CHAPTER 7

SUPPORT-DEPARTMENT COST ALLOCATION

QUESTIONS FOR WRITING AND DISCUSSION
1. Stage one assigns support-department
costs to producing departments. Costs are
assigned using factors that reflect the consumption of the services by each producing
department. Stage two allocates the costs
assigned to the producing departments (including service costs and direct costs) to the
products passing through the producing departments.
2. Support-department costs are part of the
cost of producing a product. Knowing the individual product costs is helpful for developing bids and cost-plus prices.
3. GAAP require that all manufacturing costs
be assigned to products for inventory valuation.
4. Allocating support-department costs makes
users pay attention to the level of service activity consumed and also provides an incentive for them to monitor the efficiency of the
support departments.
5. Without
any
allocation
of
supportdepartment costs, users may view services
as a free good and consume more of the
service than is optimal. Allocating supportdepartment costs would encourage managers to use the service until such time as the
marginal cost of the service is equal to the
marginal benefit.
6. Since the user departments are charged for
the services provided, they will monitor the
performance of the support department. If
the service can be obtained more cheaply
externally, then the user departments will be
likely to point this out to management.
Knowing this, a manager of a support department will exert effort to maintain a competitive level of service.
7. The identification and use of causal factors
ensures that support-department costs are
accurately assigned to users. This increases
the legitimacy of the control function and
enhances product costing accuracy.
8. a. Number of employees; b. Square footage; c. Pounds of laundry; d. Orders
processed; e. Maintenance hours worked; f.
Number of employees; and g. Number of
transactions processed.

189

9. Allocating actual costs passes on the efficiencies or inefficiencies of the support department, something which the manager of
the producing department cannot control. Allocating budgeted costs avoids this problem.
10. The direct method allocates the direct costs
of each support department directly to the
producing departments. No consideration is
given to the fact that other support departments may use services. The sequential
method allocates support-department costs
sequentially. First, the costs of the center
providing the greatest service to all user departments, including other support departments, are allocated. Next the costs of the
second greatest provider of services are allocated to all user departments, excluding
any department(s) that has already allocated
costs. This continues until all supportdepartment costs have been allocated. The
principal difference in the two methods is the
fact that the sequential method considers
some interactions among support departments and the direct method ignores interactions.
11. Yes, the reciprocal method is more accurate
because it fully considers interactions
among support departments. However, the
reciprocal method is much more complex
and can be difficult for managers to understand. If the results are similar, the simpler
method should be used.
12. A joint cost is a cost incurred in the simultaneous production of two or more products.
At least one of these joint products must be
a main product. It is possible for the joint
production process to produce a product of
relatively little sales value relative to the
main product(s); this product is known as a
by-product.
13.

Joint costs occur only in cases of joint production. A joint cost is a common cost, but a
common cost is not necessarily a joint cost.
Many overhead costs are common to the
products manufactured in a factory but do
not signify a joint production process.

EXERCISES
71
a.
b.
c.
d.
e.
f.
g.
h.

support
support
producing
producing
support
support
producing
producing

i.
j.
k.
l.
m.
n.
o.

support
support
producing
support
producing
support
support

support
support
support
support
support
producing
producing
support

i.
j.
k.
l.
m.
n.
o.

support
producing
producing
support
support
support
support

72
a.
b.
c.
d.
e.
f.
g.
h.

73
a.

direct labor hours;

number of employees
b. number of processing hours
c. labor hours; units produced
d. number of orders;
materials cost
e. materials cost;
orders received
f. orders shipped
g. number of employees

h.
i.
j.
k.

square feet
square feet
kilowatt-hours
number of employees;
direct labor cost
l. square feet
m. machine hours;
number of repair jobs
n. cubic feet

190

74
1.

Charging rate = ($80 100 hours)/400 units = $20 per apartment unit

2.

Amount charged = ($80 130 hours) = $10,400

Amount actually charged apartment building owners:

3.

The Roost
Magnolia House
Oak Park
Wisteria Lane
Elm Street
Total

Number of
Units
130
70
120
50
30
400

The Roost
Magnolia House
Oak Park
Wisteria Lane
Elm Street
Total

Number of
Hours
35
10
45
15
25
130

Charge
per Unit
$20
20
20
20
20

Charge
per Hour
$80
80
80
80
80

Total
Charges
$ 2,600
1,400
2,400
1,000
600
$ 8,000
Total
Charges
$ 2,800
800
3,600
1,200
2,000
$ 10,400

The use of number of legal hours as the charging base is much better than the
number of apartment units. The number of legal hours is directly associated with
the attorneys charges. The number of units is, apparently, a poor proxy for the
use of legal services. Two problems are immediately evident. First, the use of the
unit charge means that Stewart will only be charging actual legal fees when the
number of units times the per-unit rate happens to equal the number of hours
times the per-hour rate. In this case, he will not recoup all of his spending on legal fees. That occurred here, where Stewart charged the owners only $8,000 for
legal fees, but paid the attorney $10,400. In other years, the amount charged the
apartment owners will be more than the amount charged by the attorney. Second,
it is possible for apartment owners to have a smaller or larger proportion of units
than of hours. Even in the example above, we can see that Elm Street has a small
percentage of units, but causes a larger proportion of legal fees.

191

75
1.

Single charging rate = ($320,000 + $400,000)/24,000 = $30/DLH

2.

Charge to the Used Car Sales Dept. = $517 + ($30 12 DLH) = $877

3.

DM
=
Actual DLH Charging Rate +
New Car Sales
1,000
$30
$ 3,100
Used Car Sales
4,700
30
7,860
Service
19,400
30
86,300
Total
25,100
$97,260

Total Charges
$ 33,100
148,860
668,300
$850,260

76
1. Billing rate for maintenance = $193,200/4,200 = $46/maintenance hour
2. $46 370 = $17,020
3.

Total charged ($46 4,110)

Actual cost
Maintenance cost undercharged

$ 189,060
190,060
$ 1,000

192

77
1.

$460 = $46 number of hours of maintenance

Number of hours of maintenance = 10 hours
The controller must have looked up the usage of maintenance by the Assembly
Department, found that it had used 10 hours, and multiplied those hours by the
single charging rate of $46. In that case, $460 would be correct.

2.

