by Primary overhead distribution is the first stage of overhead distribution. At this stage, overheads collected are allocated and apportioned to both production departments and service departments. Costs such as rent, power, lighting, depreciation, indirect wages, and insurance are distributed using suitable bases like floor area, machine hours, value of assets, or number of employees. The objective is to assign overheads fairly to all departments that incur or benefit from them.
Objectives of Primary Overhead Distribution
Primary overhead distribution is the first step in departmentalization of overheads, where collected indirect costs are allocated and apportioned to both production and service departments. Its objectives can be explained under the following eight points, each explained clearly.
- Fair Distribution of Overheads
The main objective of primary overhead distribution is to ensure fair and equitable distribution of overheads among different departments. Since overheads benefit more than one department, distributing them on a logical and scientific basis helps avoid arbitrary charging and ensures accuracy in departmental cost determination.
- Identification of Departmental Costs
Primary distribution helps in identifying the total overhead cost incurred by each department. By allocating and apportioning overheads to departments, management can know how much cost is incurred by production and service departments individually, which is essential for departmental efficiency analysis.
- Basis for Secondary Distribution
Primary overhead distribution provides the foundation for secondary overhead distribution. Only after overheads are assigned to service departments in the primary stage can they be redistributed to production departments in the secondary stage. Thus, it acts as a necessary preliminary step.
- Accurate Product Costing
By distributing overheads department-wise, primary distribution ensures that production departments carry appropriate overhead burdens. This leads to more accurate absorption of overheads into product costs, resulting in reliable cost per unit and improved costing accuracy.
- Cost Control and Monitoring
Primary overhead distribution enables management to monitor overhead costs at the departmental level. Comparing departmental overheads with budgets or standards helps identify inefficiencies, wastage, or excessive spending, supporting effective cost control and corrective action.
- Responsibility Accounting
Allocating overheads to departments helps fix responsibility for overhead costs. Departmental managers become accountable for controlling costs incurred in their departments, promoting cost consciousness and efficient utilization of resources.
- Selection of Suitable Allocation Bases
An important objective is to apply appropriate bases such as floor area, machine hours, or number of employees for distributing overheads. Proper selection of bases ensures that overheads are charged in proportion to benefits received by each department.
- Facilitates Managerial Decision-Making
Primary overhead distribution provides detailed departmental cost data that supports managerial decisions related to budgeting, performance evaluation, expansion, or restructuring of departments. Accurate departmental cost information improves planning and operational decision-making.
Types of Primary Overhead Distribution
Primary overhead distribution deals with assigning collected overheads to production and service departments. It is broadly classified into the following two types:
1. Allocation of Overheads
Allocation refers to the direct charging of an entire overhead cost to a specific department or cost center when the expense is clearly identifiable with that department. For example, the salary of a production supervisor is allocated directly to the production department, and the rent of a stores department is allocated to the stores department. Allocation ensures direct responsibility for overhead costs and improves accuracy in departmental costing.
2. Apportionment of Overheads
Apportionment refers to the distribution of common overheads among two or more departments on an equitable basis. These costs cannot be directly identified with a single department, such as factory rent, power, lighting, or depreciation. Apportionment is done using suitable bases like floor area, machine hours, value of assets, or number of employees. It ensures fair sharing of overheads based on benefits received.
Importance of Primary Overhead Distribution
Primary overhead distribution plays a vital role in departmentalizing overheads and ensuring accurate cost accounting. Its importance can be explained under the following eight points, each explained clearly.
- Accurate Departmental Costing
Primary overhead distribution helps in identifying the exact overhead cost of each department. By allocating and apportioning overheads properly, management can determine departmental costs accurately, which is essential for effective cost analysis and comparison.
- Fair Distribution of Overheads
It ensures that common overheads are distributed among departments on a fair and logical basis. This avoids arbitrary charging of costs and ensures that each department bears overheads according to the benefits received.
- Foundation for Secondary Distribution
Primary distribution forms the base for secondary overhead distribution. Only after service department costs are identified through primary distribution can they be redistributed to production departments systematically.
- Improved Cost Control
By assigning overheads department-wise, management can compare actual costs with budgets or standards. This helps in identifying inefficiencies and taking corrective actions to control overhead expenses.
- Responsibility Accounting
Primary overhead distribution fixes responsibility on departmental managers for the costs incurred in their departments. This promotes accountability and encourages efficient utilization of resources.
- Accurate Product Costing
Proper departmentalization of overheads leads to accurate absorption of overheads into product costs. This ensures reliable cost per unit and prevents under-costing or over-costing of products.
- Better Planning and Budgeting
Department-wise overhead data obtained through primary distribution helps in preparing realistic budgets and forecasts. It supports effective planning and financial discipline.
- Support to Managerial Decisions
Accurate departmental cost information assists management in decisions related to expansion, cost reduction, process improvement, and performance evaluation.
Role of Primary Distribution in Cost Control
Primary distribution significantly contributes to effective overhead cost control. Its role can be explained through the following eight points.
- Identification of Cost Centres
Primary distribution clearly identifies the overhead cost incurred by each department. This helps management focus on specific cost centres where control is required.
- Comparison with Standards
Departmental overheads obtained through primary distribution can be compared with standard or budgeted overheads. Variances highlight inefficiencies and areas requiring corrective action.
- Prevention of Cost Leakage
Systematic allocation and apportionment reduce the chances of omission or duplication of overhead costs. This prevents cost leakage and improves accuracy in cost records.
- Fixing Responsibility
By assigning overheads to departments, responsibility for controlling costs is fixed on departmental managers. This encourages cost consciousness and disciplined spending.
- Monitoring Overhead Trends
Primary distribution helps track overhead trends department-wise over different periods. Rising costs can be analyzed early, enabling timely control measures.
- Basis for Performance Evaluation
Departmental overhead data is used to evaluate managerial performance. Efficient departments can be rewarded, while inefficient ones can be reviewed for improvement.
- Effective Budgetary Control
Primary distribution supports budgetary control by providing detailed departmental overhead data. This helps in monitoring budget deviations and enforcing financial control.
- Supports Cost Reduction Efforts
By identifying high-cost departments, management can focus on cost reduction techniques such as process improvement, waste elimination, and better resource utilization.
