OVERHEADS

Direct costs are easily identified to a cost unit while indirect cost cannot be specifically identified to a
cost unit therefore we must establish a system to determine the overheads that’s attributable to a
unit, service or a job. This is achieved through:
i) Overhead cost allocation and apportionment.
ii) Overhead cost absorption.

Overhead cost allocation and apportionment

Direct costs are charged directly to the cost centre or cost unit without any difficulties. For
overheads this is not the case since case cannot be specifically identified with the cost unit.
This means that exact distribution of units is not possible therefore we calculate amounts of
overheads to be allocated and distributed arbitrary.
After overheads have been ascertained and allocated, they are apportioned in various ways, this is
known as allocation and apportionment of overheads.
Allocation and apportionment of these costs to service and product department is known as primary
Allocation or departmentalization of overheads.
Allocation is the allotment of the whole item of cost to cost centre or cost unit.
We charge the cost centre with those costs that come from the existence of that cost centre e.g. the
office massager salary exist because of the office hence, should be allocated to the office whereas
rent is not specifically for the office hence cannot be allocated it’s apportioned.
Apportment is the allotment using proportions of items of cost to the cost centre therefore it’s the
charging to a cost centre a fair share of overheads.

Overhead apportionment involves:

a) Finding some basis of apportionment that enables overheads to be equitably distributed
between various production and service departments.

Basis of
Apportionment

i) Floor area occupied, to apportion rent and other building expenses e.g. lighting and heating,
fire precaution services etc.
ii) No of employees for canteen expenses, welfare expenses, personnel, office expenses etc.
iii) Direct wages for compensation to workers, provident fund contribution and holiday pay.
iv) Book value for depreciation on plants and machinery, insurance of stock, repair and
maintenance etc.
v) Direct labour hours/machine hours for general overheads.
vi) Technical estimate for power consumption, internal transport, managerial salaries etc.
vii) Units of materials for material requisition, material handling, store keeper, etc.

Example
A company has 4 departments all of them being production department. The following are expenses
for a period of 3 months.

Rent 10,000

Repair 6,000

Power 9,000

Depreciation on plants and machinery 45,000

Lighting 100,000

Supervision 15,000

Insurance of plant 5,000

Employees insurance 15,000

T he following data is also available.

Detail/ Department

A B C D Total

Area in sqr metres 100 200 400 300 1,000

No of employees 10 20 15 30 75

Total wages 1,500 2,000 5,000 800 9,300

Value of plant 12,000 5,000 8,000 3,000 28,000

Required

Overhead apportionment for each department

Item Basis Department

A B C D
2
Rent m 100x10,000 200x10,000 400x10,000 300x10,000
1000 1000 1000 1000
=1,000 = 2,000 =4,000 =3,000

Repair Book value 12000x6000 5000x6000

8000x6000 3000x6000
28,000 28,000 28,000 28,000
2571.43 1071.43 1714.29 642.86
Depreciation Book value 12000x45,000 5000x45,000 8000x45,000 3000x45,000
28 ,000 28,000 28,000 28,000
19285.71 8035.71 12857.14 4821.43
2
Lighting M 100x100,000 200x100,000 400x100,000 300x100,000
1,000 1,000 1,000 1,000
10,000 20,000 40,000 30,000
Supervision No of employees 10x15,000 20x15,000 15x15,000 30x15,000
75 75 75 75
2000 4000 3000 6000
Insurance on plant Book value 12000x5000 5000x5000 8000x5000 3000x5000
280,000 280,000 280,000 280,000
2142.86 892.86 1428.57 535.71
Employees insurance No of 10x15,000 20x15,000 15x15,000 30x15,000
employees 75 75 75 75
2000 4000 3000 6000
Power value of plants 12000x9000 5000x9000
8000x9000 3000x9000
28,000 28,000 28,000 28,000
385 7.14 1607.14
2571.43 964.29
Total 42,857 41,544 68571.43 51,964

Jamii manufacture ltd had 4 production departments. The following data is available.
Department
Item Total cost A B C D
Direct materials 100,000 30,000 40,000 10,000 20,000
Direct labour 50,000 10,000 25,000 7,500 7,500
Indirect labour 200,000
Supervision 140,000
Power 160,000
Rent 280,000
Rates 112,000
Plants insurance 6,000

The following additional information is available

2
Floor area in m 1000 2,500 1,100 600
No of employees 30 50 10 20
Power in K/W 60,000 30,000 3,000 15,000
Units of material liquisition 5,000 6,000 2,000 3,000
Plant value 50,000 40,000 5,000 5,000

