Upload
gaurav-agarwal
View
239
Download
0
Embed Size (px)
Citation preview
7/29/2019 Overheads Absorbtion
1/29
STEP-II Overhead Absorption
Overhead Application (or Absorption) the process of
assigning manufacturing overhead costs to production jobson some equitable basis
RESULTS cost of each product includes equitable share of total overheads
PROCESS
select absorbtion base
calculate absorbtion rate per unit of base selected for each
production centre
apply absorption rate to various products or jobs
7/29/2019 Overheads Absorbtion
2/29
STEP-II Overhead Absorption
PROCESS
I- SELECT ABSORBTION BASE which may be
DIRECT MATERIAL---------FACTORY OVHDS/DIRECT MATL
DIRECT LABOUR---------FACTORY OVHDS/DIRECT LABOUR
PRIME COST---------FACTORY OVHDS/PRIME COSTS
DIRECT LABOUR HOUR---------FACTORY OVHDS/UNITSOF PRODUCTION
MACHINE HOUR RATE---------FACTORYOVHDS/MACHINE HOURS
7/29/2019 Overheads Absorbtion
3/29
Overhead AccountingBeginning of
Accounting periodEnd of
Accounting period
TimeBudgeted
overhead
(and calculation of
predetermined
overhead rate)
Applied
overheadActual
overhead
Predetermined
Overhead Rate
Budgeted manufacturing-overhead cost
Budgeted amount of cost driver (activity base)=
f f O
7/29/2019 Overheads Absorbtion
4/29
Estimated total manufacturing
overhead cost for the coming period
Estimated total units in theallocation base for the coming period
POHR =
The predetermined overhead rate (POHR) used to apply
overhead to jobs is determined before the period begins.
This budgeted rate is used to apply overhead to all jobscompleted during the year.
Application of Manufacturing Overhead
Ideally, the allocation baseis primary cost driver thatcauses overhead.
Both the numerator and denominator
of the predetermined overhead rate are
based on estimated amounts.
7/29/2019 Overheads Absorbtion
5/29
Predetermined Overhead Rates
Estimated total
factory overhead costs
Estimated activity base
Predeterminedfactory overhead rate
=
Why is the predetermined overhead rate calculated fromestimated numbers at the beginning of the period?
It is a tradeoff between accuracy and timeliness.If a company waited until the end of an accounting period,
when all overhead costs are known, the allocated factoryoverhead would be accurate but not timely.
7/29/2019 Overheads Absorbtion
6/29
Manufacturing Overhead Costs Managers making decisions today cannot wait until the
end of the year for product cost information.
To solve this problem accountants develop an estimatedoverhead allocation rate.
Using a predetermined rate makes it
possible to estimate total job costs sooner.
Actual overhead for the period is notknown until the end of the period.
$
7/29/2019 Overheads Absorbtion
7/29
Job Cost SheetsManufacturing Overhead Applied
7/29/2019 Overheads Absorbtion
8/29
Pear.Co applies overhead based on direct
labor hours. Total estimated overhead for theyear is $640,000. Total estimated labor cost is
$1,400,000 and total estimated labor hoursare 160,000.
What is Pear.Cos predetermined overheadrate per hour?
Overhead Application
Example
7/29/2019 Overheads Absorbtion
9/29
Overhead ApplicationExample
$640,000
160,000 direct labor hours (DLH)POHR =
Estimated total manufacturingoverhead cost for the coming period
Estimated total units in theallocation base for the coming period
POHR =
7/29/2019 Overheads Absorbtion
10/29
STEP-II Overhead Absorption
PROCESS
II- CALCULATE ABSORBTION RATE PER UNITOF BASE SELECTED FOR EACH PRODUCTION
CENTRE which may be
as % of direct material cost as % of direct labour cost
as % of prime cost
as % of labour hour rate as % of machine hour rate
7/29/2019 Overheads Absorbtion
11/29
For each direct labor hour worked on ajob, $4.00 of factory overhead will be
applied to the job.
