Question

Income Statements under Absorption and Variable Costing

Shawnee Motors Inc. assembles and sells MP3 players. The company began operations on August 1 and operated at 100% of capacity during the first month. The following data summarize the results for August:

Sales (18,500 units)				$1,850,000
Production costs (24,000 units):
Direct materials		$888,000
Direct labor		427,200
Variable factory overhead		213,600
Fixed factory overhead		141,600		1,670,400
Selling and administrative expenses:
Variable selling and administrative expenses		$258,900
Fixed selling and administrative expenses		100,200		359,100

If required, round interim per-unit calculations to the nearest cent.

a. Prepare an income statement according to the absorption costing concept.

Shawnee Motors Inc.
Absorption Costing Income Statement
For the Month Ended August 31
	$
	$
	$

b. Prepare an income statement according to the variable costing concept.

Shawnee Motors Inc.
Variable Costing Income Statement
For the Month Ended August 31
		$
		$
		$
Fixed costs:
	$
		$

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

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

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Answer 1

First do calculation of production cost per unit

Absorption Costing:

DM per unit: 888000 / 24000 = 37

DL per unit: 427200 / 24000 = 17.80

Var FOH: 213600/24000 = 8.9

Fix FOH: 141600 / 24,000 = 5.9

Therefore,

Total production cost per unit= 69.60

Part A

Shawnee Motors Inc.

Absorption Costing Income Statement

For the Month Ended August 31

Sales	1850000
Cost of goods sold (69.60*18500)	1287600
Gross profit	562400
Selling and administrative expenses	359100
Income from operations	203300

Part B

First do calculation of production cost per unit

Variable Costing:

DM: 37

DL: 17.8

VarFOH: 8.9

Total variable costs per unit = 63.7

Shawnee Motors Inc.

Variable Costing Income Statement

For the Month Ended August 31

Sales		1850000
Variable Costs :
Variable COGS (1850*63.7)	1178450
Variable selling and administrative expenses	258900
Total variable costs		1437350
Contribution margin		412650
Fixed costs :
Fixed factory overhead	141600
Fixed selling and administrative expenses	100200
Total fixed costs Income from operations		241800 170850

Part C

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