Outback Store Produces Canoes: Information For The First Thr

Outback Storeproduces Canoes Information For The First Three Years O

Outback Store produces canoes. Information for the first three years of business is as follows: Total units sold, total units produced, fixed production costs, variable production costs per unit, selling price, and fixed selling and administrative expenses for each year are provided. The assigned task is to calculate the profit and the value of ending inventory for each year using both full costing and variable costing methods. Additionally, an explanation is required for why profit fluctuates from year to year under full costing despite constant units sold and selling price, and why profit remains stable under variable costing.

Paper For Above instruction

The analysis of Outback Store’s canoe production over the initial three years provides a compelling case study for understanding the differences between full costing and variable costing methods in managerial accounting. This paper will calculate the profit and ending inventory value for each year under both costing methods and explain the reasons behind profit fluctuations observed under full costing as contrasted with the stability under variable costing.

Introduction

Cost accounting plays a critical role in managerial decision-making, especially when assessing profitability and inventory valuation. Full costing (absorption costing) allocates all manufacturing costs—fixed and variable—to units produced, whereas variable costing (direct costing) considers only variable manufacturing costs as product costs, treating fixed costs as period expenses. The fundamental difference impacts how profits fluctuate and how inventory is valued.

Data Overview

The data provided for Outback Store's first three years are summarized in Table 1:

Year	Total Units Sold	Total Units Produced	Fixed Production Costs	Variable Cost per Unit	Selling Price	Fixed Selling & Admin Expenses
Year 1	5,000	5,000	$50,000	$75	$225	$5,000
Year 2	5,000	6,000	$50,000	$75	$225	$5,000
Year 3	5,000	4,000	$50,000	$75	$225	$5,000

Calculation of Profit and Inventory Using Full Costing

Full costing includes all manufacturing costs: fixed and variable. Each unit includes a proportionate share of fixed overhead based on units produced.

1. Per-unit fixed cost:

Fixed production costs per year = $50,000

Units produced each year vary, so the fixed cost per unit varies as follows:

- Year 1 & 2 (Year 2 units produced = 6,000):

Year 1 fixed cost per unit = $50,000 / 5,000 = $10

Year 2 fixed cost per unit = $50,000 / 6,000 ≈ $8.33

Year 3 (units produced = 4,000):

$50,000 / 4,000 = $12.50

2. Total product cost per unit:

Variable + fixed cost per unit.

3. Profit Calculation:

Profit = (Sales revenue) - (Cost of goods sold + selling & admin expenses)

Since sales units are constant at 5,000, the revenue each year is:

5,000 units * $225 = $1,125,000

- Year 1:

Cost per unit = $75 + $10 = $85

COGS = 5,000 * $85 = $425,000

Profit = $1,125,000 - $425,000 - $5,000 = $695,000

- Year 2:

Cost per unit = $75 + $8.33 ≈ $83.33

COGS = 5,000 * $83.33 ≈ $416,650

Profit ≈ $1,125,000 - $416,650 - $5,000 ≈ $703,350

- Year 3:

Cost per unit = $75 + $12.50 = $87.50

COGS = 5,000 * $87.50 = $437,500

Profit = $1,125,000 - $437,500 - $5,000 = $682,500

4. Ending Inventory Valuation:

Ending inventory units = units produced - units sold.

- Year 1: 5,000 - 5,000 = 0 units, inventory = $0

- Year 2: 6,000 - 5,000 = 1,000 units

Inventory value = 1,000 * $83.33 ≈ $83,330

- Year 3: 4,000 - 5,000 = negative, but actual inventory is zero; remaining production is sold, so inventory = $0

Reason for Profit Fluctuation Under Full Costing

Under full costing, profit varies due to changes in production volume affecting fixed manufacturing overhead per unit. When production exceeds sales, some fixed costs are deferred in inventory, reducing the current period’s expense and increasing profit. Conversely, when production is less, fixed costs are recognized in full, lowering profit. Year 2’s higher production volume reduces fixed cost per unit, increasing profit despite constant sales; Year 3’s lower production increases fixed cost per unit, decreasing profit. This fluctuation is an artifact of how fixed costs are allocated to inventory and COGS under full costing.

Calculation of Profit and Inventory Using Variable Costing

Variable costing considers only variable manufacturing costs for product costs. Fixed manufacturing overhead is treated as a period expense, directly impacting the profit of the period in which it is incurred.

1. Per-unit variable cost:

Given as $75.

2. Contribution margin:

Sales per unit = $225

Variable cost per unit = $75

Contribution margin per unit = $150

3. Profit Calculation:

Total contribution = 5,000 * $150 = $750,000

Subtract fixed manufacturing overhead ($50,000 annually) and selling, admin expenses ($5,000):

- Year 1:

Profit = $750,000 - $50,000 - $5,000 = $695,000

- Year 2:

Profit = $750,000 - $50,000 - $5,000 = $695,000

- Year 3:

Profit = $750,000 - $50,000 - $5,000 = $695,000

The profit remains constant at $695,000 across all three years.

4. Ending inventory valuation:

Under variable costing, inventory is valued at variable cost per unit:

- Year 2:

Inventory units = 1,000

Inventory value = 1,000 * $75 = $75,000

- Year 3:

Remaining inventory units = 0 or declining to zero as units are sold

Why Does Profit Not Fluctuate Under Variable Costing?

Variable costing results in consistent profit figures because fixed manufacturing overhead costs are expensed immediately as period costs, not allocated to inventory. Therefore, profit is driven solely by contribution margin and fixed expenses, which remain unchanged across periods with stable sales volume. The technique provides clearer insight into the contribution margin and operating efficiency without distortions caused by inventory fluctuations.

Conclusion

The analysis demonstrates that the choice of costing method critically influences profitability analysis and inventory valuation. Full costing can obscure the true variability in profit caused by changes in production volume due to fixed cost allocation, leading to fluctuations even when sales remain constant. Conversely, variable costing, by expensing fixed costs directly, provides a more stable and transparent view of operational performance, aiding managerial decision-making.

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