Marginal and Absorption Costing Flashcards
what are the two main purposes of absorption costing
to help calculate profits by calculating inventory for the financial statements
to provide a basis for calculating selling prices that cover the total costs of production
what is a cost pool
a cost pool is a group of related indirect costs which were incurred due to the same activity e.g. maintenance, ICT support or admin
what are activity cost pools
activity cost pools are used in activity based costing to allocate manufacturing overheads to specific products
what is activity based costing
means that overheads of the business are charged to output on the basis of relevant activities which are called cost drivers
what is the one advantages of marginal costing
it is useful for break even calculations and is useful for decision making as it calculates CPU
three disadvantages of marginal costing
it does not ensure full cost recovery as it excludes overheads
the mark up for the selling price will be higher than ABC or absorption costing
it is not acceptable under IAS2 as a valuation of inventory
4 disadvantages of absorption costing
the basis to calculate OAR may not be relevant for all of the overheads in the production department e.g. floor area
figures for overheads and production are estimated so can lead to an unsuitable selling price
can’t be used in short term decision making as the fixed costs are combined with variable costs
improvements in technology can lead to a reduction in labour hours
6 advantages of abc
more accurate cost info as the cost driver which causes the cost is used to allocate the cost on an objective basis
it doesn’t use labour hours or machine hours
more accurate costs per unit can lead to more accurate selling prices
it enables management to understand why costs are incurred and how to control them
it considers that batch size affects cost which is ignored in absorption costing
it is more accurate than absorption as overheads are complex in nature
it takes into account that batch sizes influence indirect costs
two disadvantages of abc
absorption costing is useful when there is a narrow range of products
it is doubtful that a single cost driver can explain the cost behaviour of an activity
what is a cost centre
are sections of a business to which costs can’t be charged. They may be departments, product lines, branches, regions or based on any other method of dividing an organisation.
what are the two things a business must do to ensure that its selling prices cover more than its costs
calculate the OAR (total budgeted overheads for the cost centre/ total planned work in the cost centre)
apply the OAR to the actual work that has been completed
what is the labour hour method
budgeted overheads for cost centre / direct labour hours for cost centre
apply OAR to actual labour hours
what is the machine hour method
budgeted overheads for cost centre / budgeted machine hours
OAR X machine hours
