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    Costing Methods and Income Statements for Z-Watch

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    The Z-Watch Company manufactures trendy, high-quality moderately priced watches. As Z-Watch's senior financial analyst, you are asked to recommend a method of inventory costing to the chief financial officer (CFO). The CFO will use your recommendation to construct Z-Watch's 2007 income statement. The following data are for the year ended December 31, 2007:

    Beginning inventory, January 1, 2007 85,000 units

    Ending inventory, December 31, 2007 34,500 units

    2007 sales are 345,400 units

    Selling price (to distributor) $22.00 per unit

    Variable manufacturing cost per unit, including. direct materials $5.10 per unit

    Variable operating cost per unit sold $1.10 per unit sold

    Fixed Manufacturing Overhead $1,440,000

    Denominator-level machine-hours 6,000

    Standard production rate 50 units per machine-hour

    Fixed operating costs $1,080,000

    Assume costs per unit are the same for units in beginning inventory and units produced during the year. Also, assume the prices and unit costs did not change during the year.

    Prepare the following to assist the CFO of Z-Watch:

    Prepare income statements under variable (contribution margin) and traditional (absorption) costing for the year ended December 31, 2007.

    What is Z-Watch's operating income under each costing method (in percentage terms)?

    Explain the difference in operating income between the two methods.

    Which costing method would you recommend to the CFO? Why?

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    Solution Summary

    Excel file attached performs a number of financial tasks for the Z-Watch company, including income statements, operating income, and choosing a costing method.