Question

Maglie Company manufactures two video game consoles: handheld and home. The handheld consoles are smaller and less expensive than the home consoles. The company only recently began producing the home model. Since the introduction of the new product, profits have been steadily declining. Management believes that the accounting system is not accurately allocating costs to products, particularly because sales of the new product have been increasing.

Management has asked you to investigate the cost allocation problem. You find that manufacturing overhead is currently assigned to products based on their direct labor costs. For your investigation, you have data from last year. Manufacturing overhead was $1,222,000 based on production of 340,000 handheld consoles and 89,000 home consoles. Direct labor and direct materials costs were as follows.

	Handheld			Home			Total
Direct labor	$	1,113,500		$	414,000		$	1,527,500
Materials		740,000			673,000			1,413,000

Management has determined that overhead costs are caused by three cost drivers. These drivers and their costs for last year are as follows.

				Activity Level
Cost Driver	Costs Assigned			Handheld	Home	Total
Number of production runs	$	440,000		30	10	40
Quality tests performed		561,000		13	20	33
Shipping orders processed		221,000		120	50	170
Total overhead	$	1,222,000

Required:

a. How much overhead will be assigned to each product if these three cost drivers are used to allocate overhead? What is the total cost per unit produced for each product?

b. How much overhead will be assigned to each product if direct labor cost is used to allocate overhead? What is the total cost per unit produced for each product?

Answer 1

Requirement a:

Activity rate

Cost Pool	/	Cost Driver	=	Activity rate
$440,000	/	40 production runs	=	$11,000 per production run
$561,000	/	33 quality tests	=	$17,000 per quality test
$221,000	/	170 shipping orders	=	$1,300 per shipping order

Allocation of overhead cost

Handheld

Cost Driver	x	Activity Rate	=	Overhead cost
30 production runs	x	$11,000	=	$330,000
13 Quality tests	x	$17,000	=	$221,000
120 Shipping orders	x	$1,300	=	$156,000
Total Overhead costs			=	707,000

Home

Cost Driver	x	Activity Rate	=	Overhead cost
10 production runs	x	$11,000	=	$110,000
20 Quality tests	x	$17,000	=	$340,000
50 Shipping orders	x	$1,300	=	$65,000
Total Overhead costs			=	515,000

Total cost per unit

Handheld

Particulars	$
Direct materials	740,000
Direct labor	1,113,500
Overhead costs	707,000
Total Cost	2,560,500
/ Number of Units	340,000
Cost per unit (handheld)	$7.53 per unit

Home

Particulars	$
Direct materials	673,000
Direct labor	414,000
Overhead costs	515,000
Total Cost	1,602,000
/ Number of Units	89,000
Cost per unit (home)	$18.00 per unit

Requirement b:

Plantwide overhead rate

Plantwide overhead rate = Total overhead cost / Total direct labor cost * 100

Plantwide overhead rate = $1,222,000 / $1,527,500 * 100 = 80% of direct labor cost

Allocation of overhead cost

Handheld = $1,113,500 * 80% = $890,800

Home = $414,000 * 80% = $331,200

Total cost per unit

Handheld

Particulars	$
Direct materials	740,000
Direct labor	1,113,500
Overhead costs	890,800
Total Cost	2,744,300
/ Number of Units	340,000
Cost per unit (handheld)	$8.07 per unit

Home

Particulars	$
Direct materials	673,000
Direct labor	414,000
Overhead costs	331,200
Total Cost	1,418,200
/ Number of Units	89,000
Cost per unit (home)	$15.93 per unit

All the best...