An example of a manufacturing firm income statement application with variable costing, highlighting product and period costs

An example of a manufacturing firm income statement application with variable costing, highlighting product and period costs

Under variable costing, only variable manufacturing costs are product costs and therefore inventoriable. Fixed manufacturing overhead is treated as a period cost and expensed in full in the period incurred, even if some units remain unsold. The usual presentation is a contribution-margin income statement, rather than a gross-profit format.

Typical statement template

[Company name]
Variable-Costing (Contribution-Margin) Income Statement
For the [month/year] ended [date]

Item	Amount	Product or period cost?
Sales revenue	XXX	Revenue—not a cost
Less: Variable cost of goods sold	(XXX)	Product cost expensed when units are sold
Less: Variable selling expenses	(XXX)	Period cost
Less: Variable administrative expenses	(XXX)	Period cost
Contribution margin	XXX	Sales less all variable costs
Less: Fixed manufacturing overhead	(XXX)	Period cost
Less: Fixed selling expenses	(XXX)	Period cost
Less: Fixed administrative expenses	(XXX)	Period cost
Operating income	XXX
Less: Finance costs / interest expense	(XXX)	Period/ financing cost
Profit before tax	XXX
Less: Income-tax expense	(XXX)	Tax expense—not product cost
Net income	XXX

The defining calculation is:

Contribution margin=Sales revenue−Total variable costs

“Total variable costs” includes both variable manufacturing costs attached to goods sold and variable non-manufacturing costs, such as sales commissions. Fixed costs are then deducted to calculate operating income.

Variable product cost

A separate schedule can show the variable manufacturing cost per unit used to value work-in-progress, finished-goods inventory, and variable COGS:

Variable product-cost schedule	Amount per unit	Classification
Direct materials	XXX	Product cost
Direct labour that varies with output	XXX	Product cost
Variable manufacturing overhead	XXX	Product cost
Variable manufacturing cost per unit	XXX	Total product cost per unit

 

Product versus period costs

Cost item	Classification under variable costing	Income-statement treatment
Direct materials	Product cost, provided they vary with production	Included in inventory, then variable COGS when sold
Direct labour paid per unit or production hour	Product cost, to the extent it varies with output	Included in inventory, then variable COGS when sold
Variable factory power, indirect materials, production supplies, piece-rate support labour	Product cost	Variable manufacturing overhead in inventory, then variable COGS
Fixed factory rent	Period cost	Expensed as fixed manufacturing overhead in the current period
Factory depreciation	Period cost	Expensed as fixed manufacturing overhead in the current period
Salary of a fixed-salaried factory manager	Period cost	Expensed as fixed manufacturing overhead in the current period
Sales commissions	Period cost	Included among variable selling expenses
Delivery/ distribution cost that varies by order or unit	Period cost	Included among variable selling expenses
Advertising	Period cost	Normally fixed selling expense, unless it varies with sales activity
Sales staff fixed salaries	Period cost	Fixed selling expense
Head-office salaries, office rent, legal and IT costs	Period cost	Administrative expense
Interest expense	Not a product cost	Finance cost for the current period

The important distinction is not simply whether a cost relates to manufacturing. Under variable costing, a manufacturing cost must also vary with output to be inventoried. Therefore, fixed factory overhead is a period cost—unlike under absorption costing—while selling and administrative costs remain period costs whether they are variable or fixed.

** reference:  a collection of management accounting notes