RB DC SG DR MU

yberspace Consulting

A Cost Allocation Case

•  Background •  Single Rate •  Outsourcing •  Reciprocal •  Sequential •  Dual Rate •  Management Direction &

Incentives •  Questions •  Conclusion

Overview

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Background

Xyberspace

Consulting Customer Care TESG

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Background

500 63%

250 31%

50 6%

EMPLOYMENT Consultants Customer Care Tech Corporate Functions

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Problem Actual costs were allocated at the end of the year and they were higher than the consulting group’s budget. The significant differences between the budgeted and actual cost rates surprised David Anderson •  He received a large portion of the bill •  Responsible for a profit center •  Variation due to nothing on his part

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Single Rate Budgeted   Actual   +/-­‐  

Total  Salaries   $250,000   $265,000   $15,000  

Benefits   $50,000   $53,000   $3,000  

So8ware  Licenses   $20,000   $27,500   $7,500  

Deprecia?on   $28,000   $28,000  

Maintenance  Contract   $2,000   $2,000  

Course  Development   $12,500   $12,500  

Professional  Development   $10,000   $22,500   $12,500  

Travel   $8,800   $12,000   $3,200  

Phone/Fax   $2,600   $3,800   $1,200  

Office  Supplies   $800   $800  

Training  Supplies   $67,500   $64,775   $  (2,725)  

Trainee  Lunches   $45,000   $56,250   $11,250  

Other   $500        $500  

Total   $497,700   $548,625   $50,925  

Advantages •  Remove majority of variable and fixed costs associated with

the Training Department. •  Rate of $500 per session

Disadvantages •  Some fixed costs remain •  Loss of customized training; potential loss of consultant

competitiveness

Outsourcing

Outsourcing

New total falls between the case’s actual and budgeted training costs.

Category Cost

Salaries $75,000

Other $500

Training $450,000

Total $525,500

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Reciprocal Most accurate method •  Recognizes reciprocal

services between service departments

Not common practice •  Algebraic method

True cost •  The cost to serve all

producing departments •  PLUS the cost to

server the other support departments

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Reciprocal Cost AllocationStep1

Calculate cost running support department

• Accounting $150,000 (10% of IT services)• IT: $200,000 (10% of accounting services)

Step 2Allocate the 

prorated cost of reciprocal services

• Accounting= $150,000 + .10 (IT)• IT = $200,000 + .10 ($150,000 + .10 (IT)) • IT= $238,888.88• Accounting = $173,888,88

Step 3Prorate based on new cost structure

• Reciprocal• Care = 45%($173,888.88) + 45%($238,888.88) $185,750.00• Consulting = 45%($173,888.88) + 45%($238,888.88) $185,750.00

• Direct (SR)• Care = 50%($150,000) + 50%($200,000) $175,000.00 • Consulting = 50%($150,000) + 50%($200,000) $175,000.00 

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Step Down Cost Allocation What is it and how does it work? •  Allocates support costs to

other departments that consume and provide mutual shared support services provided among support non-support departments.

•  One-Way Interaction between Support Departments prior to allocation.

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Step Down Calculations Does it apply?

•  The Training department provides shared services to the Consulting and the Customer Care Groups but does not receive services from either.

•  The Training department does receive support services from HR and other departments; there is no support information presented in the case.

•  Based on the information presented in the case, the Step-Down method does not apply to Xyberspace.

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Step Down Calculations Reasoning

•  Based on the data and the service utilization relationships presented the Step Down calculations simply confirmed the current problematic cost allocations.

•  The Step Down allocation method is most appropriate when you have multiple departments both providing and receiving support services.

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Dual Rate Advantages •  Proportionality (reduces the attendance disincentive) •  Relatively inexpensive and easy to implement •  *Relatively easy to explain to managers

Disadvantages •  *Proportionally allocates the cost of idle capacity

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Dual Rate Method

Budgeted Actual +/-­‐ +/-­‐

Single Consul?ng        331,800        

399,000   67,200   20%      (#  sessions)  *  (TC  /  T#  sessions)

  Customer  Care        165,900        

149,625   -­‐16,275   -­‐10%      (#  sessions)  *  (TC  /  T#  sessions)

Dual Consul?ng        331,800        

365,750   33,950   10%      (FC  *  2/3)  +  (VC  *  2/3)

  Customer  Care        165,900        

182,875   16,975   10%      (FC  *  1/3)  +  (VC  *  1/3)

Advantage: Proportionality reduces the attendance disincentive

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Costs

Budgeted  Sessions Actual  Sessions +/-­‐ Consul?ng 600 600 0

Customer  Care 300 225 75

900 825 75  

Disadvantage : Proportionality allocates the cost of idle capacity

Practical Capacity Productive Capacity Idle Capacity =- ↑ ↑ ↑

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Management Direction & Incentives •  Senior Management should reiterate the training

directive of the CEO. •  Corporate goal to have “absolutely the best-educated

consultants” •  Each employee is required to receive one full week of training

twice a year.

