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CHAPTER 9

CHAPTER 8Alternative Inventory Costing Methods: A Decision-Making Perspective

ASSIGNMENT CLASSIFICATION TABLE

Study ObjectivesQuestionsBrief

ExercisesDo It!ReviewExercisesA & B

Problems

1.Explain the difference between absorption costing and variable costing. 1, 2, 3, 4, 7, 8, 9, 10, 11 1, 2, 4, 5, 7, 8, 10, 1112, 14, 1516, 17, 18, 19, 20, 22, 23, 24, 2526A, 27A, 28A, 29A, 31A, 32A, 34A, 35A, 36B, 38B 44B

2.Discuss the effect that changes in the production level and sales level have on net income measured under absorption costing versus under variable costing.6, 8, 9, 10, 11, 1210, 11132226A, 27A, 28A, 29A, 31A, 32A, 34A, 35A, 36B, 38B 44B

3.Discuss the advantages of variable costing versus absorption costing for management decision-making.13, 14, 15, 1612, 1319, 22, 23, 24, 2527A, 28A, 29A, 31A, 32A, 34A, 35A, 38B, 39B, 40B, 41B, 42B, 44B

*4.Discuss the effect of a normal costing method on income reported under absorption costing and variable costing (Appendix 8A).91418, 2130A, 33A, 37B

*5.Discuss the effect of the throughput costing method on income reported under variable costing (Appendix 8A).1, 4, 5, 3, 6, 71516, 2526A, 29A, 32A, 36B, 40B

ASSIGNMENT CHARACTERISTICS TABLE

Problem

NumberDescriptionDifficulty

LevelTimeAllotted (min.)

26ACalculate the product cost; prepare an income statement under variable costing, absorption costing and throughput costing and reconcile the differences.Easy30-40

27APrepare income statements under absorption costing and variable costing for a company with beginning inventory.Moderate40-50

28APrepare absorption- and variable costing income statements; reconcile the differences between absorption- and variable-costing income statements when sales and production levels change; and discuss the usefulness of absorption costing versus variable costing.Easy30-40

29APrepare an income statement under variable costing, absorption costing, and throughput costing and reconcile the differences; discuss the usefulness of absorption costing versus variable costing.Moderate30-40

30ACalculate the product cost; and prepare income statements under normal costing. Moderate20-30

31ACalculate product cost; prepare income statements under variable costing and absorption costing and reconcile the difference when sales and production levels change.Easy20-30

32ACalculate the product cost; prepare income statements under variable costing, absorption costing, and throughput costing, and reconcile the differences.Moderate30-40

33ACalculate the product cost; and prepare income statements under normal costing.Easy20-30

34AExplain variable costing and absorption costing and reconcile the differences when sales and production levels change.Moderate20-30

35APrepare income statements under variable costing, absorption costing, and throughput costing and reconcile the differences when sales and production levels change; discuss the usefulness of absorption costing versus variable costing.Challenging40-50

36BCalculate the product cost; prepare income statements under variable costing, absorption costing, and throughput costing, and reconcile the differences.Moderate30-40

37BCalculate the product cost; and prepare income statements under normal costing.Moderate15-20

38BPrepare income statements under absorption costing and variable costing for a company with beginning inventory.Moderate50-60

39BPrepare absorption- and variable-costing income statements; reconcile the differences between the two income statements when sales and production levels change; discuss the usefulness of the two approaches to costing.Moderate30-40

ASSIGNMENT CHARACTERISTICS TABLE (Continued)Problem

NumberDescriptionDifficulty

LevelTimeAllotted (min.)

41BCalculate the product cost; prepare income statements under variable costing and absorption costing, and reconcile the differences when sales and production levels change.Challenging40-50

42BCalculate the product cost contribution margin under variable costing and the gross margin under absorption costing.Moderate15-20

43BPrepare an income statement under variable costing; discuss the advantages of variable costing over absorption costing.Easy15-20

44BCalculate product cost; prepare income statements under variable costing and absorption costing and reconcile the difference when sales and production levels change; discuss the usefulness of absorption costing versus variable costing.Challenging40-50

ANSWERS TO QUESTIONS

1.Variable costing is a system for determining product costs that is used primarily for making managerial decisions. Under variable costing, direct materials, direct labour, and variable manufacturing overhead are considered product costs. In contrast, absorption costing is required for external reporting purposes and is used by some managers for internal decisions. Under absorption costing, product costs include direct material, direct labour, and manufacturing overhead (both fixed and variable) costs. Throughput costing treats all costs as period expenses except for direct materials. It is suitable only for companies engaged in a manufacturing process in which conversion costs such as direct labour and manufacturing overhead are fixed costs and do not vary proportionately with the units of production. Assembly-line and continuous processes that are highly automated are most likely to meet this criterion. 2.The costs that are included as product costs under a variable costing system are direct materials, direct labour, and variable manufacturing overhead.

3.Fixed manufacturing overhead costs are treated as a period cost, similar to selling and administrative costs. These costs are expensed each period, as they are incurred.

4.Under variable costing, direct materials, direct labour and variable manufacturing overhead are included as product costs. Under throughput costing, only direct material costs are considered product costs.

5.In throughput costing, the conversion costsdirect labour and variable manufacturing overheadare considered to be fixed, and are expensed in the month they are incurred. 6. Some of the fixed manufacturing overhead costs are deferred to a future period in the inventory account under absorption costing when inventory increases.

7.The main difference is the timing of some expenses. Variable costing treats fixed manufacturing overhead costs as a period cost and therefore expenses these costs each period. Absorption costing treats fixed manufacturing overhead costs as a product cost and therefore will defer some of these costs to future periods when production exceeds sales. Conversely, when sales exceeds production, more fixed costs will be charged to cost of goods sold than under variable costing.

8.The difference is going to be in the value of the ending inventory. Under absorption costing the fixed manufacturing overhead will be included, so ending inventory will be $210,000 (10,500 units $20). Variable costing does not include fixed manufacturing overhead as a period cost, so the per unit cost of inventory will be $15, and the value of the ending inventory will be $157,500. The difference is $52,500, that is, absorption costing will report a $52,500 higher net income than variable costing because a portion of the fixed manufacturing overhead costs are deferred in inventory.Questions Chapter 8 (Continued)

9.If production equals sales in any given period, the net incomes under both methods will be equal. In this case, there is no increase or decrease in the ending inventory when compared to the beginning inventory. So fixed manufacturing overhead costs in the current period are not deferred to future periods through an increase in the ending inventory, or released into expenses in the current period in the case of an inventory decrease.

10.If production is greater than sales, absorption costing net income will be greater than variable costing net income. Absorption costing net income is higher because some of the fixed manufacturing overhead costs will be deferred in the inventory account until the products are sold.

11.In the long run, neither method will produce a higher net income amount. Over a long period of time, sales can never exceed production, nor should production exceed sales by significant amounts. For this reason, over the lifetime of a corporation, variable costing and absorption costing will tend to yield the same net income amounts.

12.Production changes do not affect the amount of fixed manufacturing overhead costs in a given period. However, production changes affect the expensing of fixed manufacturing overhead costs. When production exceeds sales, a portion of fixed manufacturing overhead is deferred to a future period when using absorption costing. If variable costing is used, all fixed manufacturing overhead incurred in the period is expensed in the current period.

13.No, variable costing is generally just a managerial technique. Under generally accepted accounting principles (GAAP), variable costing is not allowed for external financial statements.

14.Some of the benefits include:

(1)Net income computed under variable costing is unaffected by changes in production levels. As a result, it is much easier to understand the impact of fixed and variable costs on the computation of net income when variable costing is used.

(2)The use of variable costing is consistent with cost-volume-profit analysis and incremental analysis.

(3)Net income computed under variable costing is closely tied to changes in sales levels (not production levels), and therefore provides a more realistic assessment of the companys success or failure during a period.

(4)The presentation of fixed and variable cost components on the face of the variable costing income statement makes it easier to identify these costs and understand their effect on the business. Under absorption costing, the allocation of fixed costs to inventory makes it difficult to evaluate the impact of fixed costs on the companys results.

15.The differences between absorption costing and variable costing techniques occur when inventory levels change between two periods of time. Since just-in-time inventory management reduces finished goods inventory, the differences between absorption and variable costing are greatly reduced, if not totally offset.

