What is a plantwide overhead rate?
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You have to consider more than the cost of the goods or services your company sells when you set prices. A business has a variety of additional costs that must be allowed for when determining prices. A plantwide or single overhead rate is one method for allocating these indirect costs so you can set prices appropriately. Show
Components of OverheadOverhead is the general term for costs a business pays other than the direct costs of producing a good or service. A portion of these indirect costs, such as rent, utilities and office expenses, must be allocated to each unit of production to arrive at an accurate estimate of the total cost of the unit. When a plantwide overhead rate is used, all items produced are allocated a share of the overhead based on a single parameter. Typically, a plantwide overhead rate assigns a cost figure based on the labor hours needed to produce one unit. Gathering Direct and Indirect CostsTo calculate a plantwide overhead rate, you need specific information. First, find the total of all operational costs other than the direct cost of production for the period you are measuring. Typical direct costs are raw materials and direct production labor. Collectively, the indirect costs are your overhead. You also need the total number of direct labor hours and the direct labor hours required to produce each product the plant manufactures. Per unit labor hours can be calculated by dividing the total labor hours used to manufacture each product by the number of units manufactured. Calculating the Plantwide Overhead RateTo calculate the plantwide overhead rate, first divide total overhead by the number of direct labor hours used to find the overhead per labor hour. Next, multiply the overhead per labor hour by the number of labor hours used to produce each unit. Suppose your overhead total for a month is $120,000 and the plant requires 1,500 labor hours to produce 1,000 units of Product A. The plant also produces 2,000 units of product B, using another 1,000 labor hours in the process, for an overall total of 2,500 labor hours. Divided into the overhead of $120,000, this comes to $48 in overhead per labor hour. Product A requires 1.5 hours per unit, so the overhead rate is 1.5 times $48, or $72 per unit. For product B, two labor hours are needed per unit, so the overhead per unit equals two times $48, or $96. An Alternative Approach Using Direct CostAnother approach to calculating a single or plantwide overhead rate uses direct cost as a basis, rather than direct labor hours. To calculate this number, identify the total direct cost of production and the total overhead costs for the month. Divide the total overhead by the direct costs. For example, if overhead totals $75,000 for a month and direct costs equal $125,000, you have an overhead rate of 0.6 or 60 cents of overhead for every dollar of direct costs. Multiply the direct cost of one unit by 0.6 to find the amount of overhead you should allocate per unit. In this example, if the direct cost of one unit of a product is $80, multiplying $80 by 0.6 gives an overhead cost allocation of $48. References Writer Bio Based in Atlanta, Georgia, W D Adkins has been writing professionally since 2008. He writes about business, personal finance and careers. Adkins holds master's degrees in history and sociology from Georgia State University. He became a member of the Society of Professional Journalists in 2009. What is the Plantwide Allocation of Costs?The plantwide allocation method uses one predetermined overhead rate to allocate overhead costs.
Annual overhead costs are estimated and direct labor hours are used for the plantwide allocation base. These estimates are based on the previous year’s overhead costs and direct labor hours and are adjusted for expected increases in demand the coming year. The predetermined overhead rate is applied for each direct labor hour worked. One cost pool accounts for all overhead costs, and therefore one predetermined overhead rate is used to apply overhead costs to products. How to Determine Product Costs Using the Plantwide Allocation ApproachThe calculation of a product’s cost involves three components—direct materials, direct labor, and manufacturing overhead. This information, combined with the overhead cost per unit, gives us what we need to determine the product cost per unit for each model. Given the predetermined overhead rate per direct labor hour, and assuming it takes A hours of direct labor to build a unit product 1, and B hours to build a unit of product 2, we can calculate the manufacturing overhead cost per unit. Manufacturing overhead cost per unit is Base Rate × A direct labor hours + Base Rate × B direct labor hours. Combine the manufacturing overhead with direct materials and direct labor and we are able to calculate the product cost per unit. Although the plantwide allocation method is the simplest and least expensive approach, it also tends to be the least accurate. In spite of this weakness, why do some organizations prefer to use one plantwide overhead rate to allocate overhead to products? Organizations that use a plantwide allocation approach typically have simple operations with a few similar products. Management may not want more accurate product cost information or may not have the resources to implement a more complex accounting system. As we move on to more complex costing systems, remember that these systems are more expensive to implement. Thus the benefits of having improved cost information must outweigh the costs of obtaining the information. Related Topics
How do you calculate a plantwide overhead rate?Plantwide Overhead Rate Method
Divide your total expenses for the plant by the total number of units you produce. This will give you a per-unit rate. Using the plantwide overhead rate formula, if expenses come to $10,000 for instance and you produce 2,500 units, $10,000 divided by 2,500 equals four.
When should you use a plantwide overhead rate?Plantwide Overhead Rate Method The plantwide overhead rate method is practical when (1) overhead costs are closely related to production volume, or (2) a company produces only one product.
What does plantwide mean?Adjective. plantwide (not comparable) Throughout a plant (factory) quotations ▼
What are the advantages of using a plantwide overhead rate?Advantages: More accurate overhead cost allocation. More effective overhead cost control. Focus on relevant factors.
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