COST MANAGEMENT
Accounting & Control
Hansen▪Mowen▪Guan
Chapter 7
Allocating Costs of
Support Departments
and Joint Products
COPYRIGHT © 2009 South-Western Publishing, a division of Cengage Learning.
Cengage Learning and South-Western are trademarks used herein under license.
1
Study Objectives
1. Describe the difference between support departments
and producing departments.
2. Calculate charging rates, and distinguish between
single and dual charging rates.
3. Allocate support center costs to producing departments
using the direct method, the sequential method, and
the reciprocal method.
4. Calculate departmental overhead rates.
5. Identify the characteristics of the joint production
process, and allocate joint costs to products.
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An Overview of Cost Allocation
• Allocation is dividing a pool of costs and
assigning those costs to subunits
• The cost objects must be determined
• Cost objects are usually departments
– Producing: creating products sold to
customers
– Support: provide essential services for
producing departments
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Departmentalization:
Manufacturing Firm
4
Departmentalization:
Service Firm
5
Allocating Support Department
Costs to Producing Departments
Steps:
• Departmentalize the firm
• Classify each department as support or producing
• Trace all overhead costs in the firm to the appropriate
department
• Allocate support department costs to producing
departments
• Calculate predetermined overhead rate for producing
departments
• Allocate overhead to units produced
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An Overview of Cost Allocation
7
Allocating One Department’s Costs
to Another Department
• The costs of a support department are
often allocated through the use of a
charging rate.
• Major factors of rate selection:
– Choice of single or dual rate
– Use of budgeted or actual support department
costs.
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Allocating One Department’s Costs
to Another Department
Single = Fixed costs + estimated variable costs
rate
estimated usage
Dual rate: Fixed rate and a variable rate
• Developing a fixed rate
– Determine budgeted fixed costs
– Compute allocation ratio
– Allocate
• Developing the variable rate
– Depends on the costs that change as the activity
driver changes
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Allocating One Department’s Costs
to Another Department
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.
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Allocating One Department’s Costs
to Another Department
11
Allocating One Department’s Costs
to Another Department
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Choosing a Support Department
Cost Allocation Method
• Direct method
– Costs are allocated only to producing
departments
• Sequential (step) method
– Costs allocations are performed in a stepdown fashion, using predetermined ranking
procedures (e.g., degree of support)
• Reciprocal method
– Recognizes interactions of support
departments prior to allocation to producing
departments
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Choosing a Support Department
Cost Allocation Method
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Direct allocation
Allocate Power Dept costs based on kilowatthours:
Grinding
Assembly
600,000
 $250,000 = $187,500
 600,000 + 200,000 
200,000
 $250,000 = $62,500
 600,000 + 200,000
Allocate Maintenance Dept costs based on
maintenance-hours:
Grinding
4,500
 $160,000 = $80,000
 4,500 + 4,500 
Assembly
4,500
 $160,000 = $80,000
 4,500 + 4,500 
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Direct allocation
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Sequential allocation
• Rank support departments by their direct costs
• Allocate
– First support department’s direct cost to all other
support departments and producing departments
– Next support department’s costs (direct + previously
allocated) to subsequent support and producing
– Etc.
• Once a support department’s costs are allocated
it never receives a subsequent allocation
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Sequential allocation
Step 1: Allocate Power Dept costs based on
kilowatt-hours:

200,000 Maint kWh
200,000 +
600,000
200,000
+
Maint kWh Grinding kWh Assembly kWh

600,000 Grinding kWh
200,000 +
600,000
200,000
+
Maint kWh Grinding kWh Assembly kWh

200,000 Assembly kWh
200,000 +
600,000
200,000
+
Maint kWh Grinding kWh Assembly kWh

 $250,000 = $50,000

 $250,000 = $150,000

 $250,000 = $50,000
To Maintenance
To Grinding
To Assembly
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Sequential allocation
Step 2: Allocate Maintenance Dept costs (direct
+ allocated) based on maintenance-hours:
Costs to allocate: $160,000 direct + $50,000 allocated = $210,000

4,500 Grinding
4,500 + 4,500
Grinding Assembly


4,500 Assembly
4,500 + 4,500
Grinding Assembly

 $210,000 = $105,000
To Grinding
 $210,000 = $105,000
To Assembly
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Sequential allocation
20
Reciprocal allocation
21
Reciprocal allocation
Utilize a series of simultaneous linear equations
M = $160,000 + .2P
M = $160,000 + .2(250,000 + .1M)
M = $160,000 + 50,000 + .02M
.09M = $210,000
M = $214,286
P = $250,000 + .1P
P = $250,000 + .1(214,286)
P = $250,000 + 21,429
P = $271,429
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Reciprocal allocation
Utilize a series of simultaneous linear equations
M = $160,000 + .2P
M = $160,000 + .2(250,000 + .1M)
M = $160,000 + 50,000 + .02M
.98M = $210,000
M = $214,286
P = $250,000 + .1P
P = $250,000 + .1(214,286)
P = $250,000 + 21,429
P = $271,429
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Reciprocal allocation
Utilize a series of simultaneous linear equations
M = $160,000 + .2P
M = $160,000 + .2(250,000 + .1M)
M = $160,000 + 50,000 + .02M
.98M = $210,000
M = $214,286
P = $250,000 + .1P
P = $250,000 + .1(214,286)
P = $250,000 + 21,429
P = $271,429
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Reciprocal allocation
25
Choosing a Support Department
Cost Allocation Method
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Departmental Overhead Rates
and Product Costing
After allocating all support service costs to
producing departments, an overhead rate is
calculated for each department
 Allocated   Producing 
 service    department 
 costs   overhead costs 

