DIFFERENCE BETWEEN DIRECT COST AND ABSORBING COST
Direct Costing is defined as "an operating system that values inventory and cost of sales at its variable manufacturing cost." And as for Variable Cost, it defines it as that which increases directly with the production volume.
Absorbing Costing is defined as the incorporation of all manufacturing costs, both variable and fixed, to the cost of the product.
Direct Costing
It is a cost accounting method that is based on the analysis of the behavior of production and operating costs, to classify them into fixed costs and variable costs, in order to provide enough relevant information to the management of the company for its strategic planning process.
Absorbing Costing
This method includes in the cost of the product all the costs of the productive function regardless of its fixed or variable behavior.
ADVANTAGES AND DISADVANTAGES OF SYSTEMS
ADVANTAGES OF THE DIRECT COST SYSTEM
- There are no fluctuations in Unit Cost It can be useful in some decision-making, choice of alternatives, short-term profit planning, it is easier to obtain the Balance Point.
ADVANTAGES OF THE ABSORBENT COSTING SYSTEM
- The valuation of inventories of production in process and of finished production is superior to that of direct costing. The setting of prices is determined based on production costs and fixed and variable operating costs. Absorbing or traditional costing is universal or is usable in all cases.It is the system accepted by the accounting profession and the treasury.
DISADVANTAGES OF THE ABSORBENT COSTING SYSTEM
- Obtaining the Equilibrium Point is complex Accounting records, integrating fixed and variable costs, makes it difficult to establish the optimal cost-volume-profit combination, making it difficult to provide reliable budgets for fixed costs and variable costs.
DISADVANTAGES OF THE DIRECT COST SYSTEM
- Seasonal or seasonal business results are misleading. Inventory assessment is less than traditional Misleads into believing unit costs are lower, and this is false.
EXAMPLE: (See PDF)
Comparative analysis between direct and absorbent costing
- Sales volume = the production volume, in the cost period, the profits in both methods are the same.When the production volume> the sales volume in the cost period, the utility the absorbent cost will be greaterWhen the volume of sales is greater than the production volume in the period of costs, the utility in the absorbent costing will be less. The profits with the direct cost will depend on the volume of sales, not the volume of production. The profits with the absorbent costing method may be modified if the production volume is changed.
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The following series of videos is suggested as a complement, in which the absorbent and direct costing methods are discussed, in a theoretical and practical way. (4 videos, 1 hour and 15 minutes)
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