Accounting Discussion #3

b) Respond to 3 peers’ discussion posts. Each response should be a minimum of 150-250 words. (choose 3 from the discussion posts in the attached document)

 

c) In the Reflections Forum, in 200 words or more, please comment on the topic coverage this week (Chapter 5 and Chapter 6) that was of most interest to you. Please state how this knowledge could be applied at your current or a prior position and how you or your employer could benefit. (The PDF of the textbook is attached below for reference.)

Choose and respond to 3 peers’ discussion posts. Each response should be a minimum of 150-250 words.

Discussion #1: Activity Based Costing

 

Activity-based costing is a way to effectively distribute money to areas where it is needed most (Bragg, 2014).  It is often used in workplaces that have complex procedures where accounting is difficult.  This is often in businesses that have multiple products and/or several pieces of equipment.  Activity-based costing is broken down into five major categories.  These are unit level, batch level, product level, customer level, and organization sustaining (Noreen, Brewer & Garrison, 2014).

 

Unit level activities are done every time a unit is completed.  In this category, there should be a direct relationship between unit level activities and the amount or number of units made.   For example, a manufacturing company that makes dolls could be an example.  With every doll made, the cost might go up $2.00.  So that when five hundred dolls are completely finished, the unit level activities costs should be approximately $1000.00.

 

Batch level activities are costs involved with a batch that is irrespective of the amount of units within a batch.  Consider an example of a scheduling and organizing a shipment to be made.  The costs incurred will be a certain amount regardless of how many units are within the batch.  From the previous example, one could say that two different companies make dolls.  One packages fifty dolls per batch while the other puts one hundred dolls per batch.  In the end, however, the cost of scheduling shipment will be the same per batch.

 

Product level activities are tied to individual products.  These activities usually are done no matter how many units or batches are made.  For example, marketing or research and development are carried out for each product irrespective of how many end up being produced or sold.  In our example, the design for the doll itself would be a product level activity.

 

Customer level activities are not related to a product or an amount of a product.  These are activities related to customers.  Such an example would be telephone support to customers or sales.  If a customer calls the company asking a question about the doll, the is an example of customer level activity.

 

Organization sustaining activities are not directly related to customers or the amount of customers.  Also, these activities are not related to units or how many units are within a batch.  For example, the costs involved with keeping the facility operational and maintenance of software.  The factory where the dolls are made must be cleaned, for example, and would be an organization sustaining activity (Geense, 2014).

 

 

References

 

Bragg, S. (2014). Activity based costing. Accounting Tools. Retrieved from:

http://www.accountingtools.com/activity-based-costing

 

Geense, M. (2014).  Activity based costing.  Managerial Accounting.  Retrieved from:

 

 

 

Noreen, E. W, Brewer, P., & Garrison, R. (2014). Managerial Accounting for Managers (3rd

Ed.). New York, NY: McGraw-Hill Irwin.

 

 

 

 

Discussion #2: Variable & Absorption Costing

 

Businesses have to be educated on the different types of costs involved in running a business; therefore managers are a vital part of the business and one of the most important aspects of their job is to determine the type of costing that will be used. As mentioned in the last two discussions, there are several types of costs and the two in this week’s reading are variable and absorption costing. Absorption costing is a system in which a certain portion of the fixed overhead costs is applied to the cost of manufacturing products. This is done on a per-unit basis; it works by basically dividing the total amount designated to fixed costs by the number of units manufactured and sold during a particular period. The result of that division is the cost per unit for each unit made and sold (Johnston, 2014). On the other hand, variable costing, also known as direct costing or marginal costing, utilizes a fixed overhead as one large sum, instead of a per-unit expenditure. In this type of costing, all the variable costs such as supplies, raw materials and shipping are included in that total sum, the entire cost pf the fixed period for that particular period. Unlike absorption costing, in variable costing the fixed overhead is subtracted from the total revenue of the business (Johnston, 2014).

Noreen (2011) states that variable costing is only determined by fluctuations in unit sales. This type of costing is not based on the number of units manufactured. Simply put when sales increase, the total net operating income increases as well and vice versa. One of the advantages of using variable costing is that the company can get a good picture of what the total business expenditures are. It does have the possibility though to make companies understate the complete cost of a product (Wilkinson, 2013).

