Question

. Decent Furnishing Company manufactures furniture using latest automated technology. The company applies a job order costing system and applies manufacturing overhead cost to products on the basis of machine hours. The following estimates were used in preparing the predetermined overhead rate at the beginning of the year :

                        Machine hours.                                             75,000

                        Manufacturing overhead cost.               Rs. 900,000

During the year, a glut of furniture on the market resulted in cutting back production and a build up of furniture in the company’s warehouse. The company’s cost records revealed the following actual cost and operating data for the year:

Machine hours.                                                                                   60,000                  Manufacturing overhead cost                                                                 Rs. 850,000

                        Inventories at year-end:

                            Raw materials                                                                        Rs.    30,000

                            Work in process (includes overhead applied of Rs. 36,000)      Rs. 100,000

                             Finished goods (includes overhead applied of Rs. 180,000)     Rs.   500,000

                        Cost of goods sold (includes overhead applied of Rs. 504,000)    Rs.1,400,000

Required:

1)   Compute the company’s predetermined overhead rate.

2)   Compute the under applied or over applied overhead.

3)   Assume that the company closes any under applied or over applied overhead directly to the Cost of

       Goods sold. What shall be the adjusted cost of goods sold ?

4) Assume the company allocates any under applied or over applied overhead to Work in process, Finished Goods, and the Cost of Goods Sold on the basis of the amount of overhead applied that remains in each account at the end of the year. How much higher or lower will net operating income be if the under applied or over applied overhead is allocated rather than closed directly to the Cost of Goods Sold ?                  

Answer 1

1. Predetermined overhead rate = Estimated manufacturing overhead cost/Estimated machine hours = $900000/75000 = $12 per machine hour

2.

Actual manufacturing overhead cost incurred	850000
Manufacturing overhead cost applied (60000 x $12)	720000
Under applied overhead $	130000

3.

Cost of goods sold	1400000
Add: Under applied overhead	130000
Adjusted cost of goods sold $	1530000

4.

	Overhead Applied	% of Total Overhead Applied	Allocation of Under Applied Overhead
Work in process	36000	5%	6500
Finished goods	180000	25%	32500
Cost of goods sold	504000	70%	91000
	720000	100%	130000

Net operating income will be higher by $123500.

($32500 + $91000) = $123500