Variable and Absorption Costing - Lesson 3 - YouTube

Alright.

Now, if we were to go through and actually do the income statements for these.

. . Let's make up some numbers.

Let's pretend again production's 100,000 units sales are 80,000.

Let's pretend my SGNA . Now remember SGNA is treated the same under each because you

expense that but let's say SGNA was $70,000 fixed and $1.00 variable.

Alright.

So, let's come up and we'll do our income statements for both and see what the difference

is.

Alright, so I sold 80,000 units.

Let's say that my sales price was $10 a unit.

So my sales price over here is 10 bucks a unit.

So I sold $10 at 80,000 units I'm gonna have $800,000 of sales revenue.

How much are my variable costs of goods sold?

Variable costs of goods sold are gonna be, let's see.

This plus this, plus this, plus this.

Two, three, four dollars.

Four times 80, eight times four is 320.

And that's eight times four.

My fixed costs of goods sold we said was 80 times $1.20 which is 96.

That gives me 384.

My variable SGNA, my fixed SGNA.

We said fixed was 70 variable was $1.00 times 80 is 80.

That gives me a profit of 234.

Let's do the same question over here.

I've got sales will be the same, 800.

Remember every number is gonna be the same except these two.

So my variable costs of goods sold are gonna be still 320.

My variable SGNA is gonna be 80.

That gives me 400.

My fixed manufacturing is 120, that's different.

My fixed SGNA is 70.

That gives me 210.

What is 210 minus 234?

Oh!

It's 24 It's the treatment of the $1.20 times the difference of 180.

100 Produced, 80 sold, ending inventory one up by 20.

20 Times a $1.20.

That's what the difference between the two.

That's why it�s important to understand the concepts.

Again, we're just trying to under the basic concepts about how it all ties together.

Now you'll see in your notes I said inventoriable costs.

Why?

Because under absorption what gets absorbed into ending inventory?

Yes, yes, yes, and yes!

Because what is the $24,000 difference?

The $24,000 difference is this.

Is that over here we expensed 96.

Over here we're expensing all 120.

The difference there is your 24.

Cause every other number is exactly the same, but I want you to see that difference.

That is the $24,000 difference.

The other thing is how much is ending inventory?

Well, you've got two� How much here?

And nothing cause we expensed all 120.

So the difference is $1.20.

If you needed to get ending inventory, the difference basically what's happening is ending

inventory would be 520 times 20.

This would be 40 times 20.

So here you're only inventorying the 20,000 at $4 is 80.

Here you're inventorying 520 at 20.

Which is 104, there's your $24,000 difference as well.

So again, you're seeing that's the inventory.

So they'll ask you questions like this.

What ends up in inventory?

They'll also ask you questions about how does it affect the difference?

The difference would be the treatment of just your fixed overhead times the units.

Notice SGNA is expensed as incurred in any case.

70, 70.

80, 80.

Okay, those are the same.

Every number is the same with the exception of how you treat fixed overhead.

Alright, let's read in the notes.

It says: "Variable and absorption costing methods of accounting for fixed manufacturing

overhead differ.

Under absorption fixed manufacturing overhead is expensed whereas under variable fixed manufacturing

is expensed.

Under absorption such amounts are treated as a product cost and inventoried.

The treatment of fixed manufacturing overhead often results in different levels of income

between absorption and variable.

The differences are timing differences which result from recognizing the fixed manufacturing

overhead as an expense.� Here's the tiny difference.

Under direct, I'm sorry, under absorption they get expensed when they're sold.

Under variable or prime or contribution they get expensed as incurred.

So variable we expense it in the period incurred.

Absorption in the period in which the units to which fixed overhead has been applied are

sold.

So in the period when you incur them versus when they're sold.

Then there's that little picture.

It says "direct materials inventoriable costs".

It says, "Yes, yes!"

Direct labor?

"Yes, yes!"

Overhead?

"Yes, yes!"

Variable.

Fixed?

"Yes, no!"

SGNA?

"No, no!"

Right!

If I wanted to add SGNA, "No, no!"

Because those are expensed under either.

Alright.

Now on the next page it says the difference in operating income will equal to the fixed

manufacturing overhead multiplied by the increase or decrease in units.

So the difference in income, the difference in bottom line income is what?

It is treatment of this difference between 180 or 20 times the $1.20.

Because as I showed you earlier the difference was what?

$24,000.

That's the difference.

Now they're used to be an airline company called PSA Airlines many, many years ago.

So, watch this.

I'll put it over here.

PSA.

Huh?!

PSA Airlines.

What does it mean?

If production is greater than sales then profit is greater under absorption.

If production is greater than sales profit is greater under absorption.

Huh?

PSA.

Watch.

How much did I produce?

100 How much did I sell?

80 Is production greater than sales?

PS Yes!

Then profit is greater under absorption by what?

20 Times $1.20, let's see.

I produce so production.

Here, how much is profit?

234 Here, 210.

What's the difference?

20,000 at $1.20, 24,000.

PSA.

Why?

Because here what happened?

I only expensed 96 because 24 got absorbed into ending inventory.

How much is in inventoriable costs?

$4.00 plus $1.20.

How much is inventoriable under direct primer?

Only $4 because the other $1.20 got expensed right here.

So, PSA.

If production is greater than sales.

What if production is less than sales then it switches?

Because then our expense here will be higher because we sold more than we produced.

Because we must have sold some of last years stuff.

So, PSA, if production is greater than sales.

Look in your notes.

It says: "First bullet.

When ending inventory equals beginning inventory both are the same.

When ending inventory is greater then absorption will have higher operating.

When ending is less...

The ending is less means you sold more than you produced.

Then beginning inventory variable costs "will result in higher operating income."

Okay, so again, that's looking at the difference between the two.

In a minute we'll put this to work and we'll actually do some questions.