 

Reference

Johnston, K. (2014). Advantages & Disadvantages of Using Absorption Vs. Variable Costing. Retrieved September 19, 2014, from http://smallbusiness.chron.com/advantages-disadvantages-using-absorption-vs-variable-costing-34282.html

Noreen, E., Brewer, P., & Garrison, R. (2011). Managerial Accounting for Managers (2 ed.). New York, NY: McGraw- Hill Companies.

Wilkinson, J. (2013, July 22). Absorption vs variable costing Advantages and Disadvantages • The Strategic CFO. Retrieved September 20, 2014, from http://strategiccfo.com/wikicfo/absorption-vs-variable-costing-advantages-and-disadvantages

 

Discussion #3: Absorption and Variable Costing

Variable and absorption costing are alternative methods of determining unit product costs (Noreen, Brewer & Garrison, 2014).  From an article I read I needed more clarity on this subject. Absorption costing system, this refers to product costs that include direct labor, both fixed and variable overhead and direct materials. Therefore, absorption costing uses a portion of manufacturing overhead cost is allocated to each unit of product. This is regarded as full costing method, as all these costs of production are included in product cost.

Variable costing are referred to all the costs of production that vary without product costs. Variable costing include direct labor, direct materials and part of manufacturing overhead.  This is called direct costing or marginal costing (Accounting explanation, 2014).

From another article I read about these two aforementioned topics it lists the advantages and disadvantages of both these terms. The advantages of Absorption costing takes in the account of per-unit amount for fixed expenses and each product in inventory. So each unit has an applied value that is part of the overhead. So therefore, you do  not show the actual expense until you sell any of the items in the inventory. Thereby, maintaining your profit for that specific period.

The disadvantages of Absorption costing can make your profits look bigger than they really are in any accounting period. As will not subtract your entire fixed overhead if you did not sell all of the made products. Therefore your profit and loss statement does not represent all the full expenses you had for the period. This can throw you off when figuring out your profits for a certain period.

Advantages of Variable costing, this represents your profits made after all expenses have been paid for a particular accounting period. Therefore, when you

sell the manufactured products in inventory; you have a surplus of income.

Then the disadvantages of variable costing will represent the full payment for

fixed overhead. As this will then show less profit for a particular accounting

period as you show your complete overhead expense even when you did not sell

all your products. Therefore, in the end you will show reduced income for the

unsold products along with fixed expenses for overhead (Johnson, 2014).

 

 

Reference:

Johnson, K. (2014). Advantages and Disadvantages of using absorption versus variable

costing.  Retrieved from http://smallbusiness.chron.com/advantages-disadvantages-using-absorption-vs-variable-costing-34282.html

 

Noreen, E.W., & Brewer, P.C. & Garrison, R, H. (2014). Managerial Accounting

for Managers. New York, NY: McGraw- Hill Companies.

Variable costing versus absorption costing. (2014). Retrieved September 18,

2014 from             http://www.accountingexplanation.com/variable_costing_versus_absorption%20costing.htm

 

Discussion #4: Variable versus Absorption costing

 

The first question that comes to mind when reading about variable and absorption costing is: why would companies use two different methods for costing? Since manufacturing cost in general is the sum of costs of all resources consumed in the process of making a product (Ostwald. 2004); isn’t it confusing to separate them into two methods? And what is more interesting is that variable cost method is used internally by the managerial accountants and absorption cost method is used by external organizations such as IRS, creditors etc.

Both costing methods are made of product cost and period cost, the difference is how the fixed cost is used. Again as a former manager of pizzeria I want to apply those methods. The pizza’s direct material cost is $5 per one pie which includes the cheese the pizza souse, the dough; the direct labor is a salary of the pizza man which is lets say calculated to $2 per pie; variable cost is a cost of the dishwashers, the refrigerators, the mixers etc. lets say it is $1; and fixed cost which is the rent calculated from yearly rent divided by the pies that we sell per year, let say it is $3 per pie—if we add them together it will be $11—it is a product cost of the absorption costing.. However, the pizza’s variable costing will be $3 less (it is a fixed cost less) which is $9. Therefore, the fixed manufacturing overhead is not used in variable costing. But it does make sense. Lets say I have two pizzerias as a chain one in lower Manhattan and one in upper and I want to set one price for both—the only way I can calculate the cost is by using the variable costing and then add the fixed overhead when I do the sale taxes once a year for both because the cost of the pizza will be the same but the fixed cost which is the rent in this case will be much more expensive in lower Manhattan then in upper.

