The departmental overhead rate is an expense rate calculated for each department in a factory production process. The departmental overhead rate is different at every stage of the production process when various departments perform selected steps to complete the final process. Show
By breaking up overhead costs for individual business sections rather than having a company-wide rate, management can assess corporate inefficiencies more accurately and take more specific action. What Does the Departmental Overhead Rate Tell You?An overhead rate, in managerial accounting, is an additional cost added on to the direct costs of production in order to more accurately assess the profitability of each product. To allocate these costs, an overhead rate is applied that spreads the overhead costs around depending on how much resources a product or activity used. For example, overhead costs may be applied at a set rate based on the number of machine hours required for the product. In more complicated cases, a combination of several cost drivers may be used to approximate overhead costs. The departmental overhead rate is specific to every segregated step in the entire process. For example, if a company makes bread, different departmental rates could be used for the actual production/manufacturing line and the bagging process. Cost-cutting, efficiency and productivity are standard elements of a strong corporate performance methodology. Analysis and benchmarking of departmental overhead rates is an effective way to measure success. Comparisons between competitors, as well as among various internal departments help isolate efforts that are adding value, and those that are destroying enterprise value. No two cost-cutting approaches are the same. Like all things in business, there are pros and cons to the myriad of strategies businesses can utilize. However, by following trends in departmental rates, patterns do emerge highlighting the delicate balance of short-term goals with long-term business requirements. Determining Departmental Overhead RatesDetermining appropriate departmental rates is an area addressed by managerial accounting methods. Managerial accounting is the process of identifying, measuring, analyzing, interpreting and communicating information for the pursuit of an organization's goals. This branch of accounting is also known as cost accounting. The key difference between managerial and financial accounting is managerial accounting information is aimed at helping managers within the organization make decisions, while financial accounting is aimed at providing information to parties outside the organization. In managerial accounting, rather than using one overhead rate to allocate all of the overhead costs, overhead costs can be broken down by departments. Departmental overhead rates offer the flexibility to use a different activity or cost driver for each department. Often, some departments will rely heavily on manual labor while others require more machinery. Direct labor hours can be important to certain departments but machine hours might work better for others. You have to consider more than the cost of the goods or services your company sells when you set prices. A business has a variety of additional costs that must be allowed for when determining prices. A plantwide or single overhead rate is one method for allocating these indirect costs so you can set prices appropriately. Components of OverheadOverhead is the general term for costs a business pays other than the direct costs of producing a good or service. A portion of these indirect costs, such as rent, utilities and office expenses, must be allocated to each unit of production to arrive at an accurate estimate of the total cost of the unit. When a plantwide overhead rate is used, all items produced are allocated a share of the overhead based on a single parameter. Typically, a plantwide overhead rate assigns a cost figure based on the labor hours needed to produce one unit. Gathering Direct and Indirect CostsTo calculate a plantwide overhead rate, you need specific information. First, find the total of all operational costs other than the direct cost of production for the period you are measuring. Typical direct costs are raw materials and direct production labor. Collectively, the indirect costs are your overhead. You also need the total number of direct labor hours and the direct labor hours required to produce each product the plant manufactures. Per unit labor hours can be calculated by dividing the total labor hours used to manufacture each product by the number of units manufactured. Calculating the Plantwide Overhead RateTo calculate the plantwide overhead rate, first divide total overhead by the number of direct labor hours used to find the overhead per labor hour. Next, multiply the overhead per labor hour by the number of labor hours used to produce each unit. Suppose your overhead total for a month is $120,000 and the plant requires 1,500 labor hours to produce 1,000 units of Product A. The plant also produces 2,000 units of product B, using another 1,000 labor hours in the process, for an overall total of 2,500 labor hours. Divided into the overhead of $120,000, this comes to $48 in overhead per labor hour. Product A requires 1.5 hours per unit, so the overhead rate is 1.5 times $48, or $72 per unit. For product B, two labor hours are needed per unit, so the overhead per unit equals two times $48, or $96. An Alternative Approach Using Direct CostAnother approach to calculating a single or plantwide overhead rate uses direct cost as a basis, rather than direct labor hours. To calculate this number, identify the total direct cost of production and the total overhead costs for the month. Divide the total overhead by the direct costs. For example, if overhead totals $75,000 for a month and direct costs equal $125,000, you have an overhead rate of 0.6 or 60 cents of overhead for every dollar of direct costs. Multiply the direct cost of one unit by 0.6 to find the amount of overhead you should allocate per unit. In this example, if the direct cost of one unit of a product is $80, multiplying $80 by 0.6 gives an overhead cost allocation of $48. References Writer Bio Based in Atlanta, Georgia, W D Adkins has been writing professionally since 2008. He writes about business, personal finance and careers. Adkins holds master's degrees in history and sociology from Georgia State University. He became a member of the Society of Professional Journalists in 2009. What is Berly's plantwide overhead rate?Berly's is using a single plantwide over- head rate to allocate its annual manufacturing overhead cost of $1,746,000 and total machine hours run totaled 18,000 hours.
When a plantwide factory overhead rate is used?Plantwide Overhead Rate Method The plantwide overhead rate method is practical when (1) overhead costs are closely related to production volume, or (2) a company produces only one product. The plantwide method is applied as follows: 1. Total budgeted overhead costs are combined into one overhead cost pool.
What is an acceptable overhead rate?As a general rule, it's best to make sure your business doesn't exceed a 35% overhead rate, but there's no cut-and-dried answer to what your overhead should be.
Is plantwide overhead rate the same to predetermined overhead rate?The plantwide allocation method uses one predetermined overhead rate to allocate overhead costs.
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