Misclassification of Direct Expense as Overhead

Steps:

• Prime cost includes direct materials, direct labor, and direct expenses like carriage on raw materials.
• Treating carriage as factory overhead excludes it from prime cost, understating it.
• Factory overhead includes indirect costs; this misclassification adds the carriage there instead.
• Cost of production = prime cost + factory overhead; the amount remains included, so no net effect.

Why C is correct:

• Prime cost formula omits the direct carriage expense, understating it, while cost of production formula absorbs it fully in overhead.

Why the others are wrong:

• A: Prime cost is understated, not overstated.
• B: Prime cost is understated; cost of production unaffected.
• D: Cost of production is unaffected, not understated.

Final answer: C