Question

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

	Year 1			Year 2
Sales (@ $63 per unit)	$	1,260,000		$	1,890,000
Cost of goods sold (@ $43 per unit)		860,000			1,290,000
Gross margin		400,000			600,000
Selling and administrative expenses*		314,000			344,000
Net operating income	$	86,000		$	256,000

* $3 per unit variable; $254,000 fixed each year.

The company’s $43 unit product cost is computed as follows:

Direct materials	$	9
Direct labor		12
Variable manufacturing overhead		5
Fixed manufacturing overhead ($425,000 ÷ 25,000 units)		17
Absorption costing unit product cost	$	43

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 operations are:

	Year 1	Year 2
Units produced	25,000	25,000
Units sold	20,000	30,000

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