 

Measure of activity
27
Departmental Overhead Rates
and Product Costing
A product cost can now be determined:
Direct materials
+ Direct labor
+ Assigned overhead
Product cost
28
Accounting for Joint
Production Processes
• 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.
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Accounting for Joint
Production Processes
30
Accounting for Joint
Production Processes
31
Accounting for Joint
Production Processes
• The distinction between joint and byproducts 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.
– Joint costs are not typically allocated
– Sales revenue is classified as “other income”
– Post-split-off processing costs are deducted
from sales revenue
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Joint Cost Allocation Methods
• Physical Units Method
– Presumes that each unit of the final product
costs as much to produce as any other
• Weighted Average Method
– Applies weight factors to reflect differing
materials, complexity, time, etc.
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Joint Cost Allocation:
Physical Units Method
A sawmill processes logs into four grades of lumber
and incurs total joint costs of $186,000:
Percent Joint Cost
Grades
First and second
No. 1 common
No. 2 common
No. 3 common
Board Feet of Units Allocation
450,000
1,200,000
600,000
750,000
3,000,000
15.00% $ 27,900
40.00%
74,400
20.00%
37,200
25.00%
46,500
$ 186,000
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Joint Cost Allocation:
Weighted Average Method
A peach canning factory purchases $5,000 of peaches
and grades and cans them by quality.
Grades
Fancy
Choice
Standard
Pie
Weighted
Joint
Cost
Number
Weight
Number
of Cases
Factor
of Cases
100
120
303
70
1.30
1.10
1.00
0.50
130
132
303
35
600
Percent
Allocation
21.67% $ 1,083
22.00%
1,100
50.50%
2,525
5.83%
292
$ 5,000
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Joint Cost Allocation Methods
• Sales-Value-at-Split-Off-Method
– Allocates joint cost based on each product’s
proportionate share of sales value at split-off
• Net Realizable Value Method
– Allocates joint cost based on hypothetical market price
(eventual market value minus processing costs beyond
split-off)
• Constant Gross Margin Percentage Method
– Allocates joint costs such that the gross margin is the
same for each product
36
Joint Cost Allocation:
Sales-Value-at-Split-Off Method
A sawmill processes logs into four grades of lumber
and incurs total joint costs of $186,000:
Price at
Split-Off
Grades
First and second
No. 1 common
No. 2 common
No. 3 common
Board Feet
(per 1,000
Sales Value
Joint Cost
board ft.)
at Split-Off
Percent Allocation
450,000 $
1,200,000
600,000
750,000
3,000,000
300
200
121
70
135,000
240,000
72,600
52,500
500,100
26.99% $ 50,201
47.99%
89,261
14.52%
27,007
10.50%
19,530
$ 185,999
does not sum to $186,000 due to rounding
37
Joint Cost Allocation:
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. The separable
cost for Alpha is $1 per gallon and for Beta is $2 per gallon.
Further
Mark et Processing Hypothetical Number Hypothetical
Price
Alpha
Beta
$5
4
Cost
Allocated
Mark et Price of Units Mark et Value Percent Joint Cost
$1
2
$4
2
1,000 $
3,000
$
4,000
6,000
10,000
40.0% $
60.0%
$
2,300
3,450
5,750
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Joint Cost Allocation:
Constant Gross Margin Method
Revenue:
Alpha ($5 × 1,000) $ 5,000
Beta ($4 × 3,000)
12,000 $ 17,000
Costs
Alpha ($1 × 1,000) $ 1,000
Beta ($2 × 3,000)
6,000
Joint costs
5,750
12,750
Gross Margin
Joint cost
allocation
$
4,250
100%
Determine gross
margin percentage
75%
25%
Eventual market value
Less: Gross margin at 25%
Alpha
Beta
$ 5,000 $ 12,000
(1,250)
(3,000)
Cost of goods sold
Less: seperable costs
$
Allocated joint costs
$
3,750 $ 9,000
(1,000)
(6,000)
2,750 $
3,000
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COST MANAGEMENT
Accounting & Control
Hansen▪Mowen▪Guan
End Chapter 7
COPYRIGHT © 2009 South-Western Publishing, a division of Cengage Learning.
Cengage Learning and South-Western are trademarks used herein under license.
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