UNIT 8 CLASSIFICATION AND

DISTRIBUTION OF OVERHEADS
Structure
8.0 Objectives
8.1 Introduction
8.2 Concept of Overheads
8.3 Classification of Overheads
8.3.1 Element-wise Classification
8.3.2 Function-wise Classification
8.3.3 Behaviour-wise Classification
8.4 Collection of Factory Overheads
8.4.1 Standing Order Numbers
8.4.2 Sources
8.5 Allocation and Apportionment of Factory Overheads
8.5.1 Allocation
8.5.2 Apportionment
8.6 Preparation of Overheads Distribution Summary
8.6.1 Apportionment of Service Department Costs to Production Departments Only
8.6.2 Apportionment to Production and Other Service Departments
8.7 Let Us Sum Up
8.8 Key Words
8.9 Answers to Check Your Progress
8.10 Terminal Questions/Exercises

8.0 OBJECTIVES
After studying this unit, you should be able to:
●● explain the concept of overheads;
●● classify overheads element-wise, function-wise and behaviour-wise;
●● describe the sources from which overheads under different standing
order numbers are collected;
●● explain various bases of allocation and apportionment of factory
overheads; and
●● prepare distribution summary showing the allocation and apportionment
of various factory overheads.

8.1 INTRODUCTION
You have learnt that all indirect costs are collectively termed as ‘overheads’
and that they constitute an important component of total cost of a product,
a job or a process. In this unit, you will learn about the meaning of
overheads, the various categories into which they can be classified, and the
procedure of collecting them under different standing order numbers. You
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 will also learn about the various bases of allocation and apportionment of Classification and Distribution
factory overheads to different production and service departments and the of Overheads
preparation of distribution summary.

8.2 CONCEPT OF OVERHEADS

A cost is composed of three elements: (a) material, (b) labour, and (c)
expenses. Each of these costs can be further classified as: (1) direct and (2)
indirect. Direct costs are costs which can be easily identified directly with a
particular product, process or department.
Indirect costs, on the other hand, refer to costs which cannot be conveniently
identified with a particular product, process or department. These are
common costs, like rent, repairs, salaries, lubricating oil, which are incurred
for the benefit of a number of cost units or cost centres.
The total of all indirect costs i.e., indirect material, indirect labour
and indirect expenses, is termed as ‘overheads’. Other terms in use for
overheads are ‘on costs’, ‘overhead costs’, ‘supplementary costs’, ‘overhead
expenses or charges’, etc.
The National Association of Accountants (USA) defines overheads
(overhead costs) as follows:
(a) Fundamental concept : Costs that have to be incurred although they
have no directly measureable, observable relationship to specific
activity units, production or cost objectives.
(b) Application definition : While related to the accomplishment of
the firm’s objectives, overhead costs are costs which cannot, as a
practical matter, be assigned to those objectives in a direct fashion.
A consistent method of cost allocation, which by some measure
approximates the economic sacrifices incurred, must be adopted.
It is evident from the above that they cannot directly be identified to units
of output andthat they have to be suitably allocated or absorbed so as to
determine the product cost, both total cost and unit cost.

8.3 CLASSIFICATION OF OVERHEADS

Overhead classification refers to the process of grouping the overheads
according to their common characteristics so as to provide the managers
with information that will enable them to manage the business effectively.
The overheads can be classified according to:
1) Elements, 2) Functions and Departments, 3) Behaviour,
8.3.1 Element-wise Classification
According to elements overhead is divided into:
i) Indirect materials, ii) Indirect labour, iii) Indirect expenses.
i) Indirect materials: It is that material which does not form a part
of the finished product or saleable service. Examples of indirect
materials are : coal, lubricating oil, grease, sand paper used in
polishing, etc. There are some items which may become a part of the
finished product, like nuts, screws, bolts, pins, etc., but these are still
considered as indirect materials for costing purposes as their cost is
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 Overheads comparatively small.
ii) Indirect labour: Indirect labour is not directly engaged in the
production operations. They only assist or help in production
operations. Examples of indirect labour are supervisor, clerk, cleaner,
inspector, peon, watchmen, etc. Remuneration paid to these employees
is considered as indirect labour cost.
iii) Indirect expenses: All indirect costs, other than indirect materials
and indirect labour are considered to be indirect expenses, like rent,
depreciation, lighting and power, advertising, insurance, etc.
8.3.2 Function-wise Classification
This method of classification is based on the major functions/departments of
a business organisation. They are:
i) Production overheads, ii) Administration overheads,
iii) Selling overheads, iv) Distribution overheads.
i) Production overheads: These include indirect material cost, indirect
wages and indirect factory expenses incurred from the stage of
procurement of materials till the completion of the finished product.
They are the expenses incurred in maintaining and operating a
manufacturing division of an organisation. Indirect materials, like
cotton waste, coal, oil, grease; indirect wages, like salaries of store
keeper, supervisor, and indirect expenses, like factory rent, idle time,
overtime, normal loss of material, factory light, etc. are the items
of production overheads. These are also known as ‘manufacturing
overheads’, ‘works overheads’, ‘factory overheads’.
ii) Administration overheads: These include all those expenses
connected with the managerial functions of planning, directing,
coordinating and controlling the operations of a business other than
those related to production, selling, distribution and research and
development. Examples are office rent and rates, office staff salaries,
office lighting, depreciation, and repairs to office building and
equipment, telephone charges, auditors’ fees, legal expenses, etc.
iii) Selling overheads: These include the costs incurred for creating
demand for the product, for securing and servicing orders. Advertising,
bad debts, salaries and commission to selling agents, travelling
expenses, show room expenses are the examples of selling overheads.
iv) Distribution overheads: These include the costs incurred in
connection with the delivery of goods to customers. Some examples
of distribution overheads are : packing cost, carriage outwards,
maintenance, repairs and depreciation of delivery vans, warehouse
expenses, wastage of finished goods, etc.
8.3.3 Behaviour-wise Classification
This classification is made on the basis of variability nature of overheads
with production. Accordingly, they are classified into:
i) Fixed overheads, ii) Variable overheads, ii) Semi-variable overheads.
i) Fixed overheads: These overheads remain fixed or unaffected by
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 changes in the level of production. An increase or decrease in the Classification and Distribution
output has no effect on the total amount of overheads. As a result, of Overheads
an increase in the volume of output will result in a decrease in the
fixed cost per unit, owing to its spread over a large number of units
and vice- versa. Some examples of fixed overheads are rent and rates,
salaries, legal expenses, bank charges, etc.
ii) Variable overheads: These overheads vary in direct proportion to
changes in the volume of output. Variable overheads per unit remain
fixed. Some examples of variable overheads are: indirect materials,
fuel, power, stationery, salesmen commission etc.
iii) Semi-variable overheads: These are the expenses that stand midway
between fixed and variable overheads. They are partly fixed and partly
variable. They vary with change in the volume of output but not in
the same proportion as the change in the volume of output. Examples
of such overheads are: telephone charges, depreciation, repair and
maintenance, cost of supervision, etc.
Check Your Progress A
1) What do you mean by overheads?
2) Based on functional classification, list various types of overheads.
3) Give two examples of semi-fixed overheads.
4) Fill in the blanks.
i) According to elements of cost, the overheads are classified into
indirect material ………………..
ii) The costs other than direct costs are known as…………………
iii) Semi-variable overheads are fixed and …………………….
variable.
iv) Symbols or code numbers of overheads are known as
v) Journal gives information relating to ………………….items
like depreciation, notional rent, etc.

