Absorption Costing
The absorption costing model is a technique in which all kinds of costs are considered. The costs are identified and classified according to their behaviour and functions. Basically the manufacturing costs like direct costs and overhead costs are included. This method is also known as “full absorption costing”. According to this method, it is also taken into account that all the incurred costs must be recovered by selling the product or service which is produced.
Advantages of absorption costing are:
- Recognizing the fixed costs that reused in the production.
- This method is accepted by the Inland Revenue
- Preparation of financial costs is done with the help of this method
- In case where the production remains constant but sales fluctuate, this method will not show much fluctuation in the net profit.
- In this type of costing the fixed costs cannot be changed into variable. It is a cost into the stock value.
Disadvantages of absorption costing:
- As this type of costing emphasize mainly on total cost so it is not very useful for the management in taking decisions, planning and control.
- In this method of costing the profit relationship is ignored as only total cost is considered. it is the manager’s intuition that is used to make decisions.
In this method the adjustments are made to arrive at the profit, adjustments may be pertaining to under or over absorption of overheads. The costs of goods are only charged against profit and in the period in which the goods are sold. There is another type of costing called marginal costing which includes only the variable manufacturing costs while in this type of costing direct materials, labor and the overheads are included. In marginal costing the fixed costs and overheads are treated as period costs.
Written by: Matt
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Tagged as absorption, costing model, decisions, direct materials, inland revenue, intuition, management by objectives, marginal costing, net profit, overhead costs, period costs, Peter Drucker, planning and control, relationship, time management + Categorized as Business, Economy articles, Finance