Question

Tami Tyler opened Tami’s Creations, Inc., a small manufacturing company, at the beginning of the year. Getting the company through its first quarter of operations placed a considerable strain on Ms. Tyler’s personal finances. The following income statement for the first quarter was prepared by a friend who has just completed a course in managerial accounting at State University.

Tami’s Creations, Inc. Income Statement For the Quarter Ended March 31
Sales (24,000 units)				$	871,200
Variable expenses:
Variable cost of goods sold	$	285,600
Variable selling and administrative		188,400			474,000
Contribution margin					397,200
Fixed expenses:
Fixed manufacturing overhead		218,700
Fixed selling and administrative		219,000			437,700
Net operating loss				$	( 40,500)

Ms. Tyler is discouraged over the loss shown for the quarter, particularly because she had planned to use the statement as support for a bank loan. Another friend, a CPA, insists that the company should be using absorption costing rather than variable costing and argues that if absorption costing had been used the company probably would have reported at least some profit for the quarter.

At this point, Ms. Tyler is manufacturing only one product—a swimsuit. Production and cost data relating to the swimsuit for the first quarter follow:

Units produced	27,000
Units sold	24,000
Variable costs per unit:
Direct materials		$	7.60
Direct labor		$	2.60
Variable manufacturing overhead		$	1.70
Variable selling and administrative		$	7.85

Required:

1. Complete the following:

a. Compute the unit product cost under absorption costing.

b. What is the company’s absorption costing net operating income (loss) for the quarter?

c. Reconcile the variable and absorption costing net operating income (loss) figures.

3. During the second quarter of operations, the company again produced 27,000 units but sold 30,000 units. (Assume no change in total fixed costs.)

a. What is the company’s variable costing net operating income (loss) for the second quarter?

b. What is the company’s absorption costing net operating income (loss) for the second quarter?

c. Reconcile the variable costing and absorption costing net operating incomes for the second quarter.

Answer 1

Solution:

1a. Compute the unit product cost under absorption costing.
Direct materials	$7.60
Direct labor	$2.60
Variable manufacturing overhead	$1.70
Fixed Manufacturing Overhead ($ 218,700 / 27,000)	$8.10
Absorption costing unit product cost	$20.00
Production price per unit with absorption costing method	$20.00
1 b. What is the company’s absorption costing net operating income (loss) for the quarter?
Income statement with absorption costing
Tami's Creation Inc
Income statement with absorption costing
For the Quarter Ended March 31
Sales (24,000 x $ 36.30) $	871200
Cost of goods sold (24,000 x $ 20.00)	480000
Gross margin		391200
Selling and administrative expenses
Variable selling and administrative	188400
Fixed selling and administrative	219000	407400
Net income Operation=		-16200
c. Reconcile the variable and absorption costing net operating income (loss) figures.
Reconciliation
Variable costing loss operating income	-40500
Add: Fixed Manufacturing Overhead
deferred in inventory under absorption costing (3,000 units x $ 8.10)	24300
Absorption costing net operation income	-16200
2). With the absorption costing method the company earns a loss of $ 16200 derived from a loss of operating income of $ 40500 added with Fixed Manufacturing Overhead of $ 24,300 so that by using the Absorption Costing method there is a loss of $ 16,200.
3 What is the company’s variable costing net operating income (loss) for the second quarter?
3 a. Net operating Income statement variable costing
Tami's Creations, Inc. Income statement
For the Quarter Ended April 31
Sales (30,000 units x $ 36.30)		1089000
Variable Expenses:
Variable cost of goods sold (30000*$11.9)	357000
Variable selling and administrative (30000*$7.85)	235500	592500
Contribution Margin =		496500
Fixed Expenses:
Fixed Manufacturing Overhead $ 300,000	218,700
Fixed Selling and Administrative	219,000	437,700
Net Operating Income =		58,800
3b. What is the company’s absorption costing net operating income (loss) for the second quarter?
3 b. Net operating Income statement absorption costing
Tami's Creations, Inc. Income statement
For the Quarter Ended April 31
Sales (30,000 units x $ 36.30)	1089000
Cost of Goods Sold (30,000 units x $ 20.00)	600000
Gross Margin =		489000
Selling and Administrative Expenses:
Variable Selling and Administrative	235500
Fixed Selling and Administrative	219000	454500
Net Operating Income =		34500
c. Reconcile the variable costing and absorption costing net operating incomes for the second quarter.
Reconciliation
Variable Costing Net Operating Income	58800
Deduct: Fixed Manufacturing Overhead
Inventory cost under absorption costing (3000 units x $ 8.10)	24300
Absorption Costing Net Operating Income=		34500