70 200 050 the difference in reported operating

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($0.70 × 200) – ($0.50 × 400) –$60 = –$60 The difference in reported operating income is due to the amount of fixed manufacturing overhead in the beginning and ending inventories. In Year 1, absorption costing has a higher operating income of $200 due to ending inventory having $200 more in fixed manufacturing overhead than does beginning inventory. In Year 2, variable costing has a higher operating income of $60 due to ending inventory under absorption costing having $60 less in fixed manufacturing overhead than does beginning inventory. 4. a. Absorption costing is more likely to lead to inventory build-ups than variable costing. Under absorption costing, operating income in a given accounting period is increased by inventory buildup, because some fixed manufacturing costs are accounted for as an asset (inventory) instead of as a cost of the period of production. b. Although variable costing will counteract undesirable inventory build-ups, other measures can be used without abandoning absorption costing. Examples include: (1) careful budgeting and inventory planning, (2) incorporating a carrying charge for inventory, (3) changing the period used to evaluate performance to be long-term, (4) including nonfinancial variables that measure inventory levels in performance evaluations. 9-15
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9-24 (40 min.) Variable and absorption costing, sales, and operating-income changes. 1. Headsmart’s annual fixed manufacturing costs are $1,200,000. It allocates $24 of fixed manufacturing costs to each unit produced. Therefore, it must be using $1,200,000 ÷ $24 = 50,000 units (annually) as the denominator level to allocate fixed manufacturing costs to the units produced. We can see from Headsmart’s income statements that it disposes off any production volume variance against cost of goods sold. In 2009, 60,000 units were produced instead of the budgeted 50,000 units. This resulted in a favorable production volume variance of $240,000 F ((60,000 – 50,000) units × $24 per unit), which, when written off against cost of goods sold, increased gross margin by that amount. 2. The breakeven calculation, same for each year, is shown below: Calculation of breakeven volume 2008 2009 2010 Selling price ($2,100,000 ÷ 50,000; $2,100,000 ÷ 50,000; $2,520,000 ÷ 60,000) $42 $42 $42 Variable cost per unit (all manufacturing) 14 14 14 Contribution margin per unit $28 $28 $28 Total fixed costs (fixed mfg. costs + fixed selling & admin. costs) $1,400,00 0 $1,400,00 0 $1,400,000 Breakeven quantity = Total fixed costs ÷ contribution margin per unit 50,000 50,000 50,000 3. Variable Costing 2008 2009 2010 Sales (units) 50,00 0 50,00 0 60,00 0 Revenues $2,100,00 0 $2,100,00 0 $2,520,000 Variable cost of goods sold Beginning inventory $14 × 0; 0; 10,000 0 0 140,000 Variable manuf. costs $14 × 50,000; 60,000; 50,000 700,000 840,000 700,000 Deduct ending inventory $14 × 0; 10,000; 0 0 (140,000 ) 0 Variable cost of goods sold 700,00 0 700,00 0 840,00 0 Contribution margin $1,400,00 0 $1,400,00 0 $1,680,00 0 Fixed manufacturing costs $1,200,00 0 $1,200,00 0 $1,200,00 0 Fixed selling and administrative expenses 200,00 0 200,00 0 200,00 0 Operating income $ 0 $ 0 $ 280,000 Explaining variable costing operating income 9-16
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Contribution margin ($28 contribution margin per unit × sales units) $1,400,00 0 $1,400,00 0 $1,680,00 0 Total fixed costs 1,400,00 0 1,400,00 0 1,400,00 0 Operating income $ 0 $ 0 $ 280,000 9-17
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