# Accounting for Decision Making Study Set 5

## Quiz 9 :Absorption Cost System

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Lys Wheels Lys Wheels manufactures high-performance mountain bikes. Lys uses a predetermined overhead rate based on direct labor hours to absorb overhead to mountain bikes. For the last fiscal year, the firm had the following operating data: Required: What was Lys's budgeted volume last year?
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Allocation of manufacturing overhead
In manufacturing company, there are various manufacturing overhead incurred to produce the goods these overhead expenses are then allocated to the respective manufacturing department. There are two traditional ways in which company allocates the manufacturing overhead to department. They are plant wide overhead and departmental overhead rate. These rates are determined based on estimated manufacturing overhead and estimated direct labor hours or machine hours.
Overhead rate is calculated at beginning of the year which is used to determine the amount of overhead to be applied to work in progress inventory.
Formula to calculate overhead rate
Calculate budgeted volume last year as follows:
Calculate budgeted volume last year using excel spreadsheet as follows:
Thus, budgeted volume last year is
.

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Allington Screen Plant The Allington Screen Plant of Allington Windows manufactures new and replacement screens. The plant produces more than 500 different screen sizes and offers four different aluminum frame colors. Plant overhead is absorbed to each screen produced using the square inches of the screen as the allocation base. (For example, a screen with dimensions height has 781.581 square inches.) The single plantwide overhead rate, estimated before the year begins, is based on a flexible budget (budgeted fixed overhead plus budgeted variable overhead) divided by budgeted volume. Volume is measured in square inches of the screens produced. The following table summarizes operations for the year: Required : Calculate the budgeted volume amount (in screen square inches) Allington Screen Plant used in computing the plantwide overhead rate for the year.
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Budgeted volume:
Budgeted volume means the quantity planned either to produce or sell for a given particular period. Volume expected for the coming year or the long run average volumes are the two ways to estimate the budgeted volume.
Calculate the budgeted volume amount (in screen square inches) as shown below:
The over applied refers to excess absorption of overheads. Therefore the actual overheads are less than the applied overheads. Therefore, to get the budgeted overheads the over applied should be added to the actual overheads.
Thus, the budgeted volume amount (in sq. in) is
.

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MacGiver Brass MacGiver Brass is a brass plating firm with sales of $8 million and profits before taxes of$625,000. MacGiver has a loan outstanding at its local bank for working capital purposes. As the loan officer reviewing MacGiver's loan application, you are charged with making a recommendation as to whether the $608,000 loan should be renewed for another year. Upon reviewing MacGiver's most recent annual report, you find the following footnote: "Underabsorbed overhead of$462,000 was prorated to inventories (2/3) and cost of goods sold (1/3)." Required: a. How should you evaluate MacGiver's annual report in light of this footnote? In particular, how does this footnote affect your recommendation regarding the loan? b. In preparing for your meeting with MacGiver's president and chief financial officer, what questions do you want to ask regarding this footnote?
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Sales:
It refers to any activity which is undertaken by the entity for selling its products or rendering its services in the market in exchange for money. Sales can be made on two basis that is cash or credit basis.
The amount of sales is shown in the profit and loss statement of the entity as income of such entity.
Working capital:
Working capital is that part of the capital that is introduced in the business in order to run the day to day activities of the business. It is basically the difference between the current assets and the current liabilities that are used in the business.
a.In the present case, the amount of sales, the profit before taxes and the value of the loan is provided.The footnote presented by the person will have an adverse impact on the chance for renewal of the loan amount because the amount of overhead was not shown as a part of production costs and hence the amount of income of the company was shown on a higher side.
Calculate the amount to be allocated to cost of goods sold using below equation as follows:
Hence amount allocated to COGS is $154,000 out of$462,000.
Calculate the amount unallocated using below equation as follows:
Hence the unallocated overhead amounts to $308,000. After the examination of the amounts and the amount of overheads, the net income of the company was correctly stated at$625,000 by reducing the income by $154,000. The company is still left with$308,000 of unabsorbed overheads and if they are used in the production then such overheads can reduce the income levels as well.
b.The following question should have been asked which are as follows:
1. What is the reason behind the amount of unabsorbed overhead being higher than the amount of expenses expected or they are lesser than the amount of volumes which were expected by the company?
