CMA Intermediate · Cost Accounting

Overheads: formula sheet

Full chapter guide

Key formulas

Overheads: Overheads = Indirect material + Indirect labour + Indirect expenses; Total of all costs that are not direct. Prime cost excludes them.
Semi-variable cost split (high-low): Variable cost per unit = (Cost at high activity − Cost at low activity) ÷ (High activity − Low activity); Then fixed cost = Total cost at either level − (Variable cost per unit × Activity at that level).
Fixed cost per unit: Fixed cost per unit = Total fixed cost ÷ Units of activity; Falls as activity rises, within the relevant range.
Variable cost behaviour: Total variable overhead = Variable overhead per unit × Units of activity; Per unit it stays constant.
Allocation rule: Allocated overhead = Whole amount of an item identified with one cost centre or cost unit; No basis or ratio is needed. The item is charged in full to the centre that incurred it.
Allocation vs apportionment: Allocation = whole item to one centre; Apportionment = item divided among two or more centres; Use this test first for every item in the overhead statement.
Departmental total after allocation: Total overhead of a centre = Allocated items + Apportioned share of common items; Use it when building the primary distribution statement.
Check total: Σ overheads distributed to all centres = Total overheads collected; Always verify this. Nothing should be lost or counted twice.
Apportionment rate: Rate per unit of base = Total overhead ÷ Total units of base (all centres); Include service departments in the total base. They also use the shared facility.
Share of a centre: Overhead apportioned to a centre = Rate × Centre's units of base; Equivalent to Overhead × (Centre's base ÷ Total base).
Check: Σ of amounts apportioned to all centres = Total overhead; Always verify this. Also check that the grand total of all centres equals total overheads.
Usual bases: Rent, rates, building depreciation, building insurance → floor area or volume | Lighting → light points or area | Power → kWh, or HP × hours | Machinery depreciation, insurance, repairs → value of machinery | Canteen, welfare, supervision → number of employees | Time-keeping, payroll → employees or labour hours | Stores costs → number or value of requisitions; Use the base given in the question. If none is given, choose the one that reflects benefit and state it.
Direct method share: Share of production dept = Service dept cost × (Dept's basis ÷ Total basis of production depts only); Ignore other service departments when finding the total basis.
Step method share: Share = Cost to be cleared × (Dept's basis ÷ Total basis of all departments not yet cleared, excluding the one being cleared); Once a department is cleared, it receives nothing later.
Reciprocal equations: S1 = Own primary cost + (% of S2's service going to S1) × S2; S2 = Own primary cost + (% of S1's service going to S2) × S1; S1 and S2 are the total costs to be distributed, including charges received from each other.
Final check: Σ production dept overhead after re-apportionment = Σ primary overhead of all departments; Holds for all three methods.
Predetermined overhead rate: Rate = Budgeted overheads ÷ Budgeted base (hours, units or value); Use budgeted overhead and budgeted base for the same period and the same cost centre.
Machine hour rate: Rate per machine hour = Overheads of the machine or department ÷ Machine hours; Use hours the machine is expected to work, not the hours it is available. Deduct normal idle time such as setup and repairs.
Direct labour hour rate: Rate per labour hour = Budgeted overheads ÷ Budgeted direct labour hours; Suited to labour-intensive departments.
Percentage of direct material: Rate % = Budgeted overheads ÷ Budgeted direct material cost × 100; Use when overheads relate mainly to materials, such as storage and handling.
Percentage of direct wages: Rate % = Budgeted overheads ÷ Budgeted direct wages × 100; Works only if wage rates are uniform across workers.
Percentage of prime cost: Rate % = Budgeted overheads ÷ Budgeted prime cost × 100; Prime cost = direct materials + direct labour + direct expenses.
Rate per unit: Rate per unit = Budgeted overheads ÷ Budgeted output units; Suited only to uniform products.
Overhead absorbed: Absorbed overhead = Rate × Actual base used; For a percentage rate, apply the percentage to the actual cost of the job.
Predetermined overhead rate: Budgeted overhead ÷ Budgeted base (hours, units or value); Fixed before the period. Use budgeted figures for both numerator and denominator.
Overhead absorbed: Predetermined rate × Actual base; Use actual hours or units, not budgeted ones.
Under absorption: Actual overhead − Overhead absorbed (when positive); Debit balance in Overhead Control Account; cost profit is overstated until written off.
Over absorption: Overhead absorbed − Actual overhead (when positive); Credit balance in the Overhead Control Account; cost profit is understated.
Treatment of difference: Under absorption: Dr Costing P&L A/c, Cr Overhead Control A/c. Over absorption: Dr Overhead Control A/c, Cr Costing P&L A/c; This is the simple write-off method. Supplementary rate or proration applies where the question asks.
Supplementary rate: Under or over absorbed amount ÷ Actual base carried in WIP, finished goods and cost of sales; Used to correct the charge on units already costed. Apply it to the hours or units in WIP, finished goods and cost of sales, not to total production, unless the question states otherwise.
Idle capacity cost: Idle capacity cost = Fixed overhead ÷ Budgeted (or normal) capacity × Idle capacity units; Use the rate based on normal or budgeted capacity. Split the result into normal and abnormal parts.
Overhead rate on normal capacity: Rate = Total fixed overhead ÷ Normal capacity (units or hours); Normal idle capacity is already inside this rate, so it is absorbed into product cost.
Abnormal idle capacity: Abnormal idle capacity cost = Idle units due to abnormal causes × Fixed overhead rate; Charge to the costing profit and loss account. Do not include in product cost.
Royalty treatment rule: Royalty on production = direct expense; Royalty on sales = selling overhead; The basis of payment decides the treatment.
Packing treatment rule: Primary packing = direct cost; Secondary packing = selling and distribution overhead; Special packing for a job is charged directly to that job.
R&D treatment rule: Process or product improvement R&D = production overhead; Specific-job R&D = direct cost of the job; Large R&D with future benefit = amortised over the benefit period; Spread production overhead R&D over output of the period.
Interest on capital rule: Financial interest = excluded from cost; Notional interest = included only if instructed; If included in cost, reverse it in the reconciliation with financial accounts.

