When Implementing a Standard Cost System, One of the System-Design

question 112

Essay

When implementing a standard cost system, one of the system-design choices that management must make is choice of the denominator volume level for calculating the fixed overhead application rate, which is used to determine product costs. Various alternatives exist for the denominator volume.
Required:
1. List and briefly describe the various alternatives that exist for defining the denominator activity level for product-costing purposes.
2. What provisions of generally accepted accounting principles (GAAP) and current income tax requirements in the U.S. affect the decision as to choice of the denominator volume level when developing the standard fixed overhead application rate? Provide an overview of the requirements in this regard.

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Definitions:

Market Risk

The risk of losses in investments due to factors that affect the entire market, such as economic shifts or political events.

Asset-Specific Risk

The risk associated with holding a particular asset, which can be reduced through diversification.

Security Market Line

A representation of the capital asset pricing model (CAPM), showing the relationship between the expected return of a security and its risk as measured by beta.

Expected Rate

The anticipated return on an investment in future periods based on various assumptions or models.