E6-56B Prepare income statements using variable costing and absorption costing with changing inventory levels (Learning Objective 6)

Herring Manufacturing manufactures a single product that it will sell for $93 per unit. The company is looking to project its operating income for its first two years of operations.

Cost information for the single unit of its product is as follows:

• Direct material per unit produced $38

• Direct labor cost per unit produced $16

• Variable manufacturing overhead (MOH) per unit produced $10

• Variable operating expenses per unit sold $4 Fixed manufacturing overhead (MOH) for each year is $286,000, while fixed operating expenses for each year will be $81,000.

During its first year of operations, the company plans to manufacture 22,000 units and anticipates selling 15,000 of those units. During the second year of its operations, the company plans to manufacture 22,000 units and anticipates selling 27,000 units (it has units in beginning inventory for the second year from its first year of operations.)

Requirements 1. Prepare an absorption costing income statement for:

a. The first year of operations

b. The second year of operations 2. Before you prepare the variable costing income statements for Herring, predict Herring’s operating income using variable costing for both its first year and its second year without preparing the variable costing income statements. Hint: Calculate the variable costing operating income for a given year by taking that year’s absorption costing operating income and adding or subtracting the difference in operating income as calculated using the following formula:

Difference in operating income = (Change in inventory level in units × Fixed MOH per unit)

3. Prepare a variable costing income statement for:

a. The first year of operations

b. The second year of operations