Cost Allocation and Apparent Profitability Diamonds, etc. constructs jewellery settings and sells them to retail stores. In the past, most settings were made by hand, and overhead allocation rate in the previous year was $10 per labor hour ($2,000,000 overhead ÷ 200,000 labor hours). In the present year, overhead increased by $400,000 due to acquisition of equipment. Labor, though, decreased by 50,000 hours as the equipment permits rapid creation of settings. One of the company’s many customers is the local jewellery store ABC Jewellery. This store is relatively small and the time to make the order of jewellery pieces is typically less than 8 labor hours. On such jobs (less than 8 labor hours), the new equipment is not used, and thus the jobs are relatively labor exhaustive.
a) Suppose that in the present year, the company continues to assign overhead based on labor hours. What would be the overhead cost of the 8-labor-hour job requested by ABC’s Jewellery? How does this compare to overhead cost charged to such a job in the previous year?
Suppose that the price charged for small jobs doesn’t change in the present year. Are small jobs less profitable than they were in the past?