Overhead: Overhead is the cost of running a shop that cannot be traced to a single job, such as rent, software, insurance, admin staff and quality control.
Overhead is everything you pay for whether or not a particular job runs: rent and rates, heating, accounting, software subscriptions, insurance, the time spent quoting and answering e-mails, and the person who packs and ships. None of it shows up on a single part, but every part has to help pay for it.
To do that, shops allocate overhead. The usual methods are a percentage added to direct costs, a burden rate per labour hour, or a share built into the machine hour rate.
Example: a shop with €60,000 a year of overhead and 4,000 billable machine hours needs to recover €15 of overhead for every machine hour it sells. If it books only 2,000 hours, the true figure is €30 an hour.
The common confusion is between overhead and margin. Overhead is a cost; margin is what is left after all costs, including overhead. A shop that prices at direct cost plus “a bit for margin” is often using that margin to pay overhead and making no profit at all.
For methods and their trade-offs, read overhead allocation for job shops.
Go deeper: Overhead allocation for job shops, without fooling yourself