Case 4-29

Answer each question as if you were the managerial accountant for the company and are presenting to the company vice-president regarding the information requested in the case study. You must not only give the correct numbers but also explain to management what variable costing is, why variable costing is useful and why the net income is different for absorption vs variable costing and also why net income is different for LIFO vs FIFO. Then follow the explanation up with a recommendation for management reporting.

For each answer explain the terminology and concepts used. For example, rather than just give the product cost/net income, explain the calculation - this is a professional report from a managerial accountant to the company vice-president.

Use outside sources when necessary BUT MAKE SURE YOU CITE THEM!

When giving a recommendation, back it up with numbers. Make sure you address the original dilemma - lowest bid in different situations.

This particular answer should be managerial accounting report to the company president that is no more than 2 pages in length.

1. OBrien Company manufactures and sells one product. The following information pertains to each of the companys first three years of operations:

Variable costs per unit:
Manufacturing:
Direct materials	$ 25
Direct labor	$ 16
Variable manufacturing overhead	$ 4
Variable selling and administrative	$ 3
Fixed costs per year:
Fixed manufacturing overhead	$ 560,000
Fixed selling and administrative expenses	$ 120,000

During its first year of operations, OBrien produced 93,000 units and sold 71,000 units. During its second year of operations, it produced 83,000 units and sold 100,000 units. In its third year, OBrien produced 83,000 units and sold 78,000 units. The selling price of the companys product is $73 per unit.

Required:

1. Assume the company uses variable costing and a FIFO inventory flow assumption (FIFO means first-in first-out. In other words, it assumes that the oldest units in inventory are sold first):

a. Compute the unit product cost for Year 1, Year 2, and Year 3.

b. Prepare an income statement for Year 1, Year 2, and Year 3.

Explanation

1.

a. Under variable costing, only the variable manufacturing costs are included in product costs.

	Year 1	Year 2	Year 3
Direct materials	$ 25	$ 25	$ 25
Direct labor	16	16	16
Variable manufacturing overhead	4	4	4
Variable costing unit product cost	$ 45	$ 45	$ 45

b. Year 1:

Variable cost of goods sold (71,000 units $45 per unit) = $3,195,000

Variable selling and administrative expenses (71,000 units $3 per unit) = $213,000

Year 2:

Variable cost of goods sold (100,000 units $45 per unit) = $4,500,000

Variable selling and administrative expenses (100,000 units $3 per unit) = $300,000

Year 3:

Variable cost of goods sold (78,000 units $45 per unit) = $3,510,000

Variable selling and administrative expenses (78,000 units $3 per unit) = $234,000

2. OBrien Company manufactures and sells one product. The following information pertains to each of the companys first three years of operations:

Variable costs per unit:
Manufacturing:
Direct materials	$ 25
Direct labor	$ 16
Variable manufacturing overhead	$ 4
Variable selling and administrative	$ 3
Fixed costs per year:
Fixed manufacturing overhead	$ 560,000
Fixed selling and administrative expenses	$ 120,000

During its first year of operations, OBrien produced 93,000 units and sold 71,000 units. During its second year of operations, it produced 83,000 units and sold 100,000 units. In its third year, OBrien produced 83,000 units and sold 78,000 units. The selling price of the companys product is $73 per unit.

2. Assume the company uses variable costing and a LIFO inventory flow assumption (LIFO means last-in first-out. In other words, it assumes that the newest units in inventory are sold first):

a. Compute the unit product cost for Year 1, Year 2, and Year 3.

b. Prepare an income statement for Year 1, Year 2, and Year 3.

Explanation

2.

a. Under variable costing, only the variable manufacturing costs are included in product costs.

	Year 1	Year 2	Year 3
Direct materials	$ 25	$ 25	$ 25
Direct labor	16	16	16
Variable manufacturing overhead	4	4	4
Variable costing unit product cost	$ 45	$ 45	$ 45

b. Year 1:

Variable cost of goods sold (71,000 units $45 per unit) = $3,195,000

Variable selling and administrative expenses (71,000 units $3 per unit) = $213,000

Year 2:

Variable cost of goods sold (100,000 units $45 per unit) = $4,500,000

Variable selling and administrative expenses (100,000 units $3 per unit) = $300,000

Year 3:

Variable cost of goods sold (78,000 units $45 per unit) = $3,510,000

Variable selling and administrative expenses (78,000 units $3 per unit) = $234,000

The answers to 2a and 2b are the same as 1a and 1b because the unit product costs are the same for all three years. The inventory flow assumption is irrelevant when the unit product cost stays constant.

