Question

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

Prepare an income statement using absorption costing.

Prepare an income statement using variable costing.

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

Answer 1

Solution 1:

DILIA COMPANY
Income Statement
(Absorption Costing)
Revenues (1200*$225)		$2,70,000
Cost of goods sold:
Direct materials (1200*$50)	$60,000
Direct labor (1200*$35)	$42,000
Variable Manufacturing overhead [1200*$15]	$18,000
Fixed Manufacturing overhead [1200*$25]	$30,000
Cost of goods sold		$1,50,000
Gross margin		$1,20,000
Variable Selling and administrative expenses	$10,500
Fixed Selling and administrative expenses	$20,000
Total Selling and administrative expense		$30,500
Net income		$89,500

Solution 2:

DILIA COMPANY
Income Statement
(Variable Costing)
Revenues (1200*$225)		$2,70,000
Variable Costs:
Direct materials (1200*$50)	$60,000
Direct labor (1200*$35)	$42,000
Variable Manufacturing overhead [1200*$15]	$18,000
Variable Selling and administrative expenses	10,500
Total variable costs		$1,30,500
Contribution Margin		1,39,500
Fixed Costs:
Fixed Manufacturing overhead	$37,500
Fixed Selling and administrative expenses	$20,000
Total Fixed costs		$57,500
Net income		$82,000

Solution 3:

Manager’s bonus using each approach
Absorption costing ($89500*2%)	$1,790
Variable costing ($82000*2%)	$1,640
Which approach is recommended?	Variable costing