Effect of automation on overhead allocation Persian Rug Company makes two types of rugs, seasonal and all-purpose. Both types of rugs are handmade, but the seasonal rugs require significantly more labor because of their decorative designs. The annual number of rugs made and the labor hours required to make each type of rug follow.

Required

a. Assume that annual overhead costs total $144,000. Select the appropriate cost driver and determine the amount of overhead to allocate to each type of rug.

b. Persian automates the seasonal rug line resulting in a dramatic decline in labor usage, to make 1,200 rugs in only 12,000 hours. Persian continues to make the all-purpose rugs the same way as before.
The number of rugs made and the labor hours required to make them after automation follow.

Overhead costs are expected to increase to $180,000 as a result of the automation. Allocate the increased overhead cost to the two types of rugs using direct labor hours as the allocation base and comment on the appropriateness of the allocation.