Benefits / Merits Or Advantages Of Variable Costing
The main advantages of variable costing can be highlighted as follows:
1. Simplicity
Variable costing system is simple and easy method of cost accumulation than absorption costing approach.
2. Assists CPV Analysis
It provides essential data and information for cost volume profit (CPV) analysis.
3. Cost Separation
It clearly separates manufacturing costs into fixed costs and variable costs which simplifies production activities.
4. Relation With Standard Costing And Budgetary Control
Cost controlling techniques such as budgetary control and standard costing are related with variable costing.
5. Easy Profit Determination
It is very easy to determine profit under variable costing. Profit is determined on the basis of sales and it is not affected by inventory changes.
6. Planning And Controlling
Variable costing helps the management in cost control and profit planning.
3. Understate Of Cost
Drawbacks / Limitations Or Disadvantages Of Variable Costing
The main disadvantages of variable costing system can be highlighted as follows:
1. Ignores Accounting Principles
This method of cost accumulation ignores generally accepted accounting principles (GAAP).
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2. Difficult To Separate Costs
It is very difficult to separate manufacturing overhead into variable costs and fixed costs.
This method understates the product cost by excluding fixed costs. So, fair cost of production cannot be determined.
4. Unsuitable
Variable costing is useful for internal reporting only and not suitable for external reporting.
Pros And Cons Of Variable Costing In Short
Pros:
- It is useful for cost volume profit analysis because it provides data about fixed cost, contribution margin etc.
- It is very helpful for management to make pricing decisions
- Profit can be determined easily in this method
- It simplifies production activities
- It provides cost data and information which is helpful for management control
Cons:
- It does not follow generally accepted accounting principles (GAAP)
- It is not suitable for making long-term pricing policy
- It becomes to separate manufacturing costs into fixed and variable costs
- Accurate cost of production cannot be determined because it excludes fixed costs
- It is not useful for external users such as investors, shareholders, public etc. because it is prepared for internal use only.
