linden company manufactures and sells a single product. Cost data for the produc
ID: 2464639 • Letter: L
Question
linden company manufactures and sells a single product. Cost data for the product follow:Variable costs - direct materials $6 direct labor 12, variable factory overhead 4, variable selling & admin 3, total variable cost per unit $25 fixed costs per month fixed manufacturing OH 240000, fixed selling & admin 180000 total fixed cost per month 420000. The product sells for $40 per unit. Production and sales data for May & June the first two months are May units produced 30000 units sold 26000 June units produced 30000 units sold 34000. Income ststement prepared using absorption costing are: Sales may / june 1040000 / 1360000 cost of goods sold 780000 / 1020000, gross margin 260000 / 340000 selling & admin expenses 258000/ 282000 NOI 2000/ 58000 1) prepare contribution format variable costing icoe statement for May & june 2) reconcile the variable costing and absorption costing net operating incomes. 3) the company has determined break even point to be 28000 units per month it was computed as fixed cost per month/unit CM = 420000/15 per unit=28000units the controller says break even point is 28000 units per month yet we only sold 26000 units in May and the income statement showed a $2000 profit - which do we believe - what happened on the May income statement? please show all work so I know how to do this problem
Explanation / Answer
Solution:
1) Income Statement as per variable costing
Some interesting facts/information about variable costing:--
Under Variable Costing, the variable costs as direct material, direct labor and variable manufacturing overheads are treated as the cost of product. The value of finished goods and work–in–progress is also comprised only of variable costs. Variable selling and distribution are excluded for valuing these inventories. Fixed costs are not considered for valuation of closing stock of finished goods and closing WIP. Fixed costs are treated as period costs and are charged to profit and loss account for the period for which they are incurred.
Linden Company
Income Statement (Variable Costing)
May
June
Sales
$1,040,000
$1,360,000
Variable Manufacturing Cost
Direct Material
$180,000
$180,000
Direct Labor (30,000 Units x $12)
$360,000
$360,000
Variable Factory Overheads (30,000 Units x $4)
$120,000
$120,000
Variable Cost of Production
$660,000
$660,000
Add: Beginning Inventory
$0
$88,000
Less: Ending Inventory (Valued at current production cost)
-$88,000
$0
Cost of Goods Sold
$572,000
$748,000
Add: Variable Selling & Admn Overheads
$78,000
$102,000
Total Variable Cost
$650,000
$850,000
Contribution Margin (Sales - Total Variable Costs)
$390,000
$510,000
Fixed Cost per Month
Fixed Manufacturing Overheads
$240,000
$240,000
Fixed Selling & Admn Overheads
$180,000
$180,000
Total Fixed Costs
$420,000
$420,000
Net Operating Income (Contribution - Fixed Costs)
($30,000)
$90,000
Note 1 : Ending Inventory of May Month = Produced Units – Sold Units = 30,000 – 26,000 = 4,000 Units and the Value of Ending Inventory of May = $660,000 / 30,000 x 4,000 = $88,000
Note 2: Variable Selling and Admin Expenses for May = 26,000 Units x $3 = $78,000 and for June = 34,000 Units x $3 = $102,000
2) Reconciliation of Net Operating Incomes under variable costing and absorption costing
Under Absorption costing, closing stock is valued at manufacturing cost of production and manufacturing cost of production includes Variable Manufacturing costs as well as fixed manufacturing cost.
Hence,
Ending Inventory value as per Absorption Costing for May month = Manufacturing Cost / Produced Units x Ending Inventory
Manufacturing Cost = Variable Cost of Production + Fixed Manufacturing Cost = $660,000 + $240,000 = $900,000
Value of Ending Inventory (may month) = $900,000 / 30,000 x 4,000 = $120,000
Beginning Inventory of June Month = Ending Inventory of May month = $120,000
The basic difference arises due to different method of valuing Ending Inventory under variable costing and absorption costing. Both costing system describes different treatment method for calculation of production cost.
Reconciliation Statement
May
June
Net Operating Income as per Variable Costing
($30,000)
$90,000
Add: Difference in Ending Inventory ($120,000 - $88,000)
32000
Less: Difference in Beginning Inventory ($120,000 - $88,000)
($32,000)
Net Operating Income as per Absorption Costing
$2,000
$58,000
3) the company has determined break-even point to be 28000 units per month it was computed as fixed cost per month/unit CM = 420000/15 per unit=28000units the controller says break-even point is 28000 units per month yet we only sold 26000 units in May and the income statement showed a $2000 profit - which do we believe - what happened on the May income statement? please show all work so I know how to do this problem
Break-Even Point is calculated by using following formula = Fixed Cost / Contribution Per Unit
Contribution Per Unit is calculated by subtracting Total Variable Cost from Sales Value.
And the profit showed as per absorption costing income statement is $2,000.
Under Absorption Costing, Fixed Manufacturing Overheads are treated as Product Cost and are also included while valuation of ending inventory. Hence if you consider Income Statement as per Variable Costing, the break even point calculated above is correct. But under absorption costing since fixed manufacturing OHs taken as the production cost, the profit will differ under both the system.
As per Variable Costing it is correct. Here is the calculation;
Break Even Point in dollars = Break Even Point in units x Selling Price per unit = 28,000 Units x $40
$1,120,000
Less: Variable Costs (28,000 Units x $25)
($700,000)
Contribution Margin
$420,000
Less: Fixed Cost
($420,000)
Profit
NIL
Linden Company
Income Statement (Variable Costing)
May
June
Sales
$1,040,000
$1,360,000
Variable Manufacturing Cost
Direct Material
$180,000
$180,000
Direct Labor (30,000 Units x $12)
$360,000
$360,000
Variable Factory Overheads (30,000 Units x $4)
$120,000
$120,000
Variable Cost of Production
$660,000
$660,000
Add: Beginning Inventory
$0
$88,000
Less: Ending Inventory (Valued at current production cost)
-$88,000
$0
Cost of Goods Sold
$572,000
$748,000
Add: Variable Selling & Admn Overheads
$78,000
$102,000
Total Variable Cost
$650,000
$850,000
Contribution Margin (Sales - Total Variable Costs)
$390,000
$510,000
Fixed Cost per Month
Fixed Manufacturing Overheads
$240,000
$240,000
Fixed Selling & Admn Overheads
$180,000
$180,000
Total Fixed Costs
$420,000
$420,000
Net Operating Income (Contribution - Fixed Costs)
($30,000)
$90,000
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