Chapter 5 (Oh Cost)

5.1-5.
600
Overhead CostAccounting and Control
5.1
Meaning and Definition of Overheads 5.1
Classification of 0verheads 5.3
Accounting of Overheads
5.6
Apportionment of Service Department Costs 5.6
Secondary Distribution
5.14
Absorption of Factory Overhead
5.16
Methods of Absorption of Factory Overhead
5.23
Administration 0verhead
5.23
Selling and Distribution Overhead 5.24
Under and Over-Absorption of Overhead
5.27
Treatment of Special Items of Overhead
5.30
Problems and Solutions
Examination Questions 5.48
CHAPTER
Overheads
Accounting and Control
Chapter Outline
AMeaning, Classification, Accounting for overhead, Allocation,
Apportionment,
Absorption, Methods of Absorption, Administration overhead, Selling and Distribution
Overhead, Under and over-absorption of overhead, Problems and Solutions, Examination
Questions.
Meaning and Definition of Overheads

It may be recalled that the total cost is broadly divided into direct cost and indirect cost. The
total of all direct costs (i.e., direct matenals, direct wages and direct expenses) is termed as Prime
Cost and the total of all indirect costs (i.e., indirect materials, indirect wages
and indirect expenses) is known as overheads. Overhead is the
Overheads comprise all indirect expenditure. The CIMA of UK has defined aggregate of all
overhead as "the aggregate of indirect materials cost, indirect wages and indirect indirect costs
expenses. "
In the words of Wheldon, "Overhead may be defined as the cost of indirect materials, indirect
labour and such other expenses, including services, as cannot conveniently be charged direct to speciie
cost units. Alternatively, overheads are all expenses other than direct expenses."
According to Bloker and Weltmer, "Overhead costs are the operating costs of a business enterprise
which cannot be traced directly to a particular unit of output.
costs,
Uverhead is also known by other terms like oncost, supplementary costs, non-productive
burden, etc. However, the term overhead is most commonly used.
CLASSIFICATION OF OVERHEADS
Overheadcosts may be classified according to:

(Q) Functions, (b) Elements, and (c) Behaviour.
Classification of Overheads
By Behaviour
By Elements
By Functions
. Fixed overhead
Production overhead Indirect materials
.Variable overhead
Indirect labour
Administration overhead Semi-variable overhead
Seling overhead Indirect expenses
Distribution overhead Overhead
Classification of
FIG. 5.1.
Functions
According to classification are
Classification of this
on the basis works overhead or m
The main groups
Production
of overheads
overhead. It is also known
expenditure
as
incurred in
factory
connection
overhead,
with production
indirect expenses. Unlike
operatinc
diretiis
Anufacturtthe
Examples matetherae
indirect and
overhead. It m e a n s indirect wages
material cost, finished product.t. Examnl
aggregate of factory
indirect
is invisible part of the, of
production
overhead an
power and light, denre
and direct làbour; indirect wages, factory
consumable stores, and factory building. cta
overheads are
plant and
lubricants,
machinery, depreciation of factory

etc.
building,
insurance of plant
storekeepn
expenses, repairs
and maintenance, incurred direction. co
in the
all
This consists of
expenses control n
Administration overhead. financial control) of an undertaking whiekh
and
secretarial, accounting
administration (including functions. Examples are: General mans
related directly to production,
selling and distribution
and printing, office rent
anagem
aand
stationery rent
salaries, audit fees, legal charges, postage and telephone, rates
of office staff, etc.
office lighting and salaries
to create and stimulate demand or of cae
Selling overhead. These are the costs of seeking
to promote sales. Examnl.
secuning
those overhead which are incurred npes
orders. In other words, these are
showTOOm expenses, travelling expenses
Advertising, salaries and commission of sales personnel, bad
debts, catalogues and price lists, etc.
Distribution overhead. It comprises of all expenditure incurred from the time product is complet
in the factory until it reaches its destination or customer. It includes packing costs, carriage outward
delivery van costs, warehousing costs, etc.
Both selling and distribution costs are incured after the production work is over and thus taken
together these are known as 'After Production Costs.
Classification According to Elements
Under this method, the classification is done according to the nature and source of the expenditue.
his method follows logically from the definition of overhead costs. On this basis, expenses
classified under three main groups given below:
(a) Indirect materials. Material costs which cannot be allocated but which are to be apportioned
to or absorbed by cost centres or cost units. Examples are fuel, lubricants, tools for general use, et.
(6) Indirect wages. Indirect wages are those which cannot be allocated but which are
apportioned to absorbed to
or
by cost centres or cost units. Examples are wages of sweeper, 1ate
wages, maintenance and repair wages, leave u
pay, employer's contribution to ESI, etc.
(c) Indirect expenses. Expenses which cannot be allocated but
absorbed by cost centres or cost units are which are to be apportionea toO
indirect expenses. For example, power,
taxes, rates and rent, etc. depreciation, insuld
Classification According to Behaviour
Different overhead costs behave in Variability
or
different ways when volume of e basis
ofbehaviour, overheads may be classified into: production changes. un Cn
fixed or semi-variable overhead. (a) Fixed overhead, (b) Variable overhead, and (9
Fixed overhead. These
volume of output.
overheads remain unaffected or
Examples axe rent and rates, fixed in total amount
ount by
by fluctuatio
stationery, legal expenses, ete.
rucnctage
managerial salaries, building depreciation, postage
Overheads-Accounting and Control 5.3
/ariable overhead. This is the cost which, in aggregate, tends to vary in direct proportion to
anes in the volume of output. Vanable overheads per unit remain fixed. Examples are indirect
changes
indirect labour, salesman's mission,
power, light, fuel, etc.
materials,
Semi-variable overhead. This overhead is partly fixed and partly variable. In other words. costs
volume of production and in part they are constant, whatever be the volume of
vary
in part with the
araduction. Examples: supervisory salaries, depreciation, repairs and maintenance, etc.
Note: Classification according to behaviour was explained in detail in chapter 1.
ACCOUNTING OF OVERHEADSs
direct to the cost centres or cost units without difficulty.
Basic Problem. Direct costs are charged
in overhead costs. Distribution of overhead costs to cost units is one of the
Rut this is not possible
of cost accounting. This is because overhead costs cannot be identified with
most complex problems distribution. Therefore, such costs
individual cost units and there are no accounting means of exact
basis. For example, it
are
and distributed to various cost centres and cost units on arbitrary
analysed
calculate the amount of rent that should be charged to a particular cost
is not possible to exactly
distributed on some arbitrary basis. The cost accountant is constantly
unit and thus, it has to be
overhead costs to units and divisions
searching for equitable bases to distribute Basic problem is
and quite often he needs to exercise his own judgement
of business enterprise rent to various departments of
the most
in this regard. For instance, he may apportion
each such department. Similarly,PPTOpriate
the factory on the basis of area occupied by distribution of
be apportioned on the basis of number of workers
labour welfare expenses may overhead to cost
overhead costs is discussed
in each department. The procedure of distribution of objects
below
Steps in Distribution of Overheads units of

out the overhead cost of individual cost
The tollowing procedure is followed finding
in
production
1. Collection of Overhead under separate headings.
and service departments.
2. Allocation and Apportionment to production departments
to production departments.
3. Re-apportionment of total overheads of each service department
4. Absorption of overhead.
The above steps have been explained in detail in the following pages.
Collection of Overhead accounts. The

various items of overhead under suitable
Collection of overhead means collection of
cost accounts are given below
LnSources from which overhead expenses are collected in
indirect materials issued from stores.
(a) Stores Requisition Notes. For to outside parties for stores as well as other services.
0nvoices. For payments made
indirect workers.
Wages Analysis Book.For wages paid to need some
items which do not involve cash payment and
a) Joumal Entries. For those overhead rent, etc.
outstanding expernses, e.g., depreciation, outstanding
adjustment or those relating to
Distribution)
Hocation and Apportionment (Primarydistribution of overheads to various departments
is
Departmentalisation Overheads. The various
allocation and apportionment of
or
overheads. This is done by
i ems as departmentalisation of
of overhead to various departments.
ost and Managen
5.4 nt Accountino
a cost centre, e.q., to a.
Allocation charging the full amount ofoverhead cost to dep
coat
means
to a process, etc. It has been defined as

"the allotment of whole items of cost to cost
iment
units." Allocation depends on the nature of cost. If a particular item of cost can be easilu i
For example, salary of a foreman in a production ed
a particular cost centre, it is allocated.
can be easily identified and allotted to this department. Similarly,

salary of a timekeeper can e
allotted to time-keeping department. Other examples of items
overtime cost, etc.
which are allocated are indirect
indirect material
depreciation of machinery, idle time cost,
items of cost to cost centres or cost units
Apportionment is "the allotment of proportions of
an item of cost is common to various cost centres,
it is allotted to different cost centres prona"
ated but
n some equitable basis. For example, rent of factory building is not allocated but apu tionate
apportione
various departments on some suitable basis, i.e., area occupied by departments concerned, Sim
one department as he atto
salary of a general manager cannot be allocated wholy to any
general to all the departments. It should, therefore, be apportioned on some equitable basis.
Distinction between Allocation and Apportionment. The distinction
between allocation and apportionment is important to understand. As seen Both alocation
allocation
and
above, the purpose of both cost allocation and cost apportionment is the
apportionnentaae
identification or allotment of items of cost to cost centres or cost units.Pportionment
distribution o5of
However, the main difference between the two procedures lies in that whilesrDution
allocation deals with whole items of costs, apportionment deals with proportions overhead to
of items of cost. Allocation is a direct process but apportionment may be made various
only indirectly and for which suitable bases are to be selected. Whether an departments.
item of cost can be allocated or apportioned does not depend upon the nature
of cost but upon its relation with the cost centres or cost units to which it is to be charged.
Overheadsshould always be allocated, as far as possible. If an overhead cannot be allo.cated, iti
apportioned. This involves finding some basis of apportionment that will enable the overhead to
equitably shared between various production and service departments.
Production and Service Departments

Departments classified into production and service department. A
are
production department 15 01
that engages in the actual manufacture of the
product by changing the shape, form or nature
material
or by assembing the parts into finished product. Examples of production departmens
melting shop, weaving department, spinning department, ginding department, etc. A senvice ent
on the other hand, is one depart

rendering a service that contributes in an indirect manner to the manula
of the product but which does not itself
change the shape, form or nature of material that is cov
into the finished product. Examples are labour welfare
department, canteen, etc.
department, purchasing department, accou
Basés of Apportionment of Overhead
Different items of overhead are
apportioned es
on different bases. Some of the common
apportionment of different items of overhead are illustrated in the following table
Overhead Cost
Bases of Apportionment
I. (i) Rent and other building expenses Floor area, or
() Lighting and heating Volume of department
(ii) Fire precaution service
iv) Air condition
Overheads-Accounting and Control
5.5
2.(i) Fringe benefits

(ii) Labour weltare expenses Number of workers
(ii) Time-keeping
(iv) Personnel office
() Supervision
3.(i) Compensation to workers
(it) Holiday pay Direct wages
(ii) ESI and PF contribution
(iv) Fringe benefits
4. General overhead
Direct labour hours, or
Direct wages, or Machine hours
5. (i) Depreciation of plant and machinery
(ii) Repairs and maintenance of plant and Capital values
ii) Insurance of stock machinery
6. (i) Power/steam consumption
(i) Internal transport Technical estimates
i) Managerial salaries
7. Lighting expenses
No. of light points, or Area
8. Electric power
Horse power of machines, or Number
of machine hours, or Value of
9. (i) Material handling machines
") Stores overhead Weight of materials, or Volume of
materials, or Value of materials
It should be noted that some overheads in
the above list be
Dasis. Thechoice of an appropriate basis is can
apportioned on more than one
a really matter of judgement. For example, welfare expenses
nay be apportioned on the basis of number of employees or total
DE
apportioned on the basis of number of wages. Similarly lighting expenses may
For
light points in each department or on the basis of
floor area.
allocation and apportionment of
5
prepared as explained in overhead, a statement called 'Overhead
Distribution Summary'
Nlustration 5.1.
lustration 5.1
dula Co. Ltd. has three production deptts. A, B and C and two service
Ang hgures are
extracted from the records of the company: deptts. D and E. The
Rent and Rates

Indirect Wages 5,000 General Lighting
600
Dep. of Machinery 1,500 Power
1,500
10,000 Sundries
The 10,000
following further details are available.
Hoor space Total B C D E
Light points (Sq. ft.) 10,000 2,000 2,500 3,000 2,000 500
Direct wages R)
H.P. of machines
60 10 15 20 10 5
10,000 3,000 2,000 3,000 1,500 500
Value of 150 60 30 50 10
Apportionmachinery
the costs(
E
Costs to varnous
2,50,000 60,000
departments on the
80,000
most
1,00,000
equitable basis.
5,000 5,000
(B.Com.)
nt Accoe
Cost and Managenment Accounting\
5.6
SUMMARY
DISTRIBUTTON
Solution PRIMARY
DEPARTMENTAL
Basis of apportionment
Total
Producing Deptts.
Servie
Item B C D
Deplts. A
1,500
2,000
1,250 1,500 1,000 50
Direct wages
Actual
5,000 1,000
150 200 100 250
Rent and Rates Floor space 600 100
300 450 225
Light points 450
General lighting 1,500 500 100
Direct wages 600 300
Indirect wages 1,500
H.P. of machines 3,200 4,000 200
Power 10,000 2,400 200
Value of machines
2,000 3,000 1,500 500
Dep. of machinery 10,000 3,000
Sundries
Direct wages 9,650 4,625
30,600|7,550 7,200 1,575
Total departmental overhead
DEPARTMENT COSTS
APPORTIONMENT OF SERVICE
(Secondary Distribution)
to production Apportionment of
been allocated and apportioned
Once the overheads have the service
and totalled, the next step is to re-apportion
and service departments This is necessary because
to production departments. department
service department costs cost units pass overheads to
is to charge overheads to cost units, and no
our ultimate object must
Therefore, the costs of service departments production
through service departments. departments is
be charged to production departments.
There are various methods of apportionment of
service department overheads. called secondary
These methods are shown in the following chart:
distribution.
Apportionment of Serviçe Department Overheads
Apportionment to Production Apportionment to Production
departments only. as well as other Service departmens
Non-reciprocal basis Reciprocal bas
Repeated
Simultaneous
Equations Method Distribution Meth
(1) Apportionment to Production Departments only. Here the total amount of S e r m i e
department is distributed to only production department. Some of the eaand Donmen
important bases of appo

of service department overheads are
given below:
Service Department
Basis of Apportionment
1. Purchase Department
(a)Value of materials purchased
2. Time office
(6) No. of orders placed
Personnel Department (a) No. of employees
(b) Wages paid
(c) Labour hours
Canteen (a) No. of employees

3.
Labour Welfare (b) Wages paid
Accounts Office (a) No. of employees
4.
(b) No. of time cards handled
5. Laboratory (a) Testing laboratory hours
(b) Units of output
Maintenance Department No. of hours worked in each department.
6.
Itlustration 5.2
for the half-year ended 30th
The following data were obtained from the books of Glaxo Company
September, 2012. Prepare an overhead distribution summary
Production Departments Service Departments
X Y
B
5,000 1,000 1,000

7,000 6,000
Direct wages
1,500 1,000
Direct materials 3,000 2,500 2,000
150 150 50 50
Nos. 200
Employees
8,000 6,000 6,000 2,000 3,000
Electricity Kwh.
15 5 5
Nos. 10 15
Light points 10,000
30,000 20,000 10,000
Assets values 50,000
600 200 200
800 600
Area occupied Sq. yds.
Theexpenses for 6 months were:
Depreciation 6,000
Stores overhead 400
Repairs and maintenance 1,200
Motive power 1,500
General overheads 10,000
200
Electric lighting Rent and taxes
600
Labour welfare 3,000
and that of department Y in
X in the ratio of 4 : 3: 3
APportion the expenses of Department (B. Com., Mysore)
to department A, B and C, respectively.
proportion to direct wages,
5.8 Cost andManagemen
Solution:
OVERHEADS DISTRIBUTION SUMMARY
Basis of ApportionmentTotal Production Deptts.

