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Responsibility Accounting and Transfer Pricing

(C. Variable Costing & Segmented Reporting)

C. VARIABLE COSTING AND SEGMENTED REPORTING manufactured.


B. Profits fluctuate with sales
THEORIES: C. An idle facility variation is calculated
Direct costing D. Product costs include direct (variable) administrative costs.
1. A basic tenet of direct costing is that period costs should be currently expensed. What is the
rationale behind this procedure? 5. Which of the following is an argument against the use of direct (variable) costing?
A. Period costs are uncontrollable and should not be charged to a specific product. A. Absorption costing overstates the balance sheet value of inventories.
B. Period costs are generally immaterial in amount and the cost of assigning the amounts to B. Variable factory overhead is a period cost.
specific products would outweigh the benefits. C. Fixed factory overhead is difficult to allocate properly.
C. Allocation of period costs is arbitrary at best and could lead to erroneous decisions by D. Fixed factory overhead is necessary for the production of a product.
management.
D. Because period costs will occur whether or not production occurs, it is improper to allocate 10. Advocates of variable costing for internal reporting purposes do not rely on which of the
these costs to production and defer a current costs of doing business. following points?
A. The matching concept
17. In a variable costing system, product cost includes B. Price-volume relationships
A. direct materials, direct labor, variable overhead C. Absorption costing does not include selling and administrative expenses as part of
B. direct materials, direct labor, fixed overhead inventoriable cost
C. direct labor, variable overhead, fixed overhead D. Production influences income under absorption costing
D. direct materials, variable overhead, fixed overhead
13. Which costing method is not acceptable to the SFAS external reporting?
2. Which of the following must be known about production process in order to institute a direct A. absorption costing C. full costing
costing system? B. variable costing D. all of these are acceptable
A. The variable and fixed components of all costs related to production.
B. The controllable and noncontrollable components of all costs related to production. 16. Variable costing can be used for
C. Standard production rates and times for all elements of production. A. external reporting
D. Contribution margin and breakeven point for all goods in production. B. internal reporting
C. either external reporting or internal reporting
3. Under the direct costing concept, unit product cost would most likely be increased by D. neither external reporting nor internal reporting
A. A decrease in the remaining useful life of factory machinery depreciated on the units-of-
production method. 12. Which of the following is not true of variable costing?
B. A decrease in the number of units produced. A. Profits may increase though sales decrease.
C. An increase in the remaining useful life of factory machinery depreciated on the sum-of- B. Profits fluctuate with sales.
the-years-digits method. C. The cost of the product consists of all variable production costs.
D. An increase in the commission paid to salesmen for each unit sold. D. The income statement under variable costing does not include overhead volume
variance.
4. Which of the following statements is true for a firm that uses variable (direct) costing?
A. The cost of a unit of product changes because of changes in the number of units Contribution margin format income statement

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Responsibility Accounting and Transfer Pricing
(C. Variable Costing & Segmented Reporting)

15. When variable costing is used, the income statement is usually prepared using produced equal units sold.
A. a contribution margin format C. a functional format D. Absorption costing net income exceeds variable costing net income when units
B. an operational format D. all of these produced are greater than units sold.

