Question

The Hoffman Company uses an absorption-costing system based on standard costs. Total variable manufacturing cost, including direct material cost, is $3 per unit; the standard fixed manufacturing overhead costs are $480,000. Fixed manufacturing overhead is allocated at $8 per machine-hour ($480,000 / 60,000 machine-hours of denominator level). Selling price is $5 per unit. Variable operating (nonmanufacturing) cost, which is driven by units sold, is ginning inventory in 2014 is 40,000 units; ending inventory is 45,000 units. Sales in 2014 are 535,000 units. The same standard unit costs persisted throughout 2013 and 2014. For simplicity, assume that there are no price, spending, or efficiency variances. Read the requirements. Requirement 1. Prepare an income statement for 2014 assuming that the production-volume variance is written off at year-end as an adjustment to cost of goods sold. Complete the top half of the income statement first, then complete the bottom portion. (Label the variance as favorable (F) or unfavorable (U).) Absorption costing Requirements - X Revenues Cost of goods sold: Beginning inventory Variable manufacturing costs Allocated fixed manufacturing costs Cost of goods available for sale Deduct ending inventory Adjustment for production-volume variance Cost of goods sold Gross margin 1. Prepare an income statement for 2014 assuming that the production-volume variance is written off at year-end as an adjustment to cost of goods sold. 2. The president has heard about variable costing. She asks you to recast the 2014 statement as it would appear under variable costing. 3. Explain the difference in operating income as calculated in requirements 1 and 2 4. Graph how fixed manufacturing overhead is accounted for under absorption costing. That is, es: one for the budgeted fixed manufacturing overhead (which is equal to the actual fixed manufacturing overhead in this case) and one for the fixed manufacturing overhead allocated. Show the production-volume variance in the graph. Critics have claimed that a widely used accounting system has led to undesirable buildups of inventory levels. (a) Is variable costing or absorption costing more likely to lead to such buildups? Why? (b) What can be done to counteract undesirable inventory buildups?

Answer 1

2,675,000 Revenues (535000*5)(A) Cost of Goods sold Beginning Inventory (3+8/10) *40000 Variable Manufacturing Cost (535000+45000-40000)*3 Allocated Fixed manufacturing costs Cost of Goods Available for sale Less Ending Inventory (45000*3.80) Adjustment for Production Volume Variance (10*60000 - 540000) *.80 Cost of Goods Sold (B) Gross Margin (A-B) = (C) Operating Cost Variable operating costs Fixed operating costs Total Operating Cost (D) Net Income (C-D) 152,000 1,620,000 480,000 2,252,000 171,000 48,000 2,033,000 642,000 535,000 55,000 590,000 52,000