ACCT 230: Chapter 4

Formula to assign OH costs to cost objects

(Activity Rate) x (#cost driver or units)

Name two traditional or conventional cost system methods for overhead.

**plantwide predetermined overhead rate **departmental overhead rate

Activity Cost Pool

A "cost bucket" in which costs related to a single activity measure are accumulated.

Allocation Base

A measure of activity such as direct labor-hours or machine-hours that is used to assign costs to cost objects. An allocation base is the basis upon which an entity allocates its overhead costs. An allocation base takes the form of a quantity, such as machine hours used, kilowatt hours consumed, or square footage occupied.

What are departmental overhead rates?

A predetermined overhead rate for each production department.

What is a predetermined overhead cost rate?

A rate that spreads overhead costs uniformly over products in proportion to whatever allocation base is used.

What concept does the departmental overhead rate rely on?

A single measure of activity as the base for allocating overhead costs to products.

What is a plantwide overhead rate?

A single overhead rate that is used throughout an entire factory.

Activity-based Costing (ABC)

A two-stage costing method in which overhead costs are assigned to products on the basis of the activities they require.

How does Activity-Based Costing differ from traditional cost system methods?

Activity-based costing uses a number of allocation bases for assigning costs to products.

Manufacturing Overhead

All manufacturing costs except direct materials and direct labor

Activity

An event that causes the consumption of overhead resources in an organization. An activity is any event, action, transaction, or work sequence that incurs cost when producing a product or providing a service.

What is the disadvantage of using a plantwide overhead rate?

It can result in distorted unit production costs.

What is the advantage of using a plantwide overhead rate?

It is a simple approach.

Indirect Materials

Small items of material such as glue and nails that may be an integral part of a finished product, but whose costs cannot be easily or conveniently traced to it.

Indirect Labor

The labor costs of janitors, supervisors, materials handlers, and other factory workers that cannot be conveniently traced to particular products.

What is the problem of using a predetermined overhead cost rate?

This procedure results in high overhead costs for products with a high direct labor-hour content and a low overhead costs for products with a low direct labor-hour content. **Using this method distorts overhead costs

When is it not appropriate to use the departmental overhead rate?

When a company has a range of products and complex overhead costs.

When is direct labor an appropriate allocation base for overhead costs?

When overhead costs and direct labor are highly correlated. (but if factory-wide overhead costs do not move in tandem with factory-wide direct labor, product costs will be distorted.

When does cost distortion occur with traditional cost system methods for overhead?

When product diversity exists.

Overhead costs in an assembly department may be allocated on what basis?

direct labor hours

Formula for Activity Rates

est. OH cost for activity/ est. cost driver for activity

List two types of manufacturing overhead.

indirect materials indirect labor

Overhead costs in a machining department may be allocated on what basis?

machine-hours

What determines the department's allocation base?

the nature of the work performed in a department