Reference no: EM132731136

Problem - Marginal and absorption costing

Entity West Inc makes and sells one product. Currently, it uses absorption costing to measure profits and inventory values. The budgeted production cost per unit is as follows:

		AED
Direct labour	3 hours at AED 6 per hour	18
Direct materials	4 kilograms at AED 7 per kilo	28
Production overhead	(Fixed cost)	20
Total		66

Normal output volume is 16,000 units per year and this volume is used to establish the fixed overhead absorption rate for each year.

Costs relating to sales, distribution and administration are: Variable 20% of sales value

Fixed AED 180,000 per year

There were no units of ?nished goods inventory at 1 October Year 5.

The fixed overhead expenditure is spread evenly throughout the year.

The selling price per unit is AED 140.

For the two six-monthly periods detailed below. the number of units to be produced and sold are budgeted as follows:

	Six months ending 31 March Year 6	Six months ending 30 September Year 6
Production	8,500 units	7,000 units
Sales	7,000 units	8,000 units

The entity is considering whether to abandon absorption costing and use marginal costing instead for-profit reporting and inventory valuation

Required -

a) Calculate the budgeted fixed production overhead costs each year.

b) Prepare statements for management showing sales, costs and profits for each of the six-monthly periods, using:

i. marginal costing

ii. absorption costing

c) Prepare an explanatory statement reconciling for each six-monthly period the profit using marginal costing with the profit using absorption costing.