Required
Apportion the overheads to various departments and determine total cost of each department.
Overhead absorption Rate = Total overhead
Overhead absorption base

Base Formular
Direct material cost overhead x 100
Material cost

Direct labour cost overhead x 100

Direct labour

Prime cost Overhead x 100

Prime cost

Accumulated cost overhead x 100

Accumulated cost

Machine hours overheads = sh /machine hrs

Machine hours

Labour hours overheads = shs/labour hrs

 Number of labour hours

Number of units Overheads = shs /unit

Number of unit

Item Basis Department

A B C D
Direct material material cost 30,000x100 40,000x100 10,000x100 20,000x100
100,000 100,000 100,000 100,000
30 40 10 20

Direct labour Labour cost 10,000x100 25,000x100 7500x100 7500x100

50,000 50,000 50,000 50,000
20 50 15 15

Indirect labour, No of 30x200, 000 50x200, 000 10x200, 000 20x200, 000
employees 110 110 110 110
54545.45 90909.1 18181.8 36363.6

Supervision, No of 30x140,000 50x140,000 10x140,000 20x140,000

employees 110 110 110 110
38181.8 63636.4 12727.3 25454.5

Power, power in k/w 60,000x160,00030,000 x160,000 3000x160,000 15000x160,000

10,000 10,000 10,000 10,000
88,888.9 44444.4 4444.4 22222.2

2
Rent m 1000x280,000 2500x280,000 1100x280,000 600x280,000
5200 5200 5200 5200
53846.15 134615.4 59230.8 32307.7
Rates, No of employees 30x112,000 50x112,000 10x112,000 20x112,000
110 110 110 110
30545 50909.1 10181.8 20363.6

Plant insurance plant value 50,000x6000 40,000x6000 5000x6000 5000x6000

100,000 110,000 100,000 100,000
3000 2400 300 300
Total cost 269055 387,003 105,088 137,044

REAPPORTIONMENT

Once we have apportioned the overheads to various departments we charge the service department
cost to other departments.

This is very important since the service department offers services to other departments therefore
the cost of service department should be charged to other departments.

This is known as secondary distribution of overheads

The following methods are used:

Repeated distribution method

Simultaneous equation method

Example

ABC ltd is divided into 4 departments namely: detergents, cosmetics, plastics and administration.

The administration department is a service department whose benefit is received by production

departments as follows:

Detergent 30%

Cosmetic 50%

Plastic 20%

The following information was available for the year,

Insurance on plants and machinery 39600

insurance for Warehouse equipment 12400

Building insurance 23000

Depreciation on plant and machinery 123000

Computer maintenance expenses 41300

Staff canteen 37200

Premises rent and rates 168400

Warehouse maintenance 66300

Staff medical expenses 95100

Additional information

Item Detergent Cosmetic Plastics Administration

2
Area in m 700 600 400 300

Value of plant 300000 200000 400000 100000

Value of stock 50000 30000 20000 -

No of employees 120 80 70 30

Computers are installed in administration department and other department has access to them.

Required
 1. Overhead cost for each department

Item Basis Detergent Cosmetic Plastic Admin

3 2 4 1
Insurance plant machinery, /10 x39,600 /10 x39,600 /10 x39,600 /10 x39,600
Value of plants 11,880 7,920 15,840 3,960

1 3 3
Warehouse equip Insurance, /2 x 12,400 /10 x12,400 /10 x12,400 -
Value of stock 6200 3720 2480

Building insurance, Area occupied 700x23,000 600x23,000 400x23,000 300x23,000

2000 2000 2000 2000
8050 6900 4600 3450

3 2 4 1
Dep on plant &machinery, /10 x 123000 /10 x 123000 /10 x 123000 /10 x
123000
Value of plants 36,900 24,600 49,200
12,300
Computer maintenance Assigned - - -
41,300

Premises rent %rate, 700x168,400 600x168,400 400x168,400 300x168,400

Area occupied 2000 2000 2000 2000
58,940 50,520 33,680 25,260

Staff canteen, 120x37,200 80x37,200 70x37,200 30x37,200

no of employees 300 300 300 300
14,880 9,920 8,680 3,720

1 3 2
Warehouse maintenance, /2 x66,300 /10 x 66,300 /10 x 66,300 -
value of stock 33,150 19,890 13,260

Staff med expenses, 120x95,100 80x95,100 70x95,100 30x95,100

no of employees 300 300 300 300
38,040 25,360 22,190 9,510
Totals 208,040 148,830 149,930 99,500
(99,500)

30x 99,500 = 29,850 50x 99,500 =49,750 20x 99,500 = 19,900

100 100 100

Total cost 237,890 19,8580 169,830 0