Compare the uses of both variable and activity based costing as managerial decision making tools in business providing both examples and applications. Be specific on how service products must have good cost measures to access both profit accuracy and proc

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Compare the uses of both variable and activity based costing as managerial decision making tools in business providing both examples and applications. Be specific on how service products must have good cost measures to access both profit accuracy and process adjustments to remain competitive.

Review of subject

Both variable and activity based costing are valuable management tools in business. In this paper, we will discuss how variable and activity based costing used in an organization and explain how these two methods differ. Variable costing is method of determining unit product cost and it is used internally for planning and control purposes only. Whereas, activity based costing (ABC) is a costing method based on activities that is designed to provide managers with cost information for strategic and other decisions that potentially affect capacity. We will also be looking to find the answer how service products must have good cost measures to access both profit accuracy and process adjustments to remain competitive.

Discussion

Variable and activity based costing are managerial decision making tools. Variable costing identifies contribution margins of individual products, helps managers make decisions on what products to develop and what product to improve while ABC identifies profitability of individual products and from individual customers, helps managers make decisions on what products or customers’ relationship to develop and what products or customers’ relationship to improve. Managers can apply TOC to make improvement for both variable and activity based costing approaches. In terms of cost measurement, profit accuracy, pricing decisions, products’ variable costs are based on volumes that are relevant. In addition, flexibility of managers makes pricing and other critical decisions for variable costing approach. In contrast, for ABC approach, costs assigned to products, customers and other cost objects are only potentially relevant. Fully allocates all costs (including costs of idle capacity and organization-sustaining costs) to products, customers and other cost objects. This overstates costs and understates margins and causes mistakes in pricing and other critical decisions. It is really interesting that variable costing method is easy to make CVP analysis from income statement because variable and fixed costs are clearly identified but not easy to make CVP analysis from income statement to ABC method because variable and fixed costs are mixed. That is also one of the reasons why ABC much more complexity, much more costly and time consuming than variable costing method. Compared with absorption costing, variable costing is less popular whereas ABC much less popular. Both variable costing and ABC are none conformity to GAAPs.

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Under variable costing, variable product costs are assigned to the units produced and expensed when the units are sold and fixed product costs are treated as period costs and expensed when incurred. Under variable costing revenues are first reduced by all variable costs to arrive at an intermediate figure called contribution margin and then reduced by all fixed costs to arrive at a final net income figure. Variable costing is a more effective tool for short-run decision making such as whether to make or buy a component, and pricing – especially when variable selling and administrative costs are included since ...

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