Variable Costing Can Still Create Incentives to Over Produce
Cope Products uses a flexible budget to set the overhead rate at the beginning of the year based on units produced. In year 1 budgeted fixed overhead is $1 million and budgeted variable overhead is $2 per unit. Direct material and direct labor together are $5 per unit. Blauvelt sells the completed product for $30. There is no beginning inventory. Budgeted volume is 80,000 units. Production and sales are 80,000 units. Actual overhead incurred in year 1 is $1,160,000. Any under- or over-absorbed overhead is written off to cost of goods sold.
In year 2, budgeted volume and production are again both 80,000 units. However, only 60,000 units are sold. Budgeted fixed overhead is $1 million and budgeted variable overhead is $2 per unit. Direct material and direct labor are $5 per unit. Final selling price remains at $30 per unit. Actual overhead incurred in year 2 is $1.35 million.
Required:
a. Calculate net income in year 1 first using absorption costing and then using variable costing. Explain any difference between the two net income numbers.
b. Calculate net income in year 2 using absorption costing, where the overhead rate used to assign overhead to products is based on actual overhead incurred.
c. Calculate net income in year 2 using variable costing, where any difference between budgeted overhead and actual overhead is treated as a fixed cost.
d. Calculate net income in year 2 using variable costing, where any difference between budgeted overhead and actual overhead is treated as a variable cost.
e. Explain why your answers in parts (b), (c), and (d) differ.

Question

Quizplus · Accepted Answer

The Answer of Variable Costing Can Still Create Incentives to Over Produce
Cope Products uses a flexible budget to set the overhead rate at the beginning of the year based on units produced. In year 1 budgeted fixed overhead is $1 million and budgeted variable overhead is $2 per unit. Direct material and direct labor together are $5 per unit. Blauvelt sells the completed product for $30. There is no beginning inventory. Budgeted volume is 80,000 units. Production and sales are 80,000 units. Actual overhead incurred in year 1 is $1,160,000. Any under- or over-absorbed overhead is written off to cost of goods sold.
In year 2, budgeted volume and production are again both 80,000 units. However, only 60,000 units are sold. Budgeted fixed overhead is $1 million and budgeted variable overhead is $2 per unit. Direct material and direct labor are $5 per unit. Final selling price remains at $30 per unit. Actual overhead incurred in year 2 is $1.35 million.
Required:
a. Calculate net income in year 1 first using absorption costing and then using variable costing. Explain any difference between the two net income numbers.
b. Calculate net income in year 2 using absorption costing, where the overhead rate used to assign overhead to products is based on actual overhead incurred.
c. Calculate net income in year 2 using variable costing, where any difference between budgeted overhead and actual overhead is treated as a fixed cost.
d. Calculate net income in year 2 using variable costing, where any difference between budgeted overhead and actual overhead is treated as a variable cost.
e. Explain why your answers in parts (b), (c), and (d) differ.