June 1, 2014
University of Phoenix
When it comes to the subject of it would be better to use the absorption method because this method incorporates only the overhead that is allocated to the 80,800 units sold. “Absorption costing is a system of product costing which assigns materials and labour, and overhead costs to units of product manufactured.” (Absorption costing, 2006) The variable method counts fixed overhead as a period expense, meaning that the fixed overhead for this period is calculated on the basis of the 95,000 units produced, if the absorption method is used. The variable method only calculates fixed overhead on the basis of the 80,800 units that were sold. This provides management with a more accurate picture of the profitability of the fishing lures. Thus, the variable costing method is optimal.
The importance of accurate information cant be overstressed. "The subject of costs may not be a very interesting one, but it is one which should be of great interest to business men because it relates to information which is essential to the successful conduct of a business. This is a subject that is at present receiving careful attention on the part of many trade associations ad a number of them have achieved marked success in bettering the accounting methods of their members and thereby improving and strengthening their industries in general." (Belt, 1916) The ability to provide accurate information to management about product costs is the main benefit of the absorption method. The variable method is beneficial because it provides an output (net income) that is closer to the cash flow of the business. This is useful in particular for businesses that might be short on cash flow. Further, the variable costing method provides management with a clearer picture of the effect that fixed costs have on the total profitability of the company.