PROBLEM 616B Variable and Absorption Costing Unit Product Costs and

Income Statements; Explanation of Difference in Net Operating Income

[LO1 , LO2, LO3]
CHECK FIGURE
(1b) Net operating income: $801,000
(2b) Net operating loss: $711,000
McCracken Aerial, Inc., produces and sells a unique type of TV antenna. The
company has just opened a new plant to manufacture the antenna, and the
following cost and revenue data have been provided for the first month of the
plants operation in the form of a worksheet.
Beginning
inventory .............................................
Units
produced ....................................................
Units
sold ............................................................
Selling price per
unit ............................................
Selling and administrative expenses:
Variable per
unit ..............................................
Fixed
(total) ....................................................
Manufacturing costs
Direct materials cost per
unit ............................
Direct labor cost per
unit ..................................
Variable manufacturing overhead cost per
unit ...
Fixed manufacturing overhead cost
(total) .........

0
49,000
44,000
$78
$3
$563,0
00
$17
$8
$1
$882,0
00

Because the new antenna is unique in design, management is anxious to see how
profitable it will be and has asked that an income statement be prepared for the
month.
Required:
1. Assume that the company uses absorption costing.
a. Determine the unit product cost.
b. Prepare an income statement for the month.
2. Assume that the company uses variable costing.
a. Determine the unit product cost.
b. Prepare a contribution format income statement for the month.
3. Explain the reason for any difference in the ending inventory balances under the
two costing methods and the impact of this difference on reported net operating
income.
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Chapter 6 Alternate Problems

PROBLEM 617BVariable and Absorption Costing Unit Product Costs and

Income Statements [LO1 , LO2]
CHECK FIGURE
(3b) Year 3 net operating income: $(50,000)
Roberts Company manufactures and sells one product. The following information
pertains to each of the companys first three years of operations:
Variable costs per unit:
Manufacturing:
Direct
materials ......................................
Direct
labor ............................................
Variable manufacturing
overhead ............
Variable selling and
administrative ...............
Fixed costs per year:
Fixed manufacturing
overhead .....................
Fixed selling and administrative
expenses .....

$22
$14
$5
$3
$270,00
0
$210,00
0

During its first year of operations Roberts produced 60,000 units and sold 60,000
units. During its second year of operations it produced 75,000 units and sold 50,000
units. In its third year, Roberts produced 40,000 units and sold 65,000 units. The
selling price of the companys product is $52 per unit.
Required:
1. Compute the companys break-even point in units sold.
2. Assume the company uses variable costing:
a. Compute the unit product cost for year 1, year 2, and year 3.
b. Prepare an income statement for year 1, year 2, and year 3.
3. Assume the company uses absorption costing:
a. Compute the unit product cost for year 1, year 2, and year 3.
b. Prepare an income statement for year 1, year 2, and year 3.
4. Compare the net operating income figures that you computed in requirements 2
and 3 to the break-even point that you computed in requirement 1. Which net
operating income figures seem counterintuitive? Why?

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6-2

Introduction to Managerial Accounting, 6th edition

PROBLEM 618BVariable Costing Income Statement; Reconciliation [LO2,

LO3]
CHECK FIGURE
(1) Year 2 net operating income: $383,000
During Gates Companys first two years of operations, the company reported
absorption costing net operating income as follows:
Sales (@ $62 per
unit) .................................
Cost of goods sold (@ $38 per
unit) ..............
Gross
margin ................................................
Selling and administrative
expenses* .............
Net operating
income ...................................

Year 1
$992,000
608,000
384,000
296,000
$ 88,000

Year 2
$1,612,0
00
988,00
0
624,000
326,00
0
$
298,000

* $3 per unit variable; $248,000 fixed each

year.
The companys $38 unit product cost is computed as follows:
Direct
materials .................................................................
Direct
labor .......................................................................
Variable manufacturing
overhead .......................................
Fixed manufacturing overhead ($357,000 21,000
units) ....
Absorption costing unit product
cost....................................

$7
12
2
17
$38

Production and cost data for the two years are given below:
Units
produced ...............
Units
sold ........................

Year 1
21,000

Year 2
21,000

16,000

26,000

Required:
1. Prepare a variable costing contribution format income statement for each year.
2. Reconcile the absorption costing and variable costing net operating income
figures for each year.
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Chapter 6 Alternate Problems

PROBLEM 619BComprehensive Problem with Labor Fixed [LO1 , LO2, LO3]

CHECK FIGURE
(2) Net operating income: $359,760
Tabletops Products, Inc., has just organized a new division to manufacture and sell
specially designed tables using select hardwoods for personal computers. The
divisions monthly costs are shown in the schedule below:
Manufacturing costs:
Variable costs per unit:
Direct
materials .......................................
Variable manufacturing
overhead .............
Fixed manufacturing overhead costs
(total) ...
Selling and administrative costs:

$83
$5
$252,000
8% of sales

Variable ......................................................
Fixed
(total) ................................................

