Manufacturing-Indirect Costs

Indirect Costs are those costs that cannot be directly identified with a Cost Object.( Cost Object may be any customer, product service, contract, project, activity or other work unit for which a separate cost measurement is desired. For example, if it is desired to determine
what it costs to produce a car, then the cost object is car. If it is desired to determine the operating cost of maintenance department within a plant, the cost object is maintenance department).

You can create Indirect Costs absorption rules in CREST ERP in the same way as Direct Costs.

In this case, two Costing Methods can be used to allocate indirect costs to production, as already explained:

1. Indirect Cost as a % of Total Material Cost
2. Indirect Cost as a % of Total Process Cost (net of Material Cost)

Example 1: Indirect Cost as % of Total Material Cost [Direct Material Cost Percentage Rate]

If material cost is high and of prime importance, and other costs are negligible or of low importance, absorbing Indirect Costs as a percentage of Total Material cost will be appropriate. E.g: Precious jewelry industry absorbs around 2-5% of the cost of gold as indirect overheads.

Absorbing indirect overheads as a percentage of the Total Process Cost, net of Material Cost, may be suitable for most scenarios as it leads to a more balanced allocation of such costs to production. You can create absorption rules using this formula in CREST ERP in the same manner as with the alternate rule.

*There are no hard and fast rules regarding which of these two options to use in a given scenario. Since these are purely based on assumptions, neither method can claim to avoid over-absorption or under-absorption. For that matter, there is no good way to estimate the percentage to be applied. Hence, the focus should be on choosing either of the methods and adhering to it consistently so that results are comparable.