8.4 COLLECTION OF FACTORY OVERHEADS

As mentioned earlier, overheads are not directly attributable to a particular
cost unit, process or department. Hence, there is a need for distribution of
overheads to different products manufactured or to the different departments.
There are four steps in overheads distribution. They are:
i) Collection of overheads
ii) Allocation and apportionment to production and service departments
iii) Re-apportionment of service department costs
iv) Absorption of overheads
The first step in overhead distribution is the collection of overheads. This
means the ascertainment of the total amount spent on each item of overheads
during a particular period.

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 Overheads 8.4.1 Standing Order Numbers
After the classification of overheads, each group of expenses should
be given a distinct symbol or number so that each such group is easily
distinguished from that of the other. Such symbols or numbers, are the codes
for overheads and are known as standing order numbers.’ Each standing
order number represents a particular type of expenditure and as and when
the expenditure is incurred, it is appropriately classified. The code numbers
may be alphabetical (Mnemonic method), numerical or a combination of
both.
Numerical method: Number from 01 to 10 may be for indirect materials;
11 to 20 for indirect labour and so on.
Mnemonic method:
S may be represent sales
SA for sales-advertising
SAS Sales-Advertising-South India.
Combination of alphabets and numbers system: Alphabet represent the
main group and numbers denote the sub-group.
R — Repairs
R1 — Repairs to machinery
R2 — Repairs to building
R3 — Repairs to vehicles
Thus, the manufacturing overhead costs are analysed and classified by
the code numbers on the documents. Now, for the collection of factory
overheads, these various documents have to be processed from which the
necessary data can be extracted.
8.4.2 Sources
The sources from which overhead costs are collected are as follows:
a) Invoices: These are documents received for sundry purchases against
purchase requisition made by a particular department. The name or
code number of the department will be indicated in the invoice itself.
At the end of the month the total amount of purchases will be debited
to Factory Overhead Account and credited to Cost Ledger Control
Account.
b) Stores Requisitions: Materials would be issued from stores only
on receiving stores requisition from the departments. On the stores
requisition, the code number of the department making the requisition
would be indicated. This helps in charging the indirect materials to the
particular department using them.
c) Wages Analysis Book: This book gives information relating to
indirect wages, overtime, bonus etc. When wages are paid to indirect
workers, they are entered against the standing order numbers on the
basis of job cards, time cards etc.
d) Cash Book : The overheads which are paid in cash but not recorded
anywhere else can be collected from this book.

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 e) Journal: It gives the information relating to non-cash items like Classification and Distribution
depreciation, notional rent, accruals and payments in advance. of Overheads
Therefore, it is necessary to scrutinise the journal for the accumulation
of manufacturing overheads.
f) Subsidiary Records: It is necessary to look into the reports
regarding scrap, waste, spoiled materials, idle time and idle facilities
for ascertaining their costs to be adjusted in overheads.

8.5 ALLOCATION AND APPORTIONMENT OF

FACTORY OVERHEADS
After the overheads are classified and collected under various standing
order numbers, the second step in overhead distribution is allocation and
apportionment of overheads to production and service departments.
8.5.1 Allocation
According to the ICMA Terminology, allocation is “the allotment of whole
items of cost to cost centres or cost units”. It refers to charging to the cost
centre those overheads that have been incurred for that cost centre. It means
that overheads have been incurred because of the existence of that cost
centre. For example, if canteen is treated as a separate cost centre, salary
paid to canteen manager can be allocated to canteen. If indirect wages and
salaries are paid to the employees in each department, they can be wholly
attributed to the concerned departments and charged accordingly. When
separate meters are installed in departments, from meter reading, power
charges for each department can be easily known and as such they are
allocated to the concerned departments.
Thus, it can be said that, an overhead can be allocated to a cost centre if the
following two conditions are satisfied:
1) The overhead must have been incurred because of the existence of
that particular cost centre.
2) The exact amount of overhead incurred in a cost centre must be
known.
8.5.2 Apportionment
Apportionment refers to the distribution of common items of cost to two
or more cost centres on some appropriate basis. When the costs which are
incurred for the factory as a whole and benefit two or more cost centres, then
it is necessary to apportion them to different departments that receive benefit
from such costs. For example, factory rent benefits all the departments.
Hence, it should be apportioned to all the departments on the basis of the
floor area occupied by each department in the factory.
The common factory overheads have to be apportioned to various production
and service departments in the factory on some equitable basis.
A production department is one that engages in the actual manufacture of
the product. Examples of production departments are weaving, spinning,
crushing, mining, grinding, etc.