Rate for routine maintenance = $48,000/2,000 = $24/routine maint. hour

Rate for technical maintenance = $145,200/2,200 = $66/tech. maint. hour
New charge for Assembly Department = $24 10 routine hours = $240

3.

When single charging rates are used by companies, they must be aware that
changes in the way work is performed may require changes in the charging
rate(s). In this case, the additional complexity caused by the computer-controlled
equipment means that a single charging rate does not adequately control for the
differences in cost caused by different departments. Multiple charging rates do a
better job of charging the using department for the resources provided by the
support departments.

193

78
1.

Allocation ratios for S1 based on number of employees:

Cutting = 120/(120 + 80) = 0.60
Sewing = 80/(120 + 80) = 0.40
Allocation ratios for S2 based on number of maintenance hours:
Cutting = 15,000/(15,000 + 5,000) = 0.75
Sewing = 5,000/(15,000 + 5,000) = 0.25

2.
Direct costs
Allocate:
S1 (200,000)
S2
Total

Support Departments
S1
S2
$200,000 $ 140,000

120,000
(140,000)
$
0

Producing Departments
Cutting
Sewing
$ 122,000
$ 90,500
80,000
105,000
$ 347,000

35,000
$ 205,500

79
1.

Allocation ratios for S1 based on number of employees:

S2
= 50/(50 + 120 + 80) = 0.20
Cutting = 120/(50 + 120 + 80) = 0.48
Sewing = 80/(50 + 120 + 80) = 0.32
Allocation ratios for S2 based on number of maintenance hours:
Cutting = 15,000/(15,000 + 5,000) = 0.75
Sewing = 5,000/(15,000 + 5,000) = 0.25

2.
Direct costs
Allocate:S1
S2
Total

Support Departments
S1
S2
$ 200,000 $ 140,000
(200,000)
40,000

(180,000)
0
$
0 $

194

Producing Departments
Cutting
Sewing
$ 122,000
$ 90,500
96,000
64,000
135,000
45,000
$ 353,000
$ 199,500

710
1.

Allocation ratios:
Proportion of Output Used by Department
S2
Cutting
Sewing
S1

0.2000
0.4800
0.3200
0.0566

0.7075
0.2358

S1
S2
2.

S1 =
S1 =
S2 =
S2 =
S2 =
S2 =
0.9887S2 =
S2 =

Direct costs + Share of S2 costs

$200,000 + 0.0566(S2)
Direct costs + Share of S1 costs
$140,000 + 0.200(S1)
$140,000 + 0.200 [$200,000 + 0.0566(S2)]
$140,000 + $40,000 + 0.0113(S2)
$180,000
$182,057

Substituting $180,057 for S2 into the S1 equation yields total S1 cost:

S1 = $200,000 + 0.0566($182,057)
= $200,000 + $10,304 = $210,304
3.
Direct costs
Allocated from:
S1
S2
Total

Support Departments
S1
S2
$200,000
$140,000

Producing Departments
Cutting
Sewing
$122,000
$ 90,500

(210,304)
10,304
$
0

100,946
128,805
$351,751

*Difference due to rounding.

195

42,061
(182,057)
$
(4)*

67,297
42,929
$200,726

711
1.

Baking Dept. overhead rate = $150,000/6,250 = $24 per MHr

Decorating Dept. overhead rate = $42,000/6,000 = $7 per DLH

2.

Cost per batch:

Direct materials
Direct labor
Overhead:
Baking Dept. (2 $24)
Total

$55
42
48
$145

Cost per loaf = $145/100 = $1.45

3.

Cost of Dearman wedding cake:

Direct materials
Direct labor
Overhead:
Baking Dept. (1 $24)
Decorating Dept. (8 $7)
Total cost

$ 20
50
24
56
$150

Price = 3 $150 = $450

196

712
1.

Allocation ratios:
Firing
0.80
0.25
0.29

Shaping
0.20
0.75
0.71

Kilowatt-hours
Square feet2
Direct labor hours3
1

based on kilowatt hours: 20,000/(20,000+80,000); 80,000/(20,000+80,000)

based on square feet: 24,000/(24,000+8,000); 8,000/(24,000+8,000)
3
based on direct labor hours: 10,000/(10,000+4,000);
4,000/(10,000+4,000)
2

Cost assignment:
Power Gen. Factory
HR
$90,000 $$167,000 $84,000

Direct overhead costs

Allocate:
Power
($90,000)
General Factory
Human Resources
Total after allocation
$0
2.

(167,000)
$0

Departmental overhead rates:

Shaping: $274,890/10,000 = $27.49 per DLH*
Firing: $368,110/4,000 = $92.03 per DLH*
*Rounded

197

Shaping
$72,000

Firing
$230,000

18,000
- 125,250
84,000
59,640
$0 $274,890

72,000
41,750
24,360
$368,110

713
1.

Assume the support-department costs are allocated in order of highest to lowest

cost: General Factory, Power, and Human Resources.
Square feet
Kilowatt-hours
Labor hours

Power
0.05

GF

Direct costs
$ 90,000 $167,000
1
General Factory :
(0.05 $167,000)
8,350
(8,350)
(0.15 $167,000)
(25,050)
(0.60 $167,000)
(100,200)
(0.20 $167,000)
(33,400)
Power2:
(0.20 $98,350)
(19,670)
(0.16 $98,350)
(15,736)
(0.64 $98,350)
(62,944)
Human Resources:
(0.71 $128,720)
(0.29 $128,720)
Total
$
0 $
0
1
based on square feet:
Power = 2,000/(2,000+6,000+24,000+8,000)
HR = 6,000/(2,000+6,000+24,000+8,000)
Shaping = 24,000/(2,000+6,000+24,000+8,000)
Firing = 8,000/(2,000+6,000+24,000+8,000)
2
based on kilowatt hours :
HR = 25,000/(25,000+20,000+80,000)
Shaping = 20,000/(25,000+20,000+80,000)
Firing = 80,000/(25,000+20,000+80,000)

HR
0.15
0.20

Shaping
0.60
0.16
0.71

Firing
0.20
0.64
0.29

$84,000

$ 72,000

$230,000

25,050
100,200
33,400
19,670
15,736
62,944
(91,391)
91,391
(37,329)
$
0 $279,327

Allocation Ratios for HR department based on direct labor hours :

Shaping
10,000/(10,000+4,000)
Firing
4,000/(10,000+4,000)
2.