2. What is the reason behind the company has written off the entire amount of unabsorbed overheads in a single shot.

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Advanced Medical Advanced Medical (AM) manufactures four different blood oxygen level monitors (A300, B400, C500, and D600) at its Denver plant. The Denver plant opened four years ago and was built with the expectation of producing annually 4,000, 5,000, 6,000, and 7,000 of the A300, B400, C500, and D600 monitors, respectively. However, a recession has reduced the demand for all medical devices. The following table reports the number of units of each monitor AM has sold (Last Year and This Year) and expects to sell Next Year. AM uses a flexible budget to estimate its manufacturing overhead and manufacturing overhead rate. Overhead is assigned to the four monitors using direct labor dollars (i.e., manufacturing volume is measured as direct labor dollars). For Next Year, AM budgets $6.5 million for fixed manufacturing overhead and$0.90 per direct labor dollar for variable overhead. Budgeted direct labor dollars per monitor are $25,$24, $23, and$22 for the A300, B400, C500, and D600 monitors, respectively. Required: a. Calculate AM's budgeted manufacturing volume for Next Year. b. Using your budgeted manufacturing volume in part (a), compute AM's manufacturing overhead rate for Next Year. c. Discuss how you chose Next Year's budgeted volume in part (a). In other words, what are the advantages and disadvantages of the method you used to compute Next Year's budgeted manufacturing volume?
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Unknown Company Compute the unknowns: There is no opening or closing finished goods or work-in-process inventory.
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Ware Paper Box Ware Paper Box manufactures corrugated paper boxes. It uses a job order costing system. Operating data for February and March are as follows: The factory was closed due to a labor strike prior to January 28, when job #613 was started. There were no other jobs in the plant at that time. Required: Calculate the following amounts: a. Work-in-process inventory as of 2/28. b. Work-in-process inventory as of 3/31. c. Finished goods inventory as of 2/28. d. Finished goods inventory as of 3/31. e. Cost of goods sold for February. f. Cost of goods sold for March.
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Media Designs Media Designs is a marketing firm that designs and prints customized marketing brochures. The design department designs the brochure and the printing department prints and binds it. Each department has separate overhead rates. The following estimates for the two departments were made for the calendar year 2017. Media Designs uses a budgeted overhead rate to apply overhead to jobs. Direct labor hours are used to allocate overhead in the design department, and direct materials cost is used to allocate overhead in the printing department. Required : a. What are the overhead rates for the design and printing departments? b. A summary of the Matsui job follows: What are overhead costs for the Matsui job? 1. Actual operating results for 2017 are Calculate the over/underapplied overhead for each department
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Equivalent Units (See Appendix A) Department 100 is the first step in the firm's manufacturing process. Data for the current quarter's operations are as follows: Required: Materials are added at the beginning of the process. Conversion costs (labor and capital costs) are incurred uniformly. The firm uses the FIFO method of inventory accounting. How many equivalent units of conversion cost were used in the current quarter in Department 100?
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Welding Robots The frame-welding department of a large automotive company welds car frames as they pass down the assembly line. Four computer-controlled robots make the welds on each frame simultaneously. When installed last year, each robot was expected to have a five-year useful life before becoming obsolete and being replaced by newer, faster models with more advanced electronics. Over its life, each robot is expected to make 100 million welds. The robots cost $8 million apiece and have no salvage value at the end of their useful lives after the cost of dismantling and removing them is taken into consideration. The firm has a traditional absorption costing system that costs each frame. The accounting system supports decision making and control. Straight-line depreciation is used for both internal and external reporting, and accelerated depreciation is used for taxes. As frames move through the welding stations, they are charged based on the number of welds made on each frame. Different car frames require different numbers of welds, with some frame models requiring up to 1,000 welds. Welds cost$0.11 each. This charge is set at the beginning of the year by estimating the fixed and variable costs in the welding department. Accounting determines the expected number of welds projected for the year by taking the projected number of frames times the number of welds per frame. The expected number of welds is used to estimate total costs in the welding department. The cost per weld is then the ratio of the projected welding costs to the expected number of welds. Seventy-two million welds were projected for the current year. The following statement illustrates the computation of the charge per weld: After reviewing the preceding statement, Amy Miller, manager of the body fabricating division (which includes the welding department), made the following remarks: I know we use straight-line depreciation to calculate the depreciation component of the cost per weld now. But it would seem to make a lot of sense to compute robot depreciation using units of- production depreciation. Each robot cost $8 million and was expected to perform 100 million welds over its useful life. That comes to now. This reduces our costs on our complicated frames by as much as$10. The real advantage of using units-of-production depreciation, in my opinion, is that depreciation becomes a variable cost. This has real advantages because, when you lower your fixed costs, your break-even point is lower. Operating leverage is lower, and thus the company's overall risk is reduced. I think we should go to the plant controller and see if we can convince him to use a more realistic basis for calculating the depreciation costs of the robots. Required : Do you agree with Amy Miller's proposal?
