Question :

All divisions use typical absorption costing. The division has the capacity to manufacture 50,000 units a quarter and quarterly fixed overhead amounts to $700,000 Mr. Rose has been looking at the report for the first 3 months of the year and is not happy with the results.

Division Income Statement

For the quarter ending June 30 2013

Sales (25,000 units) = $2,500,000

Cost of Goods sold = 1,800,000

Gross profit = 700,000

Selling & general expenses = 350,000

Net Income =350,000

The sales forecast for the second quarter is 25,000 units. Mr. Rose had budgeted second quarter production at 25,000 units but changes it to 50,000 units, which is net capacity for a quarter. The sales forecast for each of the last two quarters of the year remain at 25,000 units. Actual fixed cost incurred remains constant in variable and total costs remain constant on per unit basis.

Computations:

1. Change the divisional absorption income statement to a contribution margin income statement for the quarter.

2. Purpose absorption and contribution margin income statements for the succeeding quarter for the division.

3. Evaluate production costs per unit for both approaches and for both quarters.

Did Mr. Rose enhance his performance for the second quarter?

Can you give any suggestions for reporting in the future?

What are the shortcomings of the absorption approach for internal decision making?