Cost Accounting (14th Edition)

326 CHAPTER 9 INVENTORY COSTING AND CAPACITY ANALYSIS
The higher denominator level used to calculate the budgeted fixed manufacturing cost per unit
means that fewer fixed manufacturing costs are inventoried ($48 per unit * 2,000 units =
$96,000) than when the master-budget capacity utilization was 8,000 units ($60 per
unit * 2,000 units = $120,000). This difference of $24,000 ($120,000 – $96,000) results
in operating income being lower by $24,000 relative to the prior calculated income level
of $1,500,000.
Decision Points
The following question-and-answer format summarizes the chapter’s learning objectives. Each decision presents a
key question related to a learning objective. The guidelines are the answer to that question.
Decision
1. How does variable costing
differ from absorption
costing?
2. How does income differ
under variable and absorption
costing?
3. Why might managers build
up finished goods inventory
if they use absorption
costing?
4. How does throughput costing
differ from variable costing
and absorption costing?
5. What are the various capacity
levels a company can use to
compute the budgeted fixed
manufacturing cost rate?
6. What are the major factors
managers consider in choosing
the capacity level to
compute the budgeted fixed
manufacturing cost rate?
7. What issues must managers
take into account when
planning capacity levels and
for assigning capacity costs?
Guidelines
Variable costing and absorption costing differ in only one respect: how to
account for fixed manufacturing costs. Under variable costing, fixed manufacturing
costs are excluded from inventoriable costs and are a cost of the period in
which they are incurred. Under absorption costing, fixed manufacturing costs
are inventoriable and become a part of cost of goods sold in the period when
sales occur.
The variable-costing income statement is based on the contribution-margin format.
Under it, operating income is driven by the unit level of sales. Under
absorption costing, the income statement follows the gross-margin format.
Operating income is driven by the unit level of production, the unit level of
sales, and the denominator level used for assigning fixed costs.
When absorption costing is used, managers can increase current operating income
by producing more units for inventory. Producing for inventory absorbs more
fixed manufacturing costs into inventory and reduces costs expensed in the period.
Critics of absorption costing label this manipulation of income as the major negative
consequence of treating fixed manufacturing costs as inventoriable costs.
Throughput costing treats all costs except direct materials as costs of the period
in which they are incurred. Throughput costing results in a lower amount of
manufacturing costs being inventoried than either variable or absorption costing.
Capacity levels can be measured in terms of capacity supplied—theoretical
capacity or practical capacity. Capacity can also be measured in terms of output
demanded—normal capacity utilization or master-budget capacity utilization.
The major factors managers consider in choosing the capacity level to compute
the budgeted fixed manufacturing cost rate are (a) effect on product costing and
capacity management, (b) effect on pricing decisions, (c) effect on performance
evaluation, (d) effect on financial statements, and (e) regulatory requirements.
Critical factors in this regard include the uncertainty about the expected spending
on capacity costs and the demand for the installed capacity, the role of
capacity-related issues in nonmanufacturing areas, and the possible use of
activity-based costing techniques in allocating capacity costs.