All Natural manufactures organic fruit preserves sold primarily through health food stores and on the web. The company closes for two weeks each December to allow employees to spend time with their families over the holiday season. All Natural’s manufacturing overhead is mostly straight-line depreciation on its plant and air-conditioning costs for keeping the berries cool during the summer months. The company uses direct labour hours as the allocation base. President Kara Wise has just approved new accounting software and is telling Controller Melissa Kokelj about her decision.
“I think this new software will be great,” Wise says. “It will save you time in preparing all of those reports.”
“Yes, and having so much more information just a click away will help us make better decisions and help control costs,” replies Kokelj. “We need to consider how we can use the new system to improve our business practices.”
“And I know just where to start,” says Wise. “You complain each year about having to predict the weather months in advance for estimating air-conditioning costs and direct labour hours for the denominator of the predetermined manufacturing overhead rate. I think we should calculate the predetermined overhead rate on a monthly basis.”
Controller Kokelj is not so sure this is a good idea.
1. What are the advantages and disadvantages of Wise’s proposal?
2. Should All Natural compute its predetermined manufacturing overhead rate on an annual basis or a monthly basis? Explain.