Questions Chapter 8 (Continued)

16.Both systems can be useful to management but variable costing has several advantages for internal decision making. Variable costing is consistent with cost-volume-profit analysis and incremental analysis. It also makes it easier to understand the impact of fixed and variable costs on net income. Since net income computed under variable costing is closely tied to changes in sales levels (not production levels as is the case with absorption costing), it provides a more realistic assessment of success or failure during a period.

Companies that use variable costing for internal decision making must also maintain absorption costing systems for external reporting as required under GAAP.SOLUTIONS TO BRIEF EXERCISES

BRIEF EXERCISE 8-1

ProductCostPeriodCost

Variable costing:

Commission fees for salespersonsX

Glue for wooden chairsvariableX

Fabric for T-shirtsX

Labour costs for producing TVsX

Factory rent expensefixedX

Factory utility costsvariable X

Car mileage costs for salespersonsX

Administrative expensesfixedX

Administrative Internet connection feesX

Wagesassembly lineX

BRIEF EXERCISE 8-2

Product CostPeriod Cost

Absorption costing:





Factory rent expensefixed X

Factory utility costsvariableX




Wagesassembly lineX

*BRIEF EXERCISE 8-3

Throughput costing:Product CostPeriod Cost





Factory rent expensefixed X

Factory utility costsvariableX




Wagesassembly lineX

BRIEF EXERCISE 8-4

Variable Costing

Direct materials$28,980

Direct labour51,060

Variable manufacturing overhead64,840

Total product costs$144,880

BRIEF EXERCISE 8-5Absorption Costing


Direct labour51,060

Variable manufacturing overhead64,840

Fixed manufacturing overhead20,000


*BRIEF EXERCISE 8-6

Throughput Costing



*BRIEF EXERCISE 8-7(a) Absorption Costing Per Unit

Direct materials$20.00

Direct labour12.00

Variable manufacturing overhead15.00

Fixed manufacturing overhead ($120,000 12,000)10.00

Total product cost per unit$57.00

(b) Variable Costing Per Unit


Direct labour12.00



(c) Throughput Costing Per Unit



BRIEF EXERCISE 8-8Rafael Corp.

Income StatementVariable Costing

For the Year Ended December 31, 2012_______________________________________________________________

Sales (40,000 units $15)$600,000

Less: variable costs

Variable COGS (40,000 units $6)$240,000

Variable S&A expenses (40,000 units $2)80,000320,000

Contribution margin280,000

Less: fixed costs


Fixed selling and administration expenses20,000100,000

Operating income before tax$180,000

*BRIEF EXERCISE 8-9(a) Manufacturing cost per unit:

Variable costs $6.00

Fixed costs ($80,000 50,000 units) 1.60

$ 7.60

(b) Rafael Corp.

Income StatementNormal Costing

For the Year Ended December 31, 2012Sales (40,000 units $15)$600,000

Cost of goods sold:

Beginning inventory

Plus: Cost of goods manufactured (50,000 $7.60)$380,000

Goods available for sale380,000

Less: Ending inventory (10,000 $7.60)76,000

Cost of goods sold304,000

Plus: volume variance [$80,000 (40,000 $1.60)]16,000320,000

Gross Margin280,000

Less: S&A [Variable (40,000 $2) + Fixed ($20,000)]100,000


BRIEF EXERCISE 8-9 (Continued)

(c)Rafael Corp.s production exceeded its sales by 10,000 units (50,000 40,000). It had fixed manufacturing costs per unit of $1.60. Under variable costing, fixed manufacturing overhead is expensed in the year incurred, while under absorption costing it is included in inventory. Therefore, $16,000 (10,000 $1.60) of fixed manufacturing overhead is included in Rafaels inventory under normal costing. As a result, absorption costing income exceeds variable costing income by $16,000. The statement shows both net incomes to be the same because the volume variance (which also amounted to $16,000) was added back to the normal cost of goods sold.BRIEF EXERCISE 8-10(a)

Rafael Corp.

Income StatementAbsorption Costing

For the Year Ended December 31, 2012

Sales (40,000 units $15)$600,000

Cost of goods sold:

Beginning inventory



Less: ending inventory (10,000 $7.60)76,000304,000

Gross Margin296,000

Less: S&A [Variable (40,000 x $2) + Fixed ($20,000)]100,000


(b)

Variable costing net income$180,000

Plus: fixed manufacturing overhead costs deferred

in ending inventory (10,000 units $1.60)16,000

Absorption costing operating income$196,000

BRIEF EXERCISE 8-11

When production is greater than sales, absorption costing net income is greater than variable costing net income by an amount equal to the number of units in ending inventory times the fixed overhead rate per unit.

Fixed overhead rate per unit = $190,000 20,000 units = $9.50 per unit


Less: Fixed overhead in ending inventory (2,000 $9.50)19,000

Variable costing operating income$ 6,000

SOLUTIONS TO DO IT! REVIEWDO IT! REVIEW 8-12

(a) Manufacturing cost per unitabsorption costing

Direct material $30.00

Direct labour 12.00

Variable overhead 3.00

Fixed overhead ($108,000 12,000 units) 9.00

$54.00

(b) Fresh Air Products


For the first month of operations

Sales (10,000 units $110)$1,100,000

Cost of goods sold:

Beginning inventory

Plus: Cost of goods manufactured (12,000 $54)$648,000


Less: ending inventory (2,000 $54)108,000540,000

Gross Margin560,000

Less: S&A [(10,000 $4) + $200,000]240,000


DO IT! REVIEW 8-13

(a)(1) Manufacturing cost per unitvariable costing


Direct labour 12.00


$45.00

(a)(2) Fresh Air Products

Income StatementVariable Costing


Sales (10,000 units $110)$1,100,000



Variable S&A expenses (10,000 units $4)40,000490,000


Less: fixed costs


Fixed selling and administration expenses200,000308,000


(b) Variable costing operating income$302,000

Plus: fixed manufacturing overhead costs deferred

in ending inventory (2,000 units $9)18,000


DO IT! REVIEW 8-14(a)(1) Manufacturing cost per unitabsorption costing


Direct labour 12.00


Fixed overhead ($108,000 13,500 units) 8.00

$53.00

DO IT! REVIEW 8-14 (Continued)




Sales (10,000 units $110)$1,100,000

Cost of goods sold:

Beginning inventory

Plus: Cost of goods manufactured (12,000 $53)$636,000


Less: ending inventory (2,000 $53)106,000


Plus: volume variance [$108,000 (12,000 $8)]12,000542,000

Gross Margin558,000

Less: S&A [(10,000 $4) + $200,000]240,000


(b) Normal costing operating income$318,000

Plus:

Costs deferred in ending inventory [2,000 ($9 $8)]2,000


DO IT! REVIEW 8-15

(a)(1) Manufacturing cost per unitthroughput costing


$30.00

DO IT! REVIEW 8-15 (Continued)


Income StatementThroughput Costing


Sales (10,000 $110)$ 1,100,000

Variable cost of goods sold:

Beginning inventory $

Direct material costs (12,000 $30) 360,000

Cost of goods available for sale 360,000

Ending inventory (2,000 $30) 60,000 300,000

Throughput contribution margin 800,000

Other operating costs

Direct labour costs (12,000 $12) $144,000

Variable overhead costs (12,000 $3) 36,000

Variable S & A expenses (10,000 $4) 40,000

Fixed manufacturing overhead 108,000

Fixed selling and admin 200,000 528,000

Operating income $272,000

(b) Throughput costing operating income$272,000

Plus: costs deferred in ending inventory (2,000 $15)30,000

Variable costing operating income$302,000

SOLUTIONS TO EXERCISES

*EXERCISE 8-16(a) Manufacturing Cost Per UnitVariable costingDirect materials$ 800

