STAR ENGINEERING COMPANY CASE STUDY SOLUTION

 STAR ENGINEERING COMPANY CASE STUDY SOLUTION

CASE – 4   STAR ENGINEERING COMPANY

Star Engineering Company (SEC) produces electrical accessories like meters, transformers, switchgears, and automobile accessories like taximeters and speedometers.

SEC buys the electrical components, but manufactures all mechanical parts within its factory which is divided into four production departments Machining, Fabrication, Assembly, and Painting—and three service departments—Stores, Maintenance, and Works Office.

Though the company prepared annual budgets and monthly financial statements, it had no formal cost accounting system. Prices were fixed on the basis of what the market can bear. Inventory of finished stocks was valued at 90 per cent of the market price assuming a profit margin of 10 per cent.

In March, the company received a trial order from a government department for a sample transformer on a cost-plus-fixed-fee basis. They took up the job (numbered by the company as Job No 879) in early April and completed all manufacturing operations before the end of the month.

Since Job No 879 was very different from the type of transformers they had manufactured in the past, the company did not have a comparable market price for the product. The purchasing officer of the government department asked SEC to submit a detailed cost sheet for the job giving as much details as possible regarding material, labour and overhead costs.

SEC, as part of its routine financial accounting system, had collected the actual expenses for the month of April, by 5th of May. Some of the relevant data are given in Exhibit A.

  The company tried to assign directly, as many expenses as possible to the production departments. However, It was not possible in all cases. In many cases, an overhead cost, which was common to all departments had to be allocated to the various departments using some rational basis. Some of the possible bases were collected by SEC’s accountant. These are presented in Exhibit B.

He also designed a format to allocate the overhead to all the production and service departments. It was realized that the expenses of the service departments on some rational basis. The accountant thought of distributing the service departments’ costs on the following basis:

a.  Works office costs on the basis of direct labour hours.

b.  Maintenance costs on the basis of book value of plant and machinery.

c.  Stores department costs on the basis of direct and indirect materials used.

The accountant who had to visit the company’s banker, passed on the papers to you for the required analysis and cost computations.

REQUIRED

Based on the data given in Exhibits A and B, you are required to:

1. Complete the attached “overhead cost distribution sheet” (Exhibit C).

Note: Wherever possible, identify the overhead costs chared directly to the production and service departments. If such direct identification is not possible, distribute the costs on some “rational basis.

2. Calculate the overhead cost (per direct labour hour) for each of the four producing departments. This should include share of the service departments’ costs.

3. Do you agree with:

a.   The procedure adopted by the company for the distribution of overhead costs?

b.   The choice of the base for overhead absorption, i.e. labour-hour rate?

Exhibit A

STAR ENGINEERING COMPANY

Actual Expenses(Manufacturing Overheads) for April

RS RS

Indirect Labour and Supervisions:

Machining

Fabrication

Assembly

Painting

Stores

Maintenance

Indirect Materials and Supplies

Machining

Fabrication

Assembly

Painting

Maintenance

Others 

Factory Rent

Depreciation of Plant and Machinery

Building Rates and Taxes

Welfare Expenses

(At 2 per cent of direct labour wages and Indirect labour and supervision)

Power 

(Maintenance—Rs 366; Works Office Rs 2,200, Balance to Producing Departments)

Works Office Salaries and Expenses

Miscellaneous Stores Department Expenses 

33,000

22,000

11,000

 7,000

44,000

32,700

2,200

1,100

3,300

3,400

2,800

1,68,000

   44,000

     2,400

   19,400

  68,586

1,30,260

     1,190

1,49,700

12,800

4,33,930

5,96,930