Shaping: $279,327/10,000 = $27.93 per DLH*

Firing: $403,576/4,000 = $90.92 per DLH*
*Rounded

198

37,329
$363,673

7-14
Andol
Incol
Ordol
Exsol
Total

Units
1,000
1,500
2,500
3,000
8,000

Percent
0.1250
0.1875
0.3125
0.3750

Joint Cost
$100,000
100,000
100,000
100,000

Allocated Joint Cost

$12,500
18,750
31,250
37,500
$100,000

7-15
Andol
Incol
Ordol
Exsol
Total

Units
1,000
1,500
2,500
3,000
8,000

Price at
Split-off
$20.00
75.00
64.00
22.50

7-16
1.
Ups
Downs
Total

Units
39,000
21,000

Price
$2.00
2.18

Market Value
at Split-off
$ 20,000
112,500
160,000
67,500
$360,000

Joint
Allocated
Percent
Cost
Cost
0.0556 $100,000
$ 5,560
0.3125
100,000
31,250
0.4444
100,000
44,440
0.1875
100,000
18,750
$100,000

Eventual
Separable
Market Value
Costs
$78,000
$18,000
45,780
5,780

Joint cost
Percent of hypothetical market value
Allocated joint cost

Hypothetical
Market Value
$60,000
40,000
$100,000

Ups
$42,000
0.60
$25,200

2. Value of ups at split-off (39,000 $1.80)

$70,200

Value of ups when processed further

Less: Further processing cost
Incremental value of further processing

$78,000
18,000
$60,000

Percent
0.60
0.40

Downs
$42,000
0.40
$16,800

Ups should NOT be processed further as there will $10,200 more profit if sold at splitoff.

199

717
1.

HR
Power2

HR

0.0769

Power
0.3000

Mixing
0.3500
0.2308

Packaging
0.3500
0.6923

based on payroll:
90,000/(90,000+105,000+105,000)
105,000/(90,000+105,000+105,000)
105,000/(90,000+105,000+105,000)
2
based on kilowatt hours:
5,000/(5,000+15,000+45,000)
15,000/(5,000+15,000+45,000)
45,000/(5,000+15,000+45,000)
P = $150,000 + 0.3HR
P = $150,000 + 0.3($110,000 + 0.0769P)
P = $150,000 + $33,000 + 0.0231P
0.9769P = $183,000
P = $187,327
HR =
HR =
HR =
HR =

$110,000 + 0.0769P
$110,000 + 0.0769($187,327)
$110,000 + $14,405
$124,405

Human
Resources
Power
Direct overhead costs
$110,000
$150,000
Allocated from:
HR
(124,405)
37,321
Power
14,409
(187,327)
Total
$
0
$
(5)*
*Difference due to rounding.

2.

Mixing: $186,777/20,000 = $9.34 per DLH

Packaging: $453,228/30,000 = $15.11 per DLH

200

Mixing
$100,000

Packaging
$280,000

43,542
43,235
$186,777

43,542
129,686
$453,228

718
1.
Direct overhead
Allocate HR1
Allocate Power
Total
1

2.

Support Departments
HR
Power
$110,000 $150,000
(110,000)
- (150,000)
$
0
$
0

Producing Departments
Mixing
Packaging
$100,000
$280,000
55,000
55,000
37,500
112,500
$192,500
$447,500

based on payroll:
Mixing = 105,000/(105,000+105,000) = 0.50
Packaging = 105,000/(105,000+105,000) = 0.50
2
based on kilowatt hours:
Mixing = 15,000/(15,000+45,000) = 0.25
Packaging = 45,000/(15,000+45,000) = 0.75

Mixing: $192,500/20,000 = $9.63 per DLH

Packaging: $447,500/30,000 = $14.92 per DLH
The reciprocal method is more accurate because support-department costs are
allocated to other support departments. Using the direct method, Human Resources and Power do not receive any other support department costs. How important the increased accuracy is for this example is not clear. Some might argue
that the departmental rates do not differ enough to justify using the more complicated reciprocal method.

201

719
1.
Direct overhead
Allocate HR1
Allocate Power2
Total
1

2.

Support Departments
HR
Power
$110,000 $150,000
(110,000)
33,000
- (183,000)
$
0
$
0

Producing Departments
Mixing
Packaging
$100,000
$280,000
38,500
38,500
45,750
137,250
$184,250
$455,750

based on payroll:
Power = 90,000/(90,000+105,000+105,000) = 0.30
Mixing = 105,000/(90,000 + 105,000+105,000) = 0.35
Packaging = 105,000/(90,000 + 105,000+105,000) = 0.35
2
based on kilowatt hours:
Mixing = 15,000/(15,000+45,000) = 0.25
Packaging = 45,000/(15,000+45,000) = 0.75

Mixing: $184,250/20,000 = $9.21 per DLH

Packaging: $455,750/30,000 = $15.19 per DLH
The sequential method is more accurate than the direct method and less accurate
than the reciprocal method. The reason is that at least some support-department
reciprocity is accounted for using the sequential method, while none is recognized under the direct method.

202

720
A = $35,000 + 0.3B
B = $40,000 + 0.2A
A=
A=
0.94A =
A=

$35,000 + 0.3($40,000 + 0.2A)

$47,000 + 0.06A
$47,000
$50,000

B = $40,000 + 0.2($50,000)
B = $50,000
Allocation ratios (ratios for D obtained by plugging):
Dept. A
Dept. B
*(1.0 0.2 0.2)
**(1.0 0.3 0.4)

Dept. A

0.3

Dept. B
0.2

Allocate A:
(0.2 $50,000)
(0.6 $50,000)
Allocate B:
(0.4 $50,000)
(0.3 $50,000)

Dept. C
0.2
0.4

Dept. D
0.6*
0.3**

Dept. C

Dept. D

$10,000
$30,000
20,000
15,000

203

721
1.

General
Factory
$ 230,000

HR
Grinding
Assembly
Direct costs
$ 70,000
$ 63,900
$ 39,500
Allocate:
HR 1
(70,000)

14,000
56,000
Gen. Factory2

(230,000)
57,500
172,500
Total OH
$
0
$
0
$135,400
$268,000
1
based on payroll: 20,000/(20,000+80,000)=20%; 80,000/(20,000+80,000)=80%
2
based on square feet: 2,000/(2,000+6,000)=25%; 6,000/(2,000+6,000)=75%
2.

