CHAPTER 12

DISCUSSION QUESTIONS

Q12-1. Supervisors salaries, indirect labor, overtime

premium, supplies, indirect materials, payroll
tax, factory insurance, and depreciation.
Q12-2. The most important reason for variation in factory overhead is the presence of fixed and
variable expenses. Therefore, as production
volume changes from month to month, the
costs will do likewise. However, overhead also
will change because of improved or decreased
efficiencies and changes in prices paid for
overhead items such as supplies and repairs.
Q12-3. Predetermined rates are used when it
becomes obvious that any other method of
charging overhead results in inequitable costing and delays the reporting of financial
results. Charging actual overhead to jobs and
products can result in charging unreasonable
amounts of overhead to various periods and
in delayed reporting of cost data. The use of
predetermined rates also enhances control
through analysis of over- or underapplied factory overhead.
Q12-4. Six bases used for applying factory overhead
are units produced, direct materials cost,
direct labor cost, direct labor hours, machine
hours, and transactions. Important considerations in selecting a base are the relationship
(correlation) of the base used and the use of
overhead items in manufacturing operations,
as well as the clerical practicability of using a
particular base.
Q12-5. Predetermined rates are used to charge overhead and become the basis for determining
the cost of a job or product. Therefore, the reasonableness of such costs is to a large extent
determined by the reasonableness of the
rates. Since these costs are used for costing
inventories and play an important role in establishing sales prices, the selection of proper predetermined rates can be appreciated.
Q12-6. An objective in selecting the base for a predetermined factory overhead rate is to ensure
the application of factory overhead in reasonable proportion to a beneficial or causal relationship to jobs, products, or work performed

or to be performed, i.e., for estimating purposes. Ordinarily, the base selected should be
closely related to functions represented by
the applied overhead cost. If factory overhead
costs are predominantly labor oriented, such
as supervision and indirect labor, the proper
base would probably be direct labor hours. If
factory overhead costs are predominantly
related to the cost incurred in the ownership
and operation of the machinery, the proper
base would probably be machine hours.
Another objective in selecting the base is
to minimize clerical cost and effort relative to
the benefits attained. When two or more
bases provide approximately the same
applied overhead cost to specific units of production, the simplest base should be used.
Q12-7. (a) Theoretical capacity is actually the maximum production possible from a given
plant with no allowance made for cessation
of operations for holidays, weekends, materials shortages, or machine breakdowns.
(b) Practical capacity is theoretical capacity
less an allowance for interruptions such
as breakdowns, delays in receiving supplies, and worker absences. Practical
capacity is usually 75 to 85 percent of
theoretical capacity.
(c) Expected actual capacity is practical
capacity adjusted for the lack of sufficient
demand in a single operating period and
may be used in building operating budgets when expected capacity differs substantially from normal capacity.
(d) Normal capacity is practical capacity
adjusted to give consideration to the lack
of sufficient demand over a period long
enough to include cyclical and seasonal
fluctuations. This is usually the basis for
long-range planning, standards, and
preferably for the determination of overhead rates.
Q12-8. The underapplied overhead will be higher If
maximum capacity is used and lower if normal is used. If this cost is charged to the

12-1

12-2

Chapter 12

current period, then maximum capacity will

produce a lower, and normal capacity a
higher, operating profit.
Q12-9. (a) Idle capacity costs arise from idle employees and idle facilities. Idle employees give
rise to costs such as base wages paid,
employers share of payroll taxes, and
other fringe benefit costs. Idle facilities
cause capacity costs due to deterioration
with time, approaching obsolescence,
costs for upkeep, readiness, maintenance, repairs, shelter, and protection of
valuables such as insurance.
(b) When idle capacity is present, an attempt
should be made to segregate idle
employees and idle facilities through
proper reclassification. The accumulation
of the cost attributable to these idle workers or facilities in excess of a reasonable
budgeted amount might be in some kind
of overhead account to be treated separately as a management by exception
factor. Idle capacity costs should be
accounted for separately for these reasons: (1) to prevent distortion and confusion in the analysis of production costs;
(2) to facilitate income determination; (3)
to control operations; and (4) to plan next
years budget adequately.
(c) Excess capacity cost has been identified
with those capacity costs that result from
greater production capacity than the company could ever hope to use, or from
unbalanced equipment or machinery
within departments. In creating the forecast budget, it is important to isolate the
excess capacity cost so that management can be made aware of its responsibility regarding the excess investment in
labor and machines.

