Boots r us produces a variety of products for the fashion industry, cowboy type

Question

                    Boots r us produces a variety of products for the fashion industry, cowboy type boots are among its most popular products. The company controller spoke to the                     company president at a meeting last week and told her the company was doing well, but that the financial picture depended on how product costs and net                     operating income were calculated. The president did not realize that the company had options with regard to calculating these numbers, so she asked the                     controller to prepare some information and be ready to meet with her to talk more about the issue. In preparing for the meeting, the controller accumulated the                     following data;                 

                    Beginning inventory- 25,000                 

                    Units produced- 100,000                 

                    Units sold- 105,000                 

                    Fixed manufacturing overhead- $400,000                 

                    Direct materials per unit -$ 25.00                 

                    Direct labor per unit- $35.00                 

                    Variable manufacturing overhead per unit- $15.00                 

                    1- Compute the cost per unit, using absorption costing                 

                    2- Compute the cost per unit, using variable costing.                 

                    3- Compute the difference in net operating income between the two methods. Which costing method results in the higher net operating income?                 

                    4- Assume that production was 100,000 units and sales were 70,000 units.What would be the difference in the operating income between the two methods? Which                     costing method shows the greater net operating income?                 

                    5- Assume that production was 100,000 units and sales were 100,000 units. What would be the difference in net operating income between the two methods?                 

                    6- Which method is required by generally accepted accounting principles?                 

Explanation / Answer

1- Compute the cost per unit, using absorption costing

direct material

25

direct labor

35

variable manufacturing

15

fixed manufacturing

4

($400,000/100,000 units produced)

Cost per unit

79

2- Compute the cost per unit, using variable costing.

direct material

25

direct labor

35

variable manufacturing

15

cost per unit

75

3- Compute the difference in net operating income between the two methods. Which costing method results in the higher net operating income?

Variable will result in a higher net operating income. 5,000 more units were sold than produced. $4 is the fixed manufacturing overhead per unit. 5,000*4 = 20,000. Variable will result in $20,000 higher net operating income

4- Assume that production was 100,000 units and sales were 70,000 units.What would be the difference in the operating income between the two methods? Which costing method shows the greater net operating income?

30,000*4 = 120,000 . Difference would be $120,000. Absorption would be higher. If you produce more than you sell, absorption is higher.

5- Assume that production was 100,000 units and sales were 100,000 units. What would be the difference in net operating income between the two methods?

No difference. $0

6- Which method is required by generally accepted accounting principles?

Generally accepted accounting principles require absorption.

direct material

25

direct labor

35

variable manufacturing

15

fixed manufacturing

4

($400,000/100,000 units produced)

Cost per unit

79

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