Manufacturing overhead is applied to production.Required: A. Describe several situations that may give rise to underapplied overhead.B. Assume that underapplied manufacturing overhead is treated as an adjustment to Cost of Goods Sold. Explain why an underapplication of overhead increases Cost of Goods Sold.

Question

What will be an ideal response?

Answer 1

A. Overhead will be underapplied when total actual overhead costs exceed applied overhead. This can occur for a variety of reasons including underestimation of some overhead costs, incorrect estimation of the application base and/or production, selection of an inappropriate cost driver, or changes in the mix of products that affect the level of overhead costs incurred.
B. In most manufacturing environments, many products made during the period are also sold and ending work in process is modest relative to the amount of goods manufactured. Therefore the vast majority of the overhead applied to the Work-in-Process Inventory account will flow through Finished-Goods Inventory and on to Cost of Goods Sold. However, if overhead is underapplied, Cost of Goods Sold has been increased by an insufficient amount. Consequently, the underapplied overhead should be added to Cost of Goods Sold.