Question

During Heaton Company’s first two years of operations, it reported absorption costing net operating income as follows:

Sales (@ $62 per unit)	$	1,178,000		$	1,798,000
Cost of goods sold (@ $35 per unit)		665,000			1,015,000
Gross margin		513,000			783,000
Selling and administrative expenses*		312,000			342,000
Net operating income	$	201,000		$	441,000

* $3 per unit variable; $255,000 fixed each year.

The company’s $35 unit product cost is computed as follows:

Direct materials	$	6
Direct labor		12
Variable manufacturing overhead		1
Fixed manufacturing overhead ($384,000 ÷ 24,000 units)		16
Absorption costing unit product cost	$	35

variable costing per unit

19

Forty percent of fixed manufacturing overhead consists of wages and salaries; the remainder consists of depreciation charges on production equipment and buildings. Production and cost data for the first two years of operations are:

	year1	Year 2
Units produced	24,000	24,000
Units sold	19,000	29,000

2. What is the variable costing net operating income in Year 1 and in Year 2?

3. Reconcile the absorption costing and the variable costing net operating income figures for each year.

Answer 1

2)					Year-1
	Varibale Costing Income Statement				19,000 Units Sold
	Particulars	Per Unit			Amount ($)
	Sales	62.00	[19,000 x 62.00]		1178000
	Less: Cost of Goods Sold :-
	Opening Inventory		-	-
	Add: Variable cost of goods sold	19.00	[24,000 x 19.00]	456,000
	- Direct Materials         = 6.00
	- Direct Labour            = 12.00
	- Variable Overhead   =   1.00
	Variable selling & admin exp.	3.00	[19,000 x 3.00]	57,000
	Less: Closing Inventory		[5,000 x 19.00]	95,000	418000
	Contribution Margin				760000
	Less: Fixed costs
	Manufacturing overhead				(384000)
	Selling & administrative exp.				(255000)
	Net operating income				121000
					Year-1
	Absorption Costing Income Statement				19,000 Units Sold
	Particulars	Per Unit			Amount ($)
	Sales	62.00	[19,000 x 62.00]		1178000
	Less: Cost of Goods Sold :-
	Opening Inventory		-	-
	Add: Variable cost of goods sold	19.00	[24,000 x 19.00]	456,000
	- Direct Materials         = 6.00
	- Direct Labour            = 12.00
	- Variable Overhead      = 1.00
	Fixed cost of goods sold:	16.00	[24,000 x 16.00]	384,000
	- Manufacturing OH        = 16.00
	Less: Closing Inventory		[5,000 x 35.00]	(175,000)	665000
	Gross Profit				513000
	Less: Selling & Admin Exp.
	Variable selling & admin exp.	0.150	[19,000 x 3.00]		57000
	Fixed Selling & administrative exp.				255000
	Net operating income				201000
2)					Year-2
	Varibale Costing Income Statement				29,000 Units Sold
	Particulars	Per Unit			Amount ($)
	Sales	62.00	[29,000 x 62.00]		1798000
	Less: Cost of Goods Sold :-
	Opening Inventory		[5,000 x 19.00]	95,000
	Add: Variable cost of goods sold	19.00	[24,000 x 19.00]	456,000
	- Direct Materials         = 6.00
	- Direct Labour            = 12.00
	- Variable Overhead      = 1.00
	Variable selling & admin exp.	3.00	29,000 x 3.00]	87,000
	Less: Closing Inventory		-	-	638000
	Contribution Margin				1160000
	Less: Fixed costs
	Manufacturing overhead				(384000)
	Selling & administrative exp.				(255000)
	Net operating income				521000
					Year-2
	Absorption Costing Income Statement				29,000 Units Sold
	Particulars	Per Unit			Amount ($)
	Sales	62.00	[29,000 x 62.00]		1798000
	Less: Cost of Goods Sold :-
	Opening Inventory		[5,000 x 35.00]	175,000
	Add: Variable cost of goods sold	19.00	[24,000 x 19.00]	456,000
	- Direct Materials         = 6.00
	- Direct Labour            = 12.00
	- Variable Overhead      = 1.00
	Fixed cost of goods sold:	16.00	[24,000 x 16.00]	384,000
	- Manufacturing OH        = 16.00
	Less: Closing Inventory		-	-	1015000
	Gross Profit				783000
	Less: Selling & Admin Exp.
	Variable selling & admin exp.	0.150	[29,000 x 3.00]		87000
	Fixed Selling & administrative exp.				255000
	Net operating income				441000
3)					Year-1
	Reconciliation Statement				Amount ($)
	Net profit as per Absorption Costing				201000
	Add: Opening Stock over Absorbed				-
	[-]
	Less: Closing Stock over absorbed				80000
	[175000-95000]
	Net profit as per Marginal Costing				121000
3)					Year-2
	Reconciliation Statement				Amount ($)
	Net profit as per Absorption Costing				441000
	Add: Opening Stock over Absorbed				80000
	[175000-95000]
	Less: Closing Stock over absorbed				-
	[-]
	Net profit as per Marginal Costing				521000