EXERCISE 5–1 Variable and Absorption Costing Unit Product Costs [LO 5–1]

Ida Sidha Karya Company is a family-owned company located in the village of Gianyar on the island of Bali in Indonesia. The company produces a handcrafted Balinese musical instrument called a gamelan that is similar to a xylophone. The gamelans are sold for $850. Selected data for the company’s operations last year follow:

Units in beginning inventory. . . . . . . . . . . . . . . . .	0
Units produced. . . . . . . . . . . . . . . . . . . . . . . . . .	250
Units sold. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .	225
Units in ending inventory. . . . . . . . . . . . . . . . . . .	25
Variable costs per unit:
Direct materials. . . . . . . . . . . . . . . . . . . . . . . .	$100
Direct labor. . . . . . . . . . . . . . . . . . . . . . . . . . .	$320
Variable manufacturing overhead. . . . . . . . . . . .	$40
Variable selling and administrative. . . . . . . . . . .	$20
Fixed costs:
Fixed manufacturing overhead. . . . . . . . . . . . . .	$60,000
Fixed selling and administrative. . . . . . . . . . . . .	$20,000

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Required:

1. Assume that the company uses absorption costing. Compute the unit product cost for one gamelan.
2. Assume that the company uses variable costing. Compute the unit product cost for one gamelan.

EXERCISE 5–2 Variable Costing Income Statement; Explanation of Difference in Net Operating Income [LO 5–2]

Refer to the data in Exercise 5–1 for Ida Sidha Karya Company. The absorption costing income statement prepared by the company’s accountant for last year appears below:

Sales. . . . . . . . . . . . . . . . . . . . . . .	$191,250
Cost of goods sold. . . . . . . . . . . . .	157,500
Gross margin. . . . . . . . . . . . . . . . .	33,750
Selling and administrative expense. . .	24,500
Net operating income. . . . . . . . . . . .	$ 9,250

Required:

1. Determine how much of the ending inventory consists of fixed manufacturing overhead cost deferred in inventory to the next period.
2. Prepare an income statement for the year using variable costing. Explain the difference in net operating income between the two costing methods.

EXERCISE 5–3 Reconciliation of Absorption and Variable Costing Net Operating Incomes [LO 5–3]

Jorgansen Lighting, Inc., manufactures heavy-duty street lighting systems for municipalities. The company uses variable costing for internal management reports and absorption costing for external reports to shareholders, creditors, and the government. The company has provided the following data:

	Year 1	Year 2	Year 3
Inventories:
Beginning (units). . . . . . . . . . . . . . . . .	200	170	180
Ending (units). . . . . . . . . . . . . . . . . . .	170	180	220
Variable costing net operating income. . . . .	$1,080,400	$1,032,400	$996,400

The company’s fixed manufacturing overhead per unit was constant at $560 for all three years.

Required:

1. Determine each year’s absorption costing net operating income. Present your answer in the form of a reconciliation report.
2. In Year 4, the company’s variable costing net operating income was $984,400 and its absorption costing net operating income was $1,012,400. Did inventories increase or decrease during Year 4? How much fixed manufacturing overhead cost was deferred or released from inventory during Year 4?

EXERCISE 5–4 Basic Segmented Income Statement [LO 5–4]

Royal Lawncare Company produces and sells two packaged products, Weedban and Greengrow. Revenue and cost information relating to the products follow:

	Product
	Weedban	Greengrow
Selling price per unit. . . . . . . . . . . . . . . . .	$6.00	$7.50
Variable expenses per unit. . . . . . . . . . . . .	$2.40	$5.25
Traceable fixed expenses per year. . . . . . . .	$45,000	$21,000

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Common fixed expenses in the company total $33,000 annually. Last year the company produced and sold 15,000 units of Weedban and 28,000 units of Greengrow.

Required:

Prepare a contribution format income statement segmented by product lines.

