6 1 Variable Costing and Segment Reporting Tools

6 -1 Variable Costing and Segment Reporting: Tools for Management – Chapter 6 Introduction to Managerial Accounting, Brewer, Garrison, Noreen Power Points from website - adapted by Cynthia Fortin, CPA, CMA http: //highered. mheducation. com/sites/0078025419/student_view 0/ch apter 12/index. html 6 -1

Variable Costing vs Absorption Costing Variable Costing Absorption Costing Direct Materials Product Costs Direct Labor Variable Manufacturing Overhead Period Costs Product Costs Fixed Manufacturing Overhead Variable Selling and Administrative Expenses Fixed Selling and Administrative Expenses Period Costs 6 -2

Absorption costing DM+DL+ V OH+ FOH = Unit product Cost units produced Variable costing DM+DL+ V OH units produced = Unit product Cost 6 -3

Unit Cost Computations Harvey Company produces a single product with the following information available: 6 -4

Unit Cost Computations Unit product cost is determined as follows: 6 -5

Income Statements Assume the following additional information 20, 000 units were sold during the year at a price of $30 each. There is no beginning inventory. 6 -6

Variable Costing Contribution Format Income Statement Contribution margin = Sales – Variable expenses. 6 -7

Absorption Costing Income Statement Gross margin is not Contribution margin Fixed manufacturing overhead deferred in inventory is 5, 000 units × $6 = $30, 000. 6 -8

Comparing the Two Methods 5000*$10 5000*$6 6 -9

Income Statement Format Net Income Variable Costing Absorption Costing Contribution margin Gross margin F Mfg O/H not Portion F Mfg O/H included in ending inventory units. Included in period expense. 6 -10

Summary of Key Insights 6 -11

6 -12

Decentralization and Segment Reporting An Individual Store Quick Mart Segment part of an organization about which management seeks cost, revenue, or profit data. A Sales Territory A Service Center 6 -13

Segmented Income Statement Contribution format Separates Variable From Fixed expenses Traceable fixed costs should be separated from common fixed costs to enable the calculation of a segment margin. 6 -14

Identifying Traceable Fixed Costs Traceable fixed costs Disappear if the segment itself disappeared. No computer division means. . . division manager. 6 -15

Common fixed costs overall operation would not disappear if any particular segment were eliminated. No computer division but. . . We still had the CEO Dazong Wang, former CEO of one of China’s largest automakers 6 -16

Heating a Carrefour store is common to all departments 6 -17

First class business landing fee traceable to flight not classes economy 6 -18

Segment Margin = Contribution margin - traceable fixed costs of a segment best gauge of the longrun profitability of a segment. 6 -19

Traceable and Common Costs Fixed Costs Traceable Don’t allocate common costs to segments. Common 6 -20

Levels of Segmented Statements Webber, Inc. , has two divisions. 6 -21

Levels of Segmented Statements Our approach to segment reporting uses the contribution format. Cost of goods sold consists of variable mfg costs. Fixed and variable costs are listed in separate sections. 6 -22

Levels of Segmented Statements 6 -23

Levels of Segmented Statements Common costs should not be allocated to the divisions. These costs would remain even if one of the divisions were eliminated. 6 -24

Omission of Costs assigned to a segment should include all costs attributable to that segment from the company’s entire value chain Business Functions Making Up The Value Chain R&D Product Design Customer Manufacturing Marketing Distribution Service 6 -25

Inappropriate Methods of Allocating Costs Among Segments Failure to trace costs directly Segment 1 Segment 2 Inappropriate allocation base Segment 3 Segment 4 6 -26

Common Costs should not be arbitrarily allocated to segments 1. May make a profitable business segment appear to be unprofitable. 2. Allocating common fixed costs forces managers to be held accountable for Segment costs they cannot control. 2 3 4 6 -27

Companywide Income Statements Both U. S. GAAP and IFRS require absorption costing for external reports. 6 -28

Variable versus Absorption Costing Fixed manufacturing costs must be assigned to products to properly match revenues and costs. Fixed manufacturing costs are capacity costs and will be incurred even if nothing is produced. Variable Costing 6 -29

Segmented Financial Information Both U. S. GAAP and IFRS require publically traded companies to include segmented financial data in their annual reports. 6 -30

But Companies must report segmented results to shareholders using the same methods that are used for internal segmented reports. 6 -31

This requirement motivates managers to avoid using the contribution approach for internal reporting purposes. 6 -32

because if they did they would be required to: a. Share this sensitive data with the public. b. Reconcile these reports with applicable rules for consolidated reporting purposes. 6 -33