Grinding OH rate: $135,400/4,000 = $33.85 per MHr

Assembly OH rate: $268,000/80,000 = $3.35 per DLH

3.

Prime costs
Grinding (1 $33.85)
Assembly (12 $3.35)
Unit product cost

$123.00
33.85
40.20
$197.05

722
1.

General
Factory
$ 230,000

HR
$ 70,000

Direct costs
Allocate:
Gen. Factory1
76,667
(230,000)
HR 2
(146,667)

$
0
Total OH
$
0
1
HR = 4,000/(4,000+2,000+6,000)=33.33%
Grinding = 2,000/(4,000+2,000+6,000)=16.67%
Assembly = 6,000/(4,000+2,000+6,000)=50%
2
Grinding = 20,000/(20,000+80,000)=20%
Assembly = 80,000/(20,000+80,000)=80%

Grinding
$ 63,900

Assembly
$ 39,500

38,333
29,333
$131,566

115,000
117,334
$271,834

2.

Grinding OH rate: $131,566/4,000 = $32.89 per MHr (rounded)

Assembly OH rate: $271,834/80,000 = $3.40 per DLH (rounded)

3.

Prime cost
$123.00
Grinding (1 $32.89)
Assembly (12 $3.40)
Unit product cost

32.89
40.80
$196.69

723
204

1.

HR
0.3333
GF-square feet1
HR-direct labor hrs2

GF

0.0991

Grinding
0.1667
0.1802

Assembly
0.5000
0.7207

HR: 4,000/(4,000+2,000+6,000) = 0.3333

Grinding: 2,000/(4,000+2,000+6,000) = 0.1667
Assembly: 6,000/(4,000+2,000+6,000) = 0.5000
2
Allocation ratios for HR based on payroll :
General Factory: 11,000/(11,000+20,000+80,000) = 0.0991
Grinding: 20,000/(11,000+20,000+80,000) = 0.1802
Assembly: 80,000/(11,000+20,000+80,000) = 0.7207
HR = $70,000 + 0.3333GF
GF = $230,000 + 0.0991HR
GF = $230,000 + 0.0991($70,000 + 0.3333GF)
0.967GF = $236,937
GF = $245,023
HR = $70,000 + 0.3333GF
HR = $70,000 + 0.3333($245,023)
HR = $151,666

Direct costs
Allocate:
HR
GF
Total OH

HR
$ 70,000

General
Factory
$ 230,000

Grinding
$ 63,900

Assembly
$ 39,500

(151,666)
81,666
$
0

15,030
(245,023)
$
7*

27,330
40,845
$132,075

109,306
122,512
$271,318

*Difference due to rounding.

2.

Grinding OH rate: $132,075/4,000 = $33.02 per MHr*

Assembly OH rate: $271,318/80,000 = $3.39 per DLH*
*Rounded

3.

Prime costs
Grinding (1 $33.02)
Assembly (12 $3.39)
Unit product cost

$123.00
33.02
40.68
$196.70

205

724
1.
Alpha
Beta
Gamma
Total

Units
12,500
17,500
20,000
50,000

Percent
0.25
0.35
0.40

Joint Cost
$125,000
125,000
125,000

Allocated Joint Cost

$31,250
43,750
50,000
$125,000

2.
Alpha
Beta
Gamma
Total

Units
12,500
17,500
20,000
50,000

Price at
Split-off
$20
50
18

Market Value
at Split-off
$ 250,000
875,000
360,000
$1,485,000

206

Joint
Percent
Cost
0.1684 $125,000
0.5892
125,000
0.2424
125,000

Allocated
Cost
$ 21,050
73,650
30,300
$125,000

PROBLEMS
725
1.

Direct method:
Direct costs
Allocate:
Delivery1
Accounting2
Total

Delivery
$240,000
(240,000)
-$
0

Accounting Laboratory
$270,000
$345,000
-(270,000)
$
0

144,000
175,500
$664,500

Tissue
Pathology
$456,000
96,000
94,500
$646,500

Laboratory: 70,200/(70,200+46,800) = 0.60

Tissue Pathology: 46,800/(70,200+46,800) = 0.40
2
Laboratory: 24,700/(24,700+13,300) = 0.65
Tissue Pathology: 1,3,300/(24,700+13,300) = 0.35

2.

Sequential method

Direct costs
Allocate:
Accounting1
Delivery2
Total

Delivery
$ 240,000

Accounting
$ 270,000

Laboratory
$345,000

Tissue
Pathology
$456,000

13,500
(253,500)
$
0

(270,000)
0
$
0

166,725
152,100
$663,825

89,775
101,400
$647,175

Delivery: 2,000/(2,000+24,700+13,300) = 0.050

Laboratory: 24,700/(2,000+24,700+13,300) = 0.6175
Tissue Pathology: 13,300/(2,000+24,700+13,300) = 0.3325

Laboratory: 70,200/(70,200+46,800) = 0.60

Tissue Pathology: 46,800/(70,200+46,800) = 0.40

207

726
1.

a. Direct method
Maintenance
$320,000

Power
$400,000

Direct costs
Allocate:
Maintenance1
(320,000)
0
2
Power
0
(400,000)
Total
$
0
$
0
1
Drilling: 30,000/(30,000+7.500) = 0.80
Assembly: 7,500/(30,000+7,500) = 0.20
2
Drilling: 36,000/(36,000+324,000) = 0.10
Assembly: 324,000/(36,000+324,000) = 0.90
Drilling: $459,000/30,000 = $15.30 per MHr
Assembly: $514,000/40,000 = $12.85 per DLH
Prime costs
Drilling (2 $15.30)
Assembly (50 $12.85)
Total cost
Markup (15%)
Bid price

