American Guitar manufactures two guitar models and has four departments. It uses normal costing for external reporting and allocates overhead using a predetermined rate. In July, it manufactured and sold guitars, recorded various manufacturing and non-manufacturing costs, and had ending work-in-process and finished goods inventories. American Guitar is considering implementing standard costing to improve cost control and help with pricing decisions due to increased competition.

1. American Guitar Company manufactures two different high
quality acoustic guitars for retailers: beginner model and
professional model. The company has two service departments:
the maintenance department and the power department, and two
manufacturing departments: the construction department and the
finishing department. American Guitar chooses the reciprocal
method to allocate service department costs. It uses operation
costing to assign direct materials and conversion costs to its
products, and absorption costing with normal costs for external
reporting purposes.
In the Construction Department, the wooden guitars are built by
highly skilled craftsmen and coated with several layers of
lacquer. Then the units are transferred to the Finishing
Department, where the bridge of the guitar is attached and the
strings are installed. The guitars also are tuned and inspected in
the Finishing Department
[1]
. American Guitar estimates to have an annual practical capacity
of 6000 guitars (1500 units of professional model and 4500
units of beginner model). The budgeted sales for 2013 are 1300
units professional model and 4300 units of beginner model. The
diagram below depicts the manufacturing process.
The following historical information has been collected from
American Guitar's accounting information systems:
2009
2010
2011
2012
Annual sales
4146(B) & 1611(P)

2. 4456(B) & 1256(P)
4668(B) & 1322(P)
4075(B) & 1300(P)
July sales
393(B) & 183(P)
398(B) & 163(P)
405(B) & 168(P)
372(B) & 155(P)
2012
Total Overhead ($)
Total DLH of the two manufacturing departments
[2]
January
134,000
2,210
February
137,000
2,280
March
148,000
2,510
April
155,000
2,790
May
157,000
2,980
June
165,000
3,590
July
169,000
3,490
August
168,000

3. 3,030
September
163,000
3,040
October
157,000
3,380
November
139,000
2,420
December
133,000
2,100
Total
1,825,000
33,820
American Guitar’s direct
[3]
and indirect MOH costs for the two service and two
manufacturing departments in 2012:
Power Department
[4]
Maintenance Department
[5]
Construction Department
Finishing
Department
Total Amount
Labor-hours
2022
2032
18950
14870
37,874

4. Kilowatt-hours
2,000
7,000
40,800
30,200
80,000
Maintenance hours
140
60
800
1,000
2,000
Direct fixed costs
$60,000
$36,000
$480,000
$432,000
$1,008,000
Direct variable costs
$58,000
$40,000
$346,800
$358,200
$803,000
Indirect fixed costs
$9,600
Indirect variable costs
$4,400

5. American Guitar does not expect significant changes in its
manufacturing costs in 2013.
At the end of June 2013, the balance in American Guitar’s
Materials Inventory account, which included 150 pounds of
grade A veneered wood, was $2,640; the balance in the
finished-goods inventory, which was valuated using the last-in,
first-out (LIFO) method, consisted of 2 models, was $16,600.
Quantity and Unit Cost
Beginner model
20 units @ $430 each
Professional model
10 units @ $800 each
The following pertains to the month of July.
There were no beginning inventories in both manufacturing
departments.
American Guitar's work-in-process inventory on July 31
consisted of two jobs: B0642 and P0642. The ending WIP
inventories at the finishing department for B0642 and P0642
have 10 EU and 6 EU respectively.
Additions to and requisitions from the materials inventory
during the month of July included the following.
Raw Materials
Purchased Parts
Additions
550 pounds of grade A veneered wood for $9,680
3300 pounds of grade B veneered wood
for $41,580
100 set of premium bridges and strings for $1,840
400 set of regular bridges and strings for $6,560
Requisitions

6. Job B0639 (120 beginner units)
936 pounds of grade B wood
125 regular sets
Job B0640 (100 beginner units)
790 pounds of grade B wood
103 regular sets
Job B0641 (150 beginner units)
1170 pounds of grade B wood
153 regular sets
Job B0642 (15 beginner units)
118 pounds of grade B wood
10 regular sets
Job P0640 (30 professional units)
240 pounds of grade A wood
31 premium sets
Job P0641 (35 professional units)
273 pounds of grade A wood
32 premium sets
Job P0642 (10 professional units)
82 pounds of grade A wood
6 premium sets
The average hourly rate for the construction and finishing
departments in July was $15 and $14 respectively. The total
payroll taxes and fringe benefits rate for American Guitar was
40% of wages paid. The July labor hours consisted of the
following:
Account
Construction Department
Finishing Department
Job B0639 (120 beginner units)
350
264
Job B0640 (100 beginner units)

7. 302
200
Job B0641 (150 beginner units)
448
285
Job B0642 (15 beginner units)
40
17
Job P0640 (30 professional units)
150
144
Job P0641 (35 professional units)
173
176
Job P0642 (10 professional units)
52
22
5.
372 beginner models & 70 professional models were sold on
account for $600 (beginner model) & $960 (professional model)
each. The finished-goods inventory is valuated using LIFO
method.
6.
The actual direct fixed costs for power department and
maintenance department were $4,050 and $4,000 respectively.
The actual direct variable costs for power department and
maintenance department were $17,084 and $9,280 respectively.
7.
The actual direct fixed costs for construction department and
finishing department were $40,100 and $35,800 respectively.