EXERCISE 5–5 Companywide and Segment Break-Even Analysis [LO 5–5]

Piedmont Company segments its business into two regions—North and South. The company prepared the contribution format segmented income statement shown below:

	Total Company	North	South
Sales. . . . . . . . . . . . . . . . . . . . . . . . . .	$600,000	$400,000	$200,000
Variable expenses. . . . . . . . . . . . . . . . .	360,000	280,000	80,000
Contribution margin. . . . . . . . . . . . . . .	240,000	120,000	120,000
Traceable fixed expenses. . . . . . . . . . . .	120,000	60,000	60,000
Segment margin. . . . . . . . . . . . . . . . . .	120,000	$ 60,000	$ 60,000
Common fixed expenses. . . . . . . . . . . .	50,000
Net operating income. . . . . . . . . . . . . .	$ 70,000

Required:

1. Compute the companywide break-even point in dollar sales.
2. Compute the break-even point in dollar sales for the North region.
3. Compute the break-even point in dollar sales for the South region.

EXERCISE 5–6 Variable and Absorption Costing Unit Product Costs and Income Statements [LO 5–1, LO 5–2]

Lynch Company manufactures and sells a single product. The following costs were incurred during the company’s first year of operations:

Variable costs per unit:
Manufacturing:
Direct materials. . . . . . . . . . . . . . . . .	$6
Direct labor. . . . . . . . . . . . . . . . . . . .	$9
Variable manufacturing overhead. . . . .	$3
Variable selling and administrative. . . . . . . .	$4
Fixed costs per year:
Fixed manufacturing overhead. . . . . . . . .	$300,000
Fixed selling and administrative. . . . . . . .	$190,000

During the year, the company produced 25,000 units and sold 20,000 units. The selling price of the company’s product is $50 per unit.

Required:

1. Assume that the company uses absorption costing:
   • a. Compute the unit product cost.
   • b. Prepare an income statement for the year.
2. Assume that the company uses variable costing:
   • a. Compute the unit product cost.
   • b. Prepare an income statement for the year.

EXERCISE 5–7 Segmented Income Statement [LO 5–4]

Shannon Company segments its income statement into its North and South Divisions. The company’s overall sales, contribution margin ratio, and net operating income are $500,000, 46%, and $10,000, respectively. The North Division’s contribution margin and contribution margin ratio are $150,000 and 50%, respectively. The South Division’s segment margin is $30,000. The company has $90,000 of common fixed expenses that cannot be traced to either division.

Required:

Prepare an income statement for Shannon Company that uses the contribution format and is segmented by divisions. In addition, for the company as a whole and for each segment, show each item on the segmented income statements as a percent of sales.

EXERCISE 5–8 Deducing Changes in Inventories [LO 5–3]

Parker Products Inc, a manufacturer, reported $123 million in sales and a loss of $18 million in its annual report to shareholders. According to a CVP analysis prepared for management, the company’s break-even point is $115 million in sales.

Required:

Assuming that the CVP analysis is correct, is it likely that the company’s inventory level increased, decreased, or remained unchanged during the year? Explain.

EXERCISE 5–9 Variable and Absorption Costing Unit Product Costs and Income Statements [LO 5–1, LO 5–2, LO 5–3]

Walsh Company manufactures and sells one product. The following information pertains to each of the company’s first two years of operations:

Variable costs per unit:
Manufacturing:
Direct materials. . . . . . . . . . . . . . . . .	$25
Direct labor. . . . . . . . . . . . . . . . . . . .	$15
Variable manufacturing overhead. . . . .	$5
Variable selling and administrative. . . . . . .	$2
Fixed costs per year:
Fixed manufacturing overhead. . . . . . . . .	$250,000
Fixed selling and administrative expenses. . . . .	$80,000

During its first year of operations, Walsh produced 50,000 units and sold 40,000 units. During its second year of operations, it produced 40,000 units and sold 50,000 units. The selling price of the company’s product is $60 per unit.

