Question

Company ABC produces a single product. This year the company produced 20,000 units but only sold 15,000 units at the price of $40 each. Variable manufacturing costs (including direct materials, director labor, and variable manufacturing overhead) total $10 per unit. Variable selling and administrative cost is $5 per unit. Fixed manufacturing overhead cost is $100,000 each year. Fixed selling and administrative cost is $100,000 each year. There is no inventory at the beginning of this year. Required -

What is the net operating income this year using the absorption costing method? Please prepare the absorption costing income statement.

What is the net operating income this year using the variable costing method? Please prepare the variable costing income statement.

Answer 1

INCOME STATEMENTS

(1) Absorption costing income statement:

ABC Company

Income Statement (Absorption Costing)

For the Year Ended December 31,20XX

Particulars	Amount ($)	Amount ($)
Sales (15000 units * $40 )		$600,000
Less : Cost of goods sold
Opening inventory	$0
Add cost of goods manufactured [ 25,000 units (a) * $14 (b) ]	$350,000
Cost of goods available for sale	$350,000
Less closing inventory (5,000 * $14 )	$70,000	$280,000
Gross profit		$320,000
Less marketing and admin. expenses:
Variable marketing and admin. expenses (15,000units * $5)	$75,000
Fixed marketing and admin. epenses	$100,000	$175,000
Net operating income		$145,000

Workings:

(a) Production for the year:

Units manufactured during the year = Units sold + Units in closing inventory - Units in opening inventory

= 20,000 + 5000 - 0

= 25,000 units

(b) Manufacturing expenses per unit:

Variable expenses + Fixed expenses

= $10 + ($100,000/ 25000 units)

= $10 + $4 = $14

(2) Variable costing income statement:

ABC Company

Income statement (Variable Costing)

For the Year Ended December 31, 20XX

Particulars	Amount ($)	Amount ($)
Sales		$600,000
Less variable cost of goods sold:
Opening inventory	$0
Add variable cost of goods manufactured (25,000units*$10)	$250,000
Variable cost of goods available for sale	$250,000
less closing inventory (5,000units * $10)	$50,000	200,000
Gross contribution margin		$400,000
Less variable market. & admin. expense (15,000units*$5)		$75,000
Contribution margin		$325,000
Less period expenses:
Fixed manufacturing overhead expenses	$100,000
Fixed marketing and administrative expenses	$100,000	$200,000
Net operating income		$125,000

The Net operating income under absorption costing is $20,000 more than the net operating income under variable costing because the production is more than the sales which is causing the difference as the fixed manufacturing overhead is deferred in inventory that causes a higher net operating income under absorption costing than under variable costing.