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Challenges in Calculating an Overhead Rate

Categories: BusinessChallenges

What are some of the major challenges in calculating an accurate overhead rate?

According to Garrison, Noreen, and Brewer manufacturing overhead includes all manufacturing costs excluding direct materials and direct labor. The overhead also includes those indirect costs such as indirect materials, and indirect labor. (Garrison, 2018). These indirect costs that can influence the accuracy of overhead rates. The indirect costs which consists of the depreciation of equipment and the utility costs, property taxes, insurance premiums, which can all be attached to the operation of the factory are included in overhead costs.

These costs unlike fixed costs, will fluctuate. Therefore, creating a challenge what will influence the accuracy of any given overhead rate.

For instance, at my work, my supply expenses will change depending on the environment. If the we are all working outside in the heat, then I know I will be using lots of electrolyte solution, sunscreen, and bug sprays thus those supplies for the week will need to be replaced.

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On the other hand, my phone bill will remain the same, which is used to make calls to supervisors and look up different drug descriptions and indicators for various ailments. Furthermore, many companies are not large enough, such as mine, to higher accountants and other controllers to review the overhead costs, therefore I as they rely mostly on bookkeepers. The problem with relying on bookkeepers, is that they may not be well trained to the same level as the other higher paid job titles are, thus the numbers may have a higher chance of numbers not matching.

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An additional reason, for complications in calculating costs is caused by improperly applying the correct cost and prices to the company’s products. (Papes, B 2012).

According to Garrison, Noreen, and Brewer a predetermined overhead rate is calculated using the following formulae (divide the total estimated manufacturing overheard cost for the period by the estimated total amount of allocation base). (Garrison, 2018). An allocation base is a measure used to assign overhead costs to products and services. The predetermined rate is calculated prior to the start of the period.

An issue that I do not encounter as of yet, but may prove problematic with calculating the rate is one involving an government contract. Because these types of contracts have two major factors that influence the rate are the time and labor, which are usually specified in the bid. It is because of these time restraints and labor hours will vary. (Association). This happens most frequently when, vendors do not want to cooperate. A good basis to use for calculating the overhead rate with this type of contract is to develop a baseline overhead rate and compare the differences in time, labor, hiring and travel expenses. (Association).

References:

  • (2018). In N. B. Garrison, Managerial Accounting 16th Edition . New York : McGraw-Hill Education
  • Papes, B. (2012, Mar 12). Accurate overhead costs crucial to business success. Times News Retrieved from

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Challenges in Calculating an Overhead Rate. (2019, Dec 02). Retrieved from http://studymoose.com/challenges-in-calculating-an-overhead-rate-essay

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