Sec D 1 Overhead Allocation and Normal Costing -- Theory Flashcards
1The two most appropriate factors for budgeting manufacturing overhead expenses are
A. Machine hours and production volume.
B. Management judgment and contribution margin.
C. Management judgment and production volume.
D. Management judgment and sales dollars.
Answer (C) is correct.
The most important factor in budgeting manufacturing overhead is production volume. Many overhead
items have variable costs, and those that are fixed with a relevant range of output may increase if
production exceeds that range. The other essential consideration is management’s judgment with
respect to the nature and amount of costs to be incurred and expectations for production volume.
Because overhead is applied based on predetermined rates, accurate judgment is important.
2Units of production is an appropriate overhead allocation base when
A. Several well-differentiated products are manufactured.
B. Direct labor costs are low.
C. Direct material costs are large relative to direct labor costs incurred.
D. Only one product is manufactured.
Answer (D) is correct.
Allocating overhead on the basis of the number of units produced is usually not appropriate. Costs
should be allocated on the basis of some plausible relationship between the cost object and the
incurrence of the cost, preferably cause and effect. The fixed portion of overhead costs is incurred
regardless of the level of production. When multiple products are involved, the number of units of
production may bear no relationship to the incurrence of the allocated cost. If overhead is correlated
with machine hours but different products require different quantities of that input, the result may be
an illogical allocation. However, if a firm manufactures only one product, this allocation method may
be acceptable because all costs are to be charged to the single product.
3The appropriate method for the disposition of underapplied or overapplied overhead of a
manufacturer
A. Is to cost of goods sold only.
B. Is to finished goods inventory only.
C. Is apportioned to cost of goods sold and finished goods inventory.
D. Depends on the significance of the amount.
Answer (D) is correct.
Overapplied or underapplied overhead should be disposed of at the end of an accounting period by
transferring the balance either to cost of goods sold (if the amount is not material) or to cost of goods
sold, finished goods inventory, and work-in-process inventory. Theoretically, the allocation is
preferred, but, because the amount is usually immaterial, the entire balance is often transferred directly
to cost of goods sold. Thus, the entry depends upon the significance of the amount.
4In determining next year’s overhead application rates, a company desires to focus on manufacturing
capacity rather than output demand for its products. To derive a realistic application rate, the denominator activity
level should be based on
A. Practical capacity.
B. Maximum capacity.
C. Normal capacity.
D. Master-budget (expected annual) capacity.
Answer (A) is correct.
Practical capacity is based on realistic, attainable levels of production and input efficiency and is the
most appropriate denominator level to use in selecting an overhead application rate.
5Generally, individual departmental rates rather than a plantwide rate for applying manufacturing
overhead are used if
A. A company wants to adopt a standard cost system.
B. A company’s manufacturing operations are all highly automated.
C. Manufacturing overhead is the largest cost component of its product cost.
D. The manufactured products differ in the resources consumed from the individual departments in the plant.
Answer (D) is correct.
Overhead is usually assigned to products based on a predetermined rate or rates. The activity base for
overhead allocation should have a high degree of correlation with the incurrence of overhead. Given
only one cost driver, one overhead application rate is sufficient. If products differ in the resources
consumed in individual departments, multiple rates are preferable.
6When the amount of overapplied factory overhead is significant, the entry to close overapplied
factory overhead will most likely require
A. A debit to cost of goods sold.
B. Debits to cost of goods sold, finished goods inventory, and work-in-process inventory.
C. A credit to cost of goods sold.
D. Credits to cost of goods sold, finished goods inventory, and work-in-process inventory.
Answer (D) is correct.
Under a normal costing system, overhead is applied to all jobs worked on during the period at a
predetermined rate. Because cost of goods sold, finished goods inventory, and work-in-process
inventory all relate to these jobs, each should be adjusted by its proportionate share of over- or
underapplied overhead. This apportionment may be based on either the percentage of total overhead
(theoretically preferable) or the percentage of total cost. The entry to close overapplied overhead
requires credits to these three accounts.
Nash Glassworks Company has budgeted fixed
manufacturing overhead of $100,000 per month. The
company uses absorption costing for both external and
internal financial reporting purposes. Budgeted
overhead rates for cost allocations for the month of
April using alternative unit output denominator levels
are shown in the next column.
Budgeted Budgeted
Denominator Level Overhead
Capacity Levels (units of output) Cost Rate
Theoretical 1,500,000 $.0667
Practical 1,250,000 .0800
Normal 775,000 .1290
Master-budget 800,000 .1250
Actual output for the month of April was 800,000 units of
glassware.
Question: 7When Nash Glassworks Company allocates fixed costs, management will select a capacity level to
use as the denominator volume. All of the following are appropriate as the capacity level that approximates actual
volume levels except
A. Normal capacity.
B. Expected annual activity.
C. Theoretical capacity.
D. Master-budget capacity.
Answer (C) is correct.
