Define absorption costing versus variable costing.

Define absorption costing versus variable costing.

• A. Absorption costing assigns fixed and variable manufacturing costs to units; variable costing assigns only variable manufacturing costs, with fixed overhead treated as period expense.
• B. Absorption costing assigns only variable costs; Variable costing includes fixed overhead in unit cost.
• C. Absorption costing excludes overhead; Variable costing includes all overhead.
• D. Absorption costing is only for service industries.

Answer: (A)

Absorption costing assigns all manufacturing costs to the product: direct materials, direct labor, variable manufacturing overhead, and fixed manufacturing overhead. The cost of a unit includes a share of fixed overhead, and that fixed overhead remains in inventory until the product is sold, becoming part of COGS when it’s priced into sale. Variable costing, on the other hand, assigns only the variable manufacturing costs to the product—direct materials, direct labor, and variable overhead. Fixed manufacturing overhead is treated as a period expense and is charged to the income statement in the period incurred, not allocated to units. This distinction affects how inventory and profits are reported, especially when production exceeds or lags behind sales. Under absorption costing, producing more than you sell can push fixed overhead into ending inventory and inflate current period profit; producing less can lower profit as more fixed overhead is expensed via COGS. Variable costing avoids that tie to inventory levels since fixed overhead is expensed regardless of production. So the correct idea is that absorption costing includes both fixed and variable manufacturing costs in unit cost, while variable costing includes only variable costs in unit cost and treats fixed overhead as a period expense. The other descriptions misstate fixed overhead’s treatment or the scope of costs allocated.

Absorption costing assigns all manufacturing costs to the product: direct materials, direct labor, variable manufacturing overhead, and fixed manufacturing overhead. The cost of a unit includes a share of fixed overhead, and that fixed overhead remains in inventory until the product is sold, becoming part of COGS when it’s priced into sale.

Variable costing, on the other hand, assigns only the variable manufacturing costs to the product—direct materials, direct labor, and variable overhead. Fixed manufacturing overhead is treated as a period expense and is charged to the income statement in the period incurred, not allocated to units.

This distinction affects how inventory and profits are reported, especially when production exceeds or lags behind sales. Under absorption costing, producing more than you sell can push fixed overhead into ending inventory and inflate current period profit; producing less can lower profit as more fixed overhead is expensed via COGS. Variable costing avoids that tie to inventory levels since fixed overhead is expensed regardless of production.

So the correct idea is that absorption costing includes both fixed and variable manufacturing costs in unit cost, while variable costing includes only variable costs in unit cost and treats fixed overhead as a period expense. The other descriptions misstate fixed overhead’s treatment or the scope of costs allocated.