Absorption costing offers and advantage when you do not sell all of your products during the accounting period…You do not show the expense until you actually sell the items in inventory which can improve your profit for the period (Johnston. 2014). However the advantage to variable costing is that variable costing net operating income is closer to net cash flow (Geri. 2010).

 

 

 

 

 

Reference:

Ostwald, P. F. Mclaren, T. S. (2004). Cost analysis and Estimating for Engineering and Manegement. Pentice Hall, ISBN 978-0-13-142127-1

 

Johnston Kevin (2014). Advantages & Disadvantage of Using Absorption Vs. Variable Costing. Chron. Small Business by Demand Media. Retrieved from  http://smallbusiness.chron.com/advantages-disadvantages-using-absorption-vs-variable-costing-34282.html

 

Geri Wink. (2010). Income Inflation: Absorption Costing vs. Variable. Journal of the International Academy for case Studies. Retrieved form  http://search.proquest.com.proxy.davenport.edu/docview/845495937?pq-origsite=summon

 

Discussion #5: Absorption Costing Vs Variable Costing

 

There are two main processes that are used in manufacturing organizations to value units of product for the purpose of accounting. The first one is called absorption costing and the second is called variable costing. These methods treat fixed manufacturing overhead costs differently. Absorption costing is the process for applying part of the fixed overhead costs your manufacturing product costs and it is done on the basis of per-unit. It is performed by dividing the fixed-costs by the number of units that have been sold and manufactured in a particular period (Kevin Johnston). This results in giving us a cost per unit for each unit that we have manufactured and sold.

Variable costing is the process of using fixed overhead as a total sum instead of a per-unit expense. It is performed by including all the variable costs such as the raw materials, shipping and supplies. The full cost of fixed-overhead for a particular period is added in this method instead of figuring out the expenses on a per-unit basis as in the case of absorption costing. These are instead subtracted from the revenue as a total sum expense (Kevin Johnston). Variable costing entails variable production costs in product costs. Direct labor, direct materials and variable manufacturing overhead costs are usually included in product costs when performing variable costing. Fixed manufacturing overhead is not included as a product cost in variable costing and fixed manufacturing overhead is included as a period cost which is then charged against income each period.

Absorption costing can improve profits for a period offers in a case where all the manufactured products within an accounting period are not sold. In this case, there finished goods in the inventory. Since a per-unit amount is assigned for fixed expenses, each product in the inventory will have a value that includes part of the fixed overhead. The expense aren’t shown until the items in inventory are sold. It can, however, lead to artificially inflating the profit figures in that period for accounting since the fixed-overhead will not be deducted when the manufactured products aren’t sold. The full expenses for that period will not show in the profit-and-loss statement thus resulting in misleading information while analyzing the profitability.

Variable costing on the other hand shows the profits after all the bills are paid for a period of accounting. Even though the revenues for the manufactured products have not been received since they could be sitting in inventory, all the expenses are shown as paid for that period and when finished products sitting in the inventory are finally sold, it is then considered surplus income. In Variable costing the full payment for fixed-overhead expenses for a period of accounting is shown and in a situation where all the manufactured products haven’t been sold,  the full cost of fixed overhead is deducted which leads to showing less profit for that period since the complete overhead expense is shown even though all the products haven’t been sold. Basically you show reduced income because of unsold products but full expenses for overhead (Kevin Johnston). As compared to absorption costing, variable costing gives a more accurate picture of the cash flow which can be especially beneficial for smaller organizations that operate with relatively tighter margins (Cam Merritt).  Absorption costing income statements are not well-suited for providing data for cost volume profit computations since there is no distinction between fixed and variable costs whereas variable costing process classifies costs by behavior hence it is beneficial in setting-up cost volume profit computations (Rosemary Nurre).

 

 

References

Kevin Johnston. Advantages & Disadvantages of Using Absorption Vs. Variable Costing. Retrieved from http://smallbusiness.chron.com/advantages-disadvantages-using-absorption-vs-variable-costing-34282.html

Rosemary Nurre. Variable Costing – A Tool for Management. Retrieved from http://smccd.edu/accounts/nurre/online/chtr7.html

Cam Merritt. The Pros & Cons of Variable Costing Accounting. Retrieved from http://smallbusiness.chron.com/pros-cons-variable-costing-accounting-43136.html

 

Discussion #6: Absorption Costing

 

Managers engage in product costing in order to determine the actual cost of units of production and to calculate how much it costs the organization to produce a unit or a service. Costing involves the careful analysis of resources and the proper allocation of every resource used in the production of the company products. Costing in undertaken to optimize production because it allows a manager to understand what and how resources are used and the cost of production. There are several methods to conduct product costing, yet the two most popular are absorption costing and variable costing (Kinney & Raiborn, 2013).

