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6-1 Support Department Cost Allocation Prepared by Douglas Cloud Pepperdine University Prepared by Douglas Cloud Pepperdine University.

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Presentation on theme: "6-1 Support Department Cost Allocation Prepared by Douglas Cloud Pepperdine University Prepared by Douglas Cloud Pepperdine University."— Presentation transcript:

1 6-1 Support Department Cost Allocation Prepared by Douglas Cloud Pepperdine University Prepared by Douglas Cloud Pepperdine University

2 6-2 1.Describe the difference between support departments and producing departments. 2.Explain five reasons why support cost may be assigned to producing departments. 3.Calculate charging rates, and distinguish between single and dual charging rates. 4.Allocate support center costs to producing departments using the direct method, the sequential method, and the reciprocal method. ObjectivesObjectives After studying this chapter, you should be able to: ContinuedContinued

3 6-3 5.Calculate departmental overhead rates. ObjectivesObjectives

4 6-4 Types of Departments Producing departments are directly responsible for creating the products or services sold to customers.

5 6-5 Types of Departments Supporting departments provide essential support services for producing departments. Maintenance, grounds, engineering, personnel, storage

6 6-6 Examples of Departmentalization for a Manufacturing Firm Examples of Departmentalization for a Manufacturing Firm Production Departments Support Departments Production Departments Support Departments Assembly:Materials Storeroom: Supervisors’ salariesClerk’s salary Small toolsDepreciation on forklift Indirect materialsCafeteria: Depreciation on machineryFood Finishing:Cooks’ salaries SandpaperDepreciation on stores Depreciation on sandersMaintenance: Janitors’ salaries Cleaning supplies Machine oil and lubricants

7 6-7 1.Departmentalize the firm. 2.Classify each department as a support department or a producing department. 3.Trace all overhead costs in the firm to a support department or producing department. 4.Allocate support department costs to the producing departments. Steps in Allocating Support Department Costs to Producing Departments ContinuedContinued

8 6-8 5. Calculate predetermined overhead rates for producing departments. 6. Allocate overhead costs to the units of individual products through predetermined overhead rates. Steps in Allocating Support Department Costs to Producing Departments

9 6-9 Examples of Cost Drivers for Support Departments AccountingNumber of transactions Cafeteria Number of employees Engineering Number of change orders MaintenanceMachine hours; maintenance hours PayrollNumber of employees Personnel Number of employees, firings, layoffs, new hires Support Department Possible Driver Support Department Possible Driver

10 6-10 Objectives of Allocation*  To obtain a mutually agreeable price  To compute product-line profitability  To predict the economic effects of planning and control  To value inventory  To motivate managers *As identified by the IMA

11 6-11 Fixed costs………………$26,190 Variable costs…..$0.023 per page Hamish and Barton

12 6-12 l Estimated usage in pages by the three producing departments is as follows:  Audit Department94,500  Tax Department67,500  MAS Department108,000  Total270,000 Variable cost: 270,000 x $0.023 $ 6,210 Fixed cost 26,190 Total cost for 270,000 pages$32,400 Average cost ($32,400 ÷ 270,000)$0.12 per page A Single Charge Rate Hamish and Barton

13 6-13 A Single Charge Rate Total Photocopying Department Charge Number of Pages Charge per Page Total Charge x= Audit Department92,000$0.12$11,040 Tax Department65,0000.127,800 MAS Department115,0000.12 13,800 Total272,000$32,640

14 6-14 The allocation of fixed costs follow a three-step procedure: 1)Determination of budgeted fixed support service costs 2)Computation of the allocation ratio Allocation ratio = Producing department capacity Total capacityContinuedContinued Dual Charging Rate

15 6-15 3)Allocation Allocation = Allocation ratio x Budgeted fixed support service costs Dual Charging Rate

16 6-16 Percent Budgeted Fixed Cost Allocated Fixed Cost Audit94,50035%$26,190$ 9,167 Tax67,50025 26,1906,548 MAS108,0004026,190 10,476 Total270,000$26,191 Original Number of Copies Dual Charging Rate 100%

17 6-17 Developing a Variable Rate Variable Rate Variable Amount Fixed Amount Audit92,000$0.023$2,116$ 9,167$11,283 Tax65,0000.0231,4956,5488,043 MAS115,0000.023 2,645 10,476 13,121 Total272,000$6,256$26,191$32,447 Actual Number of Copies x =+ Total Charge = Dual Charging Rate

18 6-18 Hamish and Barton The adjusted cost allocation ratios and allocated fixed cost based on the newly budgeted usage Number of Copies Percent Allocated Fixed Cost Audit94,50041.1%$10,764 Tax 67,50029.37,674 MAS 68,000 29,6 7,752 Total230,000100.0%$26,190

19 6-19 Choosing A Support Department Cost Allocation Method The three methods for allocating support department costs to producing departments are:  The Direct Method  The Sequential Method  The Reciprocal Method

20 6-20 Direct Method of Allocation PowerMaintenance GrindingAssembly Support Departments Producing Departments

21 6-21 Direct Method of Allocation PowerMaintenance Grinding Assembly Support Departments Producing Departments

22 6-22 Support Departments Producing Departments Direct Costs*$250,000$160,000$100,000$ 60,000 Normal Activity: Kilowatt hours-----200,000600,000200,000 Maintenance hours1,000-----4,5004,500 *For a producing department, direct costs refer only to overhead costs that are directly traceable to the department. Data for Illustrating Allocation Methods Power Maint. Grinding Assembly

