Question

Curtis Laboratories is a relatively small company that produces widgets that started operations only a few years ago.  The owner is considering expanding operations and has even considered introducing a certain amount of automation.  Unfortunately, the owner of Curtis Laboratories is not very knowledgeable about cost management.  Production data for Curtis for Year 1 and Year 2 is as follows:

                                                            Year 1                          Year 2

Sales                                                    $200,000                     $220,000

Variable Production Costs                         30,000                          35,000

Fixed Production Costs                             40,000                          45,000

Variable SG&A Expenses                           25,000                          30,000

Fixed SG&A Expenses                                20,000                          22,000

Beginning Finished Goods Inventory         15,000 (AC)                   35,000 (AC)

Ending Finished Goods Inventory              35,000 (AC)                   40,000 (AC)

                                                                25,000 (VC)                   35,000 (VC)

Questions

If Curtis adopts absorption costing (AC), which costs are product costs and which costs are period costs?  If Curtis adopts variable costing (VC), which costs are product costs and which costs are period costs?

If Curtis adopts absorption costing, what is the operating income for Year 1 and Year 2?

If Curtis adopts variable costing, what is the operating income for Year 1 and Year 2?

Answer 1

1)
	Absorption Costing	Variable Costing
Product Cost	Variable Production Costs	Variable Production Costs
	Fixed Production Costs
	Finished goods inventory,Beginning
	Finished goods inventory,ending
Period Cost	Variable SG&A Expenses	Fixed Production Costs
	Fixed SG&A Expenses
2)
Income Statement Under Absorption Costing
	Year 1	Year 2
Sales	$200,000.00	$220,000.00
Less: Cost of goods sold (calculated below)	-$50,000.00	-$75,000.00
Gross margin	$150,000.00	$145,000.00
Less: Operating expenses:
SG&A Expenses (Fixed + variable)	-$45,000.00	-$52,000.00
Net Operating Income	$105,000.00	$93,000.00
Cost of Good Sold	Year 1			Year 2
Finished goods inventory, January 1,		$15,000.00			$35,000.00
Cost of goods manufactured
Variable Production Costs	$30,000.00			$35,000.00
Fixed Production Costs	$40,000.00	$70,000.00		$45,000.00	$80,000.00
Goods available for sale		$85,000.00			$115,000.00
Finished goods inventory, December 31		-$35,000.00			-$40,000.00
Cost of Good Sold		$50,000.00			$75,000.00
3)
Income Statement under Variable Costing	Year 1			Year 2
Sales revenue		$200,000.00			$220,000.00
Less: Variable cost of good sold
Finished goods inventory, January 1,	$0.00			$0.00
Variable manufacturing costs	$30,000.00			$35,000.00
Cost of goods available for sale	$30,000.00			$35,000.00
Finished goods inventory, December 31	-$25,000.00	-$35,000.00		-$35,000.00	-$35,000.00
Gross Contribution Margin		$165,000.00			$185,000.00
Variable SG & A	$25,000.00	-$25,000.00		$30,000.00	-$30,000.00
Contribution margin		$140,000.00			$155,000.00
Fixed costs:
Fixed manufacturing costs	$40,000.00			$45,000.00
Fixed SG & A	$20,000.00	-$60,000.00		$22,000.00	-$67,000.00
Net Operating Income		$80,000.00			$88,000.00