The uses of absorption and variable costing Essay

Accounting is the most of import construct of any concern. Assorted organisations adapt assorted accounting constructs in order to fit the demand and form of the concern. Costing is an built-in portion of the accounting construct because the same aid in finding the cost of a merchandise and related disbursals. Costing is termed to be the basic construct and all the accounting theoretical account is structured in lines with the several costing forms.

There are different types of organisations prevalent in a market and different organisations adapt different bing form depending on the organisational demands and forms. Different bing constructions emphasise on different merchandise forms. There are several bing theoretical account prevalent in the market for illustration soaking up costing, variable bing etc. In this assignment we are traveling to discourse about soaking up and variable costing in inside informations to give a brief thought about the same and their utilizations.

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Cost measuring is built-in portion for any organisation. Though the cost measurement the initial phase but lays the foundation of the whole accounting procedure and helps in monitoring and commanding the cost program of a concern. The costing should be decently analysed in order to analyze the different facets and informations. This procedure can be termed as ‘cost direction ‘ which helps in be aftering the farther operations and maintaining a control on the cost form.

There are assorted types of costs which are segregated based on their characterestics and their phase of use. In the undermentioned paragraphs the assorted types and the characterestics have been described.

Operating expense COSTS – signifies indirect costs which are non straight related to a specific merchandise. For illustration mill rent and is attributable to all the merchandises that is manufactured in that specific mill. This is because the mill rent is non applicable to a specific batch of merchandise produced during a period of clip, whereas, it is distributed among all the merchandises.

MARGINAL COST – refers to the cost that relates to a specific merchandise and hence, can be attributable on merchandise footing. For illustration ; the labor and stuff cost of a merchandise.

ACTIVITY BASED COSTING ( ABC ) – is direction based bing pattern whereby, different bing form, construction and inside informations are collected and analysed on the footing of the nature and extent of the same. Under this form, different costs are assigned to different merchandises and services based on the degree of activities. ABC is frequently described as a method of bettering the quality of direction accounting information on several state of affairss where conventional overhead allotment may bring forth overlapping or improper consequences.

An activity can be described as having goods, inspecting goods and hive awaying goods. We have to work out the cost of the activities at the assorted phases of merchandise fabrication before apportioning them to divide sections.


ABC is relatively a new construct and is a direction based accounting whereby different costing form has been associated with different sorts of merchandises. ABC involves several types of cost Numberss used in occupation costing or procedure bing systems.

ABC considers activities as the cardinal cost objects whereas, traditional costing takes into consideration merchandise or service as the cost object.

Further, traditional costing assumes that resources are consumed by products/services whereas ; ABC assumes that products/services consumes activities which in tun consumes resources.

VARIABLE Costing is besides referred called fringy or direct costing ) , costs a merchandise or service at the costs incurred to straight fabricate the product/provide the service, i.e. merely including the variables costs. Variables costs are those costs that change as the degree of production/sales alterations. Examples are direct labor ( more direct labor peers more production/sales, direct stuff more direct stuff peers more production/sales and so on. ) .

Largely, administrations prepare their histories based on variable costing rules since this format provides direction with better information for internal decision-making. In add-on, the variable costing besides eradicate the factor of sing the same cost factor twice since it does non see fixed fabrication operating expense.


I ) Helps in Internal managerial determinations

two ) Stock is undervalued

three ) The segregation of cost into different facets and helps in analyzing cost form


I ) It does non take into consideration of the fixed cost and therefore, does non bring forth a elaborate image for revenue enhancement calculation and other managerial determinations

ABSORPTION COSTING is besides known as full costing in certain instances. Under this system of costing, a merchandise at the stock list will affect all the disbursals incurred i.e. direct labor, direct stuff and both fixed and variable operating expense. Therefore, in simple words, under this system of costing, at any given clip, the cost of goods involves all the types of disbursals involved with the production of the same.

Absorption costing ( sometimes called full costing ) includes fixed operating expense in the cost of a merchandise or service. Therefore, under soaking up bing some method of apportioning that operating expense is required. Absorption costing is normally the needed costing measuring method for describing stock list in external fiscal studies.


I ) Inclusion of Fixed Cost in production

two ) Helps in Internal managerial determinations and fixing fiscal histories

three ) Is accepted in Inland Revenue

four ) It distorts stock rating

V ) Helps in calculating revenue enhancement


I ) It takes into history both the types of cost and hence, non used for direction determinations

two ) Manipulations possible


Absorption bing takes into consideration all fabrication costs i.e. direct stuffs, direct labor andA bothA variable and fixed fabrication operating expense. In this procedure of costing, fixed operating expense is treated as a merchandise cost until the same is sold. It helps in functional analysis on

FOMULAE: ( Gross saless – Absorption Cost of Goods Sold ) = Gross Net income

Variable bing refers to the summing up of variable fabrication costs viz. direct stuffs, direct labor, and variable fabrication operating expense.

Formula: Contribution Margin = Variable Cost of Goods Sold + Variable Selling + Administrative Expenses and subtracted from Gross saless.

Behavioral Analysis of the Income Statement

Variable costing can besides be used for Break-even Analysis

Rules about Absorption Costing Vs. Variable Costing.


a ) If gross revenues are variable and production invariable.

If production is equal to gross revenues, so soaking up costing and variable costing will give the same sum of net income.

If production greater than gross revenues, so Net Income under soaking up costing will be greater than net income under variable costing

If production less than gross revenues, so Net Income under soaking up costing will be less than net income under variable costing

In the long-run procedure, net income will be equal under both bing methods.

B ) If gross revenues are changeless and production is variable so:

Net income under variable costing does non fluctuate because of alteration in gross revenues figures whereas, the same under soaking up costing

Further, a numerical illustration has been analysed over here to give a brief thought about Absorption & A ; Variable Costing.

Unit of measurements Produced


Gross saless Monetary value


Direct Materials Cost/Unit


Direct Labour Cost/Unit


Variable Manufacturing Cost/ unit


Variable Gross saless Cost/Unit


Fixed Manufacturing Overhead


Fixed Selling Costss


Unit of measurement Cost under Absorption Costing

Direct Materials Cost /Unit

$ 4.00

Direct Labour Cost /Unit

$ 3.00

Variable Manufacturing Cost /unit

$ 2.00

Fixed Manufacturing Overhead/unit

$ 200,000/ 200,000 units $ 1.00

$ 10.00

Unit of measurement Cost under Variable Costing:

Direct Materials Cost per Unit

$ 4.00

Direct Labour Cost Per Unit

$ 3.00

Variable Manufacturing Cost Per unit

$ 2.00

Entire Cost Per Unit

$ 9.00


In the above paragraphs, an effort has been made to set across an elaborate thought about the accounting constructs of Variable Costing & A ; Full or Absorption Costing. Besides, discoursing facets, advantages and disadvantages of the same, I have besides used a numerical illustration to develop a better thought about the same. However, this assignment is capable to restrictions in respect to knowledge, clip and resources.


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