Required:

1. Assume the company uses variable costing:
   • a. Compute the unit product cost for Year 1 and Year 2.
   • b. Prepare an income statement for Year 1 and Year 2.
2. Assume the company uses absorption costing:
   • a. Compute the unit product cost for Year 1 and Year 2.
   • b. Prepare an income statement for Year 1 and Year 2.
3. Explain the difference between variable costing and absorption costing net operating income in Year 1. Also, explain why the two net operating income figures differ in Year 2.

EXERCISE 5–10 Companywide and Segment Break-Even Analysis [LO 5–5]

Crossfire Company segments its business into two regions—East and West. The company prepared the contribution format segmented income statement shown below:

	Total Company	East	West
Sales. . . . . . . . . . . . . . . . . . . . . . . . . .	$900,000	$600,000	$300,000
Variable expenses. . . . . . . . . . . . . . . . .	675,000	480,000	195,000
Contribution margin. . . . . . . . . . . . . . .	225,000	120,000	105,000
Traceable fixed expenses. . . . . . . . . . . .	141,000	50,000	91,000
Segment margin. . . . . . . . . . . . . . . . . .	84,000	$ 70,000	$ 14,000
Common fixed expenses. . . . . . . . . . . .	59,000
Net operating income. . . . . . . . . . . . . .	$ 25,000

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Required:

1. Compute the companywide break-even point dollar in sales.
2. Compute the break-even point in dollar sales for the East region.
3. Compute the break-even point in dollar sales for the West region.
4. Prepare a new segmented income statement based on the break-even dollar sales that you computed in requirements 2 and 3. Use the same format as shown above. What is Crossfire’s net operating income in your new segmented income statement?
5. Do you think that Crossfire should allocate its common fixed expenses to the East and West regions when computing the break-even points for each region? Why?

EXERCISE 5–11 Segmented Income Statement [LO 5–4]

Wingate Company, a wholesale distributor of electronic equipment, has been experiencing losses for some time, as shown by its most recent monthly contribution format income statement, which follows:

Sales. . . . . . . . . . . . . . . . . . . .	$1,000,000
Variable expenses. . . . . . . . . . .	390,000
Contribution margin. . . . . . . . . .	610,000
Fixed expenses. . . . . . . . . . . . . .	625,000
Net operating income (loss). . . . .	$ (15,000)

In an effort to isolate the problem, the president has asked for an income statement segmented by division. Accordingly, the Accounting Department has developed the following information:

	Division
	East	Central	West
Sales. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .	$250,000	$400,000	$350,000
Variable expenses as a percentage
of sales . . . . . . . . . . . . . . . . . . . . . . . . . . . .	52%	30%	40%
Traceable fixed expenses . . . . . . . . . . . . . . . . .	$160,000	$200,000	$175,000

Required:

1. Prepare a contribution format income statement segmented by divisions, as desired by the president.
2. As a result of a marketing study, the president believes that sales in the West Division could be increased by 20% if monthly advertising in that division were increased by $15,000. Would you recommend the increased advertising? Show computations to support your answer.

EXERCISE 5–12 Variable Costing Income Statement; Reconciliation [LO 5–2, LO 5–3]

Whitman Company has just completed its first year of operations. The company’s absorption costing income statement for the year appears below:

Whitman Company Income Statement
Sales (35,000 units × $25 per unit) . . . . . . . . . . . . . . . . . . . . . . .	$875,000
Cost of goods sold (35,000 units × $16 per unit). . . . . . . . . . . . . .	560,000
Gross margin. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .	315,000
Selling and administrative expenses. . . . . . . . . . . . . . . . . . . . . . . .	280,000
Net operating income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .	$ 35,000

The company’s selling and administrative expenses consist of $210,000 per year in fixed expenses and $2 per unit sold in variable expenses. The $16 per unit product cost given above is computed as follows:

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Direct materials. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .	$5
Direct labor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .	6
Variable manufacturing overhead. . . . . . . . . . . . . . . . . . . . . . .	1
Fixed manufacturing overhead ($160,000 + 40,000 units). . . . . .	4
Absorption costing unit product cost. . . . . . . . . . . . . . . . . . . . .	$16

Required:

1. Redo the company’s income statement in the contribution format using variable costing.
2. Reconcile any difference between the net operating income on your variable costing income statement and the net operating income on the absorption costing income statement above.

