Cost Management
ACCOUNTING AND CONTROL
HANSEN & MOWEN
7-1
7
Allocating Costs of Support
Departments and Joint Products
7-2
An Overview of Cost Allocation
1
Allocation is dividing a pool of costs and assigning
those costs to subunits.
The cost objects must be determined, which are
usually departments.
1. Producing
2. Support
7-3
An Overview of Cost Allocation
1
Examples of Departmentalization for a Manufacturing Firm
7-4
An Overview of Cost Allocation
1
Examples of Departmentalization for a Service Firm
7-5
An Overview of Cost Allocation
1
Steps in Allocating Support Department Costs to
Producing Departments
7-6
An Overview of Cost Allocation
1
Examples of Possible Activity Drivers for Support
Departments
Allocating support department costs should be on the basis
of appropriate causal factors (activity drivers).
7-7
An Overview of Cost Allocation
1
Objectives of Allocation
1. To obtain a mutually agreeable price
2. To compute product-line profitability
3. To predict the economic effects of planning and
control
4. To value inventory
5. To motivate managers
7-8
Allocating One Department’s Cost
to Another Department
2
The costs of a support department are often
allocated through the use of a charging rate.
Major factors:
1. Choice of single or dual rate
2. Use of budgeted or actual support
department costs.
7-9
Allocating One Department’s Cost
to Another Department
2
Single rate: Fixed costs + estimated variable costs
estimated usage
Dual rate: Fixed rate and a variable rate
Development of fixed rate:
Development of variable rate:
1. Determine budgeted
fixed costs.
Costs that change as the
activity driver changes
2. Compute allocation
ratio
3. Allocate
7-10
Allocating One Department’s Cost
to Another Department
2
When allocating support department costs,
should actual or budgeted costs be allocated?
Answer: Budgeted – to prevent the transfer of
efficiencies or inefficiencies from one department
to another.
7-11
Allocating One Department’s Cost
to Another Department
2
Use of Budgeted Data for Products Costings:
Comparison of Single- and Dual-Rate Methods
7-12
Allocating One Department’s Cost
to Another Department
2
Use of Actual Data for Performance Evaluation Purposes: Comparison of Single- and Dual-Rate Methods
7-13
Choosing A Support Department
Cost Allocation Method
3
Data for Illustrating Allocation Methods
*For a producing department, direct costs refer only to overhead costs that are directly traceable to the department.
7-14
Choosing A Support Department
Cost Allocation Method
3
Direct Allocation Ilustrated
7-15
Choosing A Support Department
Cost Allocation Method
3
Sequential Allocation Ilustrated
7-16
Choosing A Support Department
Cost Allocation Method
3
Data for Illustrating Reciprocal Method
7-17
Choosing A Support Department
Cost Allocation Method
3
Reciprocal Method Illustrated
a Power: 0.60  $271,429; Maintenance: 0.45  $214,286.
b Power: 0.20  $271,429; Maintenance: 0.45  $214,286.
*Rounded down.
7-18
Choosing A Support Department
Cost Allocation Method
3
Comparison of Support Department Cost Allocations Using the
Direct, Sequential, and Reciprocal Methods
7-19
Departmental Overhead Rates
and Product Costing
4
After allocating all support service costs to
producing departments, an overhead rate is
calculated for each department.
Allocated service costs + Producing dept. overhead costs
Measure of activity (direct labor hours, machine hours)
7-20
Departmental Overhead Rates
and Product Costing
4
A product cost can now be determined.
Materials
+ Labor
+ Overhead
Product Cost
7-21
Accounting for Joint Production Processes
5
Joint products are two or more products
produced simultaneously by the same process
up to a “split-off” point.
The split-off point is the point at which the
joint products become separate and
identifiable.
Separable costs are easily traced to individual
products and offer no particular problem.
7-22
Accounting for Joint Production Processes
5
Joint Production Process
Pork Meat
Material:
Hog
Processing
Split-Off
Point
Hide
7-23
Accounting for Joint Production Processes
5
Independent Multiple-Product Production Using the
Same Material
Processing
Mustang
Processing
Taurus
Material:
Steel
7-24
Accounting for Joint Production Processes
5
The distinction between joint and by-products rests
solely on the relative importance of their sales
value.
A by-product is a secondary product recovered
in the course of manufacturing a primary
product.
7-25
Accounting for Joint Production Processes
5
The distinction between joint and by-products rests
solely on the relative importance of their sales
value.
A by-product is a secondary product recovered
in the course of manufacturing a primary
product.
7-26
Accounting for Joint Production Processes
5
Benefits-Received Approaches

