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
Sales		$
Cost of goods sold:
Gross profit	$
Selling and administrative expenses
Cost of goods manufactured
Cost of goods sold		$
Selling and administrative expenses
Income from operations		$

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
Sales		$
Variable cost of goods sold
Manufacturing margin		$
Variable selling and administrative expenses
Contribution margin		$
Fixed costs:
Fixed manufacturing costs	$
Fixed selling and administrative expenses
Income from operations		$

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

Under the absorption costing method, the fixed manufacturing cost included in the cost of goods sold is matched with the revenues. Under variable costing , 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 absorption costing income statement will have a lower income from operations.

Answer 1

Income Statement Under Absorption Costing:

Sales		64,51,500
Cost of Good Sold:
Opening Inventory (6900 Units)[Refer Note]	3,24,300
Variable Mfg. Expenses	23,46,000
Fixed Mfg. Expenses	9,86,700
Ending Inventory	-	36,57,000
Gross Profit		27,94,500
Selling & Admin Expenses:
-Variable	12,82,710
- Fixed	5,99,600	18,82,310
Income From Operations		9,12,190

Note:

Under Absorption costing, fixed manufacturing cost are included while valuing inventory. Hence, the same is included in Beginning Inventory.

Income Statement Under Absorption Costing:

Sales		64,51,500
Variable Cost of Good Sold:
Opening Inventory (6900 Units)	2,34,600
Variable Mfg. Expenses	23,46,000
Ending Inventory	-	25,80,600
Manufacturing Margin		38,70,900
Variable Selling & Admin Expense		12,82,710
Contribution Margin		25,88,190
Fixed Costs:
-Manufacturing Cost	9,86,700
- Selling & Admin Cost	5,99,600	15,86,300
Income From Operations		10,01,890