Question

During Heaton Company’s first two years of operations, it reported absorption costing net operating income as follows: Year 1 Year 2 Sales (@ $62 per unit) $ 1,054,000 $ 1,674,000 Cost of goods sold (@ $36 per unit) 612,000 972,000 Gross margin 442,000 702,000 Selling and administrative expenses* 303,000 333,000 Net operating income $ \139,000\ $ 369,000 * $3 per unit variable; $252,000 fixed each year. The company’s $36 unit product cost is computed as follows: Direct materials $ 6 Direct labor 11 Variable manufacturing overhead 4 Fixed manufacturing overhead ($330,000 ÷ 22,000 units) 15 Absorption costing unit product cost $ 36 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 first two years of operatons are: Year 1 Year 2 Units produced 22,000 22,000 Units sold 17,000 27,000 Required: 1. Using variable costing, what is the unit product cost for both years? 2. What is the variable costing net operating income in Year 1 and in Year 2? 3. Reconcile the absorption costing and the variable costing net operating income figures for each year.

Answer 1

Calculation of Cost per Unit
	Absorption Costing	Variable Costing
Direct material	$               6.00	$               6.00
Direct Labour	$            11.00	$            11.00
Variable Manufacturing Overhead	$               4.00	$               4.00
Total Variable Cost	$            21.00	$            21.00
Fixed Overhead (330000/22000)	$            15.00
Cost per Unit	36	21

No. of Units Produced	22,000	22,000
No. of Units Sold	17,000	27,000
Absorption Costing Income Statement
	Year 1	Year 2
Sales	$    1,054,000	$    1,674,000
Cost of Goods Sold	$        612,000	$        972,000
Gross Margin	$        442,000	$        702,000
Selling and Administrative expenses(Fixed+ Variable)	$        303,000	$        333,000
Net Operating Income	$        139,000	$        369,000

No. of Units Produced	22,000	22,000
No. of Units Sold	17,000	27,000
Variable Costing Income Statement
	Year 1	Year 2
Sales	$    1,054,000	$    1,674,000
Less: Variable Cost of Goods Sold	$        357,000	$        567,000
Less: Variable Selling and Administrative expenses	$          51,000	$          81,000
Contribution Margin	$        646,000	$    1,026,000
Fixed Expenses
Fixed Manufactring Overhead	$        330,000	$        330,000
Fixed Selling and Administrative expenses	$        252,000	$        252,000
Net Operating Income	$          64,000	$        444,000

Reconcilation
	Year 1	Year 2
Variable Costing Net Operating Income	$          64,000	$        444,000
Add/Less : Fixed Overhead in Ending Inventory	$          75,000	$        (75,000)
Absorption Costing Net Operating Income	$        139,000	$        369,000

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