Absorption costing 22. Net earnings determined using full absorption costing can be reconciled to net earnings
8. Absorption costing of inventories, as required by GAAP, has been criticized for encouraging determined using direct costing by computing the difference between
managers to increase year-end inventories in order to boost reported profits. Which of the A. Inventoried fixed costs in the beginning and ending inventories and any deferred over- or
following techniques is the most effective at resolving this problem? underapplied fixed factory overhead.
A. Senior management control of inventory levels B. Inventoried discretionary costs in the beginning and ending inventories.
B. Adoption of just-in-time (JIT) production system C. Gross margin (absorption costing method) and contribution margin (direct costing
C. Reward managers based upon the residual income approach method).
D. Use variable costing to determine income for bonus purposes D. Sales as recorded under the direct costing method and sales as recorded under the
absorption costing method.
11. When absorption costing is used, all of the following costs are considered product costs
except 23. Net profit under absorption costing may differ from net profit determined under direct costing.
A. direct labor C. variable selling and administrative costs How is this difference calculated?
B. variable overhead D. fixed overhead A. Change in the quantity of all units in inventory times the relevant fixed costs per unit.
B. Change in the quantity of all units produced times the relevant fixed costs per unit.
21. Unabsorbed fixed overhead costs in an absorption costing system are C. Change in the quantity of all units in inventory times the relevant variable cost per unit.
A. Fixed factory costs not allocated to units produced. D. Change in the quantity of all units produced times the relevant variable cost per unit.
B. Variable overhead costs not allocated to units produced.
C. Excess variable overhead costs. Sensitivity analysis
D. Costs that should be controlled. 20. The level of production affects income under which of the following methods?
A. absorption costing C. variable costing
Variable costing vs. Absorption costing B. both absorption and variable costing D. neither absorption nor variable costing
6. What is the primary difference between variable and absorption costing?
A. inclusion of fixed selling expenses in product costs 18. Variable-costing income will usually exceed absorption costing income when
B. inclusion of variable factory overhead in period costs A. sales exceed production C. production exceeds sales
C. inclusion of variable selling expenses in product costs B. production and sales are equal D. none of these
D. inclusion of fixed factory overhead in product costs
19. Variable costing net income is
7. Which of the following statements is true? A. higher than absorption net income when more units are sold than produced
A. Absorption costing net income exceeds variable costing net income when units B. lower than absorption net income when more units are produced than sold
produced and sold are equal. C. the same as absorption net income when all units produced are sold
B. Variable costing net income exceeds absorption costing net income when units D. all of the above
produced exceed units sold.
C. Variable costing net income exceeds absorption costing net income when units 9. A manufacturing company prepares income statements using both absorption and variable

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Responsibility Accounting and Transfer Pricing
(C. Variable Costing & Segmented Reporting)

costing methods. At the end of a period actual sales revenues, total gross profit, and total 30. Indicate which of the following costs would be avoided if a segment is eliminated.
contribution margin approximated budgeted figures, whereas net income was substantially 1. variable manufacturing costs
greater than the budgeted amount. There were no beginning or ending inventories. There most 2. direct fixed costs
likely explanation of the net income increase is that, compared to budget, actual 3. common fixed costs
A. Manufacturing fixed costs had increased. 4. variable selling costs
B. Selling and administrative fixed expenses had decreased. 5. direct fixed selling costs
C. Sales prices and variable costs had increased proportionately. 6. common fixed selling costs
D. Sales prices had declined proportionately less than variable costs. A. 2, 3, 5, 6 C. 2, 3, 4, 5
B. 1, 2, 4, 5 D. 1, 4, 5, 6
14. When variable costing is used, fixed manufacturing overhead is recognized as an expense
when the 28. Which of the following costs would continue to be incurred even if a segment is eliminated?
A. cost is incurred C. product is sold A. direct fixed expenses
B. product is completed D. product is inventoried B. common fixed costs
C. variable cost of goods sold
Segment reporting D. variable selling and administrative expenses
24. A segment is any part of an organization about which a manager seeks
A. cost data C. quantitative data Cost allocation policy
B. revenue data D. any of the above 31. Which of the following is a good reason for allocating indirect costs to operating departments?
A. The company could lose money if the operating departments do not pay for the services
26. Which of the following could be considered a segment? they use.
A. division C. product line B. To remind managers of the need to cover indirect costs.
B. sales territory D. all of these C. To encourage managers to use more services.
D. To determine the true costs of operating departments.
25. The guideline(s) used in assigning costs to a segment include(s) whether
A. costs are fixed C. costs are directly traceable 33. The cost allocation policy most likely to encourage use of a service is based on
B. costs are variable D. all of the above A. budgeted total costs of the service department
B. actual total costs of the service department
27. Segment margin is equal to C. budgeted variable costs for the service department
A. sales less variable costs D. actual variable costs for the service department
B. sales less variable costs and direct fixed costs
C. sales less variable costs and indirect fixed costs 32. The term dual rates refers to
D. sales less cost of goods sold A. allocating costs to several operating departments
B. allocating fixed costs based on capacity requirements and variable costs based on use
29. Revenue less variable costs and direct fixed costs equals C. allocating both actual costs and budgeted costs
A. contribution margin C. income before taxes D. using the budgeted rate to allocate some costs, the actual rate to allocate others
B. segment margin D. income after taxes
34. The WORST method of allocating service department costs is to allocate

