Allocating Manufacturing Overhead: Videos & Practice Problems
Allocating Manufacturing Overhead assigns indirect production costs to jobs based on their use of an activity base, rather than splitting overhead evenly across products. Common activity bases include machine hours, labor hours, production cycles, and similar measures of production over time. The key idea is to compare a job’s activity use to the company’s total activity base so overhead is assigned more accurately.
A central tool is the predetermined overhead rate, an estimated rate calculated before production begins: \( \frac{\text{Estimated Total Overhead}}{\text{Estimated Total Activity Base}} \) . This rate tells how much overhead to assign for each unit of activity.
To find applied overhead for a job, multiply the predetermined overhead rate by the job’s actual activity use: \( \text{Applied Overhead}=\text{Predetermined Overhead Rate}\times \text{Activity Used by Job} \) . That amount is then added to direct materials and direct labor to determine total job cost and, if needed, unit cost.
Activity Base & Activity Use
Activity Base & Activity Use
Oak-ay Furniture Company uses a job order costing system to track the cost of each piece of furniture it builds. To fully understand its costs, the company wants to use an activity base that reflects the work required for each job.
Which of the following would be the most appropriate activity base?
Number of employees in the company.
Direct labor hours spent on each job.
The color of the wood stain used.
The number of furniture stores in the city.
Allocating Overhead & Predetermined Overhead Rate
Allocating Overhead & Predetermined Overhead Rate
Prisca’s Print Shop plans to calculate a predetermined overhead rate using machine hours as the activity base.
Managers estimate the following manufacturing overhead costs for the month:
The printing facility lease will cost \$48,000, utilities for the presses are expected to be \$12,000, maintenance for the printing equipment will cost \$9,000, and the factory supervisor’s salary will be \$21,000. The company expects its printing machines to operate 4,500 machine hours during the month.
What is the predetermined overhead rate per machine hour?
\$10 per machine hour.
\$15 per machine hour.
\$20 per machine hour.
\$30 per machine hour.
Applying Overhead & Calculating Total Job Cost & Unit Cost
Applying Overhead & Calculating Total Job Cost & Unit Cost
Prisca’s Print Shop applies manufacturing overhead using a predetermined overhead rate of \$20 per machine hour.
The company is currently calculating the unit cost for Job #204, which involves printing 500 custom event posters for a local business. Job #204 will require 120 machine hours. It will also incur the cost of specialty paper of \$1,200, as well as ink and printing plates of \$300. Direct labor on this job is estimated to cost \$2,000.
Using the company’s predetermined overhead rate, what is the unit cost to produce one poster in Job #204?
\$6.40 per poster.
\$11.80 per poster.
\$13.00 per poster.
\$14.80 per poster.
Here's what students ask on this topic:
The predetermined overhead rate is an estimated rate used to allocate manufacturing overhead costs to jobs before production begins. It helps assign indirect costs based on an activity base, such as machine hours or labor hours. The formula for calculating the predetermined overhead rate is:
This rate tells us how much overhead cost to assign per unit of activity, such as per machine hour. For example, if estimated overhead is \$120,000 and estimated machine hours are 6,000, the predetermined overhead rate would be \$20 per machine hour. This rate is then multiplied by the actual activity used by each job to apply overhead costs accurately.
Allocating manufacturing overhead involves assigning indirect costs to jobs based on their use of an activity base, rather than splitting overhead evenly. First, select an appropriate activity base like machine hours or labor hours that reflects production effort. Then, calculate the predetermined overhead rate by dividing estimated total overhead by estimated total activity base. Next, multiply this rate by the actual activity used by each job to find the applied overhead. For example, if the predetermined overhead rate is \$20 per machine hour and a job uses 50 machine hours, the applied overhead is \$1,000. This method ensures overhead costs are allocated proportionally to the resources each job consumes, leading to more accurate product costing.
Common activity bases used to allocate manufacturing overhead include machine hours, labor hours, production cycles, ride cycles, operating room hours, and procedure counts. The choice depends on the type of company and its production process. For example, a vehicle manufacturer might use machine hours or labor hours, while a hospital might use operating room hours or procedure counts. The key is to select an activity base that accurately measures the production effort or resource consumption over time, so overhead costs can be allocated fairly and reflect actual usage.
To calculate the total cost of a job including overhead, first determine the applied overhead by multiplying the predetermined overhead rate by the job's actual activity use. Then, add the direct materials and direct labor costs for that job. The formula is:
Total Job Cost = Direct Materials + Direct Labor + Applied Overhead
For example, if a job has \$2,000 in direct materials, \$1,500 in direct labor, and \$1,000 in applied overhead, the total job cost would be \$4,500. This total cost helps in pricing decisions and understanding the full cost of producing the job.
Using an activity base to allocate overhead is important because it ensures that indirect costs are assigned to jobs based on the actual resources they consume. Without an activity base, overhead might be split evenly, which can misrepresent the true cost of each job. An appropriate activity base, such as machine hours or labor hours, reflects the production effort or time spent, making overhead allocation more accurate. This leads to better cost control, pricing decisions, and financial reporting.