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Pool Scrubbers Pool Scrubbers manufactures three different models of swimming pool cleaners (710, 720, and 830). These are sophisticated, computer-controlled, programmed cleaners that scrub and vacuum the pool's bottom, walls, and steps and provide supplemental filtration of pool water. The three models differ in their capacity and programmability. Pool Scrubbers uses an absorption costing system that absorbs manufacturing overhead to the three models based on direct labor hours. The single plantwide manufacturing overhead rate is predetermined before the beginning of the fiscal year using a flexible manufacturing overhead budget. Variable manufacturing overhead is budgeted to be $3.00 per direct labor hour, and fixed manufacturing overhead is budgeted to be$1.4 million. Direct labor is budgeted at $25 per direct labor hour. The following table summarizes the budgeted and actual results of operation for the year: Required: a. Calculate the firmwide overhead rate for the year (round to four decimals). The overhead rate is calculated before the fiscal year begins. b. A batch of 100 units of model 720 is produced using 405 direct labor hours. How much overhead is absorbed by this batch of 100 model 720s? c. Actual overhead incurred during the year was$1,520,500. Calculate the amount of overor underabsorbed overhead for the year. d. Scrubbers writes off any over/underabsorbed overhead to cost of goods sold. What is the effect on earnings of writing off the over/underabsorbed overhead calculated in part (c) on net income? In other words, does net income increase or decrease relative to what net income was prior to the write-off of the over/underabsorbed overhead calculated in part (c)?
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Dead Eye Putters Dead Eye Putters manufactures golf putters in three models: P450, Q550, and R650. Manufacturing overhead is assigned to each putter model using a predetermined overhead rate and the direct labor hours actually used in manufacturing each putter model. The firm calculates the overhead rate before the year begins using a flexible budget. Budgeted volume is measured using direct labor hours. The following data summarize the budgeted and actual production for the fiscal year: After the fiscal year ends, Dead Eye Putters reports $884,713 underabsorbed overhead and actual overhead incurred of$25,875,026. Variable overhead was budgeted to be $3.50 per direct labor hour. Required : a. Compute Dead Eye Putter's manufacturing overhead rate used during the year. b. What budgeted fixed overhead did Dead Eye Putters use in computing its manufacturing overhead rate for the year? Essay Answer: Tags Choose question tag Durnstein Schnapps Durnstein Schnapps produces three types of schnapps from locally grown Austrian pears, plums, and cherries. Schnapps is a clear, colorless beverage distilled from fermented fruit that normally contains about 40 percent alcohol. The pear and plum schnapps are produced using an identical process whereby the pears and plums are fermented and then distilled. The cherry schnapps employs a similar production process but requires more direct labor to produce the unique and highly prized Durnstein Cherry Schnapps. Each variety of schnapps (pears, plums, and cherries) is produced in batches of 500 liters and then bottled. Durnstein Schnapps uses an absorption costing system to assign overhead to its three products for inventory costing. A single, predetermined, plantwide overhead rate is computed using a flexible manufacturing overhead budget. Variable manufacturing overhead is budgeted to be €16.00 per direct labor hour and fixed manufacturing overhead is budgeted to be € 845,000 for the year. The following table summarizes budgeted and operating data for the last fiscal year. Durnstein Schnaps incurred actual manufacturing overhead last year of € 1,250,500. Required: a. Calculate Durnstein Schnapp's plantwide overhead rate for last year. b. One batch of plum schnapps used 20 direct labor hours. How much manufacturing overhead was absorbed by this one batch? c. How much over/underabsorbed overhead did Durnstein Schnapps have last year? d. Recommend/discuss how Durnstein Schnapps is likely to account for the over/underabsorbed overhead you calculated in part (c). Essay Answer: Tags Choose question tag Luxor Fashions Luxor Fashions manufactures very high-quality traditional men's suits that are sold in exclusive men's stores around the world. Luxor opened a new factory in Italy two years ago to employ the best Italian tailors to cut, assemble, and stitch high-fashion mens' business attire. The business plan for the new factory called for 250 tailors, each working 2,000 hours per year. Overhead is allocated to individual suits based on the number of direct labor hours in the suit. Luxor uses a flexible overhead budget to estimate its overhead rate. Fixed manufacturing overhead next year is budgeted at 26.05 million euros, and variable manufacturing overhead is budgeted at 20 euros per direct labor hour. The following table provides next year's production schedule and the number of expected (budgeted) direct labor hours per suit style: Required: a. Calculate Luxor's overhead rate for next year using expected volume. b. Calculate Luxor's