Machine hour rate method is one of the methods of absorption of factory overheads into production. In industries like chemicals, engineering, steel and other heavy industries where the work is done mostly by machines, it is desirable to adopt the machine hour rate method for the absorption of factory overheads, because, in such industries, factory overheads largely consist of expenses relating to the maintenance and operation of machines.
Under the machine hour rate method, first, a separate machine hour rate is established for each machine or a group of similar machines. Then, at the established machine hour rate or rates, factory overheads are charged to production, depending upon the number of hours for which a machine or machines are used for the particular product or job. For example – if on Job No. 51, machine ‘A’ works for 10 hours and the machine hour rate for the machine ‘A’ is Rs. 2.25, then, Job No. 51 will be charged with Rs. 22.50 (i.e. 10 × 2.25) by way of factory overheads.
It refers to the overheads incurred for running a machine for one hour. This is the most scientific method of overhead absorption when compared to all other methods. The institute of Cost and Management Accountants, London, has defined as machine hour rate as, “an actual or pre-determined rate of cost apportionment or overhead absorption, which is calculated by dividing the cost to be apportioned or absorbed by the number of hours for which a machine or machines are operated or expected to be operated.”
In other words, machine hour rate refers to the amount of factory overheads incurred for running a machine for an hour. In short, machine hour rate means the factory expenses incurred in running a machine for an hour. The machine hour rate is calculated by dividing the total amount of factory overheads incurred in running a machine during a particular period by the total number of working hours of that machine during that period.
It can be expressed in the form of a formula as follows:
This method is most suited where machines are used predominantly for production purpose.
2. Types of Machine Hour Rates:
There are two types of machine hour rate, viz.:
- Simple or Ordinary Machine Hour Rate.
- Composite or Comprehensive Machine Hour Rate.