Question

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

	Year 1			Year 2
Sales (@ $62 per unit)	$	1,178,000		$	1,798,000
Cost of goods sold (@ $36 per unit)		684,000			1,044,000
Gross margin		494,000			754,000
Selling and administrative expenses*		309,000			339,000
Net operating income	$	\185,000\		$	415,000

* $3 per unit variable; $252,000 fixed each year.

The company’s $36 unit product cost is computed as follows:

Direct materials	$	6
Direct labor		8
Variable manufacturing overhead		3
Fixed manufacturing overhead ($456,000 ÷ 24,000 units)		19
Absorption costing unit product cost	$	36

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:

	Year 1	Year 2
Units produced	24,000	24,000
Units sold	19,000	29,000

Required:

1. Using variable costing, what is the unit product cost for both years?

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

Answer

Units sold in Year 1 = 19,000 Units (1,178,000 / 62 per unit)

Units sold in Year 2 = 29,000 Units (1,798,000 / 62 per unit)

According to absorption costing unit cost statement, Fixed Manufacturing overhead is same in both year that means Company manufactured same no. of Units in both years i.e. 24,000 Units.

Closing Inventory = Opening Inventory + Manufactured – Sold

Year 1 Closing Inventory = 0 + 24,000 – 19,000

Year 1Closing Inventory = 5,000 Units

Year 2 Closing Inventory = 5,000 + 24,000 – 29,000

Year 1Closing Inventory = 0 Units

Unit (Variable Costing)
Direct Material		6
Direct Labor		8
Variable Manufacturing Overhead		3
Per unit Cost		17
Income Statement
	Year 1				Year 2
	Detail		Net		Detail		Net
Sales (@ 62 per unit)			1,178,000				1,798,000
Less: Cost of Goods Sold
Opening Inventory	-				85,000
Add: Cost of goods Manufactured	408,000 (24,000 * $17)				408,000 (24,000 * $17)
Less: Closing Inventory	(85,000) (5,000 * $17)		323,000		-		493,000
Gross Contribution Margin			855,000				1,305,000
Less: Variable Selling and Adm. Expenses			57,000 (19,000 * $3)				87,000 (29,000 * $3)
Contribution Margin			798,000				1,218,000
Less: Fixed Cost
Fixed Manufacturing Cost	456,000				456,000
Fixed Selling and Adm. Expenses	252,000		708,000		252,000		708,000
Net Operating Income			90,000				510,000

Reconciliation of Profit
	Year 1	Year 2
Profit as per variable costing	90,000	510,000
Add: Fixed Manufacturing Cost in Closing Inventory	95000 (5,000 * $19* per unit)	0
Less: Fixed Manufacturing Cost in Opening Inventory		(95,000) (5,000 Units * $19* per unit)
	185,000	415,000

*$19 = Fixed Manufacturing Overhead per unit