 

Absorption costing is defined as a costing method that includes all manufacturing costs—direct materials, direct labor, and both variable and fixed manufacturing overhead—in unit product costs. The method of cost allocation assures that produced units or products are said to fully absorb all manufacturing costs (Garrison, Noreen, & Brewer, 2012). Absorption costing takes both fixed and variable costs and assigns them to the products that consumed them, thus assuring that all costs which can be associated with a product are known. Such costs remain a part of the good or service until they are sold and then the costs are formally recognized by the company. Costs are recognized as direct materials, direct labor, variable manufacturing overhead, and fixed manufacturing overhead. Direct materials are any materials in the finished products, direct labor is the labor costs to construct, variable overhead are the costs to operate the facility, and fixed manufacturing include rent, insurance, and depreciation costs (Kinney & Raiborn, 2013). Absorption costing is completed in steps. The first step is to assign all costs to cost pools. Costs are then calculated according to usage and therefore costs are split depending on activity levels for products. Finally, all costs are assigned to the actual products based on the calculated usage and the number of products produced (Hansen, Mowen, & Guan, 2009).

Absorption costing is known as full costing and is completed because it can be used internally by managers and also externally by stakeholders. It differs from variable costing, which does not include fixed costs into the costs of the goods and treats these as period or capacity costs. As such, absorption costing more accurately shows exactly what it takes to produce a unit (Kinney & Raiborn, 2013). In absorption costing, even rent, utilities, and other expenses not directly used for production are included, which means that the company can see just how much a unit adds to the profitability of the company. If the units absorption cost is calculated, the company can set prices that assure all costs are covered. Under variable costing, the price of the unit does not include those expenses used by the entire company. Without knowing these, the company can have a more difficult time understanding proper pricing (Hansen, Mowen, & Guan, 2009).

References

Garrison, R., Noreen, E., & Brewer, P. (2012). Managerial Accounting (14th). New York, NY: McGraw-Hill/Irwin.

Hansen, D., Mowen, M., & Guan, L. (2009). Cost Management: Accounting and Control (6e). Mason, OH: South-Western.

Kinney, M., & Raiborn, C. (2013). Cost Accounting: Foundations and Evolutions (9e). Mason, OH: South-Western.

 

 

 

 

Discussion #7: Week 3 – Variable Costing

 

Manufacturing companies create and produce goods. There are expenses related to production that must be taken into consideration when it comes to accounting. There are costs directly related to labor, costs directly related to the materials used in production, the costs related manufacturing which can be variable and fixed, then there is the nonmanufacturing costs such as selling and administrative. When variable costing is being used as a method of accounting, only the manufacturing costs that vary with the output of products are recognized as product costs. This includes direct material, direct labor, and variable manufacturing overhead. In the variable costing method nonmanufacturing cost and fixed manufacturing cost are all seen as a periodic cost and not considered in this costing method. In contrast, absorptive costing does take into consideration all manufacturing costs as recognizable product costs, regardless if they are fixed or variable. The main difference then between the two is how they view fixed manufacturing overhead; in absorption costing a fraction of the fixed manufacturing overhead cost is added to each unit of product that is made. Whereas in variable costing, the fixed manufacturing overhead is considered a periodic cost and is expensed in its entirety (Noreen , Garrison, & Brewer, 2014, p. 162).

 

There are advantages and disadvantages to using the variable cost method. An advantage to variable costing is that it allows the company to consider its profits once all the costs of doing business are accounted for. After paying “the bills” in a particular period and inventory continues to sell, all revenue coming in from sales will be profit. The disadvantage to variable costing is that to see a profit in a timely manner products must sell in a timely manner. Especially since the fixed manufacturing overhead cost must be paid during the accounting period. If a company does not sell all of the products the fixed manufacturing overhead cost must be paid for when it is due. This can result in the company showing reduced profit (Johnson, n.d.), or in some cases no profit, and in bad cases a loss.

