Question

Variable Cost Per Unit:

Manufacturing:

Direct Materials = $20

Direct Labor = $12

Variable Manufacturing Overhead = $4

Variable Selling and Administrative = $2

Fixed costs per year:

Fixed manufacturing overhead = $960,000

Fixed selling and administrative expenses = $240,000

During its first year of Operations, produced 60,000 units and sold 60,000 units. During it's second year of operations, it produced 75,000 and sold 50,000 units. In its third year, it produced 40,000 units and sold 65,000 units. The selling price of the companys product is $58 per unit.

1. compute the companys break even point in units sold.

2. assume the company uses the variable costing:

a. compete the unit product cost for year 1, year 2, year 3

b. prepare an income statement for year 1, 2, and 3

3. assume the company uses absorption costing:

a. compute the unit product cost for year 1, 2, and 3

b. prepare an income statement for year 1, 2, and 3

4. compare the net operating income figures that you computed in requirements 2 and 3 to the break even point that you computed in requirement 1. which net operating income figures seem counterintuitive? why?

Answer 1

1. Break-even point in units sold = Total Fixed Cost / Contribution Margin per Unit = $ ( 960,000 + 240,000 ) / $ ( 58 - 38 ) = $ 1,200,000 / $ 20 = 60,000 units

2. a.

	Year 1	Year 2	Year 3
Direct Material	$ 20	$ 20	$ 20
Direct Labor	12	12	12
Variable Manufacturing Overhead	4	4	4
Unit Product Cost	$ 36	$ 36	$ 36

b.

Variable Costing Income Statement For Years 1, 2 & 3
	Year 1	Year 2	Year 3
Sales Revenue	$ 3,480,000	$ 2,900,000	$ 3,770,000
Less: Variable Costs
Cost of Goods Sold	2,160,000	1,800,000	2,340,000
Variable Selling and Administrative Expenses	120,000	100,000	130,000
Total Variable Costs	2,280,000	1,900,000	2,470,000
Contribution Margin	1,200,000	1,000,000	1,300,000
Fixed Expenses
Fixed Manufacturing Overhead	960,000	960,000	960,000
Fixed Selling and Administrative Expenses	240,000	240,000	240,000
Total Fixed Expenses	1,200,000	1,200,000	1,200,000
Net Operating Income	$ 0	$ ( 200,000)	$ 100,000

3. a.

	Year 1	Year 2	Year 3
Direct Materials	$ 20	$ 20	$ 20
Direct Labor	12	12	12
Variable Manufacturing Overhead	4	4	4
Fixed Manufacturing Overhead ( Fixed Manufacturing Overhead / Number of units Produced )	16	12.80	24
Unit Product Cost	$ 52	$48.8	$ 60

b.

	Year 1	Year 2	Year 3
Sales Revenue	$ 3,480,000	$ 2,900,000	$ 3,770,000
Cost of Goods Sold	3,120,000	2,440,000	3,900,000
Gross Profit	360,000	460,000	(130,000)
Selling and Administrative Expenses
Variable	120,000	100,000	130,000
Fixed	240,000	240,000	240,000
Total Selling and Administrative Expenses	360,000	340,000	370,000
Net Operating Income	$ 0	$ 120,000	$ ( 500,000)

4. Absorption costing net operating incomes are counter-intuitive. This is because, while fixed manufacturing overhead is not included in product cost in variable costing technique, it is included for computing product cost for absorption costing technique. Fixed manufacturing overheads included in beginning and ending inventories lead to the differences.