GOALS AND OBJECTIVES

• To illustrate the impact of methods such as departmental overhead rates on costing of products

QUESTIONS TO CONSIDER IN PREPARATION FOR SESSION

• Will the use of departmental overhead rates increase the accuracy of financial statements? WHY or WHY NOT?

• What is the potential impact of the situation below on product planning, evaluation of results and decision making?

ILLINOIS CORPORATION

.. produces two products and uses a predetermined overhead rate to apply overhead. The company currently applies overhead using a plantwide rate based on direct labor hours. Consideration is being given to the use of departmental overhead rates where overhead would be applied on the basis of direct labor hours in Department 1 and on the basis of machine hours in Department 2. At the beginning of the year, the following estimates are provided:

		Department 1	Department 2
Direct labor hours		640,000	128,000
Machine hours		16,000	192,000
Overhead cost		$384,000	$1,152,000

The following actual results by department and product were reported at year end:

	Department 1	Department 2
Direct labor hours	627,200	134,400
Machine hours	17,600	204,800
Overhead cost	$400,000	$1,232,000
	Product A	Product B
Direct labor hours:
Department 1	480,000	147,200
Department 2	96,000	38,400
Machine hours:
Department 1	8,000	9,600
Department 2	24,800	180,000

Required:

• Compute the plantwide predetermined overhead rate and calculate the overhead assigned to each product.

• Calculate the predetermined departmental overhead rates and calculate the overhead assigned to each product.

• What was the impact of the company using the blanket rate versus departmental rates? Were certain products overcosted or undercosted? Explain.

• Compute the applied overhead for the year and the amount of mis-applied overhead for the firm using:

  • A blended rate

  • A departmental rate