During the first month of operations ended May 31, Big Sky Creations Company produced 40,000 designer cowboy boots, of which 36,000 were sold. Operating data for the month are summarized as follows: 1 Sales $4,500,000.00
2 Manufacturing costs:
3 Direct materials $960,000.00
4 Direct labor 2,000,000.00
5 Variable manufacturing cost 520,000.00
6 Fixed manufacturing cost 120,000.00 3,600,000.00
7 Selling and administrative expenses:
8 Variable $72,000.00
9 Fixed 80,000.00 152,000.00
During June, Big Sky Creations produced 32,000 designer cowboy boots and sold 36,000 cowboy boots. Operating data for June are summarized as follows:
1 Sales $4,500,000.00
2 Manufacturing costs:
3 Direct materials $7,680,000.00
4 Direct labor 1,600,000.00
5 Variable manufacturing cost 416,000.00
6 Fixed manufacturing cost 120,000.00 2,904,000.00
7 Selling and administrative expenses:
8 Variable $72,000.00
9 Fixed 80,000.00 152,000.00
Required:
1. Using the absorption costing concept, prepare income statements for (a) May and (b) June.
2. Using the variable costing concept, prepare income statements for (a) May and (b) June.
3A. Explain the reason for the differences in operating income in (1) and (2) for May.
3B. Explain the reason for the differences in operating income in (1) and (2) for June.
4. Based on your answers to (1) and (2), did Big Sky Creations Company operate more profitably in May or in June? Explain.

Big Sky Creations Company

1. Income Statement for May and June using Absorption Costing

                                         May               June

Sales                         $4,500,000     $4,500,000

Cost of goods sold    3,240,000        3,672,000

Gross profit              $1,260,000         $828,000

Total expenses             152,000            152,000

Net Income               $1,108,000         $676,000

2. Income Statement using variable costing concept:

                                                           May               June

Sales                                        $4,500,000      $4,500,000

Total variable manufacturing    3,480,000         2,784,000

8 Variable                                      $72,000           $72,000

Beginning inventory (cost)                                    355,200

Total manufacturing cost        $3,552,000      $3,211,200

Contribution                                $948,000     $1,288,800

Fixed expenses:

Fixed manufacturing cost             120,000            120,000

9 Fixed selling and admin.             80,000             80,000

Total expenses                           $152,000          $152,000

Net Income                                $796,000         $1,136,800

3A. The reason for the differences in operating income in (1) and (2) for May is due to how the fixed cost of manufacturing is absorbed in the ending inventory and transferred to June.

3B. The reason for the differences in operating  income in (1) and (2) for June is the accounting with all variable costs included in the beginning inventory.

4. Big Sky did not operate more profitably.  The difference is the accounting with full costs and only variable costs.

Explanation:

a) Data and Calculations

Units produced = 40,000

Units sold =          36,000

Ending Inventory   4,000

Unit selling price = $125 ($4,500,000/36,000)

1 Sales                                       $4,500,000

2 Manufacturing costs:

3 Direct materials                       $960,000

4 Direct labor                             2,000,000

5 Variable Overhead cost           520,000

Total variable manufacturing $3,480,000

6 Fixed manufacturing cost         120,000

Total manufacturing cost       $3,600,000

7 Selling and administrative expenses:

8 Variable             $72,000

9 Fixed                   80,000

Total expenses    152,000

June:

Beginning inventory  4,000

Units produced =    32,000

Units sold =             36,000

Ending Inventory      0

Unit selling price = $125 ($4,500,000/36,000)

1 Sales                                       $4,500,000

2 Manufacturing costs:

3 Direct materials                       $768,000

4 Direct labor                             1,600,000

5 Variable Overhead cost            416,000

Total variable manufacturing $2,784,000

6 Fixed manufacturing cost         120,000

Total manufacturing cost       $2,904,000

7 Selling and administrative expenses:

8 Variable             $72,000

9 Fixed                   80,000

Total expenses    152,000

Facts for preparing income statements:

                                                           May               June

Sales                                        $4,500,000     $4,500,000

Total variable manufacturing    3,480,000        2,784,000

Fixed manufacturing cost             120,000           120,000

Total manufacturing cost       $3,600,000     $2,904,000

7 Selling and administrative expenses:

8 Variable                                    $72,000           $72,000

9 Fixed                                          80,000             80,000

Total expenses                         $152,000          $152,000

Unit cost of goods manufactured:

Absorption costing $90 ($3,600,000/40,000) for May

$102 ($3,264,000/32,000) for June ($2,904,000 + 360,000)

Cost of goods sold: May $3,240,000   June $3,672,000

Unit cost of goods manufactured:

Variable costing

for May=  $88.80 ($3,552,000/40,000) per unit

for June = $100.35 ($3,211,200/32,000)  ($2,856,000 + 355,200)

Cost of goods sold: May $3,196,800   June $3,612,600

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