2009 Foster School of Business Cost Accounting L.DuCharme 1

Allocation of: Support Department Costs,

Common Costs, and Revenues

Chapter 15

2009 Foster School of Business Cost Accounting L.DuCharme 2

Overview

• Allocation of support department costs– Example of 3 ways

• Allocation of Common Costs– Example of 2 ways

• Allocation of Revenues from Bundled products/services

2009 Foster School of Business Cost Accounting L.DuCharme 3

Operating vs. Support Departments

An operating department (a productiondepartment in manufacturing companies)

adds value to a product or service.

A support department (service department)provides the services that assist other operating

and support departments in the organization.

2009 Foster School of Business Cost Accounting L.DuCharme 4

Single-Rate andDual-Rate Methods

The single-rate cost allocation methodpools together all costs in a cost pool.

The dual-rate cost allocation methodclassifies costs in each cost pool intotwo cost pools: a variable-cost cost

pool and a fixed-cost cost pool.

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Budgeted versus Actual Rates

Budgeted rates let the user department know inadvance the cost rates they will be charged.

During the budget period, the supplier department,not the user departments, bears the risk of any

unfavorable cost variances.

Why?

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Budgeted versus ActualUsage Allocation Bases

Organizations commit to infrastructure costs onthe basis of a long-run planning horizon.

The use of budgeted usage to allocate these fixedcosts is consistent with the long-run horizon.

Typically, you use actual usage to allocate variable costs.

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Allocating SupportDepartments Costs—3 methods

Direct method:Allocates support department costs to operating

departments only.

Step-down (sequential allocation) method:Allocates support department costs to other support

departments and to operating departments.

Reciprocal allocation method:Allocates costs by services provided among all

support departments.

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Allocating SupportDepartments Costs—in-class example

Larry’s Tractors, Inc. has twosupport departments and two operating departments.

Implementsand

Engines

Maintenanceand

Legal

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Allocating SupportDepartments Costs (do in class)

Budgeted Capacity .To be supplied by: Maintenance Legal Implements EnginesMaintenance 10% 40% 50%Legal 5% 60% 35% 

Actual Usage .Supplied by:Maintenance Legal Implements EnginesMaintenance 10% 30% 60%Legal 10% 70% 20% Actual costs were:

Fixed Variable Maintenance $100,000 $ 72,000 Legal $ 75,000 $ 20,000 Fixed costs are allocated on the basis of budgeted capacity.Variable costs are allocated on the basis of actual usage.The direct method is used to allocate service department costs to operating departments.Also do this problem assuming the step-down/dual and then the reciprocal/dual methods. * In other problems, always remember to ignore self service.

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Allocating Common Costs

Two methods for allocating common costs are:

1. Stand-alone costallocation method

2. Incremental costallocation method

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Stand-Alone Example

A consultant in Tampa is planning to go toChicago and meet with an international client.

The round-trip Tampa/Chicago/Tampaairfare costs $540.

The consultant is also planning to attenda business meeting with a North Carolina

client in Durham.

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Stand-Alone Example

The round-trip Tampa/Durham/Tampaairfare costs $360.

The consultant decides to combine the twotrips into a Tampa/Durham/Chicago/Tampa

itinerary that will cost $760.

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Stand-Alone Example

How much should the consultant chargeto the North Carolina client?

$360 ÷ ($360 + $540) = .40

.40 × $760 = $304

How much to the international client?

$760 – $304 = $456

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Incremental Cost Example

Assume that the business meeting in Chicagois viewed as the primary party.

What would be the cost allocation?

International client (primary) $540Durham client (incremental) $760 – $540 = $220

2009 Foster School of Business Cost Accounting L.DuCharme 15

Revenues and Bundled Products

A bundled product is a package of two or moreproducts (or services) sold for a single price.

Bundled product sales are also referred toas “suite sales.”

The individual components of the bundle alsomay be sold as separate items at their own

“stand-alone” prices.

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Revenues and Bundled Products

What businesses provide bundled products?

Banks Hotels Tours Checking Safety deposit boxes Investment advisory

Lodging Food and beverage services Recreation

Transportation Lodging Guides

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Allocation of Revenues

Allocation of the revenues of a bundled package to the

individual products in that package is similar to allocation

of common costs.

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End of Chapter 15