8. The actual direct variable for construction department and
finishing department were $33,084.60 and $34,038.40
respectively.
8.
Depreciation of the general facility and equipment shared by
both manufacturing departments during July amounted to
$12,000.
9.
Rent paid in cash for warehouse space used by the
manufacturing departments during July was $1,200. Utility
costs incurred for the warehouse during July amounted to $600.
The invoices for these costs were received, but the bills were
not paid in July.
10.
July property taxes on the general facility were paid in cash,
$2,400.
11.
The insurance cost covering factory operations for the month of
July was $3,100. The insurance policy had been prepaid.
12.
The costs of salaries and fringe benefits for sales and
administrative personnel paid in cash during July amounted to
$8,000.
13.

9. Depreciation on administrative office equipment and space
amounted to $4,000.
14.
Other selling and administrative expenses paid in cash during
July amounted to $35,000.
15.
The July 1 balances in selected accounts are as follows:
Cash
$138,000
Accounts Receivable
21,000
Prepaid Insurance
5,000
Accumulated Depreciation: Facility & Equipment
102,000
Accounts Payable
13,000
Required:
Part 1
Submit a hard copy of your work and email an Excel workbook
to support your calculations on or before the due date for
questions 1 – 7.
1.
What is the predetermined manufacturing overhead rate for
external reporting purpose? Is it

10. the most appropriate rate for managerial accounting? Why?
2.
Prepare the journal entries to record the transactions in July
using normal costing.
3.
Calculate the overapplied or underapplied overhead for July.
Use the proration method to prepare a journal entry to close this
balance.
4.
Prepare a schedule of cost of goods manufactured for July.
5.
Prepare a schedule of cost of goods sold for July.
6.
Prepare an income statement for July.
7.
From the perspective of long-run product pricing, do you
recommend American Guitar to keep its absorption costing with
normal costs for pricing decision and performance evaluation?
Why?
Part 2
Submit a hard copy of your work and email an Excel workbook
to support your calculations on or before the due date for
questions 1 – 11.
Recently, American Guitar has faced intense competition from
oversea guitars manufacturers. Her competitors sell similar
quality guitars averaged 25% less. American Guitar considers
implementing the standard costing to improve cost control.
After conducting task analysis in the manufacturing

11. departments, American Guitar establishes the following
standards:
1)
Each finished guitar contains seven pounds of veneered wood.
In addition, one pound of wood is typically wasted in the
manufacturing process.
2)
The veneered wood used in the beginner model has a standard
price of $12 per pound and the professional model has a
standard price of $18. The other parts needed to complete each
beginner guitar (professional guitar), such as the bridge and
strings, cost $15 ($18) per guitar.
3)
The labor standards
[6]
for American Guitar's two manufacturing departments are as
follows:
Construction Department
Finishing Department
Beginner model (B)
3 hours of direct labor at $18 per hour
2 hours of direct labor at $20 per hour
Professional model (P)
4 hours of direct labor at $18 per hour
6 hours of direct labor at $20 per hour

12. 8.
Assuming American Guitar implements the standard costing,
and calculate the followings:
-
Direct material and direct labor variances
-
variable manufacturing overhead variances for both
manufacturing departments in July.
-
fixed manufacturing overhead variances for both manufacturing
departments in July.
-
standard cost for the beginner model and the professional
model.
9.
Prepare the journal entries to record the transactions in July
using the standard costing.
10.
Prepare entries to close all the variances using the proration
method.
11.
Do you recommend American Guitar to price its products based
on its standard costs? Why?
Prepare a presentation to answer the following questions:
12.

13. Do you recommend American Guitar to keep its current cost-
accounting system or to implement the standard costing system?
Why?
13.
Explain the interpretation and possible interactions between the
variances calculated by the standard costing.
14.
Write a memo to the company evaluating American Guitar’s
July performance and indicate any appropriate action for
management to fine-tune its strategy.
[1]
Direct-material is added at the beginning of manufacturing
process in construction department.
The direct-material and conversion costs are incurred uniformly
throughout the process in finishing department.
[2]
American Guitar believes that overhead is affected by total
monthly DLH of the two manufacturing departments.
[3]
For a
manufacturing
department, direct costs refer only to overhead costs that are
directly traceable to the department.
[4]
Power department is to provide electricity to maintenance,
construction and finishing department. Its service is measured
by the kilowatt-hours. The kilowatt-hours provided by the
department for 2010 & 2011 were 84,200 & 88,000 respectively.
[5]
Maintenance department is to maintain all the equipment in
power, construction and finishing department. Its service is
measured by the maintenance hours. The maintenance hours
provided by the department for 2010 & 2011 were 2,150 and

14. 2,240 respectively.
[6]
Direct-labor rates include employee benefits.