Question

Dilia Company incurred manufacturing overhead cost for the year as follows:

Direct materials	$	50	/unit
Direct labor	$	35	/unit
Manufacturing overhead
Variable	$	15	/unit
Fixed ($25/unit for 1,500 units)	$	37,500
Variable selling and administrative expenses	$	10,500
Fixed selling and administrative expenses	$	20,000

The company produced 1,500 units and sold 1,200 of them at $225 per unit. Assume that the production manager is paid a 2 percent bonus based on the company’s net income.

Required

1. Prepare an income statement using absorption costing.

2. Prepare an income statement using variable costing.

3. Determine the manager’s bonus using each approach. Which approach would you recommend for internal reporting?

Required 1

	DILIA COMPANY Income Statement (Absorption Costing) Revenues $270,000 Cost of goods sold Direct materials Direct labor Manufacturing overhead 0 Gross margin $270,000 Selling and administrative expenses Net income $270,000

Required 2.

	DILIA COMPANY Income Statement (Variable Costing) Revenues $270,000 Cost of goods sold Variable selling and administrative expenses 10,500 Fixed selling and administrative expenses 20,000 Revenues 270,000 300,500 $(30,500) Direct materials 120,000 Revenues 150,000 Variable selling and administrative expenses 30,500 $(331,000)

Required 3.

	Absorption costing $1,790 Variable costing $1,640 Which approach is recommended? Variable costing

Answer 1

Solution 1:

DILIA COMPANY
Income Statement
(Absorption Costing)
Revenues (1200*$225)		$2,70,000
Cost of goods sold:
Direct materials (1200*$50)	$60,000
Direct labor (1200*$35)	$42,000
Variable Manufacturing overhead [1200*$15]	$18,000
Fixed Manufacturing overhead [1200*$25]	$30,000
Cost of goods sold		$1,50,000
Gross margin		$1,20,000
Variable Selling and administrative expenses	$10,500
Fixed Selling and administrative expenses	$20,000
Total Selling and administrative expense		$30,500
Net income		$89,500

Solution 2:

DILIA COMPANY
Income Statement
(Variable Costing)
Revenues (1200*$225)		$2,70,000
Variable Costs:
Direct materials (1200*$50)	$60,000
Direct labor (1200*$35)	$42,000
Variable Manufacturing overhead [1200*$15]	$18,000
Variable Selling and administrative expenses	10,500
Total variable costs		$1,30,500
Contribution Margin		1,39,500
Fixed Costs:
Fixed Manufacturing overhead	$37,500
Fixed Selling and administrative expenses	$20,000
Total Fixed costs		$57,500
Net income		$82,000

Solution 3:

Manager’s bonus using each approach
Absorption costing ($89500*2%)	$1,790
Variable costing ($82000*2%)	$1,640
Which approach is recommended?	Variable costing