Racers Mini-case: Plant-wide vs. Departmental overhead rates \"Don\'t tell me we

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Racers Mini-case: Plant-wide vs. Departmental overhead rates "Don't tell me we've lost another bid!" exclaimed Leigh Garcia, president of Speed Racers Manufacturing. "I'm afraid so," replied Charlie Townsend, the operations vice president. "One of our competitors underbid us by about $6,000 on the Lopez job." "I just can't figure it out," said Garcia. "It seems we're either too high to get the job or too low to make any money on half the jobs we bid anymore. What's happened?" Speed Racers manufactures specialized racing cars to customers' specifications. It bids on jobs by estimating the total manufacturing costs (materials, labor and overhead) and then marks up its costs by 150%, which is the industry standard markup. Overhead is allocated to jobs based on direct labor costs (i.e., the denominator volume). Speed Racers has three departments and estimated the following costs at the beginning of the year. It used these costs to compute a plant-wide (i.e., total plant) allocation rate Fabricatin 200,000 $350,000 Department Machinin 100,000 400,000 Total Plant $600,000 840,000 Direct Labor Overhead $300,000 $90,000 Jobs require varying amounts of work in the three departments. The Lopez job would have required the manufacturing costs in the three departments as follows ment Fabricatin 3,000 $2,800 Machinin $200 500 Total Plant Direct Materials Direct Labor Overhead $1,400 $6,200 600 $9,500 1. Assuming that Speed Racers uses a plant-wide overhead rate Compute the allocation rate for the current year .Determine the amount of overhead and the total estimated cost of the Lopez job Compute the bid for the job (recall total costs are marked up 150% for bids) . 2. Now assume that Speed Racers uses a separate overhead rate for each department: Compute the allocation rate for each department for the current year (3 rates) Determine the amount of overhead and the total estimated cost of the Lopez job Compute the bid for the job (recall total costs are marked up 150% for bids) * 3. Explain the difference between the cost estimates you computed, above 4. What insight do the above answers provide regarding Leigh Garcia's lament, "It seems we're either too high to get the job or too low to make any money on half the jobs we bid anymore."

Explanation / Answer

1 PLANTWIDE ALLOCATION RATE A Total Plant Overhead cost for the year $840,000 B Total plant direct labor cost for the year $600,000 C=A/B Plant wide allocation rate $           1.40 per $ of direct labor cost DEPARTMENT Fabrication Machining Assembly Total plant A Direct material $3,000 $200 $1,400 $4,600 B Direct labor $2,800 $500 $6,200 $9,500 C=1.4*B Overhead $3,920 $700 $8,680 $13,300 Total estimated cost of the Lopez job $27,400 D Total estimated cost of the Lopez job $27,400 E=D*1.5 Mark up $41,100 F=D+E Bid for the job $68,500 2 SEPARATE OVERHEAD RATE FOR EACH DEPARTMENT DEPARTMENT Fabrication Machining Assembly A Overhead cost for the year $350,000 $400,000 $90,000 B Direct labor cost for the year $200,000 $100,000 $300,000 C=A/B Overhead allocation rate $           1.75 $         4.00 $       0.30 DEPARTMENT Fabrication Machining Assembly Total plant A Direct material $3,000 $200 $1,400 $4,600 B Direct labor $2,800 $500 $6,200 $9,500 C Overhead=Departmental allocation rate*B $4,900 $2,000 $1,860 $8,760 Total estimated cost of the Lopez job $22,860 D Total estimated cost of the Lopez job $22,860 E=D*1.5 Mark up $34,290 F=D+E Bid for the job $57,150 3 The difference is mainly because Assembly department has very low overhead and high direct labor cost Hence assemnbly department overhead allocation is low 4 In a job costing system overhead allocation policy is important For machinimg department , they should allocate based on machine hour Proper allocation will make the bids competitive

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