Case 3a Auerbach Enterprises Manufacture
Case 3a Auerbach Enterprisesauerbach Enterprises Manufactures Air Co
Calculate the departmental overhead rates and company-wide overhead rate based on machine hours; then compute overhead costs per batch and per unit for MaxiFlow and Alaska products using both approaches; finally, analyze which product is more impacted by the type of overhead application rate.
Paper For Above instruction
Introduction
Auerbach Enterprises specializes in manufacturing specialized air conditioning units for automobiles and trucks across North America, with its primary products being MaxiFlow and Alaska. These products, although designed to serve similar markets, differ significantly in their manufacturing processes, component complexity, and assembly requirements. To accurately allocate overhead costs and determine product profitability, it is essential to evaluate the manufacturing overhead distribution methods—specifically, comparing departmental overhead rates versus a company-wide rate. This paper analyzes the overhead rate calculations, cost allocations, and the effect of the allocation method on product costing, which is critical for effective pricing, cost control, and strategic decision-making.
Calculating Departmental Overhead Rates
The first task involves calculating departmental overhead rates using machine hours as the cost driver. The total overhead costs assigned to each department are divided by the total machine hours for that department, providing a specific overhead rate per machine hour.
For the four departments:
- Radiator parts fabrication: Overhead of $80,000, 10,000 machine hours.
- Radiator assembly, weld, and test: Overhead of $100,000, 20,000 machine hours.
- Compressor parts fabrication: Overhead of $120,000, 5,000 machine hours.
- Compressor assembly and test: Overhead of $180,000, 45,000 machine hours.
The departmental overhead rates are computed as follows:
- Radiator parts fabrication: $80,000 / 10,000 = $8 per machine hour
- Radiator assembly: $100,000 / 20,000 = $5 per machine hour
- Compressor parts fabrication: $120,000 / 5,000 = $24 per machine hour
- Compressor assembly: $180,000 / 45,000 = $4 per machine hour
These rates will be used to allocate overhead costs to products based on their respective machine hours in each department.
Calculating the Company-wide Overhead Rate
The company-wide overhead rate is computed by dividing total overhead costs by total machine hours across all departments:
- Total overhead: $480,000
- Total machine hours: 80,000
The company-wide overhead rate:
$480,000 / 80,000 = $6 per machine hour
This single rate simplifies overhead allocation but may not reflect the actual resource consumption of different products accurately.
Overhead Costs Per Batch of MaxiFlow and Alaska
Using the calculated rates, overhead costs per batch for each product are determined by summing the product of machine hours per batch in each department with the respective departmental overhead rate.
a) Using the company-wide rate ($6 per machine hour):
- MaxiFlow:
- Radiator fabrication: 28 hours × $6 = $168
- Radiator assembly: 30 hours × $6 = $180
- Compressor fabrication: 32 hours × $6 = $192
- Compressor assembly: 26 hours × $6 = $156
- Total overhead per batch: $168 + $180 + $192 + $156 = $696
- Alaska:
- Radiator fabrication: 16 hours × $6 = $96
- Radiator assembly: 74 hours × $6 = $444
- Compressor fabrication: 8 hours × $6 = $48
- Compressor assembly: 66 hours × $6 = $396
- Total overhead per batch: $96 + $444 + $48 + $396 = $984
b) Using departmental rates:
- MaxiFlow:
- Radiator fabrication: 28 hours × $8 = $224
- Radiator assembly: 30 hours × $5 = $150
- Compressor fabrication: 32 hours × $24 = $768
- Compressor assembly: 26 hours × $4 = $104
- Total: $224 + $150 + $768 + $104 = $1,246
- Alaska:
- Radiator fabrication: 16 hours × $8 = $128
- Radiator assembly: 74 hours × $5 = $370
- Compressor fabrication: 8 hours × $24 = $192
- Compressor assembly: 66 hours × $4 = $264
- Total: $128 + $370 + $192 + $264 = $954
The significant difference between these totals illustrates how departmental rates allocate overhead more precisely based on actual resource use than a single company-wide rate.
Cost Per Unit Calculation
Total costs are calculated by adding direct materials, direct labor, and allocated overhead. The per-unit cost involves dividing total costs by batch size (20 units).
a) Using the company-wide rate:
- MaxiFlow:
- Total overhead: $696
- Total direct material: $135 per unit × 20 units = $2,700
- Total direct labor: $75 per unit × 20 units = $1,500
- Total batch cost: $2,700 + $1,500 + $696 = $4,896
- Cost per unit: $4,896 / 20 = $244.80
- Alaska:
- Total overhead: $984
- Total direct material: $110 per unit × 20 = $2,200
- Total direct labor: $95 per unit × 20 = $1,900
- Total batch cost: $2,200 + $1,900 + $984 = $5,084
- Cost per unit: $5,084 / 20 = $254.20
b) Using departmental rates:
- MaxiFlow:
- Total overhead: $1,246
- Total direct material: $135 × 20 = $2,700
- Total direct labor: $75 × 20 = $1,500
- Total batch cost = $2,700 + $1,500 + $1,246= $5,446
- Per unit: $5,446 / 20 = $272.30
- Alaska:
- Total overhead: $954
- Total direct material: $110 × 20 = $2,200
- Total direct labor: $95 × 20 = $1,900
- Total batch cost = $2,200 + $1,900 + $954= $5,054
- Per unit: $5,054 / 20 = $252.70
Using departmental rates results in higher overhead allocations, especially for MaxiFlow, which is associated with more complex fabrication processes.
Total Cost Per Unit Analysis
The total cost per unit reveals how overhead allocation impacts pricing strategies:
- Company-wide rate favors a simplified, uniform approach but can under or over-cost products based on actual process complexity.
- Departmental rates better reflect resource consumption, leading to more accurate product costing.
MaxiFlow's per-unit cost using departmental rates ($272.30) exceeds that calculated with the company-wide rate ($244.80). Alaska’s per-unit cost also increases but to a lesser extent ($252.70 vs. $254.20). This indicates that products with more complex processes or higher resource consumption in specific departments are more affected by departmental overhead allocations.
Impact Analysis and Conclusion
In conclusion, departmental overhead rates tend to allocate costs more precisely to products that utilize resources unevenly across departments. MaxiFlow, with its complex fabrication process, benefits from departmental costing, which reflects its high resource consumption more accurately and prevents cost underestimation. Alaska, with its reliance on standard parts but complex assembly, is somewhat less impacted but still benefits from more precise overhead allocation.
The choice between using a company-wide rate and departmental rates significantly influences product costing and profitability analysis. The departmental approach, although more complex, provides a better foundation for strategic decisions, pricing, and cost control, particularly for products with diverse manufacturing processes. Therefore, companies should consider departmental overhead rates when their product mix involves varying levels of resource consumption across different manufacturing activities, ensuring more accurate and effective cost management.
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