Kathryn Newman

Managerial Accounting 2430 55

March 3, 2013

1. Absorption costing treats all manufacturing costs as product costs, regardless of

whether they are variable or fixed. Variable costing includes only those
manufacturing costs that vary with output and are treated as product costs. Thus,
absorption costing includes fixed manufacturing overhead costs whereas variable
costing treats fixed manufacturing overhead costs as a period expense like
selling and administrative expenses.
2. Selling and administrative expenses under variable costing is treated as a period
cost and is expensed in its entirety each period.
3. Under absorption costing fixed manufacturing overhead costs are shifted from
one period to another because some fixed manufacturing overhead is capitalized

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in inventories rather than currently expensed on the income statement. If

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inventories increase during a period, under absorption costing some of the fixed

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manufacturing overhead of the current period will be deferred in ending

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inventories.
4. The arguments in favor of treating fixed manufacturing overhead costs as period

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S/B Product costs are that absorption costing does a better job of matching
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costs with revenues than variable costing. They say that since all manufacturing
costs must be assigned to products to properly match the costs of producing
units of product with the revenues from the units when they are sold that there
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should be no need to distinguish between variable and fixed manufacturing

costs.
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5. The arguments in favor of treating fixed manufacturing overhead costs as period

costs are that under variable costing fixed manufacturing costs are not really a
part of the cost of any particular unit of product. Whether a unit is made or not the
total fixed manufacturing costs will remain unchanged, so therefore they should
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not be assigned to the products. These costs should be incurred as period costs
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because they the costs are initially incurred to have the capacity to make the
products in the first place during that particular period. Therefore the costs should
be charged towards that period instead of to products.
6. If the units produced and unit sales are equal, then variable costing and
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absorption costing would show an equal amount of net operating income. This is
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because the net operating income only differs when, in absorption costing,
production does not equal the amount of sales. Because no fixed manufacturing
overhead costs are deferred in inventory or released from inventory due to
increasing or decreasing inventories the net operating income does not differ
from that in variable costing.
7. If the units produced exceed unit sales, I would expect absorption costing to
show the higher net operating income. This is because inventories increase
when production exceeds sales under absorption costing, thus part of the fixed
manufacturing overhead cost of the current period will be deferred in inventory to
the next period.
8. If fixed manufacturing overhead costs are released from inventory under

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 absorption costing, it tells me that inventory levels have decreased. This
decrease in inventory means production was less than sales.
9. Under absorption costing, it is possible to increase net operating income without
increasing sales by increasing the level of production without increasing sales.
This added product will be added to inventory, and the products allocated fixed
manufacturing costs will be carried into the inventory account, which will reduce
the current period’s reported expenses and cause the net operating income to
increase.
10. Lean production reduces or eliminates the difference in reported net operating
income between absorption and variable costing because of the changes in
levels of inventory. Goods are produced only when customers order them in lean
production, thus greatly reducing or eliminating inventories. If there are no
changes in inventories from one period to another then absorption and variable
costing will report the same, or very similar, net operating income.

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11. A segment of an organization is a part or activity of an organization about which

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managers would like cost, revenue, or profit data. Examples include segmenting

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by geographic location, products, or departments. A geographic location example

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would be a larger company with stores in various locations, such as the
northwest compared to the southeast. A segment between products would

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include something like children books compared to adult books. A department
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segment could include departments such as human resources and marketing.
12. The costs that are assigned to a segment under the contribution approach are
traceable fixed costs and common fixed costs.
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13.
a. A. A traceable fixed cost in a segment is a fixed cost that is incurred
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because of the existence of the segment. If the segment had never

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existed, the fixed cost would not have been incurred; and if the segment
were eliminated, the fixed cost would disappear. Examples of traceable
costs include the salary of the Fritos product manager at PepsiCo; if the
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Fritos segment disappeared there would be no need to pay the Fritos

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manager. The maintenance cost for the building in which Boeing 747s are
assembled is a traceable fixed cost of the 747 business segment of
Boeing; if there was not a 747 segment you would not need to pay for the
maintenance cost for the building as the building would not be needed
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without that department. The liability insurance at Disney World is a

traceable fixed cost of the Disney World business segment of the Disney
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Corporation; without the Disney World segment there would be no need to

pay for liability insurance for that segment, as it wouldn’t exist.
b. A common fixed cost is a fixed cost that supports the operations of more
than one segment, but is not traceable in whole or in part to any one
segment. Even if the segment were entirely eliminated there would be no
change in a true common fixed cost. Examples include the salary of the
CEO of General Motors as a common fixed cost of the various divisions of
General Motors; even if a single segment is eliminated General Motors still
needs a CEO to run the company. The cost of heating a Safeway or
Kroger grocery store is a common fixed cost of the store’s various

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 departments – groceries, produce, bakery, meat, etc.; even if the bakery
department is eliminated the store will still need to pay heating for the rest
of the building. The cost of the receptionist’s salary at an office shared by
a number of doctors is a common fixed cost of the doctors; even if a
doctor is fired the receptionist will still be paid to help support the
remaining doctors. If the entire office is closed, then the receptionist’s
salary becomes traceable and would disappear.
14. The segment margin is the best gauge of the long-run profitability of a segment
because it includes only those costs that are caused by the segment. The
contribution margin is most useful involving short-run changes in volume where
fixed costs don’t change, such as pricing special orders that involve temporary
use of existing capacity.
15. Common costs are not allocated to segments under the contribution approach
because this would reduce the value of the segment margin as a measure of

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long-run segment profitability and segment performance. This could lead a

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manager to potentially eliminate a profitable segment. If a segment were

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eliminated in such a way this would reduce the overall profit of the company and

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the common costs allocated to that segment will now be reallocated to the
remaining segments, thus making them appear less profitable. This could

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potentially lead to a manager closing even more profitable segments.
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16. It is possible for a cost that is traceable to become a common cost if the segment
is divided into further segments because the costs that are traceable to a
segment may become common as the segment is divided into smaller segment
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units. For example the insurance for a law firm and its three office branches. The
insurance is traceable to each office, but not to each individual lawyer. Thus, the
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insurance is common to the lawyers within the different office branches.

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