What is manufacturing overhead?

Definition

Manufacturing overhead is the factory cost you cannot point at one unit. On the books, those costs are collected and then applied to work in process inventory as units are made.

A candle factory can trace the wax in a batch. The rent on the vat room, the heat under every kettle, and the supervisor who walks the floor are this cost instead.

Cash-basis books may feel rent and utilities when they are paid. Accrual books collect those factory costs in the period they are used, then apply them to the units made.

This cost is the indirect factory layer. It is not the wax, and it is not the pourer's wage.

Where it shows up

Balance Sheet: Located in work in process once the costs are applied.

P&L: Related to indirect factory costs that later sit in cost of goods sold.

Cash flow: Decreases when rent and utilities are paid, reported cash from operating activities decreases.

See also: Overhead Allocation · Cost Of Goods Sold · Work In Process Inventory

When you look at your Balance Sheet, applied factory cost sits inside work in process, then in finished goods inventory once the candles are boxed. Until those candles sell, the dollars are still inventory.

When the unfinished balance is high, cash is often sitting in batches that already absorbed factory cost. When it is low, the floor may be current, or little has been applied this month.

The Income Statement does not keep this cost as a standing factory line after the units sell. The related expense shows up as cost of goods sold when the finished candles leave.

On the Statement of Cash Flows, paying rent and utilities is the cash event most owners notice. Cash from operating activities falls when those bills leave the bank.

Unpaid factory bills can sit in accounts payable until they are paid. Depreciation expense on the kettles is a factory cost with no cash that month.

How it works

The factory spends on rent, heat, supervisor wages, small shared supplies, and similar items. Those costs are collected in this pool as they are incurred.

The shop then applies a share of the pool to the units made. The apply entry takes cost out of the pool and into work in process.

How the share is chosen is a separate method. Hours, machine time, or units produced are common bases.

Stay with the shared factory cost when you read this pool. Direct materials and the pourer's wage are traced to the batch; this pool is what is left.

Office rent, ads, and the bookkeeper's wage are not this cost. Those sit below gross profit as operating expenses, because they are not factory costs.

If actual factory spend is higher than the amount applied, the pool still has a leftover. That leftover is closed later, often to cost of goods sold or to inventory if the amount is large.

Do not treat the rent check as the job cost if the month's units have not been applied yet. The check pays the landlord; this cost waits for the apply step, then for the sale.

After the candles sell, the applied dollars leave inventory with the rest of the unit cost. They do not sit in a permanent overhead-expense account of their own.

Example

A candle factory collects $2,400 of vat-room rent, heat, and supervisor time this month. It applies that full amount to the batches on the floor.

The apply is recorded:

Debit: Work in process inventory $2,400

Credit: Manufacturing overhead $2,400

Work in process rises by $2,400, and the overhead pool falls by the same amount. Cash has not moved on this entry; the rent check was a separate payment.

The $2,400 is still inventory, now sitting on open batches. It becomes cost of goods sold only when the finished candles are sold.

If 800 candles were poured, each candle picked up $3 of factory cost. A candle that also holds $2 of wax and $1 of pourer time now carries $6 in inventory.

Common mix-ups

Manufacturing overhead is not the wax or the pourer's wage. Those are direct costs you can point at a batch; this pool is the shared factory layer.

Manufacturing overhead is not office overhead. Storefront rent and office salaries sit below gross profit; this pool is only the factory.

Manufacturing overhead is not cost of goods sold on its own. The applied cost is still an asset until the finished candles sell.

Related terms

• Overhead Allocation: The method for spreading indirect costs across products, jobs, or departments.
• Cost Of Goods Sold: The direct cost of the products sold during the period.
• Work In Process Inventory: Partially completed goods still moving through production.
• Standard Cost: A pre-set expected cost per unit used for planning and comparison.
• Job Costing: Tracking revenue and cost for each individual job, project, or order.
• Direct Labor: Wages for the people who directly make the product or deliver the service.
• Fixed Costs: Costs that stay roughly the same regardless of sales volume.
• Cost Variance: The gap between actual cost and the standard or budgeted cost.