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    Absorption costing : Income statement

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    Question 4: (10 points)

    Problem 6-5A: Income reporting, absorption costing, and managerial ethics L.O. C2, P2, A1

    Oshkosh Chemical produces and sells an ice-melting granular used on roadways and sidewalks in winter. It
    annually produces and sells about 100 tons of its granular. In its nine-year history, the company has never
    reported a net loss. However, because of this year's unusually mild winter, projected demand for its product is
    only 60 tons. Based on its predicted production and sales of 60 tons, the company projects the following
    income statement (under absorption costing).

    Sales (60 tons at $20,000 per ton) $ 1,200,000
    Cost of goods sold (60 tons at $15,000 per ton) 900,000
    Gross margin 300,000
    Selling and administrative expenses 318,000
    Net loss $ (18,000)
    Its product cost information follows and consists mainly of fixed cost because of its automated production
    process requiring expensive equipment.
    Variable direct labor and material costs per ton $ 3,000
    Fixed cost per ton ($720,000 ÷ 60 tons) 12,000
    Total product cost per ton 15,000

    Selling and administrative expenses consist of variable selling and administrative expenses of $300 per ton
    and fixed selling and administrative expenses of $300,000 per year. The company's president is concerned
    about the adverse reaction from its creditors and shareholders if the projected net loss is reported. The
    operations manager mentions that since the company has large storage capacity, it can report a net income by
    keeping its production at the usual 100-ton level even though it expects to sell only 60 tons. The president was
    puzzled by the suggestion that the company can report income by producing more without increasing sales.

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    Solution Summary

    Excel file shows income statement using absorption costing.