Question

During Heaton Company’s first two years of operations, the company reported absorption costing net operating income as follows:

  

	Year 1		Year 2
Sales (@ $61 per unit)	$	915,000	$	1,525,000
Cost of goods sold (@ $42 per unit)		630,000		1,050,000
Gross margin		285,000		475,000
Selling and administrative expenses*		261,000		291,000
Net operating income	$	24,000	$	184,000

   

* $3 per unit variable; $216,000 fixed each year.

  

The company’s $42 unit product cost is computed as follows:

  

Direct materials	$	7
Direct labor		11
Variable manufacturing overhead		4
Fixed manufacturing overhead ($400,000 ÷ 20,000 units)		20
Absorption costing unit product cost	$	42

Forty percent of fixed manufacturing overhead consists of wages and salaries; the remainder consists of depreciation charges on production equipment and buildings.

  

Production and cost data for the two years are:

  

	Year 1	Year 2
Units produced	20,000	20,000
Units sold	15,000	25,000

  

Required:

1.	Prepare a variable costing contribution format income statement for each year.

     

2.	Reconcile the absorption costing and the variable costing net operating income figures for each year. (Losses and deductions should be indicated with a minus sign.)

     

Answer 1

Solution 1:

Variable cost per unit = Variable manufacturing cost per unit + Variable Selling & Adminstrative expenses per unit

= $22 + $3 = $25 per unit

Fixed manufacturing overhead = $400,000

Fixed selling and administrative expenses = $261000 - 15000*3 = $216,000

Variable costing contribution format income statement
Particulars	Per unit	Year 1		Year 2
		Details	Amount	Details	Amount
Sales	$61.00	15000*61	$915,000.00	25000*61	$1,525,000.00
Variable Cost:
Direct Material	$7.00	15000*7	$105,000.00	25000*7	$175,000.00
Direct Labor	$11.00	15000*11	$165,000.00	25000*11	$275,000.00
Variable Manufacturing Overhead	$4.00	15000*4	$60,000.00	25000*4	$100,000.00
Variable Selling and Administrative Expenses	$3.00	15000*3	$45,000.00	25000*3	$75,000.00
Contribution	$36.00		$540,000.00		$900,000.00
Fixed Manufacturing Overhead			$400,000.00		$400,000.00
Fixed Selling & Administrative Expenses			$216,000.00		$216,000.00
Net Operating Income			-$76,000.00		$284,000.00

Solution 2:

Reconciliation of Net Operating income under absorption costing & Variable Costing
Particulars	Year 1	Year 2
Net Operating Income - Absorption Costing	$24,000.00	$184,000.00
Less : Closing Stock as per absorption costing Year 1 - 5000*42 Year 2 - 0	$210,000.00	$0.00
Add: Closing Stock as per variable costing Year 1 = 5000*22 Year 2 - 0	$110,000.00	$0.00
Add: Opening Stock as per absorption costing	$0.00	$210,000.00
Less: Opening Stock as per variable costing	$0.00	$110,000.00
Net Operating Income - Variable Costing	-$76,000.00	$284,000.00