Question

Sims Company, a manufacturer of tablet computers, began operations on January 1, 2019. Its cost and sales information for this year follows.

Manufacturing costs
Direct materials	$	30	per unit
Direct labor	$	50	per unit
Overhead costs
Variable	$	20	per unit
Fixed	$	8,400,000	(per year)
Selling and administrative costs for the year
Variable	$	775,000
Fixed	$	5,000,000
Production and sales for the year
Units produced		105,000	units
Units sold		75,000	units
Sales price per unit	$	350	per unit

1. Prepare an income statement for the year using variable costing.
2. Prepare an income statement for the year using absorption costing.

Answer 1

Variable costing is a method of inventory costing that treats all variable costs as part of inventorial costs. It is also known as “Marginal Costing”. So, this method focuses on the ‘variable’ behaviour of cost to determine if a particular cost should be part of inventory or not.

Absorption costing is a type of inventory costing where all the manufacturing costs are treated as inventorial costs. So, this method determine on the manufacturing function of the cost.

Under these methods only one difference is fixed overheads cost is in included in absorption costing where in variable costing only variable cost charge for manufacturing cost.

First we find out ending inventory of the year.

Ending Inventory

Production of the year	105,000 units
Less: Sales	75,000 units
Ending Inventory	30,000 units

Now find out Unit cost of Goods produced.

Calculation of Unit Cost

	Variable costing	Absorption Costing
Direct Material	$ 30	$ 30
Direct Labour	$ 50	$ 50
Variable overheads	$ 20	$ 20
Fixed overheads		$ 80 *
Unit Cost	$ 100	$ 180

* Fixed manufacturing overheads per unit

= $ 8,400,000 / 105,000 units

= $ 80 per unit       

1. Income Statement under Variable costing

Sims Company Income Statement

(Variable Costing)

Explanations	Amount	Amount
Sales ( 75,000 units * $ 350 per unit)		$ 26,250,000
Less: Cost of Goods Sold
Variable Cost of Goods sold         ( 105,000 units * $ 100 per unit )	$ 10,500,000
Less : Cost of Ending Inventory           ( 30,000 units * $ 100 )	$ 3,000,000	$ 7,500,000
Gross Contribution margin		$ 18,750,000
Less: variable selling and             Administrative expenses		$ 775,000
Contribution margin		$ 17,975,000
Less: Fixed overheads cost		$ 8,400,000
Less: Fixed selling and             Administrative expenses		$ 5,000,000
Net Income		$ 4,575,000

Sims Company Income Statement

(Absorption Costing)

Explanations	Amount	Amount
Sales ( 75,000 units * $ 350 per unit)		$ 26,250,000
Less: Cost of Goods Sold
Manufacturing Cost of Goods sold         ( 105,000 units * $ 180 per unit )	$ 18,900,000
Less : Cost of Ending Inventory           ( 30,000 units * $ 180 )	$ 5,400,000	$ 13,500,000
Gross profit		$ 12,750,000
Less: selling and Administrative expenses
variable selling and Administrative expenses		$ 775,000
Fixed selling and Administrative expenses		$ 5,000,000
Net Income		$ 6,975,000