Variable costing is good because it provides a more accurate view of the cash flow in a company. Absorption costing will always show a greater profit for the same amount revenue reported as in variable costing because the fixed manufacturing overhead does not go on the income statement and reported as an expense, instead it goes on the balance sheet (Merritt, n.d). In absorption costing the total cost of each unit will decrease as more units are produced, due to the reduction of the fixed portion of the cost since it is being distributed between more units produced. As a result a company can decrease the inventory cost per unit, leading to a reduction of the cost of goods sold to increase its profits (Chapter 7 Notes, n.d.). This accounting method can lead to risky business indiscretion, which is why variable costing is best in my opinion.

 

 

References

 

 

Chapter 7 Notes. (n.d.). Retrieved from the World Wide Web on September 20, 2014 from:

http://www.csulb.edu/~mconstas/acct310/notes/n06.pdf

 

 

Johnson, K. (n.d.) Advantages & Disadvantages of Using Absorption Vs. Variable Costing.                     Chron. Retrieved from the World Wide Web on September 18, 2014 from:

http://smallbusiness.chron.com/advantages-disadvantages-using-absorption-vs-variable-costing-34282.html

 

 

Merritt, C. (n.d.). The Pros & Cons of Variable costing Accounting. Chron. Retrieved                   from the World Wide Web on September 18, 2014 from:

http://smallbusiness.chron.com/pros-cons-variable-costing-accounting-43136.html

 

 

Noreen, E. W., Brewer, P. C., & Garrison, R. H. (2014). Managerial Accounting for Managers.                New York, NY: McGraw-Hill/Irwin.

 

 

Discussion #8

 

When small organizations are manufacturing based they have a choice of choosing between two types of costs either absorption or variable to determine the potential profits of the organization (Johnston, 2014). However, before we can do this we have to understand the effects of both types before deciding on which one to use, whether we can use both types, or if we can use parts of each. It is due to this that based off of our choice it can greatly affect our profit-reporting (Johnston, 2014).

Before we begin to understand the advantages and disadvantages of both variable and absorption costs we have to know more about fixed overhead costs as well (Johnston, 2014). A fixed overhead costs can be defined as an expense that never fluctuates no matter what our level of production is (Johnston, 2014). A few examples of fixed overhead costs include office rent, insurance for the business and the employees, as well as the cost of rented equipment (Johnston, 2014). These specific costs are necessary for the continued flow of production and will never end no matter what a company tries to do (Johnston, 2014).

Now that we know what fixed overhead costs are, we can look into the advantages and disadvantage of both types of costs. The advantages of variable costs allow for a better picture when it comes to incremental costs pertaining to a particular product (Wilkinson, 2013). The supporters of this method believe that the fixed manufacturing overhead costs are acquired no matter how much is produced and should not be included when making product based decisions (Wilkinson, 2013). Thus, those that use this method are able to enjoy an informed cost that relays the actual inputs of the products (Wilkinson, 2013). Yet, if do not take the fixed manufacturing overhead costs into account then the variable costs may devalue the product’s overall cost (Wilkinson, 2013). The reason that this can be considered a disadvantage is because even though the manufacturing overhead does not directly affect the production there are still some lingering aspects that can drive the cost of production up (Wilkinson, 2013).

Absorption cost is the opposite of variable cost in the sense that is give a bigger picture by including the fixed manufacturing overhead costs of a product (Wilkinson, 2013). Supporters of this method believe that it is the best because all possible costs are included. Now what occurs during this method is an organization or company is given a more precise view of the products significance form an economic perspective (Wilkinson, 2013). If there is a large amount of revenue for the product with this method then it means that it is gaining income even with the irrelevant costs of production (Wilkinson, 2013). Yet, this method does forget about the usage of indirect resources when producing and sometimes this method can be used to shift the income around by moving certain values to make it appear to be working (Wilkinson, 2013).

Both of these two methods are different and are needed in order to make a company successful (“Variable”, 2014). It is because of this that I believe that both are needed for the overall success of a company (“Variable”, 2014).

References

Johnston, K. (2014). Advantages & Disadvantages of Using Absorption Vs. Variable Costing. Retrieved September 18, 2014, from http://smallbusiness.chron.com/advantages-disadvantages-using-absorption-vs-variable-costing-34282.html

Variable costing versus absorption costing. (n.d.). Retrieved September 18, 2014, from http://www.accountingformanagement.org/variable-vs-absorption-costing/

Wilkinson, J. (2013, July 22). Absorption vs variable costing Advantages and Disadvantages • The Strategic CFO. Retrieved September 18, 2014, from http://strategiccfo.com/wikicfo/absorption-vs-variable-costing-advantages-and-disadvantages/

 
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