Question

Automotive Products ​(AP​) designs and produces automotive parts. In 2017​, actual variable manufacturing overhead is $ 308,600. AP's simple costing system allocates variable manufacturing overhead to its three customers based on​ machine-hours and prices its contracts based on full costs. One of its customers has regularly complained of being charged non-competitive​ prices, so AP's controller Declan Smith realizes that it is time to examine the consumption of overhead resources more closely. He knows that there are three main departments that consume overhead​ resources: design, ​ production, and engineering. Interviews with the department personnel and examination of time records yield the following detailed​ information:

			Usage of Cost Drivers by Customer
			Contract
		Manufacturing	Rural	Janek	Island
Department	Cost Driver	Overhead in 2017	Motors	Motors	Auto
Design	CAD-design-hours	$39,000	110	200	80
Engineering	Engineering-hours	29,600	70	60	240
Production	Machine-hours	240,000	120	2,800	1,080
Total		$308,600

1.	Compute the manufacturing overhead allocated to each customer in 20172017 using the simple costing system that uses​ machine-hours as the allocation base.
2.	Compute the manufacturing overhead allocated to each customer in 20172017 using​ department-based manufacturing overhead rates.
3.	Comment on your answers in requirements 1 and 2. Which customer do you think was complaining about being overcharged in the simple​ system? If the new​ department-based rates are used to price​ contracts, which​ customer(s) will be​ unhappy? How would you respond to these​ concerns?
4.	How else might APAP use the information available from its​department-by-department analysis of manufacturing overhead​ costs?
5.	APAP​'s managers are wondering if they should further refine the​department-by-department costing system into an ABC system by identifying different activities within each department. Under what conditions would it not be worthwhile to further refine the department costing system into an ABC​ system?

Answer 1

1.

Cost Allocation on basis of Machine Hours	Rural Motors	Janek Motors	Isalnd Auto
Overheads	$         9,258.00	$2,16,020.00	$ 83,322.00
Overhead per hour	$                   77.15

2.

	Manufacturing
Department	Cost Driver	Overhead in 2017	Rural Motors	Janek Motors	Isalnd Auto	Total	Cost per cost driver
Design	CAD-design-hours	$   39,000.00	110	200	80	390	100
Engineering	Engineering-hours	$   29,600.00	70	60	240	370	80
Production	Machine-hours	$2,40,000.00	120	2,800	1,080	4,000	60
Total		$3,08,600.00

Department	Rural Motors	Janek Motors	Isalnd Auto
Design	$       11,000.00	$   20,000.00	$   8,000.00
Engineering	$         5,600.00	$     4,800.00	$ 19,200.00
Production	$         7,200.00	$1,68,000.00	$ 64,800.00
Total	$       23,800.00	$1,92,800.00	$ 92,000.00

3. In simple system Janek Motors was complaining for being overcharged.
In new system, RUral Motors and Island Auto will be unhappy.
But it can be explained to them that cost is based on the quantum and nature of work done for them.

4. The more refined way will be activity based costing

Answer 2

1.

Cost Allocation on basis of Machine Hours	Rural Motors	Janek Motors	Isalnd Auto
Overheads	$         9,258.00	$2,16,020.00	$ 83,322.00
Overhead per hour	$                   77.15

2.

	Manufacturing
Department	Cost Driver	Overhead in 2017	Rural Motors	Janek Motors	Isalnd Auto	Total	Cost per cost driver
Design	CAD-design-hours	$   39,000.00	110	200	80	390	100
Engineering	Engineering-hours	$   29,600.00	70	60	240	370	80
Production	Machine-hours	$2,40,000.00	120	2,800	1,080	4,000	60
Total		$3,08,600.00

Department	Rural Motors	Janek Motors	Isalnd Auto
Design	$       11,000.00	$   20,000.00	$   8,000.00
Engineering	$         5,600.00	$     4,800.00	$ 19,200.00
Production	$         7,200.00	$1,68,000.00	$ 64,800.00
Total	$       23,800.00	$1,92,800.00	$ 92,000.00

3. In simple system Janek Motors was complaining for being overcharged.
In new system, RUral Motors and Island Auto will be unhappy.
But it can be explained to them that cost is based on the quantum and nature of work done for them.

4. The more refined way will be activity based costing