BPP revision kit – Q5 5.10 on Absorbtion costing

Although it won’t automatically be the case, it is actually the other way round. Absorption costing tends to allocate too few overheads to low volume products.

Here is a very simple example to explain what I mean:

Suppose we make 100 units of A and 1,000 units of B.

Using absorption costing (it is on a per unit bases) would absorb the same amount per unit. Therefore in total B would be given 10 times as much overheads as A.

However, it could be that the overheads all related to setting up the machines for production and that they only need to set up the machines once for each product (regardless of how many they produce). Therefore using ABC an equal amount of overheads (in total) should be given to each product.

As a result using absorption costing is giving much lower overheads in total than if we used ABC.

(Again, this is only a very simple example to try and illustrate the point, and it will not necessarily always be the case, but for that sort of reason absorption will tend to end up giving lower overheads to low volume products than ABC.)

I will answer you, but in future you must start a new thread when it is a new topic.

Below the table it says that the cost of M1 is $20 per sq m.

So since product P4 costs $15 per unit for M1 material it must mean that they are using 15/20 = 0.75 sq m’s per unit

Similarly for P6 they must be using 10/20 = 0.5 sq m’s per unit.