Theoretical (ideal) capacity is the maximum capacity given continuous operations with no holidays,
downtime, etc. It assumes perfect efficiency at all times. Consequently, it can never be attained and is
not a reasonable estimate of actual volume.
8Assuming two overhead accounts are used, what is the entry to close them and to charge
underapplied overhead to cost of goods sold?
A. Cost of goods sold XX
Finished goods XX
B. Factory O/H applied XX
Factory O/H control XX
Cost of goods sold XX
C. Cost of goods sold XX
Factory O/H applied XX
D. Factory O/H applied XX
Cost of goods sold XX
Factory O/H control XX
Answer (D) is correct.
Although not theoretically sound, total under- or overapplied overhead is often debited (credited) to
COGS. The correct entry to close the overhead accounts and to charge underapplied overhead to
COGS is to debit the factory overhead applied account for the amount of overhead applied for the
period and to credit factory overhead control for the amount of overhead actually incurred for the
period. The amount actually incurred exceeds the amount of overhead applied because overhead is
underapplied. The difference is the amount charged to COGS.
9The numerator of the overhead application rate equals
A. Estimated overhead costs.
B. Actual overhead costs.
C. The estimated activity level.
D. The actual activity level.
Answer (A) is correct.
The overhead application rate is established at the beginning of each year to determine how much
overhead to accumulate for each job throughout the period. The estimated annual overhead costs are
divided by the annual activity level or capacity in terms of units to arrive at the desired rate.
10In a labor intensive industry in which more overhead (service, support, more expensive equipment,
etc.) is incurred by the more highly skilled and paid employees, which activity base is most likely to be appropriate
for applying overhead?
A. Direct labor hours.
B. Direct materials cost.
C. Machine hours.
D. Direct labor cost.
Answer (D) is correct.
In labor intensive industries, overhead is usually allocated based on a labor activity base. If more
overhead is incurred by the more highly skilled and paid employees, the overhead rate should be based
upon direct labor cost rather than direct labor hours.
11Annual overhead application rates are used to
A. Budget overhead.
B. Smooth seasonal variability of overhead costs.
C. Simulate seasonal variability of activity levels.
D. Treat overhead as period costs.
Answer (B) is correct.
Annual overhead application rates smooth seasonal variability of overhead costs and activity levels. If
overhead were applied to the product as incurred, the overhead rate per unit in most cases would vary
considerably from week to week or month to month. The purpose of an annual overhead application
rate is to simulate constant overhead throughout the year.
12Departmental overhead rates are usually preferred to plant-wide overhead rates when
A. The activities of each of the various departments in the plant are not homogeneous.
B. The costs of many service departments are being allocated to each of the various departments.
C. All products passing through the various departments require the same manufacturing effort in each
department.
D. Most of the overhead costs are fixed.
Answer (A) is correct.
The activity base for overhead allocation should have a high correlation with the incurrence of
overhead. Thus, the activities of various departments are usually more appropriate as activity bases
than plant-wide activities, particularly when products and production activities are not homogeneous.
13Normal costing systems are said to offer a user several distinct benefits when compared with actual
costing systems. Which one of the following is not a benefit associated with normal costing systems?
A. More timely costing of jobs and products.
B. A smoothing of product costs throughout the period.
C. Improved accuracy of job and product costing.
D. A more economical way of attaching overhead to a job or product.
Answer (C) is correct.
Normal costing can provide more timely information about job and product costs, and it can helpfully
smooth product costs throughout a period, but it cannot in and of itself improve the accuracy of
costing.
14A company, which uses direct labor hours to apply overhead to its product line, undertook an
extensive renovation and modernization program 2 years ago. Manufacturing processes were reengineered,
considerable automated equipment was acquired, and 60% of the company’s nonunion factory workers were
terminated. Which of the following statements would apply to the situation at the company?
I. The company’s factory overhead rate has likely increased.
II. The use of direct labor hours seems to be appropriate.
III. The company will lack the ability to properly determine labor variances.
IV. The company has likely reduced its ability to quickly cut costs in order to respond to economic downturns.
A. I, II, III, and IV.
B. I and IV only.
C. II and IV only.
D. I and III only
Answer (B) is correct.
The company’s overhead rate will almost certainly increase because of all the new equipment that
must be depreciated. Also, this heavy investment in new machinery will make it more difficult to
quickly cut costs during economic downturns.
15The most important criterion in accurate cost allocations is
A. Using a simple allocation method.
B. Allocating fixed and variable costs by using the same allocation base.
C. Using homogeneous cost pools.
D. Using multiple drivers for each cost pool.
Answer (C) is correct.
All the cost objects gathered in a cost pool should be similar enough that a single allocation base can
be selected that will accurately allocate the costs in the pool.
