sragraph Styles ope absoption coting sysom Is budget for the your ended 31 Depem

Question

sragraph Styles ope absoption coting sysom Is budget for the your ended 31 Depember showe thuat Machining department Hand finishing department Foed 15)Variable () 480,000 400,000 600,000 360,000 During the year it expects to make 200,000 units of its product. This is expected to take 80,000 machine hours in the machining department and 120,000 lebour hours in the hand finishing department The costs and actvity are expected to arise evenly throughout the year, and the budget has been used as the basis of calculating the company's absonption rales During Maroh the monthly profits statement reported That the actual hours worked in each department were Machining Hand finishing That the actual overhead costs incurred were:- 6,000 hours 9,600 hours (i) Fixed 48,500 33,600 Variable Machining department Hand finishing department 36,000 33,500 (ii) That the actual production was 15,000 units (a) Calculate appropriate pre-determined absorption rates for the year ended 31 December (b) Calculate the under/over absorption of overhead for each department of the Required: Company for March (0) Comment on the problems of using predetermined absorption rates based on the arbitrary apportionment of overhead costs, with regard to comparisons of actual/target performances (c) State the reasons why absorption costing is used by companies ia) Justity why budgeted overhead rates should be used in preference to actual overhead rates

Explanation / Answer

Question - a

Appropriate predetermined absorption rate =

Question - b

Question - b (ii)

When using the predetermined overhead rate, standards in terms of machine hours and labor hours are used. But in actual practice due to business fluctuations standard conditions are seldom repeated. Thus most of the times we see working conditions cannot be standardized. This lead to overabsorptiona and underabsorption or ultimately wrong cost determinations and decisions.

Question - c

Using the absorption costing, entities will be able to load the product with fixed cost as well. Thus in the event of sales lower then production, some part of the current year fixed cost is transfered to subsequent year and thus entity is saved from showing uncessary loss, which is otherwise possible with marginal cost, because all fixed costs are charged to current profits itself in the marginal costing model.

(d) Use of actual overhead rates is quite impossible. If one have to use this method, they have to wait for total production for a period to complete before selling them. Then only they can use actual overhead rate. Again such practices encourages inefficiency by throughing what ever cost incurred on to the product. In the absence of budgeted overhead, it not possible to maintain control and fix responsibilities at production facilities.

Kindly comment, if you need any further assistence in this concept ........ all the best.

Machining Dept Hand Finishing Dep Fixed 600000 360000 Variable 480000 400000 Total Overhead 1080000 760000 Basis for allocation 80000 120000 Machine Hours Labor Hours Overhead absorption per hour 13.5 6.33

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