Such sub-divisions are referred (i) Rent, rates and Allocation is the charging of overheads directly to one cost center. These expenses are wages paid to indirect workers, contribution to provident funds or any social security scheme, depreciation, normal idle time wages etc. If the target is higher, the unit cost reduces indicating higher efficiency. The factory overhead is first apportioned to the different machines or groups of machines. place. (i) It segregates factory overhead costs and computes the total cost of each service departments. 3. The typical procedure for allocating overhead is to accumulate all manufacturing overhead costs into one or more cost pools, and to then use an activity measure to apportion the overhead costs in the cost pools to inventory. depreciation (as a whole) semi-variable. (iii) Ascertaining Marginal Cost: Decision Making: A number of decisions of management depend upon a Some examples of overheads that can be allocated directly are indirect materials, indirect labour etc. Therefore this method takes into consideration both direct materials and direct wages for the absorption of overhead. Fixed overheads are stated to be uncontrollable in the sense that they are not influenced by managerial Thus, it is useful only when compared with the established norms or standards. <> However, it should be noted that an expenditure is fixed within specified limit relating to time or This will relate to how the cost has been incurred. factory buildings. State the accounting and control of administrative, selling and distribution overheads. The indirect nature of overheads means that they need to be shared out among the cost units as fairly and as accurately as possible. The process of classification of overheads involves: (a) the determination of the classes or groups in which the costs are sub-divided; and insurance of You are given the following information in respect of overheads in a factory: In this method the overheads of each service department is allocated only to other service department in the given basis or ratio. Electric lighting Number of light points or areas. Direct Materials 30,000 35,000 45,000 - - - 1,10, (vi) Operators salary paid to the works manager of the factory, factory rent, general managers salary etc. Discuss the meaning and treatment of under-absorption and over-absorption of overheads and apply the same in cost computation. Repairs & Maintenance Actual repairs or hours worked by the Machines. Wherever possible, the overheads are to be allocated. If we charge $5,000 to Department X and $5,000 to Department Y, this might be unfair as the Department Y is more production intensive than Department X. 2. ii. This method is not suitable if the workers are paid on piece rate basis. Where labour is not the main factor of production, absorption of overheads is not equitable. Service department Q 300 600 1,500 600 3, Service department P 180 240 120 600 60 of working hours 1,000 2,500 1, It is also possible that expenses of one service department may Expenses directly incurred in the departments which are jointly incurred for several departments have also to be apportioned e.g. An overhead cost is defined as expenditure on labour, materials or services that cannot be economically identified with a specific saleable cost unit. Direct labour hours Works managers remuneration, general overtime service departments to another service department. In this case the budget or estimate expenses will 3. Material prices are often subject to considerable fluctuations which are not accompanied by similar changes in overheads. repairs and This method is known as cost apportionment. Such departments render services such as repairs, maintenance, electricity, etc. Therefore, it is true to indirect material, indirect labour and the indirect expenses incurred in the respect of carrying out the production. be as follows: xn@HYDt,][,. y6iU%1h7.8BJnJFsh]\]@o/.\E| ;3_|htsA1$h3@.|iB4@W}_c2J2Q"b%AHo47T#SE} Sometimes, the basis will be the Ability to pay method, i.e., ability of the department to bear such share of items of overheads. Chemistry investigatory project on ions in toothpaste, 15EC35 - Electronic Instrumentation - Module 3, IT(Intermediary Guidelines and Digital Media Ethics Code) Rules, 2021 English, Accounting treatment and control of Direct General expenses Direct Wages or No. An. adjustment items which do not result from cash outlays are taken from subsidiary records. department contribution, general welfare expenses, compensation and other fringe benefits, supervisions etc. Production departments are those departments where actual process of manufacturing is carried on. Apportionment P1 P2 P3 Office Stores Workshop. iv. Example: Stores, cost office, personnel dept. This is a huge amount that needs to be considered when costing the products and making pricing decisions, so that this expenditure can be recovered from the sales income. (ii) Insurance 1, <> After that the total costs are distributed among production departments on the basis of given percentages. Light points for lighting. Machinery 300 350 250 - - 150 1, The next service department is taken up and its material issue analysis sheet is prepared from store requisitions. For example, the whole of overtime wages paid to the workers relating to a particular department should be charged to that department. costs (or variable costs) afford a number of advantages, in fixing prices in a special market, for a special of Machinery Machine Hours Worked, 20,000 25,000 30,000 30,000 35,000 45,000 2,000 3,000 3,000 3,000 3,000 4,000 200 250 300 30,000 35,000 25,000 15 20 25 10,000 20,000 15,000, 75,000 1,10,000 13,000 35,000 1,250 1,05,000 65 50,000. Heating Floor area occupied or technical estimate. (iii) Depreciation, Basis of apportioning overhead expenses: It is stated that the total overhead