Exercise-1 (Unit product cost under variable and absorption costing)

Super Bike Manufacturing Company presents the following data for year 2016:

  • Opening inventory: 0 Units
  • Sales: 8,000 Units
  • Production: 10,000 Units
  • Closing inventory: 2,000 Units
  • Direct materials: $240
  • Direct labor: $280
  • Variable manufacturing overhead expenses: $100
  • Variable selling and administrative expenses: $40
  • Fixed manufacturing overhead expenses: $1200,000
  • Fixed selling and administrative expenses: $800,000

Required: Using the data given above, compute the unit product cost of one bike under:

  1. absorption costing system.
  2. variable costing system.

Solution:

Computation of unit product cost:

exercise-1-vaac-img1

*1,200,000 / 10,000 = $120

The cost to manufacture one bike is $740 under absorption costing system and $620 under variable costing system.

Notice that the fixed manufacturing overhead cost has not been included while computing the cost of one bike under variable costing system.

Note for students: Selling and administrative expenses (both variable and fixed) are not relevant for the computation of unit product cost.

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28 Comments on Exercise-1 (Unit product cost under variable and absorption costing)

  1. Grey Sadiki

    Am Grey Sadiki and am studying management accounting and have found this exercise very comprehensive and analytically done.

  2. Accounting for Management

    Thank you for using our site. We love our visitors. Your e-mail has been replied.

  3. Jek Kowet

    Student in management banking and finance, thanks for your presentation, it is easy to understand.

  4. Accounting for Management

    Welcome Jek Kowet; it is our aim to make management accounting topics simple and easy to understand for visitors like you.

  5. mgmt acctg

    This is very interesting. I’ll check out some of your other exercises for other accounting subjects.. thank you.

  6. Arif

    Thank you for the above calculations of unit product cost under two costing systems. The example you have given is very simple and easy to understand the basic concept. But we need the solution of some advanced or complicated situations for the preparation of our exams.

  7. Kirn

    I need a full income statement under direct and full costing approach.

  8. Samuel

    Thank you very much. I really appreciate your questions and answers concerning these two aspect of costing.

    1. Accounting For Management

      Thank your for your comment Samuel.

  9. Navonil

    Hi,
    Your explanations are very organized. I have one confusion here, hope you could help solve it:

    While calculating the “Variable Cost of Good Manufactured”, (either under Absorption or Variable) the “per unit price” is sometimes being multiplied by the “Produced”, while at other times by the units “Sold”.
    Why is the difference, and what determines which of the above should the Unit costs be multiplied by?

    Would be really glad if you could assist.

    Thanks

  10. Accounting For Management

    Hi Navonil,
    When we compute cost of goods manufactured, we multiply the number of units produced during the period by “per unit manufacturing cost”.

    When we compute cost of goods sold we multiply the number of units sold during the period by “per unit manufacturing cost”.

    In above exercise (exercise-1), the total number of units produced during the period is 10,000 and total number of units sold during the period is 8,000. We can compute cost of goods manufactured and cost of goods sold as follows:

    If variable costing is used:

    Variable cost of goods manufactured: (10,000 units)×($620) = $6,200,000
    Variable cost of goods sold: (8,000 units)×($620) = $4,960,000

    If absorption costing is used:

    Cost of goods manufactured: (10,000 units)×($740) = $7,400,000
    Cost of goods sold: (8,000 units)×($740) = $5,920,000

    Sometime cost of goods manufactured becomes a part of the cost of goods sold calculations. Do not confuse with that. The cost of goods sold figure can also be worked out as follows:

    If variable costing is used:

    Variable cost of goods sold:
    Variable cost of goods manufactured + Beginning inventory – Ending inventory
    = {(10,000 units)×($620)} + {(0 units)×($620)} – {(2,000 units)×($620)}
    = $6,200,000 + $0 – $1,240,000
    = $4,960,000

    If absorption costing is used:

    Variable cost of goods manufactured + Beginning inventory – Ending inventory
    = {(10,000 units)×($740)} + {(0 units)×($740)} – {(2,000 units)×($740)}
    = $7,400,000 + $0 – $1,480,000
    = $5,920,000

  11. Navonil

    Hi,
    Really appreciate the lucid explanation provided. There is now a clarity in my mind on how to proceed – can’t thank you enough for clearing this up.

    Could you please also provide an example when “Cost of Goods Manufactured” = “COGS,” which UNITS do we use to multiply the “unit product cost” by in this case, PRODUCTION or SALES? What would be the determining factor for this?

    Thanks.

  12. Accounting For Management

    Cost of goods manufactured (COGM) represents the total manufacturing cost of all the units manufactured during a certain period and cost of goods sold (COGS) represents the total manufacturing cost of all the units sold during the year. No matter weather units produced and units sold are equal or not, we do our calculations according to above explanation.

  13. Navonil

    Thanks a ton…really appreciate your help…

  14. Accounting For Management

    You are welcome.

  15. Sardar Asif

    Thanks for Understandable calculation .

  16. Efe o.

    I wish I know of this site before now, is a management student companion.
    Thanks

  17. Tendoh

    Thank you very much. Using this site and working on some exercises, I am now able to differentiate between Variable costing and Absorption costing.

  18. judie

    Good examples! very easy to understand and serves quick reference for review!

  19. Bney

    Awww, very easy to understand.. Thanks ,,,

  20. Zaid,

    Would you please work out the following e.g. for me, using the traditional absorption costing method? Company A produces three products, A, B and C. 20000 units of product A, 1500 units of product B and 400 units of product C have been produced. Selling prices are $30, $70 and $120. Materials $5, $20 and $45. Labour $10, $15 and $20. Labour hours per unit = 2, 4 and 5. Machine hours per unit 2, 2 and 2. The total overheads are $240,000. How can we draw up profit for each of the product.

    Thanks in advance,

  21. Mighty

    What is Cost Center and Cost Unit in absorption Costing

  22. Ankush

    Does opening inventory has impact over Fixed manufacturing overhead (per unit) under absorption costing?

  23. Berry Yawi (Diploma in Accounting)

    Hi Accounting for Management,

    Yes this example with its solution was well understood

    Thanks much
    Berry

  24. placi

    thank you for your help in management accounting but we want full notes of management accounting provided by your site.thank you again

  25. Sean

    What if all the cost are fixed what will be the computation for variable costing?

  26. Regina

    pleas what is different type of unit product need different type of overhead absorption method explain

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