Question

Great Life Co. commence business on October 1 of the current year. The following data summarized the operation at 100% of capacity during October results of Great Life Co.

Production	1,000 units
Sales ($120 per unit)	800 units
Ending Inventory	200 units
Total Cost of goods manufactured	$62,500
Fixed manufacturing costs	$35,000
Total Selling and Administrative expenses	$15,000
Fixed Selling and Administrative expenses	$6,000

Required:

(a)	Prepare an income statement using absorption costing.
(b)	Prepare an income statement using variable costing.
(c)	Explain which one will best suit for the management decision

Answer 1

absorption costing

cost of goods per unit = 62500/1000 = 62.5 per unit

ending inventory is valued at cost thus = 62.5 x 200 = 12500

sales = 800 x 120 = 96000

Variable costing

sales = 800 x 120 = 96000

variable cost of goods manufactued = 62500 - 35000 = 27500

variabel cost of goods per unit = 27500/1000 = 27.5 per unit

ending inventory = 27.5 x 200 = 5500

variable selling expenses = 15000 - 6000 = 9000

Under variable costing the significant difference is that the closing inventory is valued at variable cost only. Thus, the fixed component of manufacturing cost is deferred until the next period.

This may lead the company to find it difficult to charge the ideal price for the product.

Thus, using absorption costing is a better method.

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