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Divisional based overhead rate
An overhead rate that is calculated for each division within the company by dividing the total overhead costs for the division by the divisions allocation base
An accounting term that refers to all ongoing business expenses not including or related to direct labor, direct materials or third-party expenses that are billed directly to customers. Overhead must be paid for on an ongoing basis, regardless of whether a company is doing a high or low volume of business. It is important not just for budgeting purposes, but for determining how much a company must charge for its products or services to make a profit.
For example, a service-based business that operates in a traditional white-collar office setting would have overhead expenses such as rent, utilities and insurance. Overhead expenses can be fixed, meaning they are the same from month to month, or variable, meaning they increase or decrease depending on the business's activity level. They can also be semi-variable, meaning that some portion of the expense will be incurred no matter what, and some portion depends on the level of business activity. Overhead can also be general, meaning that it applies to the company's operations as a whole, or applied, meaning that it can be allocated to a specific project or department. These expenses are typically found on a company's income statement.
For cutting division... What is the manufacturing overhead allocation rate?
Machine hours -100,000
Direct labour hours $150,000
Manufacturing overhead costs $350,000
- Overhead costs/Machine hours
- 350,000/100,000 = $3.50 a machine
For assembly division... What is the manufacturing overhead allocation rate?
Machine hours 2,000
Labour costs $750,000
Manufacturing overhead costs 562,500
- Overhead costs/labour costs
- 562,500/750,000 = 75% of labour dollar
When calculating the total cost of a job that using divisional overhead rates you add...
- Direct materials
- Direct Labour
- Other costs
- Calculate manufacturing overhead rate, then multipy by machine hours/ labour hours depending
Why do some companies use two different divisional rates for overhead?
The most common form of overhead allocation employed by accountants used to be to allocate overhead costs to products/services using a company wide overhead rate that is based on total direct labour-hours. However, this may not always accurately reflect the resources consumed in production. For example, some processes may be resource-intensive in terms of space, machinery, people, or working capital. Some processes may be labour-intensive, while others may use differing degrees of technology. To improve the accuracy of the overhead allocation, companies often move from a companywide overhead rate to a divisional-based overhead rate.