Question

Starfax, Inc., manufactures a small part that is widely used in various electronic products such as home computers. Results for the first three years of operations were as follows (absorption costing basis Sales Cost of goods sold GEOSS margin Selling and administrative expenses Net operating income (loss) Year 1 $1,000,000 760,000 240,000 230,000 $ 10,000 Year 2 $ 730,000 512.000 218,000 199,000 $20,000 20.000 Year 3 $1,000,000 788,500 211,500 230,000 $ (18,500) In the latter part of Year 2. a competitor went out of business and in the process dumped a large number of units on the market. As a result, Starfax's sales dropped by 20% during Year 2 even though production increased during the year Management had expected sales to remain constant at 40,000 units: the increased production was designed to provide the company with a buffer of protection against unexpected spurts in demand. By the start of Year 3, management could see that it had excess inventory and that spurts in demand were unlikely. To reduce the excessive inventories, Startax cut back production during Year 3, as shown below YOAT Production in units40,000 Sales in units 40.000 50,000 32,000 Year 3 32,009 40,000 Additional Information about the company follows: a. The company's plant is highly automated. Variable manufacturing expenses (direct materials, direct labor, and variable manufacturing overhead) total only $4.00 per unit, and fixed manufacturing overhead expenses total $600.000 per year b. A new fixed manufacturing overhead rate is computed each year based that year's actual fixed manufacturing overhead costs divided by the actual number of units produced C. Variable selling and administrative expenses were 54 per unit sold in each year. Fixed selling and administrative expenses totaled $70,000 per year. d. The company uses a FIFO inventory flow assumption (FIFO means first in first-out. In other words. It assumes that the oldest units in inventory are sold first.) Starfax's management can't understand why profits doubled during Year 2 when sales dropped by 20% and why a loss was incurred during Year 3 when sales recovered to previous levels. Required: 1. Prepare a variable costing income statement for each year. 2. Refer to the absorption costing income statements above. 8. Compute the unit product cost in each year under absorption costing. Show how much of this cost is variable and how much is b. Reconcile the variable costing and absorption costing net operating income figures for each year. Sb. If Lean Production had been used during Year 2 and Year 3, what would the company's net operating income for loss) have been in each year under absorption costing? < Prey 2 of 4 !!! Next >

Answer 1

1.

Income Statement (Variable Costing)
	Year 1	Year 2	Year 3
Sales Revenue	$    1,000,000	$         730,000	$     1,000,000
Variable Expenses
Cost of Goods Sold	$       160,000	$         128,000	$         160,000
Selling and Administrative Expenses	$       160,000	$         128,000	$         160,000
Variable Expenses	$       320,000	$         256,000	$         320,000
Contribution Margin	$       680,000	$         474,000	$         680,000
Fixed Expenses
Manufacturing Overhead	$       600,000	$         600,000	$         600,000
Selling and Administrative Expenses	$          70,000	$           70,000	$           70,000
Total Fixed Expenses	$       670,000	$         670,000	$         670,000
Net Income	$          10,000	$       -196,000	$           10,000

2a.

	Year 1	Year 2	Year 3
Variable Cost per unit	$              4.00	$                4.00	$                4.00
Fixed Cost per unit	$            15.00	$             12.00	$             18.75
Product Cost per unit	$            19.00	$             16.00	$             22.75

2b.

Reconciliation
	Year 1	Year 2	Year 3
Income as per Variable Costing	$    10,000.00	$ -196,000.00	$     10,000.00
Less : Fixed Overhead brought forward	$                   -	$                    -	$   216,000.00
Add : Fixed Overhead carried forward		$   216,000.00	$   187,500.00
Income as per Absorption Costing	$    10,000.00	$     20,000.00	$   -18,500.00

3.
Using lean manufacturing, income would be same as in variable costing.
Year 2 = ($196000)
Year 3 = $10000