Assessment 3 Review 1

Variable Costing System Absorption Costing System

Product Cost/unit= cost of 1 unit Product Cost/unit= cost of 1 unit

Per unit= DM+DL+VMOH Per unit= DM+DL+VMOH+(FMOH/unit produced)

Income Statement (Managerial or variable Income Statement (Financial Accounting)

costing )

Sales (SP*Units sold) Sales(SP*Units sold)

-Variable cost ((Vcost/unit)*units sold -Cost of goods sold

=Contribution Margin =Gross profit/margin

-Fixed Cost -Operating Expenses (Admin +Selling

expenses)
=Net operating Income=NOI (Variable costing )
=NOI (Absorption costing)

1)When

Unit produced= Unit sold

Then

NOI (Variable costing )= NOI (Absorption costing)

2)

When unit produced is greater than unit sold

Then

NOI (Absorption costing) is greater than NOI (Variable costing )

3) When unit produced is less than unit sold

Then

NOI (Absorption costing) is less than NOI (Variable costing)

1
Q1: Smart Toys Company manufactures and sells a single product. The following costs were
incurred during the company’s first year of operations.
DESCRIPTION AMOUNT IN $
Variable Cost Per Unit:
Manufacturing:
Direct Material $25
Direct Labour $15
Variable Manufacturing Overhead $8
Variable Selling and Administrative Expense $7
Fixed Costs Per Year
Fixed Manufacturing Overhead $ 350,000
Fixed Selling and Administrative Expense $200,000

During the year, the company produced 25,000 units and sold 20,000 units. The selling price of the
company’s product is $ 300 per unit
Required:
1. Assume that the company uses absorption costing: 5 + 12 = 17 marks
1. Compute the unit product cost.
2. Prepare an income statement for the year.

Answer:

1. Compute the unit product cost under Absorption Costing: 5 marks

DESCRIPTION Amount $
DM/unit 25
DL/unit 15
VMOH/unit 8

Fixed MOH÷ unit produced (350,000/ 25000) 14

Unit product cost (Absorption costing) $62

1 mark each

2
 Prepare an Income Statement under Absorption Costing: 12 marks

Description Amount in $

Sales (selling price* unit sold) ($300*20,000) 6,000,000

Less Cost of goods sold

(Unit product cost (Absoprtion costing)* units sold ($62 *20,000)

(1,240,000)

Gross Profit/Margin 4,760,000

Less: Operating Expenses (Selling and Admin Exp.)

Selling and Admin Expenses

(Fixed selling and Admin+ Variable Selling and Admin)

(200,000+ Variable selling and admin* unit sold)

(200,000+ $7*20,000)

(340,000)

NET Income (Absorption costing) 4,420,000

2. Assume that the company uses Variable costing: 4 + 16 = 20 marks

1. Compute the unit product cost.

2. Prepare an income statement for the year

1. Compute the unit product cost under Variable Costing: 4 marks

DM/unit 25
DL/unit 15
VMOH/unit 8
Unit Product Cost (Variable costing) $48
3
Prepare an Income Statement under Contribution format 16 marks

Description Amount in $ Marks

Sales (selling price* unit sold) ($300*20,000) 6,000,000

Less: Variable cost/ expenses

1. Variable cost of goods sold
(unit product cost (variable costing)* units sold )
$ 48 * 20,0000 ………………………………………………….. $960,0000

2. Variable selling and admin expenses

(Variable selling and Admin per unit * unit sold) (
$7 * 20,000) ……………………………………………………….$140,000

Total Variable expenses (1,100,000)

Contribution Margin 4,900,000

Less: Fixed Expenses

Fixed Manufacturing Overhead $350,000

Fixed Selling and Administrative Expense $200,000

Total Fixed Expenses (550,000)

Net operating Income (Absorption costing) 4,350,000

4
 Q2: Explain the difference, in numerical term, in the reported net operating income between the
above methods. (3marks)

Answer

The difference between NOI (Absorption costing) and NOI (Variable costing) is due to
FMOH deferred in Ending inventory units (Units produced are greater than units sold)

NOI (Absorption Costing)- NOI Variable costing (Fixed MOH/unit produced)* Units in Ending Inventory

=4,420,000-4,350,000 ($14* (Units produced-Units sold)

=$70,000 (14* (25000-20,000))

(14* 5000)

= 70,000

Practice questions:

Q1: Smart Toys Company manufactures and sells a single product. The following costs were
incurred during the company’s first year of operations.
DESCRIPTION AMOUNT IN $
Variable Cost Per Unit:
Manufacturing:
Direct Material $20
Direct Labour $10
Variable Manufacturing Overhead $6
Variable Selling and Administrative Expense $5
Fixed Costs Per Year
Fixed Manufacturing Overhead $ 350,000
Fixed Selling and Administrative Expense $200,000

5
During the year, the company produced 35,000 units and sold 30,000 units. The selling price of the
company’s product is $ 200 per unit
Required:
1. Assume that the company uses absorption costing: 5 + 12 = 17 marks
3. Compute the unit product cost.
4. Prepare an income statement for the year.

Solution:

5. Income statement (Absorption costing)

2. Assume that the company uses Variable costing: 4 + 16 = 20 marks

1. Compute the unit product cost.

Solution

2. Prepare an income statement for the year

Q2: Explain the difference, in numerical term, in the reported net operating income between the
above methods. (3marks)