Direct labour1,500

Variable manufacturing overhead300

Total product cost per unit$2,600

(b)WU EQUIPMENT COMPANY

Income Statement

For the Year-Ended December 31, 2012Variable Costing

_______________________________________________________________

Sales (1,200 units $4,500)$5,400,000


Variable COGS (1,200 units $2,600)$3,120,000

Variable S&A expense (1,200 units $70) 84,0003,204,000

Contribution margin2,196,000

Less: fixed costs

Fixed manufacturing overhead1,200,000

Fixed S&A expense100,0001,300,000

Net Income $ 896,000

(c) Manufacturing Cost Per UnitThroughput costingDirect materials$800

Total product cost per unit$800

EXERCISE 8-16 (Continued)(d)WU EQUIPMENT COMPANY

Income Statement

For the Year-Ended December 31, 2012Throughput Costing

_______________________________________________________________

Sales (1,200 units $4,500)$5,400,000

Less: COGS (1,200 units $800)960,000

Throughput contribution margin4,440,000

Less: Operating expenses

Direct labour (1,500 $1,500)$2,250,000

Variable MOH (1,500 $300)450,000

Variable S&A (1,200 $70)84,000

Fixed MOH1,200,000

Fixed selling and administration expenses100,0004,084,000

Net Income $356,000

(e) When production is greater than sales, variable costing net income is greater than throughput costing net income by an amount equal to the number of units in ending inventory times the per unit variable conversion costs (direct labour and variable overhead). Per unit cost = $1,500 + $300 = $1,800 Ending inventory = 1,500 produced 1,200 sold = 300 units

Costs deferred in ending inventory = 300 $1,800 = $540,000


Less: conversion costs deferred in ending inventory 540,000

Throughput costing net income$356,000

EXERCISE 8-17(a) Absorption costing: First determine per unit absorption costing COGSVariable manufacturing costs$40.00

Fixed manufacturing costs ($100,000 10,000)10.00

Per unit absorption costing COGS:$50.00

ASIAN WINDOWS

Income Statement

For the Year Ended December 31, 2012Absorption Costing

_______________________________________________________________

Sales (8,500 shades $90)$765,000

Less: COGS (8,500 shades $50)425,000

Gross profit340,000

Less: selling and administration expenses

Variable (8,500 $9)$76,500

Fixed 250,000326,500

Net Income $13,500

(b) ASIAN WINDOWS

Income Statement

For the Year Ended December 31, 2012Variable Costing

Sales (8,500 shades $90)$765,000


Variable COGS (8,500 shades $40)$340,000

Variable S&A (8,500 units $9)76,500 416,500

Contribution margin 348,500

Less: fixed costs


Fixed S&A expense250,000 350,000

Net Income before tax $(1,500)

EXERCISE 8-18(a)(1) Variable manufacturing costs$40.00

Fixed manufacturing costs ($100,000 8,000)12.50

Per unit normal cost$52.50

(a)(2) ASIAN WINDOWS


For the year ended December 31, 2012Sales (8,500 units $90)$765,000

Cost of goods sold:

Beginning inventory



Less: ending inventory (1,500 $52.50)78,750


Less: volume variance [$100,000 (10,000 $12.50)]25,000 421,250

Gross Margin 343,750

Less: S&A [(8,500 x $9) + $250,000] 326,500

Net Income $17,250

(b) Normal costing net income$17,250

Less:

Costs deferred in ending inventory [1,500 ($12.50 $10)] 3,750

Absorption costing net income$13,500

EXERCISE 8-19

(a) Manufacturing Cost Per UnitVariable Costing

Direct material$6.50

Direct labour2.75

Variable manufacturing overhead 5.75

Manufacturing cost per unit$15.00

EXERCISE 8-19 (Continued)

(b) BOBS COMPANY

Income StatementVariable CostingFor the Year Ended December 31, 2012

Sales (80,000 $25)$2,000,000


Variable COGS (80,000 $15)$1,200,000

Variable S&A (80,000 $3.90)312,000 1,512,000


Less: fixed costs


Fixed S&A expense240,100 525,100

Net Income before tax $(37,100)

EXERCISE 8-20(a) Absorption costing per unit manufacturing cost:

Direct materials$ 6.50

Direct labour2.75


Fixed manufacturing overhead ($285,000 95,000) 3.00

Absorption manufacturing cost per unit$18.00

(b) BOB'S COMPANY

Income StatementAbsorption CostingFor the Year Ended December 31, 2012Sales (80,000 lures $25)$2,000,000

Less: COGS (80,000 lures $18.00) 1,440,000

Gross profit 560,000


Variable (80,000 lures $3.90)$312,000

Fixed 240,100 552,100

Net Income $7,900

EXERCISE 8-21(a)(1) Normal costing per unit manufacturing cost:

Direct materials$ 6.50

Direct labour2.75


Pre-determined overhead rate ($285,000 93,860) 3.04

Normal manufacturing cost per unit$18.04

(a)(2) BOBS COMPANYIncome StatementNormal Costing

For the year ended December 31, 2012

Sales (80,000 lures $25)$2,000,000

Cost of goods sold:

Beginning inventory

Plus: Cost of goods manufactured

(95,000 $18.04)$1,713,800

Goods available for sale 1,713,800

Less: ending inventory (15,000 $18.04) 270,600

Cost of goods sold 1,443,200

Plus: volume variance [$285,000 (95,000 $3.04)] 3,800 1,439,400

Gross Margin 560,600

Less: S&A [(80,000 $3.90) + $240,100] 552,100

Net Income $ 8,500

(b) Normal costing net income$ 8,500

Less:

Costs deferred in ending inventory [15,000 ($18.04 $18)] 600


EXERCISE 8-22(a) & (b) Manufacturing Cost Per Unit

AbsorptionVariable

Direct material$0.26$0.26

Direct labour 0.34 0.34

Variable manufacturing overhead 0.38 0.38

Fixed manufacturing overhead

($96,459 260,700) 0.37

Manufacturing cost per unit$1.35$0.98

(c)

EMPEY MANUFACTURING

Income Statement

For the Year Ended December 31, 2012Absorption Costing

Sales (260,700 units $2)$521,400

Less: COGS (260,700 units $1.35) 351,945

Gross profit 169,455


Variable (260,700 units $0.26)$67,782

Fixed 81,125148,907

Net Income $20,548

(d)Net income is the same under both costing methods, $20,548. The net incomes are the same because production equals sales for the year. When this condition occurs, both methods deduct all of the fixed manufacturing overhead costs in the current year. There is no ending inventory in which fixed manufacturing overhead costs can be deferred. (e)It would be beneficial for Empey Manufacturing to prepare both a variable costing income statement and an absorption costing income statement for a variety of reasons. First, to satisfy the requirements of generally accepted accounting principles, the company is required to prepare an absorption costing income statement.

EXERCISE 8-22 (Continued) However, management frequently requests a variable costing income statement because it provides useful information for decision making purposes. The variable costing income statement provides information that is necessary for cost-volume-profit analysis as well as incremental analysis. In addition, net income calculated in a variable costing income statement more closely follows changes in sales, thus it is a better indicator of performance. Also, net income calculated in a variable costing income statement is not affected by changes in production the way absorption costing net income is. Finally, variable costing statements are more closely matched to the actual cash flow in an organization as the manufacturing overhead costs are expensed in the month in which the cash outlay occurs.EXERCISE 8-23(a) Manufacturing Cost Per UnitVariable Costing

Direct material ($70,000 10,000 units produced)$7.00

Direct labour ($30,000 10,000 units)3.00

Variable manufacturing overhead ($25,000 10,000 units) 2.50


Finished goods inventory = (10,000 8,500 units) $12.50 = $18,750(b)Absorption costing would show a higher net income because a portion of the fixed costs are deferred to future periods in the ending inventory. As illustrated below, FGI will be $6,000 higher under absorption costing which will cause its net income to be $6,000 higher.

Manufacturing Cost Per UnitAbsorption Costing

Variable costing per unit (from (a))$12.50

Fixed Manufacturing overhead ($40,000 10,000) 4.00


Finished goods inventory cost = (10,000 8,500 units) $16.50 = $24,750

EXERCISE 8-23 (Continued)

Inventory (absorption costing)$24,750

Inventory (variable costing)18,750

Fixed overhead deferred in ending inventory$6,000

Or, fixed manufacturing overhead per unit x ending inventory

$40,000 10,000 = $4.00 1,500 = $6,000EXERCISE 8-24(a)Variable utility expense: $3,000

(12 months x 500 hours per month x $0.50 per hour)

Fixed utility expense: $24,000

(12 months $2,000 per month)

Manufacturing cost using variable approach:

Direct material $54,000

Direct labour 37,000

Indirect material (nails) 350

Utilities (variable) 3,000

$94,350

(b)Manufacturing cost using absorption approach:

Variable cost from (a) $94,350

Utilities (fixed) 24,000

Rent 21,400

$139,750

(c)The entire difference in costs between the two methods results from having fixed overhead included as part of manufacturing costs only under the absorption costing method. This difference amounts to $45,400 (Fixed utilities cost, $24,000 + Fixed rent, $21,400).

