Question

Frigid Motors Inc. assembles and sells snowmobile engines. The company began operations on July 1, 2016, and operated at 100% of capacity during the first month. The following data summarize the results for July:

1	Sales (32,000 units)		$8,000,000.00
2	Production costs (41,000 units):
3	Direct materials	$3,280,000.00
4	Direct labor	2,255,000.00
5	Variable factory overhead	1,025,000.00
6	Fixed factory overhead	615,000.00	7,175,000.00
7	Selling and administrative expenses:
8	Variable selling and administrative expenses	$1,180,000.00
9	Fixed selling and administrative expenses	210,000.00	1,390,000.00

	Required:
A.	Prepare an income statement according to the absorption costing concept.*
B.	Prepare an income statement according to the variable costing concept. A colon (:) will automatically appear if it is required.*
C.	What is the reason for the difference in the amount of income from operations reported in (A) and (B)? * Refer to the lists of Labels and Amount Descriptions for the exact wording of the answer choices for text entries. Be sure to complete the statement heading. Enter all amounts as positive numbers.

Answer 1

Ans. 1	In absorption costing method, the unit product cost is the sum of all manufacturing costs per unit
	whether it is fixed or variable.
	Unit product cost under Absorption Costing:
	Direct materials ($3,280,000 / 41,000)	$80
	Direct labor ($2,255,000 / 41,000)	$55
	Variable Overhead per unit ($1,025,000 / 41,000)	$25
	Fixed overhead per unit   ($615,000 / 41,000)	$15
	Product Cost per unit	$175
	FRIGID MOTORS INC.
	Absorption Costing Income Statement
	PARTICULARS		Amount
	Sales		$8,000,000
	Less: Cost of goods sold
	Opening inventory	$0
	Add: Cost of goods manufactured (41,000*$175)	$7,175,000
	Cost of goods available for sale	$7,175,000
	Less: Ending inventory [(41000-32000)*$175]	-$1,575,000
	Cost of goods sold (total)		$5,600,000
	Gross margin		$2,400,000
	Selling & Administrative expenses:
	Fixed	$210,000
	Variable	$1,180,000
	Total Selling and administrative expenses		$1,390,000
	Net Income		$1,010,000
Ans. B	Unit product cost under Variable Costing:
	Direct materials ($3,280,000 / 41,000)	$80
	Direct labor ($2,255,000 / 41,000)	$55
	Variable Overhead per unit ($1,025,000 / 41,000)	$25
	Total production cost per unit	$160
	FRIGID MOTORS INC.
	Variable costing (Contribution format) Income statement
	Particulars		Amount
	Sales		$8,000,000
	Less: Variable cost of goods sold:
	Opening inventory	$0
	Add: Variable cost of goods manufactured (41,000 * $160)	$6,560,000
	Variable cost of goods available for sale	$6,560,000
	Less: Ending inventory [(41000 - 32000)*$160]	-$1,440,000
	Variable cost of goods sold		$5,120,000
	Gross Contribution Margin		$2,880,000
	Less: Variable Selling and Adm. Exp.		$1,180,000
	Contribution Margin		$1,700,000
	Less: Fixed expenses:
	Fixed manufacturing overhead	$615,000
	Fixed selling and administrative expenses	$210,000	$825,000
	Net operating income   (Loss)		$875,000
Ans. C	Difference in profit   =   Absorption costing net income - Variable costing net income
	$1,010,000 - $875,000
	$135,000
	There is difference of $135,000 in Net income between absorption costing and variable costing.
	The underlying reason for the difference between two methods is fixed manufacturing overhead.
	It can be calculated by the following way:
	Difference =   (Fixed manufacturing overhead / Units manufactured) * No. of units in ending inventory
	$615,000 / 41,000 * 9,000
	$135,000
	*No. of units in ending inventory = Units produced - Units sold