Fixed Manufacturing Overhead Applied
Fixed manufacturing overhead applied refers to the amount of fixed manufacturing overhead that is allocated to the goods produced during a particular period. This is part of the process of allocating the indirect costs of production to individual units of output.
Manufacturing overhead includes both fixed and variable costs. Fixed manufacturing overhead costs are those that do not change with the level of production, such as the cost of factory rent, depreciation of factory equipment, or salaries of factory maintenance personnel.
The allocation of fixed manufacturing overhead to individual units of output is usually done based on a predetermined overhead rate, often calculated as total estimated fixed overhead costs divided by estimated activity level for a given period. The activity level could be based on direct labor hours, machine hours, or units produced, depending on the company’s cost structure and the nature of its production processes.
Once the overhead rate is calculated, it is applied to the actual activity level to allocate the overhead to the units produced. This is referred to as applying the overhead.
The purpose of applying fixed manufacturing overhead to products is to ensure that the cost of each product reflects all of the costs associated with its production, not just the direct costs of materials and labor. This helps in pricing decisions and in measuring the profitability of individual products.
Example of Fixed Manufacturing Overhead Applied
Let’s take an example of a furniture manufacturing company to illustrate fixed manufacturing overhead applied.
Suppose the company incurs the following annual fixed manufacturing overhead costs:
- Factory Rent: $120,000
- Depreciation of Factory Equipment: $80,000
- Salaries of Factory Maintenance Personnel: $100,000
So, the total fixed manufacturing overhead costs are $300,000 annually.
Let’s assume that the company estimates it will work 50,000 direct labor hours over the course of the year. The predetermined overhead rate would then be calculated as follows:
Predetermined Overhead Rate = Total Estimated Overhead / Estimated Activity Level
Predetermined Overhead Rate = $300,000 / 50,000 hours
Predetermined Overhead Rate = $6 per direct labor hour
Now, let’s say in a particular month, the company works 4,000 direct labor hours. The fixed manufacturing overhead applied for that month would be calculated as:
Fixed Manufacturing Overhead Applied = Predetermined Overhead Rate * Actual Activity Level
Fixed Manufacturing Overhead Applied = $6 per hour * 4,000 hours
Fixed Manufacturing Overhead Applied = $24,000
So, the company would apply $24,000 of fixed manufacturing overhead to the goods produced in that month. This means that these costs would be included in the cost of the goods produced, which will later be assigned to cost of goods sold or finished goods inventory when the goods are sold.
It’s worth noting that this is a simplified example. In real-world scenarios, businesses often have more complex systems for applying overhead and must also deal with issues like underapplied or overapplied overhead.