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 Overheads A service department is one which renders a service that contributes
indirectly in the manufacture of a product. It renders service to the production
as well as other service departments. Examples of service departments are
purchasing, stores, time keeping, personnel inspection, etc.
Principles of Apportionment
As stated earlier, the common factory overheads (common costs) have to
be apportioned to various production and service departments on some
equitable basis. In determining the basis to be adopted, the following guiding
principles can be followed:
1) Actual benefit: According to this principle, overheads are distributed
over various departments on the basis of the actual benefit received.
This can be adopted where it is possible to measure the actual
benefit derived from a particular expense. For example, rent can be
apportioned to different departments on the basis of area occupied.
Similarly, machine shop expenses may be apportioned on the basis
of actual time devoted to each job for which proper job cards are
maintained.
2) Potential benefit: It would be ideal to distribute common costs on the
basis of actual benefit received, but, in most cases, the measurement of
actual benefit may not be possible or it may be too cumbersome to keep
the necessary records. Hence, it is advocated that the apportionment
may be done on the basis of potential benefit (benefit likely to be
received). For example, if lighting costs were to be apportioned on
the basis of actual benefit received, you will have to keep record of
the number of lighting points in each department, the wattage of bulbs
used in each lighting point, and the amount of time for which each
point was on. This is rather impractical. Hence, lighting costs can be
apportioned simply on the basis of lighting points in each department.
Similarly, cost of transport for workers can be apportioned on the
basis of the number of employees in each department. This method is
also called ‘service or use’ method.
3) Specific criteria: According to this principle, the overheads can be
apportioned to different departments in a given ratio which may
be determined after careful survey for different service functions.
This method, therefore, is also known as ‘survey method’ and it
is particularly useful where it is difficult to select a suitable basis
for apportionment. For example, for the apportionment of works
manager’s salary, it may be difficult to identity a suitable basis.
Hence, a survey may be conducted to ascertain the time and attention
given by him to different cost centres and a reasonable ratio fixed for
the purpose.
4) Ability to pay: This method is based on the principle that more the
revenue of a department, the higher should be the proportionate
charge for the services. For example, the cost of maintaining stores
may be apportioned to different production departments on the basis
of the value (not the volume) of materials consumed.
Basis of Apportionment: In the light of the above principles, the usual
basis for apportioning common items of factory overhead can be as follows:

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 Classification and Distribution
Expenses Basis
of Overheads
1. Rent, Rates, and taxes, insurance, Floor area occupied
depreciation and repairs, fire precaution,
air condition of buildings
2. Canteen, welfare expenses, No. of employees
time keeping, personnel office, fringe
benefits supervision.
3. Depreciation, repairs & maintenance Capital cost of plant and
and insurance to plant and machinery machinery
4. Power/Steam consumption, lighting Technical estimates (i.e.
HP hours, number of
light points)
5. Store keeping and material handling Weight/value of Mate-
expenses rials
6. Internal transport Number of requisitions,
weight/ Value of mate-
rials
7. Compensation to workers, Direct wages
ESI and PF contribution, holiday pay
8. General Overheads Direct Labour hours or
Machine hours or Direct
wages.

8.6 PREPARATION OF OVERHEADS DISTRIBUTION

SUMMARY
The allocation and apportionment of overheads to production and service
departments is also known as ‘departmentalisation or primary distribution
of overheads’. It is done by preparing an overheads distribution summary.
For the preparation of overheads distribution summary, all those overheads
which can be directly identified with a particular department, will be taken/
allocated to the concerned department and those which cannot be identified
with a particular department will be apportioned i.e., distributed on equitable
basis to different departments.
The Proforma of overhead distribution summary is given in Figure 7.1.
Figure 7.1: Proforma of Overhead Distribution Summary
Departmental Overhead Distribution Summary
Expenses Basis of Total Production Service
Apportionment Departments Departments
A B C D E
Rs.
Rs. Rs. Rs. Rs. Rs.

Look at Illustration 1 and study how departmental overheads distribution

summary is prepared.
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 Overheads Illustration 1:
XYZ Co. Ltd has two production departments (Spinning and Weaving) and
two Service Departments (Stores and Time Keeping).
The following information is supplied from the costing records of a company:
Rs.
Rent 4,000
Maintenance 2,400
Depreciation 1,800
Lighting 400
Insurance 2,000

Employer’s contribution 600

to Provident Fund 3,600
Energy 6,000
Supervision
Departments
Spinning Weaving Stores Time
Keeping
Floor space (sq. ft.) 300 220 180 100
Number of workers 48 32 24 16
Total Direct Wages (Rs.) 16,000 12,000 8,000 4,000
Cost of Machinery (Rs.) 48,000 36,000 24,000 12,000
Stock of goods 30,000 18,000 12,000 ---
Prepare a statement showing apportionment of costs to various departments
Solution: Departmental Overheads Distribution Summary
Expenses Basis of Production Service
apportionment Departments Departments
Total Spinning Weaving Stores Time
Rs Rs. Rs. Rs. Keeping
Rs.
Rent Floor space 4,000 1,500 1,100 900 500
(300:220:180:100)
Maintenance Cost of machine 2,400 960 720 480 240
(48 : 36: 24: 12)
Depreciation -do- 1,800 720 540 360 180

Lighting Floor space 400 150 110 90 50

(300:220:180:100)
Insurance Stock of goods 2,000 1,000 600 400 --
(30:18: 12:00)
Employer’s Direct wages 600 240 180 120 60
contribution (16 : 12: 8 : 4)
Energy Cost of machine 3,600 1,440 1,080 720 360
(48 :36: 24: 12)
Supervision No. of workers 6,000 2,400 1,600 1,200 800
(48 :32:24: 16)
Total overheads as per primary 20,800 8,400 5,930 4,270 2,190
distribution

