Question

Exercise 11-16A Variable costing versus absorption costing LO 11-4

Dilia Company incurred manufacturing overhead cost for the year as follows:

Direct materials	$	50	/unit
Direct labor	$	35	/unit
Manufacturing overhead
Variable	$	15	/unit
Fixed ($25/unit for 1,500 units)	$	37,500
Variable selling and administrative expenses	$	10,500
Fixed selling and administrative expenses	$	20,000

The company produced 1,500 units and sold 1,200 of them at $225 per unit. Assume that the production manager is paid a 2 percent bonus based on the company’s net income.

Required

A Prepare an income statement using absorption costing.

B Prepare an income statement using variable costing.

C Determine the manager’s bonus using each approach. Which approach would you recommend for internal reporting?

Prepare an income statement using absorption costing.

	DILIA COMPANY Income Statement (Absorption Costing) Cost of goods sold 0 $0 $0

Prepare an income statement using variable costing.

	DILIA COMPANY Income Statement (Variable Costing) Cost of goods sold 0 $0 $0

Determine the manager’s bonus using each approach. Which approach would you recommend for internal reporting?

	Absorption costing Variable costing Which approach is recommended?

Answer 1

• All working forms part of the answer
• Working

Manufacturing cost per unit
Direct material	$                   50.00
Direct Labor	$                   35.00
Variable manufacturing Overhead	$                   15.00
Fixed manufacturing overhead	$                   25.00
Total cost of goods per unit	$                 125.00

• Requirement ‘A’

DILIA COMPANY
Income Statement
(Absorption Costing)
Sales Revenue [1200 units x $ 225]		$                                     270,000.00
Cost of goods sold [1200 units x $ 125]		$                                     150,000.00
Gross Profits		$                                     120,000.00
Operating Expenses:
Variable Selling & admin expenses	$                         10,500.00
Fixed Selling & admin expenses	$                         20,000.00
Total Operating Expenses		$                                       30,500.00
Net Income (Loss)		$                                       89,500.00

• Requirement ‘B’

DILIA COMPANY
Income Statement
(Variable Costing)
Sales Revenue [1200 units x $ 225]		$              270,000.00
Variable costs:
Direct material [1200 units x $50]	$              60,000.00
Direct Labor [1200 units x $35]	$              42,000.00
Variable manufacturing Overhead [1200 units x $15]	$              18,000.00
Variable Selling & admin expenses	$              10,500.00
Total Variable costs		$              130,500.00
Contribution Margin		$              139,500.00
Fixed Costs:
Fixed manufacturing Overhead	$              37,500.00
Fixed Selling & admin expenses	$              20,000.00
Total Fixed Costs		$                 57,500.00
Net Income (Loss)		$                 82,000.00

• Requirement ‘C’

Absorption costing	$           89,500.00
Variable costing	$           82,000.00
Which approach is recommended?	Absorption Costing [because Net Income is more and hence bonus payable will be more too]