Question

The Daniels Tool & Die Corporation has been in existence for a little over 3 years, and sales have been increasing each year.  A job-order cost system is used.  Factory overhead is applied to jobs based on direct labor hours, utilizing the full absorption costing method.  Overapplied or underapplied overhead is treated as an adjustment to cost of goods sold. The company’s income statements for the last 2 years are presented below:

Daniels Tool & Die Corporation

Year 3-Year 4 Comparative Income Statements

                                                                                                            Year 3               Year 4

Sales                                                                                                    $840,000         $1,015,000

Cost of goods sold:

  Finished goods, 1/1                                                                                  25,000                 18,000

  Cost of goods manufactured                                                                   548,000              657,600

     Total available                                                                                     573,000              675,600

  Finished goods, 12/31                                                                              18,000                 14,000

     Cost of goods sold before overhead adjustment                                   555,000              661,600

  Underapplied factory overhead                                                                36,000                 14,400

     Cost of goods sold                                                                               591,000              676,000

  Gross profit                                                                                           249,000              339,000

  Selling expenses                                                                                      82,000                 95,000

  Administrative expenses                                                                          70,000                 75,000

     Total operating expenses                                                                    152,000              170,000

          Operating income                                                                             97,000               169,000

Daniels Tool & Die Corporation

Inventory Balances

                                                                        1/1/Year 3        12/31/Year 3    12/31/Year 4

  Raw material                                                  22,000             30,000             10,000

  Work-in-process costs                                     40,000             48,000             64,000

  Direct labor hours                                             1,335               1,600               2,100

  Finished goods cost                                         25,000             18,000             14,000

  Direct labor hours                                             1,450               1,050                  820

Daniels used the same predetermined overhead rate in applying overhead to production orders in both Year 3 and Year 4.  The rate was based on the following estimates:

                        Fixed factory overhead                                     $25,000

                        Variable factory overhead                                 155,000

                        Direct labor hours                                              25,000

                        Direct labor costs                                             150,000

In Year 3 and Year 4, actual direct labor hours expended were 20,000 and 23,000, respectively. Raw materials put into production were $292,000 in Year 3 and $370,000 in Year 4.  Actual fixed overhead was $37,400 for Year 4 and $42,300 for Year 3, and the planned direct labor rate was the direct labor rate achieved.

For both years, all the reported administrative costs were fixed, while the variable portion of the reporting selling expenses result from a commission of 5% of sales revenue.

Questions

For the year ended December 31, Year 4, prepare a revised income statement utilizing the variable (direct) costing method.  Be sure to include contribution margin.

Prepare a numerical reconciliation of the difference in operating income between Daniels’ Year 4 income statement prepared on the basis of absorption costing and the revised Year 4 income statement prepared on the basis of variable costing.

Answer 1

Revised Income statement utilizing the variable (direct) costing system
	Year 4
Sales		$1,015,000
Cost of Goods sold		$639,420
Gross Contribution Margin		$375,580
Selling commission (1015000 x 5%)		$50,750
Contribution Margin		$324,830
Fixed Overheads	$37,400
Selling expenses	$44,250
Administrative expenses	$75,000
Total Fixed cost		$156,650
Operating income		$168,180
Numerical reconciliation of the difference in operating income
Net operating income under variable costing	$168,180
Add: fixed manufacturing overhead deferred in inventory	$820
Net operating income under absorption costing	$169,000

Cost of goods sold
Beginning finished goods Inventory		$18,000
Raw material used in production	$370,000
Direct labor (23000 hours x $6 per hour)	$138,000
Variable factory overheads (23000 hours x $6.2 per hr)	$142,600
Cost of goods produced	$650,600
Beginning Work in Process	$48,000
Less: Ending work in process	$64,000
Cost of goods manufactured		$634,600
Less: Ending finished goods inventory		$13,180
Cost of goods sold		$639,420