Overhead Allocation and Activity Based Costing

Part A: Overhead Allocation
a. The first step in computation of the overhead rates is to allocate the indirect costs
among the departments basis their operating characteristics.
Basis of Allocation of Indirect Cost
Indirect Cost Amoun
t Basis Storeroo
m
Repair &
Maintenanc
e
Machinin
g Assembly
Rent $9,000 Floor Space 1,500 800 4,500 2,200
Factory Admin $12,000 Employees 5 3 30 42
Insurance of Bldg $16,500 Floor Space 1,500 800 4,500 2,200
Insurance of Plant $18,000 Value of Plant $6,00,000 $24,00,000 $25,00,00
0
Dep of Plant $10,000 Value of Plant $6,00,000 $24,00,000 $25,00,00
0
Total $65,500
The computation of the departmental overhead rate is as below:
Computation of Departmental Overhead Rates
Particulars
Service Department Production Department
Storeroo
m
Repair &
Maintenance Machining Assembly
Direct Cost $31,500 $39,000 $61,500 $39,500
Allocation of Indirect Cost
Rent $1,500 $800 $4,500 $2,200
Factory Administration $750 $450 $4,500 $6,300
Insurance of Building $2,750 $1,467 $8,250 $4,033
Insurance of Plant $1,964 $0 $7,855 $8,182
Depreciation of Plant $1,091 $0 $4,364 $4,545
Total Direct + Indirect Cost $39,555 $41,717 $90,968 $64,761
Apportionment of Service Dept. Costs
Store Room (Material Requisition)
Repair & Maintenance -$8,476 $8,476
Machining -$16,952 $16,952
Assembly -$14,127 $14,127
Total $0 $50,193 $1,07,920 $78,887
Repair & Maintenance (Machine
Hours)
Machining -$33,462 $33,462
Assembly -$16,731 $16,731
Grand Total Costs $0 $1,41,382 $95,618
Departmental Overhead Rate

Machining (Mc Hrs - 90000) $1.57
Assembly (Lr Hrs - 100000) $0.96
Thus, the departmental Overhead Rate is computed as $1.57 for Machining Department
and $0.96 for Assembly Department.
b. Plant-wide overhead rate assuming labour hours as activity level can be computed as
total indirect cost divided by the total labour hours.
Overhead Rate=Total Indirect Cost
Total Labour Hours
Overhead Rate=$65,500
100,000 hours
Overhead Rate=$0 .65/labour hour
Part B: Activity Based Costing
a. i. Under Tradition method, the pre-determined overhead rate that would be used can be
computed as below:
Overhead Rate=Total Manufacturing Overhead
Total Machine Hours
Overhead Rate=$3,500,000
120,000 hours
Overhead Rate=$29 .17/machine hour
ii. For computing the unit cost to manufacture a unit of Ridget, Didget , we will first have to
compute the machine hours required per unit of the product. This can be done by using the
labour hour details. It is given that each unit requires 2 labour hours and the total labour hours
are given, we will compute the no. of units as below:
Particulars Ridget Didget
Direct Labour / unit 2 2
Total Direct Labour Used 25,000 55,000
No. of units 12,500 27,500
From the no. of units produced and total machine hours used, the machine hours per unit can
be computed as below:
Particulars Ridget Didget
No. of units 12,500 27,500
Total Machine Hours used 70,000 50,000
Machine Hour Per unit 6 2

We can now compute the per unit cost as per traditional method as below:
Computation of Per Unit Cost
Particulars Ridget Didget
Direct Material $40 $30
Direct Labour $20 $20
Manufacturing Overhead
$29.17/unit * 6 units $175.02
$29.17/unit * 2 units $58.34
Total $235.02 $108.34
b. i. Under ABC, the pre-determined overhead cost per transaction for each activity is as
below:
Pre-Determined Overhead Rate - Each Transaction
Activity Centre (Cost Driver) Cost (A) Total (B) Pre-Determined
Overhead rate (A/B)
Labor Tasks (Labor hrs) $10,50,000 80,000 $13.13
Machine Tasks (Machine hrs) $12,50,000 1,20,000 $10.42
Equipment Setup (SetUps) $2,50,000 1,200 $208.33
Purchasing Cost (Purchase Orders) $6,00,000 900 $666.67
Material Cost (Requisitions) $2,50,000 4,500 $55.56
Inspection (inspections) $1,00,000 9,000 $11.11
Total $35,00,000
ii. To compute the per unit cost, we will first have to compute the total overhead cost:
Total Overhead Amount to be Applied
Activity Centre (Cost Driver) Pre-Determined
Overhead rate Ridget (Total Cost) Didget (Total Cost)
Labor Tasks (Labor hrs) $13.13 $13.13 * 25,000 $13.13 * 55,000
$3,28,125 $7,21,875
Machine Tasks (Machine hrs) $10.42 $10.42 * 70,000 $10.42 * 50,000
$7,29,167 $5,20,833
Equipment Setup (SetUps) $208.33 $208.33 * 900 $208.33 * 300
$1,87,500 $62,500
Purchasing Cost (Purchase
Orders) $666.67 $666.67*400 $666.67*500
$2,66,667 $3,33,333
Material Cost (Requisitions) $55.56 $55.56*2000 $55.56*2500
$1,11,111 $1,38,889