Because you are a CPA with an excellent reputation in the city, Hammermill Company asks your advice concerning the assignment of overhead in its production process. The company manufactures a line of bathroom fixtures that includes pedestal sinks and drop-in sinks of vitreous china. Hammermill also produces solid brass bath fixtures. Business operations are subject to wide cyclical fluctuations because the sales volume follows new housing construction.

Production personnel normally complete about 50 percent of their manufacturing in the last quarter of the calendar year to be ready to meet the heavy spring construction demand.

In addition to those fluctuations, material costs vary widely as a percentage of total factory cost because the company uses various combinations of brass, marble powder, and polyester resin. For example, the material cost of a specific item ranges from 20 to 65 percent of total inventoriable cost.

Hammermill’s labor-intensive processing uses five departments. Even though all products use each of the departments, they are not used proportionately. Each department uses different labor skills. The plant wage rate ranges from $6 to $10.50 an hour. However, within each of the five individual departments, the spread between the high and low wage rate is less than 4 percent. Factory overhead ranges from 35 to 80 percent of conversion cost within each department.

Management specifically asks that you study the cost system with reference to these issues concerning overhead:

i. Using department overhead rate or plantwide rate.

ii. Basing overhead rates on normal capacity or expected actual capacity.

iii. Distributing factory overhead on direct labor-hour, direct labor cost, or material cost.

Required:
Write a memorandum to top management of Hammermill Company stating your position regarding the three different issues in question. Include reasons supporting your recommendations.