Question

Would an unexpected increase in sales and production result in an under-applied or over-applied overhead? Explain.

Please no hand-written answers.

Answer 1

Unexpected increase in sales and production results in OVER-APPLIED overhead cost.

If the department is expected to increase production in a particular month or quarter, and overhead costs are increased proportionately, this also could lead to over applied overhead. The price of materials per unit may decrease as the department purchases more goods, which the manager may not have factored into her allocation of overhead funds. Likewise, production costs per unit often decrease when producing more goods. In other words, it costs less to produce a single product when a department is making 1,000 rather than 100. Because of the indirect relationship between production costs per unit and the various individual costs of production, the manager may not accurately estimate the department's funding needs when production volume changes.

Increasing sales volume will trigger an increase in fixed costs per unit when production capacity exceeds the ability of the current machinery or the space of the current facility. Adding a second or third shift of production will not increase overall fixed costs. Increased production will reduce the amount of fixed costs that need to be applied to each unit produced, which will reduce the company's cost per unit.

Over applied overhead is excess amount of overhead applied during a production period over the actual overhead incurred during the period. In other words, it’s the amount that the estimated overhead exceeds the actual overhead incurred for a production period.