Problem 8: Variable Costing And Absorption Costing Incomplet ✓ Solved

Problem 8 35variable Costing And Absorption Costing Incometenley Compa

Produce and sell wooden pallets costing analysis

Tenley Company produces and sells wooden pallets that are used for moving and stacking materials. The operating costs for the past year were as follows: During the year, Tenley produced 300,000 wooden pallets and sold 306,500 at $9 each. Tenley had 11,300 pallets in beginning finished goods inventory; costs have not changed from last year to this year. An actual costing system is used for product costing.

1. What is the per-unit inventory cost that will be reported on Tenley's balance sheet at the end of the year? How many units are in ending inventory? What is the total cost of ending inventory? Round the per-unit amount to the nearest cent. Per-unit inventory cost $ Why?

4. Calculate variable-costing operating income. $

5. Suppose that Tenley Company had sold 296,700 pallets during the year. What would absorption-costing operating income have been? Variable-costing income?

Sample Paper For Above instruction

Introduction

Costing methods such as variable costing and absorption costing are vital tools for managerial decision-making and financial reporting. These methods influence the measurement of inventory costs and operating incomes, which in turn impact company profitability and strategic planning. This paper explores the application of both costing methods through the example of Tenley Company, which produces and sells wooden pallets. By examining their inventory costs, operating incomes, and the effects of sales volume on profitability, a comprehensive understanding of the practical implications of each costing approach is established.

Understanding Variable and Absorption Costing

Variable costing includes only variable manufacturing costs—direct materials, direct labor, and variable manufacturing overhead—in inventory valuation and cost of goods sold. Fixed manufacturing overhead is treated as a period expense, deducted entirely in the period incurred, which results in a different approach to calculating operating income.

Absorption costing, conversely, assigns all manufacturing costs—variable and fixed—to inventories, aligning with generally accepted accounting principles (GAAP). This inclusiveness impacts both the valuation of inventory on the balance sheet and the calculation of cost of goods sold, subsequently affecting net income calculations.

Calculating Per-Unit Inventory Cost

Given the total operating costs (not specified in detail) and production and sales figures, the first step is to determine the per-unit inventory cost. To do this accurately, the total manufacturing costs incurred during the year are necessary. Since costs have not changed from last year, we assume last year's total manufacturing costs were allocated across units produced.

The inventory at the end of the year is valued by multiplying the per-unit cost by the number of units in ending inventory, calculated as the beginning inventory plus production minus sales. Here, beginning inventory was 11,300 pallets, produced 300,000, sold 306,500, leading to an ending inventory of (11,300 + 300,000 - 306,500) = 4,800 pallets.

Assuming all costs are identical to last year and knowing the production volume, the per-unit inventory cost under absorption costing involves summing fixed and variable costs per unit. Without exact cost figures provided, such as variable manufacturing costs or total fixed overhead, an estimate or assumption is necessary based on typical cost structures.

Calculating Operating Income under Variable Costing

Variable-costing operating income is calculated by subtracting total variable costs from sales revenue, then deducting fixed manufacturing overhead as a period expense. The sales revenue is 306,500 units at $9 each, totaling $2,758,500. Less variable costs (which include variable manufacturing costs and variable selling & administrative expenses), yields the contribution margin. Deducting fixed manufacturing overhead provides the variable costing operating income.

It is crucial to note that because fixed manufacturing overhead is expensed in total under variable costing, operating income can fluctuate with production and sales volume differences, unlike under absorption costing, where fixed overhead is absorbed into inventory costs.

Impact of Sales Volume on Operating Income

The differing operating incomes calculated under absorption and variable costing become evident when comparing sales volumes. If fewer units are sold than produced, under absorption costing, some fixed manufacturing overhead costs remain in unsold inventory, reducing expenses and increasing operating income compared to variable costing.

Conversely, if sales volume exceeds production, absorption costing may show lower income, since some fixed costs are deferred in inventory. This demonstrates the importance of understanding the implications of costing methods in internal management versus external financial reporting.

Conclusion

Understanding the distinctions between variable costing and absorption costing is critical for accurate financial analysis and decision-making. While variable costing provides clarity on the contribution margin and cost behavior, absorption costing aligns with external reporting standards by allocating all manufacturing costs to inventory. The case of Tenley Company illustrates how these methods influence inventory valuation and operating income, emphasizing the need for managers to comprehend their implications for strategic planning and financial transparency.

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