3. OBrien Company manufactures and sells one product. The following information pertains to each of the companys first three years of operations:

Variable costs per unit:
Manufacturing:
Direct materials	$ 25
Direct labor	$ 16
Variable manufacturing overhead	$ 4
Variable selling and administrative	$ 3
Fixed costs per year:
Fixed manufacturing overhead	$ 560,000
Fixed selling and administrative expenses	$ 120,000

During its first year of operations, OBrien produced 93,000 units and sold 71,000 units. During its second year of operations, it produced 83,000 units and sold 100,000 units. In its third year, OBrien produced 83,000 units and sold 78,000 units. The selling price of the companys product is $73 per unit.

3. Assume the company uses absorption costing and a FIFO inventory flow assumption (FIFO means first-in first-out. In other words, it assumes that the oldest units in inventory are sold first):

a. Compute the unit product cost for Year 1, Year 2, and Year 3.

b. Prepare an income statement for Year 1, Year 2, and Year 3.

Explanation

3.

a. The unit product costs under absorption costing:

	Year 1	Year 2	Year 3
Direct materials	$ 25.00	$ 25.00	$ 25.00
Direct labor	16.00	16.00	16.00
Variable manufacturing overhead	4.00	4.00	4.00
Fixed manufacturing overhead	6.02	6.75	6.75
Absorption costing unit product cost	$ 51.02	$ 51.75	$ 51.75

Fixed manufacturing overhead:

$560,000 93,000 units = $6.02 per unit

$560,000 83,000 units = $6.75 per unit

$560,000 83,000 units = $6.75 per unit

b. Cost of goods sold computations:

Year 1: (71,000 units $51.02 per unit) = $3,622,420

Year 2: (22,000 units $51.02 per unit) + (78,000 units $51.75 per unit) = $5,158,940

Year 3: (5,000 units $51.75 per unit) + (73,000 units $51.75 per unit) = $4,036,500

4. OBrien Company manufactures and sells one product. The following information pertains to each of the companys first three years of operations:

Variable costs per unit:
Manufacturing:
Direct materials	$ 25
Direct labor	$ 16
Variable manufacturing overhead	$ 4
Variable selling and administrative	$ 3
Fixed costs per year:
Fixed manufacturing overhead	$ 560,000
Fixed selling and administrative expenses	$ 120,000

During its first year of operations, OBrien produced 93,000 units and sold 71,000 units. During its second year of operations, it produced 83,000 units and sold 100,000 units. In its third year, OBrien produced 83,000 units and sold 78,000 units. The selling price of the companys product is $73 per unit.

4. Assume the company uses absorption costing and a LIFO inventory flow assumption (LIFO means last-in first-out. In other words, it assumes that the newest units in inventory are sold first):

a. Compute the unit product cost for Year 1, Year 2, and Year 3.

b. Prepare an income statement for Year 1, Year 2, and Year 3

Explanation

4.

a. The unit product costs under absorption costing:

	Year 1	Year 2	Year 3
Direct materials	$ 25.00	$ 25.00	$ 25.00
Direct labor	16.00	16.00	16.00
Variable manufacturing overhead	4.00	4.00	4.00
Fixed manufacturing overhead	6.02	6.75	6.75
Absorption costing unit product cost	$ 51.02	$ 51.75	$ 51.75

Fixed manufacturing overhead:

$560,000 93,000 units = $6.02 per unit

$560,000 83,000 units = $6.75 per unit

$560,000 83,000 units = $6.75 per unit

b. Cost of goods sold computations:

Year 1: (71,000 units $51.02 per unit) = $3,622,420

Year 2: (83,000 units $51.75 per unit) + (17,000 units $51.02 per unit) = $5,162,590

Year 3: (78,000 units $51.75 per unit) = $4,036,500