 Describe and illustrate the use of variable costing for service firms. 5-41

42. 6 0 Variable Costing Income Statement Exhibit 14

43. 6 0 Blue Skies Airlines

44. 6 0 Contribution Margin by Segment Report—Service Firm Exhibit 15

45. 6 Contribution Margin Analysis Report—Service Company Exhibit 16 — —