ACCOUNTING DECISIONS 165
Table 11.3 Cost centre budget overhead rate
Total cost Dept 1 Dept 2 Dept 3
Total cost £100,000 £46,363 £30,160 £23,477
Direct labour hours 4,000 2,000 750 1,250
Hourly rate £25.00 £23.18 £40.21 £18.78high or low machine utilization, different levels of skill, different pay rates or
required different degrees of support.
Under thecost centre budgeted overhead rate,therateperdirectlabourhourvaries
from a low of £18.78 for Dept 3 to a high of £40.21 for Dept 2. This reflects the
different cost structure and capacity of each cost centre.
Consider an example of two products, each requiring 10 machine hours. The
extent to which each product requires different labour hours in each of the three
departments will lead to quite different overhead allocations.
Assume that product A requires 2 hours in Dept 1, 5 hours in Dept 2 and 3 hours
in Dept 3. The overhead allocation would be £303.77. If product B requires 5, 1
and 4 hours respectively in each department, the overhead allocation would be
£231.25, as Table 11.4 shows. By contrast, the overhead allocation to both products
(each of which requires 10 hours of production time) using a business-wide rate
would be £250 (10 @ £25).
The total cost of a product comprises the prime cost (the total of direct costs)
and the overhead allocation. Whether a business-wide or cost centre overhead
allocation rate is used, the prime cost is unchanged. Assuming that the costs per
unit for our two example products are:
Product A Product B
Direct materials 110 150
Direct labour 75 90Prime cost 185 240Table 11.4 Overhead allocation to products based on cost centre budget overhead rate
Total cost Dept 1 Dept 2 Dept 3Hourly rate £25.00 £23.18 £40.21 £18.78
Product A: direct labour hours 2 5 3
Overhead allocation £303.77 £46.36 £201.07 £56.34
Product B: direct labour hours 5 1 4
Overhead allocation £231.25 £115.91 £40.21 £75.13