Leesburg Bags produces backpacks.The costs and prices for the backpacks follow (Assume the same unit costs in all years): $$\begin{array} { l r }
\text { Selling price } & \$ 23.00 \text { per backpack } \
\text { Variable costs: } & \
\text { Production } & \$ 11.00 \text { per backpack } \
\text { Selling } & \$ 2.00 \text { per backpack } \
\text { Fixed Costs: } & \
\text { Production } & \$ 900,000 \text { per year } \
\text { Selling and administrative } & \$ 540,000 \text { per year }
\end{array}$$ Leesburg Bags produced 250,000 backpacks for the year and sold 200,000.There was no beginning inventory, and costs throughout the year were stable.How much higher or lower will variable costing be than full costing income?

Question

Leesburg Bags produces backpacks.The costs and prices for the backpacks follow (Assume the same unit costs in all years): $$\begin{array} { l r } 
\text { Selling price } & \$ 23.00 \text { per backpack } \
\text { Variable costs: } & \
\text { Production } & \$ 11.00 \text { per backpack } \
\text { Selling } & \$ 2.00 \text { per backpack } \
\text { Fixed Costs: } & \
\text { Production } & \$ 900,000 \text { per year } \
\text { Selling and administrative } & \$ 540,000 \text { per year }
\end{array}$$ Leesburg Bags produced 250,000 backpacks for the year and sold 200,000.There was no beginning inventory, and costs throughout the year were stable.How much higher or lower will variable costing be than full costing income?

Quizplus · Accepted Answer

Under variable costing, only variable production costs are included in product costs, while fixed production costs are expensed in the period incurred. Under full costing (also known as absorption costing), both variable and fixed production costs are included in product costs. The difference in income between the two methods arises from the treatment of fixed production costs.Variable costing income is calculated by deducting variable costs (both production and selling) and fixed costs (both production and selling/administrative) from sales. Full costing income also deducts these costs but includes fixed production costs in the inventory costs, which affects the timing of when these costs are recognized as expenses.Given that 50,000 backpacks are in ending inventory and not sold, under full costing, the fixed production costs allocated to these unsold backpacks would not be expensed in the current year. Instead, these costs would be deferred as part of inventory costs.Fixed production costs per backpack = $900,000 / 250,000 backpacks = $3.60 per backpackFor the 50,000 unsold backpacks, the deferred fixed production costs = 50,000 backpacks * $3.60 per backpack = $180,000Therefore, under full costing, $180,000 of fixed production costs would not be expensed in the current year but deferred to future periods as part of inventory costs. This means that the full costing income would be $180,000 higher than the variable costing income, because these costs are not immediately expensed under full costing. Thus, variable costing income is $180,000 lower than full costing income.

Leesburg Bags Produces Backpacks Leesburg Bags Produced 250,000 Backpacks for the Year and Sold