Q12-10. (a) Analyze and identify the overhead transactions.

(b) Journalize the transactions.
(c) Enter transactions in general and subsidiary ledgers.
Q12-11. Overhead applied to production is entered
as a credit in the factory overhead control
account. Actual overhead is debited to the
same account. Therefore, overhead has
been overapplied when the account has a
credit balance.
Q12-12. Overhead can be overapplied because (a)
actual overhead was less than budgeted; (b)
capacity utilized was greater than that estimated in computing overhead rates; (c) the
overhead estimate was too high (a mistake);
(d) the production estimate was too low (a
mistake); (e) combinations of the above.
Q12-13. Over- or underapplied factory overhead may
be prorated among work in process, finished
goods, and cost of goods sold, or it may be
treated entirely as a period cost. The first
method would have a smaller effect on cost
of goods sold and therefore on the net
income for the period.
Q12-14. The existence of large underabsorbed variances does not necessarily mean that unit
costs are incorrect. An analysis of the underabsorbed figures will indicate (a) whether
actual overhead is too high or whether
expenses have been incorrectly estimated;
and (b) what part of the underabsorption is
caused by unused capacity. If actual overhead is considered to be too high and there
is idle capacity, unit costs computed are
more reasonable than they would be if overhead rates were computed to absorb all of
the actual overhead.

12-2

Chapter 12

12-3

EXERCISES
E12-1
(1)

$1,750,000 fixed overhead and $720 variable overhead per ton, calculated as
follows:
For both the normal capacity and expected actual capacity, the problem states
the total budgeted overhead cost and the number of tons of activity. The highlow method of estimating cost behavior can be used to determine the overhead budget, using those two points:
Activity Level
Normal capacity
Expected actual
Difference

Tons
6,000
5,000
1,000

Budgeted
Overhead
$6,070,000
5,350,000
$ 720,000

$720, 000
Variable
=
= $720 va riable overhead per ton
1, 000 tons
overhead rate
Budgeted fixed overhead

=
=

or, budgeted
fixed overhead

=
=

$5,350,000 total overhead

($720 5,000) variable overhead
$5,350,000 $3,600,000 = $1,750,000
$6,070,000 total overhead
($720 6,000) variable overhead
$6,070,000 $4,320,000 = $1,750,000

12-4

Chapter 12

E12-1 (Concluded)
(2)
The predetermined rate at practical capacity would be $938.75 per ton. Using
the budget for fixed and variable overhead, a predetermined overhead rate can
be calculated at any level of activity within the relevant range. Assuming practical capacity is within that range, the calculation is:
Predetermined
Budgeted total overhead at practical capacity
overhead rate at
=
practical capacity
Pr actical capacity in tons
(8,000 tons)
Budgeted fixed overhead
+ Budgeted variable
overhead at 8, 000 tons $1, 750, 000 + ($720 8, 000)
=
=
8, 000 tons
8, 000 tons
=
or,

$1, 750, 000 + $5, 760, 000) $7, 510, 000

=
=$938.75 per ton
8, 000 tons
8, 000 tons

$720 variable overhead per ton + ($1,750,000/8,000 tons)

= $720 per ton + $218.75 per ton = $938.75 per ton.

