Absorption Costing and Alternative Denominator-Level
Capacity Concepts
Earlier chapters, especially Chapters 4, 5, and 8, have highlighted how normal costing
and standard costing report costs in an ongoing timely manner throughout a fiscal year.
The choice of the capacity level used to allocate budgeted fixed manufacturing costs to
products can greatly affect the operating income reported under normal costing or standard
costing and the product-cost information available to managers.
Consider the Stassen Company example again. Recall that the annual fixed manufacturing
costs of the production facility are $1,080,000. Stassen currently uses absorption
costing with standard costs for external reporting purposes, and it calculates its budgeted
fixed manufacturing rate on a per unit basis. We will now examine four different capacity
levels used as the denominator to compute the budgeted fixed manufacturing cost rate:
theoretical capacity, practical capacity, normal capacity utilization, and master-budget
capacity utilization.