EXERCISE 8-25First determine unit manufacturing costs:

TPCVCAC

Direct materials$8.00$8.00$8.00

Direct labour 9.00 9.00

Variable MOH12.00 12.00

Fixed MOH ($18,000 3,000) 6.00

Unit manufacturing cost$8.00$29.00$35.00

Then determine the value of ending inventory:

TPCVCAC

Beginning inventory (100 units)$800 $2,900$3,500

Finished goods added (3,000 units)24,00087,000105,000

Goods available for sale (3,100 units)24,80089,900108,500

Cost of goods sold (2,800 units)22,40081,20098,000

Value of ending inventory (300 units)$2,400$8,700$10,500

(a) Therefore, absorption costing net income will be $1,800 more than net income using variable costing: FMOH deferred in ending inventory equals 300 units $6.00 FMOH per unit, or ($10,500 $8,700).

(b) And, variable costing net income will be $6,300 more than net income using throughput costing: conversion costs deferred in ending inventory equals 300 units $21.00 per unit, or ($8,700 $2,400).SOLUTIONS TO PROBLEMSSet A*PROBLEM 8-26A

(a) (1) Manufacturing Cost Per UnitAbsorption Costing

Variable manufacturing costs ($40 + $16 + $4)$60.00

Fixed Manufacturing overhead ($200,000 10,000) 20.00


(2) BLUE MOUNTAIN PRODUCTSAbsorption Costing Income Statement

For the Month Ended June 30, 2012 _______________________________________________________________

Sales (9,000 units $150)$1,350,000

Less: COGS (9,000 units $80)720,000

Gross profit630,000


Variable (9,000 units $6)$54,000

Fixed 400,000454,000

Net Income $176,000

(b) (1) Manufacturing Cost Per UnitVariable CostingVariable manufacturing costs ($40 + $16 + $4) = $60

(2) BLUE MOUNTAIN PRODUCTSVariable Costing Income Statement

For the Month Ended June 30, 2012Sales (9,000 units $150)$1,350,000



Variable S&A (9,000 units $6)54,000594,000


Less: fixed costs ($200,000 + $400,000)600,000

Net Income before tax$156,000

PROBLEM 8-26A (Continued)(c)

When production exceeds sales, absorption costing net income will exceed variable costing net income by an amount equal to the fixed overhead rate times the number of units in ending inventory. The difference in net income is $20,000 ($176,000 $156,000) which equals the 1,000 tents in ending inventory times the $20 fixed overhead rate.

(d) (1) The throughput manufacturing cost consists of direct material only, so the per unit rate would be $40. (2) BLUE MOUNTAIN PRODUCTSThroughput Costing Income Statement

For the Month Ended June 30, 2012Sales (9,000 units $150)$1,350,000

Less: COGS (9,000 units $40)360,000

Throughput contribution margin990,000


Variable COGS (10,000 units ($16 + $4)) $200,000

Variable S&A (9,000 units $6)54,000

Fixed ($200,000 + $400,000)600,000$854,000


(e) The difference is $20,000 which is the per unit deferred variable conversion costs times the number of tents in ending inventory, or 1,000 tents (direct labour, $16 + variable MOH, $4). PROBLEM 8-27A

(a) Required calculations for variable costing, 2012:Sales ($2,500 6,000 units)$15,000,000

Per unit variable manufacturing costs: ($2,500 0.15)$375

Variable manufacturing costs (8,000 $375)$3,000,000

Ending inventory (8,000 manufactured 6,000 sold)2,000 units

Variable selling expenses (6,000 ($2,500 0.20))$3,000,000

Required calculations for variable costing, 2013


Beginning inventory (2,000 units $375 per unit)$750,000

Ending inventory (2,000 + 6,000 8,000)


AFN COMPANY

Income StatementVariable Costing For the Years Ended December 31

____________________________________________________________

20122013

Sales (6,000; 8,000)$15,000,000$20,000,000

Less: Variable costs

Inventory, beginning 750,000

Plus: Cost of goods manufactured3,000,0002,250,000

Cost of goods available for sale3,000,0003,000,000

Less: Inventory, ending750,000

Variable cost of goods sold2,250,0003,000,000

Variable selling and administrative3,000,0004,000,000

Total variable costs$5,250,0007,000,000

Contribution margin9,750,00013,000,000

Less: fixed costs 3,800,0003,800,000

Net income $5,950,000$9,200,000

PROBLEM 8-27A (Continued)

(b) Required calculations for absorption costing, 2012:

Sales ($2,500 6,000 units)$15,000,000

Variable manufacturing costs per unit: ($2,500 0.15)]$375

Fixed manufacturing costs per unit: ($3,200,000 8,000)$400

Ending inventory (8,000 manufactured 6,000 sold)2,000 units


Required calculations for absorption costing, 2013


Fixed manufacturing costs per unit: ($3,200,000 6,000)$533.33

Beginning inventory (2,000 units $775 per unit)$1,550,000



AFN COMPANY


For the Years Ended December 31

____________________________________________________________

20122013

Sales (6,000; 8,000)$15,000,000$20,000,000

Less: Cost of goods sold

Inventory, beginning1,550,000

Plus: Cost of goods manufactured6,200,0005,450,000

Cost of goods available for sale6,200,0007,000,000

Less: Inventory, ending1,550,000

Cost of goods sold$4,650,0007,000,000

Gross margin10,350,00013,000,000

Less: Selling and admin costs 3,600,0004,600,000

Net income $6,750,000$8,400,000


(c)Reconciliation, 2012

Variable costing net income $5,950,000

Plus: Fixed MOH deferred in ending inventory

(2,000 units $400 per unit) 800,000

Absorption costing net income $6,750,000

Reconciliation, 2013


Less: Fixed MOH released from beginning

Inventory (2,000 $400) 800,000


In 2012, with variable costing, fixed manufacturing overhead of $3.2 million is expensed. Under absorption costing, only $2.4 million is expensed through cost of goods sold, and the balance ($800,000) becomes part of the ending inventory. Therefore, absorption costing net income is $800,000 more than variable costing net income.

In the following year, all the units that were in inventory at the end of 2012 are sold. The result is an additional $800,000 cost of goods sold under the absorption costing method, and absorption costing net income is $800,000 less than variable costing net income.

Over the two years, when sales were equal to production, the two cumulative net incomes are equal.

($5,950,000 + $9,200,000 = $6,750,000 + $8,400,000)(d)Income parallels sales under variable costing as seen in the increase in net income in 2012 when 1,000 additional units were sold. In contrast, under absorption costing, income parallels production as seen in the higher net income in 2013 when production exceeded sales by 2,000 units.

PROBLEM 8-28A

(a) BASIC ELECTRIC MOTORS DIVISION

Income Statement

For the Year Ended 2012Absorption Costing

_______________________________________________________________

Units produced250,000200,000

Units sold200,000200,000

Sales ($8)$1,600,000$1,600,000

Less: Cost of goods sold ($5.00; $5.50)1,000,0001,100,000

Gross profit600,000500,000

Less: Selling and Administration

(200,000 $0.50) + $12,000112,000112,000

Net Income $488,000$388,000

(b) BASIC ELECTRIC MOTORS DIVISION

Income Statement

For the Year Ended 2012Variable Costing

_______________________________________________________________


Units sold200,000200,000

Sales ($8)$1,600,000$1,600,000

Less: Variable cost of goods sold ($3.00)600,000600,000

Variable selling and admin ($0.50)100,000100,000


Less: Fixed manufacturing 500,000500,000

Fixed selling and admin12,00012,000

Net Income $388,000$388,000


(c)If the company produces 250,000 units, but only sells 200,000 units, then 50,000 units will remain in ending inventory. Under absorption costing these 50,000 units will each include $2 of fixed manufacturing overheada total of $100,000. However, under variable costing, fixed manufacturing overhead is expensed when incurred. This accounts for the $100,000 difference ($488,000 $388,000) in net income. This is summarized as:

Net income under variable costing$388,000

Plus: Fixed manufacturing overhead included in ending inventory (50,000 units $2) 100,000Net income under absorption costing$488,000

When production equals sales, there is no increase in ending inventory, so there is no opportunity to defer fixed overhead income is the same under both methods.(d)Variable costing has a number of advantages over absorption costing for decision making and evaluation purposes.

The use of variable costing is consistent with cost-volume-profit and incremental analysis.