E12-2
Work in process balance, September 30....................
Less materials still in process ....................................
Factory overhead and direct labor still in process ...
Charged to
Work in Process
Amount %
Factory overhead............... $15,840
44%*
Direct labor ....................... 20,160
56
$36,000 100%
*$15,840 $36,000 = 44%
(or)

$6,640
6,640

$12,200
5,560
$ 6,640

= $2,921.60
= 3,718.40
$6,640.00

$15,840 (factory overhead) $20,160 (direct labor) = .7857

Let X = direct labor still in process
Then, X + .7857X = $6,640
1.7857X = $6,640
X = $3,718.4297 direct labor still in process
.7857X = $2,921.5702 factory overhead still in process
$6,639.9999

Chapter 12

12-5

E12-3
(1)
150 people 8 hrs. per day 5 days per week 48 weeks =
288,000 direct labor hrs.
(2)
150 people 10 hrs. per day 4 days per week 48 weeks =
288,000 direct labor hrs.
E12-4
Factory overhead rates:
(1) Units of production:

$225,000 25,000 units = $9

(2) Materials cost:

$225,000 $500,000 = .45 = 45%

(3) Direct labor hours:

$225,000 56,250 DLH = $4

(4) Direct labor cost:

$225,000 (56,250 DLH $8) = .50 = 50%

(5) Machine hours:

$225,000 75,000 machine hours = $3

E12-5
(1)

(2)

Assuming normal capacity:

(a) The factory overhead rate: ($400,000 50,000) + $6.69 = $14.69
(b) The fixed part of the factory overhead rate: $400,000 50,000 = $8
Assuming expected actual capacity:
(a) The factory overhead rate: ($400,000 40,000) + $6.69 = $16.69
(b) The fixed part of the factory overhead rate: $400,000 40,000 = $10

E12-6
Actual factory overhead ...........................................................
Applied factory overhead (52,500 machine hours $5.10*) .
Underapplied factory overhead for the period.......................
*$255,000 50,000 budgeted machine hours = $5.10

$281,000
267,750
$ 13,250

12-6

Chapter 12

E12-7
(1)
Work in Process............................................................
Materials ...............................................................
Work in Process............................................................
Payroll ...................................................................
Factory Overhead Control ...........................................
Materials, Payroll, Accruals, and Various Credits
Work in Process............................................................
Applied Factory Overhead..................................
Applied Factory Overhead...........................................
Factory Overhead Control ..................................
Overhead rate :
(2)

1,450,000
1,450,000
928,000
928,000
561,600
561,600
551,000
551,000
551,000
551,000

Estimated factory overhead $570, 000

=
= $19 per drill
Estimated production
30, 000

Underapplied factory overhead: $561,600 $551,000 = $10,600

E12-8
Actual factory overhead...............................................
Applied factory overhead (4,100 units $2.46)* .......
Overapplied overhead..................................................
*Variable factory overhead rate ...................................
Fixed factory overhead rate ($1,440 4,000 units) ...
Total factory overhead rate ........................................

$ 9,000
10,086
$(1,086)
$2.10
.36
$2.46

E12-9
(1)
Applied factory overhead:
$16, 920
= $ .47 fixed portion of rate
36, 000 machine hours
2.10 variable portion of rate
$2.57 total rate
$2.57 2,700 machine hours = $6,939 applied factory overhead
(2)

Actual factory overhead...............................................

Applied factory overhead ............................................
Underapplied overhead................................................

$7,400
6,939
$ 461

Chapter 12

12-7

E12-10
Actual factory overhead ...........................................................
Applied factory overhead (210,000 machine hours $4) .....
Overapplied factory overhead .................................................

$832,000
840,000
$ (8,000)

E12-11
(1)

Fixed portion of the factory overhead application rate:

$150, 000
= $1.50 per machine hour
100, 000 machine hours

(2)

Variable portion of the factory overhead application rate:

$250, 000
= $2.50 per machine hour
100, 000 machine hours

(3)

Actual factory overhead...............................................

Applied factory overhead (105,000 $4.00)...............
Overapplied factory overhead.....................................

$411,000
420,000
$ (9,000)

Actual factory overhead ...........................................................

Applied factory overhead (200% of $8,117)............................
Overapplied overhead ..............................................................

$ 14,134
16,234
$ (2,100)

E12-12

12-8

Chapter 12

E12-13

Work in process ..............................

Finished goods ...............................
Cost of goods sold .........................
Total...........................................
(1)

(2)

(3)

Requirements (1) & (2)

Requirement (3)
Account Percentage Applied Percentage
Balance
of Total
Overhead
of Total
$ 6,000
5
%
$ 2,000
4%
38,000
31 2/3%
16,000
32%
76,000
63 1/3%
32,000
64%
$120,000
100 %
$50,000
100%

Work in Process (5% of $6,000) ..................................

