Question

Fly Ltd is a manufacturer making smart watches for some local wholesalers. Its fiscal year end falls on 31 December. The company uses standard costing. The cost driver for variable manufacturing costs is production volume. The cost driver for variable selling expenses is sale volume. The company writes off variances to cost of goods sold in the year in which they occur. For both 2018 and 2019, the budgeted price and cost data are the same as the actual price and cost data. The budgeted production volume is 2,000 units. The company sells its products at $500 per unit. Direct material cost of $30 per units and direct manufacturing labor of $15 per unit are traced to products. Variable manufacturing overhead is $10 per unit. Variable selling expenses is $40 per unit. Fixed manufacturing overhead is $80,000 per year. Fixed selling expenses is $50,000 per year. For 2018, there is no work-in-process inventory, and the budgeted production volume is 2,000 units which is the same as actual production volume. The budgeted sales volume and actual sales volume are the same at 1,500 units. For 2019, the actual production volume is 1,250 units and actual sales volume is 1,625 units. A number of managers whose performance is measured by operating income are concerned about how the income is reported. The CEO is now asking the management accountant to prepare income statements under the two most common methods of costing inventories in manufacturing companies: absorption costing and variable costing.

E. What is the cost of goods sold for 2018 under absorption costing?

F. What is the operating income for 2018 under absorption costing?

G. What is the ending inventory for 2019 under absorption costing?

H. What is the operating income for 2019 under absorption costing?

Answer 1

Answer (a)

Calculation of cost per unit in 2018:

Particulars	Amount
Direct material	$30
Direct manufacturing labor	$15
Variable manufacturing overhead	$10
Fixed manufacturing overhead (W.N. 1)	$ 40
Total cost per unit	$95

Cost of goods sold in 2018 = Units sold * cost per unit

= 1500 units *$95 =  $142,500

W.N. 1: Fixed Overhead per unit= $80,000 = $40

                                                     2000 units

Answer (b)

Income Statement of Fly Ltd. under absorption costing for 2018:

Particulars	Calculation	Amount in $
Sales	1500 units * $500	750,000
(-) Cost of goods sold		142,500
Gross profit		607,500
Less: Selling expenses
Variable	1500 units *$40	60,000
Fixed		50,000
Operating income		497,500

Answer (c)

Closing inventory in 2018 or opening inventory in 2019 = 500 units * $95 = $47,500

Closing inventory in 2019 = Opening inventory+ production volume –Sales volume

= 500 units + 1,250 units – 1,625 units = 125 units

Amount of Closing inventory =125 units * $95 = $11,875

Answer (d)

Income Statement of Fly Ltd. under absorption costing for 2019:

Particulars	Calculation	Amount in $
Sales	1625 units * $500	812,500
(-) Cost of goods sold		154,375
Gross profit		658,125
Less: Selling expenses
Variable	1625 units *$40	65,000
Fixed		50,000
Operating income		543,125

W.N. 1

Calculation of cost of goods sold = opening inventory + production – Closing Inventory

= $47,500 + (1,250 units *$95) - $11,875

= $154,375