Economic Decision Making Using Cost Data

Appendix I

Advantages and Disadvantages of Various Cost Accounting Methods

Cost accounting method	Description	Advantages	Disadvantages
Absorption	Variable and fixed manufacturing overhead are allocated to inventory units based on measures of input (e.g. direct labor hours).	Simple implementation and supported by GAAP.	Stores fixed costs in ending inventory and inaccurate product costs.
Variable	Only variable manufacturing overhead is included in inventory costs. Fixed overhead costs are treated as period expenses.	Does not hide fixed overhead costs in ending inventory.	Not supported by GAAP and ignores externalities.
Activity based	Both variable and fixed overhead costs are allocated to inventory based ...