The Jarvis Company uses an absorption costing system. Total variable manufacturing costs, including direct material costs, were $3 per unit; the standard production rate was 10 units per machine hour. For 2008, total budgeted and actual fixed manufacturing costs were $420,000. Fixed manufacturing overhead was allocated using machine hours as the basis with the denominator volume being the annual achievable capacity of 60,000 machine hours. The selling price is $5 per unit. Variable marketing and administrative costs, which are driven by units sold, were $1 per unit. Fixed marketing and administrative costs were $120,000. Beginning inventory in 2008 was 30,000 units; ending inventory was 40,000 units. Sales in 2008 were 540,000 units. The same unit costs persisted throughout 2007 and 2008.

1. Prepare absorption-costing based income statement to compute the income before taxes for 2008. Assume that all under/overapplied overhead is written off directly at year-end as an adjustment to cost of goods sold (i.e., compute gross margin and show the under/overapplied as a separate line item to adjust this gross margin).(Absorption costing-based income statement is also known as gross margin income statement.)
2. Prepare income statement to compute the income before taxes if the firm uses variable costing (also known as contribution margin costing or direct costing)
3. Reconcile any difference between the incomes computed in requirements 1 and 2 above with supporting calculations.
4. Discuss one advantage and one disadvantage of using absorption-costing based income to reward managerial performance.