Question

Luzadis Company makes furniture using the latest automated technology. The company uses a job-order costing system and applies manufacturing overhead cost to products on the basis of machine-hours. The predetermined overhead rate was based on a cost formula that estimates $1,368,000 of total manufacturing overhead for an estimated activity level of 72,000 machine-hours.

During the year, a large quantity of furniture on the market resulted in cutting back production and a buildup of furniture in the company’s warehouse. The company’s cost records revealed the following actual cost and operating data for the year:

Machine-hours		61,000
Manufacturing overhead cost	$	1,324,000
Inventories at year-end:
Raw materials	$	16,000
Work in process (includes overhead applied of $115,900)	$	188,000
Finished goods (includes overhead applied of $208,620)	$	338,400
Cost of goods sold (includes overhead applied of $834,480)	$	1,353,600

Required:

1. Compute the underapplied or overapplied overhead.

2. Assume that the company closes any underapplied or overapplied overhead to Cost of Goods Sold. Prepare the appropriate journal entry.

3. Assume that the company allocates any underapplied or overapplied overhead proportionally to Work in Process, Finished Goods, and Cost of Goods Sold. Prepare the appropriate journal entry.

4. How much higher or lower will net operating income be if the underapplied or overapplied overhead is allocated to Work in Process, Finished Goods, and Cost of Goods Sold rather than being closed to Cost of Goods Sold?

Answer 1

Oh rate as MH:
Estimated overheads		1368000
Divide: Estimated Mh	72000
Oh rate as MH:		19	per MH
Under/Over-applied Oh:
MH used			61000
Multiply: OH rate per MH	19
Overheads applied		1159000
Overheads incurred		1324000
Under-applied Overheads	165000
Journal entry:
S.no.	Accounts title and explanations		Debit $	credit $
b.	Cost of goods sold			165000
	Manufacturing overheads			165000
	(for under-applied closed)
Req 3.
Pro-ration of Under-applied OH:
Inventory	OH applied	% of total	Under-applied	Allocated
			overheads	Under-applied oh
WIP	115900	10.00%	165000	16500
FG	208620	18.00%	165000	29700
COGS	834480	72.00%	165000	118800
TOTal	1159000	100.00%	165000	165000
Journal entry:
S.no.	Accounts title and explanations		Debit $	credit $
b.	Work in process inventory		16500
	Finished goods inventory		29700
	Cost of goods sold			118800
	Manufacturing overheads			165000
	(for under-applied closed)
Req 4.
Net Increase decrease by under COGS method		-165000
Net effect on Income under Pro-ration:
Work in process inventory increase the profits	16500
Finished goods inventory increase the profits	29700
Cost of goods sold decrease the profits		-118800
Net decrease in income under Pro-ration method		-72600
Thus, Net income is higher by $92400 under proportionate method