Manerial accounting 11e garrison noreen brewer chap015

For example, a portion of the human resource department costs might be allocated based on the number of employees in each operating department and another portion might be allocated base

11 th Edition Chapter 15

Service Department Costing: An Activity

Approach

Chapter Fifteen

Reasons for Allocating Service

To provide operating departments with more complete cost data for making decisions.

To help measure the

to operate efficiently.

To create incentive for service departments

to operate efficiently.

To value inventory for

external financial reporting purposes.

To value inventory for

external financial

reporting purposes.

To include all overhead

in the cost base when cost-plus pricing is used.

To include all overhead

in the cost base when cost-plus pricing is used.

Selecting Allocation Bases

Operating Departments

Service

Departments

The allocation bases used should

“drive” the cost being allocated.

For example, when allocating costs

of the employee cafeteria, the number

of meals served would be a good choice for the allocation base.

The allocation bases used should

“drive” the cost being allocated.

For example, when allocating costs

of the employee cafeteria, the number

of meals served would be a good choice for the allocation base.

Selecting Allocation Bases

Operating Departments

Service

A service department’s costs may be allocated using more than one base.

For example, a portion of the human resource department

costs might be allocated based on the number of employees

in each operating department and another portion might be

allocated based on hours spent in training employees in

each operating department.

A service department’s costs may be allocated using more than one base.

For example, a portion of the human resource department

costs might be allocated based on the number of employees

in each operating department and another portion might be

allocated based on hours spent in training employees in

each operating department.

Examples of Allocation Bases

Service Department Allocation Bases

Laundry Pounds of laundry

Airport Ground Services Number of flights

Cafeteria Number of meals

Medical Facilities Cases handled; number of employees;

hours worked Materials Handling Hours of service; volume handled

Information Technology Number of personal computers;

applications installed Custodial Services Square footage occupied

Cost Accounting Labor hours; customers served

Power KWH used; capacity of machines

Human Resources Number of employees; training hours

Receiving, Shipping, and Stores Units handled; number of requisitions;

space occupied Factory Administration Total labor hours

Maintenance Machine hours

Exh 15-1

Interdepartmental Services

Problem

Allocating costs when service departments

provide services to each other

Problem

Allocating costs when service departments

provide services to each other

Solutions

Direct Method Step Method Reciprocal Method

Direct Method

Service Department (Cafeteria)

Service Department (Custodial)

Operating Department (Machining)

Operating Department (Assembly)

Direct Method Example

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000

Number of employees 15 10 20 30

Square feet occupied 5,000 2,000 25,000 50,000

Service Department Allocation Base

Cafeteria Number of employees Custodial Square feet occupied

Direct Method Example

Service Departments Operating Departments Cafeteria Custodial Machining Assembly

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000

Cafeteria allocation (360,000) 144,000 ?

Direct Method Example

Allocation base: Number of employees

$360,000 × 20

20 + 30 = $144,000

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000

Cafeteria allocation (360,000) 144,000 216,000

Direct Method Example

Allocation base: Number of employees

20 + 30 = $216,000

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000

Cafeteria allocation (360,000) 144,000 216,000

Custodial allocation (90,000) 30,000 ?

Total after allocation $ 0 $ 0 $ 574,000 ?

Direct Method Example

Allocation base: Square feet occupied

$90,000 × 25,000

25,000 + 50,000 = $30,000

Service Departments Operating Departments Cafeteria Custodial Machining Assembly

Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000

Cafeteria allocation (360,000) 144,000 216,000

Custodial allocation (90,000) 30,000 60,000

Total after allocation $ 0 $ 0 $ 574,000 $ 976,000

Direct Method Example

Allocation base: Square feet occupied

50,000

25,000 + 50,000

$90,000 × = $60,000

Operating Department (Machining)

Operating Department (Assembly)

Service Department (Custodial)

Step Method

There are three key points to understand

regarding the step method:

 In both the direct and step methods, any amount of

the allocation base attributable to the service

department whose cost is being allocated is always

ignored.

