Question

Lehighton Chalk Company manufactures sidewalk chalk, which it sells online by the box at $25 per unit. Lehighton uses an actual costing system, which means that the actual costs of direct material, direct labor, and manufacturing overhead are entered into work-in-process inventory. The actual application rate for manufacturing overhead is computed each year; actual manufacturing overhead is divided by actual production (in units) to compute the application rate. Information for Lehighton’s first two years of operation is as follows: Year 1 Year 2 Sales (in units) 2,900 2,900 Production (in units) 3,300 2,500 Production costs: Variable manufacturing costs $ 13,860 $ 10,500 Fixed manufacturing overhead 17,160 17,160 Selling and administrative costs: Variable 11,600 11,600 Fixed 10,600 10,600 Selected information from Lehighton’s year-end balance sheets for its first two years of operation is as follows: LEHIGHTON CHALK COMPANY Selected Balance Sheet Information Based on absorption costing End of Year 1 End of Year 2 Finished-goods inventory $ 3,760 $ 0 Retained earnings 17,540 33,720 Based on variable costing End of Year 1 End of Year 2 Finished-goods inventory $ 1,680 $ 0 Retained earnings 15,460 33,720 Required: Lehighton Chalk Company had no beginning or ending work-in-process inventories for either year. Prepare operating income statements for both years based on absorption costing. Prepare operating income statements for both years based on variable costing. Prepare a numerical reconciliation of the difference in income reported under the two costing methods used in requirements (1) and (2).

Answer 1

INCOME STATEMENT UNDER ABSORPTION COSTING					Year1			Year2
					AMOUNT $			Amount $
Sales revenue (2900 units @25)					72500			72500
Less: Cost of Goods sold
Variable manufacturing Cost			13860				10500
Fixed mnaufacturing cost			17160				17160
Total manufacturing cost			31020				27660
Add: Beginning Inventory			0				3760
Less: ending inventory			3760				0
(31020/3300 *400 units)
Cost of Ggoods sold					27260			31420
Gross margin					45240			41080
Less: Selling Expense
Variable Selling expense			11600				11600
Fixed Selling expense			10600		22200		10600	22200
Net Income					23040			18880
INCOME STATEMENT UNDER VARIABLE COSTING					Year1			Year2
					Amount $			Amount $
Sales revenue					72500			72500
Less: Variable manufacturing cost
Total variable manufacturing cost			13860			10500
Add: beginning Inventory			0			1680
Less: ending invventory			1680			0
Variable cost of goods sold					12180			12180
Variable Selling expnse\					11600			60320
Contribution margin					48720			48720
Less: Fixed cost
Fixed manufacturing cost					17160			17160
Fixed selling expnese					10600			10600
Net Income					20960			20960
RECONCILIATION STATEMENT YEAR-1
Income under variable costing					20960
Add: Fixed mfg cost deferred (17160/3300*400)					2080
Income under Absorption costing					23040
RECONCILIATION STATEMENT YEAR-2
Income under variable costing					20960
Less: Fixed mfg cost released (17160/3300*400)					-2080
Income under Absorption costing					18880