Responsibility Accounting and Transfer Pricing

(C. Variable Costing & Segmented Reporting)

VARIABLE COSTING AND SEGMENTED REPORTING 3

THEORIES:
Direct costing
1. A basic tenet of direct costing is that period costs should be currently expensed. What is the
rationale behind this procedure?
A. Period costs are uncontrollable and should not be charged to a specific product.
B. Period costs are generally immaterial in amount and the cost of assigning the amounts to
specific products would outweigh the benefits.
C. Allocation of period costs is arbitrary at best and could lead to erroneous decisions by
management.
D. Because period costs will occur whether or not production occurs, it is improper to allocate
these costs to production and defer a current costs of doing business.
17. In a variable costing system, product cost includes
A. direct materials, direct labor, variable overhead
B. direct materials, direct labor, fixed overhead
C. direct labor, variable overhead, fixed overhead
D. direct materials, variable overhead, fixed overhead
2. Which of the following must be known about production process in order to institute a direct
costing system?
A. The variable and fixed components of all costs related to production.
B. The controllable and noncontrollable components of all costs related to production.
C. Standard production rates and times for all elements of production.
D. Contribution margin and breakeven point for all goods in production.
3. Under the direct costing concept, unit product cost would most likely be increased by
A. A decrease in the remaining useful life of factory machinery depreciated on the units-ofproduction method.
B. A decrease in the number of units produced.
C. An increase in the remaining useful life of factory machinery depreciated on the sum-ofthe-years-digits method.
D. An increase in the commission paid to salesmen for each unit sold.
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

manufactured.
B. Profits fluctuate with sales
C. An idle facility variation is calculated
D. Product costs include direct (variable) administrative costs.
5. Which of the following is an argument against the use of direct (variable) costing?
A. Absorption costing overstates the balance sheet value of inventories.
B. Variable factory overhead is a period cost.
C. Fixed factory overhead is difficult to allocate properly.
D. Fixed factory overhead is necessary for the production of a product.
10. Advocates of variable costing for internal reporting purposes do not rely on which of the
following points?
A. The matching concept
B. Price-volume relationships
C. Absorption costing does not include selling and administrative expenses as part of
inventoriable cost
D. Production influences income under absorption costing
13.

Which costing method is not acceptable to the SFAS external reporting?

A. absorption costing
C. full costing
B. variable costing
D. all of these are acceptable

16. Variable costing can be used for

A. external reporting
B. internal reporting
C. either external reporting or internal reporting
D. neither external reporting nor internal reporting
12. Which of the following is not true of variable costing?
A. Profits may increase though sales decrease.
B. Profits fluctuate with sales.
C. The cost of the product consists of all variable production costs.
D. The income statement under variable costing does not include overhead volume
variance.
Contribution margin format income statement

Responsibility Accounting and Transfer Pricing

(C. Variable Costing & Segmented Reporting)

15. When variable costing is used, the income statement is usually prepared using
A. a contribution margin format
C. a functional format
B. an operational format
D. all of these
Absorption costing
8. Absorption costing of inventories, as required by GAAP, has been criticized for encouraging
managers to increase year-end inventories in order to boost reported profits. Which of the
following techniques is the most effective at resolving this problem?
A. Senior management control of inventory levels
B. Adoption of just-in-time (JIT) production system
C. Reward managers based upon the residual income approach
D. Use variable costing to determine income for bonus purposes
11. When absorption costing is used, all of the following costs are considered product costs
except
A. direct labor
C. variable selling and administrative costs
B. variable overhead
D. fixed overhead
21. Unabsorbed fixed overhead costs in an absorption costing system are
A. Fixed factory costs not allocated to units produced.
B. Variable overhead costs not allocated to units produced.
C. Excess variable overhead costs.
D. Costs that should be controlled.

produced exceed units sold.

