End of Chapter: An Introduction to Cost Terms and Purposes

Problem for Self-Study

Foxwood Company is a metal- and woodcutting manufacturer, selling products to the home-construction market. Consider the following data for 2020:

Sandpaper: 2,000 dollars

Materials-handling costs: 70,000 dollars

Lubricants and coolants: 5,000 dollars

Miscellaneous indirect manufacturing labor: 40,000 dollars

Direct manufacturing labor: 300,000 dollars

Direct materials inventory, January 1, 2020: 40,000 dollars

Direct materials inventory, December 31, 2020: 50,000 dollars

Finished-goods inventory, January 1, 2020: 100,000 dollars

Finished-goods inventory, December 31, 2020: 150,000 dollars

Work-in-process inventory, January 1, 2020: 10,000 dollars

Work-in-process inventory, December 31, 2020: 14,000 dollars

Plant-leasing costs: 54,000 dollars

Depreciation—plant equipment: 36,000 dollars

Property taxes on plant equipment: 4,000 dollars

Fire insurance on plant equipment: 3,000 dollars

Direct materials purchased: 460,000 dollars

Revenues: 1,360,000 dollars

Marketing promotions: 60,000 dollars

Marketing salaries: 100,000 dollars

Distribution costs: 70,000 dollars

Customer-service costs: 100,000 dollars

Required

Prepare an income statement with a separate supporting schedule of cost of goods manufactured. For all manufacturing items, classify costs as direct costs or indirect costs and indicate by V or F whether each is a variable cost or a fixed cost (when the cost object is a product unit). If in doubt, decide on the basis of whether the total cost will change substantially over a wide range of units produced.
Suppose that both the direct material costs and the plant-leasing costs are for the production of 900,000 units. What is the direct material cost of each unit produced? What is the plant-leasing cost per unit? Assume that the plant-leasing cost is a fixed cost.
Suppose Foxwood Company manufactures 1,000,000 units next year. Repeat the computation in requirement 2 for direct materials and plant-leasing costs. Assume the implied cost-behavior patterns persist.
As a management consultant, explain concisely to the company president why the unit cost for direct materials did not change in requirements 2 and 3 but the unit cost for plant-leasing costs did change.

Solution

Revenues: 1,360,000 dollars

Cost of goods sold includes the following:

Beginning finished-goods inventory, January 1, 2020: 100,000 dollars

Cost of goods manufactured (see the following schedule): 960,000 dollars

Cost of goods available for sale: 1,060,000 dollars

Deduct ending finished-goods inventory, December 31, 2020: 150,000 dollars

Total: 910,000 dollars

Gross margin (or gross profit): 450,000 dollars

Operating costs include the following:

Marketing promotions: 60,000 dollars

Marketing salaries: 100,000 dollars

Distribution costs: 70,000 dollars

Customer-service costs: 100,000 dollars

Total: 330,000 dollars

Operating income: 120,000 dollars

Direct materials

Beginning inventory, January 1, 2020: 40,000 dollars

Purchases of direct materials: 460,000 dollars

Cost of direct materials available for use: 500,000 dollars

Ending inventory, December 31, 2020: 50,000 dollars

Direct materials used: 450,000 (V)

Direct manufacturing labor: 300,000 (V)

Indirect manufacturing costs

Sandpaper: 2,000 dollars (V)

Materials-handling costs: 70,000 dollars (V)

Lubricants and coolants: 5,000 dollars (V)

Miscellaneous indirect manufacturing labor: 40,000 dollars (V)

Plant-leasing costs: 54,000 dollars (F)

Depreciation—plant equipment: 36,000 dollars (F)

Property taxes on plant equipment: 4,000 dollars (F)

Fire insurance on plant equipment: 3,000 dollars (F)

Total: 214,000 dollars

Manufacturing costs incurred during 2020: 964,000 dollars

Beginning work-in-process inventory, January 1, 2020: 10,000 dollars

Total manufacturing costs to account for: 974,000 dollars

Ending work-in-process inventory, December 31, 2020: 14,000 dollars

Cost of goods manufactured (to income statement): 960,000 dollars

2. $\begin{array}{l} Direct material unit cost & = & Direct materials used \div Units produced \\ = & $ 450,000 \div 900,000 units = $ 0.50 per unit \end{array}$
$\begin{array}{l} Plant ‐ leasing unit cost & = & Plant ‐ leasing costs \div Units produced \\ = & $ 54,000 \div 900,000 units = $ 0.06 per unit \end{array}$
3. The direct material costs are variable, so they would increase in total from $450,000 to $begin inline style $ text 500,000 end text ? left parenthesis text 1,000,000 end text ? text units end text cross times $ 0.50 ? text per unit end text right parenthesis. end style$ However, their unit cost would be unaffected: $$ 500,000 \div 1,000,000 units = $ 0.50 per unit .$
In contrast, the plant-leasing costs of $54,000 are fixed, so they would not increase in total. However, the plant-leasing cost per unit would decline from $0.060 to $$ 0.054 : $ 54,000 \div 1,000,000 units = $ 0.054 per unit .$
4. The explanation would begin with the answer to requirement 3. As a consultant, you should stress that the unitizing (averaging) of costs that have different behavior patterns can be misleading. A common error is to assume that a total unit cost, which is often a sum of variable unit cost and fixed unit cost, is an indicator that total costs change in proportion to changes in production levels. The next chapter demonstrates the necessity for distinguishing between cost-behavior patterns. You must be wary, especially about unit fixed costs. Too often, unit fixed cost is erroneously regarded as being indistinguishable from unit variable cost.