Part 1

During Heaton Companys first two years of operations, it reported absorption costing net operating income as follows:

	Year 1	Year 2
Sales (@ $62 per unit)	$ 1,116,000	$ 1,736,000
Cost of goods sold (@ $37 per unit)	666,000	1,036,000
Gross margin	450,000	700,000
Selling and administrative expenses*	306,000	336,000
Net operating income	$ 144,000	$ 364,000

* $3 per unit variable; $252,000 fixed each year.

The companys $37 unit product cost is computed as follows:

Direct materials	$ 8
Direct labor	13
Variable manufacturing overhead	2
Fixed manufacturing overhead ($322,000 23,000 units)	14
Absorption costing unit product cost	$ 37

Production and cost data for the first two years of operations are:

	Year 1	Year 2
Units produced	23,000	23,000
Units sold	18,000	28,000

Required:

1. Using variable costing, what is the unit product cost for both years?

2. What is the variable costing net operating income in Year 1 and in Year 2?

3. Reconcile the absorption costing and the variable costing net operating income figures for each year.

Part 2:

Vulcan Companys contribution format income statement for June is as follows:

Vulcan Company Income Statement For the Month Ended June 30
Sales	$ 900,000
Variable expenses	400,000
Contribution margin	500,000
Fixed expenses	485,000
Net operating income	$ 15,000

Management is disappointed with the companys performance and is wondering what can be done to improve profits. By examining sales and cost records, you have determined the following:

1. The company is divided into two sales territoriesNorthern and Southern. The Northern Territory recorded $400,000 in sales and $160,000 in variable expenses during June; the remaining sales and variable expenses were recorded in the Southern Territory. Fixed expenses of $184,000 and $150,000 are traceable to the Northern and Southern Territories, respectively. The rest of the fixed expenses are common to the two territories.

2. The company is the exclusive distributor for two productsPaks and Tibs. Sales of Paks and Tibs totaled $290,000 and $110,000, respectively, in the Northern territory during June. Variable expenses are 29% of the selling price for Paks and 69% for Tibs. Cost records show that $145,000 of the Northern Territorys fixed expenses are traceable to Paks and $26,400 to Tibs, with the remainder common to the two products.

Required:

1-a. Prepare contribution format segmented income statements for the total company broken down between sales territories.

1-b. Prepare contribution format segmented income statements for the Northern Territory broken down by product line.

Part 3:

Denton Company manufactures and sells a single product. Cost data for the product are given:

Variable costs per unit:
Direct materials	$ 4
Direct labor	9
Variable manufacturing overhead	3
Variable selling and administrative	3
Total variable cost per unit	$ 19
Fixed costs per month:
Fixed manufacturing overhead	$ 96,000
Fixed selling and administrative	169,000
Total fixed cost per month	$ 265,000

The product sells for $47 per unit. Production and sales data for July and August, the first two months of operations, follow:

	Units Produced	Units Sold
July	24,000	20,000
August	24,000	28,000

The companys Accounting Department has prepared the following absorption costing income statements for July and August:

	July	August
Sales	$ 940,000	$ 1,316,000
Cost of goods sold	400,000	560,000
Gross margin	540,000	756,000
Selling and administrative expenses	229,000	253,000
Net operating income	$ 311,000	$ 503,000

Required:

1. Determine the unit product cost under:

a. Absorption costing.

b. Variable costing.

2. Prepare a variable costing income statements for July and August.

3. Reconcile the variable costing and absorption costing net operating incomes.

Part 4

Starfax, Incorporated, manufactures a small part that is widely used in various electronic products such as home computers. Results for the first three years of operations were as follows (absorption costing basis):

	Year 1	Year 2	Year 3
Sales	$ 848,000	$ 678,400	$ 848,000
Cost of goods sold	614,800	424,000	657,200
Gross margin	233,200	254,400	190,800
Selling and administrative expenses	201,400	190,800	180,200
Net operating income (loss)	$ 31,800	$ 63,600	$ \10,600\

In the latter part of Year 2, a competitor went out of business and in the process dumped a large number of units on the market. As a result, Starfaxs sales dropped by 20% during Year 2 even though production increased during the year. Management had expected sales to remain constant at 53,000 units; the increased production was designed to provide the company with a buffer of protection against unexpected spurts in demand. By the start of Year 3, management could see that it had excess inventory and that spurts in demand were unlikely. To reduce the excessive inventories, Starfax cut back production during Year 3, as shown below:

	Year 1	Year 2	Year 3
Production in units	53,000	63,600	42,400
Sales in units	53,000	42,400	53,000

Additional information about the company follows:

1. The companys plant is highly automated. Variable manufacturing expenses (direct materials, direct labor, and variable manufacturing overhead) total only $2.00 per unit, and fixed manufacturing overhead expenses total $508,800 per year.

2. A new fixed manufacturing overhead rate is computed each year based on that year's actual fixed manufacturing overhead costs divided by the actual number of units produced.

3. Variable selling and administrative expenses were $1 per unit sold in each year. Fixed selling and administrative expenses totaled $142,400 per year.

4. The company uses 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.)

Starfaxs management cant understand why profits doubled during Year 2 when sales dropped by 20% and why a loss was incurred during Year 3 when sales recovered to previous levels.

Required:

1. Prepare a variable costing income statement for each year.

2. Refer to the absorption costing income statements above.

a. Compute the unit product cost in each year under absorption costing. Show how much of this cost is variable and how much is fixed.

b. Reconcile the variable costing and absorption costing net operating income figures for each year.

5b. If Lean Production had been used during Year 2 and Year 3, what would the companys net operating income (or loss) have been in each year under absorption costing?