$1,817.00
30.60
642.50
$2,490.10
373.52
$2,863.62

208

Drilling
$163,000

Assembly
$ 90,000

256,000
40,000
$459,000

64,000
360,000
$514,000

726

Continued

b. Reciprocal method
Maintenance

0.100

Machine hours
Kilowatt-hours2

Power
0.375

Drilling
0.500
0.090

Assembly
0.125
0.810

Power: 22,500/(22,500+30,000+7.500) = 0.375

Drilling: 30,000/(22,500+30,000+7.500) = 0.500
Assembly: 7,500/(22,500+30,000+7,500) = 0.125
2
Maintenance: 40,000/(40,000+36,000+324,000) = 0.100
Drilling: 36,000/(40,000+36,000+324,000) = 0.090
Assembly: 324,000/(40,000+36,000+324,000) = 0.810
M=
P=
M=
M=
0.9625M =
M=
P=
P=
P=
P=

$320,000 + 0.1P
$400,000 + 0.375M
$320,000 + 0.1($400,000 + 0.375M)
$320,000 + $40,000 + 0.0375M
$360,000
$374,026
$400,000 + 0.375M
$400,000 + 0.375($374,026)
$400,000 + $140,260
$540,260

Direct cost
Allocate:
Maintenance
Power
Total

Maintenance
$320,000

Power
$400,000

Drilling
$163,000

Assembly
$90,000

($374,026)
54,026
$
0

140,260
(540,260)
$
0

187,013
48,623
$398,636

46,753
437,611
$574,364

Drilling: $398,636/30,000 = $13.29 per MHr (rounded)

Assembly: $574,364/40,000 = $14.36 per DLH (rounded)
Prime costs
Drilling (2 $13.29)
Assembly (50 $14.36)
Total cost
Markup (15%)
Bid price

$1,817.00
26.58
718.00
$2,561.58
384.24
$2,945.82

2. The reciprocal method is more accurate, as it takes into account the use of
support departments by other support departments.

209

727
1.

a. Sequential method: Allocate Maintenance first, then Power

Direct costs
Allocate:
Maintenance1
Power2
Total

Maintenance
$ 320,000

Power
$ 400,000

Drilling
$163,000

Assembly
$ 90,000

(320,000)
0
$
0

120,000
(520,000)
$
0

160,000
52,000
$375,000

40,000
468,000
$598,000

Power: 22,500/(22,500+30,000+7.500) = 0.375

Drilling: 30,000/(22,500+30,000+7.500) = 0.500
Assembly: 7,500/(22,500+30,000+7,500) = 0.125
2
Drilling: 36,000/(36,000+324,000) = 0.100
Assembly: 324,000/(36,000+324,000) = 0.900
Drilling: $375,000/30,000 = $12.50 per MHr
Assembly: $598,000/40,000 = $14.95 per DLH
Prime costs
Drilling (2 $12.50)
Assembly (50 $14.95)
Total cost
Markup (15%)
Bid price

$1,817.00
25.00
747.50
$2,589.50
388.43
$2,977.93

210

727

Concluded

b. Sequential method: Allocate Power first, then Maintenance

Direct costs
Allocate:
Power1
Maintenance2
Total

Maintenance
$ 320,000
40,000
(360,000)
$
0

Power
$ 400,000

Drilling
$163,000

Assembly
$ 90,000

(400,000)
0
$
0

36,000
288,000
$487,000

324,000
72,000
$486,000

Maintenance: 40,000/(40,000+36,000+324,000) = 0.10

Drilling: 36,000/(40,000+36,000+324,000) = 0.09
Assembly: 324,000/(40,000+36,000+324,000) = 0.81
2
Drilling: 30,000/(30,000+7.500) = 0.80
Assembly: 7,500/(30,000+7,500) = 0.20
Drilling: $487,000/30,000 = $16.23 per MHr (rounded)
Assembly: $486,000/40,000 = $12.15 per DLH
Prime costs
Drilling (2 $16.23)
Assembly (50 $12.15)
Total cost
Markup (15%)
Bid price
2.

$1,817.00
32.46
607.50
$2,456.96
368.54
$2,825.50

Yes, there is a difference in the bids. Ranking Maintenance first results in a higher
dollar allocation to Power ($120,000) than the allocation from Power to Maintenance ($40,000). Then, the greater usage of Power by Assembly results in a higher
allocation to Assembly when Maintenance is ranked first. Thus, the ranking of
Maintenance first gives a greater chance for support-department interaction to be
reflected in the ultimate overhead rates. (These results can be compared with the
results using the reciprocal method in Problem 726.)

211

728
1.
Two Oil
Six Oil
Distillates
Total

Units
300,000
240,000
120,000
660,000

Percent
0.4545
0.3636
0.1818

Joint Cost
$10,000,000
10,000,000
10,000,000

Allocated Joint Cost

$4,545,000
3,636,000
1,818,000
$9,999,000

2.
Units

Price at
Split-off

Market Value
at Split-off

300,000

$20

$6,000,000

Six Oil
240,000
Distillates 120,000
Total
660,000

30
15

7,200,000
1,800,000
$15,000,000

Two Oil

212

Percent

Joint
Cost

Allocated
Cost

0.4000 $10,000,000 $4,000,000

0.4800 10,000,000
0.1200 10,000,000

4,800,000
1,200,000
$10,000,000

729
1.

Fixed cost allocation (direct method):

Cost driver
Employees1
Items processed2
Square feet3
Machine hours4

Mixing
0.400
0.329
0.444
0.200

Allocation Ratios
Cooking
Packaging
0.200
0.400
0.318
0.353
0.333
0.222
0.500
0.300

Mixing = 20/(20+10+20) = 0.40

Cooking = 10/(20+10+20) = 0.20
Packaging = 20/(20+10+20) = 0.40
2
Mixing = 2,800/(2,800+2,700+3,000) = 0.329
Cooking = 2,700/(2,800+2,700+3,000) = 0.318
Packaging = 3,000/(2,800+2,700+3,000) = 0.353
3
Mixing = 40,000/(40,000+30,000+20,000) = 0.444
Cooking = 30,000/(40,000+30,000+20,000) = 0.333
Packaging = 20,000/(40,000+30,000+20,000) = 0.222
4
Mixing = 4,000/(4,000+10,000+6,000) = 0.20
Cooking = 10,000/(4,000+10,000+6,000) = 0.50
Packaging = 6,000/(4,000+10,000+6,000) = 0.30

