Question

Morey Company has just completed its first year of operations. The company’s absorption costing income statement for the year appears below:

MOREY COMPANY
Income Statement
Sales (40,000 units at $33.75 per unit)				$	1,350,000
Cost of goods sold:
Beginning inventory	$	0
Add cost of goods manufactured       (50,000 units at $21 per unit)		1,050,000
Goods available for sale		1,050,000
Less ending inventory (10,000 units at $21 per unit)		210,000			840,000
Gross margin					510,000
Selling and administrative expenses					420,000
Operating income				$	90,000

The company’s selling and administrative expenses consist of $300,000 per year in fixed expenses and $3 per unit sold in variable expenses. The company’s $21 per unit product cost given above is computed as follows:

Direct materials	$	10
Direct labour		4
Variable manufacturing overhead		2
Fixed manufacturing overhead ($250,000 ÷ 50,000 units)		5
Unit product cost	$	21

Required:

1. Redo the company’s income statement in the contribution format using variable costing.

2. Reconcile any difference between the operating income on your variable costing income statement and the operating income on the absorption costing income statement above.

Answer 1

1) Contribution margin income statement

Sales (		1350000
Less: Variable cost of goods sold
Direct material	400000
Direct labor	160000
variable manufacturing overhead	80000
Total Variable cost of goods sold		640000
Manufacturing margin		710000
Variable selling and administrative expense		120000
Contribution margin		590000
Fixed cost
Fixed manufacturing overhead	250000
Fixed selling and administrative expense	300000
Total fixed cost		550000
Net operating income		40000

2) Reconciliation

Variable costing net operating income	40000
Add: Fixed manufacturing overhead deferred in ending inventory (10000*5)	50000
Absorption costing net operating income	90000