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Apportionment is a common term used in accounting to describe the way a business separates and distributes a portion of its gross income. This usually applies to a company’s overheads as a method to calculate the correct costs, especially when the business is spread across various departments, subsidiaries or countries of operation.
In order to understand apportionment clearly one has to be familiar with the concept of overhead. In this article we will discuss briefly about the overhead costs, Its allocation and apportionment. Before we dive deep into the detailed discussion about Apportionment, its definition, method and pattern.
Concept of Overhead
A cost is a component of three elements:
(a) material
(b) labour, and
(c) expenses.
Each of these costs can be further divided into direct and indirect.
Direct costs : They are costs which can be easily be recognised with a particular product, process or department.
Indirect costs: They refer to costs which cannot be easily identified with a particular product, process or department. These are common costs, like repairs, rent, salaries, lubricating oil, which are incurred for the benefit of various cost units or cost centres. The sum of all indirect costs i.e., indirect material, indirect labour and indirect expenses, is called ‘overheads’.
Collection of Factory Overheads
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As mentioned earlier, overheads are not directly related to a particular cost unit, process or department. Hence, there is a need for distribution of overheads to various products manufactured or to the various departments.
There are 4 steps in overheads distribution. They are:
a) Collection of overheads
b) Allocation and apportionment to production and service departments c) Re-apportionment of service department costs
d) Absorption of overheads
The 1st step in overhead distribution is the aggregation of overheads. This means the ascertainment of the total amount paid for each item of overheads during a particular period.
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Allocation and Apportionment of Factory Overhead
After the overheads are segregated and classified under various standing order numbers, the 2nd step in overhead distribution is allocation and apportionment of overheads to service and production departments.
Allocation
Allocation is “the allocation 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 in particular. It relates to those overheads which 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 employees 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. Similarly separate meters are installed in departments, from meter reading, power ratings for each department can be easily known and as such they are allocated to the concerned departments.
Thus, we can say that, an overhead can be allocated to a cost centre if the following two conditions are met:
1) The overhead must have been incurred because of the presence of that particular cost centre.
2) The exact value of overhead incurred in a cost centre must be known.
Apportionment
Apportionment refers to the distribution of common items of cost to 2 or more cost centres on some befitting basis. When the costs which are incurred for the factory as a whole and benefit 2 or more cost centres, then it is necessary to apportion them to various departments that receive benefit from such costs. For example, building rent benefits all the departments. Hence, it should be apportioned to all of them on the basis of the floor area occupied by each department in the factory building. The common factory overheads have to be apportioned to different production and service departments in the factory on some just basis.
A production department is one that involves in the actual manufacture of the product. Eg. of production departments are crushing, mining, weaving, spinning, grinding, etc.
A service department is one which offers a service that contributes indirectly in the production of a product. It provides service to the production as well as other service departments. Eg. of service departments are stores, purchasing, time keeping, personnel inspection, etc.
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Principles of Apportionment
As mentioned earlier, the common factory overheads (common costs) have to be apportioned to respective production and service departments on some equitable basis. In deciding the basis to be adopted, the following guiding principles can be used:
1) Actual benefit: As per this principle, overheads are distributed over various departments on the basis of the actual benefit obtained. This can be adopted where it is possible to get the actual benefit derived from a particular expense.
For eg, rent can be apportioned to various departments depending on the area occupied. Similarly, machine shop expenses may be apportioned based on the actual time devoted to each job for which proper job cards are maintained.
2) Potential benefit: It would be perfect to distribute common costs on the basis of actual benefit received, but, in most cases, the measurement of actual benefit is not possible or it may be too difficult to keep the necessary records. Hence, in such cases the apportionment may be done on the basis of potential benefit (benefit likely to be received).
For example, if the costs of lighting were to be apportioned on the basis of actual benefit received, you will have to keep record of the number of lighting points in every department, the wattage of bulbs used at every lighting point, and the amount of time for which each bulb was on. This is kind of impractical. Hence, lighting costs can be apportioned simply base on the number of lighting points in every department. Similarly,transport cost for workers can be apportioned depending on the number of employees in each department. This method is also known as ‘service or use’ method.
3) Specific criteria: According to this principle, the overheads can be apportioned to various departments in a particular 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 not easy to select a suitable basis for apportionment.
For example, for the apportionment of works manager’s salary, it may not be easy to identify a suitable basis. Hence, a survey may be taken to determine the time and attention given by him to various cost centres and a reasonable ratio fixed for the purpose.