213

7-29 continued
Cafeteria and personnel are allocated using number of employees; custodial services
using square feet; maintenance using machine hours; and cost accounting using
items processed.
Mixing
Cafeteria:
(0.4 $20,000)
(0.2 $20,000)
(0.4 $20,000)
Personnel:
(0.4 $70,000)
(0.2 $70,000)
(0.4 $70,000)
Custodial Services:
(0.444 $80,000)
(0.333 $80,000)
(0.222 $80,000)
Maintenance:
(0.2 $100,000)
(0.5 $100,000)
(0.3 $100,000)
Cost Accounting:
(0.329 $130,000)
(0.318 $130,000)
(0.353 $130,000)
Direct costs
Total

Cooking

Packaging

8,000
$

4,000
$

8,000

28,000
14,000
28,000
35,520
26,640
17,760
20,000
50,000
30,000
42,770
41,340
120,000
$254,290

214

60,000
$195,980

45,890
25,000
$154,650

729

Continued

Variable cost allocation (direct method):

Cafeteria:
Personnel:
Maintenance:
Cost Accounting:

$40,000/50 = $800/employee
$20,000/50 = $400/employee
$100,000/20,000 = $5/machine hour
$16,500/8,500 = $1.94*/item processed
Mixing

Cafeteria:
($800 20)
($800 10)
($800 20)
Personnel:
($400 20)
($400 10)
($400 20)
Maintenance:
($5 4,000)
($5 10,000)
($5 6,000)
Cost Accounting:
($1.94 2,800)
($1.94 2,700)
($1.94 3,000)
Direct costs
Total

Cooking

Packaging

$16,000
$ 8,000
$16,000
8,000
4,000
8,000
20,000
50,000
30,000
5,432
5,238
20,000
$69,432

*Rounded

215

10,000
$77,238

5,820
40,000
$99,820

729
2.

Continued

Fixed overhead rates:

Mixing:
$254,290/30,000 = $8.48 per DLH*
Cooking:
$195,980/10,000 = $19.60 per MHr*
Packaging: $154,650/50,000 = $3.09 per DLH*
Variable overhead rates:
Mixing:
$69,432/30,000 = $2.31 per DLH*
Cooking:
$77,238/10,000 = $7.72 per MHr*
Packaging: $99,820/50,000 = $2.00 per DLH*
*Rounded

3.

Sequential method:
Fixed cost allocation ratios (descending order of magnitude):
Maint. Custod. Pers.
Cafe.
Mix.
Cost Driver*
Items
0.200
0.016
0.080
0.024
0.224
Machine hours
0.200
Square feet

0.069
0.049
0.392
Employees (1)

0.091
0.364
Employees (2)

0.400

Cook.
0.216
0.500
0.294
0.182
0.200

Pack.
0.240
0.300
0.196
0.364
0.400

*Note: Items are used to allocate accounting costs; machine hours to allocate
maintenance; square feet to allocate custodial services; and employees to allocate both personnel costs and cafeteria costs.

216

729

Continued

Allocation of fixed costs (expressed in thousands of dollars):

Pers.
Cafe.
Mixing Cooking Packaging
Main. Cust.
Direct costs $100 $80.000 $70.000 $20.000 $120.000 $60.000 $25.000
Accounting:
(0.200 $130)
26
(0.016 $130)
2.080
(0.080 $130)
10.400
(0.024 $130)
3.120
(0.224 $130)
29.120
(0.216 $130)
28.080
(0.240 $130)
31.200
Maintenance:
(0.2 $126)
25.200
(0.5 $126)
63.000
(0.3 $126)
37.800
Custodial:
(0.069 $82.08)
5.664
(0.049 $82.08)
4.022
(0.392 $82.08)
32.175
(0.294 $82.08)
24.132
(0.196 $82.08)
16.088
Personnel:
(0.091 $86.064)
7.832
(0.364 $86.064)
31.327
(0.182 $86.064)
15.664
(0.364 $86.064)
31.327
Cafeteria:
(0.4 $34.974)
13.990
(0.2 $34.974)
6.995
(0.4 $34.974)
13.990
Total
$251.812 $197.871 $155.405
Note: Total of post-allocation fixed costs does not equal pre-allocation total due
to rounding error.

217

729

Continued

Allocation ratios for variable costs:

Cost
Personnel Accounting
Cost Driver
Machine hours
Employees (1)
0.137
0.178
Employees (2)
0.206
Items

Mixing
0.200
0.274
0.317
0.329

Cooking
0.500
0.137
0.159
0.318

Packaging
0.300
0.274
0.317
0.353

Note 1: Custodial services was not included as it had no direct variable costs.
Note 2: The order of allocation was based on the magnitude of direct variable
costs as follows: maintenance, cafeteria, personnel, and cost accounting.
Note 3: Employees is the base for allocating cafeteria and personnel. Employees
(1) pertains to cafeteria and employees (2) to personnel.

218

729

Continued

Allocation of variable costs:

Direct costs
Maintenance:
(0.200 $100,000)
(0.500 $100,000)
(0.300 $100,000)
Cafeteria:
(0.137 $40,000)
(0.178 $40,000)
(0.274 $40,000)
(0.137 $40,000)
(0.274 $40,000)
Personnel:
(0.206 $25,480)
(0.317 $25,480)
(0.159 $25,480)
(0.317 $25,480)
Accounting:
(0.329 $28,869)
(0.318 $28,869)
(0.353 $28,869)
Total

Cafe.
$40,000

Pers. Cost Acc. Mixing

Cook.
Pack.
$20,000 $16,500 $20,000 $10,000 $40,000
20,000
50,000
30,000
5,480
7,120
10,960
5,480
10,960
5,249
8,077
4,051
8,077
9,498
9,180
10,191
$68,535 $78,711 $99,228

Note: Total of post-allocation variable costs does not equal pre-allocation

total due to rounding error.

219

729
4.

Concluded

Overhead rates:
Fixed rates:
Mixing:
Cooking:
Packaging:

$251,812/30,000 = $8.39 per DLH*

$197,871/10,000 = $19.79 per MHr*
$155,405/50,000 = $3.11 per DLH*

Variable rates:
Mixing:
$68,535/30,000 = $2.28 per DLH*
Cooking:
$78,711/10,000 = $7.87 per MHr*
Packaging: $99,228/50,000 = $1.98 per DLH*
*Rounded
5.