Quick revision

Overheads are indirect costs: indirect materials, indirect labour and indirect expenses.
Allocation charges a whole cost item to one cost centre; apportionment shares it on a basis.
Primary distribution covers all costs to all departments; secondary distribution moves service costs to production departments.
Match the basis to the cost: rent to floor area, lighting to number of light points, power to horsepower or units used.
Direct method ignores service-to-service services; step method recognises them one way; reciprocal method recognises them both ways.
Predetermined overhead rate = budgeted overheads ÷ budgeted base (hours, units or cost).
Machine hour rate suits machine-intensive departments; direct labour hour rate suits labour-intensive ones.
Absorbed overhead = actual base × predetermined rate.
Under absorption = actual overhead more than absorbed overhead; over absorption = absorbed more than actual.
Always check that the total after re-apportionment equals the total before it.
Treat abnormal idle time cost as a loss, not as part of the overhead rate.
Where an overhead is a normal, recurring item, include it in cost; abnormal items go to costing profit and loss.

Common mistakes

Treating every overhead as fixed because it is indirect. Fix: Classify direct versus indirect first, then behaviour separately. Indirect lubricants, for example, are variable.
Saying fixed cost per unit is constant. Fix: Remember that total fixed cost is constant and per-unit fixed cost falls as activity rises.
Using the words allocation and apportionment as if they mean the same thing. Fix: Remember: allocation is the whole item to one centre; apportionment is a share of an item to many centres.
Apportioning an item that is clearly specific to one department. Fix: Scan the wording first. If the item names one department, charge it in full there.
Leaving service departments out of the base total Fix: Service departments occupy space and use power too. Include every centre in the total base unless the question says otherwise.
Apportioning an item that should be allocated Fix: Read the data first. If an expense is stated as incurred for one department, charge it there in full.
In the direct method, including service departments in the basis total. Fix: Recalculate the base using production departments only. For example, shares of 40% and 30% become 4/7 and 3/7.
In the step method, sending cost back to a department already cleared. Fix: Strike out cleared departments. Redistribute only over the departments that remain.
Using actual overheads or actual hours to find the rate Fix: Use budgeted figures for the rate. Use actual hours only when applying the rate to a job.
Using total available machine hours Fix: Deduct normal idle time, setup and maintenance hours before dividing.

Exam tips

MCQs often give an item and ask for its correct classification. Decide direct or indirect first, then behaviour.
In written answers, use a short list with the item, the head and a one-line reason. Reasons earn the marks.
Practise the high-low split. Always verify your fixed cost by checking both activity levels.
For codification, give the purpose, the features of a good code and a short illustration. Do not write only the definition.
Keep the controllability point tied to a named manager or level, since the answer depends on it.
Start every overhead statement by labelling each item as allocated or common. Examiners award marks for the correct treatment, not just the final figure.
In theory questions on the difference, write the definition of each term and add one example of each. Two or three points are enough.
Do not apportion an item when the question says it relates to one department. Wasted time and wrong figures both cost you.