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Applications of Variable Costing for Managerial Accounting Mcom Delhi University

by vinay karwasra


Applications of Variable Costing for Managerial Accounting Mcom Delhi University 

Applications of Variable Costing for Managerial Accounting Mcom Delhi University:- we will provide complete details of Applications of Variable Costing for Managerial Accounting Mcom Delhi University in this article.

Applications of Variable Costing for Managerial Accounting Mcom Delhi University 

Variable costing is a managerial accounting cost concept. Under this method, manufacturing overhead is incurred in the period that a product is produced. This addresses the issue of absorption costing that allows income to rise as production rises. Under an absorption cost method, management can push forward costs to the next period when products are sold. This artificially inflates profits in the period of production by incurring less cost than would be incurred under a variable costing system. Variable costing is generally not used for external reporting purposes. Under the Tax Reform Act of 1986, income statements must use absorption costing to comply with GAAP.

Variable costing is a costing method that includes only variable manufacturing costs—direct materials, direct labor, and variable manufacturing overhead—in unit product costs.

Applications of Variable Costing for Managerial Accounting Mcom Delhi University:-Advantages and disadvantages of variable costing

Companies need absorption costing to prepare statements to satisfy external parties and variable costing for better management. Both the costing methods have benefits and limitations. Following are the main advantages and disadvantages of variable costing system:

Applications of Variable Costing for Managerial Accounting Mcom Delhi University :-Advantages

  1. Variable costing provides a better understanding of the effect of fixed costs on the net profits because total fixed cost for the period is shown on the income statement.
  2. Various methods of controlling costs such as standard costing system and flexible budgets have close relation with the variable costing system. Understanding variable costing system makes the use of those methods easy.
  3. Companies using variable costing system prepare income statement in contribution margin format that provides necessary information for cost volume profit (CVP) analysis. This data cannot be directly obtained from a traditional income statement prepared under absorption costing system.
  4. The net operating income figure produced by variable costing is usually close to the flow of cash. It is useful for businesses with a problem of cash flows.
  5. Under absorption costing system, income of different periods changes with the change of inventory levels. Sometime income and sales move in opposite directions. But it does not happen under variable costing.

Applications of Variable Costing for Managerial Accounting Mcom Delhi University :-Disadvantages

  1. Financial statements prepared under variable costing method do not conform to generally accepted accounting principles (GAAP). The auditors may refuse to accept them.
  2. Tax laws of various countries require the use of absorption costing.
  3. Variable costing does not assign fixed cost to units of products. So the production costs cannot be truly matched with revenues.
  4. Absorption costing is usually the base for evaluating top executive’s efficiency.

Applications of Variable Costing for Managerial Accounting Mcom Delhi University

The variable costing system is widely used for internal management purposes rather than for external reporting. It is more useful for taking managerialdecision making. As such the variable costing system is useful for:

1. Profit Planning
It is a technique of preparing and using an operational plan for the objective of achieving the profit target. It gives focus on the contribution margin which facilitates for understanding the inter-relationship between cost, volume and profit.
Variable costing helps in determining the break-even sales as well as sales level at which the firm will able to attain the target profit. Variable costing also helps in evaluating the impact of changes in volume, variable and fixed costand product mix on profit. The contribution margin makes it comfortable in selecting the most profitable product, territories and customers.
2. Cost Control
The major tool for controlling the costs are standard costing and flexible budget. This costing system segregates the costs into fixed and variable for the purpose of controlling the cost. So, the attention is given to the fixed costwhich is treated as the period cost and deducted from the contribution margin to get profit.
3. Decision Making
The cost associated with the product plays a key role in decision making. Variable costing identifies and classify costs into fixed and variable cost and provide valuable information for making decisions. Fixed costs, generally, create problem in making decision because of difficulties in their allocation. Under variable costing, they are assumed to remain constant and are not considered relevant in decision making. The fixed costs are treated as period costs and contribution margin above the fixed cost is the profit. In a decision involving alternative choices, alternative one with the highest contribution margin is selected. The decision areas where variable costing is particularly useful and relevant are pricing decisions, make or buy decision, product mix decision etc.
4. Pricing Decision

Variable costing helps the management for fixation of price, volume or sales mix as variable costing clearly identifies the reasons of fluctuation in profit is due to fluctuation in sales rather than of production. Moreover, it is also helpful in evaluating the performance of various departments of the firms which generates the revenues. 

Applications of Variable Costing for Managerial Accounting Mcom Delhi University 

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