EXERCISE 5–13 Inferring Costing Method; Unit Product Cost [LO 5–1]

Sierra Company incurs the following costs to produce and sell a single product.

Variable costs per unit:
Direct materials. . . . . . . . . . . . . . . . . . . . . . . .	$9
Direct labor. . . . . . . . . . . . . . . . . . . . . . . . . . .	$10
Variable manufacturing overhead. . . . . . . . . . . . .	$5
Variable selling and administrative expenses. . . . . .	$3
Fixed costs per year:
Fixed manufacturing overhead. . . . . . . . . . . . . . . .	$150,000
Fixed selling and administrative expenses. . . . . . . .	$400,000

During the last year, 25,000 units were produced and 22,000 units were sold. The Finished Goods inventory account at the end of the year shows a balance of $72,000 for the 3,000 unsold units.

Required:

1. Is the company using absorption costing or variable costing to cost units in the Finished Goods inventory account? Show computations to support your answer.
2. Assume that the company wishes to prepare financial statements for the year to issue to its stockholders.
   • a. Is the $72,000 figure for Finished Goods inventory the correct amount to use on these statements for external reporting purposes? Explain.
   • b. At what dollar amount should the 3,000 units be carried in the inventory for external reporting purposes?

EXERCISE 5–14 Variable Costing Unit Product Cost and Income Statement; Break-Even [LO 5–1, LO 5–2]

Chuck Wagon Grills, Inc., makes a single product—a handmade specialty barbecue grill that it sells for $210. Data for last year’s operations follow:

Units in beginning inventory. . . . . . . . . . . . . . . . .	0
Units produced. . . . . . . . . . . . . . . . . . . . . . . . . .	20,000
Units sold. . . . . . . . . . . . . . . . . . . . . . . . . . . . .	19,000
Units in ending inventory. . . . . . . . . . . . . . . . . .	1,000
Variable costs per unit:
Direct materials. . . . . . . . . . . . . . . . . . . . . . . .	$ 50
Direct labor. . . . . . . . . . . . . . . . . . . . . . . . . . .	80
Variable manufacturing overhead. . . . . . . . . . . . .	20
Variable selling and administrative. . . . . . . . . . . . .	10
Total variable cost per unit. . . . . . . . . . . . . . . . . .	$160
Fixed costs:
Fixed manufacturing overhead. . . . . . . . . . . . . . . . .	$700,000
Fixed selling and administrative. . . . . . . . . . . . . . . . .	285,000
Total fixed costs. . . . . . . . . . . . . . . . . . . . . . . . . . .	$985,000

Required:

1. Assume that the company uses variable costing. Compute the unit product cost for one barbecue grill.
2. Assume that the company uses variable costing. Prepare a contribution format income statement for the year.
3. What is the company’s break-even point in terms of the number of barbecue grills sold?

EXERCISE 5–15 Absorption Costing Unit Product Cost and Income Statement [LO 5–1, LO 5–2]

Refer to the data in Exercise 5–14 for Chuck Wagon Grills. Assume in this exercise that the company uses absorption costing.

Required:

1. Compute the unit product cost for one barbecue grill.
2. Prepare an income statement.

EXERCISE 5–16 Working with a Segmented Income Statement; Break-Even Analysis [LO 5–4, LO 5–5]

Raner, Harris, & Chan is a consulting firm that specializes in information systems for medical and dental clinics. The firm has two offices—one in Chicago and one in Minneapolis. The firm classifies the direct costs of consulting jobs as variable costs. A contribution format segmented income statement for the company’s most r