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Chapter 21: Q32PGB (page 1176)

Preparing variable and absorption costing income statements

Claudia’s Foods produces frozen meals that it sells for \(11 each. The company computes a new monthly fixed manufacturing overhead allocation rate based on the planned number of meals to be produced that month. Assume all costs and production levels are exactly as planned. The following data are from Linda’s Foods’s first month in business:

January 2018 Units produced and sold: Sales 850 meals Production 1,050 meals Variable manufacturing cost per meal \) 5Sales commission cost per meal 1 Total fixed manufacturing overhead 315Total fixed selling and administrative costs 450 Requirements

1. Compute the product cost per meal produced under absorption costing and under variable costing.

2. Prepare income statements for January 2018 using: a. absorption costing. b. variable costing.

3. Is operating income higher under absorption costing or variable costing in January?

Short Answer

Expert verified
  1. Total unit product cost is $5.30 and $5under absorption and variable costing respectively.
  2. Contribution margin is $3,545 and gross profit is $3,485.
  3. In January operating income is higher under absorption costing.

Step by step solution

01

Calculation of unit product cost using variable and absorption costing

Particulars

Absorption costing

Variable Costing

Variable manufacturing overhead

$5

$5

Fixed manufacturing overhead ($315/1,050)

$0.30

-

Total unit product cost

$5.30

$5

02

Income statement absorption costing format 

Particulars

Absorption Costing

Net sales revenue ($11x850)

$9,350

Less: Cost of goods sold ($5.30x850)

$4,505

Gross profit

$4,845

Variable selling and administrative cost ($1x850)

$850

Fixed selling and administrative cost

$450

Operating Income

$3,545

03

Income statement variable costing format

Particulars

Variable Costing

Net sales revenue ($11x850)

$9,350

Less: Cost of goods sold

Variable cost of goods sold ($5x850)

$4,250

Variable selling and administrative cost ($1x850)

$850

Contribution margin

$4,250

Less: Fixed costs

Fixed costs of goods sold

$315

Fixed selling and administrative cost

$450

Operating Income

$3,485

04

Profitability Analysis

Operating income is higher under absorption costing.

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Most popular questions from this chapter

Comparing variable and absorption costing Refer to Exercises E21-16 and E21-17.

Requirements:

  1. Which costing method produces the highest operating income? Explain why.
  2. Which costing method produces the highest April 30 balance in Finished Goods Inventory? Explain why

Question: The Hurley Hat Company manufactures baseball hats. Hurley’s primary customers are sporting goods stores that supply uniforms to youth baseball teams. Following is Hurley’s income statement for 2018:

In 2018, Hurley produced and sold 200,000 baseball hats. Of the Cost of Goods Sold, \(150,000 is fixed; 80% of the Selling and Administrative Expenses are fixed. There were no beginning inventories on January 1, 2018. The company is considering two options to increase sales.

Option 1: The company is operating at 100,000 hats below full production capacity and is considering increasing advertising to increase sales to the production capacity level in 2019. The marketing director predicts that an additional \)100,000 expenditure for advertising would increase sales to 300,000 hats per year.

Option 2: The sales manager has been negotiating with buyers for several national sporting goods retailers and recommends the company expand production capacity to 400,000 hats in order to secure long-term contracts beginning in 2019. The expansion is expected to increase fixed manufacturing costs by \(200,000 per year. Additionally, the retailers are requesting a higher-quality hat, and the changes to the hat materials and manufacturing process would increase variable manufacturing costs by \)1 per hat for the additional 200,000 hats. (The original 200,000 hats manufactured and sold would not be affected by this change.)

Requirements

1. Use the data from the 2018 income statement to prepare an income statement using variable costing. Assume no beginning or ending inventories. Calculate the contribution margin ratio. Round to two decimal places.

2. Prepare an absorption costing income statement assuming the company pursues Option 1 and increases advertising and production and sales increase to 300,000 hats.

3. Refer to the original data. Prepare an absorption costing income statement assuming the company pursues Option 2 and increases capacity and sales and production increases to 400,000 total hats.

4. Which option should the company pursue? Explain your reasoning.

Why is it appropriate to use variable costing when planning production in the short term?

How can variable costing be used in service companies?

Analyzing profitability Refer to Short Exercise S21-10. Which business segment provided the greatest total contribution margin? Which

business segment had the highest contribution margin ratio?

Camden Company has divided its business into segments based on sales territories: East Coast, Midland, and West Coast. Following are financial data for 2018:

East Coast

Midland

West Coast

Units sold

71

69

53

Sales price per unit

\(10,300

\)13,600

$12,000

Variable cost per unit

6,283

7,072

7,080
See all solutions

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