Net income computed under variable costing is unaffected by changes in production levels. Note that in our example, under variable costing the companys net income is $388,000 no matter the level of production. Net income computed under variable costing is closely tied to changes in sales levels (not production levels), and therefore provides a more realistic assessment of the companys success or failure during a period. The presentation of fixed and variable cost components on the face of the variable costing income statement makes it easier to identify these costs and understand their effect on the business. Under absorption costing the allocation of fixed costs makes it difficult to evaluate the impact of fixed costs on the companys results.

PROBLEM 8-29A

(a)

Per unit product cost: $30 + $40 + $10 + ($70,000 2,000) = $115 ALTA PRODUCTS LTD.

Income StatementAbsorption CostingMonth ended August 31, 2012______________________________________________________________

Sales (1,700 $175)$297,500

Less: COGS

Inventory, beginning$

Plus: Cost of goods manufactured230,000

Cost of goods available for sale230,000


Gross profit102,000


[(6% $297,500) + $50,000] 67,850

Net income $34,150

(b) ALTA PRODUCTS LTD.

Income StatementVariable Costing Month ended August 31, 2012_____________________________________________________________

Sales $297,500

Less: Variable COGS





Variable cost of goods sold136,000

Variable selling and administrative17,850 153,850


Less: fixed costs ($70,000 + $50,000) 120,000

Net income $23,650


(c) Fixed overhead cost per unit = $70,000 2,000 = $35 per unit Reconciliation Income under variable costing$23,650 Plus: Fixed costs deferred in inventory (300 $35) 10,500 Income under absorption costing $34,150(d) ALTA PRODUCTS LTD.

Income StatementThroughput Costing Month ended August 31, 2012______________________________________________________________

Sales (1,700 units $175)$297,500

Less: COGS (1,700 units $30) 51,000

Throughput contribution margin 246,500


Variable COGS (2,000 ($40 + $10)) $100,000

Variable S&A (6% Sales)17,850

Fixed ($70,000 + $50,000)120,000 237,850

Net Income before tax $8,650

(e)Reconciliation, 2012

Variable costing net income $23,650

Less: costs deferred in ending inventory

[($40 + $10 ) 300 units] 15,000

Throughput costing net income$8,650

(f) The proponents of variable costing appeal to the cost avoidance criterion as a necessary condition for asset recognition. The incurrence of fixed manufacturing costs this period will not allow the firm to avoid or eliminate them next period, so fixed manufacturing costs should not be recognized as assets. It is also pointed out that use of absorption costing can lead to manipulation of the net income figure by managing levels of production and inventory.


The proponents of absorption costing argue that the finished goods should bear a fair share of all the costs that were incurred to bring the goods to saleable condition, and that all costs should be properly included in inventory. Absorption costing is the only method allowed in Canada for externally reporting, and it is argued that in the long run, variable costing can be misleading for purposes of long-run costing and pricing.*PROBLEM 8-30A

(a)(1) Manufacturing cost per unit using normal costing:Direct material$30

Direct labour40

Variable overhead10

Fixed overhead ($70,000 2,500 units)28

$108

(a)(2)

ALTA PRODUCTS LTD.

Income StatementNormal CostingMonth ended August 31, 2012

______________________________________________________________

Sales (1,700 $175)$297,500

Less: COGS





Unadjusted cost of goods sold183,600

Plus: volume variance*14,000197,600

Gross profit99,900


[(6% $297,500) + $50,000] 67,850

Net income $32,050

*(2,500 2,000) $28(b) Reconciliation

Normal costing net income$32,050

Plus: Additional fixed MOH deferred in ending inventory

[300 units ($35 $28)] 2,100

Absorption costing net income (from P8-29A)$34,150

PROBLEM 8-31A

(a) Variable Costing Income Statement

Year 1Year 2

Sales in units4,0005,000

Sales ($500)$2,000,000$2,500,000

Less: Variable costs ($320) 1,280,000 1,600,000

Contribution margin 720,000 900,000

Less: fixed costs 280,0001 350,0002

Net income $440,000 $550,000

1$180,000 + $100,000 2$210,000 + $140,000 (b)Ending inventory, Year 1: (6,000 4,000) 2,000 units

Fixed MOH per unit: ($180,000 6,000)$30

ReconciliationYear 1Year 2

Variable costing net income$440,000$550,000


(2,000 units $30) 60,000

Less: Fixed MOH released from beginning 60,000

inventory (2,000 units $30)

Absorption costing net income $500,000$490,000

(c)Amanjeet lost her bonus because the company uses absorption costing. Since production was lower than sales in Year 2 and there was no inventory at year end, under absorption costing, all of Year 2's fixed overhead costs are expensed as well as the fixed overhead costs that were deferred into inventory as a result of production being greater than sales in Year 1. PROBLEM 8-31A (Continued)

Variable costing more accurately measures performance. Income for a period is not affected by changes in absorption of fixed overhead costs resulting from building or reducing inventory. Other things remaining equal, profits move in the same direction as sales when variable costing is in use. It follows management's thinking more closely than does absorption costing, and subsequently, management finds it easier to understand and to use variable cost reports.

Another reason for Amanjeet not receiving a bonus is the higher fixed manufacturing costs of production over the prior year. For the 6,000 units produced in Year 1 the fixed manufacturing costs were $180,000 whereas for the 3,000 units produced in Year 2 the fixed manufacturing costs (before factoring in the fixed manufacturing OH released from the units of beginning inventory) were $210,000 an increase of $30,000 (which would account for more than 1/5 of the shortfall of the 25% targeted increase in net income).*PROBLEM 8-32A

Unit product costs:AbsorptionVariableTPC

Direct materials ($50) $1,000,000 $1,000,000 $1,000,000

Direct labour ($37.50) 750,000 750,000

Variable MOH ($22.50) 450,000 450,000

Fixed manufacturing overhead 800,000

$3,000,000 $2,200,000 $1,000,000

Cost per unit (20,000 units) $150.00 $110.00$50.00

Fixed manufacturing overhead product cost under absorption costing: $800,000 20,000 units = $40 per unit

Marketing cost per unit: $180,000 18,000 units = $10 per unit

(a) XANTRA Corp.

Income Statement Year ended December 31, 2012 Absorption Costing______________________________________________________________

Production in units20,000

Sales in units

18,000

Sales (18,000 $200)$3,600,000

Less: COGS


Plus: Cost of goods manufactured ($150)3,000,000

Cost of goods available for sale3,000,000

Less: Inventory, ending ($150)300,000

Cost of goods sold2,700,000

Gross profit900,000

Less: Marketing costs

Variable180,000

Fixed200,000380,000

Net income $520,000

PROBLEM 8-32A (Continued) (b) XANTRA Corp.Variable Costing Income Statement Year ended December 31, 2012______________________________________________________________


Sales in units

18,000

Sales ($200)$3,600,000

Less: Variable COGS


Plus Cost of goods manufactured ($110)2,200,000


Less: Inventory, ending ($110)220,000

Variable cost of goods sold1,980,000

Variable marketing180,000 2,160,000

Contribution Margin 1,440,000

Less: fixed costs ($800,000 + $200,000) 1,000,000

Net income $440,000

(c) Reconciliation



(2,000 units $40) 80,000

Absorption costing net income $520,000

(d) Break-even (BE) point: SP (X) VC (X) = FC

Where

SP is the selling price

X is the number of units

VC is the variable cost

$200(X) ($110X + $10X) = $800,000 + $200,000

$80X = $1,000,000

X = 12,500 units


(e) XANTRA Corp. Income Statement

Year ended December 31, 2012Throughput Costing______________________________________________________________


Sales in units

18,000

Sales ($200)$3,600,000

Less: COGS ($50) 900,000

Throughput contribution margin 2,700,000


Variable COGS ($750,000 + $450,000)$1,200,000

Variable Marketing180,000

Fixed ($800,000 + $200,000)1,000,000 2,380,000

Net income $320,000

(f)Reconciliation

Throughput costing net income $320,000

Plus: costs deferred in ending inventory

[2,000 ($37.50 + $22.50)] 120,000


*PROBLEM 8-33A

(a)(1)Unit product cost:Normal

Direct materials ($1,000,000 20,000 units) $50.00

Direct labour ($750,000 20,000 units) 37.50

Variable MOH ($450,000 20,000 units) 22.50

Fixed MOH ($800,000 25,000 units) 32.00

Cost per unit $142.00

(a)(2) XANTRA Corp.