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 Re-Apportionment of Service Department Costs: Once the overheads Classification and Distribution
have been allocated and apportioned to production and service departments, of Overheads
next step in overhead distribution is to re-apportion the service department
total costs to production departments.
As the ultimate object is to charge the overhead to cost units, and no cost
units pass through service departments, it becomes necessary to apportion
the service departments costs also to production departments on some
equitable basis. This is known as secondary Distribution.
The common basis of for apportionment of service department costs to
production departments (secondary distribution) are given below:
Service Department Basis for apportionment
1. Purchase department Number of purchase orders or
number of purchase requisitions or
value of materials purchased for
each departments
2. Stores department Number of material requisitions or
value/quantity of materials issued to
each department.
3. Time-keeping department Number of employees or total
Pay-roll department labour or machine hours
4. Personnel department, Number of employees or total
canteen, welfare, medical, wages
recreation and security,
departments
5. Repairs and Maintenance Number of hours worked in each
department
6. Power House Meter reading or H.P. Hour for
powers Meter reading or floor space
for lighting, heat consumed
7. Inspection Inspection hours or value of items
inspected
8. Drawing Office Number of drawings made or man-
hours worked
9. Accounts department Number of workers in each
department or time devoted
10. Tool Room Direct labour or Machine hours or
wages
11. Internal transport Weight or/and distance
department
Methods of Apportionment
The following chart will explain you the different methods of apportionment
of service department costs to production departments.

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 Overheads

Note : While preparing the overhead distribution summary, it may be noted

that all direct expenses of service departments are to be taken into account
as the total expenses (Direct plus Overheads) of service department are
indirect expenses to production departments. But not to be taken direct
expenses of production departments into account.
8.6.1 Apportionment of Service Department Costs to Production
Departments Only
Under this method, the costs of each service department is apportioned
to production departments only without apportion to the other service
department on the basis as decided. The following illustration 2 will explain
the preparation of the distribution summary.
Illustration 2:
From the following information, prepare the departmental overhead
distribution summary under the method of apportionment to production
departments only.
Item Production Deptt. Service
Deptt.
A B C X Y
Direct wages (Rs.) 60,000 90,000 1,20,000 30,000 60,000
Direct Material (Rs.) 30,000 60,000 60,000 44,000 45,000
Staff Number 3,000 4,500 4,500 1,600 1,400
Electricity KWh 12,000 9,000 6,000 3,000 3,000
Asset Value (Rs.) 1,20,000 80,000 60,000 20,000 20,000
Light points 20 32 8 12 8
Area (Sq. Yards) 300 500 100 100 100

The overheads for the period were

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 Rs. Rs. Classification and Distribution
of Overheads
Power 2,200 Depreciation 60,000
Lighting 400 Repairs 12,000
Stores 1,600 General Overheads 24,000
Welfare to staff 6,000 Rent & taxes 1,100
Apportion the overheads of service department Y according to direct wages
and those of service department X in the ration of 5:3:2 the production
departments.
Solution :
Departmental Overhead distribution Summary
Expenses Basis Total Production Deptts. Service Deptts.

A B C X Y
Rs. Rs. Rs. Rs. Rs. Rs.
Power KWh 2,200 800 600 400 200 200
Lighting Light 400 100 160 40 60 40
points
Stores Direct 1,600 200 402 402 295 301
Overhead Material
Welfare to Staff 6,000 1,200 1,800 1,800 640 560
the Staff Number
Depreciation Asset 60,000 24,000 16,000 12,000 4,000 4,000
value
Repairs Asset 12,000 4,800 3,200 2,400 800 800
value
General Direct 24,000 4,000 6,000 8,000 2,000 4,000
overhead wages
Rent& taxes Area 1,100 300 500 100 100 100
Wages Allocated 90,000 — — — 30,000 60,000
Material — 89,000 — — — 44,000 45,000
Total as 2,86,300 35,400 28,662 25,142 82,095 1,15,001
primary
distribution
Department 25,556 38,334 51,111 — (1,15,001)
Y Wages
Service 41,048 24,628 16,419 (82,025)
Department
X 5:3:2
Total as per 1,01,990 81,626 92,684 —
secondary
distribution

Note: Service departments’ total cost (Direct cost + Overhead cost) has to be
reapportioned to production departments, direct wages and direct material
cost of service departments is taken in overhead distribution summary. As
the total cost of service department will become the overheads to production
department.
8.6.2 Apportionment to Production and Other Service Departments
In the previous method service department overheads are apportioned to
production departments only but not apportioned to other service department
as an assumption that service departments are not consuming the services
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 Overheads of other service departments. Factually it is not true as service department
render services not only to production departments but also to other service
departments. For instance, pay roll department not only provide services
to production department but also provide services to canteen, stores,
maintenance, powerhouse, etc., departments.
Similarly, canteen, etc render services not only to production departments
but also other service departments like power house pay roll, internal
transport, store etc., department. Thus, besides to production departments,
inter-service department apportionment may be done under two basis 1)
Non-reciprocal basis and 2) Reciprocal basis. Now you will learn about the
apportionment under these two methods.
[Link] Non-Reciprocal Method of Apportionment
This method is also termed as “Step Ladder Method”. It is followed when
the service department provide the services to other service departments
but not receive the services from other service departments significantly.
This method is applied when service departments are not inter-dependent in
rendering services. Under this method, service departments are arranged in
the following descending order:
Take an example that a factory is having three service departments. Among
them, the service department which render services to other two service
departments along with the production departments is placed at first and
apportioned its overheads. Next, the service department which renders
services to the third service department and production departments excluding
the first service department is place at second. The total overheads of their
service department is apportioned finally to all production departments
(excluding First and Second service departments). It may be noted that
the above process is continued till the cost of the last service department is
apportioned.
Illustration 3 should help you to understand the process of apportionment
of the costs of service departments under ‘Step Ladder Method (non-
reciprocal).
Illustration 3:
A manufacturing company has three production and four service departments.
After primary distribution of overheads, including all direct costs of their
respective service departments, the results and data required for secondary
distribution is given below for apportionment to production departments
under “Step Ladder Method”.
Departments Factory Direct No. of Area in Sq.
Production: Overheads Labour flows Employees M.
(Rs.)
A 1,90,000 5,000 100 3,000
B 75,000 4,000 120 1,500
C 85,000 5,000 80 1,500
Service :
P 50,000 1,000 10 500
Q 75,000 4,000 40 2,000
R 1,10,000 6,000 50 1,500
S 35,000 2,000 30 1,000

