Departmental overhead rates are used by many manufacturers instead of using a single, plant-wide overhead rate. The reason for departmental overhead rates is that a manufacturer is likely to produce many diverse products which use different processes (each of which has different costs).

To illustrate, let's assume that a manufacturer has three operations with each occurring in a separate department:

• Dept #1 uses a large, sophisticated machine having a cost of \$900,000

• Dept #2 uses a small \$40,000 machine to refine the products coming out of Dept #1

• Dept #3 is an additional, optional process that uses a \$10,000 machine

When the manufacturer divided its total manufacturing overhead for the upcoming year by the total machine hours for the upcoming year, the result was a plant-wide overhead rate of \$30. If Product A requires 7 hours in Dept #1 and 1 hour in Dept #2, it will be assigned overhead of \$240 [(7+1)X\$30]. If Product B requires 2 hours in Dept #1, 2 hours in Dept #2, and 4 hours in Dept #3, it will also be assigned overhead of \$240 [(2+2+4)X\$30].

When departmental overhead rates were computed, the manufacturing overhead rate for Dept #1 was \$50 per machine hour (resulting from high amounts of depreciation, electricity, maintenance, etc.). The overhead rate per machine hour for Dept #2 was \$20, and \$15 for Dept #3. Using the more accurate departmental overhead rates Product A will be assigned overhead of \$370 [(7X\$50)+(1X\$20)]. Product B will be assigned overhead of \$200 [(2X\$50)+(2X\$20)+(4X\$15)].

Having multiple, departmental overhead rates will better reflect the costs of manufacturing Product A and Product B compared to using a single, plant-wide overhead rate.