Income Statements under Absorption Costing and Variable Costing

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 (11,500 units)				$1,150,000
Production costs (15,000 units):
Direct materials		$555,000
Direct labor		267,000
Variable factory overhead		133,500
Fixed factory overhead		88,500		1,044,000
Selling and administrative expenses:
Variable selling and administrative expenses		$161,800
Fixed selling and administrative expenses		62,600		224,400

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

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
	$
	$
	$

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
		$
		$
		$
Fixed costs:
	$
		$

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

Under the method, the fixed manufacturing cost included in the cost of goods sold is matched with the revenues. Under , 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 income statement will have a higher operating income.