1. Factory Overhead Planned, Applied & Actual
Chapter 9

2. This chapter…
Discusses the methods, procedures and bases available for applying factory overhead
Describes methods and procedures for classifying and accumulating actual factory overhead
Shows computations for over or underapplied factory overhead
Analyzes the total net variance

3. Factory Overhead Factory overhead is generally defined as:
Indirect materials
Indirect labor
All other factory expenses that cannot conveniently be identified with specific jobs or products.

4. Factory Overhead Also known as: Factory burden Manufacturing expense
Manufacturing overhead
Factory expense
Indirect manufacturing cost

5. Factory Overhead possesses two characteristics:
Relationship with product
Difficult to trace factory overheads to certain jobs or products.
A predetermined overhead rate permits an equitable and logical allocation , therewith abandoning the use of actual cost for costing purposes.
Relationship with volume
Fixed and variable expenses (Total & per unit)

6. Predetermined Factory Overhead Rate
Job Order Costing
Total overhead cost are estimated
Total estimated overhead cost are related to direct labor dollars, direct labor hours, etc to express it as a rate
Process Costing
Can produce product cost without the use of overhead rates
Applying predetermined rates are recommended as they speed up unit product cost calculations

7. Factors to be considered in Selection of Overhead rates
Base to be used
Physical output
Estimated factory overhead = factory overhead/unit
Estimated units of production
Direct materials cost
Estimated factory overhead *100 = % of overhead/direct material cost
Estimated material cost

8. Factors to be considered in Selection of Overhead rates
Direct labor cost
Estimated factory overhead *100 = % of overhead/direct labor cost
Estimated Direct labor cost
Direct labor costs = Direct labor hours* hourly wage rate
Direct labor hours
Estimated factory overhead = Rate per direct labor hour
Estimated Direct labor hours
Machine hours
Estimated factory overhead = Rate per machine hour
Estimated machine hours

9. Factors to be considered in Selection of Overhead rates
Activity level selection
Normal capacity – long-term approach
An overhead rate in which expenses and production are based on average utilization of the physical plant over a time period long enough to level out the highs and lows that occur in every business venture
The rate does not change because of changes in actual production

10. Factors to be considered in Selection of Overhead rates
Expected actual capacity – short-term approach
A rate in which overhead and production are based on the expected actual output for the next production period.
The use of predetermined rate based on expected actual production is often due to the difficulty of judging current performance on a long range or normal capacity.

11. Example Normal capacity= 150,000 DLH Actual capacity= 116,000 hours
Expected actual capacity= 120,000DLH
Fixed expense= $120,000
Variable expense= $0.50/ DLH

12. Solution
Fixed expense 120, ,000 Variable expense: 150,000 hrs* , ,000 hrs* ,000 ______ ______ Total estimated overhead 195, ,000 Estimated DLHs 150, ,000 Factory overhead/hr $1.30 $1.50 Fixed overhead/ hr $0.80 $1.00

13. Factors to be considered in Selection of Overhead rates
Including or excluding of fixed overhead
Absorption costing
Fixed and variable expenses both are included in overhead rates.
Direct costing
Only variable overhead is included in overhead rates.
The fixed expense does not become a product cost but is treated as a period cost.

14. Calculation of Factory Overhead Rate
Identifying the base to be used
Estimating the Activity level & Expenses
Classifying Expenses as Fixed or Variable
Establishing the Factory Overhead Rate

15. Calculation of Factory Overhead Rate
Estimated factory overhead = Rate per direct labor hour
Estimated Direct labor hours
Factory overhead can be broken down into its fixed and variable components:
Estimated fixed factory overhead = fixed portion of factory overhead rate
Estimated variable factory overhead = variable portion of factory overhead rate

16. Factory Overhead – Actual
Accumulation of Actual Factory Overhead
The basic purpose for accumulating factory overhead is the gathering of information for purposes of control.
Control in turn requires :
Reporting costs to the individual department heads responsible for them
And making comparisons with the amount budgeted for the level of operations achieved.

17. Accounting for Actual Factory Overhead
Steps involved in the accounting for factory overhead transactions are:
Analysis
Journalizing
Posting the factory overhead subsidiary ledger and the factory overhead general ledger control account.

18. The principal source documents for recording overhead in the journal are:
Purchase vouchers
Materials requisitions
Labor time tickets
General journal voucher.

19. The mechanics of applying Factory overhead
Factory overhead is applied after direct materials and direct labor costs is available
Work in process
Applied Factory Overhead
Factory Overhead Control

20. The mechanics of applying Factory overhead
A debit balance indicates that overhead has been underapplied
A credit balance indicates that overhead has been over applied
These over- and under applied must be analyzed carefully; as they are the source of much information needed by management for controlling and judging the efficiency of operations and the use of available capacity during the particular period.

21. Disposition of Over or Under applied Factory Overhead
If underapplied (Actual > Applied)
COGS
Factory Overhead
If overapplied (Actual < Applied)

22. Assignment
The Carrcroft Company estimates its factory overhead for the next period at $54,000. it is estimated that 36,000 units will be produced at a material cost of $45,000. Production will require 24,000 direct labor hours at an estimated cost of $120,000. The machines will run about 1,600 hours.
Required: the predetermined factory overhead rate based on :
Material cost
Units of production
Machine hours
Direct labor cost
direct labor hours.
Name five bases used for applying factory overhead. What factors must be considered in selecting a particular basis?

23. Variance Analysis
Spending Variance-a variance due to budget or expense factors
Idle capacity Variance- a variance due to volume or activity levels

24. Actual factory overhead $292,000
Spending variance unfavorable
Budget allowance-based on capacity utilized
Fixed factory overheads budgeted (in total)$125,000
Variable factory overheads
(190,000 actual hours* 0.875) , $291,250
Idle Capacity Variance ,250 unfavorable
Applied Factory overhead(190,000 hrs*1.50) $285,000
Factory overhead –underapplied _______
(292,000-$285,000) $7,000

25. Spending Variance
The $ 750 is the difference between the actual factory overhead incurred and the budget allowance estimated for the capacity utilized i.e 190,000 direct labor hours.
The budget figures represents the budget for the level of the activity attained.
Favorable spending variance- when the actual overhead is less than the budgeted overhead.
Unfavorable spending variance- when the actual overhead is more than the budgeted overhead.

26. Idle Capacity Variance
This occurs when the actual activity is below the normal capacity.
This should not increase the factory overhead costs but should be recorded separately and be considered a part of total manufacturing costs.
The idle capacity can be computed by multiplying the idle hours by the fixed rate per unit.
It can also be computed by multiplying the total budgeted fixed expense by the idle capacity percentage.

27. Disposition of Over-or Underapplied Factory Overhead
At the end of the fiscal year , overhead variances may be:
Treated as a period cost
Or divided between inventories and cost of goods sold.

28. Journal Entries
Cost of goods sold
Factory overhead Or
Income Summary