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Allocate service department costs Step down & direct method

Total Square ft Number Machine Direct
Labor of Space of hrs Labor
Hrs occupied Employees Hrs

Cafeteria....... 16,000 12,000 25
Custodial Srvs.. 9,000 3,000 40
Machinery Main 15,000 10,000 60
Milling............ 30,000 40,000 100 160,000 20,000
Finishing......... 100,000 20,000 300 40,000 70,000
-------- -------- ----- ----------- --------
170,000 85,000 525 200,000 90,000
--------- -------- ----- ----------- --------
--------- -------- ----- ----------- --------

Budgeted overhead costs in each department for the current year are as follows:

Cafeteria.......................$320,000
Custodial Services............ 65,400
Machinery Maintenance... 93,600
Milling........................ 416,000
Finishing...................... 166,000

Total budgeted cost..........$1,061,000

The company has always allocated service department costs to the operating departments (Milling and Finishing) using the direct method of allocation, because of its simplicity.

1. Allocate service department costs to operating departments by the step-down method. Then compute predetermined overhead rates in the operating departments for the current year, using machine hours as the allocation base in the Milling Department and direct labor-hours as the allocation base in the Finishing Department.
2. Repeat (1) above, this time using the direct method. Again compute predetermined overhead rates in the Milling and Finishing Departments.
3. Assume that during the current year the company bids on a job that requires machine and labor time as follows:

Machine hrs Direct labor hrs
Milling Department................... 2,000 1,600
Finishing Department................ 800 13,000
Total hours............................ 2,800 14,600

A. Determine the amount of overhead that would be assigned to the job if they company used the overhead rates developed in (1) above. Then determine the amount of overhead that would be assigned to the job if the company used the overhead rates developed in (2) above.
B. Explain to the president the step-down method provides a better basis for computing predetermined overhead rates than the direct method.

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Solution Summary

Computation with formulas in cells in Excel (just click on cells to see) so you have a template for other work. A draft of a memo to the president is given.

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