The Jolly Jodphurs Company is situated in Hampshire and manufactures riding trousers of a distinctive design. The company has been operating for some years, utilizing an overhead absorption technique to reflect the charging of manufacturing overheads into production costs. The management have recently received a report, however, from a member of staff who attended a short course on accounting techniques. This report highlighted another technique for dealing with the treatment of the fixed portion of manufacturing overheads — the variable approach. The management are impressed by the report and have decided that, as a special exercise, the accounts for the financial year just ended should be shown under both techniques, and have accordingly asked you, the company’s accountant, to undertake this task.

The following information is relevant to the year ended 31st May, 19_5:

Additional information:
(1) Selling price is £35 per pair.
(2) At present, fixed manufacturing overheads are absorbed via a direct labour hour rate basis, based upon the budgeted level of activity.
Variances are transferred to the Profit and Loss Account of the year.
(3) On Ist June, 19_4, opening stocks of finished goods consisted of 4 000 pairs valued at a production cost of £106 000. This production cost value reflected costs as follows:

Required:

(a) (i) Prepare a Profit and Loss Account for the year ending 31st May, 19_5, using the fixed overhead absorption approach as employed by the Company;
(ii) Prepare a Profit and Loss Account for the year ending 31st May 19_5 using the variable approach; (7 marks)
(iii) Explain the reason why the profits you have calculated in (i) and (ii) above differ and apply your explanation to account for this difference.

(b) Compare the under/over absorption arising when fixed manufacturing overheads are absorbed via a direct labour hour rate basis, as in

(a) (i)
above, with the under/over absorption arising if those overheads were absorbed, (i) via a unit of output absorption rate.
(ii) via a prime cost percentage absorption rate.
Where appropriate calculations are to be made to 3 decimal places.

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Detail Production in pairs Sales in pairs Direct material cost Direct labour cost per hour Direct labour hours Fixed manufacturing overhead Fixed administration overhead Variable selling expenses Budgeted Actual 24 000 15.000 21 000 120 000 5 18 000 165 000 as per budget 2.5 per pair 30 000 in total 54 000 96 000 19 950 4 000 per month 120 000 as per budget basis