Selling price computation:

a. With direct method:
Prime costs
Overhead*
Total costs
Markup (30%)
Price

$ 60,000
77,220
$137,220
41,166
$178,386

*($8.48 + $2.31)1,000 + ($19.60 + $7.72)1,500 + ($3.09 + $2.00)5,000

b. With sequential method:
Prime costs
$ 60,000
Overhead*
77,610
Total costs
$137,610
Markup (30%)
41,283
Price
$178,893
*($8.39 + $2.28)1,000 + ($19.79 + $7.87)1,500 + ($3.11 + $1.98)5,000
The methods assign costs differently and produce different prices for the batch
of chocolate bars. The difference in price is over $500. This amount could be significant, depending on the competitive conditions facing the firm. Assuming that
the sequential method provides more accurate cost assignments, this method
should be used if the increased accuracy is important for the firms well-being.
Otherwise, the firm should use the much simpler direct method.

220

730
1.

Baton Rouge ($781,000/$4,641,000)($146,500)*

Kilgore
($750,000/$4,641,000)($146,500)
Longview
($912,000/$4,641,000)($146,500)
Paris
($1,098,000/$4,641,000)($146,500)
Shreveport ($1,100,000/$4,641,000)($146,500)

= $24,653
= $23,675
= $28,789
= $34,660
= $34,723

*($18)(4,250) + $70,000 = $146,500

2.

Share of Purchasing Department fixed costs based on 2005 revenues:

Baton Rouge
($675,000/$4,500,000)($70,000) = $10,500
Kilgore
($720,000/$4,500,000)($70,000) = $11,200
Longview
($900,000/$4,500,000)($70,000) = $14,000
Paris
($1,125,000/$4,500,000)($70,000) = $17,500
Shreveport
($1,080,000/$4,500,000)($70,000) = $16,800
Baton Rouge
Kilgore
Longview
Paris
Shreveport

3.

Variable Cost
($18)(1,475)
($18)(1,188)
($18)(500)
($18)(525)
($18)(562)

= $26,550
= $21,384
= $9,000
= $9,450
= $10,116

+
+
+
+
+
+

Fixed Cost
$10,500
$11,200
$14,000
$17,500
$16,800

=
=
=
=
=
=

Total
$37,050
$32,584
$23,000
$26,950
$26,916

Method 2 allocates cost on the basis of the cost driver which causes it and would
be more likely to encourage managers to use Purchasing Department time efficiently. Method 1 assigns purchasing costs according to a base that may not be
causally related. Therefore, an apartment complex with stable rentals from one
year to the next may still experience wild fluctuations in allocated cost due to
changing rental patterns of other apartment complexes.

221

731
1.
Direct overhead
Maintenance:
(1/8)($500,000)
(7/8)($500,000)
Power:
(1/6)($225,000)
(5/6)($225,000)
Setups:
(40/200)($150,000)
(160/200)($150,000)
General Factory:
(0.272)($625,000)
(0.728)($625,000)
Total

Department A
$200,000

Department B
$ 800,000

62,500
437,500
37,500
187,500
30,000
120,000
170,000
$500,000

455,000
$ 2,000,000

Dept. A overhead rate: $500,000/200,000 = $2.50 per DLH

Dept. B overhead rate: $2,000,000/120,000 = $16.67 per MHr (rounded)

222

731
2.

Continued

Allocation order: General Factory, Maintenance, Power, Setups, A, and B

Allocation Ratios
Maint.
Power
Setups
Dept. A
Dept. B
G.F.

0.125
0.200
0.025
0.177
0.473

0.150
0.050
0.100
0.700

0.167
0.833

0.200
0.800
G.F.
Maint.
Power
Setups
Dept. A
Dept. B
Direct $ 625,000 $ 500,000 $ 225,000 $ 150,000 $200,000 $ 800,000
G.F.
(625,000)
78,125
125,000
15,625
110,625
295,625
Maint.

(578,125)
86,719
28,906
57,813
404,687
Power

(436,719)

72,932
363,787
Setups

(194,531)
38,906
155,625
Total
$
0 $
0 $
0 $
0 $480,276
$2,019,724
Alloc. from:
G.F.
Maint.
Power
Setups

Dept. A overhead rate: ($480,276/200,000) = $2.40 per DLH*

Dept. B overhead rate: ($2,019,724/120,000) = $16.83 per MHr*
*Rounded
Prime cost
Overhead:
($2.40 5,000)
($16.83 500)
($2.40 400)
($16.83 3,000)
$140,415
Markup (50%)
Total bid revenue
Units
Bid price

Job SS
$120,000

Job TT
$ 50,000

12,000
8,415
960
50,490
$101,450
70,208
$210,623
14,400
$ 14.63

50,725
$152,175
1,500
$ 101.45

Although the difference is small, it appears to make the bids more attractive.
3.

The use of the sequential method to allocate support-department costs to producing departments gives more accurate overhead rates.

4.

If the best competing bid was $4.10 lower than the original bid, then it would be
$14.65. In this case, the sequential method of allocating overhead costs would
provide a bid ($14.63) that is just below the competing bid. Since the sequential
method is more accurate, the $14.63 bid is a good one.

223

MANAGERIAL DECISION CASES

732
1.

Emmas argument about the arbitrary nature of allocations has little merit. Even if
the allocation is arbitrary, changing it to exploit a customer is wrong. Many allocations, however, are based on causal factors and reflect the consumption of resources. If we accept cause and effect as a reasonable criterion for allocation,
then switching to a factor that is less related to overhead consumption certainly
will increase the inaccuracy of the product cost. Emma should price the new order using the most accurate cost information available. Thus, the current allocation scheme should be maintained.

2.

The controller (Lenny) should refuse to change the allocation method and make
every attempt to tactfully convince Emma of the impropriety of the recommended
action. Often, a simple comment questioning the propriety of an action is sufficient to dissuade. According to the IMA Statement of Ethical Professional Practice, accountants should refrain from engaging in any conduct that would prejudice carrying out duties ethically. (III-2) The accountant should also abstain from
engaging in or supporting any activity that might discredit the profession. (III-3)
By changing allocation procedures, the controller would obtain personal gain (a
bonus) from unethical means. Furthermore, Lenny has an obligation to communicate information fairly and objectively (IV-1). Choosing an allocation method that
is known to be less accurate is not consistent with this requirement.

3.

Lenny should pursue all levels of internal review until a satisfactory resolution is
achieved. Then, after exhausting all levels of internal review, Lenny should submit his resignation.

