Canada Managerial Accounting HW Question: Variable Costing

[AccountingMajor]

The HW question is a case that gives me an absorption costing income statement for the first 2 quarters in a year. Here's a screenshot:http://pho.to/A2dsj

I've been asked to prepare a contribution format income statement using variable costing. Fixed manufacturing overhead (FMOH) costs total $800,000. Variable manufacturing costs are $30 per unit. The FMOH is applied to units at a rate of $40 per unit. In the 1st quarter, the beginning inventory is 3,000 units, 20,000 units are produced and 16,000 units are sold. My calculations give me an ending inventory of 7,000 units. For the 1st quarter, my operating income is -$110,000 or ($100,000). I believe I got the right value for the the 1st quarter's operating income because the absorption costing's operating income of $170,000 should be $280,000 greater than the variable costing operating income, which it is ($170,000 = -$110,000 + 280,000). The $280,000 difference comes from the FMOH cost deferred to the inventory in the next quarter (=$40 FMOH / unit * 7,000 ending inventory units).

I'm going wrong somewhere in calculating the operating income for the 2nd quarter. In the 2nd quarter, the beginning inventory should be last quarter's ending inventory of 7,000 units. 20,000 units are sold and 14,000 units are produced. Note: 20,000 units were budgeted to be produced, but actual production was only 14,000 so I see that overhead needs to be applied here. Here's a screenshot of the statement I made for the 2nd quarter:http://pho.to/A2dwd

Apologies in advance about my bad handwriting & poor picture quality; hope you can read it! As the screenshot shows, I get operating income of $240,000. I know that variable costing's operating income should be $280,000 greater than absorption costing operating income because production was less than sales for the 2nd quarter. I know that the screenshot of my work doesn't account for the $240,000 of overhead that has to be applied. When I try adding underapplied overhead of $240,000 (6,000 units difference between actual and budgeted production * $40 FMOH per unit) to the variable cost of goods sold, then, my operating income is $30,000. This can't be the right answer either since variable costing operating income should be greater than absorption costing operating income of $30,000 by $280,000. How do I get to the operating income of $310,000? I appreciate any help I can get with this!

 

[Triest123]

The operating income under variable costing for quarter 1 is $10,000

1 st quarter
Sales 1,600,000
Beginning inventory 90,000
Add : Variable costs of goods manufactured 420,000
Goods available for sale 690,000
Less : Ending inventory 210,000
Cost of goods sold 480,000
Gross margin 1,120,000
Less : Fixed manufacturing overhead (800,000)
Fixed Selling & Adm exp (310,000)
Operating income 10,000

And the operating income for quarter 2 is $270,000 (same as your answer)

The total operating income for Quarter 1 & 2 under variable costing is $280,000,
which is increased by $80,000 as compared with the total operating income under absorption costing (i.e. $200,000)

It is due to the change in inventory level between Quarter 1 & 2,
the opening inventory as at quarter 1 was 3,000 units where the closing inventory as at quarter 2 is 1,000 units (i.e. the inventory is decreased by 2,000 units).
The decrease in inventory implies that there is 2,000 units x $40 = $80,000
fixed manufactured overhead already absorbed in such inventory would be recognized as cost of goods sold under the absorption costing.

 

[Triest123]

The operating income under variable costing for quarter 1 is $10,000
.

Sorry for my typing error, here is the correct reply for your question

1 st quarter
Sales 1,600,000
Beginning inventory 90,000
Add : Variable costs of goods manufactured 600,000
Goods available for sale 690,000
Less : Ending inventory 210,000
Cost of goods sold 480,000
Gross margin 1,120,000
Less : Fixed manufacturing overhead (800,000)
Fixed Selling & Adm exp (310,000)
Operating income 10,000

And the operating income for quarter 2 is $270,000 (same as your answer)

The total operating income for Quarter 1 & 2 under variable costing is $280,000,
which is increased by $80,000 as compared with the total operating income under absorption costing (i.e. $200,000)

It is due to the change in inventory level between Quarter 1 & 2,
the opening inventory as at quarter 1 was 3,000 units where the closing inventory as at quarter 2 is 1,000 units (i.e. the inventory is decreased by 2,000 units).
The decrease in inventory implies that there is 2,000 units x $40 = $80,000
fixed manufactured overhead already absorbed in such inventory would be recognized as cost of goods sold under the absorption costing

 

[Triest123]

The operating income under variable costing for quarter 1 is $10,000