Question

Q4. (25 marks) Yamaha Company reported operating income for Year 2 of $1,600,000 under variable costing and $1,200,000 under absorption costing. The total variable manufacturing cost of the company's beginning finished goods inventory was $120,000. The cost of the company's end-of-year finished goods inventory under standard absorption costing was $50,000 higher than the cost of the beginning-of-year finished goods inventory under variable costing. Required: a) Calculate the cost of ending finished goods inventory under absorption costing. b) Compare the operating incomes under absorption costing and variable costing. What do the numbers suggest in terms of relationship, if any, between units sold and units produced in Year 2? Explain.

Answer 1

a)

Marginal Costing

Under marginal costing only variable costs are cosidered for calculation of product cost. Fixed Cost are not cosidered fto determine product cost.

Absorption Costing

Under absorption costing variable and as well as fixed costs are considered for product costing.

Value of Closing Inventory under Absorption Costing

In the question it is given that the variable cost of the begining inventory is $120000. So, we can say that the cost of the begining inventory as per marginal costing is $120000 cause in marginal costing method fixed cost is not included in valuation of inventory.

It is also known from the question that the ending inventory under absorption costing is $50000 more than the amount of the begining inventory under marginal costing.

So, the Value of the Ending Inventory under Absorption Costing = (120000 + 50000) = $170000

b)

The Operating Profit under marginal costing is (1600000 - 1200000) = $400000 more than the absorption based costing. This can be due to the Over absorption of fixed cost in absorption based costing. it can be seen that there is a predetermined fixed overhead rate. Under marginal costing the fixed overhead is applied on the actual units sold. But in the case of absorption costing this pre-determined fixed overhead rate fully charged. Thats why marginal cost profit is greater than the absorption costing. There is no option available in marginal costing of over or under absorption of fixed overhead. Whereas over and under absorption of fixed overhead is applied is absorption costing. $400000 fixed overhead is over absorbed in absorption costing.

Moreover, Over absorption of fixed overhead happens when the number of units sold is lesser than number of units produced. So, by the figures given in the question it can be said that the number of units sold is less than the number of units produced and in hand.