PRICING AND PROFITABILITY AC VC

Product DM DM
Pricing Policies costs DL DL
OH – fixed and var. OH – variable
1. Cost-plus Pricing
Period S&A exp – fixed S&A exp –
cost + desired profit = price costs and var fixed and var
OH - fixed
Markup is the difference between its selling
price and its cost and is usually expressed as
a percentage of cost. It is applied to the cost Main difference of absorption and variable costing
base to determine the selling price. method is the treatment of fixed overhead variable.
Fixed OH is charged to product costs in absorption
2. Target Costing costing – expensed in the period sold. On the other
hand, fixed OH is charged to period costs in variable
price – desired profit = target cost costing – expensed in the period incurred.

How much is the market willing to pay? From Effect on net income:
Production = Sales AC income = VC income
there, it is the job of the design engineer to
Production > Sales AC income > VC income
develop the product such that cost and profit
Production < Sales AC income < VC income
can be covered by that price.

Product costs

- costs that are inventoried until the units are

sold
- initially recorded within the inventory asset
(balance sheet); once the related goods are
sold, these capitalized costs are charged to
expense in the cost of goods sold account
(income statement)

Period costs

- non-manufacturing costs that are expensed

within an accounting period
- deducted every period as expenses on the
income statement

Absorption Costing (or full costing)

• includes all the costs associated with the

manufacturing of a product
• costing required for external financial
reporting
• fixed overhear is treated as a product cost and

Variable Costing (or direct costing)

• assigns only unit-level variable manufacturing

costs to the product
• fixed overhead is treated as a period cost and
is not inventoried with the other period costs

Absorption Variable

Sales xx Sales xx
Less: COGS (xx) Less: Variable costs (xx)
Gross profit xx Contribution margin xx
Less: Opex (xx) Less: Fixed costs (xx)
Net income xx Net income (xx)