Question

During Heaton Company’s first two years of operations, it reported absorption costing net operating income as follows:

	Year 1			Year 2
Sales (@ $63 per unit)	$	1,260,000		$	1,890,000
Cost of goods sold (@ $35 per unit)		700,000			1,050,000
Gross margin		560,000			840,000
Selling and administrative expenses*		306,000			336,000
Net operating income	$	\254,000\		$	504,000

* $3 per unit variable; $246,000 fixed each year.

The company’s $35 unit product cost is computed as follows:

Direct materials	$	7
Direct labor		10
Variable manufacturing overhead		4
Fixed manufacturing overhead ($350,000 ÷ 25,000 units)		14
Absorption costing unit product cost	$	35

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
Units produced	25,000	25,000
Units sold	20,000	30,000

Required:

1. Using variable costing, what is the unit product cost for both years?

2. What is the variable costing net operating income in Year 1 and in Year 2?

3. Reconcile the absorption costing and the variable costing net operating income figures for each year.

Answer 1

Requirement: 1 Calculation of Unit cost Under Variable Costing Year 1 Direct Material 7.00 Direct Labor 10.00 Variable Manufacturing Overhead 4.00 Unit Cost 21.00 Year 2 7.00 10.00 4.00 21.00 Requirement: 2 Heatson company Variable Costing Income Statement Year 1 1260000 Year 2 1890000 Sales ( @61Per unit) Variable Expense : Variable cost of goods sold (@19) Variable Selling and Administrative Expense (@3) Total Varible Expenses Contribution Magin Fixed Expenses : Fixed manufacturing Overheads Fixed Selling and Administrative Expenses Total fixed Expenses Net Operating Income or loss 420000 60000 480000 780000 630000 90000 720000 1170000 350000 246000 596000 184000 350000 246000 596000 574000

Requirement: 3 Reconcile the variable costing and absorption costing Net income Year 1 Year 2 Variable Costing Net Operating Income 184000 574000 Add(Deduct) Fixed Manufacturing Overheads cost Deferred in (released From) inventory 70000 -70000 Absorption Costing Net Operating Income or loss 254000 504000