Normal capacity
Normal capacity is the output a factory typically achieves in a normal year, averaged across the ups and downs of the business cycle; IAS 2 requires it as the denominator for absorbing fixed production overhead into inventory.
FrameworkIAS 2
See it move
A factory budgets fixed overhead of €360,000 against normal capacity of 60,000 units, setting a rate of €360,000 ÷ 60,000 = €6.00 per unit. If actual output falls to only 50,000 units, just 50,000 × €6.00 = €300,000 is absorbed, €60,000 short of budget — under-absorbed overhead from operating below normal capacity.
The formula
Variables
- Fixed overhead absorption rate (€ per unit or hour)
- Budgeted fixed production overhead (€)
- Normal capacity (units or hours)
Sets the rate used to absorb fixed production overhead into each unit or hour of output, using normal capacity as the denominator rather than actual output.
Check yourself
A factory's budgeted fixed production overhead for the year is €480,000, based on normal capacity of 80,000 machine hours (the average level of activity expected over the business cycle, after allowing for planned maintenance). Actual output this year required 92,000 machine hours. How much fixed overhead is absorbed into production?