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Responsibility Accounting and Transfer Pricing
(C. Variable Costing & Segmented Reporting)

A. total actual costs based on actual use of the service Interest on loan 300
B. total budgeted costs based on long-term expected use of the service Based on the above data, the gross margin percentage for the last period (rounded to nearest
C. total budgeted cost based on actual use of the service percent) was
D. none of the above, because all the above are equally undesirable A. 41% C. 46%
B. 44% D. 49%
PROBLEMS:
Variable costing Variable costing vs. Absorption costing
Ending inventory Unit costs
i iii
. The following information pertains to Sharapova Corporation: . During May, Roy Co. produced 10,000 units of Product X. Costs incurred by Roy during May
Beginning inventory 0 units were as follows
Ending inventory 5,000 units Direct materials P10,000
Direct labor per unit P10 Direct labor 20,000
Direct materials per unit 8 Variable manufacturing overhead 5,000
Variable overhead per unit 2 Variable selling and general 3,000
Fixed overhead per unit 5 Fixed manufacturing overhead 9,000
Variable selling costs per unit 6 Fixed selling and general 4,000
Fixed selling costs per unit 8 Total P51,000
What is the value of ending inventory using the variable costing method? What are the unit costs under absorption and variable costing methods, respectively?
A. P155,000 C. P100,000 A. P5.10; P3.80 C. P4.40; P3.50
B. P125,000 D. P195,000 B. P3.80 P5.10 D. P3.50: P4.40

Absorption costing Difference in income


iv
Gross margin . Consider the following:
ii
. A company manufactures a single product for its customers by contracting in advance of Sales price, per unit P18 per unit
production. Therefore, the company only produces units that will be sold by the end of each Standard absorption cost rate P12 per unit
period. During the last period, the following sales were made and costs incurred: Standard variable cost rate P8 per unit
Sales P40,000 Variable selling expense rate P2 per unit
Direct materials 9,050 Fixed selling and administrative expenses P40,000
Direct labor 6,000 Fixed manufacturing overhead P60,000
Rent (9/10 factory, 1/10 office) 3,000 Last period, 13,000 units were produced. In the current period, 15,000 units were produced.
Depreciation on factory equipment 2,000 In each period, 13,000 units were sold. What is the difference in reported income under
Supervision (2/3 factory, 1/3 office) 1,500 absorption and variable costing for the current period?
Salespeoples salaries 1,300 A. The variable-costing income exceeded absorption-costing income by P4,000.
Insurance (2/3 factory, 1/3 office) 1,200 B. The absorption-costing income exceeded variable-costing income by P8,000.
Office supplies 750 C. The variable-costing income exceeded absorption-costing income by P6,000.
Advertising 700 D. Net income will not be different between the two methods.
Depreciation on office equipment 500

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Responsibility Accounting and Transfer Pricing
(C. Variable Costing & Segmented Reporting)