Item
Deptts.
Service
A B
Wages Direct (as given) 2,000 1,000 1,00

Materials Direct (as given) 2,500 1,500
120 100 80
1,00
Stores overheads Materials consumed 400 60 4n
Motive power K.W.H. 1,500 480 360 360 120
180
Lighting No. of points 200 40 60 60 20 20
Labour welfare No. of employees 3,000 1,000 750 750 250 250
Depreciation Assets value 6,000 2,500 ,500 1,000 500 500
Repairs and Assets value 1,200 500 300 200 100 100
maintenance
General overheads| Wages paid 10,000 3,500 ,000 2,500 500 500
Rent and taxes Area occupied 600 200 150 150 50 50
Total 27,400 8,340 6,220 5,100 4,100 3,640
Department X 4:3:3 1,640 1,230 1,230 - 4,100
Department Y Direct Wages (7:6:5) 1,416 1,213 1,011 - 3,640

Total
- 27,400 11,396 8,663 7,341
(2) Apportionment to Production as well as Service Departments. Quite often, a serve
department renders service not only to production department but also to other service departments
For example, maintenance
department looks after not only the plant and machinery of produeton
department but also the equipment of other service departments like power-house, material handung
etc. Similarly power-house supplies electricity not only to
service departments like canteen, maintenance production departments but also to ou
department, etc. This type of inter-service departe
apportionment may be either on reciprocal basis or non-reciprocal basis.
Non-reciprocal Distribution (Step Ladder Method)
This is done when various service
department provides its services to otherdepartments
servce
are not
interdependent. This means a Tom
service departments but does not
that service department. In such a receive any Servi
case if there are two service
department which renders service to other service service departments, the coOst
0Thenthe
cost of the other service departmnt should be apportioned
first.
other service department will comprise of its own cost plus share
department. For example, there are two service allotted to
me
provides its services to Y and other departments X and Y. X dedo
service to production departments. On the other hand, Y does not
X department
but only to production P
department. This is illustrated below
Illustration 5.3
Calculate the overheads
departments applicable to production department A and B. VO S e r v i t
X and
service to A and B Y.as renders service worth 7 12,000 to Y and balance
X There are also Tendes
9 1. to A and B as *
A B X Y
Floor space (sq. feet) 5,000 4,000 1,000 2,000

Assets ( 7 in lacs) 10 3 1
H.P. of machines 1,000 500 400 100

Number of workerIs 100 50 50 25
Light points 50 30 20 20
Expenses are:
Depreciation 1,90,000
Rent, rates, etc. 36,000
Insurance 15,200
Power 20,000
Canteen expenses 10,800
Electricity 4,800
(B. Com., Madras)
Solution:
OVERHEADS DISTRIBUTION SUMMARY
Expenses Basis Total Production Deptts Service Deptts.

4 B
Depreciation Asset value 1,90,000 1,00,000 50,000 30,000 10,000

Rent, rates, etc. Foor space 36,000 15,000 12,000 3,000 6,000
Insurance Asset value 15,200 8,000 4,000 2,400 800
Power Horse power 20,000 10,000 5,000 4,000 1,000
Canteen exp. No. of workers 10,800 4,800 2,400 2,400 1,200
Electricity 4,800 2,000 1,200 800 800
Light points
Total 2,76,800 1,39,800 74,600 42,600 19,800
Deptt. X Allocation 18,360 12,240 -) 42,600 12,000
Deptt. Y Allocation 28,620 3,180 (-)31,80o
Total 1,86,780 90,020
More Than Two Service Departments

When there are more than two service departments and distribution is to be done on non-
Teciprocal basis, the service departments should be arranged in the descending order of their
serviceability. The cost of the most serviceable department i.e. the department which serves the
largest number of department is apportioned first. The service department which serves the next
largest number of departments is then taken up for apportionment of its cost (including the pro-rated
cost of the first service department). In this way the cost of the third serviceable department is taken
up and this process continues till the cost of the last service department is apportioned. It should be
noted that the cost of the last service department is apportioned only to production departments.
Cost and Management Accoun
5.10
Ilustration 5.4
manufacturing company has two production departments
A
service departmentg
X and Y and three service dena
time-keeping, stores and maintenance. The departmental

wing exne
summary showed the following
expenses fo
October:
Production departments:
16,000
X
10,000 26,000
Y
Service departments:
4,000
Time-keeping 5,000
Stores
3,000 12,000
Maintenance
38,000
The other information is:
Particulars Production Deptts. Service Deptts.
Y Time-keep ng Stores Maintenanmce

No. of employees 40 .30 20 16 10
No. of stores requisitions 24 20 6
Machine hours 2,400 1,600

You equired to make departmental allocation of expenses. (B.Com., Madurai; B.Com. Hons., Jem
Solution
In this problem, service departments are providing services to production department aswel
other service departments. The step ladder method of overhead distribution will be followed. s t
all, overhead of time-keeping department will be apportioned which is providing its serviceso
largest number of department, then stores department expenses will be apportioned and in the le
maintenance department expenses will be distributed. This is shown below:
OVERHEAD SECONDARY DISTRIBUTION SUMMARY
Item Basis Production Deptts. Service Deptls.
Maintenan
Time-keeping Stores
Overhead as per
3,000
Primary Summary 16,000 10,000 4,000 5,000 416
Time-keeping Deptt. | No. of Employees 1,667

Stores Deptt. No. of Store 1,250(-4,000 667
680
Requisitions 2,720 2,267 (-)5,667
Maintenance Machine Hours 2,458 1,638
(4,096
Total 22,845 15,155
Reciprocal Distribution D l e , s e r i t
This method is followed when service

departments are mutually dependent. For
department Arenders service to service department B and C, department B renders examp
a n d
and department C renders service to A and B. Thus each service serviceme

other service department. There are two main methods department receives servicesLtrio nibuti
which are used for reciprocal as

COTlrol
Simultaneous Equations Method 5.11
Simultaneous Equations Method. In thisRepeated Distribution Method.

2Dportionment of overheads. method the algebraic equationsns given below
below help in
help
in the
the
X = a +bY
Y =
a + bX
llustration 5.5
The following particulars relate to a

A.B and C and two service
departments
manufacturing company which has three
X and Y. production departments
Production Deptts. Service Deptts.
A
B
Total Departmental Overhead C X Y
as per Primary Distribution 7 6,300 7,400 2,800 4,500
The company decided to 2,000
charge the service
departments cost on the basis of the
percentages: following
A B
X C X
40% 30% 20 % 10%
Y 30% 30% 20% 20%
Find the total overheadsof production departments by using the following two methods:
(a) Simultaneous equations method.
(b) Repeated distribution method. (B.B.M. Bangalore)
Solution: Simultaneous Equations Method
Let x denote total overhead of service department X
y denote total overhead of service department Y
Therefore, X 4,500 + 20% of y (i)
y 2,000 + 10% of x
x = 4,500 + 0.2y (1)
y 2,000+0.1x
0 Solve the equations, re-arrange these and multiply by 10 to eliminate decimals.
l0x 2y =45,000
.)
-X+10y =20,000
Again multiplying equation (ii) by 10 and adding
10x 2y 45,000
-10x +100y 2,00,000
98y 2,45,000
y = 2,500
x = 5,000
equation.
putting the value of y in the original
E
Value of x is found by
5.12
Cost andManagement Accont.
SUMMARY
SECONDARY OVERHEAD DISTRIBUTION
Items Total Production Departments

B
Total as per Primary Distribution 16,500 6,300 7,400 2,800

Service Deptt. X (90% of 5,000) 4,500 2,000 1,500 ,000
Service Deptt. Y (80% of 2,500) 2,000 750 750 500
Total 23,000 9,050 9,650 4,300
The above method of simultaneous equations gives accurate results. But it the number of servie
departments is more than two, calculations become complicated.
Repeated Distribution Method. The following steps are involved in this method.
(a) Apply the given percentages to distribute the primary total of the first service department.B
charging the amount to other departments, the account of the first service department is closed
(6) Apply the given percentages to the second service department whose total is made up of is
primary charges plus amount apportioned from service department No.1. This closes the acount
ofthe second service department but re-opens the account of service department No.1.
(c) Aprly the same percentage to all other service departments.
() Repeat this process of distribution again starting with service department No. 1 whose total
now consists only of amounts apportioned from other service departments. In this way
service department totals keep on reducing with each process of distribution because each
time a substantial amount is charged to the production
departments.
(e) This process' is stopped at the point where it is felt that the remaining figures are too smal
to be of any consequence.
Though this method produces only approximate results but it can be conveniently applied wnee
the number of service
departments is even more than two.
Example Repeated distribution method has been applied in Ilustration 5.5 as shown below
SECONDARY OVERHEAD DISTRIBUTION SUMMARY
Items
A B C
Total as
Primary Distribution|
per 6,300 7,400 2,800 2,000
DepartmentX 4,500
1,800 1,350 450
900 (-4,500
Y
735 735
X 490 490
2,450
196 147 49
Y
98 (-490
15 15 (-49
10 9
4 3 2 -9
Total 9,050 9,650 4,300
WorkingNote. In the above solution, first of
all the cost of service h a sb e e n
distributed to A, B, C and Y in the

7 450 has been department
X 7 4,500 nt
percentage given.
from service
department X. Now the total cost of service department Yallotted to service depa
is 2,450 i.e.. 7 2,000
L0 450
amount
been
has been allotted to production departments A, B and C and service department X. It
This int of service department X is again opened with 7 490, as a part of the cost of service
ns the account
Tment Y has ibeen allotted to it. Now this 490 of service department X is again distributed to A,
Y has
department
the percentages given. This process goes on till the figures of service department costs
and Xin
B, C amounts.
ate reduced to very negigible
Nate. Both Simultaneous Equations Method and Repeated Distribution Method produce approximately
the same results.
llustration 5.6
three productiOn departments and two service departments. Distribution summary

A company has
ofoverheads is as follows
3,000 234
2,000 2 300
B
C 1,000
follows
are charged on a percentage basis which is as
The expenses of service departments 2
A B C
30% 10%
20% 40%
20% 20% 20%
2 40%
using
Distribute service department costs to production departments
(a) Simultaneous Equations Method. (B.B.M. Bangalore)
Method.
(6) Repeated Distribution
Solution
(a) Simultaneous Equations Method
1
Let x denote total overhead of Service Department
Service Department 2
y denote total overhead of .)
Therefore, X 234 + 0.2y ..1)
y 300+ 0. 1x.
by 10 to eliminate decimals
0Solve the equation, re-arrange it and multiply ..1)
10x 2y = 2,340
- X+ 10y = 3,000
10-and adding
ultiplying second equation by
10x 2y = 2,340
-10x+100y = 30,000
982 32,340
y 330
X= 300
I = R 300
Th total overhead of Service Deptt.
330.
otal overhead of Service Deptt. II =
5.14
Cost and
Management
SECONDARY OVERHEAD
DISTRIBUTION SUMMARY
Accounting
Items
Total
Production Deptts.
A B
As per
Distribution Summary 6,000 3,000
Service Dept.. 1 ( 90% of 300) 2,000
270 60 1,000
Service Dept... 2 ( 80% of 330) 120
264 90
Total 132 66
6,534 3,192 2,186
66
The amount of Service 1,156
other service Department 1 to be distributed shall be only 90% as 10%
department. Therefore, 90% of { relates
value of X, i.e.. 7 270 to the
apportioned among A, B and C departments as per300 as calculated
the respective has ben
i.e.. 20%: 40%: 30% or in the percentages as
given the problem
in
ratio of 2:4:3. Similar treatment is
(b) Repeated Distribution Method given to Service
Department 2.
SECONDARY OVERHEAD DISTRIBUTION
SUMMARY
Production Departments Service Departmen
A B C
Total as per summary

Service Deptt. I 3,000 2,000 1,000
7 234
-
234 300
Deptt. 2 - 7 323* 47 94 70 (-)234
129 65
1- 7 64 65 64 3231
14 25
2 76 19 64
2 2 2
Total
3,192 2,186 1,156
*(7 300 + 23)
ABSORPTION OF FACTORY OVERHEAD

After theallocation, apportionment and
re-apportionment of overheads to
production departments is complete, the total overhead cost of a Overhead
department will consist of: production absorption isis the
the
(a) Its own expenses, e.g., indirect materials, charging of
indirect wages, etc.;
(b) Share of common expenses, e.g., departmental
and factory rent, ighting and heating: overhead to cost
(c) Share of the costs of service units.
departments re-apportioned to it.
This gives the total overhead cost of oduction
each production
departments is then to be absorbed by the products department. The total cost p of Ve producto
departments. This is knowm manufactured in the respectiveP

as absorption.
The absorption of overheads is the last step in the
the process of charging to the product or output of distribution plan of production oveye
erheads.
h e o v e r h e
the
expenses which have been allocated and apportioned to it.production department,
all
n is IS
The purpose behind

overheads should be absorbed in the cost of the absorpuhe head
also known as recovery or output of the given period. Absorption of ov

application of overheads.
5.15
Absorption of Overheads
Steps
in
two steps in the absorption of overheads:
are
There
Computation overhead absorption rate;
ofthese
of rates to cost units.
() Application for the purpose of
of Overhead Absorption Rate. Absorption rates are computed
1) Computation methods for determining
overheads in costs of the cost units. There are mainly six
ion of
absorption of
methods, the overheads
rate
which have been described later in this Chapter. In all these
arotion rates
the number of units in
the
the total amount of overheads of the department by
absorp
ie computed by
dividing This
direct labour cost, prime cost, etc.
number of cost units, machine hours, labour hours,
hase,such as
isshown below:
Total overheads of cost centre
Overhead absorption rate Total units of base used
each cost unit, the overheads

to Cost Units. In order to arrive at the cost of
(2) Application of Rate
the units of base in cost unit i.e..
rate is multiplied to Overhead rate.
Units of base in cost unit x
Overhead to be absorbed = the machine,
unit has taken 12 hours of
machine hour rate is 7 2.50 and a cost
To illustrate, hours x 7 2.50 7 30.
absorbedthe cost unit will be : 12
by
overheadsto be
Actual and Pre-determined Rates Pre-determined
estimated
based actual figures or
Overhead absorption rate may be
on
overheads rates
useful
figures. overheads by actual are more
It is calculated by dividing the actual than actual rates.

Actual rate.
base. Thus
overheads
Actual Amount of
Actual Overhead Rate =
Actual Base
desirable to use it for the
not always
On account of certain limitations
of actual rate, it is
absorption of overheads. which it is to be used.
advance of the period in
re-determined rate. This rate is determined in the budgeted base.
amount of overheads by
It is the estimated or budgeted
computed by dividing
Thus
of Overhead
Budgeted Amount
Pre-determined Overhead Rate = Budgeted Base
rate is of greater practical

utility. This is because a
pre-determined and fixation of selling
compared to actual rate, a of tenders and quotations
preparation overheads with the pre-determined
hri ned rate enables prompt comparing the actual
stcontrol is also facilitated by
Oua
overheads recovered.
Use of multiple
overhead rates
Blanket and Multiple Rates 1t s
rate for the
enure actory. give more
Dlanket overhead rate is a single overhead accurate cost.

