During Heaton Company’s first two years of operations, it reported absorption co
ID: 2585886 • Letter: D
Question
During Heaton Company’s first two years of operations, it reported absorption costing net operating income as follows:
$3 per unit variable; $254,000 fixed each year.
The company’s $33 unit product cost is computed as follows:
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 Sales (@ $63 per unit) $ 1,260,000 $ 1,890,000 Cost of goods sold (@ $33 per unit) 660,000 990,000 Gross margin 600,000 900,000 Selling and administrative expenses* 314,000 344,000 Net operating income $ 86,000 $ 556,000$3 per unit variable; $254,000 fixed each year.
The company’s $33 unit product cost is computed as follows:
Direct materials $ 7 Direct labor 12 Variable manufacturing overhead 2 Fixed manufacturing overhead ($300,000 ÷ 25,000 units) 12 Absorption costing unit product cost $ 33Forty 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
Explanation / Answer
Solution (1)
Calculation of unit product cost using variable costing
Particulars
Year 1 (Amount in $)
Year 2 (Amount in $)
Direct material
7
7
Direct Labour
12
12
Variable manufacturing overhead
2
2
Marginal costing unit product cost
21
21
Unit product cost in Year 1 and Year 2 is $ 21 under variable costing system.
Note:
-The fixed manufacturing overhead cost has not been included while calculating under variable costing system.
-Selling and administrative expenses (both variable and fixed) are not relevant for the calculation of unit product cost.
Solution (2)
Calculation of variable costing net operating income in Year 1 and Year 2
Particulars
Year 1 (Amount in $)
Year 2 (Amount in $)
Sales
1,260,000
1,890,000
Less: Variable cost of goods sold
Opening inventory
0
105,000
Add: Variable cost of goods sold manufactured (25000 X $ 21)
525,000
525,000
Variable cost of goods sold available for sale
525,000
630,000
Less: closing inventory
105,000*
0
Variable cost of goods sold
420,000
630,000
Gross Contribution margin (Sales- Variable cost of goods sold)
840,000
1,260,000
Less: Variable selling and administrative expenses**
60,000
90,000
Contribution margin
780,000
1,170,000
Less: Fixed expenses
Manufacturing
300,000
3,00,000
Selling and administrative expenses
254,000
254,000
Total fixed expenses
554,000
554,000
Net operating income (Contribution – Total fixed expenses)
226,000
616,000
* Year 1 closing inventory (5000 X $ 21) = $ 105,000
**Variable selling and administrative expenses: It is calculated on Units sold
Year 1 = 20,000 X 3 = $ 60,000
Year 2 = 30,000 X 3 = $ 90,000
Solution (3)
Reconciliation of absorption costing and variable cost net operating income figures for each year
Particulars
Year 1 (Amount in $)
Year 2 (Amount in $)
Net operating income under variable costing
226,000
616,000
Add: Fixed manufacturing overhead deferred in inventory ( *5,000 X 12)
60,000
Less: Fixed manufacturing overhead released from inventory ( *5,000 X 12)
-60,000
Net operating income under absorption costing
286,000
556,000
*This is calculated as difference between units produced and sold.
Year 1= 25,000 units- 20,000 units = +5,000 units
Year 2= 25,000 units- 30,000 units = -5,000 units
Particulars
Year 1 (Amount in $)
Year 2 (Amount in $)
Direct material
7
7
Direct Labour
12
12
Variable manufacturing overhead
2
2
Marginal costing unit product cost
21
21
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