expenses of a department comprises direct overhead expenses incurred in the departments itself as well as the apportioned overhead expenses of other service departments. Similarly, wages of service department S is to be allocated to Department S only. (iii) Sub-contract or outside work, if jobs are sent out for special processing. wages 3,373 4,217 5,060 ( - ) 12,650 - - The functional classification divides the overheads in the following manner : 1. are incurred for the factory as a whole, and, therefore, these will have to be apportioned overall the departmentsboth Production as well as Service. (iv) Salesmans commission if it is based on the value of units sold. Plagiarism Prevention 5. capacity of the business. <> (iv) Sundry expenses ii. = 7,176 - (2,088 x 2) Whereas spreading common overheads over different cost centers on a fair basis is called apportionment. of hours devoted by Supervisor. Indirect labour is obtained in the first place, from the time cards and pay rolls. Apportionment of overheads: are cost which can't be attributable to a specific department, cost center or activity. These overhead costs are partly fixed and partly variable. For i. appropriate word: Royalties payable on use of Patents, Copyrights etc. on some equitable basis. endobj Copyright 10. The figures in the illustration given in the beginning under simultaneous equation method may be treated as below: Solve previous illustration according to Repeated Distribution Method. Required fields are marked *. Horse power of machines or machine When material cost forms a greater part of the cost of production. Here, the cost of service department means the apportioned overheads plus direct materials plus direct labour and direct expenses of concerned service department. No. The following basis are most commonly used for apportioning items of overhead expenses among production and service departments. Total H. of Machinery 15 20 25 - - 5 65 (ii) Variable overheads. may be estimated on the following three basis. Content Guidelines 2. There is no hard and fast rule regarding classification of expenses into direct and indirect. (v) Comparison by period or level of activity method: Under this method output and expenses at two Methods of Apportionment of Service Department Overheads! Overheads can be divided into the following categories on functional basis: (a) Manufacturing or production or factory overheads: Manufacturing overheads includes all, Lesson 4 Direct Expenses and Overheads 153. labours Under this method service department overheads are charged to production departments on the basis of potential rather than actual services rendered. iii. The following problem will exemplify the method. This method also makes no distinction between work done by machines and that done by manual labour. This website uses cookies and third party services. ii. For example, a carpentry unit which does repairs of furniture and fittings may be engaged to manufacture packing boxes. is compared with the amount of expenses incurred at these different periods. 3. rates, taxes, depreciation, maintenance, insurance charges of the building etc. Stores O. material 3,573 4,168 5,359 - (-)13,100 - -. equipment and both categories, i. producing and service departments. Primary distribution involves apportionment or allocation of overhead to all departments in a factory on logical and rational basis. Overheads, Methods of segregating semi-variable <> possible to place these departments into a particular category, since they fall within the purview of IAS 1 Presentation of Financial Statements, Charging to overhead to specific department, If OH relate to more than one department then they are apportioned on suitable basis, Apportionment is made on reasonable basis like area, number of employees, Service departments like canteens offer services but do not have production, Cost of these services center is charged to production centers, Secondary apportionment can be made by three ways: elimination, repeated distribution, algebraic methods, Simultaneous Equation Method When there are only two service departments. Reapportionment and OAR are explained separately. This method does not distinguish between work done by skilled and unskilled workers, as unskilled workers take more time and thus give rise to more factory expense than skilled workers. The relationship between fixed and variable cost can be illustrated on the basis of the Canteen subsidy or expenses, pension, medical expenses, personnel department expenses, cost of recreational facilities. Expenses of works canteen, welfare, personnel department, time-keeping etc. ii. The following steps are involved in this method: (i) Apply the given percentages to distribute the primary total of first service department. research center. The distribution of different items of overhead in different departments is attempted on some Fixed expenses = Mean expenses (Mean output Variable charges per unit) material and direct labour. iv. building and A manufacturing company has three production departments and two service departments. Cost is directly allocated to any cost centre or cost units. A comprehensive or composite machine hour rate can also be computed by including wages of the machine operator to the total overheads allocated to the machine. economically identified with a specific saleable cost unit. Therefore, this method gives stable results. based prices to generate a specified return This rate is not affected by the method of wage payment i.e., time rate or piece rate method. For example, as it generally costs more to rent and heat a big room than a small one, floor space is the most appropriate basis of apportionment for rent and heat. factory After this is done, the cost of service department serving the next largest number of department is apportioned. Apportionment is done in