Computed as follows:
5.16 Cost and Management
Accouni.ing
Total Overheads for the factory
Blanket Rate
Total No. of Units of Base for the factory
Blanket overhead rate should not be used except when output is uniform. Otherwise it will ra
in over-costing and under-costing of certain cost units. Moreover, when a blanket rate is result
performance of individual departments or cost centres cannot be properly assessed and exercisused,
se of
control becomes difficult.
Multiple rates means a number of separate rates for each cost centre or department. For instano.
separate rates are calculated for each production department, product line and for fixed and variaki
overheads. The following formula is used to calculate multiple rates: arnable
Overheads of the Cost Centre
Overheads Rate =
-
Corresponding Base
Multiple rates are of more practical utility and should always be preferred over blanket rates to
accuracy and control.
METHODS OF ABSORPTION OF FACTORY OVERHEADD

There are six methods of absorption of factory overheads. These are discussed below
(1) Percentage on Direct Materials. În this method overheads are
absorbed on the basis of direct materials consumed in producing the METHODS OF ABSORPTION
product. A percentage of factory overheads to the total value of materials Percentage on direct
consumed is determined. For example, materials
Factory overheads = 7 20,000 Percentage on direct
Direct materials - 750,000 wages.
Percentage on prime cost.
Overhead rate Factory Overhead Direct labour hour rate.
x 100
Direct Materials Machine hour rate.
20,000 100 40%o. Rate per unit of
50,000 production
Thus if direct materials cost of a job is, say, F 400, the overheads
absorbed by the job will be 160, i.e., 40% of 7 400.
Advantages. The main advantages of this method are as follows
1. Calculation of this rate is simple because cost of direct materials is readily available anu
additional records required to be maintained for this purpose.
are
2. This method produces fairly accurate results where material prices do not fluctuate u
and where output is uniform, i.e., one type of article is produced using the raw
material. sane
Disadvantages. The disadvantages of this method are as follows
1. Material prices are often subject to considerable fluctuations which are not d by
similar changes in overheads. This causes accompanue
misleading results.
2. This method is quite
illogical and inaccurate because overheads are in no way relatedd to the
cost of materials consumed.
3. This method ignores the importance of time ame.
Iaw
factor so that two jobs using the

material would absorb the same amount of
overhead even though one may occupy
a
sahi
a
m a c h i n e
for much longer period than the other.

5.17
.This method does not distinguish between work done

by machine and manual labour and
also between work done by skilled and unskilled workers.
(2) Percentage on Direct Wages. This is another simple and
easy method. In this method
percentage of fact rheads to direct labour cost is
computed follows:
as
Overhead rate = Factory overhead

100
Direct labour cost
For example: Factory overhead =
7 10,000
Direct wages =
7 50,000
Overhead rate = 10,000 x 100 20%

50,000
Thus a job requiring direct wages of F 200 will absorb factory overheads of 7 40, i.e.. 20% of 7 200.
Advantages
() Unlike material prices, labour rates do not fluctuate so frequently. Therefore, this method
gives stable results.
(ii) Automatic consideration is given to the time factor because generally more wages means more
time spent. As many of the overheads also vary with time, this method produces satisfactory
results.
(ii) The method is simple and easy to use as all data required is easily available without keeping
any extra records.
iv) This method can be applied with advantage where the rates of workers are the same, where
workers are of same or equal efficiency, and where the type of work performed by workers is
uniform.
Disadvantages
(i) Where labour is not the main factor of production, absorption of overheads is not equitable.
(i) When workers are paid on piece basis, this method will not give satisfactory results because
time factor is ignored.
(0) 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 expenses than skilled
Workers, the work done unskilled workers should bear a higher charge for factory overheads
by
than work done by skilled workers. But reverse happens in the case of this method because
skilled workers are paid at higher rate than unskilled workers.
V) This method also makes no distinction between work done by machines and that done by
like depreciation, power, etc., which
manual labour. Machines give rise to certain overheads
should be charged only to the work done on machines.
into consideration both direct materials and
Percentage on Prime Cost. This method takes in this method is calculated by dividing the
direct rate
Wages for the absorption of overhead. Overhead
Tactory overhead by the prime cost.
Example Factory Overhead =
7 15,000
Prime Cost = 7 60,000
Factory overnead x 100 =

15,000 x 100 25%
Overhead rate = 60,000
Prime cost
by that job should be 75, i.e., 25% of
be absorbed
ln f prime cost of a iob is 7 300, overhead to
300.
5.18 Cost andManagement Accounti
nting
any special accounti.
Aavantages. This method is also simple and easy. It does not require üng
records to be kept for its operation.
Disadvantages. The main imitations of this method are: and direct labour methode
both direct materials
(a) This method combines the limitations offactor.
6) It does not give proper weight to time
machines and manual labour and also betwa.
ween
C) It does not distinguish between work done by
skilled and unskilled workers.
is the overhead cost of a direct wor
(4) Direct Labour Hour Rate. The direct labour hour rate
overhead expenses by the total nunh
working for one hour. This rate is determined by dividing the
of direct labour hours.
For example: Factory overhead = 7 10,000
Direct labour hours = 7 20,000
Factory overhead 10,000

= 50 paise per hour
Overhead rate
Direct labour hours 20,000
Thus if a job takes 30 labour hours to complete, factory overhead charge to the job will be 15, i.e.,
hours x Re. 0.50.
Advantages
(i) It gives due consideration to time factor.
(i) It is most sutable where labour constitutes the major factor of production.
(ii) This rate is not affected by the method of wage payment, i.e., time rate or piece rate method.
Disadvantages
(i) Additional records of labour (i.e.. time spent on different jobs) must be maintained if this
method is to be used. This may add to the cost of clerical work.
(ii) This method does not take into account factorS other than labour.
Illustration 5.7
Aggarwal and Co. has three production departments- A, B and C and one service departments .
The following particulars available for one month of 25
are
departments work all days with full attendance. working days of 8 hours each. Al
Total Service Deptt. Production Production Production
Dept. Dept. Dept.

A B
Power and lighting 1,100 240 200 360

300
Supervisor's salary 2,000
Rent 500
Welfare 600
Others 1,200 200 200 400
400
Supervisors salary 20% 30% 30%
20%
Number of workers 10 30 40
20
Floor area sq. ft. 500 600 G00

800
Service rendered by service
department to production
20%
departments 50% 30%

Calculate the Labour Hour Rate' of each of the departments A, B and C.
(B. Com.
Hons. De
Overheads-Accounting ana Control
5.19
Solution
COMPUTATION OF LABOUR HOUR

RATE
Service Production
Deptt. Production Production
S
Deptt. Deptt. Dept.
A B C
Power and lighting 240 200 300
Supervisor's salary 400 360
600 600
Rent (floor area) 100 400
120 160
Welfare (No. of workers) 60 120
180 240
Others 120
200 200
1,000
400 400
1,300 1,700
Share of Service Deptt. 1,400
(A) Total overheads
)1,000 500 300 200
(B) Labour hours [No. of days 1,800 2,000 1,600
x Hrs. x No. of workers] 6,000 8,000
Hourly rate (4) (B) Re. 0.30
4,000
Re. 0.25 Re. 0.40
(5) Machine Hour Rate. This
method is applicable where work 1s
mainly on machines. A separate rate is usually computed for each machine performed Machine hour
group of similar machines. or a
rate is the most
Machine hour rate means the cost of scientific of all
isobtained by dividing the amount of
running a machine
for one hour. This rate
the methods of
factory
by the number of machine hours. Overhead
overheads chargeable to a machine
number of machine hours worked on charge to a job is made on the basis of absorption.
that job.
For example: Factory overhead for Machine X R 3,000
No. of machine hours
= 1,500
Machine hour rate Factory overhead for Machine X 3,000

No. of machine hrs.
1,500
= 2 per hour.
Ihus, if machine X has been used for
i.e.. 25 hours x 7 a job for 25 hours, overhead charges to the job will be 7 50,
2.
Omputation
machine hour rate:
of Machine Hour Rate. The
following steps are taken for the
computation of
) The factory overheads first
and apportionment.
are apportioned to departments as discussed earier under allocation
(2) Overheads of the department are further
machines. For this purpose each machine or
apportioned to different machines or
group of
a
a group of machines is treated as a cost centre or
small department. Bases of apportionment of different expenses are given here.
u Specific overheads like
power, depreciation, etc., should be directly allocated to the machine.
The overheads relating to the machine should be divided between (a) Fixed or standard
charges; and (b) Variable charges. Fixed charges are those which remain constant irespective
or the use of the machine, e.g., rent, supervisor's salary, etc., and variable charges are those
Wich vay with the use of machines, e.g., power, depreciation, etc.
Lhe
working hours of the machine are estimated for the penod.
Acc0Uns
(vi) Overheads pertaining to the machine are totalled and divided by the number of
hours. The resultant figure will be machine hour rate. The time required for setting the machin
ma
(unlessit is treated as productive time) should be deducted from the total working b
Treatment of depreciation. Depreciation is a semi-variable item. In the computation of machin h
hours.
rate, some accountants treat it as fixed cost. In fact, whether it is to be treated as fixed or variable dea
upon the method of computing depreciation. In this chapter it has been treated as a variable exte epende
Comprehensive (or composite) machine hour rate. When the direct wages of machine opetat xpense,
are included in machine hour rate, it is known as comprehensive machine hour rate. tators
Thus ina
comprehensive machine hour rate, overhead and direct wages are absorbed by a single rate.
BASES OF APPORTIONMENT OF DIFFERENT EXPENSES TO MACHINES
Items of expenses Basis
1. Rent and rates Ratio of floor area occupied by each machine
2. Insurance Insured value of each machine
3. Supervision
Estimated time devoted by the supervisor to each
machine
4. Lighting
No. of light points used for the
machines, or
floor area occupied by each machine
5. Depreciation
6.
Capital values/ Machine hours or both
Repairs and maintenance Capital values Machine hours
7. Lubricating oil and other consumable stores Capital values/ Machine hours
Illustration 5.8
Work out the machine hour rate
for the following machine for the month of
Cost of machine January:
Other charges, 90,000
e.g., freight and installation
Working ife 710,000
Working hours 10 years
Repair charges 2,000 per year
Power- 10
units per hour @ 10
paise per unit 50% of depreciation
Lubricatingoil @ 7 2 per
day of 8 hours
Consumable stores @ 7 10 per
day of 8 hours
Wages of operator 4 per
day.
(6. Com., Madras; Delhi, Bangulor
Solution
COMPUTATION OF MACHINE HOUR RATE
Per day Per hour
Standing Charges
Lubricating oil 2
Consumable stores 10
Wages of operator 4
Standing charges per hour (? 16 8 hrs.) 16 2.00
Variable Charges
Rs. 90,000 +10,000
Depreciation 5.00
20,000 hrs.
Repairs (50% of depreciation) 2.50
Power 10 units @ 10 paise per unit 1.00
Machine Hour Rate 10.50
Advantages of Machine Hour Rate Method
1. It is a scientific and accurate method of absorption of factory overheads.
2. It gives due consideration to time factor and thus produces more equitable results.
3. This is an ideal method where production is carried out on machines,
4. When separate rates are calculated for fixed and variable overheads, the cost of idle machines
can be measured without difficulty.
Disadvantages
1. This method can be used only in those departments where work is done by machines.
2. It is quite difficult to estimate total machine hours in advance.
3. This method requires the maintenance of detailed records about machine time taken by
various jobs. This increases the clerical cost.
(5) Rate Per Unit of Production. It is the simplest of all the methods. The total overheads of a
epartment are divided by the number of units produced to give an overhead rate per unit of output.
For example: Factory overheads * 10,000
=
Units produced =2,000

actory overheads 10,000 = 7 5 per unit.
Overhead rate
Units produced 2,000
s method can be used only where one product of uniform size, quality and standard is being
prOduced. For example, mining, brick laying, foundrnes etc.
llustration 5.9
ne following is the budget of Superb Engineering Works for the year 2012
Factory overheads 62,000
Direct labour cost 98,000
Direct labour hours 1,55,000
Machine hours 50,000
( (a) Om the above fiqures prepare the overhead application rates using the following methods:
Direct labour hour,
(ii) Direct labour cost, (iin) Machine nou
Accounti
nting
(b) Prepare a comparative statement of cost showing the results of application of
of each
each ofof
above rate to Job No. 555 from the under-mentioned data:
the
Direct materials cost 7 45
Direct labour: wages 750
Direct labour: hours 40
Machine hours 30 (B. Com. Delhi
Solution
(a) Overhead Application Rates
62,000
(i) Direct Labour Hour Method = = 40 paise per labour hour
1,55,000 hrs.
(ii) Direct Labour Cost Method 62,000 100 - 63.27%

98,0000
(ii) Machine Hour Rate 62,0000 *

= 1 . 2 4 per machine hour
50,000 hrs.
(B) STATEMENT SHOWING COMPARATIVE COST OF JOB 555 UNDER
DIFFERENT METIHODS OF OVERHEAD APPLICATION
Direct labour hour Direct labour cost Machine hour

method method method
Direct materials
45.00 45.00 45.00
Direct labour 50.00 50.00 50.00
Prime Cost 95.00 95.00 95.00
Overhead absorbed
()@40 paise per labour hour 16.00
(i) 63.27% of wages
(iii) @ ? 1.24 per machine hour 31.63
37.20
Factory Cost 111.00 126.63 132.20
Requisites of a Good Method of

Absorption
A satisfactory method of
absorption should have the
1. It should be following characteristics
simple and casy to operate.
2. It should give accurate results and
provide an
equitable basis for overhead absorptio
3. Time factor should be given due consideration.
4. The method should distinguish between work
done by skilled and
5. It should also make a distinction unskilled workers.
between work done by hand
6. It should be economical in labour and machines
application and should not require of maintenance
ecessa
clerical records. unne

