Earth and Artistry, Inc., provides commercial landscaping services.

Sasha Cairns, the firm’s

owner, wants to develop cost estimates that she can use to prepare bids on jobs. After analyzing
the firm’s costs, Cairns has developed the following preliminary cost estimates for each 1,000
square feet of landscaping. Direct
material .............................................................................................................................................
................... $400 Direct labor (5 direct-labor hours at $10 per
hour) ....................................................................................................... 50 Overhead (at $18 per
direct-labor hour) ........................................................................................................................ 90
Total cost per 1,000 square
feet ............................................................................................................................... $540 Cairns
is quite certain about the estimates for direct material and direct labor. However, she is not as
comfortable with the overhead estimate. The estimate for overhead is based on the overhead
costs that were incurred during the past 12 months as presented in the following schedule. The
estimate of $18 per direct-labor hour was determined by dividing the total overhead costs for the
12-month period ($648,000) by the total direct-labor hours (36,000). Total Overhead Regular
Direct Labor Hours Overtime Direct Labor Hours* Total Direct-Labor Hours January ................
$ 54,000 2,910 190 3,100 February .............. 47,000 2,380 20 2,400 March .................. 48,000
2,210 40 2,250 April ..................... 56,000 2,590 210 2,800 May ...................... 57,000 3,030 470
3,500 June ..................... 65,000 3,240 760 4,000 July ...................... 64,000 3,380 620 4,000
August ................. 56,000 3,050 350 3,400 September .......... 53,000 2,760 40 2,800
October ............... 47,000 2,770 30 2,800 November ........... 47,000 2,120 30 2,150
December ........... 54,000 2,560 240 2,800 Total ................ $648,000 33,000 3,000 36,000 *The
overtime premium is 50 percent of the direct-labor wage rate. Cairns believes that overhead is
affected by total monthly direct-labor hours. Cairns decided to perform a least-squares regression
of overhead (OH) on total direct-labor hours (DLH). The following regression formula was
obtained. Required: 1. The overhead rate developed from the least-squares regression is different
from Cairns’ prelimi?nary estimate of $18 per direct-labor hour. Explain the difference in the two
overhead rates. 2. Using the overhead formula that was derived from the least-squares regression,
determine a total variable-cost estimate for each 1,000 square feet of landscaping. 3. Cairns has
been asked to submit a bid on a landscaping project for the city government consisting of 60,000
square feet. Cairns estimates that 40 percent of the direct-labor hours required for the project will
be on overtime. Calculate the incremental costs that should be included in any bid that Cairns
would submit on this project. Use the overhead formula derived from the least-squares
regression. 4. Should management rely on the overhead formula derived from the least-squares
regression as the basis for the variable overhead component of its cost estimate? Explain your
answer. 5. After attending a seminar on activity-based costing, Cairns decided to further analyze
the company’s activities and costs. She discovered that a more accurate portrayal of the firm’s
cost behavior could be achieved by dividing overhead into three separate pools, each with its
own cost driver. Separate regression equations were estimated for each of the cost pools, with the
following results. OH1 = 10,000 + 4.10DLH, where DLH denotes direct-labor hours OH2 =
9,100 + 13.50SFS, where SFS denotes the number of square feet of turf seeded (in thousands)
OH3 = 8,000 + 6.60PL, where PL denotes the number of individual plantings (e.g., trees and
shrubs) Assume that 5 direct-labor hours will be needed to landscape each 1,000 square feet,
regardless of the specific planting material used. a. Suppose the landscaping project for the city
will involve seeding all 60,000 square feet of turf and planting 80 trees and shrubs. Calculate the
incremental variable overhead cost that Cairns should include in the bid. b. Recompute the
incremental variable overhead cost for the city’s landscaping project assuming half of the
60,000-square-foot landscaping area will be seeded and there will be 250 individual plantings.
The plantings will cover the entire 60,000-square-foot area. c. Briefly explain, using concepts
from activity-based costing, why the incremental costs differ in requirements a and b.

Answer:

a. The incremental variable overhead cost for the city's landscaping

project involving seeding all 60,000 square feet of turf and planting 80
trees and shrubs is $85,800.

b. The incremental variable overhead cost for the city's landscaping

project assuming half of the 60,000-square-foot landscaping area will
be seeded and there will be 250 individual plantings is $89,350.

c. The incremental costs differ in requirements a and b due to the

different activities involved in each scenario. In activity-based costing,
costs are allocated based on the activities that drive them. In scenario
a, the cost is driven by the seeding of the entire area and fewer
plantings, while in scenario b, the cost is driven by the seeding of half
the area and more individual plantings.

Explanation:
a. Using the overhead formulas, we calculate the overhead costs as
follows:

OH1 = 10,000 + 4.10*(5*60) = $13,100, OH2 = 9,100 + 13.50*60 =

$18,200, and OH3 = 8,000 + 6.60*80 = $8,280. Adding these gives the
total overhead cost of $39,580. Adding this to the direct material and
labor costs ($400 + $50) * 60 = $27,000 gives a total cost of $66,580.

b. For the second scenario, we calculate the overhead costs as

follows:

OH1 = 10,000 + 4.10*(5*60) = $13,100, OH2 = 9,100 + 13.50*30 =

$13,650, and OH3 = 8,000 + 6.60*250 = $9,650. Adding these gives the
total overhead cost of $36,400. Adding this to the direct material and
labor costs ($400 + $50) * 60 = $27,000 gives a total cost of $63,400.

c. The difference in costs between the two scenarios is due to the

different activities involved. In activity-based costing, costs are
allocated based on the activities that drive them. In the first scenario,
the cost is driven by the seeding of the entire area and fewer
plantings, while in the second scenario, the cost is driven by the
seeding of half the area and more individual plantings. This results in
different overhead costs for each scenario.