groups. Algebraic approach. methods: (i) Graphical Presentation Method: Under this method, a good number of observations in respect of the Lowest 1,500 6, % These fair bases are: The formula to apportion the total cost of overheads to a specific cost center is: Apportionment to cost center = (Total overheads / Total number of bases) x Specific cost centers base. of purchase orders or value of materials purchased. The following points highlight the top two methods of apportionment of overheads. (e) According to production hours of direct labour. In apportionment, the cost of overheads is spread over different cost centers on a fair basis. The guidelines or principles which facilitate in determining a suitable basis for apportionment of overheads are explained below: 1. To understand this, lets take an example of a business that produces two types of products, A and B. CHAPTER 4 5. A department may be either production department or service department depending upon the nature and function. process is continued until the balancing figure becomes nil. This principle states that the apportionment of common overhead items should be based on the actual benefit received by the respective cost centers. Distinctive features of indian and western political thought. corresponding costs on the Y-axis. apportioned to x will continue to be repeated till amount involved becomes negligible. Carrying amount of assets For Depreciation, maintenance and insurance of plant and machinery, Kilowatt hours consumed For electricity and power, Machine hours For Machines running expenditure. Methods of Segregating Fixed and Variable Overhead Elements Selling and Distribution Overheads Administration Overheads Manufacturing Overhead Primary and Secondary Distribution of Overhead Single Overhead Rate and Multiple Overhead Rates Types of Capacity Levels Absorption Overheads Under-Absorption and Over-Absorption Treatment of Certain Items Each stores requisitions note specifies the standing order Total overheads Direct labour hours. On the basis of the above survey the apportionment is made. Following points should be considered for primary distribution of items of overheads: (i) Basis for distribution should be equitable and practicable; (ii) Method adopted for distribution should not be time-consuming; (iii) Overhead expenses should be distributed among different departments on the basis of benefits received by departments; For the purpose of primary distribution, a departmental distribution summary is prepared in the following way: Basis of Apportionment of Factory Overhead: 1. Insurance Machine value considering insurance period. This rate is obtained by dividing the overhead expenses The reciprocal service to C is ignored as, by now, it is not material. (ii) Repeated distribution method: This method does not take into account factors other than labour. It is to be carefully noted that at the time of making primary distribution, the distinction between production and service departments is ignored. Prohibited Content 3. This may be through allocation or absorption. the total cost of direct material and direct labour. Service department P 1,200 1,600 800 4,000 400 production departments on a suitable basis. On the basis of this the actual or predetermined rate of manufacturing overhead absorption is computed by dividing the overhead to be absorbed or apportioned by the predetermined direct wages and multiplying the result by 100. i. (d) According to number of workers employed. office, (ii) lighting, heating and heating of The business spends $10,000 for the rent of the factory in which the production takes place. maintenance of This criterion has the greatest applicability in cases where overheads costs can be easily and directly traced to departments receiving the benefits, e.g., in case of a machine shop, a record of services utilised by each department can be kept by maintaining proper job cards. product or salable service.. incurred during the accounting period by the actual quantum (quantity/value) of the base selected. service departments but, then, the expenses of the service departments are apportioned among the Apportionment of Overheads: Certain expenses such as General Manager's salary, rent of the factory etc. Methods to Calculate the Overhead Absorption Rate Various methods exist to calculate overhead absorption. Image Guidelines 5. worked out as follows: Output Indirect Under this method specific criteria are laid down after careful survey for apportionment of charge for different service functions. As many of the overheads also vary with time, this method produces satisfactory results. <> Rent Area 2,000 2,500 3,000 1,500 1,000 2,500 12, Therefore, the common expenses have to be apportioned or distributed over the departments on some equitable basis. Overheads which are not directly identifiable with any particular production or service cost centres are distributed over the department cost centres on some equitable basis of machine Hours or Labour Hours or No. The business also has to recover the cost of these overheads and needs to include them in the cost of the product. element of cost per unit, c represents the total fixed cost, y represents the total cost and x represents the It is difficult and costly to analyse them and hence treated as indirect expenses, e. nuts, x. Lubricant Oil, cotton waste and consumable stores Machine hour worked in time period or size of machines. of requisitions, quantity or value of materials. There are three methods for dealing with the distribution of inter-departmental services: Under this method, the cost of one service department is apportioned to another service department and the cost of another service department plus the share received from first service department is again apportioned to first service department and this process is continued till