A company manufactures a unique device that is used to boost Wi-Fi signals.

The following data relates

to the first month of operation:
Beginning inventory
Units produced
Units sold
Selling price per unit
Selling and administrative expenses:
Variable per unit
Fixed (total for the month)
Manufacturing costs:
Direct materials cost per unit
Direct labor cost per unit
Variable manufacturing overhead cost per unit
Fixed manufacturing overhead cost

0
40,000
35,000
$120
$4
$1,120,000
$30
$14
$4
$1,280,000

Management is anxious to see the profitability of newly designed unique booster.

Required:
1.
Calculate unit product cost and prepare income statement under variable costing system and
absorption costing system.
2.
Prepare income statement under two costing system.
3.
Prepare a schedule to reconcile the net operating income under variable and absorption costing
system.

Solution:
(1) Calculation of unit product cost:
Direct materials
Direct labor
Variable manufacturing overhead
Fixed manufacturing overhead
production cost per unit

Variable costing
$30
$14
$4

$48
-

Absorption costing
$30
$14
$4
$32*
$80
-

*1,280,000/40,000

(2) Income statements:

Absorption costing:
Sales (35,000 Units $120)
Less cost of goods sold:
Beginning inventory
Add cost of goods manufactured (40,000 Units $80)
Cost of goods available for sale
Less ending inventory (5,000 Units $80)
Gross profit
Less selling and administrative expenses
Fixed
Variable (35,000 Units $4)

4,200,000
0
3,200,000
3,200,000
400,000
1,120,000
140,000
-

2,800,000
1,400,000
1,260,000
140,000
-

Variable costing:
Sales (35,000 Units $120)
Less variable cost of goods sold:

4,200,000

Beginning inventory
Add v. cost of goods manufactured (40,000 Units $48)

0
1,920,000
1,920,000
240,000
-

Cost of goods available for sale

Less ending inventory (5,000 Units $48)
Gross contribution margin
Less variable selling and administrative expenses
Contribution margin
Less fixed costs:
Fixed manufacturing overhead
Fixed selling and administrative expenses

1,280,000
1,120,000
-

Net operating loss

1,680,000
2,520,000
140,000
2,380,000
2,400,000
(20,000 )
-

(3) Reconciliation schedule:

Net operating income (loss) under variable costing
Fixed manufacturing overhead cost deferred in inventory (5,000 units $32)
Net operating income under absorption costing

Super Bike Manufacturing Company presents the following data for 2011:
Opening inventory
Sales
Production
Closing inventory
Direct materials
Direct labor
Variable manufacturing overhead expenses
Variable selling and administrative expenses
Fixed manufacturing overhead expenses
Fixed selling and administrative expenses

1.
2.

0 Units
8,000 Units
10,000 Units
2,000 Units
$240
$280
$100
$40
$1200,000
$800,000

Required: Compute the unit product cost of one bike under:

Absorption costing system.
Variable costing system.

Solution:
Computation of unit product cost:

$(20,000)
$160,000

$140,000

Absorption costing Variable costing

Direct materials

$240

$240

Direct labor

$280

$280

Variable manufacturing overhead

$100

$100

Fixed manufacturing overhead

$120*

$740

$620

Unit product cost

*1,200,000 / 10,000 = $120

Notice that the fixed manufacturing overhead cost has not been included while computing the cost of one
bike under variable costing system.
Note: Selling and administrative expenses (both variable and fixed) are not relevant for the computation
of unit product cost.

The following is the absorption costing income statement of a manufacturing company:

Sales (40,000 units @ $67.50)
Less cost of goods sold:
Opening inventory
Add cost of goods manufactured (50,000 42)
Available for use
Less closing inventory

$2,700,000
0
2,100,000
2,100,000
420,000
-

1,680,000
Gross margin
1,020,000
Less selling and administrative expenses
840,000
Net operating income
180,000
Fixed selling and administrative expenses are $600,000. Variable selling and administrative expenses are
$6 per unit sold. The unit product cost under absorption costing is computed as follows:
Direct materials
$20
Direct labor
8
Variable manufacturing overhead
4
Fixed manufacturing overhead ($500,000/50,000)
10
Total cost per unit
$42
-

1.

Required:
Prepare a contribution margin income statement using variable costing system.

2.

Reconcile any difference between net operating income figure under variable costing income
statement and net operating income figure under absorption costing income statement.

Solution
(1) Income Statement:
Sales (40,000 units @ $67.50)
Less variable cost of goods sold:
Opening inventory
Add v. cost of goods manufactured (50,000 units $32)
Available for sale
Less closing inventory (10,000 units $32)

2,700,000
0
1,600,000
1,600,000
320,000
-

Gross contribution margin

Less variable selling and administrative expenses
Contribution margin
Less fixed expenses:
Manufacturing
Selling and admin.

500,000
600,000
-

Net operating income

1,280,000
1,420,000
240,000
1,180000
1,100,000
80,000
-

(2) Reconciliation of net operating income:

Net operating income under variable costing
Fixed manufacturing overhead deferred in inventory (10,000 units $10)
Net operating income under absorption costing

80,000
100,000

100,000

Solution:
Computation of unit product cost:
Direct materials
Direct labor
Variable manufacturing overhead
Fixed manufacturing overhead
Unit product cost

Absorption costing
$240
$280
$100
$120*
$740
-

Variable costing
$240
$280
$100

$620
-

*1,200,000 / 10,000 = $120

Notice that the fixed manufacturing overhead cost has not been included while computing the cost of one
bike under variable costing system.
Note: Selling and administrative expenses (both variable and fixed) are not relevant for the computation
of unit product cost.

