Chapter 2.B, Problem 1E

EXERCISE 2B-1 Overhead Rate Based on Capacity LO2-6
Wixis Cabinets makes custom wooden cabinets for high-end stereo systems from specialty⁷ woods. The company uses a job-order costing system. The capacity⁷ of the plant is determined by the capacity⁷ of its constraint, which is time on the automated bandsaw that makes finely beveled cuts m wood according to the preprogrammed specifications of each cabinet. The bandsaw can operate up to 180 hours per month. The estimated total manufacturing overhead cost at capacity is $14,760 per month. The company bases its predetermined overhead rate on capacity⁷, so its predetermined overhead rate is $82 per hour of bandsaw use.
The results of a recent month’s operations appear below:

Required:

1. Prepare an income statement following the example in Exhibit 2B-1 that records the cost of unused capacity on the income statement as a period expense.
2. Why do unused capacity costs arise when the predetermined overhead rate is based on capacity?