7. Multiple rates should be preferred to blanket rates.
ADMINISTRATION OVERHEAD
(Office or General Overhead)
office and administration overhead pertain to general management and administration of business.
Tt mav be
defined as the indirect expenditure incurred in formulating the policy, directing the organisation
ontrolling the operations of an undertaking. These overheads are of a general character and are
sales
fncured for the business as a whole. They have little or no direct connection with production
or
control, these
activities. As production and sales cannot function without some sort of administrative accounting,
auerheads serve the purpose of such a control. Expenses of activities of Board of Directors,
of administrative
overheads. Examples
GPCtetarial, audit, legal, financial, etc., are included in administrative
of general office staff, salary of managing director and general
overheads are office rent, salaries
depreciation of office machines, etc.
manager, legal charges,
Administration Overhead
Absorption of
small portion of the total cost as
Office and administrative overheads generally constitute
a
overhead. For the purpose of absorption of these overheads, a single (blanket)

compared to production methods:
overhead rate is computed by any one of the following
overhead is generally absorbed as a percentage of
1. Percentage of works cost. Administration
formula:
works cost. Such a rate is comnputed by the following
Admn. overhead
Overhead rate x 100
Works cost
overhead
administration overheads are 7 12,000 and works cost is 7 2,40,000. The
For example,
rate is computed as follows
12,000
Admn. overhead rate
12,O0x 100 =5%
2,40,000
overheads are absorbed as a percentage
2. Percentage of sales. Sometimes office and administration
of sales. Its formula is:
Adnunistration overhead
x 100
Overhead rate =
Sales
may be specified may also be used.
ome other method of absorption as
DISTRIBUTION OVERHEAD
SELLING AND
of products or services is
and are usually
incurred after the production
ang distribution costs
costs.
as 'after-production
e r e d , and therefore, such costs are also known
termed marketing)
and stimulate demand (sometimes
is "the cost of seeking to create
and of cost sales to the existing and potential
orders" These costs are thus incurred for increasing show-room expenses, etc.
samples arnd free gifts,
Examples are advertisement, with making the packed
cost of the sequence of
operations which Degins
cost is "the
Prods ution ends with making the re-conditioned
returmed empty packages, if any,
and
voilob.laole for despatch are incurred in placing the
articles in the possession of the
JOr Te-use" Thus distribution costs
mantenance of delivery vans,
custo EXamples are carriage outwads, insurance of goods-in-transit,
Warah
Warehousing, etc.
5.24 Cost and Management AcoUnti
ng
Absorption of Selling and Distribution Overhead
The following methods are usually adopted for the absorption of selling and distribution expensae.
(a) A rate per unit sold. Under this method, the total estimated selling and distribution overhead
is divided by the estimated number of units to be sold. This gives rate per unit sold. This method
erhead
should be applied where the company is selling only one uniform type of product. For contzo
purposes, it would be better to calculate separate rates for fixed and variable overheads. .
(b) A percentage of selling price. On the basis of past records, a percentage of selling an
distribution overheads to sales is determined. On this basis selling overheads are charged to the cost o
each article. For example, if total selling overheads are 7,000 and sales 1,00,000, it gives a rate of
7% on selling price.
(c) A percentage on works cost. In this method, a percentage of selling and distribution overhead
to works cost is ascertained. This percentage rate is used to recover selling and distribution overhead
If for example, selling overheads are R 7,000 and works cost for the same period is 7 1,40,000, then
selling overhead will be recovered at a rate of 5% 1.e. 7,000 x 100 of works cost. This method can
1,40,000
be advantageously applied when a business produces only one product. But then if only one productis
produced, the better method would be a rate per unit sold. As there is no direct relation between works
cost and selling expenses, this method usually produces misleading results.
UNDER AND OVER-ABSORPTION OF OVERHEAD

As already stated, the absorption of overheads may be based either on the
The problem of
actual rate or pre-determined rate. When actual rate is used, the overheads absorbed
are equal to the overheads incurred. So there is no problem of
under or over
under-absorption orahsorntion
over-absorption. But when pre-determined rate is applied, overheads absorbed may absorption
not be equal to the actual overheads incurred. Thus whenever the overheads arises only
when overhead
absorbed on the basis of pre-determined rate are not equal to the amount of actual
overheads incured, it is a case of under- or over-absorption of overheads. rates are pre
determined.
Under-absorption means that the amount of overhead absorbed is less than
the amount of overhead actually incurred. For example, if
and the actual overheads are T 25,630, there is an
during March overhead absorbed are 25.00
under-absorption to the extent of 7 630. The u
absorption has the effect of understating the cost as the overhead expenses incurred are not
recovered in the cost of jobs. processes, etc.
Over-absorption
is just opposite of rhead
under-absorption. It means that the amount of ove heads
absorbed is more than the amount of overheads incuned. For
example, if during March ove
absorbed are 26,000 and the actual overheads are 25, 630. There is an
of 370. i.e.. 26,000 25,630. The over
over-absorption to tne h
absorption has the effect of the cost
overstating o
processes, etc.
Causes. Under or over-absorption of overheads may arise due to of the
reasons
one or more rolo
(i) Error in estimating the amount of overhead expenses.
(ii) Error in estimating the base i.e.. machine hours, labour hours,
quantity of production
etc.
(iü) Unforeseen changes in the production capacity.

(iv) Unexpected changes in the methods of production affecting the amount of overheads
(v) Seasonal fluctuations in overheads in certain industries.
-Accounting and Control 5.25
verheads
Treatment of Under- and

Accoun
unting Over-absorption
1under or over-absorbed overheads may be accounted for according to any of the following
depending upon the circumstances:
methods
Use of Supplementary Rates. This method is used where the amount of under or over
(1) ads is significant. A supplementary rate is calculated to adjust the amount of under or
absorbed overhead.
d shsorbed overheads in the cost of (i) Work-in-progress. (iü) Finished stock, and (ii) Cost of sales.
rate is calculated by dividing the amount of under- or over-absorption by the actual base. In the
This
af under absorption, the overhead is adjusted by a plus rate since the amount is to be added, while
case
a -ahsorption is adjusted by a minus rate since the amount is to be deducted.
Example
Pro-determined overhead rate 5 per machine hour
Actual machine hours 1,500
Actual overheads 9,000
Overhead absorbed 1,500 x 5 7,50o
Under-absorption 1,500, i.e., 9,000 7,500
Under - absorbed overhead
1,500 = Re. 1.00
Supplementary rate
Actual machine hours 1,500 hrs.
This is a plus rate because it is for under-absorbed overheads and will be used to add to the
overhead already recovered.
(2) Writing off to Costing Profit and Loss Account. When the, amount of under or over-
absorbed overheads is not significant, a simple method is to write it off to Costing P & L A/c. Under-
absorption due to abnormal factors like defective planning, idle capacity etc is also transferred to
Costing P& L A/c.
3) Carry over to the Next Year's Account. Under this method, the balance in under and over-
asorbed overhead account at the end of the year is carried to the next year. This method is criticised
o the ground that the costs of one year are transferred to the next year. However, this method may be
used when the normal business cycle extends over more than one year and overheads are determined on
a long-term basis.
lustration 5.10
uring the year ending 31st March, 2008, the factory overhead costs of three production departments
an
organisation are as under:
Department X 7 48,950
DepartmentY 89,200
Department Z T64,500
The basis of below:
orption of verheads is given
Department X 5 per-machine hour for 10,000
hours
Department Y 75% of direct labour cost of
7 1,20,0000
Department Z 4 per piece for 15,000 pieces.
tabularCalculate
department-wise under or over-absorption of overhead and present the data in
form.
Cost and Management
5.26
Acco.
nting
Solution
Calculation of factory overhead absorbed
Department X @75 per machine hour for 10,000 hours 50,000

Department Y @ 75% of direct labour cost of F 1,20,000 90,000
Department Z @ 7 4 per piece for 15,000 pieces
60,000
Total overhead absorbed
2,00,000
STATEMENT SHOWING DEPARTMENT-WISE UNDER/OVER ABSORPTION
Department Actual overhead Absorbed overhead Under-absorption

Over-absorption
X 48,950 50,000 1,050
Y 89,200 90,000 800
64,500 60,000 4,500
Total 2,02,6500 2,00,00o 4,500 1,850
Net under-absorption 4,500
= -
1,850= 7 2,650
OI
2,02,650- 2,00,000 72,650
Illustration 5.11
In a
manufacturing unit, overhead was recovered at a
pre-determined rate of 7 25 per man-day.|
The total factory overhead
expenses incurred and the man-days actually worked were 7 41.50 lakh
and 1.50 lakh days
respectively.
Out of the 40,000 units
produced during
period, 30,000 were sold.
a
Onanalysing the reasons, it was found that 60% of the
defective planning and the rest were unabsorbed overheads were due t0
attributable to increase in overhead costs. How would
over-absorbed overheads be treated in cost undes
accounts?
( B.Com.)
Solution:
Actual overhead incurred 7 (in lakh)

Less: Overhead absorbed (7 25 x
1.50 lakh 41.50
hours) 37.50
Under-absorbed overheads
60% of this 7 4 lakhs of 4.00
unabsorbed overheads
should be charged to Costing Profit and Loss Accountwhich is due to defective planning (abnormal redsons
charged to the cost of sales and and the
closing stock by remaining 40%, i.e. 7 1.60 lakhs shou d be
using a
supplementary rate.
Charge to Costing
Profit and Loss Account (inlakhs
Supplementary Rate 7 1.60 lakhs + 40,000(60%
=
of 7 4
units {
lakhs) 2.40
Charge cost of sales (30,000 units 7

to 4 per unit
=
Charge to closing stock (10,000 units @ 4) 1.20

@ 7 4)
Under-absorbed overhead 0.40
4.00
5.27
Overheads
- Accounting and Control
TREATMENT OF SPECIAL ITEMS OF OVERHEAD
on Capital
Interest
1.
a e is a considerable difference of opinion on the question as to whether interest on capitat
4 he
should included in cost or not. This is so because, whether a concern pays interest on capital or not
beincludedi
hod of capitalisation. This means a company raising finance by equity capital onlyy
its metho
depends upon debentures has to pay
not to pay interest whereas a company raising finance partly through interest will have lower
rest, If interest actually paid is included in cost, companies not paying any the
interest will show higher cost of production. This makes difficult
rost and companies paying either interest paid
comparison of cost in different companies. Therefore, for the sake of uniformity, and
or alternatively, interest on the total capital employed (both equity
chould be excluded from cost,
debenture capital) should be included in cost so that costs become comparable.
2. Cash Discount
treatment of cash discount in cost
Cash discount is recognised as a form of interest. Therefore, the
interest on capital is dealt with. Like interest on capital, cash discount
accounts depends upon the way
is also generally not included in cost accounts.
3. Rent or A Charge in Lieu of Rent

When rent to be taken into account as production, administration
is paid, this is obviously a cost
or selling and distribution overhead, depending upon the use to which the building is put to. In many
cases, however, the premises are owned by the business and no rent is payable. In such cases, a charge
in lieu of rent should be made in cost accounts so that the true cost may be ascertained. The annual
value of premises, as assessed for rating purposes, is normally a satisfactory amount to charge in lieu
of rent. Unless such a notional charge is made, the costs will fail to be comparable. If premises are
Owned by some concerns and rented by others in the same industry, the costs will vary if no rent for
Owned premises is charged in the cost accounts.
4. Carriage Inwards
This is directly connected with the purchase of materials and is generally added in the cosi of
atenals purchased, thereby treating it as a direct cost. Alternatively, it may be treated as an item
of factory overhead.
5. Packing Expenses
Packing expenses may be of the following three types:
(a) Packing which is necessary for handling of the product, e.g., medicines, oil, other liquid
products must be packed to make them saleable. Such packing expenses are treated as
manufacturing costs.
a n c y packing meant to attract customers, e.g., colourhul attractive wrappers of cosmetics is a
LOm of advertisement and should be treated as selling overhead.
racking that facilitates transportation of products to customers place, e.g., packing of TV sets
should be treated distribution overhead.
O refigerators, as
Accountin
6. Defective or Spoiled Work
Where defective work is inherent in the process of manufacture, it should be included in the
of production as normal loss. If defective work arises due to abnormal factors like fire acid COst
machine breakdown, ete., the net loss should be charged to Costing Profit and Loss Account. dent,
7. Setting up Costs
After the
completion of a particular job, machines require setting up with a different set of toal.
for taking up the next job. The cost of setting up time is, therefore, normally
charged to that particula
job for which preparation is being made. But when setting up is frequent and costs
the situation demands proper measurement and control of abnormally high
set-up costs. In such cases, it may ha
preferable treat such costs as production overhead for booking against all jobs
to
equitably.
8. Depreciation
Depreciation is the decrease in the value of a fixed asset due to use and/or the
lapse of time
Depreciation forms a part of the cost of production and accurate cost of producing an article
ascertained if depreciation is not taken into consideration. There cannot be
are various methods of
depreciation, e.g., fixed instalment method, reducing balance method, machine hour charging
rate method,
sinking fund method, annuity method, etc. In cost accounts
to machine hour rate method and depreciation is generally charged according
sometimes by fixed instalment method.
In machine hour rate method
of machine
(production hour method), depreciation is charged at a rate per hour
operation. Depreciation charge per machine hour is calculated
by the following method:
Cost of machine
Depreciation per hour = - Scrap value
Estimated life of machine in hours
This method has been
commonly used in the llustrations on calculation of machine hour rate.
9. Leave Wages
Each worker is
permitted a specified number of leave with full
paid leave cannot obviously be charged to any job or cost unit pay durinq the year. The cOst
period. Therefore, wages for the leave since no work is done dunng is
overhead. period is treated as indirect

labour cost and ry
charged to ra
An alternative method
of treatment
inflatingthe wages. This is done of leave wages is to charge the same as by
by estimating in advance the direct labou
over the actual number of amount of leave
working hours to give an inflated wages and spreau
hourly rate.
10. Royalties and Patent Fees
Royalties may be payable for : (a) making use of
manufacture; or (b) the right to sell the a
patent process or component in the
cou
rse o
finished product.
Royalties payable for making use of a
expense (it is payable at a rate per patent process in manufacture a s direct
unit) and included in prime cost. should be treated a

sales should be regarded as basisof
selling cost. Royalties payable on the

and Development Cost

11. Research
Where such cost is incurred for a particular function like production or sales, it should be
rharged as overhead to the respective function. But where research and development cost is incurred
in connection with a particular work order or job, it should be treated as a direct charge to the job
only. Where, however, research tails and does not produce any fruitful result, it is treated as an
abnormal loss and charged to Costing Profit and Loss Account.
12. Fringe Benefits
These are the benefits given to workers in addition to basic wages and dearness allowance. These
benefits are not related to the quantity of work done. These include
(a) Medical facilities,

(6) Canteen benefits,
(c) Sick pay, holiday pay, leave pay, etc.,
(d) Pension and other retirement benefits, etc.
The cost of such benefits should be treated as production overheads which are allocated to varous
departments. The usual practice is to estimate the cost of such benefits for the whole year and make a
proportionate charge to each period. This avoids uneven charge to various periods.
13. Drawing and Design Office Costs

Drawing costs may be treated as direct expenses if drawings or designs are prepared for
specific jobs. In case drawings are to be enclosed with sales tenders, it may be treated as selling
0verhead. Where drawing and designing office is used as a service department, its costs should be
treated as factory overhead and apportioned to production departments on the basis of technical
estmates of services rendered or on any other suitable basis, like number of drawings made, man hours
worked, etc.
14. Bad Debts
Ome cost accountants are of the opinion that bad debts are financial losses and thus excluded
om cost accounts. If, however, bad debts are included in cost, is should be treated as seling overhead
d nay be apportioned to various products on the basis of the credit sales of products. Abnormal
AOunts of bad debts, which are of exceptional nature, should not be included in cost accounts.
15. Cost of Small

Tools
Ost of tools may be treated in any of the following methods
Small tools are charged off as an expense at the time oftheir purchase. This method is simple and
Thus more commonly used as it does not require any record of tools in stock to be maintained.
0Cost ofsmall tools is capitalised and debited to Small Tools Account treating it as a fixed asset.
Depreciation is then charged on annual basis on this fixed asset. "This method is not in
common use.
Small tools purchased are charged to stores inventory. Whenever any tools are requisitioned by
any department, these are charged to the requisitioning department as revenue expense.
Cost and Management Accountino
5.30
16. Profit Sharing Bonus

As a matter of principle, profit sharing bonus is payable out of profits and is thus an appropriation
of profit. It should, therefore, be excluded from costs. In India, however, the Payment of Bonus Act
1965, makes it obligatory to pay a minimum bonus of 8'/,% to employees irrespective of profit or loss
The amount of minimum bonus should thus be treated as an overhead and any bonus over4 and above
that should be treated as an appropriation of profit.