Income StatementNormal Costing Year ended December 31, 2012

______________________________________________________________


Sales in units

18,000

Sales (18,000 $200)$3,600,000

Less: COGS


Plus: Cost of goods manufactured 2,840,000


Less: Inventory, ending 284,000

Cost of goods sold2,556,000

Volume Variance ($800,000 (20,000 $32))160,0002,716,000

Gross profit884,000

Less: Marketing costs

Variable180,000

Fixed200,000380,000

Net income $504,000

(b) Reconciliation



[2,000 units ($40 $32)] 16,000


PROBLEM 8-34A

(a)Due to the shutdown arising from the material shortage, the firm has had to reduce inventory. In effect, fixed costs from beginning inventory are being expensed in the current period, and the firm has been unable to defer current period fixed costs because it has been unable to restore inventory levels.

(b)If the firm can restore inventory levels in the last month, they will be able to defer some of the current period's fixed costs and can eliminate the fixed overhead adjustment. Some may raise the issue of whether manipulating earnings in this way is ethical. Most managers feel it is ethical provided there is a real action takenactually increasing inventory, and the action is within the boundaries of normal operations. However, it is still manipulation.

(c)A variable cost statement would not be affected by the changing inventory. First determine variable costs for both statements. Variable cost, Jan 1 = Total cost less fixed costs

= $212,000 $30,000 = $182,000

As a percentage of sales = $182,000 $268,000 = 68%

Because sales and variable costs have remained constant, the November statement will also reflect 68% variable costs.

Variable cost, Nov = 68% $294,800 = $200,464

SUN COMPANY

Variable Costing Income Statement

Forecast of Operating Results______________________________________________________________

Year 1Year 2

Sales $268,000$294,800

Less: Variable costs 182,000200,464

Contribution margin 86,00094,336

Less: Fixed costs 70,200 71,540

Net income $15,800$22,796

PROBLEM 8-35A

(a)In order to apply variable costing to the Daniels Tool & Die operations, it is necessary to first remove fixed manufacturing costs from the inventory values and the cost of goods sold.

Fixed MOH per unit = $25,000 25,000 DLH = $1.00 per DLHBeginning finished goods inventory:

Using absorption costing $18,000

Less: Fixed MOH included

1,050 hours $1.00 1,050

Using variable costing $16,950

Ending finished goods inventory



820 hours $1.00 820


Beginning work in process inventory:



1,600 hours $1.00 1,600


Ending work in process inventory



2,100 hours $1.00 2,100



Variable cost of goods manufactured:

Raw materials put into production $370,000

Direct labour [23,000 ($150,000 25,000)] 138,000

Variable overhead [23,000 ($155,000 25,000)] 142,600

Total variable manufacturing costs 650,600

Plus: Variable beginning work in process 46,400

697,000

Less: Variable ending work in process 61,900

Variable cost of goods manufactured$635,100


Variable beginning finished goods inventory $16,950

Plus: Variable cost of goods manufactured635,100

Variable cost of goods available for sale$652,050

Less: Variable ending finished goods inventory13,180

Variable cost of goods sold$638,870

Daniels Tools & Die Corporation



Sales$1,015,000


Cost of goods sold$638,870

Sales commissions (5% Sales)50,750 689,620


Less: Fixed manufacturing overhead37,400

Selling & Admin ($95,000 $50,750 + $75,000)119,250 156,650

Operating income$168,730


(b)The difference in the operating income of $270 is caused by the different treatment of fixed manufacturing overhead. Under absorption costing, fixed overhead costs are assigned to inventory and are not expensed until the goods are sold. Under variable costing, these costs are treated as expenses in the period incurred. Since the direct labour hours in the work in process and finished goods inventories had a net increase of 270 hours, the absorption costing operating profit is higher because the fixed factory overhead associated with the increased labour hours in inventory is not expensed when absorption costing is used.

Variable costing operating income$168,730

Plus: FMOH deferred in work in process

Inventory [$1.00 (2,100 1,600)] 500

169,230

Less: FMOH released from finished goods

inventory [$1.00 (1,050 820)] 230


(c) The advantages of using variable costing follow.

The fixed manufacturing costs are reported at incurred values, not at absorbed values, which increases the likelihood of better control over fixed costs.

Profits are directly influenced by changes in sales volume and not by changes in inventory levels.

Contribution margin by product line, territory, department, or division is emphasized and more readily ascertainable.

The disadvantages of using variable costing follow.

PROBLEM 8-35A (Continued) Variable costing is not recommended for tax reporting, for external financial reporting; therefore, companies need to adjust variable costing amounts for these purposes.

Costs other than variable costs (i.e., fixed costs and total production costs) may be ignored when making decisions, especially long-term decisions.

With the advancement of factory technology and the movement toward a fully automated factory, the fixed factory overhead may be a significant portion of the production costs. To ignore these significant costs in inventory valuation may not be acceptable.

SOLUTIONS TO PROBLEMSSet B

*PROBLEM 8-36B

(a)(1) Direct material$10

Direct labour10


Fixed Manufacturing overhead ($150,000 50,000) 3

Manufacturing cost per unit$28

(2) SPONGEFUN PRODUCTS

Absorption Costing Income Statement

For the year ended December 31, 2012 _________________________________________________________

Sales (46,000 units $60)$2,760,000

Less: COGS (46,000 units $28)1,288,000


Less: Variable S&A (46,000 $8)$368,000

Fixed S&A300,000668,000


(b) (1) Direct materials$10

Direct labour10


Manufacturing cost per unit $25

(2) SPONGEFUN PRODUCTSVariable Costing Income Statement


____________________________________________________________

Sales (46,000 units $60)$2,760,000


Variable COGS (46,000 units $25)$1,150,000

Variable S&A (46,000 units $8)368,0001,518,000


Less: fixed costs ($150,000 + $300,000)450,000


PROBLEM 8-36B (Continued)(c)

When production exceeds sales, absorption costing net income will exceed variable costing net income by an amount equal to the fixed overhead rate times the number of units in ending inventory. The difference in net income is $12,000 ($804,000 $792,000) which equals the 4,000 units in ending inventory times the $3 fixed overhead rate.

(d) (1) Throughput manufacturing cost consists of direct material only, so the rate would be $10 per unit.


Throughput Costing Income Statement


____________________________________________________________

Sales (46,000 units $60)$2,760,000

Less: COGS (46,000 units $10) 460,000



Variable COGS (50,000 units ($10 + $5)) $750,000

Variable S&A (46,000 units $8)368,000

Fixed ($150,000 + $300,000)450,000 1,568,000


(e) The difference is $60,000 which is the per unit deferred variable conversion costs times the number of units in ending inventory, or 4,000 (direct labour, $10 + variable MOH, $5).

PROBLEM 8-37B

(a)(1) Direct material$10.00

Direct labour10.00


Fixed manufacturing overhead ($150,000 60,000) 2.50



Normal Costing Income Statement


_______________________________________________________

Sales (46,000 units $60)$2,760,000

Less: COGS (46,000 units $27.50)$1,265,000

Volume variance (10,000 $2.50) 25,0001,290,000


Less: Variable S&A (46,000 $8)$368,000

Fixed S&A300,000668,000

Net income $802,000

(b) Reconciliation



[4,000 units ($28.00 $27.50)] 2,000


PROBLEM 8-38B

ZAKI METAL COMPANY


For the Year Ended December 31, 2012(a) Required calculations for variable costing 2012:Sales ($120 50,000 km)$6,000,000

Per unit variable manufacturing costs: ($120 0.25)$30


Ending inventory (60,000 manufactured 50,000 sold)10,000 km

Variable selling expenses (50,000 $9)$450,000

ZAKI METAL COMPANY


For the Year Ended December 31, 2012Sales $6,000,000

Less: Variable COGS


Plus: Cost of goods manufactured1,800,000




Variable selling 450,0001,950,000


Less: fixed costs

Fixed manufacturing costs1,500,000

Fixed administrative costs300,0001,800,000

Net income $2,250,000

PROBLEM 8-38B (Continued)

Required calculations for variable costing, 2013:Sales ($120 60,000 units)$7,200,000



Beginning inventory (10,000 units $30 per unit)$300,000



ZAKI METAL COMPANY



Less: Variable COGS

Inventory, beginning$300,000



Less: Inventory, ending


Variable selling and administrative540,0002,340,000


Less: Fixed costs

Fixed manufacturing costs1,500,000

Fixed administrative costs300,0001,800,000


(b) Required calculations for absorption costing 2012:

