Compare and contrast cost systems
Cost systems vary and are many; they include; historical costing, absorption costing, direct costing, variable costing, marginal costing, standard costing and uniform costing (Maskell, 2011). MEPCO mostly uses absorption cost system and to understand why it does so; the essay will analyze the comparison, similarities, advantages, and disadvantages of absorption costing and variable costing systems. Absorption and variable cost system Since MEPCO is a manufacturing company, it can either use absorption costing or variable costing system. In case of a business downturn, a cost system may be used to analyze where to cut cost for profitability. In many cases, the actual cost normally surpasses budgeted costs but with a cost system a company may match its actual cost against the budgeted costs for the purposes of cost control.
They must be incurred and include expenses such as rent, lease payment on equipment, insurance, payment for permanent employees among others. Absorption cost system. Also referred to as product costing plus the fixed overhead in the cost of the product, absorption cost system takes into account variable product costs and absorbs fixed overhead costs in coming up with the cost of a product (DRURY, 2013). Product cost involves direct labor costs, material cost, and overhead cost. Absorption costing is a sum up of direct labor costs, direct material costs, variable overhead costs, and fixed overhead costs. It also identifies the roles played by fixed costs in production, shows less fluctuation and contrasts marginal costing. Disadvantages of Absorption cost system It is disadvantageous for the manager since it requires him to use his intuition during decision making.
This is because it only emphasizes total costs and ignores cost volume profit. Since it also uses total costs only it is not much used for controlling and planning. Variable cost system. Disadvantages of variable cost system Variable costing is not accepted in external financial reports and may be rejected by auditors. With variable costing full constant overhead costs is taken for an accounting period. This means that if MEPCO used this costing system, it would have to earn less profit since the wholesome overhead cost will be deducted from sales made for merchandise. Similarities between Absorption cost system and variable cost system. Absorption and variable cost system are common when it comes to selling and administrative expenses (Kinney, 2008). One of the reasons as to why the company uses the method is because absorption cost system matches very well costs with the revenues.
Here the manufacturing costs are assigned to products and they are matched with the cost of producing a unit product together with the revenues and the units during making sales. Also the company prefers this system because it is generally accepted in the world as a method of that is used to prepare external financial reports and also the income returns. Conclusion In conclusion absorption cost system as seen above is the best option and choice for MEPCO paper Middle East Company. However, I would recommend that the company uses both cost systems so that they may complement the strengths of each other. , Bhimani, A. , Datar, S. M. , Foster, G. , & Horngren, C. (2018 February 22). About MEPCO. Retrieved from http://www. mepco. biz/Website/En/ Dickhaut, J.
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