Question

You are the management accountant for Williams Company. Your company does custom carpentry work and uses a job order cost system. Williams sends detailed job cost sheets to its customers, along with an invoice. The job cost sheets show the date materials were used, the dollar cost of the materials, and the hours and cost of labor. A predetermined overhead application rate is used, and the total overhead applied is also listed. Nancy Kopay is a customer who recently had custom cabinets installed. Along with her check in payment for the work done, she included a letter. She thanked the company for including detailed cost information but questioned why overhead was estimated. She wanted to know exactly what costs were included in overhead.

Why was overhead estimated?

What costs were included in overhead?

Why would a company not include information on exact costs of overhead?

Just looking for overall reasoning, thank you in advance for helping.

Answer 1

Overhead refers to the ongoing costs to operate a business but excludes the direct costs associated with creating a product or services. Overhead can be fixed, variable, or a hybrid of both.

Overhead expenses include accounting fees, advertising, insurance, interest, legal fees, labor burden, rent, repairs, supplies, taxes, telephone bills, travel expenditures, and utilities.

Overhead expenses are estimated to allocate a certain amount of manufacturing overhead to each direct labour or machine hour. This helps business allocate resources and set pricing.

Overhead is a summary of the costs you pay to keep your company running. In other words, overhead is what you pay to keep your business in business. Moreover, overheads are the expenditure which cannot be conveniently traced to or identified with any particular cost unit, unlike operating expenses such as raw material and labor. Therefore, overheads cannot be immediately associated with the products or services being offered, thus do not directly generate profits. That's why information on exact costs of overhead is not included by a company.