Finished Goods (31 2/3% of $6,000) ...........................
Cost of Goods Sold (63 1/3% of $6,000) ....................
Factory Overhead Control ..................................

300
1,900
3,800

Factory Overhead Control ...........................................

Work in Process (5% of $6,000) .........................
Finished Goods (31 2/3% of $6,000) ..................
Cost of Goods Sold (63 1/3% of $6,000) ...........

6,000

Work in Process (4% of $6,000) ..................................

Finished Goods (32% of $6,000) .................................
Cost of Goods Sold (64% of $6,000) ..........................
Factory Overhead Control ..................................

240
1,920
3,840

6,000

300
1,900
3,800

6,000

Chapter 12

12-9

PROBLEMS
P12-1
(1)
Actual overhead incurred ............................................ $3,470,000
Applied overhead* ........................................................
3,325,000
Underapplied overhead................................................ $ 145,000
*actual MH predetermined rate based on expected actual capacity
= 9,500 MH ($3,500,000/10,000 MH)
= 9,500 MH $350 per MH = $3,325,000
(2)

The predetermined rate at practical capacity would be $316.67 per machine

hour (MH), calculated as follows:
First, find the budgeted total fixed overhead and the budgeted variable overhead rate per MH. The problem states both the total budgeted overhead cost
and the number of MH of activity, at both the normal capacity and expected
actual capacity levels, so the high-low method of estimating cost behavior can
be used:
Activity Level
Expected actual
Normal capacity
Difference

Machine
Hours
10,000
8,000
2,000

Budgeted
Overhead
$3,500,000
3,000,000
$ 500,000

$500, 000
Variable
=
= $250 var iable overhead per MH
overhead rate
2, 000 MH
Budgeted fixed overhead

=
=

or, budgeted
fixed overhead

=
=

$3,500,000 total overhead

($250 10,000) variable overhead
$3,500,000 $2,500,000 = $1,000,000

$3,000,000 total overhead

($250 8,000) variable overhead
$3,000,000 $2,000,000 = $1,000,000

Then, using the budget for fixed and variable overhead, a predetermined overhead rate
can be calculated at any level of activity within the relevant range. Assuming practical
capacity is within that range, the calculation is:

12-10

Chapter 12

P12-1 (Concluded)
Predetermined
Budgeted total overhead at practical capacity
overhead rate at
=
practical capacity
Practical capacity in MH
(15,000 MH )
Budgeted fixed overhead
+ Budgeted variable
=

Overhead at 15, 000 MH

$1, 000, 000 + ($250 15, 000)
=
15, 000 MH
15, 000 MH

$1, 000, 000 + $3, 750, 000

$4, 750, 000
=
= $316.67 per MH
15, 000 MH
15, 000 MH

or, $250 variable overhead per MH + ($1,000,000 15,000 MH)

= $250 per MH + $66.67 per MH = $316.67 per MH.
(3)

If the actual overhead of $3,470,000 were underapplied by $10,000, then Applied

Overhead would have a credit balance of $3,470,000 $10,000, or $3,460,000.
The closing entries are:
Applied Overhead.........................................................
Factory Overhead Control ..................................

3,460,000

Cost of Goods Sold......................................................

Factory Overhead Control ..................................

10,000

(4)
Work in process............................................................
Finished goods .............................................................
Cost of goods sold.......................................................
Total ......................................................................
Work in Process (2.5 % of $10,000) ............................
Finished Goods ............................................................
Cost of Goods Sold......................................................
Factory Overhead Control ..................................

3,460,000
10,000
Account Percentage
Balance
of Total
$ 200,000
2.5%
400,000
5.0%
7,400,000
92.5%
$8,000,000
100.0%
250
500
9,250
10,000

Total ..................................................................

Maintenance.....................................................

Indirect labor....................................................

($18, 000 $12, 000)

(15, 000 10, 000)

($70, 000 $60, 000)

(15, 000 10, 000)

($10, 500 $7, 000)

(15, 000 10, 000)

Supplies used ..................................................

