CH 15:

ALLOCATION OF
SUPPORT
DEPARTMENTS COST

Part 1

Made by:
Mahmoud Alqasem
 Allocation
Contents of Part 1: of
Support
▪ Introduction. Dept.
▪ Single rate and dual rate. Cost
 INTRODUCTION

 Companies distinguish operating departments (and

operating divisions) from support departments.
 An operating department, also called a production
department, directly adds value to a product or
service.
 A support department, also called a service
department, provides the services that assist other
internal departments:
1. operating departments.
2. and other support departments.
 Examples of support departments are: information
systems and plant maintenance.
SINGLE RATE & DUAL RATE METHODS

 Managers face two questions when allocating the costs of

a support department to operating departments or
divisions:
1. Should fixed costs of support departments be allocated to
operating divisions?
✓ Most companies believe that fixed costs of suppor t
depar tments should be allocated because the suppor t
depar tment needs to incur fixed costs to provide operating
divisions with the ser vices they require.
2. If fixed costs are allocated, should variable and fixed costs
be allocated in the same way ?
✓ To answer this question, there are two approaches to
allocating suppor t -depar tment costs:
A. the single-rate cost-allocation method and
B. the dual-rate cost-allocation method.
SINGLE RATE & DUAL RATE METHODS

 Single rate method:

This method makes no distinction between fixed and variable
costs. It allocates costs in each cost pool (support department)
to cost objects (operating divisions) using the same rate per
unit of a single allocation base.

 Dual rate method:

This method partitions the cost of each support department
into two pools:
1. a variable-cost pool and
2. a fixed-cost pool,
and allocates each pool using a dif ferent cost-allocation base.
Example: ABC Company has designed and build a
power plant to ser ve three factories. The table below shows SINGLE
the budgeted and the actual usage of the Kilowatts of this
year: RATE
Factory Budgeted Actual &
A 100,000 KW 80,000 KW DUAL
B 60,000 KW 120,000 KW
RATE
C 40,000 KW 40,000 KW
Total 200,000 KW 240,000 KW
METHODS
• The actual Fixed Cost of the power plant $1 ,000,000
• The actual Variable Cost of the power plant $2,000,000
Required: Allocate the costs using:
1. Single rate method: Illustration
A. based on budgeted usage.
B. based on actual usage.
2. Dual rate method:
A. based on budgeted usage.
B. based on actual usage.
Solution:
SINGLE
1. Single rate method:
A. Based on budgeted usage.
RATE
&
• Total costs = Variable costs + Fixed costs.
= 2,000,000 + 1 ,000,000 DUAL
= 3,000,000 RATE
• Single rate = Total costs / Total budgeted usage METHODS
= 3,000,000 / 200,000
= $15/KW

• Assign costs = single rate * budgeted usage

Factor y A = $15 * 100,000 = $1 ,500,000 Illustration
Factor y B = $15 * 60,000 = 900,000
Factor y C = $15 * 40,000 = 600,000

Total $3,000,000
Solution:
SINGLE
1. Single rate method:
B. Based on actual usage.
RATE
&
• Total costs = Variable costs + Fixed costs.
= 2,000,000 + 1 ,000,000 DUAL
= 3,000,000 RATE
• Single rate = Total costs / Total actual usage METHODS
= 3,000,000 / 240,000
= $12.50/KW

• Assign costs = single rate * budgeted usage

Factor y A = $1 2.5 * 80,000 = $1 ,000,000 Illustration
Factor y B = $1 2.5 * 1 20,000 = 1 ,500,000
Factor y C = $12.5 * 40,000 = 500,000

Total $3,000,000
Solution:
SINGLE
2. Dual rate method:
A. Based on budgeted usage.
RATE
• Dual rate (var.) = variable costs / Total budg. usage
&
= 2,000,000 / 200,000 = $10/KW DUAL
• Dual rate (Fix.) = fixed costs / Total budg. usage
= 1 ,000,000 / 200,000 = $5/KW RATE
METHODS
• Assign costs:
Factor y A = $10 * 100,000 = 1 ,000,000
$1,500,000
= $5 * 100,000 = 500,000