4) Ability to pay: This method is based on the principle that larger the revenue of a department, the higher should be the proportionate charge for the services.
For eg, the cost of maintaining stores may be apportioned to different production units on the basis of the value (not the volume) of materials consumed.
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Basis of Apportionment:
As discussed above, the common basis for apportioning usual items of factory overhead can be as shown in the table below:
| SL. No | Basis | Expenses |
| 1. | Floor area occupied | Rent, Rates, and taxes, insurance, depreciation and repairs, fire precaution, air condition of buildings. |
| 2. | No. of employees | Canteen, welfare expenses, time keeping, personnel office, fringe benefits supervision. |
| 3. | Capital cost of plant and machinery | Depreciation, repairs & maintenance and insurance to plant and machinery. |
| 4. | Technical estimates (i.e. HP hours, number of light points) | Power/Steam consumption, lighting. |
| 5. | Weight/value of Materials | Store keeping and material handling expenses. |
| 6. | Number of requisitions, weight/ Value of materials | Internal transport. |
| 7. | Direct wages | Compensation to workers, ESI and PF contribution, holiday pay. |
| 8. | Direct Labour hours or Machine hours or Direct wages | General Overheads. |
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Preparation of Overheads Distribution Summary
The allocation and apportionment of overheads to production and service units is also called‘departmentalisation or primary distribution of overheads’. It is done by setting up an overheads distribution summary. For the planning of overheads distribution summary, all those overheads which can be directly identified with a specific department, will be taken or allocated to the concerned department and those which cannot be identified with a specific department will be apportioned i.e., distributed on equitable basis to various departments.
Re-Apportionment of Service Department Costs:
Once the overheads have been allocated and apportioned to production and service units, the subsequent step in overhead distribution is to re-apportion the service department total costs to production departments. As the eventual object is to charge the overhead to cost units, and no cost units pass through service units, it becomes necessary to apportion the service units costs also to production units on some equitable basis. This is called secondary Distribution. The common basis of for apportionment of service units costs to production units (secondary distribution) are given below:
| Sl. No | Department | Basis of Apportionment |
| 1. | Purchase | No of purchase orders or no of purchase requisitions or value of materials purchased for every departments |
| 2. | Stores | No of material requisitions or value or quantity of materials issued to each department. |
| 3. | Time-keeping and Pay roll | No of employees or total machine or labour hours |
| 4. | Personnel , canteen, welfare, medical, recreation and security | No of employees or total wages |
| 5. | Repairs and maintenance | No of hours worked in each department |
| 6. | Power House | Meter reading or Horse Power Hour for powers Meter reading or floor space for lighting, heat consumed |
| 7. | Inspection | Value of items inspected or Inspection hours |
| 8. | Drawing | No of drawings made or man hours worked |
| 9. | Accounts | No of workers in each department or time devoted |
| 10. | Tool Room | Wages or Machine hours or Direct labour |
| 11. | Internal transport | Distance or/and weight |
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Methods of Apportionment
The following chart will explain you the different methods of apportionment of service department costs to production departments.
Apportionment of Service Department Costs to Production Departments
Only Under this method, the costs of each service unit is apportioned to production units only without apportion to the other service department on the basis as decided.
Apportionment to Production and Other Service Departments
In the former method service department overheads are apportioned to production units only but not apportioned to other service department as an assumption that service units are not consuming the services of other service departments. Actually it is not true as service department provide services not only to production units but also to other service units. For instance, pay roll department not only provide services to production unit but also provide services to canteen, stores, ,powerhouse, maintenance etc. Similarly, canteen, provide services not only to production units but also other service departments like power house pay roll, internal transport, store etc. Thus,apart from production departments, inter-service department apportionment may be done under 2 basis
1) Non-reciprocal basis and
2) Reciprocal basis.
Now let us learn about the apportionment under these 2 methods
Non-Reciprocal Method of Apportionment
This method is also called “Step Ladder Method”. It is followed when the service unit provide the services to other service departments but not receive the services from other service departments considerably. This method is used when service departments are not inter-dependent in providing services. Under this method, service units are arranged in the following descending order: Take an eg that a factory is having 3 service departments. Among them, the service department which provide services to other 2 service units along with the production departments is placed at 1st and apportioned its overheads. Next, the service unit which provides services to the 3rd service department and production departments excluding the 1st service department is place at second. The total overheads of their service department is apportioned finally to all production units (excluding 1st and 2nd service departments). It may be noted that the above process is continued till the cost of the final service department is apportioned.
