Departmentalization of factory overhead means dividing the plant into parts or sections called departments or cost centers to which expenses are charged. From the accounting point of view, the division of plant into separate segment according to some logical form provides more accurate results and better control.
More accurate costing of jobs and products is possible because each department will be charged with overhead rates which are reasonable for that department. A job or product going through different departments will be charged with the predetermined rates of those departments not a single plant wide overhead rate. The overhead cost, depending upon the type and number of departments through which a product passes, will be charged, and in this way it will be an easy job to calculate the cost of a product at any stage that may be the requirement of the organization.
As the cost records of the overhead are available department wise, it is easy to control and to find out the reason or reasons of any variance.
There are two main types or class of departments. One is the producing department which is engaged in actual manufacturing of the products by changing the shape, form or nature of the materials worked upon, or by just assembling the parts into a finished product. A few examples of producing departments are spinning departments, weaving departments, finishing departments cutting departments etc. The other one is the service department which produces nothing but helps in production indirectly by rendering services to other departments. A few examples of services departments are repairing department, purchasing departments, storage departments, cafeteria, inspection etc.
The number and type of departments in which a manufacturing concern will be divided largely depends on the nature of its business, size, and requirements. A small size of a manufacturing concern may be having only one department and big concern may have many departments. But the number of department should be such that should help for the smooth running of all operations rather than being a cause of the red tapeism.
There are no hard and fast rules for the establishment of departments. The most common approach is to divide the factory along lines of functional activities or group of activities constituting a department. For proper control of factory overhead and accuracy in costing production, the division of factory into separate, interrelated and independently governed units is required, The following factors should be given due importance in deciding the types of departments required for establishing accurate departmental overhead rates for the purpose of controlling costs: (a) Similarity in the nature of work and machinery; (b) Responsibilities for turnover and costs; (c) Location of operational activities and machinery; (d) Relation of manufacturing activities to flow of product; (e) Number of departments or cost centers required.