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 The service departments order is arranged on the basis of the service rendered Classification and Distribution
to next service departments (non-reciprocal) and production departments. of Overheads
The costs of service department are apportioned on the following basis:
Service Departments Basis
P - No. of Employees
Q - Direct Labour hours
R - Area in Sq. M.
S - No. of Employees
Solution:
Overhead Distribution summary under Step Ladder Method
Particulars Basis of Production Departments Service Departments
Apportionment
A B C P Q R S
Rs. Rs. Rs. Rs. Rs. Rs. Rs.
Overhead -- 1,90,000 75,000 85,000 50,000 75,000 1,10,000 35,000
Costs
Cost of P No. of 11,905 14,286 9,524 (-)50,000 4,762 5,952 3,571
Deptt. Employees
(10:12:8:4:5:3)
Cost of Q Direct Labour 18,128 14,502 18,128 -- (-)79,762 21,753 7,251
Deptt. Hours
(5:4:5:6:2)
Cost of R Area in Sq. M. 59,016 29,508 29,508 -- -- (-)1,37,705 19,673
Deptt. (6:3:3:2)
Cost of S No. of 21,832 26,198 17,465 -- -- -- (-)65,495
Deptt. Employees
(10:12:8)

Under the method of Step Ladder Method the above preparation of overhead
distribution summary, you may notice that the costs of service department P
was apportioned to other service departments and production departments.
The costs (its own overheads plus cost of service received from P service
department) apportioned to other service departments (R and S) except P
service department as it does not receive service from either Q R and S
departments. Similarly, so on for R and S departments. If you observe the
columns of service departments it appears steps are formed. Hence, this
method is termed as Step Ladder Method.
[Link] Apportionment on Reciprocal Basis
In most of the situations, as explained at section 7.6.2, the service departments
not only render the services to other service departments besides production
departments but also receive the services from other service departments.
For example, ‘Canteen’ services are used by ‘Power house’ and ‘Power
house’ services are used by canteen department. Reciprocal approach is
more scientific when the service department are inter - dependent on each
other to render and receive the services.
There are three following methods for apportionment of overhead costs on
reciprocal basis.
1) Simultaneous Equation Method
2) Repeated Distribution Method
3) Trial and Error Method
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 Overheads Here we discuss only first and third methods for apportionment. Because
second method is same as the concept of third method. Under the second
method repeated distribution will be done both service and production
department. Where as under Trial and Error method, repeated distribution
will be done first among service departments only. Once it is completed
the total overhead costs of service departments will be finally distributed to
production departments. It is important to note that the distribution starts as
per the order of the arrangement of service departments.
1) Simultaneous Equation Method : This method is developed with the
help of the following algebraic equation to find out the total service
departments overhead costs. Then after apportionment will be done to
production departments.
Equation:
X = a + bY
Y = a + bX
Whereas;
X = Total overhead costs of first Service Department
Y = Total overhead costs of next (second) Department
a= Overheads of respective service department before re-apportionment
(as per primary distribution)
b= Share of overheads of one service department to be apportioned to the
other service department.
Illustration 4 will explain to you how overheads are apportioned to
production and service departments (primary distribution). Then after, total
overhead cost of service departments to production departments (secondary
distribution) under Simultaneous Equation Method.
Illustration 4 :
Calicut Soaps Limited supplied you the following information for the month
ending December 2020. Find out the total overheads costs of production
departments using Simultaneous Equation Method.
Item Production Departments Service Departments
A B C X Y
Direct wages (Rs.) 14,000 12,000 10,000 2,000 2,000
Direct Material (Rs.) 6,000 5,000 4,000 3,000 2,000
Employee Numbers 400 300 300 100 100
Electricity KWh 16,000 12,000 12,000 4,000 6,000
Light points - 20 30 30 10 10
Numbers
Asset Value (Rs.) 1,00,000 60,000 40,000 20,000 20,000
Area (Sq. Yards) 1,600 1,200 1,200 400 400
The expenses for the month were:
Stores overhead 800 Repairs and Maintenance 2,400
Motive power 3,000 General Overheads 20,000
Lighting 400 Rent & taxes 1,200
Labour welfare 6,000
Depreciation 12,000
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 The expenses of Service Departments are apportioned on the following Classification and Distribution
percentage basis: of Overheads

A B C X Y
X 20% 40% 30% -- 10%
Y 40% 20% 20% 20% --
Solution: Firstly, let us apportion the overheads to Production and Service
Departments which is known as Primary Distribution of Overheads
Primary Distribution of Overheads Summary
Production Service
Expenses Basis Total
Deptts. Deptts.
A B C X Y
Rs. Rs. Rs. Rs. Rs. Rs.
Direct 2,000
Allocation 4,000 — — — 2,000
wages
Direct 5,000 2,000
Allocation — — — 3,000
Material
Stores 80
Material 800 240 200 160 120
Overhead
Power KWh 3,000 960 720 720 240 360
Lighting Light points 400 80 120 120 40 40
Labour 500
Employees 6,000 2,000 1,500 1,500 500
Welfare
Depreciation Asset value 12,000 5,000 3,000 2,000 1,000 1,000
Repairs & 200
Asset value 2,400 100 600 400 200
Maintenance
General 1,000
D. Wages 20,000 7,000 6,000 5,000 1,000
overhead
Rent & Taxes Area 1,200 400 300 300 100 100
Total as per
primary 7,280
54,800 16,680 12,440 10,200 8,200
distribution

