Hallelujah ltd manufactures a single products whis is packed and sold in well- designed final product called EXALT. The normal production level is represented in 40,000 unit of EXALT. production overhead absorption is based on normal production. The following data relates to the previous year:

Here are the profit statements and the reconciliation:

Step 1: Calculate Unit Costs and Other Key Figures

• Variable Production Cost per unit: $$\text{Direct Materials} + \text{Direct Labour} + \text{Variable Overhead}$$ $$\text{N}15 + \text{N}12 + \text{N}9 = \text{N}36$$
• Fixed Production Overhead Absorption Rate: $$\frac{\text{Budgeted Fixed Overhead}}{\text{Normal Production Level}} = \frac{\text{N}230,000}{40,000 \text{ units}} = \text{N}5.75 \text{ per unit}$$
• Absorption Costing Unit Product Cost: $$\text{Variable Production Cost per unit} + \text{Fixed Production Overhead per unit}$$ $$\text{N}36 + \text{N}5.75 = \text{N}41.75$$
• Sales Revenue: $$\text{Sales Units} \times \text{Selling Price per unit}$$ $$35,000 \text{ units} \times \text{N}75/\text{unit} = \text{N}2,625,000$$
• Variable Selling and Administrative Costs: $$12\% \times \text{Sales Income}$$ $$0.12 \times \text{N}2,625,000 = \text{N}315,000$$
• Closing Stock Units: $$\text{Opening Stock} + \text{Production} - \text{Sales}$$ $$0 + 43,000 \text{ units} - 35,000 \text{ units} = 8,000 \text{ units}$$

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a) Prepare Marginal Costing based profit statement

$$\begin{array}{lrr} \textbf{Hallelujah Ltd} & & \\ \textbf{Marginal Costing Profit Statement} & & \\ \textbf{For the year ended...} & \textbf{N} & \textbf{N} \\ \text{Sales (35,000 units @ N75)} & & 2,625,000 \\ \text{Less: Variable Cost of Sales} & & \\ \quad \text{Opening Stock (0 units @ N36)} & 0 & \\ \quad \text{Add: Variable Production Cost (43,000 units @ N36)} & 1,548,000 & \\ \quad \text{Less: Closing Stock (8,000 units @ N36)} & (288,000) & \\ \quad \text{Variable Cost of Sales} & & (1,260,000) \\ \text{Gross Contribution} & & 1,365,000 \\ \text{Less: Variable Selling and Administrative Costs} & & \\ \quad \text{(12\% of Sales Income)} & & (315,000) \\ \text{Contribution Margin} & & 1,050,000 \\ \text{Less: Fixed Costs} & & \\ \quad \text{Fixed Production Overhead} & 230,000 & \\ \quad \text{Fixed Selling and Administrative Costs} & 60,000 & \\ \quad \text{Total Fixed Costs} & & (290,000) \\ \textbf{Net Profit (Marginal Costing)} & & \boxed{\textbf{N760,000}} \\ \end{array}$$

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b) A profit statement in absorption Costing model

• Fixed Production Overhead Absorbed: $$\text{Production Units} \times \text{Fixed Production Overhead per unit}$$ $$43,000 \text{ units} \times \text{N}5.75/\text{unit} = \text{N}247,250$$
• Over/Under Absorption: $$\text{Absorbed Fixed Overhead} - \text{Actual Fixed Overhead}$$ $$\text{N}247,250 - \text{N}230,000 = \text{N}17,250 \text{ (Over-absorbed)}$$

$$\begin{array}{lrr} \textbf{Hallelujah Ltd} & & \\ \textbf{Absorption Costing Profit Statement} & & \\ \textbf{For the year ended...} & \textbf{N} & \textbf{N} \\ \text{Sales (35,000 units @ N75)} & & 2,625,000 \\ \text{Less: Cost of Sales} & & \\ \quad \text{Opening Stock (0 units @ N41.75)} & 0 & \\ \quad \text{Add: Production Cost (43,000 units @ N41.75)} & 1,795,250 & \\ \quad \text{Less: Closing Stock (8,000 units @ N41.75)} & (334,000) & \\ \quad \text{Cost of Sales} & & (1,461,250) \\ \text{Gross Profit} & & 1,163,750 \\ \text{Add: Over-absorption of Fixed Production Overhead} & & 17,250 \\ \text{Adjusted Gross Profit} & & 1,181,000 \\ \text{Less: Selling and Administrative Costs} & & \\ \quad \text{Fixed Selling and Administrative Costs} & 60,000 & \\ \quad \text{Variable Selling and Administrative Costs} & 315,000 & \\ \quad \text{Total Selling and Administrative Costs} & & (375,000) \\ \textbf{Net Profit (Absorption Costing)} & & \boxed{\textbf{N806,000}} \\ \end{array}$$

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c) Account for the difference in reported profits

The difference in reported profits between absorption costing and marginal costing is due to the treatment of fixed production overheads in inventory.

• Absorption Costing Profit: N806,000
• Marginal Costing Profit: N760,000
• Difference in Profit: $$\text{N}806,000 - \text{N}760,000 = \text{N}46,000$$

This difference can be reconciled by the change in inventory levels multiplied by the fixed production overhead rate per unit:

• Change in Inventory Units: $$\text{Closing Stock Units} - \text{Opening Stock Units}$$ $$8,000 \text{ units} - 0 \text{ units} = 8,000 \text{ units (increase)}$$
• Fixed Production Overhead Rate per unit: N5.75
• Difference due to Inventory Change: $$\text{Change in Inventory Units} \times \text{Fixed Production Overhead Rate per unit}$$ $$8,000 \text{ units} \times \text{N}5.75/\text{unit} = \text{N}46,000$$

Since production (43,000 units) exceeded sales (35,000 units), inventory increased. Under absorption costing, a portion of fixed production overheads is capitalized into the closing inventory, leading to a higher profit compared to marginal costing, where all fixed production overheads are expensed in the period.