C. Variable costing net income exceeds absorption costing net income when units
produced equal units sold.
D. Absorption costing net income exceeds variable costing net income when units
produced are greater than units sold.
22. Net earnings determined using full absorption costing can be reconciled to net earnings
determined using direct costing by computing the difference between
A. Inventoried fixed costs in the beginning and ending inventories and any deferred over- or
underapplied fixed factory overhead.
B. Inventoried discretionary costs in the beginning and ending inventories.
C. Gross margin (absorption costing method) and contribution margin (direct costing
method).
D. Sales as recorded under the direct costing method and sales as recorded under the
absorption costing method.
23. Net profit under absorption costing may differ from net profit determined under direct costing.
How is this difference calculated?
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.
C. Change in the quantity of all units in inventory times the relevant variable cost per unit.
D. Change in the quantity of all units produced times the relevant variable cost per unit.

Variable costing vs. Absorption costing

6. What is the primary difference between variable and absorption costing?
A. inclusion of fixed selling expenses in product costs
B. inclusion of variable factory overhead in period costs
C. inclusion of variable selling expenses in product costs
D. inclusion of fixed factory overhead in product costs

Sensitivity analysis
20. The level of production affects income under which of the following methods?
A. absorption costing
C. variable costing
B. both absorption and variable costing
D. neither absorption nor variable costing

7. Which of the following statements is true?

A. Absorption costing net income exceeds variable costing net income when units
produced and sold are equal.
B. Variable costing net income exceeds absorption costing net income when units

19. Variable costing net income is

A. higher than absorption net income when more units are sold than produced
B. lower than absorption net income when more units are produced than sold
C. the same as absorption net income when all units produced are sold

18. Variable-costing income will usually exceed absorption costing income when
A. sales exceed production
C. production exceeds sales
B. production and sales are equal
D. none of these

Responsibility Accounting and Transfer Pricing

(C. Variable Costing & Segmented Reporting)

D. all of the above

9. A manufacturing company prepares income statements using both absorption and variable
costing methods. At the end of a period actual sales revenues, total gross profit, and total
contribution margin approximated budgeted figures, whereas net income was substantially
greater than the budgeted amount. There were no beginning or ending inventories. There most
likely explanation of the net income increase is that, compared to budget, actual
A. Manufacturing fixed costs had increased.
B. Selling and administrative fixed expenses had decreased.
C. Sales prices and variable costs had increased proportionately.
D. Sales prices had declined proportionately less than variable costs.
14. When variable costing is used, fixed manufacturing overhead is recognized as an expense
when the
A. cost is incurred
C. product is sold
B. product is completed
D. product is inventoried
Segment reporting
24. A segment is any part of an organization about which a manager seeks
A. cost data
C. quantitative data
B. revenue data
D. any of the above
26. Which of the following could be considered a segment?
A. division
C. product line
B. sales territory
D. all of these
25. The guideline(s) used in assigning costs to a segment include(s) whether
A. costs are fixed
C. costs are directly traceable
B. costs are variable
D. all of the above
27. Segment margin is equal to
A. sales less variable costs
B. sales less variable costs and direct fixed costs
C. sales less variable costs and indirect fixed costs
D. sales less cost of goods sold
29. Revenue less variable costs and direct fixed costs equals

A. contribution margin
B. segment margin

C. income before taxes

D. income after taxes

30. Indicate which of the following costs would be avoided if a segment is eliminated.
1. variable manufacturing costs
2. direct fixed costs
3. common fixed costs
4. variable selling costs
5. direct fixed selling costs
6. common fixed selling costs
A. 2, 3, 5, 6
C. 2, 3, 4, 5
B. 1, 2, 4, 5
D. 1, 4, 5, 6
28. Which of the following costs would continue to be incurred even if a segment is eliminated?
A. direct fixed expenses
B. common fixed costs
C. variable cost of goods sold
D. variable selling and administrative expenses
Cost allocation policy
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
they use.
B. To remind managers of the need to cover indirect costs.
C. To encourage managers to use more services.
D. To determine the true costs of operating departments.
33. The cost allocation policy most likely to encourage use of a service is based on
A. budgeted total costs of the service department
B. actual total costs of the service department
C. budgeted variable costs for the service department
D. actual variable costs for the service department
32. The term dual rates refers to
A. allocating costs to several operating departments
B. allocating fixed costs based on capacity requirements and variable costs based on use
C. allocating both actual costs and budgeted costs

Responsibility Accounting and Transfer Pricing

(C. Variable Costing & Segmented Reporting)

