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15-18 (20 min.

Dual-rate cost-allocation method, budgeted versus actual costs, and practical capacity vs. actual quantities
= = = $1,500 per trip $200,000 budgeted costs 250 trips at practical capacity $800 per trip at practical capacity $225,000 120,000 $345,000 $112,500 80,000 $192,500

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Charges with dual rate method. Variable indirect cost rate Fixed indirect cost rate Orange Juice Division Variable indirect costs, $1,500 150 Fixed indirect costs, $800 150 Grapefruit Juice Division Variable indirect costs, $1,500 75 Fixed indirect costs, $800 100

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The dual rate changes how the fixed indirect cost component is treated. By using budgeted trips made, the Orange Juice Division is unaffected by changes from its own budgeted usage or that of other divisions.

15-19 (30 min.) Support department cost allocation, direct and step-down methods.
1. a. Direct Method Costs Alloc. of A/H (40/75, 35/75) Alloc. of I.S. (30/90, 60/90) Step-Down (A/H first) Costs Alloc. of A/H (0.25, 0.40, 0.35) Alloc. of I.S. (30/90, 60/90) Step-Down (I.S. first) Costs Alloc. of I.S. (0.10, 0.30, 0.60) Alloc. of A/H (40/75, 35/75) A/H IS $600,000 $2,400,000 (600,000) $ b. (2,400,000) 0 $ 0 Govt. $ 320,000 800,000 $1,120,000 Corp. $ 280,000 1,600,000 $1,880,000

$600,000 $2,400,000 (600,000) $ 0 150,000 (2,550,000) $ 0 $ 240,000 850,000 $1,090,000 $ 210,000 1,700,000 $1,910,000

c.

$600,000 $2,400,000 240,000 (2,400,000) (840,000) $ 0 $ 0 $ 720,000 $1,440,000

448,000 392,000 $1,168,000$1,832,000

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15-19 (Contd.) 2. Direct method Step-Down (A/HR first) Step-Down (I.S. first) Govt. $1,120,000 1,090,000 1,168,000 Corp. $1,880,000 1,910,000 1,832,000

The direct method ignores any services to other support departments. The step-down method partially recognizes services to other support departments. The information systems support group (with total budget of $2,400,000) provides 10% of its services to the A/H group. The A/H support group (with total budget of $600,000) provides 25% of its services to the information systems support group. 3. Three criteria that could determine the sequence in the step-down method are: a. Allocate support departments on a ranking of the percentage of their total services provided to other support departments. 1. Administrative/HR 25% 2. Information Systems 10% Allocate support departments on a ranking of the total dollar amount in the support departments. 1. Information Systems $2,400,000 2. Administrative/HR $ 600,000 Allocate support departments on a ranking of the dollar amounts of service provided to other support departments 1. 2. Information Systems (0.10 $2,400,000) Administrative/HR (0.25 $600,000) = = $240,000 $150,000

b.

c.

The a. approach typically better approximates the theoretically preferred reciprocal method. It results in a higher percentage of support-department costs provided to other support departments being incorporated into the step-down process than does b. or c.

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15-20 (50 min.) Support department cost allocation, reciprocal method


(continuation of 15-19). 1a. Support Departments A/H IS $600,000 $2,400,000 (861,538) 261,538 215,385 (2,615,385) Operating Departments Govt. Corp.

Costs Alloc. of A/H (0.25,0.40, 0.35) Alloc.ofI.S. (0.10, 0.30, 0.60)

$ 344,615 784,616 $1,129,231

$ 301,538 1,569,231 $1,870,769

Reciprocal Method Computation A = $600,000 + 0.10 IS IS = $2,400,000 + 0.25A IS = $2,400,000 + 0.25 ($600,000 + 0.10 IS) = $2,400,000 + $150,000 + 0.025 IS 0.975IS = $2,550,000 IS = $2,550,000 0.975 = $2,615,385 A = $600,000 + 0.10 ($2,615,385) = $600,000 + $261,538 = $861,538 2. a. b. c. d. Direct Step-Down (Ad/HR first) Step-Down (IS first) Reciprocal (linear equations) Govt. Consulting $1,120,000 1,090,000 1,168,000 1,129,231 Corp. Consulting $1,880,000 1,910,000 1,832,080 1,870,769

The four methods differ in the level of support department cost allocation across support departments. The level of reciprocal service by support departments is material. Administrative/HR supplies 25% of its services to Information Systems. Information Systems supplies 10% of its services to Administrative/HR. The Information Department has a budget of $2,400,000 that is 400% higher than Administrative/HR. The reciprocal method recognizes all the interactions and is thus the most accurate.

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15-21 (40 min.) Direct and step-down allocation.


