When Waterways’ management met to review the year-end financial statements, the
ID: 2517050 • Letter: W
Question
When Waterways’ management met to review the year-end financial statements, the room was filled with excitement. Sales had been exceptional during the year and every department had exceeded the budget and last year’s sales totals. Several years ago Waterways had implemented a bonus system based on percentage of sales over budget, and the managers were expecting healthy cheques at the end of the year.
Yet the plant manager, Ryan Smith, was stunned into silence when he read the bottom line on the income statement for manufacturing operations. It was showing a loss! He immediately approached the CFO asking for an explanation. Ryan wondered, “Why did we go through all that trouble and inconvenience to adopt those cost-cutting measures when they had the opposite effect?” One of those measures was to move toward lean manufacturing.
The CFO retrieved the following information with respect to the top-selling line from the manufacturing operations for the last three years. Production on this line began on January 1, 2014:
Waterways uses the absorption-costing method and accounts for inventory using FIFO.
(a1)
Using the information provided, recreate Waterways’ statements for this division using condensed, three-year comparative income statements.
2014 2015 2016 Beginning inventory of finished units 0 Production in units 72,000 73,800 59,040 Sales in units 62,000 63,800 79,040 Selling price $29 $29 $31 Direct material $3 $3 $4 Direct labour 5 5 6 Variable manufacturing overhead 4 4 4 Variable selling and administration 5 5 5 Fixed manufacturing overhead 590,400 590,400 590,400 Fixed selling and administration 120,000 120,000 120,000 WATERWAYS CORPORATION Absorption Costing Income Statement For the year ending December 31 2014 2015 2016 Sales Cost of Goods Sold Beginning Inventory, January 1 Add · Cost of Goods Manufactured Cost of Goods Available for Sale | Less | Ending inventory, Decem ebr 31 $ Gross Profit Selling and Administration Expenses Operating Income (Loss)Explanation / Answer
Waterways Corporation
Waterways Corporation
Absorption Costing Income Statement
for the year ending December 31
2014
2015
2016
sales in units
62,000
63,800
79,040
Sales
$1,798,000
$1,850,200
$2,450,240
Cost of goods sold:
Beginning inventory, January 1
0
$202,000
$400,000
Add: Cost of goods manufactured
$1,454,400
$1,476,000
$1,416,960
Cost of goods available for sale
$1,454,400
$1,678,000
$1,816,960
Less: Ending inventory, December 31
$202,000
$400,000
0
Cost of goods sold
$1,252,400
$1,278,000
$1,816,960
Gross Profit
$545,600
$572,200
$633,280
Selling and Administration expenses
Variable
$310,000
$319,000
$395,200
Fixed
$120,000
$120,000
$120,000
Selling and Administration expenses
$430,000
$439,000
$515,200
Operating income/(loss)
$115,600
$133,200
$118,080
Notes:
Cost per unit
2014
2015
2016
total cost per unit -
direct material
$3
$3
$4
Direct labor
$5
$5
$6
variable manufacturing overhead
$4
$4
$4
Fixed manufacturing overhead
$8.20
$8
$10
$590,400/72,000
$590,400/73,800
$590,400/59,040
total cost per unit -
$20.20
$20
$24
Beginning inventory –
2015 –
Ending inventory of 2014 is beginning inventory of 2015
Ending inventory of 2014 = 72,000 – 62,000 = 10,000 units
Value of ending inventory, 2014 = 10,000 x $20.2 = $202,000
Value of beginning inventory, 2015 = $202,000
Ending inventory 2015 = 73,800 + 10,000 – 63,800 = 20,000 units
Value of ending inventory, 2015 = 20,000 x $20 = $400,000
Since the company adopts FIFO method of inventory valuation, we assume the 10,000 units in beginning inventory are sold first and the ending inventory of 20,000 is from current year production. Hence, the same has been valued at current year total cost per unit of $20.
Also, beginning inventory of 2016 is $400,000.
There is no ending inventory in 2016 and all the units have been sold.
Waterways Corporation
Absorption Costing Income Statement
for the year ending December 31
2014
2015
2016
sales in units
62,000
63,800
79,040
Sales
$1,798,000
$1,850,200
$2,450,240
Cost of goods sold:
Beginning inventory, January 1
0
$202,000
$400,000
Add: Cost of goods manufactured
$1,454,400
$1,476,000
$1,416,960
Cost of goods available for sale
$1,454,400
$1,678,000
$1,816,960
Less: Ending inventory, December 31
$202,000
$400,000
0
Cost of goods sold
$1,252,400
$1,278,000
$1,816,960
Gross Profit
$545,600
$572,200
$633,280
Selling and Administration expenses
Variable
$310,000
$319,000
$395,200
Fixed
$120,000
$120,000
$120,000
Selling and Administration expenses
$430,000
$439,000
$515,200
Operating income/(loss)
$115,600
$133,200
$118,080
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