Overhead ApplicationExample
POHR = $4.00 per DLH
$640,000
160,000 direct labor hours (DLH)POHR =
Estimated total manufacturingoverhead cost for the coming period
Estimated total units in theallocation base for the coming period
POHR =
STEP II O h d Ab i
7/29/2019 Overheads Absorbtion
12/29
Application of Manufacturing Overhead
Overhead applied = POHR Actual activity
Actualamount of the cost driver such asunits produced, direct labor hours, or
machine hours. Incurred during the period.
Based onestimates, and
determined before the periodbegins.
STEP-II Overhead AbsorptionPROCESS
III- APPLYING ABSORBTION RATE TO VARIOUS
PRODUCTS OR JOBS
:Overhead applied = $4 per DLH 8 DLH = $32
Overhead applied = POHR Actual activity
7/29/2019 Overheads Absorbtion
13/29
Job-Order Cost Accounting
Overhead applied = $4 per DLH 8 DLH = $32
Overhead applied = POHR Actual activity
7/29/2019 Overheads Absorbtion
14/29
Summarising the Two-Step Process to ApplyManufacturing Overhead to Products
Step One
Annual expected (budgeted)
manufacturing overheadAnnual expected (budgeted) activity level
(e.g., direct labor hours)
= Predeterminedoverhead rate
Step Two
Predeterminedoverhead rate
xActual activitylevel per job
=Allocated manufacturingoverhead assigned to job
S i i th T St P t A l
7/29/2019 Overheads Absorbtion
15/29
Estimated total manufacturingoverhead cost for the coming period
Estimated total units in theallocation base for the coming period
POHR =
Overhead applied = POHR Actual activity
Based onestimates, and
determinedbefore the period
begins.
Actualamount of the cost driversuch as units produced, direct laborhours, or machine hours. Incurred
during the period.
Work in Process
Job1
Job2
Job3
Allocation baseexamples
1. Direct labor hours2. Direct labor dollars3. Machine hours4. Direct materials
5. Other
Summarising the Two-Step Process to ApplyManufacturing Overhead to Products
7/29/2019 Overheads Absorbtion
16/29
Learning Objective
Understand the process of
accounting for overhead.
O h d R t
7/29/2019 Overheads Absorbtion
17/29
Actual Overhead
Actual annual manufacturing overhead
costs. Needed for accurate determination of
income.
Recorded as debit to ManufacturingOverhead.
Overhead Rates
Actual vs Predetermined or standard rate
O h d R t
7/29/2019 Overheads Absorbtion
18/29
Overhead Rates
Actual vs Predetermined or standard rate
ACTUAL OVERHEAD RATESKnown only after end of accounting period when all
costs/production figures have been collected
DisadvantagesVariation due to seasonal nature of some overhead costs
e.g. change in volume of production, efficiency
Overheads paid in advance
Fire insurance premiumIt should be charges to all works manufactured during the
year
How should absorbtion be done?
O h d R t
7/29/2019 Overheads Absorbtion
19/29
Predetermined Overhead
Amount of overhead applied to products
using the predetermined overhead rate. Recorded as credit to Manufacturing
Overhead.
Overhead Rates
Actual vs Predetermined or standard rate
O erhead Rates
7/29/2019 Overheads Absorbtion
20/29
Overhead Rates
Actual vs Predetermined or standard rate
PREDETERMINED/APPLIED OVERHEAD RATESGenerally used
Calculated in advance of the period by
estimated production overhead to be absorbed
estimated period production (may be based on anyabsorbtion base such as prime cost, labour cost)
Advantages
Constant unit cost
Avoid unit cost fluctuationResults in UNDERABSORBTION/UNDERAPPLICATION
OR
OVERABSORBTION/OVERAPPLICATION
U d li d d O li d O h d
7/29/2019 Overheads Absorbtion
21/29
Underapplied and Over applied Overhead
Under applied Overhead the amount by which a periods actual
manufacturing- overhead exceeds applied manufacturing- overhead
Over applied Overhead the amount by which a periods appliedmanufacturing- overhead exceeds actual manufacturing- overhead
Actual manufacturing-overhead $29,050
Applied manufacturing-overhead $28,800
Under applied overhead $ 250
Manufacturing Overhead
Actual
10
Applied
20
Manufacturing Overhead
Actual20
Applied10
(Cost of job is overstated) (Cost of job is understated)
7/29/2019 Overheads Absorbtion
22/29
Overhead Application
ExamplePearCos actual overhead for the year was$650,000 for a total of 170,000 direct labor
hours.
