Gallatin County Motors Inc. assembles and sells snowmobile engines. The company began operations on July 1 and operated at 100% of capacity during the first month. The following data summarize the results for July:

Sales (8,500 units) $935,000 Production costs (11,000 units): Direct materials $447,700 Direct labor 214,500 Variable factory overhead 107,800 Fixed factory overhead 71,500 841,500 Selling and administrative expenses: Variable selling and administrative expenses $130,400 Fixed selling and administrative expenses 50,500 180,900

If required, round interim per-unit calculations to the nearest cent.

Question Content Area a. Prepare an income statement according to the absorption costing concept.

Gallatin County Motors Inc. Absorption Costing Income Statement For the Month Ended July 31

Sales

Cost of goods sold

Gross profit

Selling and administrative expenses

Operating income Feedback a. Under absorption costing, the cost of goods manufactured includes direct materials, direct labor, and factory overhead costs. Both fixed and variable factory costs are included as part of factory overhead.

Question Content Area b. Prepare an income statement according to the variable costing concept.

Gallatin County Motors Inc. Variable Costing Income Statement For the Month Ended July 31

Sales

Variable cost of goods sold

Manufacturing margin

Variable selling and administrative expenses

Contribution margin Fixed costs:

Fixed factory overhead costs

Fixed selling and administrative expenses

Total fixed costs

Operating income Feedback b. Under variable costing, the cost of goods manufactured includes only variable manufacturing costs.

Question Content Area c. What is the reason for the difference in the amount of operating income reported in (a) and (b)?

Under the absorption costing method, the fixed manufacturing cost included in the cost of goods sold is matched with the revenues. Under variable costing , all of the fixed manufacturing cost is deducted in the period in which it is incurred, regardless of the amount of inventory change. Thus, when inventory increases, the absorption costing income statement will have a higher operating income.