 Any amount of the allocation base that is

attributable to a service department whose cost has already been allocated is ignored.

 Each service department assigns its own costs to

operating departments plus the costs that have

Step Method Example

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000

Number of employees 15 10 20 30

Square feet occupied 5,000 2,000 25,000 50,000

Service Department Allocation Base

Cafeteria Number of employees Custodial Square feet occupied

We will use the same data used

in the direct method example.

Step Method Example

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000

Total after allocation ? ? ? ?

Allocate Cafeteria costs first since

it provides more service than Custodial.

Allocate Cafeteria costs first since

it provides more service than Custodial.

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000 Cafeteria allocation (360,000) 60,000 ? ?

Total after allocation $ 0 ? ? ?

Step Method Example

10 + 20 + 30 = $60,000 Allocation base: Number of employees

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000 Cafeteria allocation (360,000) 60,000 120,000 ?

Total after allocation $ 0 ? ? ?

Step Method Example

10 + 20 + 30 = $120,000 Allocation base: Number of employees

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000 Cafeteria allocation (360,000) 60,000 120,000 180,000

Total after allocation $ 0 ? ? ?

Step Method Example

10 + 20 + 30 = $180,000 Allocation base: Number of employees

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000 Cafeteria allocation (360,000) 60,000 120,000 180,000

Total after allocation $ 0 $ 0 ? ?

Step Method Example

New total = $90,000 original Custodial cost plus $60,000 allocated from the Cafeteria.

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000 Cafeteria allocation (360,000) 60,000 120,000 180,000

Custodial allocation (150,000) 50,000 ?

Total after allocation $ 0 $ 0 $ 570,000 ?

Step Method Example

$150,000 × 25,000

25,000 + 50,000 = $50,000

Allocation base: Square feet occupied

Step Method Example

Service Departments Operating Departments Cafeteria Custodial Machining Assembly Departmental costs

before allocation $ 360,000 $ 90,000 $ 400,000 $ 700,000 Cafeteria allocation (360,000) 60,000 120,000 180,000

Service Department (Custodial)

Operating Department (Machining)

Operating Department (Assembly) Because of its mathematical complexity,

Revenue Producing Service Departments

If a service department generates revenue, such as a cafeteria that charges for the service it provides, the revenue generated should

be offset against the costs incurred.

Only the remaining net amount

of costs should be allocated

to other departments.

Quick Check Data for Direct and Step Methods

Service Departments Operating Departments ADMIN BACS Accounting Others

Departmental costs

before allocation $ 180,000 $ 90,000 $ 190,000 $ 900,000 Number of employees 15 5 20 80 Number of PCs 12 20 18 102

Allocation bases:

 Business school administration costs (ADMIN):

Number of employees

 Business Administration computer services

(BACS): Number of personal computers

The direct method of allocation is used.

How much cost will be allocated from

Service Departments Operating Departments

Departmental costs

before allocation $ 180,000 $ 90,000 $ 190,000 $ 900,000 ADMIN allocation (180,000) 36,000 144,000

$180,000 × 20 = $36,000

Quick Check 

How much total cost will be allocated from

ADMIN and BACS combined to the

How much total cost will be allocated from

ADMIN and BACS combined to the

Quick Check 

How much total cost will be allocated from

ADMIN and BACS combined to the

How much total cost will be allocated from

ADMIN and BACS combined to the

Service Departments Operating Departments

ADMIN BACS Accounting Others

Departmental costs

before allocation $ 180,000 $ 90,000 $ 190,000 $ 900,000 ADMIN allocation (180,000) 36,000 144,000 BACS allocation - (90,000) 13,500 76,500 Total after allocation $ - $ - $ 239,500 $ 1,120,500

18 + 102 = $13,500

Quick Check Data

Service Departments Operating Departments ADMIN BACS Accounting Others

Departmental costs

before allocation $ 180,000 $ 90,000 $ 190,000 $ 900,000 Number of employees 15 5 20 80 Number of PCs 12 20 18 102

Allocation bases:

 Business school administration costs (ADMIN):

Number of employees

 Business administration computer services

(BACS): Number of personal computers

The step method of allocation is used.