Factor y B = $10 * 60,000 = 600,000 Illustration

$900,000
= $5 * 60,000 = 300,000

Factor y C = $10 * 40,000 = 400,000

$600,000
= $5 * 40,000 = 200,000
Solution:
SINGLE
2. Dual rate method:
B. Based on actual usage.
RATE
• Dual rate (var.) = variable costs / Total actual usage
&
= 2,000,000 / 240,000 = $8.33/KW DUAL
• Dual rate (Fix.) = fixed costs / Total actual usage
= 1 ,000,000 / 240,000 = $4.17/KW RATE
METHODS
• Assign costs:
Factor y A = $8.33 * 80,000 = 666,400
$1,000,000
= $4.17 * 80,000 = 333,600

Factor y B = $8.33 * 1 20,000 = 999,600 Illustration

$1,500,000
= $4.17 * 1 20,000 = 500,400

Factor y C = $8.33 * 40,000 = 333,200

$500,000
= $4.17 * 40,000 = 166,800
Solution:
 Notice:
SINGLE
As we see we have the same results in (1- A) and RATE
(2- A), so what is the benefit of the cost
separation in Dual rate?
&
Answer: DUAL
An impor tant benefit of the Dual rate method is
that it signals to division manager s how Variable
RATE
Costs and Fixed Costs behave dif ferently. This
impor tant information could steer division
METHODS
manager s into making decisions that benefit the
corporation as well as each division.

For exam p le, if we bought power from other company

and the Variable rate was $ 8/KW, that will be Illustration
better for the company to minimize the cost, so
the cost rate will be :
= $5 (Fixed Cost rate) + $ 8 (Variable Cost rate)
= $13
CH 15:
ALLOCATION OF
SUPPORT
DEPARTMENTS COST

Part 2

Made by:
Mahmoud Alqasem
 Allocation
Contents of Part 2: of
Support
▪ Allocation costs of multiple Dept.
support departments. Cost

▪ Methods of allocation.
 ALLOCATION COSTS OF MULTIPLE
SUPPORT DEPARTMENTS
 We just examined general issues that arise when
allocating costs from one support department to
operating divisions (Ex: Power plants and the three
factories).

 In this section, we examine the special cost -allocation

problems that arise when two or more of the support
departments whose costs are being allocated provide
reciprocal support to each other as well as to
operating departments.
METHODS OF ALLOCATION

 In this section, we will describe the methods that

used to allocate the cost of multiple support
departments to operating departments or/and other
support departments.

 There are three methods of allocation costs:

1. Direct method.
2. Step down method.
3. Reciprocal allocation method.
Example: P h o e nix Pa r t n e r s prov i de s m a n agemen t
c o n s ult ing s e r vic es to g ove rnment a n d c o rpo ra te c l i en t s.
P h o e nix h a s t wo s uppo r t de pa r t m e n t s — administ ra t ive s e r v ic es
METHODS
( AS) a n d i n fo rmat ion s y s te ms ( IS) — a nd t wo o pe ra t i ng OF
de pa r t m e n t s — g ove rnment c o n s ult ing ( G OV T) a n d c o rpo ra te
c o n s ult ing ( CORP ). Fo r t h e fi r s t q ua r te r o f 2 01 9 , P h o e nix ’s c o s t ALLOCATE
re c o rds i n di c ate t h e fo l l ow ing:
MULTIPLE
Support Dept. Operating Dept.
Budgeted overhead
costs AS IS GOVT Corp. Total
SUPPORT
Dept. cost before allocation 600,000 2,400,000 8,756,000 12,452,000 24,208,000 DEPT.
Support work supplied by AS ----- 25% 40% 35% 100%

Support work supplied by IS 10% ----- 30% 60% 100%

*Support work supplied by AS (Budgeted head count)
*Support work supplied by IS (Budgeted computer time)