Some cost accountants prefer to treat the entire amount of bonus as overhead and apportion it to
various departments on the basis of wages of each department.
PROBLEMS AND SoLUTIONS

Problem 5.1
In an engineering factory, the following particulars have been extracted for the year ended
31-12-2012.
Particulars Production Departments Service Departments

B C
Direct wages (R) 30,000 45,000 60,000 15,000 30,00
Direct materials (7 ) 15,000 30,000 30,000 22,500 22,500
Staff number 1,500 2,250 2,250 750 750
Electricity (kwh) 6,000 4,500 3,000 1,500 1,500
Asset value (7 ) 60,000 40,000 30,000 10,000 10,000
Light points 10 16 4
4 6
Area (square meters)
150 250 50 50 50
The expenses for the
period were as follows :
Power
1,100 Depreciation 30,000
Lighting 200
Stores overhead Repairs 6,000
800 General overheads 12,000

Welfare to staff
3,000 Rent and taxes 550
Apportion the expenses of service

department Xin the ratio 5: 3:2 to thedepartment Y according to direct wages and those o
You are required to production departments.

prepare an Overhead Distribution
Summary. (BBM Bangalore, Adapted
Solution
OVERHEAD DISTRIBUTION SUMMARY
Item
Basis of Apportionment Total Production Departments| Service Departments
X
Direct wages Actual |45,000 15,000 30.000

Direct materials Actual 45,000 22,500 22,500
Power Electricity (kwh) 1,100 400 300 200 100 100
Lighting Light points 200 50 80 20 30 20

Stores overheads Value of direct materials 800 100 200 200 150 150
Welfare to staff Staff number 3,000 600 900 900 300 300
Depreciation Asset value 30,000 12,000 8,000 6,000 2,000 2,000
Repairs Asset value 6,000 2,400 1,600 1,200 400 400
General overheads |Direct wages |12,000 2,000 3,000 4,000 1,000 2,000
Rent and taxes Area 550 150 250 50 50 50
Total 17,700 14,330 12,570 41,5300 57,520
Department X 5: 3: 2 20,765 12,459 8,306 (-)41,530
Department Y 2:3:4 12,782 19,173 25,565 -(-)57,520
Total 51,247 45,962 46,441
Problem 5.2
A fim has three production departments A, B and C and two service departments X and Y. The
following figures are extracted from the books of the firm.
Indirect wages 600
Depreciation 4,000
Lighting 240 Power 600
Rent 2,000 Others 4,000
Other particulars
A B C X
Floor space 400 500 600 400 100
(sq. feet)
900 900 700
Direct wages (7) 900 600
40 20 10
Light points 20 30
H.P. of the machines 30 25 10
75
Value 20,000 1,000 1,000
of machinery () 12,000 16,000
Working hours 3,113 2,014 2,033

TH expenses of Service Departments X and Y are to be allocated as follows:
B C X Y
A
X 30% 40% 10%
20%
Y 20% 20% 20%
40%
to the production department (A,
re requested to distribute the service department expenses
a n d calculate hourly rate of each production department. (B.Com., Bangalore)
5.32 Cost and Managenment
Acconti
Solution:
PRIMARY oVERHEAD DISTRIBUTION SUMMARY
Item Basis Total Production Deptts.
Service Depts,
A B X
1. Depreciation Machine value 4,000 960 1,280 1,600 80

2. Lighting Light points 240 40 60 BO
80 40
3. Rent Floor space 2,000 400 20
500 600 400
4. Indirect wages| Direct wages 600 135 90
100
135 135
5. Power H.P. 600 321 105
129 107 43
6. 0thers Direct wages 4,000 900 600 900 900
7. Direct wages Actual 700
1,600 900
Total 13,040 2,756
700
2,659 3,422 2,498 1,705
SECONDARY OVERHEAD DISTRIBUTION SUMMARY AND
CALCULATION OF HOURLY RATE
(REPEATED DISTRIBUTION METHOD)
Particulars B C
Totals as per primary summary 2,756 2,659 3,422

Deptt. X 2,498 1,705
500 749 999
782
(-)2498 250
391 391 391 ()1955
78 117
Y 157 (391 39
15 8
X 8 8 39
2 3
(A) Total Overhead 3
(-)8
(B) Working Hours 4,133 3,927 4,980
3,113 2,014
Hourly Rate 2,033
(A B) |L 1.33 1.95 2.45
Problem 5.3
A factory has three
Production
distribution summary shows the Departments and two Service Departments. The overhead departne nental
following:
Departments
A
B 6,50,000
C 6,00,000
P
5,00,000
Q 1,20,000
The Service 1,00,000
Department expenses are alotted on a percentage basis as follows
Production Departments
Service Departments
A B
Service Departments P C
30 P
40 15 15
Service Deartments 00 40 30 25
5
Overheads-Ace
Accounting and Control 5.33
how the expenses of the two Service Departments

are to be charged to
l at
Het "repeated distribution
under distrib method and 'simultaneous equations' method. (B.Com., Bangalore)
Solution:
Distribution Method
(a) Repeated
SECONDARY OVERHEAD DISTRIBUTION SUMMARYY
Items Production Deptts. ServiceDeptts.
A B C Q
6,50,000 6,00,000 5,00,000 1,20,000 1,00,000

Totals as per Primary Summary
36,000 48,000 18,000 (- 1,20,000 18,000
Service DepartmentsP
47,200 35,400 29,500 5,900 (-) 1,18,000
Service Departments Q
(5,900 885
Service DepartmentsP 1,770 2,360 885|
354 266 221 44 (-)885
Service DepartmentsQ 6
Service Departments P 13 18 (44
Service DepartmentsQ
2 1 6
7,35,340 6,86,046 5,48,614
Totals
method itself gives only approximate results.
Notes.1. Fractions have been avoided as this
"Simultaneous Equations' methods and check
2. Students are advised to solve this problem by
this answer.
(6) Simultaneous Equations Method
Let X Overhead of Service Deptt. P
Y Overhead of Service Deptt.Q .()
X = 1,20,000+ 5% of Y
Y 1,00,000+ 15% of X
0.05 Y
X 1,20,000 +
.(i)
+0.15 X
Y 1,00,000 .(i)
X 0.05 Y = 1,20,000 .)
-0.15X+ Y = 1,00,000
0.05 and add )
Pultipliying equation (ü) by
X - 0.05 Y = 1,20,000 .. (ii)
-0.0075 X + 0.05 Y = 5,000
0.9925 X = 1,25,000
= 1,25,944.58
X
(1)
Substituting the value of X in equation
1,25,944.58 0.05 Y= 1,20,000
Y= 1,18,891.60
(approx.)
or 7 1,25,945
Thus of Deptt. P- 7
1,25,944.58
(apprOX.)
dd or 7 1,18,892
1.18,891.60
verhead of Deptt. 0= 7
5.34 Cost and Management Accounting

Total as per Primary Distribution 6,50,000 6,00,000 5,00,000

Overheads of Deptt. P 37,783 50,378 18,892
(30%, 40% and 15% of 7 1,25,945)
Overheads of Deptt. Q 47,557 35,668 29,723
(40%, 30% and 25% of 1,18,892)
Total 7,35,340 6,86,046 5,48,615
Problem 5.4
The company is having three production departments A, B and C and two service departments
boiler-house and pump-rOom. The boiler-house has to depend upon the pump-room for supply of water
and pump-room in its turm is dependent on the boiler-house for the supply of steam power for driving
the pump. The expenses incurred by the production departments are
A:4,00,000; B: 3,50,000; and C: 2,50,000
The expenses for boiler-house is 1,17,000 and the pump-room is 7 1,50,000.
The expenses of boiler-house and pump-room are apportioned to the production departments on
the following basis:
A B Boiler-house Pump-Toom
Expenses of boiler-house 20% 40% 30% 10%
Expenses of pump-room 40% 20% 20% 20%
Show clearly as to how the expenses of boiler-house and pump-room would be
and C departments ? apportioned to A, D
C.S. Inter)
Solution
(Repeated Distribution Method)
Particulars
Production Deptts.
A
B
Service Deptts.
C House Boiler Pump Roo
Expenses incurred 4.00,000
Boiler-house 3,50,000 2,50,000 1,17.000 1,50.000
23,400 46,800
Pump-room 64,680 35,100 (1,17,000 11,700
Boiler-house 32,340 32,340 32,240 -)1,61, 700

6,468 12,936 3,234
Pump-Ioom 1,293
9,702 (32.340
647
Boiler-house 12 9
647 647 ()3,234
259 65
Pump-room 26 13
194 (647
Boiler-house 4
13 13 ()6
5
4
Total
4,96,000 4,43,000 (13
3,28,000
Note. Students are
advised to solve this
it produces the
same answer. problem by Simultaneous Equations Method and
See tha
Se
Problem
5.5
Tndian Manufactunng Company has three production department A, B and C and two service
departme
X and Y. The following is the budget for Feb. 2004
Total A B X
Direct materials 1,000 2,000 4,,000 2,000 1,000
Direct wages 5,000 2,000 8,000 1,000 2,000

Factory rent 4,000
Power 2,500
Depreciation 1,000
Other overhead 9,000
under
Additional information is given as
A B C X
250 500 250 500
Area sq. ft. 500
20 10 10
20 40
Capital value of Assets (7 lakhs) 1,000
1,000 2,000 4,000 1,000
Machine hours 25
40 20 15
House power of machines 50
is under
for apportionment of the costs of service departments
as
assessment
A technical C
A B
30% % 10
Service Department X 45% 15%
35% 5%
Service Department Y 60%
various departments and
re-distribute service department
You requiredto distribute overheads to
are
machine hour rates for production departments A, B and
costs to production department. Also compute C.A. Inter)
(B. Com., Calicut,
C
Solution:
oVERHEAD DISTRIBUTION STATEMENT

Total
Item Basis of A B C X
apportionment
2,000 1,000
Direct maternals 3,000 1,000 2,000
Actual 3,000 1,000
Direct wages Actual 500 1,000 500
4,000 1,000 150 250
Factory rent Area sq. ft.
500 800 800
Power 2,500 400 50 50
H.P. x M. hours 100 400
Depreciation Capital values x M.hours 1,000 1,000 4,000 500 1,000
9,000 2,500 4,200 5,300
Other overheads 6,200
|D. wages 22,500
4,100 2,700
1,260 (-)4,200 420
Total 630
1,890 286 (-)5,720
3,432 2,002
86 (286 29
43
128 (-)29
18 11
5,386 7,546
22,500 9,568 4,000
Total (A) 1,000 2,000
Machine hours (B)

Machine hour 9.57
2.69 1.89
rates (A+ B)|

5.36 Cost and Managenent
Accous
unting
Notes:
1. Costs of service departments X and Y have been distributed by Repeated Distribution
2. Power has been apportioned on the basis of H.P. x Machine hours. However, either
either H.P.
H.P. Or
or
hours may also be taken as the basis of apportionment. machín
3. Depreciation has been apportioned on the basis of capital values x machine hours. However
capital values or machine hours may also be taken as the basis of apportionment. either
Problem 5.6
Madras Manufacturing Ltd. has three production departments. Service departments Cost
COsts a
distributed to these production departments using the "Step Ladder Method" of distribution, Estime
of factory overhead costs to be incurred by each department in the forthcoming year are as foll
Data required for distribution is also shown against each department: ollows.
Department Factory Overhead Direct Labour No. of Area in
Hours Employees Sq.m.
Production:
X 1,93,000 4,000 100 3,000
Y 64,000 3,000 125 1,500
83,000 4,000 85 1,500
Service :
P 45,000 1,000 10 500
Q 75,000 5,000 50 1,500
R 1,05,000 6,000 40
1,000
S 30,000 3,000 50 1,000
The overhead costs of the four service departments are distributed in the same order, viz., P, 0, R
and S respectively on the following bases
Department Basis
P Number of employees
Q Direct labour hours
Area in square metres
S
Direct labour hours
You are required to prepare a schedule showing the distribution of overhead costs of the rou
service departments to the three production departments.
Solution
Service department P is the most serviceable
number of production as well as other service
department, i.e., it renders service to the la ther
departments. It does not receive any service from oother
service departments. Therefore, cost of R 45,000 of service
departments in the ratio of number of employees. The nextdepartments
most serviceableapportioned
P is to
department 1s al which
h
renders its services to all other departments except P. 000+
Therefore, its cost of 80,000, i.e., ? 75,0
5,000 apportioned share of Deptt. P is apportioned to all
Then R department's cost is apportioned to all departments except service deparLo
departments except P and Q and lastlyhs
department S is apportioned to only production departments. Overhead distribution summary thus
prepared as follows :
O v e r h e n d s -
A ,
5.37
OVERHEAD DISTRIBUTION SUMMARY

Basis of Service Deptts. Production Deptts.
ltems
apportionment R S
45,000 75,000 1,05,000 30,000 1,93,000 64,000 83,000

Overhead costs
of employees() 45,000 5,000 4,000 5,000 10,000 12,500 8,500
Cost of Deptt. P |No. hours ()80,000 24,000 12,000 16,000 12,000 16,000
"0|Labour
Cost of Deptt. -()1,33,000 19,000 57,000 28,500 28,500
Deptt. R |Area
Cost of 24,000 18,000 24,000
'S|Labour hours (66,000
Cost of Deptt. 3,00,000 1,35,000 1,60,000
Total
should note that in the Service Deptts. column, 'steps' are formed. This is the
Note: Students
reason why method is known as "Step Ladder Method.
Problem 5.7
relate to processing machine treating a typical material:
The following particulars
(a) Cost of machine-7 10,000
(b) Estimated life-10 years
(e) Scrap value-7 1,000 2,200 hours
weeks of 44 hours each)-
(d) Yearly working time (50
hours p.a.
(e) Machine maintenance 200 total productive time and is regarded as productivetime
of
Setting up time estimated at 5%
hour at 10 paise per unit
g Electricity is 16 units per 20
h) Chemical required weekly
Maintenance cost per year- 7 1,200
( other machines. Their combined
of machine together with 6
) Two attendants control the operations
weekly wages are 140 2,000
allocated to this machine per annum
(K) Departmental overhead (B. Com., Delhi, Bangalore)
hour rate.
YOu are required to calculate the machine
Solution RATE
OF MACHINE HOUR
CALCULATION
Per year Per hour
Standing Charges 2,000

1. Department overhead
1,000
2. Attendants' wages (140 x 50
3,000
7 1.50
3,000 2,000 hrs.)

Oppr narges per hour (7
Operating Charges 0.45
10,000 1,000
1. Depreciation2,000x 10
0.60
Maintenance (1,200 2,000) 0.50

3. Chemicals (20x 50) 1.60
. 2,000 4.65
Power (16 units @10 paise per unit)
Machine Hour Rate
5.38 Cost andManagement Accountino
Working Note: Calculation of effective hrs.