•  Each manager should have the goal of achieving 100%, training participation. This goal should be incorporated in the annual review and bonus system.

Questions #1. Did the Training and Educational Services Group’s use of a

single rate cause its services to look too expensive to the Consulting and Customer Care Groups?

Yes. Budgeted: $497,700/900 sessions = $553

Actual: $548,625/825 sessions = $665

Single rate does not take into account the fixed costs and variable costs separately.

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Question #2 Would a dual rate, which separates fixed from variable costs, better capture the true costs of the training?

Yes •  Provides equitable allocation of cost •  Fixed cost is paid independently of participation •  Reflects the cost of running the service department •  Variable cost is paid based on participationReflects cost incurred

by each training session

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Question #2 Cont.

    Budget Actual     Budget Actual       Total  Cost    $      363,800.00      $      389,300.00         Total  Cost    $  133,900.00      $  159,325.00        

    Care  Alloca?on    $      121,266.67      $      129,766.67         Care  Alloca?on    $      44,633.33      $      53,108.33        

    Consul?ng  Alloca?on    $      242,533.33      $      259,533.33         Consul?ng  Alloca?on    $      89,266.67      $  106,216.67        

    Sum  Alloca?ons    $      363,800.00      $      389,300.00         Sum  Alloca?ons    $  133,900.00      $  159,325.00        

                                   

                   

Budget   Actual  

    Total  Cost   Care   Consul?ng       Total  Cost   Care   Consul?ng      

    Fixed      $      121,266.67      $      242,533.33         Fixed      $  129,766.67      $  259,533.33        

    Variable    $          44,633.33      $          89,266.67         Variable    $      53,108.33      $  106,216.67        

     Sum  of  alloca?ons    $      165,900.00      $      331,800.00            Sum  of  alloca?ons    $  182,875.00      $  365,750.00        

                                   

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Question #2 Cont.

$331,800

$165,000

$399,000

$149,650

$365,750

$182,875

$0

$50,000

$100,000

$150,000

$200,000

$250,000

$300,000

$350,000

$400,000

$450,000

Consulting Care

ALLOCATION COMPARISON Budget Actual Dual rate

 Original  Actual Difference  between    single  and  dual  rate   Proposed  Actual  

Care   Consul?ng   Care   Consul?ng   Care   Consul?ng  

 $  149,625.00      $    399,000.00      $  33,250.00      $  (33,250.00)    $  182,875.00      $      365,750.00    

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Question #3 Should budgeted or actual rates be used to allocate training costs to the user groups ? •  Budgeted rates should be used. Each manager is

responsible for managing their budget and actual expenditures.

•  Other managers or departments should not be affected by the poor budgeting or budget mismanagement of another.

•  Budgeting is about more than the dollars. Budget is a means to managing a company’s strategy and performance.

Question #3

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Should the user groups be allocated training costs based on their budgeted or actual usage of services? •  During the budgeting process the goal is to be as accurate as possible.

In situations of shared services, the allocation of actual costs should be applied monthly or quarterly for better variance management.

•  When shared services are involved fixed costs should be allocated across all of the departments that use the shared service. Allocation rates should be based on the proportional use of each group.

•  Variable Costs should be allocated based on actual usage of training services by respective groups

Question #4

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How should the cost of the TESG be allocated? •  Should allocate budgeted costs based on the dual

rate method because it takes fixed and variable costs into consideration.

Question #5

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Recommendations Dual Rate

More precise than single rate (closer to the bull’s-eye) FC budgeted proportionally, as in single rate Actual FC allocated proportionally even if one group doesn’t meet their targets VC allocated equitably based on actual usage Relatively easy and inexpensive to advocate and implement

Management Incentives Director’s evaluations and bonuses should incentivize attendance

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THANK YOU