Question

During Heaton Company’s first two years of operations, the company reported absorption costing net operating income as follows:

  

	Year 1		Year 2
Sales (@ $63 per unit)	$	1,134,000	$	1,764,000
Cost of goods sold (@ $37 per unit)		666,000		1,036,000
Gross margin		468,000		728,000
Selling and administrative expenses*		304,000		334,000
Net operating income	$	\164,000\	$	394,000

   

* $3 per unit variable; $250,000 fixed each year.

  

The company’s $37 unit product cost is computed as follows:

  

Direct materials	$	7
Direct labor		13
Variable manufacturing overhead		3
Fixed manufacturing overhead ($322,000 ÷ 23,000 units)		14
Absorption costing unit product cost	$	37

Forty percent of fixed manufacturing overhead consists of wages and salaries; the remainder consists
of depreciation charges on production equipment and buildings.

  

Production and cost data for the two years are:

  

	Year 1	Year 2
Units produced	23,000	23,000
Units sold	18,000	28,000

  

Required:

1.	Prepare a variable costing contribution format income statement for each year.

     

2.	Reconcile the absorption costing and the variable costing net operating income figures for each year. (Losses should be indicated by a minus sign.)

     

Answer 1

SOLUTION

1. Variable costing contribution format income statement

Units-

Year 1 = 1,134,000 / $63 = 18,000 units

Year 2 = 1,764,000 /$63 = 28,000 units

	Year 1 ($)	Year 2 ($)
Sales	1,134,000	1,764,000
Variable expenses:
Cost of goods sold (7+13+3)	414,000	644,000
Selling and administrative expense (18,000*3), (28,000*3)	54,000	84,000
Contribution margin	666,000	1,036,000
Fixed expenses:
Fixed manufacturing overhead	322,000	322,000
Selling and administrative expense	250,000	250,000
Total fixed expenses	572,000	572,000
Net operating income	94,000	464,000

2. Reconciliation of variable and absorption costing net operating income

	Year 1 ($)	Year 2 ($)
Variable costing net income	94,000	464,000
Fixed overhead deferred (5,000*14)	70,000	(70,000)
Absorption costing net operating income	164,000	394,000