It is not only accountants who regularly come into contact with so-called material overheads in their day-to-day business . The corresponding values and, among other things, the formula that is needed to individually determine said material overheads, are also used by company decision-makers, among others. For example, you can better assess the economic situation or plan further steps or investments .
In order to be able to work precisely here, however, it is important to have appropriate background knowledge and, for example, to be able to differentiate material overheads from individual material costs. Based on the classic examples that come into play again and again in connection with material overheads, it quickly becomes clear why meticulous documentation is extremely important in order to ultimately be able to make economically justifiable decisions.
Definition – what are material overheads?
Material overheads are often abbreviated as “MGK” in everyday business life. Basically, this is a special type of cost, for which it is not possible to assign the respective sums to a specific product.
This cost type is then in turn distributed to the various product groups using a formula, in connection with which the so-called material overhead surcharge rates are determined. This makes it easy for a company to find out how much material is needed to manufacture a particular product. Or to put it another way: the question of how profitable your own production is can be answered even better.
At the same time, the material overheads often show a corresponding need for optimization. If the MGK turns out to be too high, countermeasures can be taken, for example, by changing the process.
Cost accounting and material overheads – an important link
A term that is mentioned again and again in the course of material overheads is so-called cost accounting. This is an important sub-area of business administration, in the context of which the direct material costs are added to the material overheads. It is then in turn possible to calculate the material costs associated with a specific product. Sometimes said cost accounting is also referred to as “ cost and performance accounting ” or as “cost and revenue accounting”, among other things .
The material overhead surcharge and its legal basis
The amount of the material overhead surcharge is of course also anchored in law. The corresponding regulations can be found in Section 255, Paragraph 2, Clause 2 of the HGB.
Among other things, it is also stipulated here, for example, that calculated material overheads must of course be reasonable. Another legal requirement in this context says that the said material overheads must always be taken into account with regard to the balance sheet .
Corresponding regulations are also anchored in the HGB in connection with direct material costs.
Formula for calculating material overheads
The material costs, which are used to find out which costs are associated with the production of various products, are made up of the direct material costs and the said material overheads.
In order to understand the formula that is necessary to calculate the material costs, it is important in the first step to distinguish the material overheads from the material direct costs.
The following applies here: the term “ direct material costs ” is used to summarize the material that is required to manufacture a specific item. The raw materials serve as a classic example here. Another characteristic of the direct material costs is the fact that they can be precisely assigned.
In order to document the amount of raw materials flowing into a product and how high the corresponding direct material costs are, cost centers are used . However, not only the said raw materials fall into the category of direct material costs. Many auxiliary materials are also assigned here.
In contrast to direct material costs, material overheads cannot be directly related to a specific product. Auxiliary materials that cannot be precisely assigned fall into this category, as do operating materials. A typical example of material overhead is electricity.
To calculate the material costs, the direct material costs and the material overheads are added. How high the percentage for the corresponding surcharge should be can be seen, among other things, from the operating accounting sheet.
In short, manufacturing costs as part of material overhead
With the help of the production costs, assets or economic goods can be valued. Said production costs consist of …:
- the material costs
- the manufacturing costs
- any extra costs
together. In contrast to material overheads, production overheads and the depreciation of the systems associated with production, costs that arise, for example, in the course of general administration, voluntary social benefits and similar areas, cannot be considered as classic production costs. Distribution costs are also excluded from the production costs.
As the sum of the above-mentioned cost groups (material costs, production costs, special costs), the production costs can be used to read how expensive it is for a company to produce product X. An economically justifiable sales price can then be determined based on this.
All important details on this are regulated by the Commercial Code.
Classic examples of material overheads
Regardless of whether you are a small or large company: the list of material overheads is long. Nevertheless, an exact categorization is extremely important, even against the background of a current cost calculation. In the end, it is thus possible to determine and track the exact use of material costs.
Classic examples of material costs include:
- Salaries and wages (partly, counterexample see below)
- Rent for storage rooms or additional offices
- Costs associated with purchasing materials
- Transport and logistics costs (based on raw materials, consumables and supplies)
- Depreciation with regard to storage facilities
- Any repairs in the warehouse
- Cost of insurance for the warehouse
- Storage losses (including shrinkage)
- Material test costs (for example in the form of acceptance test costs)
- Heating costs
- Electricity costs
- Depreciation of objects and buildings
On closer inspection, it becomes apparent that all these types of costs are linked to one another by an important factor: they are necessary for the manufacture of a company’s products, but cannot be precisely assigned to these or a corresponding cost unit. A counterexample: a manufacturer of bicycles knows exactly how high the costs are for the rubber in the tires. However, the rent for storage rooms is due regardless of the number of products manufactured and must be distributed “fairly” among the various end products.
Personnel costs as a special feature – material overhead or material direct costs?
With regard to personnel costs, it is true that these can be viewed both as direct material costs and as material overheads.
If, for example, an employee in production is tasked with fixing a certain screw on the respective end product, his wages or salaries can be assigned to the direct material costs. After all, it is clear here which step he is being paid for.
It is different for an employee who works in accounting or sales. Its area of responsibility is not limited to an activity that can only be associated with a specific product. The salary of this employee falls into the category of material overheads.
How can you calculate the material overhead surcharge?
The mathematical approach required to find out the material overhead is not fundamentally different from the formula used to calculate the total cost of materials.
In order to calculate the amount of the material overhead surcharge, it is necessary to relate the material overheads to a reference value. As a rule, the direct material costs are used here as a reference value. However, depending on the individual requirements, another reference value may also be appropriate.
Sometimes the corresponding surcharges have to be split even further in order to get a better overview.
Important information for start-ups
Especially when a company has not been active in the market for a long time, it can be difficult to correctly assess the scope of material overheads. A classic “beginner’s mistake” is to only consider the manufacturing costs and not the cost of the goods when calculating the material costs or material overheads.
The latter are made up, among other things, of the above-mentioned administrative costs and the corresponding wages for the employees. In order to be able to assess the scope of the respective sums a little better, it is important, among other things, to “think outside the box”. Because: of course, the salaries that are necessary for the ultimate marketing of the product in question must also be taken into account when it comes to precisely determining the material overheads.
The point behind this administrative effort? Among other things, the possibility of being able to set the prices for the individual products better and more economically.
Shortly after founding a company , the risk is particularly high that the prices for one’s own products and services will be set too low, making it unnecessarily difficult to get started. With the help of a meticulous calculation, the respective lower price limit can be determined. The basic rule here is that the sale must of course cover the cost. What sounds logical is unfortunately quickly neglected without an exact calculation of material overheads or material costs. There is little more annoying than having to realize after months of economic activity that prices have been incorrectly calculated and thus incorrectly budgeted.
If you want to quickly identify material overheads as such, you should ask yourself the following questions with regard to the relevant items:
- Are the costs related to the respective product for which the calculation is to be made?
- Can the costs be precisely assigned to the respective product – for example with the help of a cost center or a cost unit? (If not, these are overhead costs. In the second step, these must be further divided among the various products. How the distribution ultimately turns out depends on the level of the material overhead surcharge rates.)