Q1TIAT - Horngren'S Financial And Managerial Accounting

Question

Granite Construction Incorporated is a major construction firm whose projects include roads, highways, bridges, dams, tunnels, mass transit facilities, and airports. Suppose Granite Construction wants to bid on a project to construct a bridge in Nevada. Estimators have projected the expected direct materials costs to be \(55 million and the direct labor costs (including design and construction) to be \)30 million. The company uses a predetermined overhead allocation rate of 50% of direct labor costs and a markup of 20% of total costs.

Requirements

1. What items would most likely be included in direct materials?

2. Calculate the estimated direct costs, the indirect costs, and the total costs for the project.

3. What amount should Granite Construction bid for the project?

4. Why does Granite Construction include both direct and indirect costs when calculating the markup?

Step-by-Step Solution

Answer

1. In the case of the construction company, the direct material includes concrete, sand, and steel. 

 

2. The estimated direct cost is $85 million, the Indirect cost is $15 million and the total cost for the project is $100 million

 

3. The Bidding price for the project is $120 million  

 

4. Granite construction includes both direct and indirect costs while computing the markup. The markup is the profit on the project that covers all the costs incurred while completing the project. 

Step-by-Step Solution: Step 1: Construction companies

Construction is engaged in the activities of constructing buildings, bridges, flyovers, etc. The construction companies work on a contract basis. 

Step 2: Direct material

Direct material means the material used by the company in the manufacturing or construction process. It is different for a different company based on the nature of the business. In the case of construction companies, concrete, steel, etc., are considered  direct materials.

Step 3: Estimated direct cost

$\begin{array}{c} \mathrm{Direct} \mathrm{cost}=\mathrm{Direct} \mathrm{material}+\mathrm{Direct} \mathrm{labor}\\ =\$55,000,000+\$30,000,000\\ =\$85,000,000\end{array}$

Step 4: Estimated Indirect cost

$\begin{array}{c}\mathrm{Indirect} \mathrm{cost}=\mathrm{Direct} \mathrm{labor} \mathrm{cost}\times 50\%\\ =\$30,000,000\times 50\%\\ =\$15,000,000\end{array}$

Step 5: Total cost of the project

$\begin{array}{c}\mathbf{Total}\mathbf{ }\mathbf{ }\mathbf{cost}\mathbf{ }\mathbf{=}\mathbf{ }\text{}\mathbf{Directcost}\mathbf{+}\mathbf{Indirectcost}\\ =\$85,000,000\times \$15,000,000\\ = \$100,000,000\end{array}$

Step 6: Biding price of the project

$$\begin{gathered} \mathbf{Bi}\text{d}\mathbf{ding}\mathbf{ }\mathbf{price}\mathbf{=}\mathbf{Total}\mathbf{ }\mathbf{cost}\mathbf{+}\mathbf{Markup} \\ \mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{=}\mathbf{\$}\mathbf{100}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}\mathbf{+}\mathbf{(}\mathbf{\$}\mathbf{100}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}\mathbf{\times }\mathbf{20}\mathbf{\%}\mathbf{)} \\ \mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{ }\mathbf{=}\mathbf{\$}\mathbf{120}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000} \end{gathered}$$

Step 7: Markup

Markup means the amount earned on the sale of the product. It is the amount on and above the total cost incurred in manufacturing the product. It is an income; hence it covers both direct and indirect costs.