Physical Units Method

Weighted Average Method
Allocation Based on Relative Market Value

Sales-Value-at-Split-Off-Method

Net Realizable Value Method
7-27
Accounting for Joint Production Processes
5
Physical Units Method
A sawmill processes logs into four grades of lumber totaling
3,000,000 board feet as follows:
Grades
First and second
No. 1 common
No. 2 common
No. 3 common
Totals
Board Feet
450,000
1,200,000
600,000
750,000
3,000,000
Percent of
Units
Joint Cost
Allocation
0.15
0.40
0.20
0.25
$ 27,900
74,400
37,200
46,500
$186,000
7-28
Accounting for Joint Production Processes
5
Weighted Average Method
A peach canning factory purchases $5,000 of peaches and
grades and cans them by quality. The following data pertains to
this operation:
Grades
Fancy
Choice
Standard
Pie
Totals
Number
of Cases
100
120
303
70
Weight Weighted Number
Allocated
Factor
of Cases
Percent Joint Cost
1.30
1.10
1.00
0.50
130
132
303
35
600
0.21667
0.22000
0.50500
0.05833
$1,083
1,100
2,525
292
$5,000
7-29
Accounting for Joint Production Processes
5
Sales-Value-at-Split-Off Method
Using the lumber mill example from earlier--
Grades
First and second
No. 1 common
No. 2 common
No. 3 common
Totals
Quantity
Produced
(board ft.)
450,000
1,200,000
600,000
750,000
3,000,000
Price at
Split-Off
(per 1,000
board ft.)
$300
200
121
70
Sales
Value at
Split-Off
$135,000
240,000
72,600
52,500
$500,100
Percent
of Total
Market
Value
0.2699
0.4799
0.1452
0.1050
Allocated
Joint
Cost
$ 50,201
89,261
27,007
19,530
$185,999
*Rounding error
7-30
*
Accounting for Joint Production Processes
5
Net Realizable Value Method
A company manufactures two products, Alpha and Beta, from a
joint process. One production run costs $5,750 and results in
1,000 gallons of Alpha and 3,000 gallons of Beta. Neither
product is salable at the split-off point, but must be further
processed. The separable cost for Alpha is $1 per gallon and for
Beta is $2 per gallon.
Alpha
Beta
Market
Price
Further
Processing
Cost
$5
4
$1
2
Hypothetical
Hypothetical Allocated
Market
Number
Market
Joint
Price
of Units
Value
Cost
$4
2
1,000
3,000
$ 4,000
6,000
$10,000
$2,300
3,450
$5,750
7-31
Accounting for Joint Production Processes
5
Constant Gross Margin Percentage Method
Percent
Revenue ($5 x 1,000) + ($4 x 3,000)
Costs [$5,750 + ($1 x 1,000) + ($2 x 3,000)]
Gross margin
Eventual market value
Less: Gross margin at 25% of market value
Cost of goods sold
Less: Separable costs
Allocated joint costs
$17,000
12,750
$ 4,250
100 %
75 %
25 %
Alpha
Beta
$ 5,000
1,250
$ 3,750
1,000
$2,750
$12,000
3,000
$ 9,000
6,000
$ 3,000
7-32
End of
Chapter 7
7-33