Question

Time period used to compute indirect cost rates. Capitola Manufacturing produces surfboards. The company uses a normal-costing system and allocates manufacturing overhead on the basis of direct manufacturing labor-hours. Most of the company's production and sales occur in the first and second quarters of the year. The company is in danger of losing one of its larger customers, Pacific Wholesale, due to large fluctuations in price. The owner of Capitola has requested an analysis of the manufacturing cost per unit in the second and third quarters. You have been provided the following budgeted information for the coming year:

Quarter
1 2 3 4
Surfboards manufactured and sold 500 400 100 250
It takes 2 direct manufacturing labor-hours to make each board. The actual direct material cost is $65.00 per board. The actual direct manufacturing labor rate is $20 per hour. The budgeted variable manufacturing overhead rate is $16 per direct manufacturing labor-hour. Budgeted fixed manufacturing overhead costs are $20,000 each quarter.
1. Calculate the total manufacturing cost per unit for the second and third quarters assuming the company allocates manufacturing overhead costs based on the budgeted manufacturing overhead rate determined for each quarter.
2. Calculate the total manufacturing cost per unit for the second and third quarters assuming the company allocates manufacturing overhead costs based on an annual budgeted manufacturing overhead rate.
3. Capitola Manufacturing prices its surfboards at manufacturing cost plus 20%. Why might Pacific Wholesale be seeing large fluctuations in the prices of boards? Which of the methods described in requirements 1 and 2 would you recommend Capitola use? Explain.

Answer 1

1) production cost per unit (Q2) = $187

production cost per unit (Q3) = $337

2) production cost per unit (Q2) = $201

production cost per unit (Q3) = $201

3) Capitola should allocate manufacturing costs based on total annual production because if it allocates them on a quarterly basis, the unit costs in the quarters were production is lower will be much higher. E.g. in Q3 only 100 units were produced, therefore production costs are 80% higher than Q2 costs. If costs are allocated on an annual basis, then production costs will be stable and the company will benefit. The company actually lost money when it sold its production during quarters 1 and 2 since overhead costs were not correctly applied.

Step-by-step explanation:

Quarter

1 2 3 4

Units produced 500 400 100 250

costs per unit:

• 2 labor hours x $20 = $40
• direct materials = $65
• variable overhead = $16

total = $121 per unit

fixed overhead = $20,000

1) total production costs second quarter:

materials = 400 x $65 = $26,000

direct labor = 400 x $40 = $16,000

variable overhead = 400 x 2 x $16 = $12,800

fixed overhead = $20,000

total = $74,800

production cost per unit (Q2) = $187

total production costs third quarter:

materials = 100 x $65 = $6,500

direct labor = 100 x $40 = $4,000

variable overhead = 100 x 2 x $16 = $3,200

fixed overhead = $20,000

total = $33,700

production cost per unit (Q3) = $337

2) total production costs second quarter:

materials = 400 x $65 = $26,000

direct labor = 400 x $40 = $16,000

variable overhead = 400 x 2 x $16 = $12,800

fixed overhead = ($80,000 / 1,250) x 400 = $25,600

total = $80,400

production cost per unit (Q2) = $201

total production costs third quarter:

materials = 100 x $65 = $6,500

direct labor = 100 x $40 = $4,000

variable overhead = 100 x 2 x $16 = $3,200

fixed overhead = ($80,000 / 1,250) x 100 = $6,400

total = $20,100

production cost per unit (Q3) = $201