Cost Allocation

Cost Allocation

The report provided will assist you with selecting an allocation base to assign the budgeted manufacturing overhead costs of producing the two camera boxes the company manufactures. First, the predetermined overhead rate is computed. The predetermined overhead rate is used to charge overhead costs to products or jobs. This rate is established in advance for each period by use of estimates of total manufacturing overhead cost and of the total allocation base for the period. Based on the information provided, the estimated manufacturing overhead costs will be $171,400.

The most common allocation bases are machine hours, direct labor hours and direct labor costs. The predetermined rate for each allocation base is as follows:

Predetermined overhead based on machine hours used

171,400/6,000 = 28.5667

Predetermined overhead based on direct labor hours used

171,400/5,000 = 34.28

Predetermined overhead based on direct labor costs

171,400/100,000 = 1.714

Selecting an allocation base is arbitrary. The decision is based on your own judgment or preference. My advice is to use direct labor hours as the allocation base. The direct labor hours indicates the amount of time and effort utilized in manufacturing each product. For each hour used to make an individual product the correct amount of overhead costs should be

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assigned to it. The more labor hours that is used to produce a product the more manufacturing overhead cost will be incurred, which consist of indirect costs such as electricity, gas, water for operating the facility and the equipment. The allocation base you choose should show a cause and effect relation.

Another alternative will be to use the direct labor costs to allocate overhead to the products. If the decision is made to use direct labor hours, the product cost per unit will be as follows:

DELUXE STANDARD TOTAL

|Boxes Produced |250 |1,000...