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Apportionment on Reciprocal Basis
In most of the situations, the service departments not only render the services to other service departments besides production departments but also gets the services from other service departments. For eg, ‘Canteen’ services are provided to ‘Power house’ and ‘Power house’ services are taken by canteen department. Reciprocal approach is more scientific when the service units are inter – dependent on each other to provide and receive the services. There are 3 following methods for apportionment of overhead costs on reciprocal basis.
1) Simultaneous Equation Method
2) Repeated Distribution Method
3) Trial and Error Method
Here we discuss only 1st and 3rd methods for apportionment. Because 2nd method is same as the concept of 3rd method. Under the 2nd method repeated distribution will be done both service and production unit. On the other hand under Trial and Error method, repeated distribution will be done 1st among service units only. Once it is completed the total overhead costs of service units will be lastly distributed to production departments. It is important to note that the distribution begins as per the order of the arrangement of service departments.
Simultaneous Equation Method : This method is formed with the help of the following algebraic equation to find out the total service units overhead costs. Then after apportionment will be done to production units.
Equation:
X = a + bY
Y = a + bX
Where; X = Total overhead costs of 1st Service Department
Y = Total overhead costs of consequent (second) Department
a = Overheads of respective service unit prior to re-apportionment (as per primary distribution)
b = Share of overheads of one service unit to be apportioned to the other service unit.
Trail and Error Method:
When the Service department are more than 2, it gets complicated and messy in calculations under simultaneous equation method. This method cut down the complexities in calculations. Under this method, the overhead costs as per primary distribution of 1st service unit is apportioned to other service units only in the decided percentages or ratios. Next the costs of 2nd service unit is apportioned to 1st and other service units. Next the cost of 3rd service department is apportioned to first, second and other service units and so on. This process is repeated till costs of service department reduced to minimal amounts. Since the distribution is repeated among the service units only it is called trial and error method. Then after the distributed costs are summed and proceed for preparation of secondary distribution to apportion the total overhead costs of service units to production units only as per given percentages or ratios.
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Summary
Overheads means all indirect costs including indirect materials, labour and expenses. These can be distributed according to the functions to which they relate and according to their variability in relation to the amount of output. Overheads are also taken into account whi1e calculating the total cost per unit. But, they cannot be directly identified with certain products. Hence, they are apportioned among different products in an indirect manner.The 1st step in overhead distribution is the collection of overheads (ascertainment of the total amount) under various standing order no.s. The next step is to apportion them to different 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 3rd step is to re-apportion the cost of service departments to production departments to ease the distribution of overheads among different products manufactured in the factory.
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Apportionment: Quiz
1. Indirect costs cannot be recognised with a particular cost centre are shared among cost centre using _____.
a) apportionment method
b) allocation method
c) a recovery rate
d) None of the above
Ans: (a) apportionment method
2. Charging overheads to individual units is called:
a) allocation
b) apportionment
c) absorption
d) collection
Ans: (d) absorption
3. Electricity bills are allocated on the basis of _________.
a) no of light points
b) cost per machines
c) labour hours
d) factory cost
Ans: (a) no of light points
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4. Employee welfare expenses are providedon the basis of ________.
a) no of employees
b) labour hours
c) machine hours
d) prime cost
Ans: (a) no of employees
5. Power is given on the basis of _______.
a) Horse Power of machines
b) cost of machines
c) machine hours of machine
d)l abour hours
Ans: (a) Horse Power of machines
6. Depreciation on a machine is apportioned based on _______.
a) machine cost
b) machine hours
c) labour hours
d) labour cost
Ans: (a) machine cost
7. Selling and distribution overheads are absorbed based on ________.
a) rate per unit
b) percentage on works cost
c) percentage on selling price
d) any of these
Ans: (d) any of these
8. Administrative overheads are recovered as a% of __________
a) direct materials
b) prime cost
c) works cost
d) None of the above
Ans: (c) works cost
9. The allocation of whole items of cost to cost unit is known as ________
a) cost allocation
b) cost apportionment
c) cost classification
d) overhead absorption
Ans: (a) cost allocation
10. The method of apportionment suitable for allocating rent of building between cost centres ________
a) number of employees
b) machine hours
c) KWH
d) floor area
Ans (d) floor area
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