Sales ($120 50,000 units)$6,000,000


Per unit fixed manufacturing costs: ($1,500,000 60,000)$25

Absorption manufacturing costs (60,000 $55)$3,300,000

Ending inventory (60,000 50,000) $55$550,000

Selling expenses (50,000 $9)$450,000


ZAKI METAL COMPANY



Less: COGS




Less: Inventory, ending550,0002,750,000



Selling costs450,000

Administrative costs300,000750,000


Required calculations for absorption costing for 2013:

Sales ($120 60,000 units)$7,200,000


Per unit fixed manufacturing costs: ($1,500,000 50,000)$30

Absorption manufacturing costs (50,000 $60)$3,000,000

Beginning inventory (10,000 $55)$550,000



ZAKI METAL COMPANY



Less: COGS

Inventory, beginning$550,000






Selling costs540,000

Administrative costs300,000840,000


(c)Fixed manufacturing overhead in ending

inventory, 2012: (10,000 $25)$250,000



Plus: Fixed MOH deferred in ending inventory 250,000




Less: Fixed MOH released from beginning inventory 250,000


PROBLEM 8-38B (Continued)(d)Income parallels sales under variable costing as seen in the increase in net income in 2013 when 10,000 additional units were sold. In contrast, under absorption costing, income parallels production as seen in the higher net income in 2012 when production exceeded sales by 10,000 units.PROBLEM 8-39B

(a) HARRISON PUMPS DIVISION


For the Year Ended 2012_______________________________________________________________


Sales ($20.00)$1,200,000$1,200,000

Less: Cost of Goods Sold ($13.00; $11.40)780,000684,000



Variable ($1.00)60,00060,000

Fixed30,00030,000

Total fixed costs90,00090,000

Operating income $330,000$426,000

(b) HARRISON PUMPS DIVISION


For the Year Ended 2012

_____________________________________________________________Units produced60,000100,000

Sales ($20.00)$1,200,000$1,200,000

Less: Variable cost of goods sold ($9.00)540,000540,000

Variable selling and admin ($1.00)60,00060,000

600,000600,000


Less: Fixed manufacturing 240,000240,000

Fixed selling and admin30,00030,000

270,000270,000

Net income $330,000$330,000


(c) If the company produces 100,000 units, but only sells 60,000 units, then 40,000 units will remain in ending inventory. Under absorption costing these 40,000 units will each include $2.40 of fixed manufacturing overheada total of $96,000. However, under variable costing fixed manufacturing overhead is expensed when incurred. This accounts for the $96,000 difference ($426,000 $330,000) in net income. This is summarized as shown below.

Net income under absorption costing

$426,000

Less: Fixed manufacturing overhead included in

ending inventory (40,000 units $2.40 per unit) 96,000Net income under variable costing$330,000(d)Variable costing has a number of advantages over absorption costing for decision making and evaluation purposes.

The use of variable costing is consistent with cost-volume-profit and incremental analysis.

Net income computed under variable costing is unaffected by changes in production levels. Note that in our example, under variable costing the companys net income is $330,000 no matter what the level of production is.

Net income computed under variable costing is closely tied to changes in sales levels (not production levels), and therefore provides a more realistic assessment of the companys success or failure during a period.

The presentation of fixed and variable cost components separately on the variable costing income statement makes it easier to identify these costs and understand their effect on the business. Under absorption costing the allocation of fixed costs makes it difficult to evaluate the impact of fixed costs on the companys results.

PROBLEM 8-40B

(a)Variable production costs$20.00

Fixed MOH ($120,000 30,000)4.00

Cost per unitabsorption costing$ 24.00

Allerdyce Corporation Ltd.



_______________________________________________________________

20112012Total

Units Sold25,00035,00060,000

Sales ($35.00)$875,000$1,225,000 $2,100,000

Less: Cost of Goods Sold ($24)600,000840,0001,440,000

Gross profit275,000385,000 660,000

Less: Marketing costs50,00050,000100,000

Operating income $225,000$335,000 $560,000

(b) Allerdyce Corporation Ltd.



_______________________________________________________________

20112012Total

Units Sold25,00035,00060,000

Sales ($35.00)$875,000$1,225,000 $2,100,000

Less: Variable COGS ($20)500,000700,0001,200,000

Contribution margin375,000525,000 900,000

Less: fixed costs ($120,000 + $50,000)170,000170,000340,000

Operating income $205,000$355,000 $560,000


(c)Ending inventory2011: 30,000 produced 25,000 sold5,000 units

Ending inventory2012: 5,000 + 30,000 35,000nil units

FMOH per unit: $120,000 30,000 units$4.00 /unit

Reconciliation of net income

20112012Total

Variable costing net income$205,000 355,000$560,000

Plus: FMOH stored in ending

inventory (5,000 $4) 20,00020,000

Less: FMOH released in

beginning inventory

(5,000 $4) (20,000)(20,000)

Absorption costing net income$225,000 335,000$560,000

PROBLEM 8-41B

(a)Contribution margin per unit:

Sales $25.00


Manufacturing $9.00

Selling and Administration 6.0015.00

Contribution margin per unit $10.00

Fixed costs:July

Fixed manufacturing overhead$595,000

Adjust for under (over) applied fixed overhead (35,000)

Fixed manufacturing costs 560,000

Total selling and administrative 620,000

Less: variable selling and

administrative (70,000 $6) 420,000

Fixed selling and admin costs 200,000

Total fixed costs (same each month)$760,000

Break-even = $760,000 $10 = 76,000 units or

76,000 $25 = $1,900,000 Sales.


(b)(1)Abscorp Ltd.

Variable Costing Income Statements

JulyAugSep

Sales in units70,00075,00080,000

Sales ($25)$1,750,000$1,875,000$2,000,000

Variable production costs ($15)1,050,000 1,125,0001,200,000

Contribution margin 700,000 750,000800,000

Less: Fixed costs 760,000 760,000760,000

Operating income $(60,000) $(10,000)$40,000

(2)Inventory valuesJulyAugSep

Beginning inventory 5,000 20,00025,000

Plus: units manufactured85,000 80,00060,000

Units available for sale90,000100,00085,000

Less: units sold70,000 75,00080,000

Ending inventory20,000 25,0005,000

Fixed MOH per unitJulyAugSepTotal

Total fixed MOH costs$560,000$560,000$560,000$1,680,000

Budgeted production80,00080,00080,000240,000

Per unit cost$7.00$7.00$7.00$7.00

Reconciliation of net income

JulyAugSep

Variable costing net income $(60,000)$(10,000) $40,000

Plus: FMOH deferredend. inv. 140,000175,000 35,000

Less: FMOH released in beg. inv. (35,000)(140,000) (175,000)

Absorption costing net income $45,000$25,000$(100,000)


(3) In July, production exceeded sales by 15,000 units and, as a result, $105,000 ($7 15,000 units) of fixed manufacturing overhead cost was converted to inventory assets on the balance sheet under absorption costing.

In August, production exceeded sales by 5,000 units and, as a result, $35,000 ($7 5,000 units) of fixed manufacturing overhead cost was converted to inventory assets on the balance sheet under absorption costing.

In September, sales exceeded production by 20,000 units and, as a result, $140,000 ($7 20,000 units) of inventory assets were converted to expenses on the income statement under absorption costing.

PROBLEM 8-42B

(a)Fixed MOH per unit = $600,000 2,000 units = $300.


Variable costing net income310,000

Difference$90,000

Since absorption costing net income exceeds variable costing net income, this means sales must have been less than production, and $90,000 fixed manufacturing overhead was deferred in the ending inventory at $300 per unit. $90,000 $300 = 300 units

If 300 units are left in finished goods ending inventory, and there was no beginning inventory, then sales must have been 1,700 units

(2,000 300 = 1,700).

(b)Contribution margin = net income + fixed costs

Contribution margin = $310,000 + $1,000,000 = $1,310,000

(c)Gross margin = net income + selling and administrative expenses

Gross margin = $400,000 + $400,000 = $800,000

(d)Variable costs = Sales - contribution margin

Variable costs = $3,400,000 $1,310,000 = $2,090,000

Cost per unit = $2,090,000 1,700 = $1,229.41

(e)Absorption costs = Sales gross profit

Absorption costs = $3,400,000 $800,000 = $2,600,000

Cost per unit = $2,600,000 1,700 = $1,529.41

PROBLEM 8-43B

Variable cost per unit:

Direct material (2 kg. $10 per kg.)$20.00

Direct labour (1 hr $8 per hr)8.00

Variable MOH [($15,000 $6,000) 18,000 units]0.50

Variable manufacturing cost per unit28.50

Variable selling and admin [($40,000 $4,000) 10,000] 3.60

$32.10

WINGFOOT CO.


