AJG Inc. is a manufacturer of the very popular G36 motorcycles. The management at AJG has recently adopted absorption costing and is debating which denominator level concept to use. The G36 motorcycles sell for an average price of $8,500. Budgeted fixed manufacturing overhead costs for 2015 are estimated at $4,000,000. AJG Inc. uses subassembly operators that provide component parts. The following are the denominator-level options that management has been considering:
a. Theoretical capacity-based on two shifts, completion of four motorcycles per shift, and a 360-day year-2 × 4 × 360 $ 2,880.
b. Practical capacity-theoretical capacity adjusted for unavoidable interruptions, breakdowns, and so forth-2 × 3 × 320 $ 1,920.
c. Normal capacity utilization-estimated at 1,200 units.
d. Master-budget capacity utilization-the growing popularity of motorcycles have prompted the marketing department to issue an estimate for 2015 of 1,500 units.
Required
1. Calculate the budgeted fixed manufacturing overhead cost rates under the four denominator-level concepts.
2. What are the benefits to AJG Inc. of using either theoretical capacity or practical capacity?
3. Under a cost-based pricing system, what are the negative aspects of a master-budget denominator level? What are the positive aspects?