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A company manufactures and sells a single product. In two consecutive months the following levels of production and sales (in units) occurred:
Month 1 Month 2
Sales 3,800 4,400
Production 3,900 4,200
The opening inventory for Month 1 was 400 units. Profits or losses have been calculated for each month using both absorption and marginal costing principles.Which of the following combinations of profits and losses for the two months is consistent with the above data?
Absorption costing profit/(loss) Month 1: $(400) Month 2: $3,200 Marginal costing profit/(loss) Month 1: $200 Month 2: $4,400
Absorption costing profit/(loss) Month 1: $200 Month 2: $4,400 Marginal costing profit/(loss) Month 1: $(400) Month 2: $3,200
Absorption costing profit/(loss) Month 1: $(400) Month 2: $4,400 Marginal costing profit/(loss) Month 1: $200 Month 2: $3,200
Absorption costing profit/(loss) Month 1: $200 Month 2: $3,200 Marginal costing profit/(loss) Month 1: $(400) Month 2: $4,400The question does not require you to calculate the profits – there is not enough information to be able to calculate the profits.
It is asking which of the combinations of profits is consistent i.e. is possible.
You will know from my free lectures that if inventory increases over the period (because production is more than sales) then absorption gives the higher profit. Whereas if inventory falls over the period (because sales are more than production) then marginal gives the higher profit.
In month 1 production is more than sales, so absorption profit will be higher. In month 2 sales are more than production and so marginal profit will be higher. This only happens for one of the four options.
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