Question

2.  Assume that the division is using absorption costing and that the divisional manager is given an annual bonus based on divisional operating income. If Mr. Cavalas wants to maximize his division’s operating income for the year, how many units should be scheduled for production during the last quarter?

Carlos Cavalas, the manager of Echo Products' Brazilian Division, is trying to set the production schedule for the last quarter of the year. The Brazilian Division had planned to sell 70,070 units during the year, but by September 30 only the following activity had been reported: Units Inventory, January 1 Production Sales Inventory, September 30 71,400 63,700 7,700 The division can rent warehouse space to store up to 29,800 units. The minimum inventory level that the division should carry is 2,000 units. Mr. Cavalas is aware that production must be at least 4,620 units per quarter in order to retain a nucleus of key employees. Maximum production capacity is 45,900 units per quarter. Demand has been soft, and the sales forecast for the last quarter is only 20,000 units. Due to the nature of the division's operations, fixed manufacturing overhead is a major element of product cost. Required: 1a. Assume that the division is using variable costing. How many units should be scheduled for production during the last quarter of the year? 1b. Will the number of units scheduled for production affect the division's reported income or loss for the year? 2. Assume that the division is using absorption costing and that the divisional manager is given an annual bonus based on divisional operating income. If Mr. Cavalas wants to maximize his division's operating income for the year, how many units should be scheduled for production during the last quarter?

Answer 1

1a.	Units to be produced (Variable costing)
					Units
	Sales for the last quarter				20000
	Add: Minimum inventory level				2000
					22000
	Less:Inventory,September 30				7700
	Units to be produced				14300
1b.	No.
	Under variable costing,Fixed manufacturing overhead is expenses fully as period cost in the income statement
	So,let's say that income under variable costing will be a function of units sold.
	Hence,Units produced will not affect the income or loss for the year.
2	Units to be produced (Absorption costing)
					Units
	Sales for the last quarter				20000
	Add: Maximum inventory storage				29800
					49800
	Less:Inventory,September 30				7700
	Units to be produced				42100