Quick Check 

How much total cost will be allocated from

ADMIN and BACS combined to the

How much total cost will be allocated from

ADMIN and BACS combined to the

How much total cost will be allocated from

ADMIN and BACS combined to the

How much total cost will be allocated from

ADMIN and BACS combined to the

Service Departments Operating Departments

ADMIN BACS Accounting Others

Departmental costs

before allocation $ 180,000 $ 90,000 $ 190,000 $ 900,000 ADMIN allocation (180,000) 8,571 34,286 137,143 BACS allocation - (98,571) 14,786 83,786 Total after allocation $ - $ - $ 239,071 $ 1,120,929

Allocating Costs by Behavior

When possible, variable and fixed service department costs

should be allocated

separately.

Variable service department costs should be allocated to consuming departments

according to the activity

causing incurrence

of the cost.

Allocating Costs by Behavior

Allocate fixed service department costs to

consuming departments in predetermined

lump-sum amounts that are based on the

consuming departments’ peak or long-run

average needs Fixed cost allocations:

Allocate fixed service department costs to

consuming departments in predetermined

lump-sum amounts that are based on the

consuming departments’ peak or long-run

average needs Fixed cost allocations:

Are based on amounts of

capacity each consuming

Allocating Costs by Behavior

Budgeted variable and fixed service department costs should be allocated to

operating departments.

Allocating Costs by Behavior

If variable cost allocations are made at the

beginning of the year, the budgeted variable

rate should be multiplied by the budgeted activity level of each consuming department.

If variable cost allocations are made at the

beginning of the year, the budgeted variable

rate should be multiplied by the budgeted

activity level of each consuming department.

Allocations made

at the beginning of the year provide data for pricing and other

decisions.

Allocating Costs by Behavior

If variable cost allocations are made at the

end of the year, the budgeted variable rate should be multiplied by the actual activity level of each consuming department.

If variable cost allocations are made at the

end of the year, the budgeted variable rate should be multiplied by the actual activity level of each consuming department.

Allocations made at the end of the year provide

data for performance

evaluation.

SimCo has a maintenance department and two operating

departments: cutting and assembly Variable maintenance

costs are budgeted at $0.60 per machine hour Fixed

maintenance costs are budgeted at $200,000 per year.

Data relating to the current year are:

Percent of Peak-Period

SimCo: An Example

Cutting Assembly Department Department Variable cost allocation:

$0.60 × 75,000 hours $ 45,000 $0.60 × 50,000 hours $ 30,000 Fixed cost allocation:

Total allocated cost

Hours planned

SimCo: Beginning of the Year

Cutting Assembly Department Department Variable cost allocation:

$0.60 × 75,000 hours $ 45,000 $0.60 × 50,000 hours $ 30,000 Fixed cost allocation:

60% of $200,000 120,000 40% of $200,000 80,000

Total allocated cost $ 165,000 $ 110,000

Percent of peak-period capacity.

SimCo: Beginning of the Year

Hours planned

Cutting Assembly Department Department Variable cost allocation:

$0.60 × 80,000 hours $ 48,000 $0.60 × 40,000 hours $ 24,000 Fixed cost allocation:

Total allocated cost

Hours used

SimCo: End of the Year

Cutting Assembly Department Department Variable cost allocation:

$0.60 × 80,000 hours $ 48,000 $0.60 × 40,000 hours $ 24,000 Fixed cost allocation:

60% of $200,000 120,000 40% of $200,000 80,000

Total allocated cost $ 168,000 $ 104,000

Percent of peak-period capacity.

SimCo: End of the Year

Hours used