$158,000

Tabletops Products regards all of its workers as full-time employees and the
company has a long-standing no-layoff policy. Furthermore, production is highly
automated. Accordingly, the company includes its labor costs in its fixed
manufacturing overhead. The tables sell for $340 each.
During the first month of operations, the following activity was recorded:
Units
produced ...................
Units
sold ...........................

4,000
3,200

Required:
1. Compute the unit product cost under:
a. Absorption costing.
b. Variable costing.
2. Prepare an income statement for the month using absorption costing.
3. Prepare a contribution format income statement for the month using variable
costing.
4. Assume that the company must obtain additional financing. As a member of top
management, which of the statements that you have prepared in (2) and (3)
above would you prefer to take with you to negotiate with the bank? Why?
5. Reconcile the absorption costing and variable costing net operating incomes in
(2) and (3) above.

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6-4

Introduction to Managerial Accounting, 6th edition

PROBLEM 620BPrepare and Reconcile Variable Costing Statements [LO1 ,

LO2, LO3]
CHECK FIGURE
(2) June net operating income: $470,000
Bell Company manufactures and sells a single product. Cost data for the product
follow:
Variable costs per unit:
Direct
materials .......................................
Direct labor .............................................
Variable factory
overhead ........................
Variable selling and
administrative ............
Total variable costs per
unit .........................

$ 3
12
3
3
$21

Fixed costs per month:

Fixed manufacturing
overhead .................
Fixed selling and
administrative ...............
Total fixed cost per
month ...........................

$120,00
0
166,00
0
$286,00
0

The product sells for $48 per unit. Production and sales data for May and June, the
first two months of operations, are as follows:

May ............................

Units
Produce
d
24,000

June ...........................

24,000

Units
Sold
20,00
0
28,00
0

Income statements prepared by the accounting department, using absorption

costing, are presented below:
May
Sales .................................................
...
Cost of goods
sold .................................
Gross
margin .........................................
Selling and administrative

$960,000
460,000
500,000

700,000

226,000

250,00

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Chapter 6 Alternate Problems

June
$1,344,0
00
644,00
0

expenses ........
Net operating
income .............................

$274,000

0
$
450,000

Required:
1. Determine the unit product cost under:
a. Absorption costing.
b. Variable costing.
2. Prepare contribution format variable costing income statements for May and
June.
3. Reconcile the variable costing and absorption costing net operating incomes.

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6-6

Introduction to Managerial Accounting, 6th edition

PROBLEM 621BAbsorption and Variable Costing; Production Constant,

Sales Fluctuate [LO1 , LO2, LO3]
CHECK FIGURE
(1b) Net operating loss: $(42,600)
(3a) Net operating income: $32,100
Alice Bohne obtained a patent on a small electronic device and organized Bohne
Products, Inc., to produce and sell the device. During the first month of operations,
the device was very well received on the market, so Ms. Bohne looked forward to a
healthy profit. For this reason, she was surprised to see a loss for the month on her
income statement. This statement was prepared by her accounting service, which
takes great pride in providing its clients with timely financial data. The statement
follows:
Bohne Products, Inc.
Income Statement
Sales (21,000
units) ............................................
Variable expenses:
Variable cost of goods
sold ..............................
Variable selling and administrative expenses
.....
Contribution
margin ............................................
Fixed expenses:
Fixed manufacturing
overhead ........................
Fixed selling and administrative
expenses ........
Net operating
loss ..............................................

$762,300
$254,10
0
161,70
0

415,800
346,500

194,400
219,00
0

413,400
$(66,900)

Ms. Bohne is discouraged over the loss shown for the month, particularly because
she had planned to use the statement to encourage investors to purchase stock in
the new company. A friend, who is a CPA, insists that the company should be using
absorption costing rather than variable costing. He argues that if absorption costing
had been used, the company would probably have reported a profit for the month.
Selected cost data relating to the product and to the first month of operations
follow:
Units
produced ..............................................
Units
sold ......................................................
Variable costs per unit:
Direct
materials .............................................
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Chapter 6 Alternate Problems

24,000
21,000
$7.40

Direct
labor ...................................................
Variable manufacturing
overhead ....................
Variable selling and administrative
expenses ....

