GIVEN: The controller for X Manufacturing Inc. performed a trend analysis of the

Question

GIVEN: The controller for X Manufacturing Inc. performed a trend analysis of the unit manufacturing costs of product T-2 for the month of March. Two patterns emerged; there was a gradual upward trend in the unit costs over the month for T-2 and there was an upward spike in unit costs on Fridays which did not carry over to Mondays. (The plant was closed on weekends.)

REQUIRED:

Part 1:   What are some possible explanations for the gradual increase in unit manufacturing costs over the month? What information would you ask for to investigate the possible explanations?

Part 2:   What are some possible explanations for the Friday upward spike in unit manufacturing costs? What information would you ask for to investigate the possible explanations?

Part 3:   If manufacturing overhead is allocated using an annually predetermined overhead rate, how might a product have an increase in manufacturing overhead attached to it during a particular month or day?

Explanation / Answer

PART 1 & 2

When you manufacture products, you have two sets of expenses to consider that can affect the cost of each unit. For example, rent, insurance, property taxes and depreciation on equipment are predictable fixed costs for your facility. You can total these expenses and divide by the number of units you produce on average to find a fixed unit cost. Variable costs, on the other hand, fluctuate with increased production or market prices for supplies and materials.

Materials

Raw materials that go into the manufacture of units seldom have a set price unless you have a long-term contract with a supplier. Typically, you can expect to pay more when your vendors' expenses go up and possibly get a price break when those expenses go down. This can make it difficult to predict the cost of materials for the long term. Rising material costs mean rising per-unit costs. If you're unable to raise your prices as costs increase, you may have to absorb the fluctuation in the cost of raw materials.

Labor

If your production personnel work at or near capacity, that means increased production will require overtime or additional personnel. In such a circumstance, labor is a variable expense. Your payroll goes up as production rises. You have to calculate whether an increased number of units is worth the increased labor expense. If you have to train new workers or if newcomers don't have the capacity of your experienced employees, you may find that additional labor costs make increased production unattractive financially.

Errors

If increased production results in a higher percentage of mistakes and rejections of units by your quality-control department, you have a variable expense arising from errors. In other words, if the percentage of wasted products goes up with increased productivity, you will have to apply this extra expense to your per-unit costs. For example, if you manufacture 1,000 units with a 1 percent error rate and 2,000 units with a 4 percent error rate, it's costing you more to make each unit because you are throwing out four times as many.

Energy

Producing more units requires more energy. Machines must run faster and longer to accommodate production and the lights must stay on if you've had extra shifts or go into overtime. In other words, energy costs rise as production rises, making them a variable expense. This only affects your per-unit cost if the number of units you produce tapers off as you add more shifts or production time. For example, if it costs you $100 to produce one hundred units on the day shift, and another $100 to produce fifty units on the night shift, your per-unit energy costs double at night.

PART 3

A pre-determined overhead rate is the rate used to apply manufacturing overhead to work-in-processinventory. The pre-determined overhead rate is calculated before the period begins. The first step is to estimate the amount of the activity base that will be required to support operations in the upcoming period. The second step is to estimate the total manufacturing cost at that level of activity. The third step is to compute the predetermined overhead rate by dividing the estimated total manufacturing overhead costs by the estimated total amount of cost driver or activity base. Common activity bases used in the calculation include direct labor costs, direct labor hours, or machine hours.

Any increase in direct labor costs,direct labor hours or machine hours will increase the manufacturing overhead of a product.

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