.
v
The Blue Company has failed to reach its planned activity level during its first Total fixed costs incurred P100,000
two years of operation. The following table shows the relationship between Total variable costs incurred 50,000
units produced, sales, and normal activity for these years and the projected Total period costs incurred 70,000
relationship for Year 3. All prices and costs have remained the same for the Total variable period costs incurred 30,000
Units produced 20,000
last two years and are expected to do so in Year 3. Income has been positive
Units sold 12,000
in both Year 1 and Year 2. Unit sales Price P 12
Units Produced Sales Planned Activity Based on variable costing, if Soulmate Co. had sold 12,001 units instead of 12,000, its
Year 1 90,000 90,000 100,000 income before taxes would have been
Year 2 95,000 95,000 100,000 A. P 9.50 higher C. P11.00 higher
Year 3 90,000 90,000 100,000 B. P 8.50 higher D. P 8.33 higher
Because Blue Company uses an absorption costing system, one would predict gross margin
for Year 3 to be ix
. At its present level of operations, a small manufacturing firm has total variable costs equal to
A. Greater than Year 1. C. Equal to Year 1. 75% of sales and total fixed costs equal to 15% of sales. Based on variable costing, if sales
B. Greater than Year 2. D. Equal to Year 2. change by P1.00, income will change by
A. P 0.25 C. P 0.75
Reconciliation B. P 0.12 D. P 0.10
Income under absorption costing
vi
. A company had income of P50,000 using direct costing for a given period. Beginning and Segmented Income Statement
ending inventories for that period were 13,000 units and 18,000 units, respectively. Ignoring Effect of dropping a department
income taxes, if the fixed overhead application rate were P2.00 per unit, what would the x
. Zambales Mining Co. mines three products. Gold Ore sells for P1,000,000 per ton, variable
income have been using absorption costing? costs are P600,000 per ton, and fixed mining costs are P5,000,000. The segment margin
A. P40,000 for 2005 was P(1,000,000). The management of Zambales Mining was considering
B. P50,000 dropping the mining of Gold Ore. Only one-half of the fixed expenses are direct and would
C. P60,000 be eliminated if the segment was dropped. If Gold Ore were dropped, net income for
D. Cannot be determined from the information given. Zambales Mining would
A. Increase by P1,000,000 C. Decrease by P1,000,000
Income under variable costing B. Increase by P1,500,00 D. Decrease by P1,500,000
vii
. Luna Company had income of P65,000 using absorption costing for a given period.
Beginning and ending inventories for that period were 13,000 units and 18,000 respectively. xi
. Aging Company plans to discontinue a segment with a P32,000 segment margin. Common
Ignoring income taxes, if the fixed overhead application rate were P2.50 per unit, what expenses allocated to the segment amounted to P45,000, of which P20,000 cannot be
would the income have been using variable costing? eliminated if the segment were closed. The effect of closing down the segment on Aging
A. P 77,500 C. P 52,500 Companys before tax profit would be
B. P 60,000 D. P 20,000 A. P12,000 decrease C. P 7,000 decrease
B. P12,000 increase D. P 7,000 increase
Unit contribution margin
viii
. The following information was extracted from the first year of absorption-based accounting Use this data to respond to questions 16 through 17.
records of Soulmate Co.

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Responsibility Accounting and Transfer Pricing
(C. Variable Costing & Segmented Reporting)

Omid Publishing Company has three divisions: A, B, and C. The revenues of these divisions are coincide with the budget.
P29,000, 48,000, and 63,000 respectively. Variable costs of these divisions amount to 57%, 59%,
and 64% of the given revenues. The divisions' short-term controllable fixed costs are P4,200, Over- and underapplied fixed manufacturing costs are deferred until year-end. Annual sales have
5,200, and 6,200 respectively. The divisions' long-term controllable fixed costs amount to P3,800, the following seasonal pattern:
4,900, and 5,700 in the order given. The company's uncontrollable costs amount to P7,150, and Portion of Annual Sales
income tax is at 20% of operating income. First quarter 10%
Second quarter 20%
xii
. Long-term controllable margin for division A amounts to Third quarter 30%
A. P4,470 C. P12,470 Fourth quarter 40%
B. P8,270 D. P16,470 100%
xiii xiv
. Short-term controllable margin for division B amounts to . The amount of fixed factory costs applied to product during the first six months under
A. P9,580 C. P19,680 absorption costing would be
B. P14,480 D. P23,580 A. Overapplied by P20,000. C. Underapplied by P40,000.
B. Equal to the fixed costs incurred. D. Underapplied by P80,000
Comprehensive
xv
Questions 10 through 13 are based on the following annual flexible budget which . Reported net income (or loss) for the first six months under absorption costing would be
has been prepared for use in making decisions relating to Product X. A. P160,000 C. P 80,000
Budgeted units 100,000 150,000 200,000 B. P 40,000 D. P (40,000)
Sales Volume P800,000 P1,200,000 P1,600,000 xvi
Manufacturing costs: . Reported net income (or loss) for the firs six months under direct costing would be
Variable P300,000 P 450,000 P 600,000 A. P144,000. C. P 72,000
Fixed 200,000 200,000 200,000 B. P0 D. P(36,000)
P500,000 P 650,000 P 800,000 xvii
Selling expenses: . Assuming that 90,000 units of Product X were sold during the first six months and that this is
Variable P200,000 P 300,000 P 400,000 to be used as a basis, the revised budget estimate for the total number of units to be sold
Fixed 160,000 160,000 160,000 during this year would be
P360,000 P 460,000 P 560,000 A. 360,000. C. 240,000
Income (or loss) (P60,000) P 90,000 P 240,000 B. 200,000. D. 300,000