Total machine hour (50 * 44) 2,200
200
Less Maintenance hours
Effective working hrs. 2,000
As setting up time is given as productive time, it is not deducted in calculating effective hours,
Problem 5.8
the machine hour rate: Per annum
From the data given below, calculate
Rent of the department (space occupied by machine 1/5th of the department) 780
Lighting (number of men in the department 12, two men engage on this machine) 288
Insurance, etc. 36
Cotton waste, oil, etc. 60
Salary of foreman (one-fourth of the foreman's time is occupied by
this machine and the remainder equally by the other two machines) 6,000
The cost ofthe machine is 79,200 and it has an estimated scrap value of 7 200.
It is ascertained from past experience
(i) that the machine will work for 1,800 hours per annum;
ii) that it will incur an expenditure of 1,125 in respect of repairs and maintenance;
(ii) that it consumes 5 units of power per hour at the cost of 16 paise per unit, and
(iv) that the working life of the machine will be 18,000 hours.
(B. Com., Mysore; Delhi)
Solution
Computation of Machine Hour Rate
Per year Per hour
Standing Charges
Rent (780x 1/5) 156.00
Lighting (288 x 2/12)
48.0
Foreman's salary (6,000xl/4) 1,500.00
Insurance
36.00
Cotton waste, etc.
Total yearly charges 60.0
Hourly rate (7 1,800 1,800 hrs.) 1,800.00
1.00
Variable Expenses
Depreciation 9,200 200 0.50

18,000 hrs.
Repairs ( 1,125 18,000 hrs.) 0.06
Power 5 units 16 paise per unit

236
Machine Hour Rate

Problem 5.9
The following annual charges are incured in respect of a machine in a shop where manual labour is
ost nil and where work is done by means of five machines of exactly similar type and specification:
almost
1. Rent and rates (proportional to the floor space occupied) for the shop ,800
2. Depreciation on each machine 500
3, Repairs and maintenance for the five machines 1,000
Power consumed (as per meter) @5 p. per unit for the shop 3,000
5. Electric charges for lighting in the shop 540
6. Attendants:
There are two attendants for the five machines and they are each paid 7 60 per month
7. Supervision:
For five machines in the shop there is one supervisor whose emoluments are 250 p.m.
8. Sundry supplies such as lubricants, jute and cotton waste, etc., for the shop 450
9 Hire-purchase instalment payable for the machine (including 300 as interest) 1,200
The machine uses 10 units of power per hour.
Calculate the machine hour rate. (B.Com Delhi)
Solution
These calculated as follows:
Annual working hours are not given in the problem. are
= 7 3,000
Total amount of power consumed
= 50 paise an hour
Rate of power (10 units @ 5 paise)
Total working hours of the machine (3,000 0.50) = 6,000 hrs.
5
No. of machines
= 1,200 hrs per year
Working hours per machine (6,000 5)
Per annum Per hour

Particulars
Standing Charges: 960.00

(a) Rent and rates ( 1/5th of 4,800) 108.00
6) Lighting charges (1/5th of R 540) 288.00
Attendant's salary for machine (1/5th of 7 1,440) 600.00
Supervision per machine (1/5th of F 3,000) 90.00
(1/5th of ? 450)
undry supplies per machine 2,046.00
1.70
for standing charges (7 2,046
1,200 hrs.
ury rate
Variable Charges: 0.42
a) Depreciation (500 1,200 hrs.) 0.17
epairs and maintenance (200 1,200 hIs. 0.50
rOwer (10 units of power @5 paise per unit 2.79
Machine Hour Rate
included while computing
machine hour
instalment has not been item.
on hire-purchase because it is a capital
ate, lterest included
PCase instalment is also not
5.40 Cost and Manageinent Accounti.
Problem 5.10
A department is having 3 machines. The fiqures indicate the department expenses. Calculate the
DelOW
machine hour rate in respect of these machines from the information given
12,000 Indirect wages 6,000

Depreciation of machine
2,880 Power 6,000
Depreciation of building
4,000 Lighting 800
Repairs to machinery
800
Miscellaneous expenditure 4,200
Insurance of machinery
Machine
Machine II Machine II
71,200 72,400 2,400
Direct wages 10,000 20,000
30,000
Power units 4 8
Number of workers 24 48
8
Light points 400 sq. ft. 800 sq. ft. 800 sq. t.
Space 73,00,000 71,20,000 1,80,00
Cost of Machine 300 300
200
Hours worked
(B.Com., Madras)
Solution:
Machine Machine Machine
S.Items Basis of Total
I II III
Apportionment
No 3,600
Machine value 12,000 6,000 2,400
1. Depreciation of machinery 1,152
2,880 576 1,,152
2. Depreciation of building Space 1,200
Machine value 4,000 2,000 800
3. Machine repairs 240
Machine value 800 400 160
4. Insurance 2,400
Direct wages 6,000 1,200 2,400
6. PowerT Power units 6,000 3,000 1,000 480
800 80 240
7. Lighting Light points 1,680
8. Miscellaneous expenses Direct wages 4,200 840 ,680
12,752
(A) Total 36,680 14,096 9,832
300
(B) Hours worked (B) 200 300
42.51
(C) Machine hour rate (A B) 70.48 32.77
2,400
(D) Direct wages 1,200 ,400
(E) Direct wages per hour (D + B) 6 50.51
Comprehensive Machine Hour Rate (C+ E) 76.48 4077
Problem 5.11
special
A. K. Enterprises undertake three different jobs A, B and C. All of them require the use or d t
machine and also the use of a computei. The computer is hired and the hire charges work ou
4,20,000 per annum. The expenses regarding the machine are estimated as follows:
Rent for the quarter 17,500

Depreciation per annum 2,00,000
Indirect charges per anium 1,50,000
Overheads-AccoUtting and Control 5.41
uring the first month of operation, the following details were taken from the job register:
Job A B C
Number of hours the machine was used

use of the Computer
(a) Without the 600 900
(b) With the use of the Computer 400 600 1,000
You are Iequired to compute the machine hour rate for the firm as a whole for the month (a) when the
was used, and (b) when the computer was not used. (C.A. Inter)
enmputer
Solution
Computation of Machine Hour Rate
Per Month Per Hour
Rent (7 17,500 3 months) 5,833.33

Depreciation (7 2,00,000 + 12 months) 16,666.67
Indirect Charges ( 1,50,000 12 months) 12,500.00
35,000.00
Total
(a)Machine Hour Rate (without the use of computer) (7 35,000 3,500 hrs.) 10.0
4,20,000 1 2 months) 35,000
Computerhire charges (7 17.50
(Computerhire charges per hour are 35,000+ 2,000 hrs.)
'.50
(b) Machine Hour Rate with the use of computer
Notes:
Total machine hours when computer is used = 400 + 600 + 1,000 2,000
= 600 + 900 = 1,500
Total machine hours when computer is not used
= 1,500 + 2,000 = 3,500.
Total machine hours
Problem 5.12 (Machine Hour Rate)

overheads for a machine from the following
alculate machine hour rate for recovery of
information:
value is 7 1,00,000. Estimated working life
of
LOst of machine is 7 25,00,000 and estimated salvage is 400
hours are 3,000 in the factory.
The machine required
machine is 10 years. Annual working of the machine is 156 hours per annum to
per for repairs and maintenance. Setting-up time
us annum
maintenance for whole working
life of the machine is
as productive time. Cost of repairs and
dted a cost of 7 5 per
unit. No power is consumed during
3,50,000. Power used is 15 units der hour at is 9,880 per annum.
chemical required for operating the machine
A
a n c e and settinq-up time. devoted one-third of his
time to the machine.
nonth. The operator
a operator is per F4,000
machine.
linsurance charqes 2 per cent of cost of
in all, out of which only 8
month, having 48 point
charges for the department is 2,500 per
machine are 6,500 per month.
chargeable to the
Other indirect expenses
e used at this machine, (CA PE-II)
Cost and Managemment
5.42 Accounti
Solution
Hour Rate
Computation of Machine
Per year Per hour
Standing Charges 50,000

Insurance (2% of 7 25,00,000)
(7 4,000x 12 months\
16,000
Operator's wages: 3 machines
7 2,500 x 12 x 8
5,000
Light charges: 48
x 12 months 78,000
Other indirect expenses: 7 6,500
1,49,000
Total standing charges
Hourly rate for standing charges:
7 1,49,000 2600 hrs* 57.31
Variable Expenses:
25,00,000-1,00,000 92.31
Depreciation: 10 vears x 2,600* hrs
R 3,50,000
13.46
Repairs and Maintenance: 10 yrs. x 2,600* hrs
T5x 15 x 2,444* hrs.

70.50
Power: 2,600 hrs*
79,880 3.80
Chemical: 2,600 hrs*
Machine Hour Rate (comprehensive) 237.38
Working Note:
1. Effective hours = 3,000 - 400 2,600 hrs.
2. Hours when power is used 2,600 156 - 2,444 hrs.
Problem 5.13 (Machine Hour Rate)

ployed
A machine
shop cost centre contains three machines of equal capacities. Three operators are empludes4
on each machine, payable ? 20 per hour each. The
factory works for 48 hours in a week wnicu alls hours
hours set up time. The work

is jointly done by operators. The operators are paid fully for tnea
In addition, they are paid a bonus of 10 per cent of productive time. Costs are reported for tns
o m p a n y
on the basis of thirteen four-weekly

periods.
of
the
The company for the purpose of
computing machine hours rate includes the direct wage o f factory
operator and also recoups the factory overheads allocated to the machines. The following details o
overheads applicable to the cost centre are available:
f theeach
Depreciation at 10% per annum on

original cost of the machine. Original cost o
machine is 7 52,000.
5.43
.Maintenance and repairs per week per machine is 7 60.

Consumable stores per week, per machine are 75.
Power: 20 units per hour per machine at the rate of 80 paise per unit.
Apportionment to the cost centre: Rent per annum 7 5,400, heat and light per annumn
9,720, and foreman's salary per annum 7 12,960.
Required:
(i) Calculate the cost of running one machine for a four week periood.
(ii) Calculate machine hour rate. (CA PE-IT)
Solution:
Conputation of Machine Hour Rate
Standing charges Per annum ?
Rent 5,400
Heat and light 9,720
Foreman's salary 12,960
28,080
Standing charges per machine For 4 week 7
28,080 x 4 weeks
(3 machines x 13 weeks 2,880
Direct wages of operators
(48 hrs. x 4 weeks x 7 20)
3,840
Bonus (176* x 7 20x 10%) 352
Total 7,072
Machine Expenses:
4
Depreciation =
|7 52,000 x10%a 13
x
1,600
Repairs and maintenance 60 x 4 weeks 240
Consumable stores (7 75 x 4 weeks) 300
Power (176 hrs. x 20 units x 0.80) 2,816
Total machine expenses 4,956
Total cost (7,072 4,956) 12,028
dChine Hour Rate 12.028 176* hrs. =
68.34
Work
Working Note: Productive time per 4 weeks (48 hrs. - 4 hrs.) x 4 weeks = 176 hours.
Problem 5.14 (Overhead Rate Computation)

In a dnufacturing company, factory overheads are charged as fixed percentage basis on direct
abour and office verheads are charged on the basis of percentage of factory cost. The followinq
ove:
informations
O n s are a available related to the year ending 31 March 2012:
Product A Product B
Direct materials 19,000 7 15,000
Cost and Managenient Acoumti
5.44 ting
Direct labour
7 15,000 25,000
60,000 80,000
Sales 25% on sales price
25% on cost
Profit
You are required to find out:
overheads on direct labour.
() The percentage of factory
(11) The percentage of office overheads on factory cost. (CA PE I
Solution
overheads on direct labour =
'X, and
Suppose the percentage of factory
the percentage of office overheads on factory cost = y
Then the total cost of product A and product B will be as follows:

Product A ProductB
Direct material 19,000 15,000

Direct labour 15,000 25,000
Prime Cost 34,000 40,000
Factory overheads 150x 250x
(A) Factory cost 34,000+ 150 x 40,000+ 250x
(B) Office overheads (Factory cost x y) 340
y +1.5 xy 400 y +2.5xy
Total Cost (A + B) 34,000 + 150 x 40,000 + 250 x
+340 y + 1.5 xy + 400 y +2.5 xy
Total cost on the basis of sales is:
Product A Product B
Sales 60,000 80,000

Less: Profit
Product A - 25% on cost
(or 20% on sales)
12,000
Product B 25% on sales 20,00
Total Cost 60,000
48,000
The following twoequations can be formned:
Total Cost of A 34,000+ 150x 340y 1.5xy =48,000
=
+ +
Or 150x +
340y
1.5xy =14,000 -- +
Total cost of B
40,000 250x +400y+ 2.5xy 60,0oo
Or
250x+400y +2.5xy 20,000 -
Equation (iü) multiplied by 0.6 and after deducting from
equation (i),
150x + 340y + 1.5xy = 14,000 - -
we get
(il
150x t 240y 1.5xy =12,000 -
100y = 2,000
Or y 20
Putting value of y in equation (i), we get
150x +
(340 x
20) +
(1.5x 20)
x =
14,000
Overheads- Accounting and Contro! 5.45
150x + 30x = 14,000 6,800
180x=7,200
.'X =40.
Thus x = 40%, i.e., the percentage of factory overheads on direct labour.
y 20% i.e., the percentage of office overheads on factory cost.

Problem 5.15
Meerut Manufacturing Company makes several product lines which are processed through three
production departments. X, Y and Z. The relevant data for a year is as follows:
Factory Overhead
(including share of Direct Labour Direct Labour
Service department) Hours Cost
Departmernt X 1,24,0000 80,000 1,60,000

Department Y
2,30,0000 1,15,000 2,41,500
Department Z 5,46,000 1,05,000 1,99,500
Production records at the end of the ycar indicated the following for the product line 'Krish.
Units produced 20,000
Dept. X Dept. Y Dept.
Prime Cost 45,000 10,500 59,500
Direct Labour HourS 10,000 5,000 30,000
You are required to
(a) Calculate the departmental and plant-wide overhead rates based on direct labour hours;
(b) Compute the cost of "Krish' line for the year by using;
() Plant wide rate, (iü) departmental rates; and
()Comment on the results. (B.Com., Hons., Delhi)
Solution
(a) Calculation of Departmental Overhead Rates
Factory 0verhead
Overhead rate per hour
Direct Labour Hours
1,24,000 = 1.55
Department X
80,000
2,30,000
Department Y 7 2.00
1,15,000
5,46,000
Department Z 75.20
1,05,000
Total Overheads of X, Y and Z Depts.

Single plant-wide rate
Total Labour Hours of X, Yand z Depts.
1,24,000+2,30,000+5,46,000 9,00,000
80,000 +1,15,000 +1,05,000 3,00,000
Cost and Management Accoas
unting
5.46
'Krish'
(b) Statement of Cost of Departmental
Plant-wide
Dept. X 45,000
Prime cost: Dept. Y 10,500
1,15,000
Dept. 2 59,500 1,15,000
Factory overhead: 15,500
X (10,000 hrs. @ 1.55)
Dept. 10,000
Y (5,000 hrs. @ 2.00) 1,56,000
1,81,500
Z (30,000 hrs. @ 5.20) 1,35,00

Plant-wide (45,000 hrs. @ R 3) 2,96,500 2,50,000
Factory cost
should be preferred
over single plantr
-wide
depart1nental rates
Fora accurate costing, avail of the senio
Tvices
product may not unitormly
Comments.
(c) overhead. This is because a
rate for absorption

of factory rate will distort the cost, resultinn in
the use of a single plant-wide
is
If this so,
of various departments. it can be seen that incidence af
of cost units. In the present problem,
under-costing or over-costing different departmental overhead rates
is different resulting in
different departments
factory overhead in departmental facilities in a uniform way. In
this case, use of
not used various
Product 'Krish' has also whereas use of departmental rates
overhead charge of F 1,35,000
rate has resulted in
single plant-wide rate has resulted in under-costingof
1,81,500. Thus use of a plant-wide
result in an overhead charge of it is therefore, better to
because of inequitable absorption of factory overhead. In this case,
Krish product
use departmental overhead rates.
Problem 5.16
normal working ot
The total overhead expenses of a 7 4,46,380. Taking into account the
factory are
worked wee
at 7 1.25 per hour. The actual hourS
the factory, overhead was recovered in production unt
of accounts, assuming that besides 7,800
2,93,104. How would you proceed to close the books
produced of which 7,000 were sold, there were 200 equivalent units in work-in-progress.
On investigation, it was found that 50% of the unabsorbed overhead was on account of increase"
cost of indirect material and indirect labour and the remaining 50% was due to factory inefficiency. sa
(C.A. Inter)
give the profit implication of the method suggested.
Solution
4,46,380
Actual overhead
Less: Recovered overhead hrs. 7 3,66,380
(2,93,104 x
1.25)
80,000
Unabsorbed overhead
Treatment
ated
1. 50% of unabsorbed overhead, i.e., 7 40,000 due to factory inefficiency shoula De
abnormal loss and charged to
2.
Costing Profit and Loss Account. O s to t
Kemaining 50% of unabsorbed overhead, i.e., 7 40,000, which is due to increase

indirect material and labour, should be amenta
rate.
charged to units produced by using uFE
Supplementary rate =
40,000
=
5 per unit
(7,800 + 200) units
Charge to cost ofsales (7,000 units 7 5) 35,000
Charge to finished good (800 units x 5)
74,000
Charge to work-in-progress (200 unitsx 5) 71,000
Total 40,000
The effect of this will be that it will increase cost of sales by 35,000. This will reduce the profit by this
amount. It ill also increase the value of finished goods and work in progress by 4,000 and 1,000
respectively, both being credit items, will increase profit by 7 5,000. The net effect will be reduction in
profit by 30,000 (i.e., 7 35,000 5,000).
-
Problem 5.17
A cost centre in a factory furnishes the following working conditions:

