Chapter 10.A, Problem 8P

To determine

Variable Overhead Cost Variance:

The overhead cost which varies with the level of activity is called a variable overhead cost. At the actual hours of allocation base, the difference between the actual variable overhead cost and budgeted variable overhead cost is called variable overhead cost variance.

Variable Overhead Efficiency Variance:

Variable overhead efficiency variance is the difference between the actual hours of allocations base and the budgeted hours of allocation base allowed at the standard rate.

Fixed overhead budget variance:

The difference between the budgeted fixed overhead cost and the actual fixed overhead cost is called fixed overhead budget variance.

Fixed overhead volume variance:

The difference between the budgeted fixed overhead cost and the applied fixed overhead cost is called fixed overhead volume variance.

Over and Under Applied Fixed overhead cost:

If the actual fixed overhead cost is more than the applied fixed overhead cost, the fixed overhead cost is under applied and if the actual fixed overhead cost is less than the applied fixed overhead cost, the fixed overhead cost is over applied.

1. Compute the predetermined overhead rate for the year. Break the rate down into variable and fixed elements

2. Prepare a standard cost card for the company’s product; show the details for all manufacturing costs on your standard cost card.

3. Do the following

a. Compute the standard direct labor-hours allowed for the year’s production.

b. Complete the following overhead T-accounts for the year.

Explanation of Solution

1 The predetermined overhead rate is $10.00 per direct labor hour , and the variable element is $2 per direct labor and fixed element is $8 per direct labor hour.

1. Computation of predetermined overhead cost at a denominator activity level of 60,000 direct labor-hours

  $\begin{array}{l}\begin{array}{l}PredeterminedOverheadRate=\\ \end{array}\hfill \\ \frac{\begin{array}{l}VariableOverheadcostperXDenominatorActivity+FixedOverheadCost\\ Directlabor-hourofDirectlabor–hours\end{array}}{DenominatorActivityofDirectlabor–hours}\hfill \\ \begin{array}{l} \\ =\frac{\$2X\text{ 6}0,000hours+\$480,000}{60,000Directlabor-hours}\\ \end{array}\hfill \\ =\$10.00perdirectlabor-hour\hfill \end{array}$

  $\begin{array}{l}\begin{array}{l}VariableElement=\frac{Variableoverheadcostperdirectlabor-hourXDenominatorActivity}{DenominatorActivityofdirectlabor-hours}\\ \end{array}\hfill \\ \begin{array}{l} =\frac{\$2X\text{ 6}0,000hours}{60,000Directlabor-hours}\\ \end{array}\hfill \\ \begin{array}{l} =\frac{\$120,000}{60,000Directlabor-hours}\\ \end{array}\hfill \\ =\$2perdirectlabor-hour\hfill \end{array}$

  $\begin{array}{l}FixedElement=\frac{FixedOverheadCost}{DenominatoractivityofDirectlabor-hours}\hfill \\ \begin{array}{l} =\frac{\$480,000}{60,000Directlabor-hours}\\ \end{array}\hfill \\ =\$8perdirectlabor-hour\hfill \end{array}$

2. Preparation of Standard Cost Card

	Standard(1) Quantity or hours	Standard (2) Price or Rate	Standard Cost (1 X 2)
Direct Materials	3 pounds	$7	$21
Direct Labor	1.5 Hours	$12 per hour	$18
Variable manufacturing overhead	1.5 Hours	$2 per hour	$3
Fixed manufacturing overhead	1.5 Hours	$8 per hour	$12
Total standard cost per unit			$54

3.

a. Computation of standard direct labor-hours allowed for the production.

  $\begin{array}{l}StandardDirectLabor-hours\hfill \\ =DirectLabor-hoursperunitXActualNumberofunitsproduced\hfill \\ =1.5directlabor-hoursperunitX42,000units\hfill \\ =63,000DirectLabor-hours\hfill \end{array}$

b. Computation of Applied Direct Labor-Cost

  $\begin{array}{l}AppliedOverheadCost=StandardDirectLabor-hoursXPredeterminedOverheadRate\hfill \\ =63,000DirectLabor-hoursX\$10perdirectlabor-hour\hfill \\ =\$630,000\hfill \end{array}$

Manufacturing Overhead

Actual Overhead Cost $606,500	Applied Overhead Cost $630,000
	Over Applied Overhead Cost $23,500

4.

The denominator activity is used in determining the variable element and fixed element which influences the standard cost of the variable overhead cost and fixed overhead cost. It is also used for determining the applied fixed overhead which is compared with the budgeted fixed overhead cost to find the volume variance.

Verification of variances
Variable overhead rate variance	6,500 F
Variable overhead efficiency variance	4,000 U
Fixed overhead budget variance	$3,000 U
Fixed overhead volume variance	$24,000 F
Under applied overhead	$23,500

5.

If the company had chosen 65,000 direct labor-hours as the denominator activity rather than 60,000 hours, the volume variance will changed. Volume variance is the difference between the budgeted fixed overhead cost and the applied fixed overhead cost. The increase in the denominator activity of direct labor-hours will influence the value of the applied fixed overhead cost as it is calculated by multiplying the standard direct labors allowed for the production and the fixed element of the predetermined overhead rate.