Manufacturing Overhead Formula

Manufacturing Overhead Formula (Table of Contents)

• Formula
• Examples
• Calculator

What is the Manufacturing Overhead Formula?

The term “manufacturing overhead” refers to all the indirect costs that are incurred during the process of production but not directly assignable. However, in order to recognize inventory and cost of goods sold (a.k.a. cost of sales) according to generally accepted accounting principles (GAAP), it is essential to capture manufacturing overhead along with the direct costs such as cost of raw material and direct labor which then can be assigned to each unit produced. Examples of manufacturing overhead include depreciation on plant and machinery, rent for the production facility, salaries of production managers, utilities, etc. The formula for manufacturing overhead can be derived by deducting the cost of raw material and direct labour cost (a.k.a. wages) from the cost of goods sold. Mathematically, it is represented as,

Examples of Manufacturing Overhead Formula (With Excel Template)

Let’s take an example to understand the calculation of Manufacturing Overhead in a better manner.

Manufacturing Overhead Formula – Example #1

Let us take the example of a company and look at its various cost fields and then calculate the manufacturing overhead.

Solution:

From the above list, depreciation, salaries of managers, factory rent and property tax fall in the category of manufacturing overhead. Direct labour cost and cost of raw material are direct costs of production. Therefore, the

Manufacturing Overhead is calculated using the formula given below

Manufacturing Overhead = Depreciation + Salaries of Managers + Factory Rent + Property Tax

• Manufacturing Overhead = $15 million + $60 million + $17 million + $5 million
• Manufacturing Overhead = $97 million

Therefore, the manufacturing overhead of the company for the year stood at $97 million.

Manufacturing Overhead Formula – Example #2

Let us take the example of a company ASF Ltd which is engaged in the manufacturing of leather bags. During 2018, the company reported a gross profit of $120 million on a total sales of $300 million. If the cost of raw material and direct labour cost are $80 million and $50 million respectively, then calculate the manufacturing overhead of ASF Ltd for the year.

Solution:

Cost of Goods Sold is calculated using the formula given below

Cost of Goods Sold = Total Sales – Gross Profit

• Cost of Goods Sold = $300 million – $120 million
• Cost of Goods Sold = $180 million

Manufacturing Overhead is calculated using the formula given below

Manufacturing Overhead = Cost of Goods Sold – Cost of Raw Material – Direct Labour Cost

• Manufacturing Overhead = $180 million – $80 million – $50 million
• Manufacturing Overhead = $50 million

Therefore, the manufacturing overhead of ASF Ltd for the year stood at $50 million.

Manufacturing Overhead Formula – Example #3

Let us take the example of Samsung’s annual report for the year 2018. During 2018, the company incurred the cost of sales of W132.39 trillion. The following break-up of the cost of sales is provided. Based on the given information, calculate the manufacturing overhead of Samsung for the year 2018.

Solution:

In the above break-up, changes in finished goods and work in process, raw materials used and merchandise purchased, wages and salaries and post-employment benefit can be identified as direct costs of production. Therefore,

Manufacturing Overhead is calculated using the formula given below

Manufacturing Overhead = Cost of Sales – Changes in Finished Goods and Work in Process – Raw Materials used and Merchandise Purchased – Wages and Salaries – Post-Employment Benefit

• Manufacturing Overhead = W132.39 – (- W5.48) – W79.81 – W16.54 – W0.70
• Manufacturing Overhead = W40.82 trillion

Therefore, the manufacturing overhead of Samsung for the year 2018 stood at W40.82 trillion.

Source: SAMSUNG

Explanation

The formula for manufacturing overhead can be derived by using the following steps:

• Step 1: Firstly, determine the cost of goods sold which includes all direct and indirect costs of production. It is easily available as a separate line item in most of the income statements.
• Step 2: Next, determine the cost of raw material which includes the cost of raw material purchase during the year adjusted with the change in inventory. It is also either available in the summary of the income statement or in its scheduled notes.
• Step 3: Next, determine the cost of direct labour which includes the expenses associated with the production labours that are directly engaged in the production process.
• Step 4: Finally, the formula for manufacturing overhead can be derived by deducting the cost of raw material (step 2) and direct labour cost (step 3) from the cost of goods sold (step 1) as shown below.

Manufacturing Overhead = Cost of Goods Sold – Cost of Raw Material – Direct Labour Cost

Relevance and Uses of Manufacturing Overhead Formula

Both Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS) mandates allocation of manufacturing overhead to the production cost, such that it is captured in the cost of goods sold (income statement) and the inventory holding (balance sheet). Such a requirement by the two major governing bodies makes it quintessential to understand the concept of manufacturing overhead.

Manufacturing Overhead Formula Calculator

You can use the following Manufacturing Overhead Formula Calculator

1. Formula For Central Tendency
2. How to Calculate Portfolio Return?
3. Examples of Interest Expense
4. Calculation of Net Interest Margin