Wilkins Inc. has two types of handbags: standard and custom. The controller has decided to use a plantwide overhead rate based on direct labor costs. The president has heard of activity-based costing and wants to see how the results would differ if this system were used. Two activity cost pools were developed: machining and machine setup. Pre- sented below is information related to the company’s operations.
Standard custom
Direct labor costs 50,000 100,000
Machine hours 1,000 1,000
Setup hours 100 400
Total estimated overhead costs are $270,000. Overhead cost allocated to the machining ac- tivity cost pool is $170,000, and $100,000 is allocated to the machine setup activity cost pool.
a) Allocate the overhead to the two types of handbags based on direct labor dollars (plantwide approach).
b) Allocate the overhead to the two types of handbags using activity-based costing and the activity pools the company has identified.
c) Do the 2 methods produce the same allocation? Do you have a preference for one of the methods?