Answer:
2011 2012
Sales 1000 units 1200 units
Production 1400 1000
Costs:
Variable manufacturing $700 $500
per unit $0.50
Fixed manufacturing $700 $700
Variable operating (marketing) $1000 $1200
Fixed operating (marketing) $400 $400
cogs under absorption costing 2011 = ($1,400 / 1,400) x 1,000 = $1,000
cogs under absorption costing 2012 = $400 + ($1,200 / 1,000) x 800 = $1,360
1. INCOME STATEMENTS
VARIABLE COSTING
2011 2012
Total sales revenue: $3,000 $3,600
Opening inventory: ($0) ($200)
Variable manufacturing: ($700) ($500)
<u>Ending inventory: $200 $100</u>
Gross contribution margin: $2,500 $3,000
<u>Variable operating: ($1,000) ($1,200)</u>
Contribution margin: $1,500 $1,800
Fixed manufacturing: ($700) ($700)
<u>Fixed operating: ($400) ($400)</u>
Net operating income: $400 $700
2. INCOME STATEMENTS
ABSORPTION COSTING
2011 2012
Total sales revenue: $3,000 $3,600
<u>COGS: ($1,000) ($1,360)</u>
Gross margin: $2,000 $2,240
<u>Operating costs: ($1,400) ($1,600)</u>
Net operating income: $600 $640
3. Under variable costing, closing inventory = 400 units x $0.50 (variable production costs per unit) = $200.
Under absorption costing, closing inventory = 400 units x $1 (production cost per unit) = $400
Since closing inventory is $200 higher under absorption costing, then net operating income during 2011 increases by $200.
4. a) Variable costing is more likely to result in inventory buildups. Since variable costing determines the value of closing inventory only using variable manufacturing costs, their value is much lower. E.g. in this case the value of closing inventory 2011 under variable costing is $200, while under absorption costing it is $400. This means that less costs are transferred from one year to another.
b) Cost of goods sold must include all production costs (both variable and fixed). This way COGS costs cannot be over estimated during one year and under estimated the next.