As per primary distribution summary, the total overheads costs of service

departments X and Y are Rs. 8,200 and Rs. 7,280 respectively.
Let us, now, find out the total overhead costs of two service departments
after distribution among them based on the percentage given in respect of
services rendered and received using simultaneous equation method.
Let, X denotes the total overheads of X Service department.
Y denotes the total overheads of Y Service department.
Note : Total overheads are the overheads after distribution of the share
among service departments.
X = a + bY …………………………(i)
Y = a + bX …………………………(ii)
Where, a = overheads of respective department as per primary distribution.
b = share of overheads of one service department to be distributed
to the other service department.

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 Overheads Thus,
X = 8,200 + 20% of Y
Y = 7,280 + 10% of X
or
X = 8,200 + 0.2 Y ……………………….. (i)
Y = 7,280 + 0.1X ………………………… (ii)
In order to solve the equations by eliminating decimals re-arrange them
multiply by 10
10X – 2Y = 82,000 ……………………….. (i)
– 1X + 10Y = 72,800 ……………………….. (ii)
To eliminate X, multiply equation (ii) by 10 and add the equations
10X – 2Y = 82,000
–10X + 100Y = 7,28,000
98Y = 8,10,000

8,10, 000
Y= = 8, 265
98
Place the value of Y in the equation (i) i.e.,
X = 8,200 + 0.2Y
X = 8,200 + 0.2 × 8,265
X = 8,200 + 1,653
X = 9,853
Thus, the total overhead costs of X and Y service departments are Rs. 9,853
and Rs. 8,265 respectively.
Now, these overheads are to be apportioned to production departments
A, B and C in the given percentages. This process is named as secondary
distribution summary. Let us see
Secondary Distribution Summary
Particulars Total Production Departments (in Rs.)

A B C
Overheads as per 39,320 16,680 12,440 10,200
Primary Distribution
Service Department X 8,868 1,971 3,941 2,956
(90% of Rs. 9,853)
Service Department Y 6,612 3,306 1,653 1,653
(80% of Rs. 8,265)
54,800 21,957 18,034 14,809
2) Trail and Error Method
When the Service department are more than two, it is complicated and
cumbersome in calculations under simultaneous equation method. This
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 method reduces the complexities in calculations. Under this method, the Classification and Distribution
overhead costs as per primary distribution of first service department is of Overheads
apportioned to other service departments only in the decided percentages or
ratios. Next the costs of second service department is apportioned to first
and other service departments. Next the cost of third service department is
apportioned to first, second and other service departments and so on. This
process is repeated till costs of service department reduced to negligible
amounts. Since the distribution is repeated among the service departments
only it is called trial and error method. Then after the distributed costs are
totalled and proceed for preparation of secondary distribution to apportion
the total overhead costs of service departments to production departments
only as per given percentages or ratios.
The following illustration 5 will help you to understand application of this
method.
Illustration 5:
A manufacturing company has three production departments and four
service departments. The total overheads of each as per primary distribution
are as follows:
Production Departments Service Departments
(Rs.) (Rs.)
A 50,000 1 10,000
B 80,000 2 15,500
C 60,000 3 20,000
4 16,000
The costs of service departments are charged on percentage basis which is
as follows:
A B C 1 2 3 4
1 30% 25% 25% -- 8% 5% 7%
2 25% 30% 25% 10% -- 4% 6%
3 35% 20% 20% 10% 5% -- 10%
4 20% 25% 40% 5% 3% 7% --
Find out the total overheads of production department using Trial and Error
Method.
Solution:
Computation of Service Department costs under Trial and Error Method
Details Service Departments
1(Rs.) 2(Rs.) 3(Rs.) 4(Rs.)
Overheads as per primary distribution 10,000 15,500 20,000 16,000
Service
Department 1 : -- 800 500 700
(20% of Rs. 10,000)
Department 2 : 1,630 -- 652 978
(20% of Rs. 16,300 i,e, 15,500 + 800)

