Example of Over and under absorption of production overhead costs
By employing data from diagram assume such the production overhead absorption rate was computed where an activity of two hundred machine hours was estimated. Prepare a summary showing any over or beneath absorption of overhead cost whereas the real machine hours charged to jobs turns out to be as:
a) One hundred fifty hours
b) Two hundred fifty hours
Solution
Absorption rate is Shs. 5.50 per machine hour. It may be analyzed into fixed rate of Shs.2.50 per machine hour and variable rate; of Shs. 3 per machine hour.
a) Where real activity is one hundred fifty hours
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Fixed
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Variable
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Total
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Shs.
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Shs.
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Shs.
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Overhead incurred
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500
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450
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950
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Variable overhead absorbed
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(450)
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(150 x 3)
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Fixed overhead absorbed
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(375)
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(150 x 2.50)
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Total Overhead absorbed
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(825)
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(150 x 5.50)
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____
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____
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___
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Under absorption of overhead
|
125
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NIL
|
125
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b) Where actual activity is two hundred fifty hours
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Fixed Shs.
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Variable Shs.
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Total Shs.
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Overhead incurred
|
500
|
750
|
1250
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Variable overhead absorbed
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(750)
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(250 x 3)
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Fixed overhead absorbed
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(625)
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(250 x 2.50)
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Total Overhead absorbed
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(1375)
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(250 x 5.50)
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___
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___
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___
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Under absorption of overhead
|
125
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NIL
|
125
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c) The absorption and Expenditure level of production overhead cost
A charge in expenditure on an overhead cost item may happen due to a charge in the price per unit and/or due to change in the number of units of the overhead commodity that are necessary. Expenditure changes can affect the absorption of both variable and fixed overheads.