You have to consider more than the cost of the goods or services your company sells when you set prices. A business has a variety of additional costs that must be allowed for when determining prices. A plantwide or single overhead rate is one method for allocating these indirect costs so you can set prices appropriately.

Components of Overhead

Overhead is the general term for costs a business pays other than the direct costs of producing a good or service.

A portion of these indirect costs, such as rent, utilities and office expenses, must be allocated to each unit of production to arrive at an accurate estimate of the total cost of the unit. When a plantwide overhead rate is used, all items produced are allocated a share of the overhead based on a single parameter.

Typically, a plantwide overhead rate assigns a cost figure based on the labor hours needed to produce one unit.

Gathering Direct and Indirect Costs

To calculate a plantwide overhead rate, you need specific information.

First, find the total of all operational costs other than the direct cost of production for the period you are measuring. Typical direct costs are raw materials and direct production labor. Collectively, the indirect costs are your overhead.

You also need the total number of direct labor hours and the direct labor hours required to produce each product the plant manufactures. Per unit labor hours can be calculated by dividing the total labor hours used to manufacture each product by the number of units manufactured.

Calculating the Plantwide Overhead Rate

To calculate the plantwide overhead rate, first divide total overhead by the number of direct labor hours used to find the overhead per labor hour. Next, multiply the overhead per labor hour by the number of labor hours used to produce each unit.

Suppose your overhead total for a month is $120,000 and the plant requires 1,500 labor hours to produce 1,000 units of Product A. The plant also produces 2,000 units of product B, using another 1,000 labor hours in the process, for an overall total of 2,500 labor hours.

Divided into the overhead of $120,000, this comes to $48 in overhead per labor hour. Product A requires 1.5 hours per unit, so the overhead rate is 1.5 times $48, or $72 per unit. For product B, two labor hours are needed per unit, so the overhead per unit equals two times $48, or $96.

An Alternative Approach Using Direct Cost

Another approach to calculating a single or plantwide overhead rate uses direct cost as a basis, rather than direct labor hours.

To calculate this number, identify the total direct cost of production and the total overhead costs for the month. Divide the total overhead by the direct costs.

For example, if overhead totals $75,000 for a month and direct costs equal $125,000, you have an overhead rate of 0.6 or 60 cents of overhead for every dollar of direct costs. Multiply the direct cost of one unit by 0.6 to find the amount of overhead you should allocate per unit. In this example, if the direct cost of one unit of a product is $80, multiplying $80 by 0.6 gives an overhead cost allocation of $48.