Question

Adriana Corporation manufactures football equipment. In planning for next year, the managers want to understand the relation between activity and overhead costs. Discussions with the plant supervisor suggest that overhead seems to vary with labor-hours, machine-hours, or both. The following data were collected from last year’s operations.

Month Labor-Hours Machine-Hours Overhead Costs 1 3,625 6,775 $513,435 2 3,575 7,035 518,960 3 3,400 7,600 549,575 4 3,700 7,265 541,400 5 3,900 7,955 581,145 6 3,775 7,895 572,320 7 3,700 6,950 535,110 8 3,625 6,530 510,470 9 3,550 7,270 532,195 10 3,975 7,725 565,335 11 3,375 6,490 503,775 12 3,550 8,020 564,210

a . Use the high-low method to estimate the fixed and variable portions of overhead costs based on machine-hours. b . Managers expect the plant to operate at a monthly average of 7,500 machine-hours next year. What are the estimated monthly overhead costs, assuming no inflation? c. Include a written paragraph (3-4 sentences) for this problem, interpreting the results of the solution provided.

Answer 1

a.
Month	Labor hours	Machine hours	Overhead costs
1	3625	6775	$513,435
2	3575	7035	$518,960
3	3400	7600	$549,575
4	3700	7265	$541,400
5	3900	7955	$581,145
6	3775	7895	$572,320
7	3700	6950	$535,110
8	3625	6530	$510,470
9	3550	7270	$532,195
10	3975	7725	$565,335
11	3375	6490	$503,775
12	3550	8020	$564,210
The highest activity of machine hours is in month 12 and lowest activity is in month 11
Variable costs per machine hour	(Overhead costs with highest activity - Overhead costs with lowest activity)/Highest activity - Lowest activity
Variable costs per machine hour	(564210-503775)/(8020-6490)
Variable costs per machine hour	60435/1530
Variable costs per machine hour	$39.50
Fixed costs	564210-(8020*39.50)
Fixed costs	564210-316790
Fixed costs	$247,420
Cost function: $247,420 + $39.50*machine hours
b.
Calculate overhead costs if machine hours next year is 7500
Overhead costs	247420 + (39.50*7500)
Overhead costs	247420 + 296250
Overhead costs	$543,670
c.
The results show that increase in machine hours would increase the overhead costs as variable costs would increase. The total fixed costs would remain same.
There is linear relationship between machine hours and overhead costs. This shows that overhead costs are somewhat related to machine hours