Cutterski Corporation manufactures a propeller.Shown below is Cutterski's cost structure: In its first year of operations, Cutterski produced 60, 000 propellers but only sold 54, 000. Which costing method (variable or absorption)will generate a higher net operating income in Cutterski's first year of operations and by how much?
A)variable by $81, 000
B)variable by $108, 000
C)absorption by $81, 000
D)absorption by $108, 000

Question

Cutterski Corporation manufactures a propeller.Shown below is Cutterski's cost structure:  In its first year of operations, Cutterski produced 60, 000 propellers but only sold 54, 000. Which costing method (variable or absorption)will generate a higher net operating income in Cutterski's first year of operations and by how much?
A)variable by $81, 000 
B)variable by $108, 000 
C)absorption by $81, 000 
D)absorption by $108, 000

Quizplus · Accepted Answer

The difference between variable costing and absorption costing net operating income is entirely due to manufacturing overhead deferred in, or released from, inventory under absorption costing.
Fixed manufacturing overhead per unit under absorption costing = $810, 000 ÷ 60, 000 propellers
= $13.50 per propeller
Units in ending inventory = Units in beginning inventory + Units produced - Units sold
= 0 + 60, 000 propellers - 54, 000 propellers = 6, 000 propellers
Manufacturing overhead deferred in (released from)inventory = Fixed manufacturing overhead in ending inventories - Fixed manufacturing overhead in beginning inventories
= (6, 000 propellers × $13.50 per propeller)- $0 = $81, 000
Because manufacturing overhead is deferred in inventories, absorption costing net operating income is $81, 000 higher than variable costing net income.

Cutterski Corporation Manufactures a Propeller