The Moreno Company manufactures trendy, high-quality, moderately priced watches. As Moreno's senior financial analyst, you are asked to recommend a method of inventory costing. The chief financial officer (CFO) will use your recommendation to prepare Moreno's 2020 income statement. The following data are for the year ended December 31, 2020: Requirements 1. Prepare income statements under variable and absorption costing for the year ended December 31, 2020. 2. What is Moreno's operating income as percentage of revenues under each costing method? 3. Explain the difference in operating income between the two methods. 4. Which costing method would you recommend to the CFO? Why? ..... Data Table Beginning inventory, January 1, 2020 Ending inventory, December 31, 2020 2020 sales Selling price (to distributor) Variable manufacturing cost per unit, including direct materials Variable operating (marketing) cost per unit sold Fixed manufacturing costs Denominator-level machine-hours Standard production rate Fixed operating (marketing) costs 91,000 units 35,000 units 365,000 units $20.50 per unit $5.10 per unit $1.80 per unit sold $1,600,000 6,400 50 units per machine-hour $1,100,000 $ Requirement 1. Prepare income statements under variable and absorption costing for the year ended December 31, 2020. Begin by preparing the income statement under variable costing for the year ended December 31, 2020. Complete the top half of the income statement first, then complete the bottom portion. Variable costing Revenues $ 7,705,000 Variable cost of goods sold: Beginning inventory 510,400 Variable manufacturing costs 1,653,000 Cost of goods available for sale 2,163,400 Deduct ending inventory (220,400) Variable cost goods sold 1,943,000 Variable operating costs 502,500 Contribution margin 5,259,500 Fixed manufacturing overhead costs 1,334,000 Fixed operating costs 1,030,000 $ 2,895,500 Operating income (loss) Now prepare the income statement under absorption costing for the year ended December 31, 2020. Complete the top half of the income statement first, then complete the bottom portion. (Label any variances as favorable (F) or unfavorable (U).) Absorption costing Revenues $ 7,705,000 Cost of goods sold: Beginning inventory $ 915,200 Variable manufacturing costs 1,653,000 Allocated fixed manufacturing costs 1,311,000 Cost of goods available for sale 3,879,200 Deduct ending inventory (395,200) Adjustment for production-volume variance 23,000 u Cost of goods sold 3,507,000 Gross margin 4,198,000 Variable operating costs 502,500 Fixed operating costs 1,030,000 $ 2,665,500 Operating income (loss) Requirement 2. What is Klocka's operating income as percentage of revenues under each costing method? (Round the percentages to the nearest tenth percent, X.X%.) Operating income as % of revenues Variable costing 37.6 % Absorption costing 34.6% Requirement 3. Explain the difference in operating income between the two methods. Operating income using variable costing is greater than operating income using absorption costing. The main difference between variable costing and absorption costing is the way in which fixed manufacturing costs are accounted for. Requirement 4. Which costing method would you recommend to the CFO? Why? The absorption costing method should be recommended as it considers all the manufacturing resources used to produce units of output