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 Overheads Department 3: 2,115 1,058 -- 2,115
(25% of Rs. 21,152 i.e.,
20,000 + 500 + 652)
Department 4: 990 594 1385 --
(15% of Rs. 19,793 i.e.,
16,000 + 700 + 978 + 2115)
Department 1 : -- 379 237 331
(20% of Rs. 4,735 i.e.,
1,630 + 2,115 + 990)
Department 2 : 203 -- 81 122
(20% of Rs. 2031 i.e., 594 + 379)
Department 3 : 170 85 -- 170
(25% of Rs. 1,703 i.e.,1305+237 + 81)
Department 4 : 31 19 44 --
(15% of Rs. 623 i.e., 331+ 122 + 170)
Department 1 : -- 32 20 28
(20% of Rs. 404 i.e, 203 + 170 + 31)
Department 2 : 14 -- 5 8
(20% of Rs. 136 i.e, 85 + 19 + 32)
Department 3 : 7 3 -- 7
(25% of Rs. 69 i.e, 44 + 20+ 5)
Department 4 : 2 1 3 --
(15% of Rs. 43 i.e, 28 + 8 + 7)
Department 1 : -- 2 1 2
(20% of Rs. 23 i.e, 14 + 7 + 2)
Department 2 : 1 -- 0 0
(20% of Rs. 6 i.e, 3 + 1 +2)
Total 15,163 18,473 22,928 20,461
After ascertainment of the total costs of service departments on the basis of
Trial and Error method, Now you have to prepare secondary distribution in
the same manner as was done in the Simultaneous Equation Method which
is as follows.
Secondary Distribution Summary
Particulars Total Production Departments
A (Rs.) B (Rs.) C (Rs.)
Overheads as per primary 1,90,000 50,000 80,000 60,000
distribution
Service Department 1: 12,131 4,549 3,791 3,791
(80% of Rs. 15,163)
Service Department 2: 14,778 4,618 5,542 4,618
(80% of Rs. 18,473)
Service Department 3: 17,197 8,025 4,586 4,586
(75% of Rs. 22,928)
Service Department 4: 17,391 4,092 5,115 8,184
(85% of Rs. 20,461)
Total 2,51,497 71,284 99,034 81,179
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 You may be noticed that the apportionment of service department costs Classification and Distribution
under Trial and Error method, firstly we have ascertained the total service of Overheads
department costs. Then after apportioned to production departments only
as per their respective share of percentage given.
Here you may be observed that the total overheads of service departments
and production departments given in the illustration were Rs. 2,51,500. But
in the above secondary distribution it appears as Rs. 2,51,493. There is
a deficit of Rs. 3. This amount can be distributed to all three production
departments equally i.e., one rupee each. That is the reason this method is
less accurate when compared to the Simultaneous Equation Method which
gives accurate results but as said earlier, it is cumbersome in calculations
where more than two service departments are there.
Check Your Progress B
1) What is allocation of overheads?
2) What do you mean by apportionment of overheads?
3) What is re-apportionment? Explain different methods of Secondary
Distribution.
4) State whether each of the following statements is True or False and
justify your answer.
i) Rent is apportioned on the basis of direct wages.
ii) Power house is a production department.
iii) The basis for apportionment of canteen and welfare expenses is
the number of employees.
iv) The basis for re-apportionment of repairs and maintenance
department is the number of machine in each department.
v) The most practical method of apportionment is the potential
benefit.
5) Take up the illustration 2 and prepare Secondary Distribution summary
using Simultaneous Equation and Trial and Error methods.
The Company decided to apportion the Service Department costs on the
following basis:
A B C X Y
X 40% 20% 30% -- 10%
Y 30% 30% 20% 20% --

8.7 LET US SUM UP

Overheads refer to all indirect costs including indirect materials, indirect
labour and indirect expenses. These can be classified according to the
functions to which they relate and according to their variability in relation
to the volume of output.
Overheads are also taken into consideration whi1e calculating the total cost
per unit. But, they cannot be directly identified with particular products.
Hence, they are distributed among different products in an indirect manner.
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 Overheads The first step in overhead distribution is the collection of overheads
(ascertainment of the total amount) under various standing order numbers.
The next step is to allocate and apportion them to various production
and service departments on some suitable basis. The guiding principles
of apportionment are: (i) actual benefit (ii) potential benefit (iii) specific
benefit (iv) ability to pay. The third step is to re-apportion the cost of service
departments to production departments to facilitate the distribution of
overheads among different products manufactured in the factory.
The last and final stage in overhead distribution is the absorption of
overheads. This will be discussed in Unit 9.

8.8 KEY WORDS

Allocation: Allotment of whole amount of overhead cost to a particular
cost centre. Apportionment: Distribution of common costs to various cost
centres on some equitable basis.
Balance of Debt System: A system of wage payment under which a worker
is paid on the basis of piece rate subject to a minimum wage based on the
time spent by him in the factory. The extra payment is recouped from his
subsequent extra earnings.
Common Costs: Overheads incurred jointly for various cost centres.
Departmentalisation (Primary Distribution): Allocation and apportionment
of overheads to production and service departments.
Differential Piece Rate System: A system under which piece rate varies
according to the efficiency of workers.
Overheads Distribution Summary: A statement showing allocation and
apportionment of various items of overheads.
Piece wage system: A system under which wages payable to workers are
based on their output.
Re-apportionment (Secondary Distribution): Apportionment of service
department’s cost to production department.
Time Wage system: A system under which wages payable to workers are
based on the time spent by workers in the factory.

8.9 ANSWERS TO CHECK YOUR PROGRESS

A) 2. factory overheads, administrative overheads, selling overheads
and distribution overheads.
4. i) indirect labour ii) overheads iii) partly, partly iv) standing
order numbers v) non-cash
B) 4. i) False ii) False iii) True iv) False v) True

8.10 TERMINAL QUESTIONS/EXERCISES

Questions
1) Define overheads. What are the various methods of classifying
overheads. Discuss functional classification.
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 2) Name various steps involved in the distribution of overheads and Classification and Distribution
explain them briefly. of Overheads
3) How and why the service departments costs are apportioned to
production departments?
4) What are standing order numbers? Explain various sources used for
collection of overheads.
5) Discuss various principles of apportionment of overheads. Give a few
examples of the bases used for apportionment and re-apportionment.
6) Discuss the concepts of various method for apportioning the Service
Department Costs to production Departments.
Exercises
1) Following figures have been extracted from the accounts of a
manufacturing concern for the month of December 2018.
Indirect Materials:
Rs.
Production Departments X 1,000
Y 1,800
Z 500
Maintenance Deptt. P 3,000
Stores Deptt. Q 800

