National Polymers Ltd. is used to illustrate the calculation of a single, plantwide overhead application rate. This division contains two departments (Cutting and Mounting, and Packing). At the end of 2000, division management budgets its 2001 activity level at 75,000 machine hours and manufacturing overhead costs at $399,750. If a plantwide predetermined overhead application rate is calculated on per machine hour:
Plantwide OH Rate = (Total Budgeted OH Cost at a Specific Activity Level/Volume of Specified Activity Level)
= $399,750/ 75,000 MH
= $5.33
Although a single plantwide overhead rate can be computed, such a process is frequently not adequate. In most companies, work is performed differently in different departments or organizational units. For example, although machine hours may be an appropriate activity base in a highly automated department, direct labor hours (DLHs) may be better for assigning overhead in a labor-intensive department.
In the quality control area, number of defects may provide the best allocation base. Thus, because homogeneity is more likely within a department than among departments, separate departmental rates are generally thought to provide managers more useful information than plant-wide rates.
The Cutting and Mounting Department is highly automated and, therefore, uses machine hours as its overhead cost driver. In contrast, the Packing Department is more labor intensive and uses DLHs.