Question

Single Plantwide and Multiple Production Department Factory Overhead Rate Methods and Product Cost Distortion

The management of Nova Industries Inc. manufactures gasoline and diesel engines through two production departments, Fabrication and Assembly. Management needs accurate product cost information in order to guide product strategy. Presently, the company uses a single plantwide factory overhead rate for allocating factory overhead to the two products. However, management is considering the multiple production department factory overhead rate method. The following factory overhead was budgeted for Nova:

Fabrication Department factory overhead		$468,000
Assembly Department factory overhead		180,000
	Total	$648,000

Direct labor hours were estimated as follows:

Fabrication Department		3,600	hours
Assembly Department		3,600
	Total	7,200	hours

In addition, the direct labor hours (dlh) used to produce a unit of each product in each department were determined from engineering records, as follows:

Production Departments	Gasoline Engine		Diesel Engine
Fabrication Department	1.20	dlh	2.80	dlh
Assembly Department	2.80		1.20
Direct labor hours per unit	4.00	dlh	4.00	dlh

a. Determine the per-unit factory overhead allocated to the gasoline and diesel engines under the single plantwide factory overhead rate method, using direct labor hours as the activity base.

Gasoline engine	$ per unit
Diesel engine	$ per unit

b. Determine the per-unit factory overhead allocated to the gasoline and diesel engines under the multiple production department factory overhead rate method, using direct labor hours as the activity base for each department.

Gasoline engine	$ per unit
Diesel engine	$ per unit

c. Recommend to management a product costing approach, based on your analyses in (a) and (b).

Management should select the   factory overhead rate method of allocating overhead costs. The   factory overhead rate method indicates that both products have the same factory overhead per unit. Each product uses the direct labor hours  . Thus, the   rate method avoids the cost distortions by accounting for the overhead  .

Answer 1

(a)
Single plantwide factory overhead rate             = Total estimated Factory Overhead / Estimated Direct labor Hours             = $ 648,000 / 7,200 hours             = $ 90 per Direct labor hour
Gasoline engine ( 4 DLH x $ 90 )	$ 360 per unit
Diesel engine ( 4 DLH x $ 90)	$ 360 per unit

(b)
Fabrication department factory overhead rate            = Fabrication department factory overhead / Estimated DLH - Fab. Dept.            = $ 468,000 / 3,600 hours	$ 130 per DLH
Assembly department factory overhead rate            = Assembly department factory overhead / Estimated DLH - Assembly. Dept.            = $ 180,000 / 3,600 hours	$ 50 per DLH
Gasoline engine ( 1.20 dlh x $ 130 ) + ( 2.80 dlh x $ 50 )	$ 296 per unit
Diesel engine ( 2.80 dlh x $ 130 ) + ( 1.20 dlh x $ 50 )	$ 424 per unit

c)

Management should select the multiple department factory overhead rate method of allocating overhead costs. The Single factory overhead rate method indicates that both products have the same factory overhead per unit. Each product uses the direct labor hours differently . Thus, multiple department rate method avoids the cost distortions by accounting for the overhead in each separate production Department