1. Support Depts Admin. Info. Systems Costs Incurred Alloc. of Admin. (42/70, 28/70) Alloc. of Info. Syst. (1,920/3,520, 1,600/3,520) $72,700 (72,700) $ 0 (234,400) $ 0 $234,400 Operating Depts Corporate Consumer $ 998,270 43,620 127,855 $1,169,745 $489,860 29,080 106,545 $625,485 $1,795,230 Total $1,795,230

2. Rank on percentage of services rendered to other support departments. Step 1: Administrative provides 23.077% of its services to information systems: 21 21 = = 23.077% 42 + 28 + 21 91 This 23.077% of $72,700 administrative department costs is $16,777. Step 2: Information systems provides 8.333% of its services to administrative: 320 = 1,920 + 1,600 + 320 320 3,840 = 8.333%

This 8.333% of $234,400 information systems department costs is $19,533. Support Depts Admin. Info. Systems Costs Incurred Alloc. of Admin. (21/91, 42/91, 28/91) Alloc. of Info. Syst. (1,920/3,520, 1600/3,520) $72,700 (72,700) $ 0 $234,400 16,777 251,177 (251,177) $ 0 Operating Depts Corporate Consumer $ 998,270 33,554 137,006 $1,168,830 $489,860 22,369 114,171 $626,400 Total $1,795,230

$1,795,230

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15-21 (Contd.) 3. An alternative ranking is based on the dollar amount of services rendered to other support departments. Using numbers from requirement 2, this approach would use the following sequence: Step 1: Allocate information systems first ($19,533 provided to administrative).

Step 2: Allocate administrative second ($16,777 provided to information systems).

15-22 (30 min.) Reciprocal cost allocation (continuation of 15-21).


1. The reciprocal allocation method explicitly includes the mutual services provided among all support departments. Interdepartmental relationships are fully incorporated into the support department cost allocations. 2. AD = $72,700 + .08333IS IS = $234,400 + .23077AD

AD = $72,700 + [.08333($234,400 + .23077AD)] = $72,700 + [$19,532.55 + 0.01923AD] 0.98077AD = $92,232.55 AD = $92,232.55 0.98077 = $94,041 IS = $234,400 + (0.23077 $94,041) = $256,102 Support Depts Administ. Info. Systems Costs Incurred Alloc. of Admin. (21/91, 42/91, 28/91) Alloc. of Info. Syst. (320/3,840, 1,920/3,840, 1,600/3,840) $72,700 (94,041) $234,400 21,702 Operating Depts Corporate Consumer $ 998,270 43,404 $489,860 28,935 Total $1,795,230

21,341 $ 0

(256,102) $ 0

128,051 $1,169,725

106,710 $625,505

$1,795,230

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15-22 (Contd.) 3. The reciprocal method is more accurate than the direct and step-down methods when there are reciprocal relationships among support departments. A summary of the alternatives is: Corporate Sales $1,169,745 1,168,830 1,169,725 Consumer Sales $625,485 626,400 625,505

Direct method Step-down method (Admin. first) Reciprocal method

The reciprocal method is the preferred method, although for September 2004 the numbers do not appear materially different across the alternatives.

15-24 (20 min.) Allocation of common costs.


1. Allocation of the $1,800 airfare: Alternative approaches include: a. The stand-alone cost allocation method. This method would allocate the airfare on the basis of each users percentage of the total of the individual stand-alone costs: Baltimore employer Chicago employer $1,800 = $1,800 = $1,008 792 $1,800

Advocates of this method often emphasize an equity or fairness rationale. b. The incremental cost allocation method. This requires the choice of a primary party and an incremental party. If the Baltimore employer is the primary party, the allocation would be: Baltimore employer Chicago employer $1,400 400 $1,800

Rationale: Ernst was planning to make the Baltimore trip, and the Chicago stop was added subsequently.

15-24 (Cont'd.)

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If the Chicago employer is the primary party, the allocation would be: Chicago employer Baltimore employer $1,100 700 $1,800

One rationale is that the Chicago employer is the successful recruiter and presumably receives more benefits from the recruiting expenditures. 2. Ernst should use the stand-alone allocation method because it treats both employers the same rather than one employer as the primary party and the other employer as the incremental party. 3. A simple approach is to split the $60 equally between the two employers. The limousine costs at the Sacramento end are not a function of distance traveled on the plane. An alternative approach is to add the $60 to the $1,800 and repeat requirement 1: a. Stand-alone cost allocation method: Baltimore employer Chicago employer b. $1,860 = $1,036 $1,860 = $ 824

Incremental cost allocation method. With Baltimore employer as the primary party: Baltimore employer Chicago employer $1,460 400 $1,860

With Chicago employer as the primary party: Chicago employer Baltimore employer $1,160 700 $1,860

15.33 (25 min.)


1. Miller =

Common costs.
900 $1.00 ($1,200) (900 $1.00) + (600 $1.00)

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$900 $1,200 = $720 $900 + $600 600 $1.00 ($1,200) (600 $1.00) + (900 $1.00) $600 $1,200 = $480 $600 + $900 Costs Allocated $900 $300 Costs Remaining to be Allocated $300 ($1,200 $900) $ 0 Cost Remaining To be Allocated $600 ($1,200 $600) $ 0

Jackson =

= 2.

Party Miller (primary) Jackson (incremental)

If Jackson is the primary party, the allocation would be Party Jackson (primary) Miller (incremental) Costs Allocated $600 $600

3. Miller and Jackson should use the stand-alone cost allocation method to allocate the rent: Miller, $720; Jackson, $480. If they used the incremental cost-allocation method, Miller and Jackson would probably have disputes over who is the primary party because the primary party gets allocated all costs first.

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