the balancing figure is negligible. There are 3 following methods for apportionment of overhead costs on reciprocal basis. (iv) Salary or pay bills. (c) Indirect Expenses: Indirect Expenses: Indirect Expenses: Indirect Expenses: (i) Rent, rates and Variable overhead changes in total but its incidence on unit cost remains constant. Semi-variable (40% fixed) 9, The following factors are taken care of while dividing an organisation into number of departments: (i) Every manufacturing process is divided into its natural divisions in order to maintain natural flow of drawing office incurred for several departments have also to be apportioned e. expenses on rent, power, lighting, Lesson 4 Direct Expenses and Overheads 163. overheads absorption rates are applied. So, the business needs to include $15 ($150,000/10,000 units) to each unit to be able to recover the overheads cost and to avoid a loss. (iv) Stop the process at the point where it is felt that the remaining figure of service department to be redistributed is too small for further distribution. Thus true overhead cost of each service department is ascertained. items is charged or debited to Factory Overhead Control Account and credited to Stores Ledger Control Rate per hour 9 6 5. Cost is allocated when the cost centre uses whole of the benefits of the expenses. The process of redistribution of the cost of service departments among the production departments is known as secondary distribution. Expenses such as depreciation and other (ii) Hire charges of plant if used for a specific job. that too before the concerned period begins (since it is only continuous costing that is found useful) and that, iii. 4. For example, managers salary may be apportioned on the basis of time and attention given by him to different cost centres or the charge for services of cost accounting department may be apportioned to different production departments on the basis of number of workers employed in each department etc. 2. (i) Rent, rates and This costing method is used to allocate, apportion, reapportion and finally absorb the overheads in the cost of the product so that the expenditure can be recovered and it fairly represents the cost to the business of making the product. It deals with the whole items of cost. (i) Rent 12, Services used by other service departments are ignored. <> Delivery expenses Weight, volume or tonne-kilometre. Under this method, expenses of one service department (generally the one which received the least service and gives the maximum service from and to other service departments) are apportioned to all other departments in the proportion of benefit derived by them; then expenses of the next service department are apportioned to the remaining and fixture and expenses like No. 5 0 obj 12 0 obj repairs and The extra amount control. (vi)Floor Area of Departments: This basis is adopted for the apportionment of certain expenses like lighting and heating, rent, rates, taxes, maintenance on building, air conditioning, fire precaution services etc. building, insurance of building, plant etc. When there is no variation in the wage rates of pay. arrive at the estimate by adjusting the variable amount by the expected change in output and the fixed (viii) Welfare staff Machine hour rate is one of the methods of absorbing factory overhead. (b) According to capital values of the assets. apportionment when necessary. It is, therefore, logical that the product cost should bear the equitable share of cost of service department. (ii) Apply the given percentages to the second service department whose total is made up of primary charges plus amount apportioned from Service Department 1. Step method: In this method the cost of most serviceable department is first, apportioned to other service departments and production departments. In modern industrial undertakings, overheads are a very large proportion of the total cost and, therefore, This is used for distributing lighting, electric power, works managers salary, internal transport, steam, water charges etc. An expense which is directly identifiable with a specific cost centre is allocated to that centre. In other words, common expenses have to be apportioned or distributed over the departments on some equitable basis. There are five main steps in dealing with factory overheads in cost accounts: There are seven main sources of cost data relating to factory overheads: These three are meant for collection of indirect materials cost. plant etc. [CDATA[ (ii)Direct Labour/Machine Hours: Under this basis, the overhead expenses are distributed to various departments in the ratio of total number of labour or machine hours worked in each department. Derived Benefit: According to this principle, the apportionment of common item of overheads should be based on the actual benefit received by the respective cost centers. (ii) Departmentalisation of Factory Overheads: The term departmentalisation of overheads refers to the allocation and apportionment of overheads among various departments. charged wholly to a particular department or cost centre, but will have to be charged to all departments or Expenses in relation to a department may be direct but are indirect in For example, Department A incurred $3,000 for the salary of a supervisor that is specifically related to Department A. But things become complex when there are multiple products or departments that require the absorption of overheads. TOS 7. After having collected the overheads under proper standing order numbers the next step is to arrive at the No. Most of the manufacturing process functionally are different and performed by different departments in a To Calculate overhead absorption Rate Various methods exist to Calculate the overhead absorption Rate Various methods exist Calculate. 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