overhead rate for next year using normal volume. c. Discuss the advantages and disadvantages of using expected volume in calculating factory overhead rates. d. Which method (expected or normal volume) is more widely used? e. What conclusions do you draw from your answer in part (d)? Essay Answer: Tags Choose question tag Thermalloy Thermalloy makes extruded aluminum heat sinks that are small devices that help cool semiconductors and printed circuit boards. Thermalloy uses an absorption costing system whereby all fixed and variable manufacturing overhead is absorbed to manufactured products via a single plantwide overhead rate that is estimated at the beginning of the year using a flexible manufacturing budget. Volume is measured in direct labor hours. The following data summarize Thermalloy's operations for the year: Required: Calculate Thermalloy's budgeted direct labor hours. Essay Answer: Tags Choose question tag HexBugs HexBug manufactures and sells small robotic creatures that change direction when they encounter obstacles in their path. These battery-powered toys, some radio-controlled, sell for retail prices ranging from$6 to $25. HexBugs come in three styles: nanos (about an inch long), antes (about two inches long), and crabs (about three inches long). All three HexBugs are manufactured in a common manufacturing site. HexBug uses an absorption costing system that absorbs manufacturing overhead to the three styles based on direct material dollars. The single plantwide manufacturing overhead rate is predetermined prior to the beginning of the fiscal year using a flexible manufacturing overhead budget. Variable manufacturing overhead is budgeted to be$0.720 per direct material dollar, and annual fixed manufacturing overhead is budgeted to be $6.5 million. All three styles of Hexbugs are produced in batches of 1,000 bugs. The following table summarizes the budgeted and actual results of operation for the year: Required: a. Calculate the firmwide overhead rate for the year. b. A batch of 1,000 Antes was produced in March that incurred$145 of direct labor and $1,650 of direct materials. How much overhead is absorbed by this batch of Antes produced in March? c. Actual overhead incurred during the year was$23,586,000. Calculate the amount of overor underabsorbed overhead for the year. d. HexBug writes off any over/underabsorbed overhead to cost of goods sold. What is the effect on earnings of writing off the over/underabsorbed overhead calculated in part (c) on net income? In other words, does net income increase or decrease relative to what net income was prior to the write-off of the over/underabsorbed overhead calculated in part (c)?
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Chemtrex (See Appendix A) Chemtrex is an agricultural chemical producer. Process costing is used in its mixing department. At the beginning of July, Chemtrex had 700,000 gallons 70 percent complete in work-in-process. During July, it started another 4,000,000 gallons and produced 3,700,000 gallons. One million gallons of ending work-in-process were 60 percent complete at the end of July. Conversion costs are incurred uniformly over the mixing process. Required: Calculate the number of equivalent units of conversion work performed during July.
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Simple Plant Simple Plant manufactures DNA test strips. Manufacturing overhead is applied to units produced using direct labor dollars as the allocation base. The overhead rate is calculated prior to the beginning of the fiscal year that runs January 1 to December 31. Simple Plant has one manufacturing employee, J. Kusic, and one overhead expense besides indirect labor, property taxes. J. Kusic's salary and fringe benefits for next year are forecast to be $50,000. Kusic is expected to work 2,000 hours at a cost of$25 per hour ($50,000/2,000). Eighty percent of Kusic's time is budgeted to be direct labor, and the remainder is budgeted to be indirect labor. Property taxes are projected to be$110,000. There was no beginning balance of work-in-process on January 1. Required: a. Calculate Simple Plant's overhead rate for next year. b. On January 2, the first working day of the new fiscal year, Kusic works eight hours (five hours on manufacturing test strips and three hours waiting for raw materials to arrive). Each day, Simple Plant posts all entries (transactions) to the accounts. What are the balances in the Overhead account and the Work-in-Process account at the close of business on January 2? c. At the end of the year, Kusic's salary and benefits are $50,000, with$44,000 of the total charged to test strips manufactured. Kusic worked 2,000 hours during the year. Property taxes paid during the year amounted to $103,000. What, if any, is the balance in the overhead account before an adjusting entry is made to transfer the balance to other accounts? Essay Answer: Tags Choose question tag DeJure Scents (See Appendix A) DeJure Scents manufactures an aftershave and uses process costing. All materials are added at the beginning of the process, and conversion costs are incurred uniformly over time. In May, DeJure started 15,000 gallons. There was no beginning inventory. May's ending inventory of work-in-process was 2,000 gallons, which were 50 percent complete with respect