Illustration
Re q uire d: by us i n g t h e fo l l ow ing m et h ods:
A . D i re c t m et h o d.
Methods
B . Ste p dow n m eth od.
C . Re c i pro c al a l l oc at ion m et h od.
1 . A l l oc ate t h e t wo s uppo r t de pa r t m e nt s c o s t s to t h e t wo
o pe ra t i ng de pa r t m e nt s.
2 . C o m pute t h e tot a l c o s t s fo r C OV T a n d C o rp. D e pa r t m e nt s.
Solution:
A. Direct method: METHODS
The direct method allocates each suppor t depar tment’s OF
costs only to operating depar tments. The direct method
does not allocate suppor t -depar tment costs to other ALLOCATE
suppor t depar tments.
MULTIPLE
SUPPORT
DEPT.
AS 40% GOVT
600,00 8,756,000

25%
Illustration
10%
Methods
IS CORP.
2,400,000 60% 12,452,000
Solution:
A. Direct method: METHODS
1. Allocate support dept. costs: OF
* AS allocation: ALLOCATE
GOV T = 600,000 * (40% ÷ (40%+35%) ) = 320,000
MULTIPLE
Corp. = 600,000 * (35% ÷ (40%+35% )) = 280,000
SUPPORT
* IS allocation:
GOV T = 2,400,000 * (30% ÷ (30%+60% )) = 800,000
DEPT.
Corp. = 2,400,000 * (60% ÷ (30%+60% )) = 1 ,600,000

2. Compute “GOV T” & “Corp.” costs:

* GOV T costs:
= 8,756,000 + 320,000 + 800,000
Illustration
Methods
= 9,876,000

* Corp. costs:
= 1 2,452,000 + 280,000 + 1 ,600,000
= 14,332,000
Solution:
B. Step down method: (sequential allocation)
METHODS
This method allocates suppor t-depar tment costs to OF
other suppor t depar tments and to operating
depar tments in a sequential manner that par tially ALLOCATE
recognizes the mutual ser vices provided among all
suppor t depar tments.
MULTIPLE
SUPPORT
Step
down
1st
DEPT.
AS 40% GOVT
600,00 8,756,000
Direct
Meth.
25%
OR Illustration
10%
Step
down
Methods
1st
IS CORP.
2,400,000 60% 12,452,000
Direct
Meth.
Solution:
B. Step down method: (sequential allocation)
METHODS
Assuming to allocate “AS” first: OF
1. Allocate support dept. costs: ALLOCATE
* AS allocation: MULTIPLE
IS = 6 0 0 , 0 00 * 2 5 % = 1 5 0 , 00 0
G OV T = 6 0 0 , 0 0 0 * 4 0 % = 24 0 , 000 SUPPORT
C o rp. = 6 0 0 , 0 0 0 * 3 5 % = 210 , 00 0
DEPT.
* IS allocation: ( a l l o c a te i t a t d i r ec t m et h o d )
IS c o s t = 2 , 4 0 0 , 00 0 + 1 5 0 , 0 0 0 = 2 , 5 5 0 , 0 00
G OV T = 2 , 5 5 0 , 00 0 * ( 3 0 % ÷ ( 3 0 % + 6 0%) ) = 8 5 0 , 000
C o rp. = 2 , 5 5 0 , 00 0 * ( 6 0 % ÷ ( 3 0 % + 6 0%) ) = 1 , 7 0 0, 000