D. using the budgeted rate to allocate some costs, the actual rate to allocate others
34. The WORST method of allocating service department costs is to allocate
A. total actual costs based on actual use of the service
B. total budgeted costs based on long-term expected use of the service
C. total budgeted cost based on actual use of the service
D. none of the above, because all the above are equally undesirable
PROBLEMS:
Variable costing
Ending inventory
i
. The following information pertains to Sharapova Corporation:
Beginning inventory
Ending inventory
Direct labor per unit
Direct materials per unit
Variable overhead per unit
Fixed overhead per unit
Variable selling costs per unit
Fixed selling costs per unit
What is the value of ending inventory using the variable costing method?
A. P155,000
C. P100,000
B. P125,000
D. P195,000

0 units
5,000 units
P10
8
2
5
6
8

Absorption costing
Gross margin
ii
.A company manufactures a single product for its customers by contracting in advance of
production. Therefore, the company only produces units that will be sold by the end of each
period. During the last period, the following sales were made and costs incurred:
Sales
P40,000
Direct materials
9,050
Direct labor
6,000
Rent (9/10 factory, 1/10 office)
3,000
Depreciation on factory equipment
2,000

Supervision (2/3 factory, 1/3 office)

1,500
Salespeoples salaries
1,300
Insurance (2/3 factory, 1/3 office)
1,200
Office supplies
750
Advertising
700
Depreciation on office equipment
500
Interest on loan
300
Based on the above data, the gross margin percentage for the last period (rounded to nearest
percent) was
A. 41%
C. 46%
B. 44%
D. 49%
Variable costing vs. Absorption costing
Unit costs
iii
. During May, Roy Co. produced 10,000 units of Product X. Costs incurred by Roy during May
were as follows
Direct materials
P10,000
Direct labor
20,000
Variable manufacturing overhead
5,000
Variable selling and general
3,000
Fixed manufacturing overhead
9,000
Fixed selling and general
4,000
Total
P51,000
What are the unit costs under absorption and variable costing methods, respectively?
A. P5.10; P3.80
C. P4.40; P3.50
B. P3.80 P5.10
D. P3.50: P4.40
Difference in income
iv
.Consider the following:
Sales price, per unit
P18 per unit
Standard absorption cost rate
P12 per unit
Standard variable cost rate
P8 per unit
Variable selling expense rate
P2 per unit
Fixed selling and administrative expenses
P40,000
Fixed manufacturing overhead
P60,000
Last period, 13,000 units were produced. In the current period, 15,000 units were produced.
In each period, 13,000 units were sold. What is the difference in reported income under

Responsibility Accounting and Transfer Pricing

(C. Variable Costing & Segmented Reporting)

absorption and variable costing for the current period?

A. The variable-costing income exceeded absorption-costing income by P4,000.
B. The absorption-costing income exceeded variable-costing income by P8,000.
C. The variable-costing income exceeded absorption-costing income by P6,000.
D. Net income will not be different between the two methods.
v

.The Blue Company has failed to reach its planned activity level during its first two years of
operation. The following table shows the relationship between units produced, sales, and
normal activity for these years and the projected relationship for Year 3. All prices and costs
have remained the same for the last two years and are expected to do so in Year 3. Income
has been positive in both Year 1 and Year 2.
Units Produced
Sales
Planned Activity
Year 1
90,000
90,000
100,000
Year 2
95,000
95,000
100,000
Year 3
90,000
90,000
100,000
Because Blue Company uses an absorption costing system, one would predict gross margin for
Year 3 to be
A. Greater than Year 1.
C. Equal to Year 1.
B. Greater than Year 2.
D. Equal to Year 2.
Reconciliation
Income under absorption costing
vi
.A company had income of P50,000 using direct costing for a given period. Beginning and ending
inventories for that period were 13,000 units and 18,000 units, respectively. Ignoring income
taxes, if the fixed overhead application rate were P2.00 per unit, what would the income have
been using absorption costing?
A. P40,000
B. P50,000
C. P60,000
D. Cannot be determined from the information given.
Income under variable costing
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.
Ignoring income taxes, if the fixed overhead application rate were P2.50 per unit, what
would the income have been using variable costing?

