4 Overhead Costs Flashcards
What is absorption costing?
Includes all production overheads (both fixed and variable) in addition to the prime cost within a products cost
What is marginal costing?
Only includes variable production overheads in addition to the prime cost
What is the cost card under absorption costing?
Direct materials + direct labour + direct expenses = prime cost + production overheads = Full Production Cost (Absorption cost)
What is step 1 in absorption costing?
Step 1 = Allocation => assign a whole item of cost, or of revenue, to a single cost unit, centre, account or time period.
What is step 2 in absorption costing?
Step 2 = Apportionment => spread indirect revenues or costs over two or more cost units, centres, accounts or time periods
- Should be done on an equitable basis e.g. floor space occupied by each division
What is step 3 in absorption costing?
Step 3 = Re-apportionment => respread of costs apportioned to service departments to production departments
What happens with when you have multi service departments?
- Sometimes an organisation has more than one service cost centre and these centres will work for each other.
- The special technique used to reapportion the costs = reciprocal method (see direct method also on page 31)
- If we want to recognise work of the service departments then we would re-apportion service department costs. Two methods =
a) Repeated distribution
b) Simultaneous equations
What is step 4 in absorption costing?
Step 4 = Absorption => need to find a way of charging these overhead costs to products that are being made.
= Overhead absorption
What is the equation to find the overhead absorption rate (OAR)?
Production level/ activity level (e.g. total labour hours)
How do we choose appropriate activity level for step 4 of absorption costing?
Examples:
- Cost per labour hour - better when activity manual
- Cost per machine hour - when mainly automated
- Cost per unit - better when no. of similar products being produced
- Percentage of direct labour cost - possible when a number of different grades of labour are being used
- Percentage of material cost - no. of different materials being used
- Percentage of prime cost - differing amounts of direct costs being incurred.
What is the equation to calculate the predetermined OAR? (predicted OAR)
Budgeted overhead/ Budgeted activity level
How do we work out the absorbed overhead?
actual level of activity x predetermined OAR = absorbed overhead
Problem = these are budgeted figures and it’s unlikely they’ll all end up being the same as the actual figures for the year
Solution = make a period end adjustment for the difference between actual overhead for the year and overhead that has been absorbed into the accounts
What does it mean if we have under-absorbed our overheads?
This means that our absorbed overhead is actually smaller than our actual overhead. The adjustment necessary will reduce our profits.
What does it mean if we have over-absorbed our overheads?
This means we have charged too much overhead into our accounts. The adjustment necessary would be to increase our profits.
What is the causes of under or over absorption?
a) Expenditure difference = actually spent more than originally budgeted + original OAR was too low => under-absorb
b) Volume difference = produce more than budgeted, original OAR was too high => over-absorb.