to conversion costs. In May, conversion costs were$28,000 and materials costs were $45,000. Required : a. Calculate the equivalent units of conversion and materials. b. Calculate the cost per equivalent unit of conversion and materials. c. Calculate the cost of the ending inventory and the cost transferred to finished goods inventory. Essay Answer: Tags Choose question tag Joon manufactures and sells to retailers a variety of home care and personal care products. Joon has a single plant that produces all four of its product lines: Stick Goods (brooms and mops), FloorCare(strippers, soaps, and waxes), Brushes (hair brushes and shoe brushes), and Aerosols (room deodorizers, bug spray, furniture wax). The following statement summarizes Joon's financial performance for the most recent fiscal year. Direct labor costs$21 per hour. Fixed manufacturing overhead of $4.433 million is allocated to products based on direct labor hours. Last year, the fixed manufacturing overhead rate was$31 per direct labor hour ($4.433 million/143,000 direct labor hours). Variable manufacturing overhead is$3.50 per direct labor hour. Selling, general, and administrative (SG A) expenses consist of fixed costs ($1.35 million) and variable costs ($2,951 million). The variable SG A is 20 percent of revenues. The Joon plant has considerable excess capacity. Senior management has identified a potential acquisition target, Snuffy, that sells a line of automotive products (car waxes, soaps, brushes, and so forth) that are complementary to Joon's existing products and that can be manufactured in Joon's plant. Snuffy does not have any manufacturing facilities, but rather outsources the production of its products to contract manufacturers. Snuffy can be purchased for $38 million. The following table summarizes Snuffy's current operating data: Senior management argues that the reason Joon is currently losing money is that volumes have fallen in the plant and that the remaining products are having to carry an increasingly larger share of the overhead. This has caused some Joon product managers to raise prices. Senior managers realize that they must drive more volume into the plant if Joon is to return to profitability. Since organic growth (i.e., growth from existing products) is difficult due to a very competitive marketplace, management proposes to the board of directors the purchase of Snuffy as a way to drive additional volume into the plant. With volume of 60,000 cases and 1.9 direct labor hours per case, Snuffy's car care product line will add 114,000 direct labor hours to the plant and increase volume about 80 percent (114,000/143,000). This additional volume will significantly reduce the overhead the existing products must absorb and allow the product managers to lower prices. To incorporate Snuffy's manufacturing and distribution into Joon's current operations, Joon will have to incur additional fixed manufacturing overhead of$450,000 per year for new equipment and $400,000 per year for additional SG A expenses. Required: a. Prepare a pro forma financial statement that shows Joon's financial performance (net income) for the most recent fiscal year assuming that Joon has already acquired Snuffy's car care products and has incorporated them into Joon's manufacturing and SG A processes. In preparing your analysis, make the following assumptions: i. Snuffy's products have the same fixed and variable cost structure as Joon's existing lines (i.e., variable overhead is$3.50 per direct labor hour, and variable SG A is 20 percent of revenues). ii. The addition of Snuffy products does not change the demand for Joon's existing products. iii. There are no positive or negative externalities in manufacturing from having the additional Snuffy volume in the plant. iv. There is sufficient excess capacity in the plant and the local labor markets to absorb the additional Snuffy volume without causing labor rates or raw material prices to rise. b. Based on your financial analysis in part ( a ), should Joon acquire Snuffy? c. Evaluate management's arguments in favor of acquiring Snuffy. d. What other advice would you offer Joon's management?
Rick's Bags Rick's Bags manufactures both golf bags and tennis totes. Fixed manufacturing overhead is budgeted to be $187,200, variable manufacturing overhead is budgeted to be$1.10 per direct labor hour, and fixed selling and administration costs are budgeted to be $346,000. Each golf bag is expected to use 2.5 direct labor hours and each tennis tote is expected to use 1.8 direct labor hours. Planned production consists of 12,000 golf bags and 18,000 tennis totes. During the year, 34,060 direct labor hours are used to make golf bags and 16,250 direct labor hours are used to make tennis totes. Manufacturing overhead incurred during the year was$207,500. Overhead is absorbed into products using actual direct labor hours. Required : a. Calculate the manufacturing overhead rate used to absorb overhead to golf bags and tennis totes. b. A batch of tennis totes is produced in May. The batch uses 1,900 direct labor hours. How much overhead is charged to this batch of tennis totes? c. Calculate the amount of over/underabsorbed overhead at the end of the year. d. Describe in nontechnical terms what the over/underabsorbed overhead calculated in part (c) means.