Marine Components produces parts for airplanes and ships. The parts are produced

Question

Marine Components produces parts for airplanes and ships. The parts are produced to specification by their customers, who pay either a fixed price (the price does not depend directly on the cost of the job) or price equal to recorded cost plus a fixed fee (cost plus). For the upcoming year (year 2), Marine expects only two clients (client 1 and client 2). The work done for client 1 will all be done under fixed-price contracts while the work done for client 2 will all be done under cost-plus contracts.

Manufacturing overhead for year 2 is estimated to be $10 million. Other budgeted data for year 2 include:

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Compute the predetermined rate assuming that Marine Components uses machine-hours to apply overhead.

Compute the predetermined rate assuming that Marine Components uses direct labor cost to apply overhead.

Which allocation base will provide higher income for Marine Components?

Is it ethical to choose an allocation method based on which one leads to higher income for the firm?

(Lanen 266-267)

Lanen, William, Shannon Anderson, Michael Maher. Fundamentals of Cost Accounting, 5th Edition. McGraw-Hill Learning Solutions, 01/2016. VitalBook file.

The citation provided is a guideline. Please check each citation for accuracy before use.

Client 1 Client 2 Machine-hours (thousands) 2,000 2,000 Direct labor cost ($000) $2,500 $7,500

Explanation / Answer

1 Compute the predetermined rate assuming that Marine Components uses machine-hours to apply overhead. Total Machine Hours = 2,000,000+2,000,000            4,000,000 Predetermined Overhead Rate =10,000,000/4,000,000 $2.50 per Machine Hr 2 Compute the predetermined rate assuming that Marine Components uses direct labor cost to apply overhead. Total Direct Labor for marine component=2,500,0000+7,500,000          10,000,000 Predetermined Overhead Rate =10,000,000/10,000,000 $1.00 per direct labour cost 3 Which allocation base will provide higher income for Marine Components? The allocation of manufacturing overhead cost based on direct labor cost provides higher income for Marine Components as predetermined overhead rate is lower rate 4 Is it ethical to choose an allocation method based on which one leads to higher income for the firm? It is not ethical to choose an allocation method based on which one leads to higher income for the firm because it is misrepresentation of true costs.

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