Distribution of Factory Overheads

Distribution of factory overheads involves three stages:

(i) Collection and classification of factory overheads

All factory overheads would be collected and classified under appropriate accounting headings, e.g. factory rent, insurance, lighting, depreciation etc. Each heading will be given appropriate standing order number.

(ii) Departmentalisation of factory overheads

The term departmentalisation of overheads refers to the allocation and apportionment of overheads among various departments. In case of factory overheads it involves:

(i) Allocation and apportionment of overheads among production and service departments. Production departments manufacture products while service departments help them in this process. For example, in a textile industry the yarn and clothes departments are production departments while those of a boiler house repairs are service departments. This is known as primary distribution of factory overheads.

(ii) Apportionment of service departments’ overheads among production departments. This is known as secondary distribution of factory and also re-apportionment of factory overheads.

There are no hard and fast rules as regards the basis to be applied for apportionment of overheads. Any one or more of the following methods may be used.

(a) According to departmental wages: Expenses which vary directly with the departmental wages paid can be apportioned on this basis, e.g. premium for workmen’s compensation insurance etc.

(b) According to capital values of the assets: Overheads such as depreciation of buildings, plant and machinery, fire insurance premiums on these assets, etc. may be apportioned on his basis.

(iii) Apportionment of service department overheads

After the overheads have been classified between production and service departments the costs of service departments are charged to such production departments which have been benefited by their services. Any one or more of the following methods may be adopted for this purpose:

(a) Service or use method: Under this method overheads are distributed over various production departments on the basis of services actually rendered. This criterion has the greatest applicability in cases where overheads costs can be easily and directly traced to departments receiving the benefits.

(b) Potential benefits: Under this method service department overheads are charged to production departments on the basis of potential rather than actual services rendered. This method is particularly useful where the service department costs are largely fixed and services have been provided taking into consideration the potential requirements of the various departments.

(c) Ability to pay method: This method presumes that higher the revenue of a production department, higher is the proportionate charge for services. For example a textile mill may apportion its overheads between superfine quality and controlled quality of cloth on this basis. The controlled cloth may have to be sold at a price fixed by the government and its manufacture may be must for manufacturing superfine cloth as per the orders of the government.

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