Normal working week 40 hrs.
Number of machines 15
Normal weekly loss of hours on maintenance, etc. 4 hrs. per machine
Estimated annual overhead 1,55,520
Estimated direct wage rate T3 per hour
Number of weeks worked per year 48
Actual results in respect of a 4-week period are :
Overhead incurred 715,000
Wages incurred 77,000
Machine-hours produced 2,200
You are required to :
(a) Calculate the overhead rate per machine-hour, and
(6) Calculate the amount of under or over-absorption of both wages and overhead.
(B. Com., Delhi)
Solution
(a) Annual overhead = 7 1,55,520
Annual working hrs. (Normal) = Number of machines x No. of weeks p.a. x Effective weekly hrs.
= 15 x 48 x 36 = 25,920
25,920 R 6.00
Overhead rate per machine hour =7 1,55,520
(6) Overhead incurred = 15,000
Overhead absorbed = 13,200 (i.e., 2,200 x 7 6)
Under-absorbed overhead 15,000 13,200 =7 1,800
Wages incurred 7,000
7,200 (i.e., 40 hrs. x 15 machines x 3 x 4 weeks)
Wages absorbed
Wages over-absorbed 7,200 -
7,000 =7 200.
5.48 Cost and Managenent Acconi
Problem 5.18
The following particulars are available in rèspect of a department of a concern for a month .
ACtual overhead expenses 1,00,000 (including 7 20,000 paid one time on account of an old
claim).
Actual machine hours worked 10,000 hrs.
Pre-determined overhead recovery rate- 6 per machine hour
On analysis of under-absorbed overheads it was noted that 70% of under-absorption is dua
to
defective planning and 30a is due to increase in expenditure. The department produced 20,000 unitss in
the month, out of which 15,000 units were sold and 5,000 units remained in stock.
You are required to show treatment of under or over absorbed overheads in cost accounts,
(B.Com. Hons. Delhi)
Solutionm:
Normal overhead (1,00,000 20,000) 80,000
Less Overhead absorbed (10,000 hrs. @ 6 per hr.) 60,000
-
Under-absorbed overhead 20,000

Transfer to Profit & Loss Account (70% of 7 20,000) 14,000
Charge to cost (30%% of R 20,000) 6,000
6,000x5,000
(1) Charge to cost of goods sold - 4,500
20,000
(17) Chrage to stock 6,000 x ,000

20,000 = 1,500
EXAMINATION QUESTIONS}
Objective Type Questions
() True or False ?
1. Fixed overhead cost per unit remains fixed when
output level changes.
2. Re-apportionment of service department's costs is known as secondary distribution of ovehea rhead.
3. Overheads are also known as indirect

expenses.
4. Increased mechanisation results in
greater amount of fixed costs.
5. When under or over-absorbed overhead is a significant amount, it should be transferred to sting
Profit and Loss Account.

6. Apportionment of overhead on
reciprocal basis is known as step ladder method.
7. Overhead absorption rates should be calculated on the basis of maximum
8. Machine hour rate method of absorption should be used
capacity. workis
in only those cost centres in wn
dominantly done by machines.
9. When building is owned, rental value of the
building should be included in cost.
10. Cost of after sales services is a
part of selling and distribution overhead.
Ans. 1. F 2. T 3. F 5. F
4. T
6. F 7.F 8. T 10. T
9. T
Overheads-Acco1Un ting and Control 5.49
the blanks
(ti) Fill in
1. Overhead
is the aggregate of and and
° ° ° ° ° * * ° * ° * ° ° ° ° ° °
. is the allotment of whole items of overhead to cost units or cost centres.

Z. ****
*°°°***. is the allotment of proportion of items of cost to cost centre or cost units.
3. ..*****.
Under/0ver absorption of overhead arises only when overhead absorption is based on
4.
°***°** ***°°******..
Iates.
5.
is the cost of seeking to create and stimulate demand.
6. Under absorption of overhead due to faulty management should be charged to .
and
7.On the basis of behaviouz, overheads are classififed into
°°°°°*°*°°*°°°°° *** and
Inachine hour rate, wages of machine operator are included.
8. I n°*'*°*
.
9. Factory rent should be apportioned to various departments on basis of . .
called
less than absorbed overheads, the difference between the two is
10. When actual overheads are
1. Indirect material, Indirect wages and indirect expenses 2. Allocation

Ans.
4. Pre-determined 5. Selling overhead
3. Apportionment
6. Costing P & L A/c 7. Fixed, variable, semi-variable
9. Area occupied 10. Over-absorption.

8. Comprehensive
Short Answer Questions
1. Define Overhead.
overhead and prime cost?
2. What is the difference between
3. How overheads classified according to functions ?
are
4. Give five examples of factory overheads.

overheads and distribution overheads.
5. Give two examples each of selling
overheads.
6. List the steps in distribution of
?
7. What is departmentalisation of overheads
8. What is the difference allocation and
apportionment of overheads?
and absorption of overheads?
9. What is the difference between apportionment
service departments.
0 . Give two examples each of production
departments and
1 . Give three bases of apportionment
of factory overheads.
department overheads
apportionment of service
.What is step ladder method of
of overheads.
15. State any four methods of absorption
?
14. What is meant by machine hour rate labour hour rate method of absorption
labour cost method and
3. What is the difference between
hour rate method.

Give two advantaqes of machine
0.
.What is under and over-absorption of overhead:? selection of a method of absorption of overheads.
consider in the
18. two factors which you will cost accounts
administration overheads treated in distribution
overheads.
1OW are of selling and
for the absorption
tate
any two methods
Andhra: Madras)
Theoretical Questions methods of classification of costs. (B. Com.,
different Mention also the bases of
overhead. Mention the of overheads.
ne allocation and apportionment (B. Com. Bharathidasam)
Dist
15dnguish between
apportionment of expenses.
5.50
Cost and Management
Account
ish between allocation and apportionment ot overheaa. (B. Com., Kerala, Delhi
Denne of
factory overheads. Explain the different methods of absorption factory overheads
(B. Com,
What is meant by absorption of overhead ? Describe the different methods of absorption Punjab)
overheads.
(B. Com., Madras)
. What is Machine Hour Rate ? low is it computed
. What are administration overhead. Give five examples.
8. What is meant by under-absorption and over-absorption of overhead ? What are its causes 2
es ?
9. How are under and over-absorbed overhead treated in cost accounts ?
10. Distinguish between allocation, apportionment and absorption of overhead.
(B.Com. Hons.
Delhi)
Practical Questions
1. Following figures have been extracted from the accounts of it manufacturing concem for the
year 2001
Indirect Materials:
Production Deptt. X 950
Production Deptt. Y 1,200
Production Deptt. 2 200
Maintenance Deptt. P 1,500
Stores Deptt. a 400
Indirect Wages:
Production Deptt. X 900
Production Deptt. Y 1,100
Production Deptt. 2 300
Maintenance Dept. P 1,000
Stores Deptt. Q 650
Power and light 6,000
Rent and rates 2,800
Insurance on assets 1.000
Meal charges 3.000
Depreciation @ 6% on capital value of assets.
From the following additional information, calculate the share of overheads ot'each
Department: Proaucud
Items
Production Deplts. Service Deplts.
P
Area (Sq. feet) 4,000 1.000
4,000 3,000 2,000
Capital Value of assets (7 ) 1,00,000 40,000
1,20,000 80,000 60,000
Kilowatt hours 4,000 4,400
500
Number of employees
1,600 1,500 20
90 120 30 40
(B.Com.)
[Ans. X 11,800; Y 14,000; Z R 7,200' P 7,800; Q 7
4,200]
2. The Ultra Modern Company' is divided into four ction
departments: A,
departments and D is a service department. The actual costs for Oct.
B and C are prou
2004 are as folo
Overheads- Accounting and Control 5.51
1,000 1,500
Rent Supervision 500
Repairs to plant 600 Fire Insurance-Stock
Depreciation of plant 450 Power 900
100 Employees' Stale Insurance Contribution 150
Light
The following information is available in respect of the four departments:
Department A B D
Area sq.ft. 1,500 1,100 900 500

Number 0t employees 20 15 10 5
Direct wages 6,000 4,000 3,000 2,,000

24,000 12,000 6.000
Value of plant 7 18,000
Value of stock 15,000 9,000 6,000
cost to the various departments preparing verhead Distribution Summary
Apportion the
(B. Com., Madras. Adapted)
Ans. A 2,103; B 1,538; C 7 1,067; D 7 2,502]

the following particulars have been collected for the three months
3, (a)In Tata Electronics,
31st Dec. You are required to prepare an overhead distribution summary.
ending
D E
A B
2,000 3,000 4,000 1,000 2,000

Direct Wages
1,000 ,000 2,000 1.500 1,500
Direct Materials
150 150 50 50
Nos. 100
Staff
4,000 3,000 2,000 1,000 1,000
Electricity Kwh. 4
10 16 4
Light Points Nos.
60,000 40,000 30,000 10,000 10,000
Assets Value
250 50 50 50
150
Area Occupied Sq. yd.
The expenses for the period were:
550 Depreciation 15,000
Motive power
100 Repairs and maintenance 3,000
Lighting power General overheads 6,000
Stores overhead 400
Rent and taxes 275
Amenities to staff 1,500
the basis of direct wages and that of department
Apportion the costs of service department E on
A, B and respectively.
Din the ratio 5: 3: 2 to production departments
for each of the production departments assuming
) Calculate the overhead absorption rates
that overheads are recovered as a percentage of wages. (B. Com., Madras: B.B.M. Bangalore)
(6) A - 622.15%; B - 350.77%; C
Ans. (a) A - 12,443; B 10,523; C- 9,859;
246.47% ]
A, B and C and two service departments X and Y.
ACOmpany has three production departments
Ine expenses incured by them during a month are
X 723,400
A 80,000
Y 730,000
B 70,000
C 750,000
5.52 Cost and Managen1ent Account
nting
ihe expenses of service departments are apportioned to production departments on the
the fnl
follor.n
basis
3
Expenses of X 20% 40° 30 10%
20% 20 % 20%
Expenses of Y 40 %
Show clearly as to how expenses of X and Y Departments would be apportioned to A. R
departments.
B.Com., Calicut
[Ans. A 88,600: C
99,200; B -
66,500] -
5. Mahindra Machinists Ltd. has three p:oduction department (A, B and C) and two service Denart
(D and E). From the following fiyures extracted from the records of the company, calculat
overhead rate per labour hour:

Indirect materials 15,000
Depreciation on machinery 25,000
Depreciation on buildings 5,000
Rent, rates and taxes 10,000
Electric power for machinery 15,003
Electric power for lighting 500
General expenses 15,000
Total 95,500
Item Total A B C D
Direct materials 60,000 20,000 10,000 19,000 6,000 5,000
Direct wages 40,000 15,000 15,000 4,000 2,000 4,000
Value of machinery 2,50,000 60,000 1,00,000 40,000 25,000 25,000
Floor area (sq. ft.) 50,000 15,000 10,000 10,000 5,000 10,000
Horse power of machines 100 50 60 30 5
No. of light points 50 15 10 10 10
Labour hours 15,000 5,000 5,000 2,000 1,000 2,000
The expenses of Service Department D and E are to be apportioned as follows
A B C D
D 40% 20% 30% 10%
E 30% 30% 40%
[Ans. A 7 8.38; B - 7 7.95; C - 7 15.44]
Hint. Re-distribution of service department costs to A, B and C is on non-teciprocal basis
6. Overhead costs before distribution of service department costs are as follows
Production departments
A: 27,000
B
24,000
Service departments
P:
26,400
28,200
Auerheads-Accounting and Control 5.53
Service departments overheads are to be allocated to the production de partments as tollows

A B
Service departments P 55% 30% 15%
25% 35% 40%
Compute the total overheads of production departments. (B. Com., Madras)
Ans. A57,598; B 7 48,002]
7.The departmental distribution summary showed the following departmental totals

Departments A B D E
Amount 7 7,550 7,200 9,650 4,625 1,575
The costs of service departments D and E are to be charged on the basis of following percentages
A B C D E
D 20% 30% 40% 10%
E 40% 20% 30% 10%
Find the total overheads of production departments by using the following methods
() Simultaneous Equation Method
() Repeated Distribution Method. (B. Com.)
Ans. A 9,339; B 9,061; C R 12,200]
8. You are supplied with the following information and required to work out the production hour
rate of overheads A, B and C using the repeated distribution method :
A B C P
Primary overhead ? 7,810 12,543 4,547 4,000 2,600
Expenses of service departments P and Q are apportioned as under

A B C
P 30% 40% 20% 10%
10% 20% 50% 20%
Estimated working hours of production are as under : Deptt. A 1,000 hrs.; B 2,500 hrs.; C 1,400 hrs.
(B. Com., Bangalore)
Ans. Overheads-A 9,500; B 15,000; C 7,000
Production hour rate- A 7 9.50; B 6; C 7 5]
9. Murugan Ltd. has three production departments A, B and C and two service departments S, and
S. Monthly expenses in 7 -Rent 5,000; Indirect wages 1,500; Depreciation 10,000; Lighting
600; Power 1.500; Sundries 10,000.
Total Production Deptts. Service Deptts.
A C S. 5,
Floor space in square 10,000 2,000 2,500 3,000 2,,000 500
feet
10 15 20 10
Light points 60
3,000 2,000 ,000 1,500 500
Wages (F) 10,000
Horse Power of Machines 150 60 30 50 10
Value of Machines (7 2,50,000 60,000 80,000 1,00,000 5,000 5.000

Working hours 6,226 4,028 4,066
Cost and Managenent
5.54
Accounti1ting
The expenses of allocated as follows :
S, and S, are
B C P
A
20% 30% 40%
10%
20% 30% 10%
5, 40%
Calculate overhead charges recovery rate per hour.
Ans. Overhead hourly rate A 7 1.50; B 7 2.25; C7 3]
10. You are supplied with the following information and required to work out the production
rate of absorption of overheads in Departments A, B and C under Simultaneous equation mahou
of distributing Service Departments costs to Production Departments.
Particulars Production Departments Service Departments

A B C P
Total overheads 11,310 13,050 8,040 7,500 6,100

No. of hours worked 5,000 4,000 3,000
Distribution percentages of 30% 40% 20% 10%
service departments costs to
Q 15% 25% 40 % 20%
production departments
(B.Com., Bangalore)
Overheads
[Ans. Production Hours Rate
No. of hours
15,027 18,356 12,616
Deptt. A 5,000 73.005; Deptt B = 000= 7 4.589; Deptt C= 3.000 = 7 4.205).
11. The production department of a factory furnishes the following information for the month of
October:
Materials used 54,000

