Varying Predetermined Overhead Rates
Javadi Company makes a single product that is subject to wide seasonal variations in demand. The company uses a job-order costing system and computes predetermined overhead rates on a quarterly basis using the number of units to be produced as the allocation base. Its estimated costs, by quarter, for the coming year are given below:
| Quarter | |||
| First | Second | Third | Fourth |
Direct materials | $240,000 | $120,000 | $ 60,000 | $180,000 |
Direct labor | 96,000 | 48,000 | 24,000 | 72,000 |
Manufacturing overhead | 228,000 | 204,000 | 192,000 | ? |
Total manufacturing costs (a) | $564,000 | $372,000 | $276,000 | $ ? |
Number of units to be produced (b) | 80,000 | 40,000 | 20,000 | 60,000 |
Estimated unit product cost (a) ÷ (b) | $7.05 | $9.30 | $13.80 | ? |
Management finds the variation in quarterly unit product costs to be confusing and difficult to work with. It has been suggested that the problem lies with manufacturing overhead because it is the largest element of total manufacturing cost. Accordingly, you have been asked to find a more appropriate way of assigning manufacturing overhead cost to units of product.
Required:
1. Using the high-low method, estimate the fixed manufacturing overhead cost per quarter and the variable manufacturing overhead cost per unit. Create a cost formula to estimate the total manufacturing overhead cost for the fourth quarter. Compute the total manufacturing cost and unit product cost for the fourth quarter.
2. What is causing the estimated unit product cost to fluctuate from one quarter to the next?
3. How would you recommend stabilizing the company's unit product cost? Support your answer with computations that adapt the cost formula you created in requirement 1.
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