23 6-23 STEP 1—CALCULATE ALLOCATION RATIOS Grinding Assembly Grinding Assembly Power = 600,000 (600,000 + 200,000) 0.75 200,000 (600,000 + 200,000) 0.25 Maintenance = 4,500 (4,500 + 4,500) 0.50 4,500 (4,500 + 4,500) 0.50 Direct Method

24 6-24 STEP 2—ALLOCATE SUPPORT DEPARTMENT COSTS USING THE ALLOCATION RATIOS Power Maintenance Grinding Assembly Power Maintenance Grinding Assembly Support Departments Producing Departments Support Departments Producing Departments Direct costs$250,000 $160,000$100,000$ 60,000 Power-250,000---187,50062,500 Maintenance ----160,000 80,000 80,000 $ 0$ 0$367,500$202,500 a b a 0.75 x $250,000 = $187,500; 0.25 x $250,000 = $62,500 0.50 x $160,000 = $80,000 b Direct Method

25 6-25 Sequential Method of Allocation STEP 1: Rank service departments Maintenance 1 Grinding 2 Assembly 3

26 6-26 Sequential Method of Allocation Power MaintenanceAssemblyGrinding STEP 2

27 6-27 Sequential Method of Allocation Maintenance Assembly Grinding STEP 2

28 6-28 STEP 1—CALCULATE ALLOCATION RATIOS Maint. Grinding Assembly Maint. Grinding Assembly Power = 200,000 (200,000 + 600,000 + 200,000) 0.20 600,000 (200,000 + 600,000 + 200,000) 0.60 Sequential Method

29 6-29 STEP 1—CALCULATE ALLOCATION RATIOS Maint. Grinding Assembly Maint. Grinding Assembly 4,500 (4,500 + 4,500) 0.50 Mainte- nance 4,500 (4,500 + 4,500) 0.50 = Sequential Method

30 6-30 STEP 2—ALLOCATE SUPPORT DEPARTMENT COSTS USING THE ALLOCATION RATIOS Power Maintenance Grinding Assembly Power Maintenance Grinding Assembly Support Departments Producing Departments Support Departments Producing Departments Direct costs$250,000 $160,000$100,000$ 60,000 Power-250,00050,000150,00050,000 Maintenance ----210,000 105,000 105,000 $ 0$ 0$355,000$215,000 a b a 0.20 x $250,000 = $50,000; 0.60 x $250,000 = $150,000; 0.20 x $250,000 = $50,000 0.50 x $210,000 = $105,000 b Sequential Method

31 6-31 The reciprocal method of allocation recognizes all interactions among support departments.

32 6-32 Power Maintenance Grinding Assembly Power Maintenance Grinding Assembly Support Departments Producing Departments Support Departments Producing Departments Direct costs: Fixed$200,000$100,000$ 80,000$50,000 Variable 50,000 60,000 20,000 10,000 Total$250,000$160,000$100,000$60,000 Reciprocal Method Power Maintenance Grinding Assembly Power Maintenance Grinding Assembly Proportion of Output Used by Departments Proportion of Output Used by Departments Allocation ratios: Power---0.200.600.20 Maintenance0.10---0.450.45

33 6-33 M = Direct costs + Share of Power’s costs M = $160,000 + $50,000 + 0.02M 0.98M = $210,000 M = $214,286 M = $160,000 + 0.2P (Power’s cost equation)

34 6-34 P = Direct cost + Share of Maintenance’s cost = $250,000 + 0.1($214,286)P =$250,000 + $21,429 P =$271,429 P P = $250,000 + 0.1M (Maintenance cost equation)

35 6-35 Reciprocal Method Allocated to Grinding Assembly Total Cost Power$271,429$162,857$ 54,286 Maintenance214,286 96,429 96,429 Total$259,286$150,715.60 x $271,429.20 x $271,429.45 x $214,286

36 6-36 Direct Method Grinding Assembly Grinding Assembly Comparison of Support Department Cost Allocations Using the Direct, Sequential, and Reciprocal Methods Direct costs$100,000$ 60,000 Allocated from Power187,50062,500 Allocated from Maintenance 80,000 80,000 Total cost$367,500$202,500

37 6-37 Sequential Method Sequential Method Grinding Assembly Grinding Assembly Comparison of Support Department Cost Allocations Using the Direct, Sequential, and Reciprocal Methods Direct costs$100,000$ 60,000 Allocated from Power150,00050,000 Allocated from Maintenance 105,000 105,000 Total cost$355,000$215,000

38 6-38 Reciprocal Method Grinding Assembly Grinding Assembly Comparison of Support Department Cost Allocations Using the Direct, Sequential, and Reciprocal Methods Direct costs$100,000$ 60,000 Allocated from Power162,85754,285 Allocated from Maintenance 96,429 96,429 Total cost$359,286$210,714

39 6-39 Departmental Overhead Rates The overhead rate for the Grinding Department is computed as follows (assuming the normal level of activity is 71,000 MH): OH rate = $355,000  71,000 = $5 per MH The overhead rate for the assembly department is computed as follows (assuming the normal level of activity is 107,500 DLH): OH rate = $215,000  107,500 = $2 per DLH

40 6-40 Chapter End of

41 6-41


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