Question

Gregory Enterprises has identified three cost pools to allocate overhead costs. The following estimates are provided for the coming​ year: Cost Pool Overhead Costs Cost driver Activity level Supervision of direct labor ​$320,000 Direct laborhours ​800,000 Machine maintenance ​$120,000 Machinehours ​960,000 Facility rent ​$200,000 Square feet of area ​100,000 Total overhead costs ​$640,000 The accounting records show the Mossman Job consumed the following​ resources: Cost driver Actual level Direct laborhours 200 Machinehours ​1,600 Square feet of area 50 Which method of allocation probably best estimates actual overhead costs​ used? Why? A. Single direct laborhours cost driver because it is best to allocate total costs uniformly to individual jobs. B. Single direct laborhours cost driver because it is easiest to analyze and interpret. C. Three activitycost drivers because they best reflect the relative consumption of resources. D. Three activitycost drivers because product costs can be significantly crosssubsidized.

Answer 1

The best method of allocating overhead costs to reflect actual consumption of services is C. Three activity cost drivers because they best reflect the relative consumption of resources.

Activity-based costing method of overhead allocation uses overhead cost pools and cost drivers and reflects the actual consumption of production activities by each job or process.

Data and Calculations:

Cost Pool                    Overhead Costs  Cost driver             Activity level

Supervision of direct labor ​$320,000    Direct labor hours    ​800,000

Machine maintenance        ​$120,000     Machine hours        ​960,000

Facility rent ​                        $200,000    Square feet of area  ​100,000

Total overhead costs         ​$640,000

Overhead Rates:

Supervision of direct labor = $0.40 per direct labor hour ($320,000/800,000)

Machine maintenance = $0.13 per machine hour ($120,000/960,000)

Facility rent = $2.00 per square feet ($200,000/100,000)

Mossman Job:

Cost driver            Actual level    Overhead Allocated

Direct labor hours     200              $80 ($0.40 x 200)

Machine hours ​       1,600              208 ($0.13 x 1,600)

Square feet of area     50              100 ($2.00 x 50)

Total overhead allocated           $388

Thus, with Activity-based costing method, only $388 is allocated to the Mossman Job because the costs allocated are based on three cost drivers and the level of activity consumed by the job.

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