Provide General Discussion On Predetermined Variable 610891

Provide General Discussion On Predetermined Variable Overhead Criterio

Provide general discussion on predetermined variable overhead criterion and its possible dependence on the activity for which it is used. Provide a variable costing income statement in which variable overhead is divided among different activities, and that each activity has its own predetermined variable overhead criterion. The following is a partially completed lower section of a departmental expense allocation for Cozy Bookstore. It reports the total amounts of direct and indirect expenses allocated to its five (5) departments. Allocate the expenses of the two service departments (advertising and purchasing) to the three operating departments and provide the complete income statement.

Advertising and purchasing department expenses are allocated to operating departments on the basis of dollar sales and purchase orders, respectively. Information about the allocation bases for the three operating departments follows. Phoenix Company’s 2019 master budget included the following fixed budget report. It is based on an expected production and sales volume of 15,000 units. Classify all items listed in the fixed budget as variable or fixed.

Also determine their amounts per unit or their amounts for the year, as appropriate. Identify the unit variable costs in the format of variable costing, according to your findings in part a. Organize a template for variable costing income statements in which the sales volume is a variable. Test your template for 15,000 units sales volume to see if you get the same income as stated above. Find the breakeven point and provide the income statement at break-even. Provide income statements at sales volumes of 12,000, 14,000, 16,000, and 18,000.

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Introduction

The concept of predetermined variable overhead criteria is fundamental in managerial costing and budgeting processes. It involves setting standard rates for variable overheads based on expected activity levels, which facilitates planning, cost control, and performance evaluation. This discussion explores the nature of these criteria, their dependence on specific activities, and how they influence costing and decision-making within organizations such as Cozy Bookstore and Phoenix Company.

Predetermined Variable Overhead Criterion: Definition and Dependence on Activity

A predetermined variable overhead criterion refers to the standard rate established in advance for assigning variable overhead costs to products or departments based on anticipated activity levels. These criteria are essential for budgeting because they enable firms to estimate costs accurately before the period begins, aiding in setting prices, controlling expenses, and evaluating performance.

The dependence of the predetermined variable overhead rate on activities is a core aspect of activity-based costing (ABC). Different activities incur variable costs at varying rates, reflecting their resource consumption patterns. For example, in Cozy Bookstore, the costs associated with advertising and purchasing are allocated based on sales and purchase orders, respectively. These activities may have different cost behaviors: some might be more sensitive to sales volume, while others respond to procurement activity.

The activity dependence implies that the predetermined overhead rate must be carefully chosen based on the most relevant activity driver. For instance, if advertising costs are primarily driven by sales volume, allocating based on dollar sales provides a more accurate reflection of the costs incurred. Conversely, for purchasing, using purchase orders as a basis aligns costs with procurement frequency rather than sales volume, providing a granular control mechanism.

Variable Costing Income Statement and Activity-Based Allocation

In variable costing, only variable production costs are included in product costs, while fixed costs are expensed in the period incurred. To incorporate activity-based criteria, expenses from service departments such as advertising and purchasing are allocated among operating departments according to their respective activity bases.

A typical variable costing income statement organized by activity can illustrate how each activity contributes to total variable costs and profits. In the case of Cozy Bookstore, expenses allocated from advertising and purchasing departments are apportioned based on dollar sales and purchase orders, respectively. This approach ensures that costs are linked directly to the drivers most relevant to each activity, leading to more precise cost control and decision analysis.

For example, if the advertising expense is $10,000 and the total sales across all departments amount to $100,000, then the advertising cost allocated to a department with $30,000 sales would be:

\[

\text{Advertising expense allocated} = \frac{\$30,000}{\$100,000} \times \$10,000 = \$3,000

\]

Similar calculations apply to purchasing costs, but based on the number of purchase orders.

Cost Allocation in Cozy Bookstore

The partial departmental expense allocation can be expanded by calculating the expenses of the service departments and distributing them to operating departments. This allocation impacts the contribution margin, operating income, and overall profitability metrics, providing managers with actionable insights.

For example, if Advertising expenses are allocated based on sales, and Purchasing expenses based on purchase orders, then a department with higher sales or purchase activity bears a proportionally higher share of those costs. This can motivate departments to optimize their sales strategies or procurement activities accordingly.

Analysis of Phoenix Company’s Fixed Budget Items

Classifying budget items as variable or fixed provides insights into their behavior and assists in accurate forecasting. Variable costs, such as direct materials and direct labor, fluctuate with production volume, whereas fixed costs, like rent or salaries, remain constant regardless of activity levels.

Assuming Phoenix Company’s budget includes items such as direct materials, direct labor, factory overhead, advertising, and administrative expenses; the analysis might classify direct materials and labor as variable since they typically vary with production volume. Fixed costs could include factory rent and salaried administrative personnel.

Per-unit costs are derived by dividing total costs by expected units (15,000 units). For example, if direct materials cost $150,000 for the period:

\[

\text{Unit cost} = \frac{\$150,000}{15,000} = \$10 \text{ per unit}

\]

This per-unit analysis aids in understanding how costs behave with volume changes and in constructing flexible budgets and cost-volume-profit analyses.

Variable Costing and Break-Even Analysis

A template for variable costing income statements organizes revenues, variable costs, and contribution margin, followed by fixed costs and net income. Testing this template at the expected sales volume (15,000 units) confirms whether it replicates the actual budgeted income.

The break-even point calculation involves solving for sales volume where total contribution margin equals total fixed costs, often expressed as:

\[

\text{Break-even units} = \frac{\text{Total fixed costs}}{\text{Unit contribution margin}}

\]

At the break-even point, net income is zero, providing a critical metric for financial planning and risk assessment.

Further, constructing income statements at sales volumes of 12,000, 14,000, 16,000, and 18,000 units reveals the economies of scale and the impact of volume fluctuations on profitability, assisting management in strategic decision-making.

Conclusion

The predetermined variable overhead criteria are integral to accurate cost allocation, budgeting, and performance evaluation. Their dependence on specific activities enhances cost accuracy, especially when combined with activity-based costing. Utilizing these principles facilitates the development of detailed variable costing income statements, accurate break-even analysis, and better-informed managerial decisions. Both Cozy Bookstore and Phoenix Company exemplify how activity-based cost management and flexible budget analysis can improve operational efficiency and profitability.

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