$3.00
$1.70
$7.70

Required:
1. Complete the following:
a. Compute the unit product cost under absorption costing.
b. Redo the companys income statement for the month using absorption costing.
c. Reconcile the variable and absorption costing net operating income (loss)
figures.
2. During the second month of operations, the company again produced 24,000
units but sold 27,000 units. (Assume no change in total fixed costs.)
a. Prepare a contribution format income statement for the month using variable
costing.
b. Prepare an income statement for the month using absorption costing.
c. Reconcile the variable costing and absorption costing net operating incomes.

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6-8

Introduction to Managerial Accounting, 6th edition

PROBLEM 622BRestructuring a Segmented Income Statement [LO4]

CHECK FIGURE
(3) Middle Europe segment margin: 189,000
Drenthe BV of the Netherlands is a wholesale distributor of Dutch cheeses that it
sells throughout the European Community. Unfortunately, the companys profits
have been declining, which has caused considerable concern. To help understand
the condition of the company, the managing director of the company has requested
that the monthly income statement be segmented by sales territory. Accordingly,
the companys accounting department has prepared the following statement for
March, the most recent month. (The Dutch currency is the euro which is designated
by .)

Sales .............................................................
.
Territorial expenses (traceable):
Cost of goods
sold ......................................
Salaries ......................................................
Insurance ...................................................
Advertising .................................................
Depreciation ...............................................
Shipping .....................................................
Total territorial
expenses ..................................
Territorial income (loss)
before corporate
expenses ...........................
Corporate expenses:
Advertising
(general) ...................................
General
administrative .................................
Total corporate
expenses..................................
Net operating income
(loss) .............................

Southern
Europe
311,000

Sales Territory
Middle
Northern
Europe
Europe
804,000
698,000

98,000

240,000

311,000

55,000

52,000

105,000

8,700

16,000

13,500

105,000

241,000

242,000

19,000

32,000

29,000

13,000

34,000

39,000

298,700

615,000

739,500

12,300

189,000

(41,500)

18,000

38,000

38,000

20,000

20,000

20,000

38,000

58,000

58,000

(25,700)

131,000

(99,500)

Cost of goods sold and shipping expenses are both variable; other costs are all
fixed. Drenthe BV purchases cheeses at auction and from farmers cooperatives,
and it distributes them in the three territories listed above. Each of the three sales
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Chapter 6 Alternate Problems

territories has its own manager and sales staff. The cheeses vary widely in
profitability; some have a high margin and some have a low margin. (Certain
cheeses, after having been aged for long periods, are the most expensive and carry
the highest margins.)
Required:
1. List any disadvantages or weaknesses that you see to the statement format
illustrated above.
2. Explain the basis that is apparently being used to allocate the corporate
expenses to the territories. Do you agree with these allocations? Explain.
3. Prepare a new segmented contribution format income statement for May. Show a
Total column as well as data for each territory. In addition, for the company as a
whole and for each sales territory, show each item on the segmented income
statement as a percent of sales.
4. Analyze the statement that you prepared in (3) above. What points that might
help to improve the companys performance would you bring to managements
attention?

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6-10

Introduction to Managerial Accounting, 6th edition

PROBLEM 623BPrepare and Interpret Statements; Changes in Both Sales

and Production; Lean Production [LO1 , LO2, LO3]
CHECK FIGURE
(1) Year 3 net operating income: $10,000
Electromix, Inc., manufactures and sells a unique electronic part. Operating results
for the first three years of activity were as follows (absorption costing basis):
Sales ......................................................
Cost of goods
sold ...................................
Gross margin ..........................................
Selling and administrative
expenses .........
Net operating income
(loss) .....................

Year 1
$1,000,00
0

Year 2
$800,000

760,000

512,000

240,000

288,000

230,000

198,000

10,000

$ 90,000

Year 3
$1,000,00
0
788,50
0
211,500
230,00
0
$ (18,500)

Sales dropped by 20% during Year 2 due to the entry of several foreign competitors
into the market. Electromix had expected sales to remain constant at 40,000 units
for the year; production was set at 50,000 units in order to build a buffer of
protection against unexpected spurts in demand. By the start of Year 3,
management could see that spurts in demand were unlikely and that the inventory
was excessive. To work off the excessive inventories, Electromix cut back production
during Year 3, as shown below:
Production in
units ...............
Sales in
units .......................