2. Compute “GOV T” & “Corp.” costs: Illustration

* GOV T costs: Methods
= 8,756,000 + 240,000 + 850,000
= 9,8 46,000
* Corp. costs:
= 1 2,452,000 + 210,000 + 1 ,700,000
= 14,362,000
Solution:
B. Step down method: (sequential allocation)
METHODS
Assuming to allocate “IS” first: OF
1. Allocate support dept. costs: ALLOCATE
* IS allocation: MULTIPLE
AS = 2 , 4 0 0 , 00 0 * 10 % = 24 0 ,0 00
G OV T = 2 , 4 0 0 , 00 0 * 3 0 % = 7 2 0 , 0 00 SUPPORT
C o rp. = 2 , 4 0 0 , 00 0 * 6 0 % = 1 , 4 40 ,0 00
DEPT.
* AS allocation: ( a l l o ca te i t a t d i r e c t m et h o d )
A S c o s t = 6 0 0 , 0 0 0 + 24 0 , 00 0 = 8 4 0 , 0 0 0
G OV T = 8 4 0 , 0 00 * ( 4 0 % ÷ ( 4 0 % + 3 5%)) = 4 4 8 ,0 00
C o rp. = 8 4 0 , 0 00 * ( 3 5 % ÷ ( 4 0 % + 3 5%)) = 3 9 2 ,0 00

2. Compute “GOV T” & “Corp.” costs: Illustration

* GOV T costs: Methods
= 8,756,000 + 720,000 + 448,000
= 9,924,000
* Corp. costs:
= 1 2,452,000 + 1 ,440,000 + 392,000
= 14,28 4,000
Solution:
C. Reciprocal allocation method: METHODS
This method allocates suppor t depar tment costs to OF
operating depar tments by fully recognizing the mutual
ser vices provided among all suppor t depar tments. It ALLOCATE
fully incorporates interdepar tmental relationships into
the suppor t depar tment cost allocations.
MULTIPLE
SUPPORT
DEPT.
AS 40% GOVT
600,00 8,756,000

25%
Illustration
10%
Methods
IS CORP.
2,400,000 60% 12,452,000
Solution:
C. Reciprocal allocation method: METHODS
First: allocate costs between support depts. OF
* Computing the total costs for AS & IS: ALLOCATE
• Total costs of AS: MULTIPLE
Total costs of AS = 600,000 + (Total costs of IS * 10% ) …... (1) SUPPORT
• Total costs of IS:
DEPT.
Total costs of IS = 2,400,000 + (Total costs of AS * 25% )…. (2)

* Substitution formula 2 in formula 1:

Total costs of AS = 600,000 +
((2,400,000 + (Total costs AS*25%))*10%)
Illustration
Total costs of AS = 600,000 + 240,000 + Total costs of AS * 2.5% Methods
100% Total costs AS – 2.5% Total costs of AS = 840,000
97.5% Total costs AS = 840,000
Total costs AS = 840,000 / 97.5% = 861,538.5

So , Total costs of IS = 2,400,000 + (861,538.5* 25% ) = 2,615,384.6

Solution:
C. Reciprocal allocation method: METHODS
Second: allocate costs to operating depts. OF
1. Allocate support dept. costs: ALLOCATE
* AS allocation: MULTIPLE
IS = 8 61 , 5 3 8. 5 * 2 5 % = 21 5 ,3 8 4. 6
G OV T = 8 61 , 5 38 .5 * 4 0 % = 3 4 4 , 615 .4 SUPPORT
C o rp. = 8 61 , 5 38 .5 * 3 5 % = 3 01 ,5 38 .5
* IS allocation:
DEPT.
AS = 2 , 61 5 , 38 4 .6 * 10 % = 2 61 , 5 38. 5
G OV T = 2 , 61 5 , 38 4 .6 * 3 0 % = 7 8 4 ,61 5. 4
C o rp. = 2 , 61 5 , 38 4 .6 * 6 0 % = 1 , 5 6 9, 23 0. 7

2. Compute “GOV T” & “Corp.” costs: Illustration

* GOV T costs: Methods
= 8 , 7 5 6 , 0 00 + 3 4 4 , 61 5. 4 + 7 8 4 , 615 . 4
= 9 , 8 85 ,2 30. 8
* Corp. costs:
= 1 2 , 4 5 2, 0 00 + 3 01 , 5 3 8. 5 + 1 , 5 6 9 , 2 30 .7
= 1 4 , 32 2, 76 9. 2
The end of this
Chapter

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Made by:
Mahmoud Alqasem