For the Year Ended June 30, 2012Sales in units10,000

Sales ($100)$1,000,000

Less:

Variable COGS ($28.50)$285,000

Variable selling and administrative ($3.60)36,000321,000

Contribution Margin679,000

Less:


Fixed administrative costs4,00010,000


Income tax (40%)267,600

Net income$401,400

PROBLEM 8-44B

(a)In order to apply variable costing to the Portland Optics operations, it is necessary to first remove fixed manufacturing costs from the inventory values and the cost of goods sold.

Beginning finished goods inventory:



1,080 hours ($130,000 32,500) 4,320


Ending finished goods inventory



550 hours ($176,000 44,000) 2,200


Beginning work in process inventory:



1,400 hours $4.00 5,600


Ending work in process inventory



2,500 hours $4.00 10,000



Variable cost of goods manufactured:

Raw materials put into production $210,000

Direct labour 435,000

Variable overhead [42,000 ($198,000 44,000)] 189,000

Total variable manufacturing costs 834,000

Plus: Variable beginning work in process 28,400

862,400

Less: Variable ending work in process 50,000

Variable cost of goods manufactured $812,400


Variable beginning finished goods inventory $ 20,680

Plus: Variable cost of goods manufactured 812,400

Variable cost of goods available for sale830,080

Less: Variable ending finished goods inventory11,800

Variable cost of goods sold $821,280


PORTLAND OPTICS INC.



Sales$1,520,000


Cost of goods sold$821,280

Sales commissions121,600 942,880


Less: Manufacturing overhead 175,000

Selling ($190,000 $121,600) 68,400

Administrative 187,000 430,400


(b) Two of the several advantages of using variable costing

rather than absorption costing are as follows.

Financial statements using variable costing are more easily understood because they show that profits move in the same direction as sales. This effect is more logical than that shown with absorption costing, where profit is affected by changes in inventory.

Variable costing facilitates the analysis of cost-volume-profit relationships by separating fixed and variable costs on the income statement.

SOLUTIONS TO CASES

CASE 8-45

(a)

Sales (20,000 seats $680)$13,600,000

Variable costs (20,000 seats $340)6,800,000


Fixed costs4,420,000

Net income$2,380,000

(b)Contribution margin ratio = $6,800,000 $13,600,000 = 50%

Break-even point in dollars = $4,420,000 0.50 = $8,840,000Margin of safety ratio = ($13,600,000 $8,840,000) $13,600,000 = 35%Degree of operating leverage = $6,800,000 $2,830,000 = 2.857(c)

Sales (20,000 seats $680)$13,600,000

Variable costs (20,000 seats $280)5,600,000


Fixed costs5,000,000

Net income$3,000,000

(d)Contribution margin ratio = $8,000,000 $13,600,000 = 58.82%

Break-even point = $5,000,000 0.5882 = $8,500,000 (rounded)Margin of safety = ($13,600,000 $8,500,000) $13,600,000 = 37.5%Degree of operating leverage = $8,000,000 $3,000,000 = 2.6667CASE 8-45 (Continued)

(e)By automating its manufacturing process the company will replace some of its variable costs with fixed costs. This shift toward more fixed costs will decrease its break-even point from $8,840,000 to $8,500,000 and increase its margin of safety from 35% to 37.5%. This means that under the old system sales could fall by 35% percent before the company would operate at a loss, whereas under the automated system they could only fall by 37.5%. Both of these findings suggest that the operations would be less risky with the automated system. However, the companys degree of operating leverage would decrease from 2.857 to 2.667. This would be bad if the company expects sales to increase, but would be good if the companys sales fall.

CASE 8-46

(a) Manufacturing cost per unit:

Direct materialsrubber$2.75

Direct labourball makers5.60

Variable manufacturing overhead

Other materialsindirect$1.40

Electricity usagefactory0.50

Water usagefactory0.15

Other labourindirect0.272.32


(b)

BIG SPORTS MANUFACTURING



Sales in units72,500

Sales ($18)$1,305,000

Less: Variable COGS

Beginning inventory (85,000 $9.67)$821,950

Units produced (35,000 $10.67)373,450

Total available for sale1,195,400

Ending inventory1494,325

Variable cost of goods sold701,075

Variable sell & admin ($0.40)29,000730,075


Less: Fixed costs


Fixed administrative costs83,000293,000


1Ending inventory = (12,500 x $9.67) + (35,000 x $10.67)

CASE 8-46 (Continued)

(c) Throughput costing per unit: Direct materialrubber$2.75

(d) This solution is prepared based on the assumption that the inventory system in use is first-in, first-out; and the $1.00 increase in variable manufacturing costs from 2011 to 2012 was not caused by any increase in the cost of the direct material. That is, the direct material rate remained the same for both years.


Throughput Costing Income Statement


Sales in units72,500

Sales ($18)$1,305,000

Less: Throughput COGS ($2.75) 199,375



Variable COGS ($5.60 + $2.32) $574,200

Variable S&A ($0.40)29,000

Fixed 293,000 896,200


(e)Unit product costs: Absorption costing

Total variable production costs-from (a)$10.67

Fixed MOH ($210,000 35,000)6.00

Cost per unit for 2012$16.67

Total variable production costs for 2011$9.67

Fixed MOH 4.00

Cost per unit for 2011$13.67


(f)



For the Year Ended December 31, 2012Sales in units72,500

Sales ($18)$1,305,000

Less: COGS

Beginning inventory (85,000 $13.67)$1,161,950

Units produced (35,000 $16.67)583,450

Total available for sale1,745,400

Ending inventory 754,325991,075

Gross margin313,925

Less: selling and administrative costs

Variable ($0.40)29,000

Fixed 83,000112,000


Ending inventory = (12,500 $13.67) + (35,000 $16.67)

(g)(1) Reconciliation of net income


Plus: FMOH deferred in ending inventory

(12,500 $4) + (35,000 $6) 260,000

Less: FMOH released in beginning inventory

(85,000 $4) (340,000)


(2) Break-even point = fixed costs CM ratio*

$293,000 (574,925 $1,305,000) = $666,000 (rounded)

$666,000 $18 = 37,000 units

*Cannot use CM per unit because variable costs are two different amounts.

CASE 8-46 (Continued) (3) Mr. Swetkowski is right in his thinking that variable costing has many advantages over the more traditional absorption costing technique. However, his conclusion that absorption costing should be stopped at Big Sports Manufacturing is incorrect. The company can learn many things about their operations by preparing the variable costing income statement, however they cannot simply discard absorption costing altogether. Absorption costing is recommended for external financial statements produced under generally accepted accounting principles (GAAP). With these standards in place, it would be better for Big Sports Manufacturing to produce both sets of financial statements.

CASE 8-47

(a)Per unit manufacturing costs: 2011 2012

Direct material$80.00 $80.00

Direct labour40.00 40.00

Variable manufacturing overhead35.00 35.00

Total variable unit cost155.00 155.00

Plus: fixed manufacturing overhead

($2,500,000 60,000 units)41.67

Plus: fixed manufacturing overhead

($2,500,000 50,000 units)50.00

$196.67 $205.00

Cost of goods sold: 2011

Beginning finished goods inventory$

Plus: cost of goods manufactured

(60,000 $196.67)rounded11,800,000


Less: ending inventory

[(60,000 54,000) 196.67]1,180,000

Cost of goods sold$10,620,000

Cost of goods sold: 2012

Beginning finished goods inventory$1,180,000

Plus: cost of goods manufactured

(50,000 $205.00)10,250,000


Less: ending inventory

[(110,000 108,000) $205.00]410,000

Cost of goods sold$11,020,000


WEI NAN COMPANY



2011 2012

Sales in units 54,000 54,000

Sales ($250 per unit)$13,500,000 $13,500,000

Cost of goods sold:10,620,000 11,020,000

Gross Profit2,880,000 2,480,000

Less: selling and administrative costs

[(54,000 $30) + $300,000]1,920,000 1,920,000

Net income$ 960,000 $

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