Taxes on factory building ...............................

($ 8, 000 $6, 000)

(15, 000 10, 000)

(1)
Variable
Overhead
per Unit

Heat, light, and power .....................................

Factory
Overhead
Cost
Depreciation on
factory building
and equipment.................................................

P12-2

=
=

$18,000

=
=

=
=

$70,000

$10,500
a

$ 8,000
a

a + $1.20 (15,000)

a + $2.00 (15,000)

a + $ .70 (15,000)

a + $ .40 (15,000)

$58,000

40,000

1,500

2,000

$14,500

CGA-Canada (adapted). Reprint with permission.

$4.30

1.20

2.00

.70

$ .40

Fixed
Overhead

(2)

Chapter 12
12-11

12-12

Chapter 12

P12-3
(1)
Total cost of Job 50:
Work in process, December 1 ............................................................
December costs:
Materials ......................................................................................
Direct labor (($102,000 8,500) 3,500) ..................................
Factory overhead ($4.50 3,500) ..............................................

(2)

Factory overhead costs applied to Job 52 during December:

$4.50 2,000 = $9,000

(3)

Total factory overhead costs applied during December:

$4.50 8,500 = $38,250

(4)

Actual December factory overhead incurred:

Supplies ................................................................................................
Indirect labor wages ............................................................................
Supervisory salaries............................................................................
Building occupancy costs ..................................................................
Factory equipment costs ....................................................................
Other factory costs..............................................................................

$ 54,000
45,000
42,000
15,750
$156,750

$ 3,500
15,000
6,000
3,500
8,000
5,000
$39,000

(5)

An insignificant amount of over- or underapplied factory overhead would be

treated as a period cost.

(6)

Actual overhead ...................................................................................

Applied overhead.................................................................................
Underapplied overhead .......................................................................

$39,000
38,250
$ 750

Chapter 12

12-13

P12-4
(1)
Actual factory overhead:
Indirect materials and supplies .......................................................... $ 18,000
Indirect labor ........................................................................................
53,000
Employee benefits ...............................................................................
23,000
Depreciation .........................................................................................
12,000
Supervision ..........................................................................................
20,000
$126,000
(2)

Over- or underapplied factory overhead:

Total direct labor, 20
$ 70,000
Factory overhead rate per direct labor dollar ...................................
160%
Applied factory overhead
$112,000
Actual factory overhead ...................................................................... 126,000
Underapplied factory overhead
$ 14,000

(3)

Amount included in cost of goods sold for Job 1376:

Beginning balance
$ 72,500
Materials and labor, 20.....................................................................
8,000
Applied factory overhead, 20 ($7,000 160%) ..............................
11,200
$ 91,700

(4)

Cost assigned to the work in process account at the end of 20:

Beginning balance (Job 1376).....................................
$ 72,500
Cost charged to work in process, 20:
Materials ...............................................................
$ 43,000
Labor.....................................................................
70,000
Applied factory overhead ...................................
112,000 225,000
$297,500
Less cost of Job 1376, which was completed
and sold................................................................
91,700
$205,800

12-14

Chapter 12

P12-5
(1)
Predetermined factory overhead rate based on normal capacity:

(2)

$29, 250
45, 000 MH

= $.65 variable portion of rate for expected actual

and normal capacity

$18, 000
60, 000 MH

Predetermined factory overhead rate based on expected actual capacity:

$29, 250
45, 000 MH

= $ .65 variable portion of rate for expected actual and

normal capacity

$18, 000
=
45, 000 MH
(3)

.30 fixed portion of rate based on normal capacity

$.95 total rate based on normal capacity

.40 fixed portion of rate based on expected actual capacity

$1.05 total rate based on expected actual capacity

Amount of factory overhead charged to production if the company used the

normal capacity rate:
47,000 MH $.95 = $44,650

(4)

Amount of factory overhead charged to production if the company used the

expected actual capacity rate:
47,000 MH $1.05 = $49,350

(5)

Actual factory overhead ......................................................................

Applied overhead (from (3) normal capacity rate)............................
Underapplied overhead .......................................................................

$ 47,100
44,650
$ 2,450

(6)

Actual factory overhead ......................................................................

