{Overhead application) Rose Bach has recently been hired as controller of Empco Inc., a sheet metal manufacturer. Empco has been in the sheet metal business for many years and is currently investigating ways to modernize its manufactur¬ ing process. At the first staff meeting Bach attended, Bob Kelley, the chief en¬ gineer, presented a proposal for automating the Drilling Department. Kelley recommended that Empco purchase two robots that would have the capability of replacing the eight direct labor workers in the department.

The cost savings outlined in Kelley’s proposal included the elimination of direct labor cost in the Drilling Department plus a reduction of manufacturing overhead cost in the department to zero, because Empco charges manufacturing overhead on the basis of direct labor dollars using a plantwide rate.

The president of Empco was puzzled by Kelley’s explanation of cost savings, believing it made no sense. Bach agreed, explaining that as firms become more automated, they should rethink their manufacturing overhead systems. The pres¬ ident then asked Bach to look into the matter and prepare a report for the next staff meeting.

To refresh her knowledge, Bach reviewed articles on manufacturing over¬ head allocation for an automated factory and discussed the matter with some of her peers. Bach also gathered the historical data presented below on the man¬ ufacturing overhead rates experienced by Empco over the years.

Bach also wanted to have some departmental data to present at the meeting and, using Empco’s accounting records, was able to estimate the following an¬ nual averages for each manufacturing department in the 1990s:

a. Disregarding the proposed use of robots in the Drilling Department, de¬ scribe the shortcomings of the system for applying overhead that is currently used by Empco Inc.

b. Explain the misconceptions underlying Bob Kelley’s statement that manu¬ facturing overhead cost in the Drilling Department would be reduced to zero if the automation proposal was implemented.

c. Recommend ways to improve Empco Inc.’s method for applying overhead by describing how it should revise its overhead accounting system: 1. in the Cutting and Grinding Departments; and 2. to accommodate the automation of the Drilling Department.

(CMA)

LO1

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DATE AVERAGE ANNUAL DIRECT LABOR COST $1,000,000 AVERAGE ANNUAL MANUFACTURING OVERHEAD COST $ 1,000,000 AVERAGE MANUFACTURING OVERHEAD APPLICATION RATE 1950s 100% 1960s 1,200,000 3,000,000 250 1970s 2,000,000 7,000,000 350 1980s 3,000,000 12,000,000 400 1990s 4,000,000 20,000,000 500