Direct wages 45,000
Labour hours worked ,000
Hours of Machine operations 30,000
Overheads chargeable to the departments 36,000
For an order executed by the department during the period, the relevant information was as under
Direct wages 7 3,200
3,200
Labour hours worked
2,400
Hours of Machine Operation
Calculate the overhead charges chargeable to the job by the following methods - () Direct mates
cost percentage rate, (i) Labour hour rate, and (ü) Machine hour rate.(B. Com., Delhi; Calicut)
[Ans. 4,000, (i) Rs, 3,200, (i) 2,8801
12. The following information relates to the activities of a production department for a certain penou
a factory:
Direct wages 760,000
Hours of machine operation 20,000
Labour hours worked 24,000
Overheads chargeable to the department 7 48,000
On one order carned out in the department during the period, the relevant data were
Labour hours 1,650
Direct wages 73,300
Machine hours 1,200
Prepare a comparative statement of cost of this order by using the following three methods of
recoveryof overheads
(i) Direct Labour Hour Rate Method; () Direct Labour Cost Rate Method; (ii) Machine Hour Rate
Method.
(B.Com., Delhi, Calicut)
Ans. Works Cost (i) 7 10,600; (i) 9,940; (ii) 10,180]
13. Atlas Engineering Ltd. accepts a variety of jobs which require both manual and machine operations.
The Profit and Loss Account for the period 2001-2002 is as follows:
(In lakhs of rupees)
Sales 75
Cost
Direct materials 10
Direct labour
Prime Cost 15
Production Overhead 30
Production Cost 45
Administrative, Selling and Distribution Overheads 15 60
Profit 15
Other data
Labour hours for the period 25,000
Machine hours for the period 15,000
No. of jobs for the period 300
An enquiry has been received recently from a customer and the production department has
prepared the following estimate of the prime cost required for the job
Direct material 2,500

Direct labour 2,000
Prime Cost 4,500
Labour hours required = 80; Machine hours for the period = 50
You are required to
(a) Calculate by different methods, six overhead absorption rates for absorption of overhead
and comment on the suitability of each.
(b) Calculate the production overhead cost of the order based on each of the above rates.
(ICWA Inter)
[Ans. % of material % of labour % of prime cost MHR DLHR Rate per unit
Rate 300% 600% 200% 7200 120 710,000
Overhead () 7,500 12,000 9,,000 10,000 9,600 10,000]
the machine hour rate from the following details
14. Calculate
1. Bought of machinery 45,000
2. Installation charges 7 5,000
Cost and Management.
5.56
Accounting
3. Life of machine 5 years
4. Working hours per year 2,50
5. Repairs charges 75% of depreciation
6. Electric power consumed: 10 units per hour @ 15 paise per unit
7. Lubricating oil 4 per day ol 8 hours
8. Cons mable stores @ 10 per day of hours
9. Wages of machine operator @R8 per day of 8 hours
(B.Com., Delhi
[Ans. 2.55]
15. Compute a machine hour rate su as to cover the overhead expenses given below
Per hour Per annum
Electric power 75 p.
Steam 20 p
Water 5P
Repairs T 680
Rent 350
Other information available is
T Original cost machine ****' 15,000
Present Book Value 3,000
Replacement Value 10.000
Rate of depreciation **'*' 10% per annum
Running hours of the machine 2,400 per annum
(B.Com., Andhra)
[Ans. 2.05]
[Hint. Depreciation has been caleulated on the original cost of machine.]
16. Compute the Machine Hour Rate from the following data:
Cost of machine 1,00,000

Installation charges 10,000
Estimated scrap value after the expiry of its life (15 years) 5,000
Rent and rates for the shop per month 200
General lighting for the shop per month 300
Insurance premium for the machine per annum
960
Repairs and maintenance expenses per annum
1,000
Power consumption- 10 units per hour
Rate of power per 100 units
20
Estimated working hours per annum 2,200
This includes setting up time of 200 hours
Shop supervisor's salary per non!h 600
The machine occupied 1/4th of tihe total of the
area shop. The supervisor is expected to devvote
1/5th his time foI supervising the nachine.
(B. Com., Delhi; Madras
[Ans. Machine hour rate 7 7.95]
Hint. It is assumed that setting up time of 200 hrs. is are
unproductive and thus effective houls
2,200 200 2,000.
Overheads 5.57
17. following information 1s made available from the costing records of a factory
cost of the nmachine
G) The original 71,00.000
Estimated life
10 years
Residual value
75,000
Factory operates for 48 hours
per week- 52 weeks in a year
Allow 15%o towards machine maintenance downtime. 5% may be allowed as setting up ime.
iil Electricity used by the machine is 10 units per hour at a cost of 50 paise per unit.
(i Repairs and maintenance cost is 7 500 per month.
(iv) Two operators attend the machine during operation along with two other machines. Their
totalwages, including frñnge benefits, amount to 5,000 per month.
(vOther overheads attributable to the machine are 7 10,431 per year.
Using the above data, calculte machine hour rate. (B. Com., Hons., Delhi)
[Ans. Machine hour rate 7 28.1
Hint.
Calculation of etfective working hours:
Total hrs. (48 x 52 weeks) 2,496
Less 15% machine maintenance 374
5% setting up time 125
499
Effectove hours 1,997

Ans. Machine Hour Rate 7 4.059|
18. Calculate machine hour rate from the following particulars
(a) Cost of the machine 7 23,000.
(6) Estimated life 15,000 hours.
(c) Estimated scrap value 7 500.
(d) Estimated working hour per annum 2,000.
Amount taken loan at 10% to purchase the machine R 15,000 (balance being provided by
(e) as
the firm itself)

unit.
)Power 20 units per hour @ 10 paise per
annum? 1,500.
9)Repairs and maintenance per
three other machines also).
(h) Number of operators 2 (looking after
? 200.
(1) Wages per operator per nmonth
machine ? 2,400 p.a.
)Overheads chargeable to the (B. Com. Osmania)
machine.
annum is 1% ot the cost of the
R) Insurance premium per
[Ans. 7 6.17] been included.]
Hint: Interest has not been included
but wages of operator have
to have a scrap value of
5% at the end of its effective
. A machine costs 7 90,000 and is deemed
annum but it is
to run for 2,400 hours per
ute (19 years). Ordinarily the machine is expected further 750 hours
maintenance and
eshmated that 150 hours will be lost
for normal repairs and
machine shop are
wll be lost due to staggering. The
other details in respect of the
contribution of each of two operators (each
operator
(a) Wages,bonus and provident fund 6,000 per year
is incharge of two machines) 3,000 per year
6) Rent and rates of the shop 250 per month
(c) General lighting of the shop
Account
ounting
d) Insurance premium for the machine 200 per quarter
(e) Cost of repairs and maintenance per machine
250 per month
) Shop supervisor's salary 500 per month
g) Power consumption of the machine per hour-20 units/1ate of
power per 100 units 10
(h)Other factory overhead attributable to the shop
There are four identical machines in the shop. The supervisor is expected to devote 1/5th of
4,000 per yeat
for supervising the machine. Compute a comprehensive machine hour rate from the aboe is time
detals
(B. Com. Hons.,
[Ans. 7 12 Delhi
Hint: 1. Computation of Machine Hours
Hours
Annual working hours 2,400
Less: (a) Required for
normal maintenance and repairs 150
(6) Hours lost due to staggering 750 900
Normal working hours per annum
1,500
Hours lost due to staggering have been treated as normal loss.
2. Comprehensive "machine hour rate means a rate
including direct wages of machine operators
20. Work out the Machine Hour Rate for the following machine whose scrap value is nil:
Details
Cost of machine
(7)
1,90,000
Freight and installation charges
10,000
Working life Five years
Repairs and maintenance 40% of depreciation
Annual power expenses @ 25 paise per unit
6,000
Eight hourly day charges:
(1) Power 24
(2) Lubrication oil 20
(3) Consumable stores 28
4) Wages 80
(B.Com., Hons., Delhi)
[Ans. 7 47]
(Hint:Calculation of working hours per year:
Power bill per 8 hours = 24
Power cost per hour = { 24 +8 = 73
No. of hours per year ={ 6,000 +3 2,000
= hrs.]
21. From the following particulars, calculate the Machine
Hour Rate :
Total machine hours worked 2,200 p.a.
Setting up time 200 hours.
Expenses for the Machine
R
Rent
6,000 p.a.
Lighting 600 p.a.
Repairs 1,200 p.a.
Supervision 2,400 p.a.
Overheads-Accounting and Coutrol 5.59
Two attendants looking atter four machines were paid 7 60 per month each. Power consumed by
the machine 10 units per hour at the rate of 20 per 100 units. Cost of the machine R 8,600.
Scrap value at the end is estimated at 600. ife period 16,000 hours.
Sundry suppies for the machine shop 7 240 per month.
There are four identical machines in the machine shop. Supervisor is expected to devote nis
time equally for all the machines. (B.Com., Madras)
[Ans. 7.24]
22. In a tactory department, a machine costs 11,500. It is expected that it will work for about
20,000 hours and its sCrap value is estimated at 1,500.
The rent for the department is 400 p. m. and 25% of the area of the department is utilised for
conducting the operation of the machine.
One foreman and an operator are employed on a salary of 800 and 400 p.m. respectively to work
on one more machine of a similar type.
The other expenses for the month in the department are as follows:
Light charges for the department 7 80, having 16 light points in all. out of iswhich only 4 points are
used at this machine. Total power consumed for two machines of 7 320. Indirect labour
equal H.P.
for the machine is 50 and repairs R 40.
to work for 40
You are required to compute the machine hour rate for the month when it is expected
hours a week. (B. Com., Bangalore)
Ans.6.56]
three machines to which the following expenses have been allocated:
23. In a factory department, there are
Machine A 639
B 607
951
materials to the machine as necessary. The
In addition, there is an overhead crane to bring
machine 570. ;
expenses allocated to this
are
the machines were used as follows

During the period of expenditure, Machine C
Machine A Machine B
Hrs. Hrs.
Hrs
130 480
With use of crane 160
428 577
Without use of crane
707 480
Total 588
hours in which the
each machine distinguishing between the
Calculate machine hour rate for (Adapted)
crane those in which it is not.
is used and
1.98 With crane 7 1.83, 7 1.60, 7 2.72 ]
[Ans. Without crane 7 1.09. Re. 0.86,
similar to Problem 5.16 solved]
Hint. This is the
all machinery inclusive of
new
for 5 lakhs. The total cost of

24,A machine was purchased The following further particulars are available
lakhs.
machine was7 75
10 years
Expected life of the machine
5,000
Scrap value at the end of ten years
the year 7 2,000.
maintenance for the machine during
Repairs and machine per year 4,000
hours.
hours of the
Expected number of working machines 4,500
for all the
Insurance premium annually hour (@ 75 paise per unit)
25 units.
machine per
consumption for the
Electricity ft.
Area occupied by the machine 100 sq.
Cost and
5.60
Management Aco
Area occupied by other machines 1,500 sq. ft.
Accountin,
Rent per month of the department ? 800.
Lighting charges for 20 points for the whole department, out of which three Doint. three points are for t
machine 120 per month.
machine hour rate for the machine on the basis of the data given
Compute the new ah.
(B. Com.,
[Ans. Machine Hour Rate =7 31.904)
Hons., Deh
25. In a manufacturng unit overhead was recovered at a pre-determined rate of 20 per labour.
total factory overhead incurred and the labour-hours actually worked were 45.00.0n T
labour-hours respectively. During this period 30,000 units were sold. At the end of the Deri
units were held in stock while there was no opening stock of finished goods. Similarly though the
no stock of uncompleted units at the beginning of the period, at the end of the peiod there wera
uncompleted units which may by reckoned at 50% complete. 10,0
On analysing the reasons, it was found that 60% of the unabsorbed overheads were due to daf.
planning and the rest were attributable to increase in overhead costs. How would unabsorbed OVerh defectire
be treated in cost accounts?
(C.A. Inter
[Ans. Unabsorbed overhead 7 5 lakhs, Supplementary Rate - 2,00,000 + 40,000 units =75 per mr
Transfer to costing P&L A/c 3,00,00

26. In a certain factory, there are three departments about which the following information is available
Overhead Direct wages
Department 1 10,000 5,000

Department 2 5,000 10,000
Department 3 15,000 15,000
Total 30,000 30,000
Overhead rate = 100% of direct wages.
For each job, overhead is charged 100% on direct wages. Assuming that direct wages are à got
measure for charging the ovethrad, can you see any objection? (T.C.W.A, Tte
[Ans. Instead of blanket (single) ate, multiple rates should be used]
office
27. In a factory, factory are charged on a fixed percentage basis on wages ànd
the expenses of
overhead expenses are calculated on the basis of percentage of works cost. Following informato
supplied to you:
I order
I order
18,000
Matetial 12,500
14,0
Wages 10,000 61,80
Selling price 44,850 12%
Percentage of profit on cost 15%

Find out the percentage for factory overhead and office overhead. Andha
B.Com.,
(C.A., Inter; I.C. W.A. Inter;
Ans. Factory overhead = 75% of wages
Office overhead =
30% of works cosi]

Chapter 5 (Oh Cost)

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5.1-5.

Meaning and Definition of Overheads

Overheadcosts may be classified according to:

machinery, depreciation of factory

Steps in Distribution of Overheads units of

Collection of Overhead accounts. The

to a process, etc. It has been defined as

can be easily identified and allotted to this department. Similarly,

Production and Service Departments

on the other hand, is one depart

2.(i) Fringe benefits

Rent and Rates

Apportionment of Serviçe Department Overheads

Apportionment to Production Apportionment to Production

departments only. as well as other Service departmens

Non-reciprocal basis Reciprocal bas

department is distributed to only production department. Some of the eaand Donmen

important bases of appo

Canteen (a) No. of employees

5,000 1,000 1,000

Theexpenses for 6 months were:

Basis of ApportionmentTotal Production Deptts.

Wages Direct (as given) 2,000 1,000 1,00

Department Y Direct Wages (7:6:5) 1,416 1,213 1,011 - 3,640

Floor space (sq. feet) 5,000 4,000 1,000 2,000

H.P. of machines 1,000 500 400 100

Expenses Basis Total Production Deptts Service Deptts.

Depreciation Asset value 1,90,000 1,00,000 50,000 30,000 10,000

More Than Two Service Departments

time-keeping, stores and maintenance. The departmental

Particulars Production Deptts. Service Deptts.

Y Time-keep ng Stores Maintenanmce

Machine hours 2,400 1,600

Primary Summary 16,000 10,000 4,000 5,000 416

Time-keeping Deptt. | No. of Employees 1,667

Total 22,845 15,155

This method is followed when service

and department C renders service to A and B. Thus each service serviceme

which are used for reciprocal as

Simultaneous Equations Method 5.11

Simultaneous Equations Method. In thisRepeated Distribution Method.

The following particulars relate to a

Items Total Production Departments

Total as per Primary Distribution 16,500 6,300 7,400 2,800

distributed to A, B, C and Y in the

three productiOn departments and two service departments. Distribution summary

Total as per summary

ABSORPTION OF FACTORY OVERHEAD

departments. This is knowm manufactured in the respectiveP

The purpose behind

also known as recovery or output of the given period. Absorption of ov

each cost unit, the overheads

It is calculated by dividing the actual than actual rates.

rate is of greater practical

Dlanket overhead rate is a single overhead accurate cost.

METHODS OF ABSORPTION OF FACTORY OVERHEADD

factor so that two jobs using the

for much longer period than the other.

.This method does not distinguish between work done

Overhead rate = Factory overhead

Overhead rate = 10,000 x 100 20%

Factory overnead x 100 =