Proration of Overhead The Invincible Company has commercial and defense contracting business. A contracting officer for the United States Air Force has insisted that underapplied overhead should no longer be written off directly as an adjustment of Cost of Defense Goods Sold for a given year. His insistence was prompted by the fact that $40 million of underapplied overhead was added to the $400 million of unadjusted Cost of Goods Sold in 19_4. There were no beginning inventories.

Overhead is applied as a percentage of direct labor as contracts are produced. The Air Force had a large cost-plus-fixed-fee contract representing $300 million of the $400 million of defense production started and sold during 19_4; it had no other contracts pending with Invincible. An analysis of (before considering the $40 million) costs showed (in millions):

DEFENSE BUSINESS Contracts in Finished- Cost of Progress Goods Inventory Goods Sold Direct material $380 $20 $200 Direct labor 90 10 100 Factory overhead applied 90 _10 _ 100 $560 $40 $400 required 1. As a judge trying to settle a dispute on the disposition of the overhead, what position would you favor? Why? Show computations and, assuming your answer would be formally recorded in the books of account, show a journal entry for the proration.
2. As the contracting officer, what proration of the underapplied overhead would eee you favor? Why? Show computations.