4.

Reacting with anger and contacting the customer was not an appropriate action
(as defined by the code for management accountants). According to the code,
Except where legally prescribed, communication of such problems to authorities
or individuals not employed or engaged by the organization is not considered appropriate.

224

733
1.

Variable maintenance: $246,667/3,700 = $66.67*/flying hour

Allocation Ratios for Fixed Costs
206B
206L-1
500D
0.32432
0.43243
0.24324
0.33333
0.33333
0.33333
0.32432
0.43243
0.24324

Maintenance
Hangar rent
Administrative
Alloc. of fixed costs:
Maintenancefixed:
(0.32432 $26,000)
(0.43243 $26,000)
(0.24324 $26,000)
Hangar rent:
(0.33333 $18,000)
(0.33333 $18,000)
(0.33333 $18,000)
Administrative:
(0.32432 $110,000)
(0.43243 $110,000)
(0.24324 $110,000)
Total fixed costs

500D

206B

206L-1

$ 8,432
$11,243
$ 6,324
6,000
6,000
6,000
35,675
47,567
$50,107

Indirect fixed costs per unit:

500D: $50,107/1,200 = $41.76* per hour
206B: $64,810/1,600 = $40.51* per hour
206L-1: $39,080/900 = $43.42* per hour
*Rounded

225

$64,810

26,756
$39,080

733

Continued
500D
$ 77.70*
25.54*
41.76
66.67
$211.67
31.75
$243.42
211.67
$ 31.75

Direct costsfixed*
Direct costsvariable**
Overheadfixed
Overheadvariable
Cost per unit
Markup* (15%)
Bid price
Less cost
Profit/hour

206B
$ 58.88*
23.96*
40.51
66.67
$190.02
28.50
$218.52
190.02
$ 28.50

206L-1
$195.41*
110.28*
43.42
66.67
$415.78
62.37
$478.15
415.78
$ 62.37

*Total direct fixed costs/Flying hours

**Total direct variable costs/Flying hours
Original expected profit (uses the original hours and the above bid prices and unit
variable costs):
Revenues:
1,200 $243.42 = $292,104
,600 $218.52 =
349,632
900 $478.15 =
430,335
Less variable costs
Contribution margin
Less direct fixed expenses
Less indirect fixed expenses
Income before taxes

$ 1,072,071
414,903
$ 657,168
(363,315)
(154,000)
$ 139,853

Note: The answer can also be obtained by multiplying the profit per hour for each
helicopter by the original hours and summing. (Any slight difference is due to
rounding error.)
*Rounded

226

733
2.

Continued

The actual revenues earned (for the first six months) were as follows:
299 $243.42 = $ 72,783
160 $218.52 =
34,963
204 $478.15 =
97,543
$205,289
Actual costs incurred:
Direct costsfixed*
Direct costsvariable**
Overheadvariable***
Indirect fixed costs*
Total

500D
$46,623
7,636
19,934

206B
$47,100
3,834
10,667

206L-1
$87,935
22,497
13,601

*Half of total annual costs

**Per-unit variable costs Actual flying hours
***Per-unit variable cost ($66.67) Actual flying hours
Income statement:
Revenue
Variable costs
Contribution margin
Fixed costs
Loss

$ 205,289
78,169
$ 127,120
258,658
$(131,538)

Profit that should have been earned (for the first six months):
Profit per hour
50% of projected hours

500D
$ 31.75

600
$ 19,050

206B
$ 28.50

800
$ 22,800

Total profit: $69,917 ($19,050 + $22,800 + $28,067)

227

206L-1
$ 62.37

450
$ 28,067

Total
$181,658
33,967
44,202
77,000
$336,827

733
3.

Continued

Revenue:
450 $243.42 =
600 $218.52 =
800 $478.15 =

$109,539
131,112
382,520
$623,171

Costs:
500D
$ 93,245
11,493
50,107
30,002
$184,847

Direct costsfixed
Direct costsvariable
Overheadfixed
Overheadvariable
Total

206B
$ 94,200
14,376
64,810
40,002
$213,388

206L-1
$175,870
88,224
39,080
53,336
$356,510

Total
$363,315
114,093
153,997
123,340
$754,745

Income statement:
Revenue
Variable costs
Contribution margin
Fixed costs
Loss
4.

$ 623,171
237,433
$ 385,738
517,312
$(131,574)

Variable maintenance: $246,667/3,700 = $66.67 per flying hour

Allocation ratios for fixed costs (based on revised hours):
Maintenance
Hangar rent
Administrative

500D
0.24324
0.33333
0.24324

206B
0.32432
0.33333
0.32432

206L-1
0.43243
0.33333
0.43243

500D
$ 6,324
6,000
26,756
$39,080

206B
$ 8,432
6,000
35,675
$50,107

206L-1
$11,243
6,000
47,567
$64,810

Allocation of fixed costs:

Maintenancefixed
Hangar rent
Administrative
Total fixed costs

228

733

Concluded

500D: $39,080/450 = $86.84* per hour

206B: $50,107/600 = $83.51* per hour
206L-1: $64,810/800 = $81.01* per hour
*Rounded
Direct costsfixed*
Direct costsvariable**
Overheadfixed
Overheadvariable
Cost per unit

500D
$207.21
25.54
86.84
66.67
$386.26

206B
$157.00
23.96
83.51
66.67
$331.14

206L-1
$219.84
110.28
81.01
66.67
$477.80

*Direct fixed costs/Revised flying hours

**Direct variable costs/Original flying hours
Revenues needed
= Total costs for revised hours + Original profit
= [($386.26 450) + ($331.14 600) + ($477.80 800)] + $139,853
= $754,741 + $139,853
= $894,594
Let m = Markup
Revenues needed = (1 + m)(Total costs for revised hours)
= (1 + m)($754,741)
$894,594 = (1 + m)($754,741)
1 + m = $894,594/$754,741
1 + m = 1.185
m = 0.185
Thus, the revised prices are as follows:
500D: (1.185)($386.26) = $457.72* per hour
206B: (1.185)($331.14) = $392.40* per hour
206L-1: (1.185)($477.80) = $566.19* per hour
*Rounded

229

RESEARCH ASSIGNMENTS
734
Answers will vary.

735
Answers will vary.

230