A company manufactures a unique device that is used to boost Wi-Fi signals. The following data relates
to the first month of operation:
Beginning inventory
Units produced
Units sold
Selling price per unit
Selling and administrative expenses:
Variable per unit
Fixed (total for the month)
Manufacturing costs:
Direct materials cost per unit
Direct labor cost per unit
Variable manufacturing overhead cost per unit
Fixed manufacturing overhead cost

0
40,000
35,000
$120
$4
$1,120,000
$30
$14
$4
$1,280,000

Management is anxious to see the profitability of newly designed unique booster.

Required:
1.
Calculate unit product cost and prepare income statement under variable costing system and
absorption costing system.
2.
Prepare income statement under two costing system.
3.
Prepare a schedule to reconcile the net operating income under variable and absorption costing
system.

Solution:
(1) Calculation of unit product cost:
Direct materials
Direct labor
Variable manufacturing overhead
Fixed manufacturing overhead
production cost per unit

Variable costing
$30
$14
$4

$48
-

Absorption costing
$30
$14
$4
$32*
$80
-

*1,280,000/40,000

(2) Income statements:

Absorption costing:
Sales (35,000 Units $120)
Less cost of goods sold:
Beginning inventory
Add cost of goods manufactured (40,000 Units $80)
Cost of goods available for sale
Less ending inventory (5,000 Units $80)
Gross profit
Less selling and administrative expenses
Fixed
Variable (35,000 Units $4)

4,200,000
0
3,200,000
3,200,000
400,000
1,120,000
140,000
-

2,800,000
1,400,000
1,260,000
140,000
-

Variable costing:
Sales (35,000 Units $120)
Less variable cost of goods sold:
Beginning inventory
Add v. cost of goods manufactured (40,000 Units $48)

4,200,000
0
1,920,000
1,920,000
240,000
-

Cost of goods available for sale

Less ending inventory (5,000 Units $48)

1,680,000
2,520,000
140,000
2,380,000

Gross contribution margin

Less variable selling and administrative expenses
Contribution margin
Less fixed costs:
Fixed manufacturing overhead
Fixed selling and administrative expenses

1,280,000
1,120,000
-

2,400,000
(20,000 )
-

Net operating loss

(3) Reconciliation schedule:

Net operating income (loss) under variable costing
Fixed manufacturing overhead cost deferred in inventory (5,000 units $32)

$(20,000)
$160,000

$140,000

Net operating income under absorption costing

AGA company manufactures and sells a product for $20/Kg. The data for the last year is given below:
Sales
Finished goods inventory at the beginning of the period
Finished goods inventory at the closing of the period
Manufacturing costs:
Variable cost
Fixed manufacturing overhead cost
Marketing and administrative expenses:
Variable expenses
Fixed expenses

1.
2.

75,000 Kg
12,000 Kg
17,000 Kg
$8 per Kg
$320,000 per year
$2 per Kg of sale
$300,000 per year

Required:
Income statement using absorption and variable costing methods.
Explanation of the cause of difference in operating income under two concepts.

Solution
(1) Income statements:
(a) Absorption costing:
Sales
Less cost of goods sold:
Beginning inventory (12000Kg $12)
Cost of goods manufactured (80,000* Kg $12**)
Cost of goods available for sale
Closing inventory (17,000Kg 12 )
Gross profit

1,500,000
144,000
960,000

1,104,000
204,000

900,000

600,000

Less marketing and administrative expenses:

Variable expenses (75,000Kg $2)
Fixed expenses
Net operating income
*Production for last year:
Sales
Closing inventory
Total inventory available for sale
Opening inventory
Production for the period

150,000
300,000

450,000

150,000

**Manufacturing cost per unit

75,000Kg Variable
17,000Kg Fixed (320,000 / 80,000)
92,000Kg
12,000Kg
80,000Kg
-

$8
$4

$12

(b)Variable costing:
Sales
Less variable cost of goods sold:
Beginning inventory (12000Kg $8)
Variable cost of goods manufactured (80,000 Kg $8)
Variable cost of goods available for sale
Closing inventory (17,000Kg 8 )

1,500,000
96,000
640,000

736,000
136,000

Gross contribution margin

Variable marketing and admin. expenses (75,000Kg $2)
Less period costs:
Marketing and administrative
Manufacturing

300,000
320,000

Net operating income

600,000

900,000
150,000

750,000
620,000

130,000

(2) Explanation of the difference in net operating income:

The net operating income under absorption costing is $20,000 more than the net operating income under
variable costing. When production is more than sales (as in this exercise), the fixed manufacturing
overhead is deferred in inventory that causes a higher net operating income under absorption costing
than under variable costing. The reconciliation of net operating income is as follows:
Operating income under absorption costing
Operating income under variable costing
Difference in net operating income
Change in inventory (17,000Kg 12,000Kg)
Fixed cost deferred in inventory (5,000Kg $4.00)

150,000
130,000

20,000

5,000Kg

20,000

or
Net operating income under variable costing
Add fixed manufacturing overhead cost deferred in inventory (5,000Kg $4.00)

130,000
20,000

$150,000