Question

Sierra Company incurs the following costs to produce and sell its only product. Variable costs per unit: Direct materials $ 10 Direct labor $ 9 Variable manufacturing overhead $ 3 Variable selling and administrative expenses $ 5 Fixed costs per year: Fixed manufacturing overhead $ 88,500 Fixed selling and administrative expenses $ 305,000 During this year, 29,500 units were produced and 25,500 units were sold. The Finished Goods inventory account at the end of this year shows a balance of $88,000 for the 4,000 unsold units. Required: 1-a. Calculate this year's ending balance in Finished Goods inventory two ways—using variable costing and using absorption costing. 1-b. Does it appear that the company is using variable costing or absorption costing to assign costs to the 4,000 units in its Finished Goods inventory? 2. Assume that the company wishes to prepare this year's financial statements for its stockholders. a. Is Finished Goods inventory of $88,000 the correct amount to include on the balance sheet for external reporting purposes? b. What balance should be reported in the Finished Goods inventory account for external reporting purposes? Brewer 8e Rechecks 2018-08-2

Answer 1

1a.

Cost under variable costing:

	Amount
Direct Material	$10
Direct Labor	$9
V. Manufacturing OH	$3
Cost p.u.	$22

Value of finished goods under variable costing: 4000*$22 = $88,000

Cost under absorption costing:

	Amount
Direct Material	$10
Direct Labor	$9
V. Manufacturing OH	$3
Fixed Manufacturing OH	$3
Cost p.u.	$25

Value of finished goods under absorption costing: 4000*$25 = $100,000

1b. Based on the calculation it appears that the company is using variable costing to assign cost to the finished goods.

2a. GAAP framework prohibits the use of variable costing in financial reporting. $88,000 is incorrect amount to be included on the balance sheet for external reporting purpose.

Therefore, the company shall use absorption costing for reporting in financial statement.

2b. The company shall report $100,000 based on absorption costing in the financial statement for external reporting purpose.