Year 1

Year 2

Year 3

40,000

50,000

32,000

40,000

32,000

40,000

Additional information about the company follows:

a. The companys plant is highly automated. Variable manufacturing costs (direct
materials, direct labor, and variable manufacturing overhead) total only $4 per
unit, and fixed manufacturing overhead costs total $600,000 per year.
b. Fixed manufacturing overhead costs are applied to units of product on the basis
of each years production. That is, a new fixed overhead rate is computed each
year.
c. Variable selling and administrative expenses are $4 per unit sold. Fixed selling
and administrative expenses total $70,000 per year.
d. The company uses a FIFO inventory flow assumption.
Electromixs management cant understand why profits tripled during Year 2 when
sales dropped by 20%, and why a loss was incurred during Year 3 when sales
recovered to previous levels.
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Chapter 6 Alternate Problems

Required:
1. Prepare a contribution format variable costing income statement for each year.
2. Refer to the absorption costing income statements.
a. Compute the unit product cost in each year under absorption costing. (Show
how much of this cost is variable and how much is fixed.)
b. Reconcile the variable costing and absorption costing net operating incomes
for each year.
3. Refer again to the absorption costing income statements. Explain why net
operating income was higher in Year 2 than it was in Year 1 under the absorption
approach, in light of the fact that fewer units were sold in Year 2 than in Year 1.
4. Refer again to the absorption costing income statements. Explain why the
company suffered a loss in Year 3 but reported a profit in Year 1, although the
same number of units was sold in each year.
5. a. Explain how operations would have differed in Year 2 and Year 3 if the
company had been using Lean Production with the result that ending inventory
was zero.
b. If Lean Production had been in use during Year 2 and Year 3, and the
predetermined overhead rate is based on 40,000 units per year, what would
the companys net operating income (or loss) have been in each year under
absorption costing? Explain the reason for any differences between these
income figures and the figures reported by the company in the statements on
the previous page.

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6-12

Introduction to Managerial Accounting, 6th edition

PROBLEM 624BSegmented Income Statements [LO4]

CHECK FIGURE
(1) Flour segment margin: $74,800
Streeterville Foods, Inc., has recently purchased a small mill that it intends to
operate as one of its subsidiaries. The newly acquired mill has three products that it
offers for salewheat cereal, pancake mix, and flour. Each product sells for $10 per
package. Materials, labor, and other variable production costs are $4.90 per bag of
wheat cereal, $6.10 per bag of pancake mix, and $3.10 per bag of flour. Sales
commissions are 10% of sales for any product. All other costs are fixed.
The mills income statement for the most recent month is given below:

Sales ......................................
.
Expenses:
Materials, labor, and
other ....
Sales
commissions ...............
Advertising .........................
.
Salaries ..............................
.
Equipment
depreciation ........
Warehouse
rent ...................
General
administration .........
Total expenses ........................
Net operating income
(loss) .....

Product Line
Wheat Pancak
Cereal
e Mix
Flour

Total
Compan
y
$1,170,0
00

$390,00
0

$490,00
0

$290,00
0

579,900

191,100

298,900

89,900

117,000

39,000

49,000

29,000

156,050

73,000

50,000

33,050

98,500

43,300

10,200

45,000

58,500

19,500

24,500

14,500

23,400

7,800

9,800

5,800

84,00
0
1,117,35
0
$
52,650

28,00
0
401,70
0
$(11,70
0)

28,00
0
470,40
0
$
19,600

28,00
0
245,25
0
$
44,750

The following additional information is available about the company:

a. The same equipment is used to mill and package all three products. In the above
income statement, equipment depreciation has been allocated on the basis of
sales dollars. An analysis of equipment usage indicates that it is used 40% of the
time to make wheat cereal, 50% of the time to make pancake mix, and 10% of
the time to make flour.
b. All three products are stored in the same warehouse. In the above income
statement, the warehouse rent has been allocated on the basis of sales dollars.
The warehouse contains 46,800 square feet of space, of which 8,000 square feet
are used for wheat cereal, 14,000 square feet are used for pancake mix, and
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Chapter 6 Alternate Problems

24,800 square feet are used for flour. The warehouse space costs the company
$0.50 per square foot per month to rent.
c. The general administration costs relate to the administration of the company as a
whole. In the above income statement, these costs have been divided equally
among the three product lines.
d. All other costs are traceable to the product lines.
Streeterville Foods management is anxious to improve the mills 4.5% margin on
sales.
Required:
1. Prepare a new contribution format segmented income statement for the month.
Adjust the allocation of equipment depreciation and warehouse rent as indicated
by the additional information provided.
2. After seeing the income statement in the main body of the problem,
management has decided to eliminate the wheat cereal because it is not
returning a profit, and to focus all available resources on promoting the pancake
mix.
a. Based on the statement you have prepared, do you agree with the decision to
eliminate the wheat cereal? Explain.
b. Based on the statement you have prepared, do you agree with the decision to
focus all available resources on promoting the pancake mix? Assume that an
ample market is available for all three products. (Hint: compute the
contribution margin ratio for each product.)

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6-14

Introduction to Managerial Accounting, 6th edition