The concept of DEPARTMENTALIZATION: Departmentalization of factory overhead means dividing the plant into segments called “departments” or “cost centers” to which expenses are charged. Accountingwise, the main reasons for dividing a plant into separate departments are: (1) more accurate costing of jobs and products and (2) responsible control of overhead costs.
More accurate costing of jobs and products is possible because departmentalization uses different departmental overhead rates for applying factory overhead. A job or product going through a department is charged with factory overhead for work done in that department, using the department’s predetermined rate. Therefore, jobs or products are charged with varying amounts of factory overhead depending on the type and number of departments through which they pass rather than being charged with a single plant-wide overhead rate.
Responsible control of overhead costs is possible because departmentalization makes the incurrence of expenses the responsibility of a foreman or supervisor. Expenses which originate directly and completely in a department are identified with the foreman responsible for the supervision of the department.
Computation of predetermined overhead rates requires a series of departmental allocation processes with respect to estimated expenses. These allocations are limited to those necessary for computing overhead rates prior to the beginning of the fiscal period. Actual overhead accumulated during the month or year should remain with the individual department until the end of the accounting period.
Computing complete product costs for pricing purposes involves recognizing all manufacturing costs regardless of their direct or indirect relationship to a given department or product. In addition to its direct costs, each product must bear an equitable share of indirect costs such as utilities, materials handling, inspection, storage, general factory, etc. The selection of the best overhead allocation methods is important in determining equitable product costs.
The entire process of departmentalization of factory overhead is an extension of methods previously discussed. Estimating or budgeting expenses and selecting a proper basis for applying them is still necessary ; but, in addition, departmentalization of overhead requires separate estimates or budgets for each department.
Actual expenses of a period must still be collected through use of a factory overhead control account and a factory overhead subsidiary ledger, but by departments, as well as by the nature of the expense, to permit comparison with departmentally applied factory overhead. Over or under-applied factory overhead is computed departmentally and analyzed separately to determine departmental spending and idle capacity variances.