Question

Yates Company shows the following unit costs for its product:

Answer 1

Answer:

b. greater under absorption costing than variable costing.

Explanation:

The question is to calculate the closing value of inventory and based on the choices, we need to calculate based on both the Absorption Costing and the Variable Costing Methods.

1. Closing Inventory based on Variable Costing Method

Direct Material                                $40

Direct Labour                                  $30

Variable Overhead                           $2

Fixed Overhead                                $0 (this method does not reecognise fixed cost

Totals (Unit cost of Production)     $72

Based on this, the closing inventory is $72 x (8,000+50,000-55,000 units)

=$77 x 3,000= $216,000

2. Closing Inventory based on Absorption Costing Method

Direct Material                                $40

Direct Labour                                  $30

Variable Overhead                           $2

Fixed Overhead                                $5

Totals (Unit cost of Production)     $77

Based on this, the closing inventory is $77 x (8,000+50,000-55,000 units)

=$77 x 3,000= $231,000

Based on these calculations:

The Ending Inventory is higher/Greater under absorption costing than variable costing and the reason is that variable costing does not recognize fixed cost in determining the value of ending inventory.