Applied overhead (from (4) expected actual capacity rate).............
Overapplied overhead .........................................................................

$ 47,100
49,350
$ (2,250)

Chapter 12

P12-6
(1)
Work in Process:
Direct materials ......... $ 9,000
Direct labor ................ 16,000
Factory overhead
(2,000 $3.60) .....
7,200
Total................ $32,200

12-15

Finished Goods:
Direct materials ................ $10,000
Direct labor ....................... 40,000
Factory overhead
(5,000 $3.60) ............. 18,000
Total ....................... $68,000

(2)

Supervision ..........................................................................................
Indirect labor ........................................................................................
Heat, light, and power..........................................................................
Depreciationfactory buildings.........................................................
Property taxfactory facilities...........................................................
Insurance on factory buildings ..........................................................
Transportation in..................................................................................
Repairs and maintenance ...................................................................
Depreciationfactory equipment ......................................................
Miscellaneous factory overhead ........................................................
Total actual factory overhead ....................................................

$ 17,500
29,050
23,800
7,500
4,000
3,000
6,500
8,250
7,500
9,900
$117,000

(3)

Actual overhead ...................................................................................

Applied overhead.................................................................................
Underapplied overhead .......................................................................

$117,000
115,200
$ 1,800

12-16

P12-6 (Concluded)
(4)

Chapter 12

COLUMBUS COMPANY
Cost of Goods Sold Statement
For January

Materials:
Inventory, January 1 ..........................................
Purchases...........................................................
Less returns to suppliers..................................
Materials available .............................................
Inventory January 31.........................................
Direct labor .....................................................................
Applied factory overhead ..............................................
January manufacturing cost .........................................
Add work in process, January 1 ...................................
Less work in process, January 31 ................................
Cost of goods manufactured ........................................
Add finished goods, January 1 .....................................
Cost of goods available for sale ...................................
Less finished goods, January 31..................................
Cost of goods sold at normal .......................................
Add underapplied factory overhead.............................
Cost of goods sold at actual.........................................

$ 21,000
$108,000
5,050

102,950
$123,950
9,000

$114,950
256,000
115,200
$486,150
32,500
$518,650
32,200
$486,450
18,000
$504,450
68,000
$436,450
1,800
$438,250

Chapter 12

12-17

CASES
C12-1
(1)
High ............................................................
Low ............................................................
Difference ...................................................

Direct Labor
Factory
Hours
Overhead Costs
2,760,000 hours
$34,500,000
2,160,000
29,880,000
600,000 hours
$ 4,620,000

Variable rate = $4,620,000 600,000 hours = $7.70 per direct labor hour
High
$34,500,000
21,252,000
$13,248,000

Low
$29,880,000
16,632,000
$13,248,000

Estimated total factory overhead for next year.

Total variable factory overhead (2,300,000 $7.70).....................
Total fixed factory overhead...........................................................
Total factory overhead ....................................................................

$17,710,000
13,248,000
$30,958,000

Total cost .......................................................

Variable cost ($7.70 per direct labor hour) .
Fixed element.................................................

(2)

Utility of cost behavior information:

(a) Evaluation of product pricing decisionsThe calculation of the factory
overhead rate required the company to estimate the variable factory overhead cost. In short-term price-cutting situations, the price set should cover
at least the variable materials, labor, factory overhead, and nonmanufacturing costs. For the longer term, the total cost assigned to the various products may provide some basis for price differentials among the items.
(b) Cost control evaluationThe calculation of the factory overhead rate
required the company to estimate the fixed factory overhead cost and the
variable factory overhead cost per direct labor hour. The amounts are estimates of what the cost should or will be during the next year. The amounts
can be used as the basis for preparation of a budget allowance for actual
activity to be compared to actual cost incurred. Any difference between the
budget amounts and actual cost would be a measure of the effectiveness
of factory overhead cost control.
(c) Development of budgetsThe estimates of fixed factory overhead cost and
the variable factory overhead cost per direct labor hour are useful in
budget development. They permit the company to calculate the estimated
factory overhead cost for different activity levels that are being considered
as the budget is developed.