All right, let's do some questions to practice absorption versus direct costing.
All right, question number eight.
It says K Co, the K Co's fixed manufacturing overhead costs totaled $100,000 and variable
selling costs totaled $80,000.
Under direct costing, that's direct, prime, variable, contribution costing, how should
these costs be classified?
All right, period costs, product costs.
Now, let's see, come over here.
Under either, these are what?
Product.
This is the difference, here it's a product, here it's a period cause you don't put it
in there.
What about SG&A?
As I said earlier, SG&A zero zero, cause that's a period cost no matter what, so under either
method if they ask period costs, same, if they ask any of these others, same, the difference
is this one, fixed overhead.
So, how much is expensed here?
All of it.
How much is expensed here?
None of it, based on well, based on just what you sell.
So, they're saying, how much is a period cost?
Your $100,000 of fixed manufacturing overhead, yes, that is expensed as a period cost.
Variable, variable, fixed, whatever, SG&A is always expensed under either, so the answer
would be 180 period, zero product.
If they asked you about absorption, then you would have a period of what?
80, and a product of 100.
Well, depending on, again, if you didn't sell anything.
Okay, but the point is, under absorption, you do put in, your share gets absorbed in
ending inventory.
Under direct, variable, prime, contribution, boom.
It's expensed.
All right, let's do the next question, number nine.
Using the variable costing method, which of the following costs are assigned to inventory?
Variable SG&A, we know no, no, no, under both.
Variable factory overhead, we know yes, yes, yes, under both.
So this question actually would be the same answer under variable or under absorption
because variable SG&A, fixed SG&A, no.
Variable factory overhead under both, yes.
If I wanted to add it, make it harder, if I had another column for fixed overhead, for
absorption, yes, for variable, no.
Let's do number 10.
Last sentence, first, it says if Key Low uses absorption costing rather than variable or
direct costing, the result would be a higher pre-tax income of how much?
Hmmm.
At the end of Key Low's first year of operations, 1,000 units of inventory remained on hand.
That means that's ending.
Variable and fixed manufacturing costs per unit were 90 and 20 respectively.
Remember, what does the word respectively mean?
It means the first word goes with the first number, second word goes with the second number,
respectively.
So, the first word is variable, first amount is 90.
Second word is fixed, second amount is 20.
So, let's come over here and set it up.
What they're saying is, and let me just throw these numbers in here, they're saying for
example, that we have 90 90 20 20, mmm kay, that's what we've got.
But, yes, yes, yes, yes, yes, yes, yes, no.
Cause this got expensed.
So, what would we do?
Well, the difference between these is gonna be what?
The treatment of this, and if we have $20, and we have 1,000 units in ending, the difference
in income should be $20,000, because over here, what's happening?
Here, we would have expensed all of it, here we would not, the difference is the treatment
of the $20 times 1,000 in ending, so we had 1,000 in ending, which I did earlier, 1,000
in ending times $20 would give you the $20,000 difference between the two methods.
Okay, so to summarize for those that have been drifting, this is absorption, this is
GAAP, this what you're used to.
Sales minus cost of goods sold, gross profit, SG&A, operating, SG&A's always a period cost,
cost of goods sold, that is a product cost, product, period.
Over here, this is called direct, variable, prime, contribution margin, we're separating
variable from fixed, sales minus variable is contribution margin minus fixed.
The difference between the two is the treatment of the fixed manufacturing.
Here, we absorb whatever we didn't sell into ending inventory, here, we expense it cause
it's a-- This is why this is internal reporting only, this is external, this is GAAP, this
is not.
What's the difference in profit?
It's gonna be the treatment of what?
The treatment of this fixed overhead.
How did we treat it?
Here, same, same, same, the difference is the treatment of that fixed times the change
in ending.
PSA, if production is greater than sales, profit's greater in absorption.
If it's the opposite, profit's greater under variable.
So, those three bullets I showed you earlier, those are a really good summary of how they
all compare and contrast.