Difficult Absorption Costing Question Managerial Accounting

Question

I need detailed help with steps on how to solve :

SmoothIt Inc is facing a problem with their 4th quarter absorption costing net operating income on December 23rd. The net operating income target is $2,000,000 and the data so far is as follows :

Sales Revenue : $25,000,000 ($500 per unit)

Variable Cost of Goods Sold : $10,000,000 ($200 per unit )

Fixed Overhead : $12,000,000

Fixed Selling and Adminstrative : $2,000,000

Variable Selling and Admin : 4% commission on sales

 

SmoothIt has a policy of having 0 inventories at the end of each quarter. No further sales are possible during the year and all the units that have been produced so far have been sold. The CEO is planning to produce items for inventory to meet net operating income target .

Question : How many units need to be produced for inventory to meet net operating income target if sales commission is left unchanged at 4% ?

A) 4,054 B) 30,000 C) 10,000 D) 15,000 E) None

Thanks

Answer 1

The correct answer is E. The number of additional units needed to produce is 7143 units. These additional units needed to reduce the absorbed fixed cost of $14M on the 4th quarter income statement by $2million. This $2M reduction or improvement will go directly to the income line and meet the targeted income of $2M the CEO is calling for.