Question

The management of Firebolt 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 Firebolt:

1	Fabrication Department factory overhead	$577,200.00
2	Assembly Department factory overhead	235,200.00
3	Total	$812,400.00

Direct labor hours were estimated as follows:

Fabrication Department	5,200	hours
Assembly Department	4,900
Total	10,100	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	2.8 dlh	1.9 dlh
Assembly Department	1.9	2.8
Direct labor hours per unit	4.7 dlh	4.7 dlh

	Required:
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.*
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.*
c.	(1) Recommend to management a product costing approach, based on your analyses in (a) and (b). (2) Give a reason for your answer.
	*If required, round all per-unit answers to the nearest cent.

Answer 1

A)
Plantwide factory overhead rate:Budgeted Factory Overhead/Plant wide Allocation Base
Plantwide factory overhead rate = $812,400/10,100 Direct Labour Hours	$80.44
Product costs
Gasoline engine $80.44 per direct labor hr x 4.7 dlh	$                                                       378.05
Diesel engine $80.44 per direct labor hr. x 4.7 dlh	$                                                       378.05
B)
Department factory overhead rates
	Fabrication Department	Assembly Department
Total production department factory overhead	$577,200.00	235,200.00
Direct labor hours	÷ 5,200 dlh	÷ 4,900 dlh
Production department overhead rate	$111.00	$                      48.00
Production Departments	Gasoline Engine	Department factory overhead rates per dlh	Total factory overhead per DLH
Fabrication Department	2.8	111	310.8
Assembly Department	1.9	48	91.2
Total factory overhead per Gasoline Engine	4.7		402
Production Departments	Diesel engine	Department factory overhead rates per dlh	Total factory overhead per DLH
Fabrication Department	1.9	111	210.9
Assembly Department	2.8	48	134.4
Total factory overhead per Diesel engine	4.7		345.3
c.
Management should select the multiple department factory overhead rate method of allocating overhead costs. The single plantwide factory overhead rate method indicates that both products have the same factory overhead of $378.05 per unit.This is because each product uses a total of 4.7 direct labor hours per unit. However, each product uses these 4.7 direct labor hours much differently. The gasoline engine consumes 2.8 hour in the expensive Fabrication Department and 1.9 hours in the less expensive Assembly Department. The opposite is the case for diesel engines. Thus, the multiple production department rate method avoids the cost distortions of the single plantwide rate method by accounting for the overhead in each production department separately. In this case, there are both production department rate differences across the departments and differences in the ratios of allocation-base usage of the products across the departments (2.8:1.9 vs. 1.9 : 2.8). These conditions will cause the single plantwide rate method to distort product costs.