Tempe Inc Normal Costing

Tempe, Inc.

Memo

To: Phil Cooper

From:

CC:

Date: 9/26/2011

Re: Normal Costing

Normal Costing

As a consultant for your company I have found that it would be in your company's best interest to implement a normal costing system. As you read this memorandum you will find that I have explained the advantages of allocating estimated overhead costs, to be applied on an annual basis. I will also discuss the mechanics of implementing a normal costing system for 2012 using a single firm-wide allocation rate with consulting hours as the allocation base. This memorandum will also discuss the weaknesses of the job-cost information based on a normal costing system.

Some advantages of allocating estimated, rather than actual overhead to your clients' jobs would be that estimated overhead can be added as soon as the job is finished. If you use an actual costing system the overhead could not be added until the end of the period. The allocating of estimated overhead will allow for product costing information to be provided to managers on a timely basis. Also, developing allocated overhead rates on an annual basis, versus a monthly basis because the cost per unit will vary over time with seasonal fluctuations. Developing on a yearly basis will help smooth out those fluctuations by averaging costs for the year instead of having a month with very low overhead costs and possibly the next month having higher overhead costs.

As an example of implementing a normal costing system I have included Exhibit 1 which is a hypothetical job for your company. This will give you something concrete to look at to help you to better decide the right choice for your company. In the sample job record we have for the Marketing Information Department, 44 consulting hours and $578 in traceable supplies. For the Internet Advertising Department we have 125 consulting hours and $1,826 in traceable supplies. The hourly rate that we used for consulting hours in both departments is $80 per hour. Notice in the sample job record that traceable supplies for both departments are listed under direct supplies, as well as consulting hours figured at $80 per hour for each department since they both pertain to this one specific job. In the overhead section of the job record we have taken estimated overhead in the amount of $930,000 for the market department and divided that by the estimated number of consulting hours which is 12,000 hours. This gives us a predetermined rate of $77.50 which we multiply by the actual number of consulting hours, 44 which gives us an overhead rate of $3,410. We then do the same for the internet advertising department with estimated overhead rate of $1,110,000 divided