Question

Income Statements under Absorption and Variable Costing

Patagucci Inc. manufactures and sells athletic equipment. The company began operations on August 1, 2016, and operated at 100% of capacity (75,900 units) during the first month, creating an ending inventory of 6,900 units. During September, the company produced 69,000 garments but sold 75,900 units at $85 per unit. The September manufacturing costs and selling and administrative expenses were as follows:

	Number of Units		Unit Cost		Total Cost
Manufacturing costs in September beginning inventory:
Variable	6,900		$34.00		$234,600
Fixed	6,900		13.00		89,700
Total			$47.00		$324,300
September manufacturing costs:
Variable	69,000		$34.00		$2,346,000
Fixed	69,000		14.30		986,700
Total			$48.30		$3,332,700
Selling and administrative expenses:
Variable					$1,282,710
Fixed					599,600
Total					$1,882,310

a. Prepare an income statement according to the absorption costing concept for September.

Patagucci Inc.
Absorption Costing Income Statement
For the Month Ended September 30, 2016
		$
Cost of goods sold:
	$
		$
		$

b. Prepare an income statement according to the variable costing concept for September.

Patagucci Inc.
Variable Costing Income Statement
For the Month Ended September 30, 2016
		$
		$
		$
Fixed costs:
	$
		$

c. What is the reason for the difference in the amount of income from operations reported in (a) and (b)?

Under the method, the fixed manufacturing cost included in the cost of goods sold is matched with the revenues. Under , all of the fixed manufacturing cost is deducted in the period in which it is incurred, regardless of the amount of inventory change. Thus, when inventory decreases, the income statement will have a lower income from operations.

Answer 1

Solution a:

Income Statement - Absorption Cosing - September
Particulars	September
	Details	Amount
Sales	75900*85	$6,451,500.00
Cost of Goods Sold	$324,300 + $3,332,700	$3,657,000.00
Gross Profit		$2,794,500.00
Variable Selling & Administrative Expenses		$1,282,710.00
Fixed Selling & Administrative Expenses		$599,600.00
Net Operating Income		$912,190.00

Solution b:

Variable costing contribution format income statement - September
Particulars	Per unit	September
		Details	Amount
Sales	$85.00	75900*85	$6,451,500.00
Variable Cost:
Variable manufacturing cost	$34.00	75900*34	$2,580,600.00
Variable Selling and Administrative Expenses	$16.90	75900*16.90	$1,282,710.00
Contribution	$34.10		$2,588,190.00
Fixed Manufacturing Overhead			$986,700.00
Fixed Selling & Administrative Expenses			$599,600.00
Net Income			$1,001,890.00

Solution c:

Under the absorption costing method, the fixed manufacturing cost included in the cost of goods sold is matched with the revenues. Under variable costing method, all of the fixed manufacturing cost is deducted in the period in which it is incurred, regardless of the amount of inventory change. Thus, when inventory decreases, the income statement will have a lower income from operations.