The 200,000-unit budget has been adopted and will be used for allocating fixed manufacturing
costs to units of Product X. At the end of the first six months the following information is available:
Units
Production completed 120,000
Sales 60,000

All fixed costs are budgeted and incurred uniformly throughout the year and all costs incurred

162
i
. Answer: C
Direct materials P 8
Direct labor 10
Variable overhead 2
Total unit cost- variable costing P20
Value of ending inventory (5,000 x P20) P100,000
ii
. Answer: C
Sales P40,000
Cost of goods sold
Direct materials P9,050
Direct labor 6,050
Rent (0.9 x P3,000) 2,700
Depreciation 2,000
Supervision (2/3 x P1,500) 1,000
Insurance (2/3 x P1,200) 800 (21,600)
Gross margin P18,400
Gross margin percentage (P18,400 P40,000) 46%
iii
. Answer: C
Direct materials P10,000
Direct labor 20,000
Variable overhead 5,000
Total variable product cost P35,00
Variable unit cost (P35,000 10,000) P3.50
Add Fixed overhead per unit (P9,000 10,000) 0.90
Absorption unit cost P4.40
iv
. Answer: B
Fixed overhead rate per unit: P12 P8 P4
Difference in income: 2,000 x P4 P8,000
During the current year, the companys production equaled the budgeted. The inventory increased. Therefore,
absorption costing income is higher than the variable costing income.
v
. Answer: C
The production and unit sales during year 3 matched with year 1.
vi
. Answer: C
The income under absorption costing is higher by P10,000 because the amount of fixed overhead that related to unsold
units was deferred and was included as cost of finished goods inventory. The variable costing income statement
immediately wrote the entire fixed overhead that was incurred during the year as period cost.
Fixed overhead deferred as product cost: 5,000 x P2 P10,000
Absorption income (P50,000 + P10,000) P60,000
vii
. Answer: C
Absorption income 65,000
Less Fixed Overhead in decrease in inventory (18,000 15,000) x 2.50 12,500
Income, Variable costing 52,500
viii
. Answer: B
CMR per unit = Selling Price Unit variable cost
P8.50 = P12.00 P3.50
Variable Cost Per unit
Product: (50,000 30,000) / 20,000 = P1.00
Selling & Adm. (variable period costs) 30,000/12,000 2.50
Total variable cost/unit P3.50
* Total variable costs variable period cost
(selling & adm.) = variable product cost.
ix
. Answer: A
1.00 - (1.00 x .75) = P0.25
x
. Answer: A
The only relevant information to compute the effect of dropping the mining of gold ore is the negative segment
margin. If the product line is dropped, the company can avoid the negative margin of P1 million.
xi
. Answer: C
Avoidable common expenses P 25,000
Segment margin lost 32,000
Decrease in profit P( 7,000)
xii
. Answer: A
Revenues P29,000
Variable cost (P29,000 x 0.57) 16,530
Contribution margin 12,470
Less Short-term controllable fixed cost 4,200
Short-term controllable margin 8,270
Long-term controllable fixed cost 3,800
Long-term controllable margin P 4,470
xiii
. Answer: B
Revenues P48,000
Variable cost (P48,000 x 0.59) 28,320
Contribution margin 19,680
Short-term controllable fixed cost 5,200
Short-term controllable margin Div B P14,480
xiv
. Answer: A
Budgeted actual fixed overhead (0.5 x P200,000) P100,000
Applied fixed overhead (120,000 x P1.00) 120,000
Overapplied fixed overhead (favorable volume variance) P 20,000
xv
. Answer: B
Sales (60,000 x P8) P480,000
Cost of goods sold (60,000 x P4) 240,000
Gross profit 240,000
Selling and other expenses (60,000 x 2) + P80,000 200.000
Absorption profit P 40,000
xvi
. Answer: B
Total contribution margin (60,000 x P3) P180,000
Less: Fixed manufacturing OH P100,000
Fixed selling and other expenses 80,000 180,000
Variable costing profit NIL
CM per unit (P1.6M P0.6M P0.4M) 200,000) P3.00
xvii
. Answer: D
The sales pattern indicated that sales for the first semester was 30%. The assumption was that the pattern was still
valid. Therefore the assumed 90,000 units would be 30 percent of expected annual sales.
(90,000 0.3) = 300,000 units

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