Zeke Moisey Incorporated annually produces more output than they can sell. This

Question

Zeke Moisey Incorporated annually produces more output than they can sell. This results in excess inventory that ties up capital as well as the cost to store it. Senior Management has hired you to help them understand why this problem persists. Senior Management has complete faith in its management team whose compensation consists of salaries, and bonuses based on net income. The Company has provided the following data for the year 2017:

Required:

a) Can you explain to Senior Management why they continue to overproduce and what advice do you recommend? You must support your answer

200 550.00 450 500 500 Beginning Inventory in units P rice Sold Actual Production Budgeted Production Unit Variable Costs M anufacturing Selling and Adm inistrative 125.00 75.00 Fixed Costs M anufacturing Selling and Adm inistrative $ 100,000 25,000

Explanation / Answer

The management team overproduces because the total income of company is increased because of it as well as their Bonus.

Whenever absortion costing is used, and Produce>sale , there is a higher net income as some of the fixed costs are trasferred to closing stock thus a higher profit.

The management can shift to variable costing, as the management team wont be inclined to overproduce as there would be no impact of production on profit

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