CHAPTER 9

INVENTORY COSTING
AND
CAPACITY ANALYSIS
INVENTORY RECORD METHOD

Periodic Inventory Systems

Updates the ending inventory balance when
a physical inventory count is conducted

Perpetual Inventory System

Continually updates inventory to account for
additions and subtractions
INVENTORY VALUATION METHOD

First in First Out (FIFO) Last In First Out (LIFO)

The earlier cost The last cost
purchased/produced are the purchased/produced are the
first one removed. first one removed.

Weighted Average Method

Divide the cost of goods available for sale UNIT COST
with the number of units available for
sale
INVENTORY COSTING CHOICES (UNIT COST)

 Absorption Costing – product costs are capitalized; period

costs are expensed
 Variable Costing – variable product and period costs are
capitalized; fixed product and period costs are expensed
 Throughput Costing – only Direct Materials are capitalized;
all other costs are expensed
COSTING COMPARISON
 Variable costing is a method of inventory costing in
which only variable manufacturing costs are
included as inventoriable costs
 Absorption costing is a method of inventory costing
in which all variable manufacturing costs and all
fixed manufacturing costs are included as
inventoriable costs
DIFFERENCES IN INCOME
 Operating Income will differ
between Absorption and Variable
Costing
 The amount of the difference
represents the amount of Fixed
Product Costs capitalized as
Inventory under Absorption
costing, and expensed as a
period costs under Variable
Costing
Variable Costing
Revenues
Variable Cost of Goods Sold
Beginning Inventory
Add: Variable Product Costs
Cost of Goods Available for Sale
Less: Ending Inventory
Variable Cost of Goods Sold
Variable Period Costs
Contribution Margin
Fixed Product Costs
Fixed Period Costs
Operating Income
Absorption Costing
Revenues
Cost of Goods Sold
Beginning Inventory
Add: Variable Product Costs
Fixed Product Costs
Cost of Goods Available for Sale
Less: Ending Inventory
Cost of Goods Sold
Gross Margin
Variable Period Costs
Fixed Period Costs
Operating Income
COSTING COMPARISON

 Stassen Company produces telescopes for astronomers

 It uses standard costing:
 Direct costs are traced using standard prices and standard
inputs for actual outputs produced
 Indirect (overhead) manufacturing costs are allocated using
standard indirect rates x standard input for actual outputs
produced
COSTING COMPARISON
 The operating information, actual price and cost data for 2014 are
as follows:
COSTING COMPARISON
 Cost per unit produced in 2014 under two inventory costing
method:

$1,080,000
8,000
INCOME STATEMENT COMPARISON

$270,000

$135 x 2,000 = $270,000

INCOME STATEMENT COMPARISON

Comparison in unit sold for 2014

Production:
8.000 units
INCOME STATEMENT COMPARISON
FOR MULTIPLE YEARS

Product-Volume
Variance: None
 INCOME STATEMENT COMPARISON
FOR MULTIPLE YEARS

Budgeted
Production:
8.000 units

Product-Volume
Variances are
Variance:
written off to CGS
Unfavorable
INCOME STATEMENT COMPARISON
FOR MULTIPLE YEARS
Operating Income Differences

EI BI
Operating Income Differences
INCOME STATEMENT COMPARISON
FOR MULTIPLE YEARS

BI CGM CGS EI

CGM CGS
Operating Income Differences
PERFORMANCE ISSUES AND ABSORPTION COSTING:
COSTS MANIPULATION

 Managers may seek to manipulate income by producing too many

units
 Production beyond demand will increase the amount of inventory
on hand
 This will result in more fixed costs being capitalized as inventory
 That will leave a smaller amount of fixed costs to be expensed
during the period
 Profit increases, and potentially so does a manager’s bonus
 Variances are
written off to CGS
INVENTORIES AND COSTING METHODS

 One way to prevent the unnecessary buildup of inventory for

bonus purposes is to base manager’s bonuses on profit calculated
using Variable Costing
 Drawback: complicated system of producing two inventory figures
– one for external reporting and the other for bonus calculations
MANAGEMENT COUNTERMEASURES FOR FIXED COST
MANIPULATION SCHEMES

 Careful budgeting and inventory planning

 Incorporate an internal carrying charge for inventory
 Change (lengthen) the period used to evaluate
performance
 Include nonfinancial as well as financial variables in the
measures to evaluate performance
EXTREME VARIABLE COSTING:
THROUGHPUT COSTING
 Throughput costing (super-variable costing) is a method of inventory costing
in which only direct material costs are included as inventory costs. All other
product costs are treated as operating expenses
Production Cost/unit
2014 2015

?
$335
$200
$110

Class Assignment: Exercise 9-16

THROUGHPUT COSTING: INCOME STATEMENT
EXERCISE 9-16