Final answer:
The predetermined overhead rate for Custom Manufacturing is calculated by dividing the estimated overhead costs by the estimated direct materials costs, which equals 2.1 or 210%. This indicates the allocation of $2.10 in overhead for every dollar spent on direct materials, regardless of actual costs at year-end.
Step-by-step explanation:
The predetermined overhead rate is calculated at the beginning of the year based on estimated overhead costs and an allocation base, such as direct materials costs. To determine the predetermined overhead rate using estimated direct materials costs for Custom Manufacturing, you would divide the estimated overhead costs by the estimated direct materials cost.
Predetermined Overhead Rate = Estimated Overhead Costs / Estimated Direct Materials Costs
Predetermined Overhead Rate = $840,000 / $400,000 = 2.1 or 210%
This means for every dollar spent on direct materials, Custom Manufacturing will allocate $2.10 to cover overhead costs. It's important to note that the actual overhead costs at the end of the year ($848,400) do not affect the predetermined overhead rate since the rate is based on estimates made at the beginning of the year. The concept of 'spreading the overhead' refers to allocating overhead costs over the units produced. As production increases, average fixed cost decreases because the fixed cost is spread over more units.