A. P 77,500
B. P 60,000
Unit contribution margin
viii
.The following information was extracted from
records of Soulmate Co.
Total fixed costs incurred
Total variable costs incurred
Total period costs incurred
Total variable period costs incurred
Units produced
Units sold
Unit sales Price
Based on variable costing, if Soulmate Co.
income before taxes would have been
A. P 9.50 higher
B. P 8.50 higher
ix

C. P 52,500
D. P 20,000

the first year of absorption-based accounting

P100,000
50,000
70,000
30,000
20,000
12,000
P
12
had sold 12,001 units instead of 12,000, its
C. P11.00 higher
D. P 8.33 higher

.At its present level of operations, a small manufacturing firm has total variable costs equal to
75% of sales and total fixed costs equal to 15% of sales. Based on variable costing, if sales
change by P1.00, income will change by
A. P 0.25
C. P 0.75
B. P 0.12
D. P 0.10

Segmented Income Statement

Effect of dropping a department
x
.Zambales Mining Co. mines three products. Gold Ore sells for P1,000,000 per ton, variable
costs are P600,000 per ton, and fixed mining costs are P5,000,000. The segment margin
for 2005 was P(1,000,000). The management of Zambales Mining was considering
dropping the mining of Gold Ore. Only one-half of the fixed expenses are direct and would
be eliminated if the segment was dropped. If Gold Ore were dropped, net income for
Zambales Mining would
A. Increase by P1,000,000
C. Decrease by P1,000,000

Responsibility Accounting and Transfer Pricing

(C. Variable Costing & Segmented Reporting)

B. Increase by P1,500,00

D. Decrease by P1,500,000

Fixed
Income (or loss)

xi

.Aging Company plans to discontinue a segment with a P32,000 segment margin. Common
expenses allocated to the segment amounted to P45,000, of which P20,000 cannot be
eliminated if the segment were closed. The effect of closing down the segment on Aging
Companys before tax profit would be
A. P12,000 decrease
C. P 7,000 decrease
B. P12,000 increase
D. P 7,000 increase

Use this data to respond to questions 16 through 17.

Omid Publishing Company has three divisions: A, B, and C. The revenues of these divisions are
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,
5,200, and 6,200 respectively. The divisions' long-term controllable fixed costs amount to P3,800,
4,900, and 5,700 in the order given. The company's uncontrollable costs amount to P7,150, and
income tax is at 20% of operating income.
xii

.Long-term controllable margin for division A amounts to

A. P4,470
C. P12,470
B. P8,270
D. P16,470

160,000
P360,000
(P60,000)

160,000
P 460,000
P 90,000

160,000
P 560,000
P 240,000

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
coincide with the budget.
Over- and underapplied fixed manufacturing costs are deferred until year-end. Annual sales have
the following seasonal pattern:
Portion of Annual Sales
First quarter
10%
Second quarter
20%
Third quarter
30%
Fourth quarter
40%
100%

xiii

.Short-term controllable margin for division B amounts to

A. P9,580
C. P19,680
B. P14,480
D. P23,580

Comprehensive
Questions 10 through 13 are based on the following annual flexible budget which has been
prepared for use in making decisions relating to Product X.
Budgeted units
100,000
150,000
200,000
Sales Volume
P800,000
P1,200,000
P1,600,000
Manufacturing costs:
Variable
P300,000
P 450,000
P 600,000
Fixed
200,000
200,000
200,000
P500,000
P 650,000
P 800,000
Selling expenses:
Variable
P200,000
P 300,000
P 400,000

xiv

.The amount of fixed factory costs applied to product during the first six months under absorption
costing would be
A. Overapplied by P20,000.
C. Underapplied by P40,000.
B. Equal to the fixed costs incurred.
D. Underapplied by P80,000

xv

.Reported net income (or loss) for the first six months under absorption costing would be
A. P160,000
C. P 80,000
B. P 40,000
D. P (40,000)

xvi

.Reported net income (or loss) for the firs six months under direct costing would be
A. P144,000.
C. P 72,000
B. P0
D. P(36,000)

xvii

.Assuming that 90,000 units of Product X were sold during the first six months and that this is to

Responsibility Accounting and Transfer Pricing

(C. Variable Costing & Segmented Reporting)

be used as a basis, the revised budget estimate for the total number of units to be sold during
this year would be
A. 360,000.
C. 240,000

B. 200,000.

D. 300,000

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