Assume the following information for a company that produced 10,000 units and sold 9,000 units during its first year of operations: Per Unit Per Year
Selling price $ 200
Direct materials $ 80
Direct labor $ 50
Variable manufacturing overhead $ 10
Sales commission $ 8
Fixed manufacturing overhead $ 295,000

Which of the following choices explains the relationship between the absorption costing net operating income and the variable costing net operating income?

A. The absorption costing net operating income will be lower than the variable costing net operating income by $29,500.
B. The absorption costing net operating income will be lower than the variable costing net operating income by $101,500.
C. The absorption costing net operating income will be higher than the variable costing net operating income by $29,500.
D. The absorption costing net operating income will be higher than the variable costing net operating income by $101,500.

Absorption costing income is $29,500 higher than variable costing.

Explanation:

The absorption costing method includes all costs related to production, both fixed and variable. The unit product cost is calculated using direct material, direct labor, and total unitary manufacturing overhead.

The variable costing method incorporates all variable production costs (direct material, direct labor, and variable overhead).

Absorption costing:

Unitary production cost= (80 + 50 + 10) + (295,000 / 10,000)= $169.5

Sales= 9,000*200= 1,800,000

COGS= 9,000*169.5= (1,525,500)

Gross profit= 274,500

Sales expense= (9,000*8)= (72,000)

Net income= $202,500

Variable costing:

Unitary production cost= 140

Sales= 1,800,000

Total variable cost= (140 + 8)*9,000= (1,332,000)

Total contribution margin= 468,000

Fixed manufacturing overhead= (295,000)

Net operating income= $173,000

Difference= 202,500 - 173,000= $29,500

Absorption costing income is $29,500 higher than variable costing.

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