Indirect Wages:
Production Deptt. X 1,400
Y 1,900
Z 400
Maintenance Deptt. P 2,000
Stores Deptt. Q 1,300
Power and Light 12,000
Rent 5,600
Insurance on assets 2,000
Meal charges 6,000
Depreciation @ 6% on capital value of assets. From the following additional
information, calculate, the share of overheads of each department.
Item Production Service
X Y Z P Q
Area (sq. ft.) 4,000 2,000 1,000
4,000 3,000
Capital value of asset (Rs.) 2,00,000 2,40,000 1,60,000 1,20,000 80,000
K.W. hours 4,000 4,400 1,600 1,500 500
No. of employees 180 240 60 80 40
(Answer: X : Rs 11,300; Y : Rs. 13.900; Z: Rs. 5,500; P :Rs. 9,000;Q: Rs.
4,000.)
2) M. Co. Ltd., has three production departments A, B, and C and two
service
Departments D and B. The following figures are extracted from the
records of the
company:
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 Overheads Rs.
Rent and rates 10,000
Indirect Wages 3,000
Depreciation 20,000
Lighting 1,200
Power 3,000
Sundries 20,000
The following further details are available:
Items Total A B C D E
Floor space 20,000 4,000 5,000 6,000 4,000 1,000
(sq. ft.)
Light points 120 20 30 40 20 10
Direct 20,000 6,000 4,00 6,000 3,000 1,000
wages (Rs.)
H.P. of 300 120 60 100 20 --
machines
Value of 5,00,000 1,20,000 1,60,000 2,00,000 10,000 10,000
machines
(Rs.)
Apportion the costs to various departments on the most equitable basis.
(Answer: A: Rs. 15,100; B: Rs. 14,400; C: Rs. 19,300; D: Rs. 9,250: E:
Rs. 3,150)
3) A factory has two production departments A and B and two service
departments-Purchasing Department C and Time keeping department D.
A B C D
Wages (Rs.) 16,000 12,000 6,000 6,000
Area sq. meter. 1,500 1,100 900 500
Number of employees 80 60 40 20
Value of Plant and 32,000 24,000 16,000 8,000
Machinery (Rs.)
Value of direct materials 10,000 20,000 -- --
purchased (Rs.)
Lighting units 5,000 3,000 1,500 5,000
The following costs have been incurred:
(Rs.) (Rs.)
Supervision 6,000 Rent 1,600
Repairs to Plant and Depreciation to Plant and 4,000
Machinery 2,400 Machinery
Light 2,000 Power 2,000
Employer’s Canteen expenses 200
contribution to ESI 400
From the above information apportion the service departments costs to
production departments, ignoring inter-service, department transfer.
(Answer: A: Rs. 15,220; B : Rs. 15,280)
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 4) Calculate the overheads applicable to production departments A & B. Classification and Distribution
There are also, two Service. Departments X & Y. X renders service of Overheads
worth Rs. 24,000 to Y and the balance to A & B as 3:2 Y renders
service to A and B as 9:1.
You are also required to prepare secondary distribution summary using
the following methods i) Simultaneous Equation Method, and ii) Trial and
Error Method.
The Service Department expenses are apportioned on percentage basis as
follows:
A B X Y
X 40% 40% -- 20%
Y 50% 40% 10% --

A B X Y
Floor space (Sq. ft.) 10,000 8,000 2,000 4,000
Assets (Rs. in lakhs) 20 10 6 2
H.P. of machines 2,000 1,000 800 200
Number of workers 200 100 100 50
Light points 100 60 40 40

Expenses are : Rs.

Depreciation 3,80,000
Rent, Rates etc. 72,000
Insurance 30,400
Power 40,000
Canteen expenses 20,000
Electricity 9,600
(Answer: A : Rs, 3,73,560; B : Rs. 1,79,940) and i) & ii) A: Rs. 3,43,900
B: Rs, 2,08,100
5) The R.T. Engineering Industries produced products P and Q during
January 1980.
Direct Department Expenses of the 3 services sections and 2
production sections through which the products pass and other
relevant information are furnished below:
Section/ Expenses Number Labour Labour Installed
Departments Rs. of Workers hour cost (Rs.) Capacity
of electric
motors

Service
Section X
(Personnel and
amenities) 30,000 12 -- -- --
Service
Section Y
(Electrical) 40,000 10 -- -- --

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 Overheads Service
Section Z
(Mill weight) 10,000 10 600 -- --
Production

Section A 70,000 50 6,000 26,000 40 HP

Production

Section B 80,000 50 12,000 36,000 60 HP

i) Expenses of additional information as follows: Service Section Y
directly apportioned on electric power used on installed capacity of
electric motors in Departments A and B.
ii) The industry decided to apportion the service department costs on the
following percentage.
A B X Y Z
X 40% 35% 5% 10% 5%
Y 40% 45% 4% 6% 5%
Z 45% 35% 10% 5% 5%
Of the 600 effective hours of Mill weight in Section Z, 240 hours relate to
Section A and 360 to Section B.
Show the apportionment of Service Sections to Production Sections under
the following methods i) Non-reciprocal (Step Ladder) method, ii) Trial and
Error method.
(Answer: A: Rs. 1,04,500 ; B: Rs. 1,25,500)
6) The following information of a manufacturing company which has
three production departments A, B and C and two Service Departments
P and Q.
Particulars Production Departments Service
Departments
A B C P Q
Overheads as per primary 12,600 14,800 5,600 9,000 4,000
distribution (Rs.)
The company decided to apportion the Service department overhead costs
on the following percentages:
A B C P Q
P 40% 30% 20% -- 10%
Q 30% 30% 20% 20% --
Prepare Secondary distribution and find out total overheads of production
departments using simultaneous equation method and Trial and Error
Method.
(Answer : A Rs. 18,100 B Rs,19, 300 C Rs, 8,600)

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 Note:These questions will help you to understand the unit better. Try to Classification and Distribution
of Overheads
write answers for them and verify with the content. But do not submit
your answers to the University. These are for your practice only.

SOME USEFUL BOOKS

Arora, M.N. 1988, A Text Book of Cost Accountancy, Vikas Publishing
House Pvt. Ltd., New Delhi. (Chapter 9-12).
Bhar, B.K. 1990. Cost Accounting : Methods and Problems, Academic
Publishers, Calcutta. (Chapter 1-2).
Maheshwari, SN. and S.N. Mittal, 1990. Cost Accounting : Theory and
Problems, Shree Mahavir Book Depot, Delhi. (Chapter 4, 5).
Nigam B.M.L. and G. L. Sharrna, 1990. Theory and Techniques of Cost
Accounting,
Himalaya Publishing House, Bombay, (Chapter 8-10).
Owler, L.W,J. and J.L. Brown, 1984. Wheldon’s Cost Accounting, ELBS,
London. (Chapter 7-9).

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