Question

On March 31, Brass Company’s March absorption costing accounting system contained the following information. Assume per units costs for February were the same as the March per unit costs.

Units sold	82,000
Units Produced	80,000
Sales Price	$40.00
Total Cost of Goods Manufactured	$1,600,000
Total Selling & Admin. Expenses	$100,000
Units in Ending Inventory	1,000
Fixed Manufacturing Costs	$200,000
Fixed Selling & Admin. Expenses	$60,000

Required:

1. Determine the March Ending Inventory balance using absorption costing (Show your work).
   
2. Determine the March Beginning Inventory balance using absorption costing (Show your work).
   
3. Determine the Ending Inventory balance using variable costing (Show your work).
   
4. Determine the March Beginning Inventory balance using variable costing (Show your work).
   
5. Prepare an Absorption Costing Income Statement down to the Operating Income level.
   
6. Prepare a Variable Costing Income Statement down to the Operating Income level.
   
7. Show how the difference in the operating incomes in (C) and (D) occurred. In other words, show me how you would reconcile the difference.

Answer 1

Under absorption costing, unit cost of goods manufactured shall consider both variable and fixed manufacturing costs incurred to produce the number goods. Therefore, A) Fixed Manufacturing Costs $200,000 Units Produced 80,000 Fixed Manufacturing Costs per unit $2.5 ($200000 / 80000 units] Total Cost of Goods Manufactured $1,600,000 Less: Fixed Manufacturing Costs $200,000 Variable Cost of Goods Manufactured $1,400,000 Units Produced 80,000 Variable Manufacturing Costs per unit $17.5 ($1400000 / 80000 units] Total Manufacturing Costs per unit Units in Ending Inventory March Ending Inventory balance $20 ($2.5 + $17.5 --> Fixed + Variable] 1,000 $20,000 [$20 X 1000 units] B) Units sold Add: Units in Ending Inventory Less: Units Produced Units in Beginning Inventory Total Manufacturing Costs per unit March Beginning Inventory balance 82,000 1,000 83,000 -80,000 3,000 $20 [As calculated in Part-A] $60,000 ($3000 X 20 units]

Under variable costing, only variable manufacturing overhead costs shall be considered as unit product cost. That is, fixed mfg. overhead cost is considered as period cost under variable costing. C) Variable Manufacturing Costs per unit Units in Ending Inventory March Ending Inventory balance $17.5 [As calculated in Part-A] 1,000 $17,500 ($17.5 X 1000 units] D) Variable Manufacturing Costs per unit Units in Beginning Inventory March Beginning Inventory balance $17.5 [As calculated in Part-A] 3,000 [As calculated in Part-B] $52,500 ($17.5 X 3000 units] As variable manufacturing costs vary proportionately with production volume, unit variable mfg. cost will remain constant at all production volume.

Brass Company Absorption Costing Income Statement For March Sales Revenue $3,280,000 [82000 units x $40] Cost of Goods Sold $1,640,000 [82000 units x $20] Gross Profit $1,640,000 (Sales Revenue - Cost of Goods Sold] Selling & Admin. Expenses $100,000 (Given] Net Operating Income (Loss) $1,540,000 Brass Company Variable Costing Income Statement For March Sales Revenue $3,280,000 [82000 units x $40] Variable Expenses: Manufacturing costs $1,435,000 [82000 units x $17.5] Selling & Admin. Expenses $40,000 [$100000 - $60000] Total Variable Expenses $1,475,000 Contribution Margin $1,805,000 ($3280000 - $1475000] Fixed Expenses: Manufacturing costs $200,000 (Given] Selling & Admin. Expenses $60,000 [Given] Total Fixed Expenses $260,000 Net Operating Income (Loss) $1,545,000 ($1805000 - $260000]

G) The only reason for the difference in net operating income (loss) between absorption costing and variable costing is the deferred fixed manufacturing overhead cost to next period through ending inventory under absorption costing. That is, under variable costing, entire fixed mfg. overhead cost is considered as period cost and so charged to income statement. However, under the absorption costing, fixed mfg. overhead cost is considered as product cost and so a portion of it will be deferred to next reporting period through ending inventory. If number of units produced and sold are same, net operating income reported under both methods will be same. Reconciliation of Variable Costing and Absorption Costing Net Op. Incomes (Losses) Variable costing net operating income (loss) $1,545,000 [Ref: Part-F] Less: Fixed costs released from period in beginning inventory ($7,500) [3000 units x $2.5] Add: Fixed costs deferred to next period in ending inventory $2,500 (1000 units x $2.5] Absorption costing net operating income (loss) $1,540,000 --> Matched with Part-(E)'s result