1 budgeted fixed manufacturing overhead costs rates

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1. Budgeted fixed manufacturing overhead costs rates: Denominator Level Capacity Concept Budgeted Fixed Manufacturing Overhead per Period Budgeted Capacity Level Budgeted Fixed Manufacturing Overhead Cost Rate Theoretical $ 4,000,000 2,880 $ 1,388.89 Practical 4,000,000 1,920 2,083.33 Normal 4,000,000 1,200 3,333.33 Master-budget 4,000,000 1,500 2,666,67 The rates are different because of varying denominator-level concepts. Theoretical and practical capacity levels are driven by supply-side concepts, i.e., “how much can I produce?” Normal and master-budget capacity levels are driven by demand-side concepts, i.e., “how much can I sell?” (or “how much should I produce?”) 2. The variances that arise from use of the theoretical or practical level concepts will signal that there is a divergence between the supply of capacity and the demand for capacity. This is useful input to managers. As a general rule, however, it is important not to place undue reliance on the production volume variance as a measure of the economic costs of unused capacity. 3. Under a cost-based pricing system, the choice of a master-budget level denominator will lead to high prices when demand is low (more fixed costs allocated to the individual product level), further eroding demand; conversely, it will lead to low prices when demand is high, forgoing profits. This has been referred to as the downward demand spiral—the continuing reduction in demand that occurs when the prices of competitors are not met and demand drops, resulting in even higher unit costs and even more reluctance to meet the prices of competitors. The positive aspects of the master-budget denominator level are that it is based on demand for the product and indicates the price at which all costs per unit would be recovered to enable the company to make a profit. Master-budget denominator level is also a good benchmark against which to evaluate performance. 9-19
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9-27 (55 min.) Variable and absorption costing and breakeven points 1. a. 2009 Variable-Costing Based Operating Income Statement Revenues (800 cat trees x $300 per tree) $240,000 Variable costs Beginning inventory $ 0 Variable manufacturing costs (1,000 trees × $75 per tree.) 75,000 Cost of goods available for sale 75,000 Deduct: Ending inventory (200 trees × $75 per tree) (15,000 ) Variable cost of goods sold 60,000 Variable shipping costs (800 trees × $25 per tree) 20,000 Total variable costs 80,000 Contribution margin 160,000 Fixed costs Fixed manufacturing costs 100,000 Fixed selling and administrative 50,000 Total fixed costs 150,000 Operating income $ 10,000 1. b. 2009 Absorption-Costing Based Operating Income Statement Revenues (800 cat trees x $300 per tree) $240,000 Cost of goods sold Beginning inventory $ 0 Variable manufacturing costs (1,000 trees. × $75 per tree) 75,000 Allocated fixed manufacturing costs (1,000 trees × $100* per tree) 100,000 Cost of goods available for sale 175,000 Deduct ending inventory (200 trees × ($75 + $100) per tree) (35,000 ) Cost of goods sold 140,000 Gross margin 100,000 Operating costs Variable marketing costs (800 trees × $25 per pkg.) 20,000 Fixed selling and administrative 50,000 Total operating costs 70,000 Operating income $ 30,000 *Fixed manufacturing rate = Fixed manufacturing cost/production = $100,000/1000 trees = $100 per tree 9-20
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