Theory - Costs Flashcards
Ads of contribution approach
Management find it easy to understand
Consistent with cvp analysts
Consistent with standard costs and flexible budgeting
Easier to estimate profitability of products and segments
Impact of fixed costs on profit emphasised
Variable costing v absorption
For absorption costing all manufacturing costs must be assigned to products to properly match revenue and costs
Whereas variable costing fixed costs are not really the costs of any particular product
Variable v absorption costing pt 2
For absorption costing depreciation, taxes, insurance and salaries are just as essential to products as variable costs
Whereas for variable costing these are capacity costs ( dep, taxes, insurance and salaries) and will be incurred if nothing is produced
Disadvantage of absorption costing
A basic problem with absorption costing is that fixed manufacturing oh costs appear to be variable With respect to the no. Of units sold
Disadvantage of variable costing
A company that attempts to use variable costing on its external financial report runs the risk that it’s auditors may not accept the financial statements as conforming To internationally accepted accounting principles
DisadvantAge of both adbsorprion and variable costing
The issue of performance evaluation
Impact of JIT Stock methods
In a JIT system production tends to equal sales so the difference between variable and absorption costing tends to disappear
Advantages of absorption costing
Consistent with the matching concept in manufacturing cost of sales are matched with the sales revenue, this is why financial reporting standard requires absorption costing
Also it facilitates cost plus pricing strategy, in the long for survival and profitability, prices must cover fixed costs
Advantage of variable costing
It facilitates various short term decisions making, e.g. break even Analysis
It is relatively simple in the sense that it avoids overhead apportionment and absorption problems
Limiting factors for cvp analysis
Sometimes a company cannot make and sell as many products as it likes - lim demand, supply or availability of specialist staff
Decisions should always be based on maximising contrbibution per limiting factor
Assumptions of cvp analysis
Selling price is constant throughout the entire relevant range
Costs are linear throughout the entire relevant range
In multi product companies, the sales mix is constant
But manufacturing companies, stocks do not change (units produced = units sold)
Concept of sales mix
Sales mix is the relative proportion in which a company’s products are sold
Different products have different selling prices, cost structures and contribution margins
Changes in sales mix can cause interesting (and sometimes confusing) variations in a company’s profit
