60.1K

Verified Solution

Link Copied!

Plastics Limited is currently using a traditional two-stage cost allocation system. In the first stage,

all factory overheads are allocated to two production departments, A and B, based on machine hours;

while the second stage uses direct labor hours for absorption of these overheads to individual products

Regular and Deluxe.

During September 2020, Plastics Limited had a total factory overheads cost of Rs. 10 lakhs. The number of

machine-hours used in the Production Departments A and B was 40,000 and 1,60,000 respectively. The number

of direct labor-hours in Production Departments A and B were 20,000 and 10,000 respectively.

The required information relates to products deluxe and regular for the month of September 2020 is below

Stage #1 Allocation: (Based on Machine Hours)

(Rs. in lakhs)

Total Factory Overheads during September 2020 Rs. 10.00

Total Overheads Allocated to Production DeptA (Rs. 10(4/20)) Rs. 2.00

Total Overheads Allocated to Production DeptB (Rs. 10(16/20)) Rs. 8.00

Stage #2 Allocation: (Rs. in lakhs)

Total Overheads Allocated to Production Department A Rs. 2.00

Labor-Hours in Department A during September 2020 20,000 hours.

Therefore, Labor-Hour Absorption Rate of Department A is (Rs. 2 lakhs/20,000 hours) = Rs. 10.

Total Overheads Allocated to Production Department B Rs. 8.00

Labor-Hours in Department B during September 2015 10,000 hours.

Therefore, Labor-Hour Absorption Rate of Department B is (Rs. 8 lakhs/10,000 hours) = Rs. 80.

Cost Sheet for the month of September 2020

Particulars	Deluxe		Regular
Units Produced and Sold	2,000		8,000
	Total (Rs. in lakhs)	Per Unit (Rs.)	Total (Rs. in lakhs)	Per Unit (Rs.)
Direct Material Cost	Rs.2.00	Rs. 100.00	Rs. 4.00	Rs. 50.00
Direct Labor Cost	Rs. 1.50	Rs. 75.00	Rs. 4.80	Rs. 60.00
PRIME COST	Rs. 3.50	Rs. 175.00	Rs. 8.80	Rs. 110.00
Factory Overheads:
Department A (Absorption rate @ Rs. 10 per labor hour)	Rs. 0.40	Rs. 20.00	Rs. 1.60	Rs. 20.00
Department B (Absorption rate @ Rs. 80 per labor hour)	Rs. 1.60	Rs. 80.00	Rs. 6.40	Rs. 80.00
TOTAL COST	Rs. 5.50	Rs. 275.00	Rs. 16.80	Rs. 210.00
Profit	Rs. 1.00	Rs. 50.00	Rs. 1.20	Rs. 15.00
SALES	Rs. 6.50	Rs. 325.00	Rs. 18.00	Rs. 225.00

Other information collected for the month of September 2020:

• Break-up of Factory Overheads

(Rs. in lakhs)

• Material Receipt and Movement Costs Rs. 0.70
• Production Setup Cost Rs. 6.00
• Inspection and Quality Check cost Rs. 3.00
• Shipment Cost Rs. 0.30

Total Factory Overheads for September, 2020 Rs. 10.00

• Some non-financial information collected for the month of September 2020:

Particulars	Deluxe	Regular
Number of Shipments	50	100
Number of Material Receipts	150	200
No. of Inspecting and Quality Check staff deputed	4	6
Number of Production and Machine Setups	25	50
Number of Units produced	2,000	8,000

From the information given in the attachment, as per the traditional overhead allocation system,

the cost of Deluxe is coming to be Rs. 275.00 and profit Rs. 50 per unit; while that of Regular,

cost Rs. 210 and profit Rs. 15 per unit.

Do you believe that the traditional system of allocating factory overheads is providing the management

better and more reliable cost information about the products for better decision making. Answer

this question with proper analysis/reasoning. If no, then find the cost per unit and thereby profit per

unit for Deluxe as well as for Regular by using some alternative and better system (Activity-Based Costing)

of allocating overheads using the given information and give your observations and comments for the same.

Answer & Explanation Solved by verified expert

See Answer