Question

Cretin Enterprises uses a predetermined overhead rate of $21.40 per direct labor-hour. This predetermined rate was based on a cost formula that estimated $171,200 of total manufacturing overhead for an estimated activity level of 8,000 direct labor-hours.   

The company incurred actual total manufacturing overhead costs of $172,500 and 8,250 total direct labor-hours during the period.

Required:

1. Determine the amount of underapplied or overapplied manufacturing overhead for the period.

        

2. Assuming that the entire amount of the underapplied or overapplied overhead is closed out to cost of goods sold, what would be the effect of the underapplied or overapplied overhead on the company's gross margin for the period?

     

Answer 1

1) Answer: Overapplied Manufacturing Overhead = $4,050

Explanation:

Predetermined overhead rate= $21.40 per direct labour hour

Actual Direct labour hours (Given)= 8,250 hours

Therefore, Applied Overhead= Actual Direct Labour hours * Predetermined overhead rate

= 8,250 * 21.40

   = $176,550

Actual Overhead (Given)= $172,500

Since Applied overhead ($176,550) is more than Actual Overhead ($172,500), Overhead was Overapplied.

Overapplied Manufacturing Overhead= 176,550 - 172,500

= $4,050

2) Effect on Gross Margin of Company:

If the entire overapplied overhead of $4,050 is closed out to cost of Goods sold, then cost of goods sold will be reduced by $4,050. Reduction in Cost of Goods sold will result in an Increase in company's Gross margin by $4,050

Note:

1) If overapplied overhead is closed out to cost of goods sold, then cost of goods sold will be reduced and as a result, Gross margin will increase.

2) If Underapplied overhead is closed out to cost of goods sold, then cost of goods sold will be increased and as a result, Gross margin will decrease.