How much total overhead was applied to PearCos jobs during the year? Use Pear Cospredetermined overhead rate of $4.00 per
direct labor hour.
7/29/2019 Overheads Absorbtion
23/29
Overhead Application
Example
SOLUTIONApplied Overhead = POHR Actual Direct Labor Hours
Applied Overhead = $4.00 per DLH 170,000 DLH =$680,000
PearCos actual overhead for the year was $650,000 for atotal of 170,000 direct labor hours.
How much total overhead was applied to PearCos jobs
during the year? Use PearCos predetermined overheadrate of $4.00 per direct labor hour.
7/29/2019 Overheads Absorbtion
24/29
SOLUTIONApplied Overhead = POHR Actual Direct Labor Hours
Applied Overhead = $4.00 per DLH 170,000 DLH= $680,000
PearCos actual overhead for the year was $650,000 for atotal of 170,000 direct labor hours.
How much total overhead was applied to PearCos jobs
during the year? Use PearCos predetermined overheadrate of $4.00 per direct labor hour,
Overhead Application
Example
PearCo hasoverappliedoverhead for the yearby $30,000. What will
PearCo do?
7/29/2019 Overheads Absorbtion
25/29
Treating Applied OverheadTwo methods for treating over- and underapplied MOH:
- Proration :Allocate over- or underapplied manufacturingoverhead to Work-in-Process Inventory, Finished Goods
Inventory, and Cost of Goods Sold on the basis of theending balances in these three accounts.
- More accurate; any difference is allocatedproportionately.
- More complicated; requires detailed calculations.
- Disposition :Close over- or underapplied overheaddirectly to Cost of Goods Sold.
- Easier and more commonly used, especially if
amount is small.- Debit MOH, Credit COGS.
O li d d U d li d
7/29/2019 Overheads Absorbtion
26/29
Work in
Process
Finished
Goods
Cost ofGoods Sold
$30,000may be allocated
to these accounts.
$30,000 may beclosed directly to
cost of goods sold.
Cost ofGoods Sold
Overapplied and UnderappliedManufacturing Overhead
PearCos Method
OR
7/29/2019 Overheads Absorbtion
27/29
Overapplied and Underapplied
Manufacturing Overhead
PearCos
Mfg. OverheadActual
overheadcosts
$650,000
$30,000overapplied
PearCos Cost
of Goods SoldUnadjusted
Balance
$30,000
$30,000
AdjustedBalance
OverheadAppliedto jobs
$680,000
7/29/2019 Overheads Absorbtion
28/29
Overapplied and Underapplied
Manufacturing Overhead - Summary
Alternative 1 Alternative 2
If Manufacturing Close to Cost
Overhead is . . . of Goods Sold Allocation
UNDERAPPLIED INCREASE INCREASE
Cost of Goods Sold Work in Process
(Applied OH is less Finished Goods
than actual OH) Cost of Goods Sold
OVERAPPLIED DECREASE DECREASE
Cost of Goods Sold Work in Process
(Applied OH is greater Finished Goods
than actual OH) Cost of Goods Sold
PearCosMethod
7/29/2019 Overheads Absorbtion
29/29
Actual and Normal Costing
Actual direct materialand direct labor
combined withactual overhead.
Actual direct materialand direct labor
combined withpredetermined overhead.
Using a predetermined rate makes it
possible to estimate total job costs sooner.
Actual overhead for the period is notknown until the end of the period.