MANAGERIAL ACCOUNTING

TOPIC:

Allocation of Support Activity

Costs And Joint Costs
PRESENTED TO:

MAM UMMARA SAHER

PRESENTED BY:

ASIM RAFIQUE
S/2014-1018
CLASS:

MBE3

OUTLINES

Allocate service department costs trough different

methods.
Dual approach to service department cost allocation.
Difference between two-stage cost allocation with
departmental overhead rates and ABC.
Allocate join costs among joint products using some
techniques.
Purposes for which joint cost allocation is useful
and for which it is not.

Learning
Objective
1

McGraw-Hill/Irwin

Copyright 2009 by The McGraw-Hill Companies, Inc. All

Service Department Cost

Allocation
support

Service
Departments

Provide support
that facilitates the
activities of production
departments.

Production
Departments
Carry out the
central purposes
of an organization.

17-4

GOAL OF COST ALLOCATION

The goal of cost allocation is to ensure that all costs

incurred by the organization ultimately are assigned to its
products or services.

Service department cost allocation

Joint product cost allocation

SERVICE DEPARTMENT COST ALLOCATION

The cost of running a service department is part of the cost

incurred by organization in producing goods or services. In
order to determine the cost of those goods or services, all
service departments costs must be allocated to the
production departments in which the goods or services are
produced.

COST ALLOCATION PROCESS

1Service Depts.

Manufacturing
Machinery Repair
Factory Custodial
service dept.
Overhead distribution
Dept.
(Service depts. costs are allocated to
production dept.) 2

3
Stage(Allocation)
nd

Production Depts.
Machining
dept.

Production department
Overhead Application 3
overhead costs, plus
allocated service
department costs,(All
are costs accumulated in
applied
production
to products
departments
using
are
departmental
applied to products.)
predetermined overhead

Assembly
dept.

the

ALLOCATION PROCESS

1.

2.

3.

There are three types of allocation process:

Cost distribution: Cost in various cost pools are
distributed to all departments(service and production).
Service department cost allocation: costs are
allocated to corresponding production departments
according to usage.
Cost application: Costs are assigned to the goods or
services produced.

SELECTING ALLOCATION BASES

Personnel:
Number of
employees

Typical
Allocation
Bases

Receiving:
Units
handled
Security:
Square
footage

Custodial:
Square
footage
Cafeteria:
Number of
employees

Accounting:
Staf
hours

Power:
Kilowatt
hours

A. Percentage of Service Output Consumed by Using Departments

Provider of service
----------------------------------------------------------------------------------------

User of service

Patient

Personnel

Records
Patient records.
Service depts.

Personnel .....

Administrative

and Accounting
---

5%

---

-----

5%

Adm. & A/c .. ---

20%

---

Direct-patient

Orthopedics 30%

25%

35%

Care depts.

Internal Medicines.

50%

60%

B. Allocation Bases
Service Department

70%

Allocation Base

Patient Records ............................................................... Annual patient load

Human Resources ........................................................... Number of employees
Administration and Accounting ......................................... Size of department
(measured in square
metres of space)

C. Service Department Costs

Service Departments

Variable Cost Fixed Cost Total Cost

to Be Allocated

Patient Records .......................................... $24,000

Human Resources ...................................... 15,000
Administration and Accounting ................. 47,500

$ 76,000
45,000
142,500

Total ............................................. $86,500 $263,500

$100,000
60,000
190,000

$350,000

METHODS
1. Direct Method:
In the direct method, we allocate the costs of each service dept. to their
production departments based on the percentage of use by each production
dept.

NOTE: The proportion of each service departments costs to be

allocated to each direct-patient-care department is determined by the
relative proportion of the service departments output consumed by each
direct-patient-care department.

Direct-Patient-Care Departments Using Services

Orthopaedics
Internal Medicine
Provider of Service
Cost
Proportion
Patient Records . ................. $100,000
30/100
Human Resources ............... 60,000 25/75
Adm. & Accounting .......... 190,000 35/95

Total ......................$350,000

Amount
Proportion
Amount
$ 30,000
70/100 $ 70,000
20,000
50/75
40,000
70,000
60/95 120,000

$120,000

$230,000

Grand total $350,000

This method ignores the fact

service departments provide
other service departments.

that some
services to

2. STEP-DOWN/TRICKLE DOWN METHOD

Under this method, the managerial accountant first
chooses
a sequence in which to allocate the service
departments
costs (2)
(3)
(1)
Patient
Human
Administratio
from
largest
service
provider
to
other
Service
and
Records
Resources
n
production depts.. & Accounting
Cost Allocated from This Service Dept.
To These
Departments

Human Resources ..........................................

Patient Records
Orthopaedics
Internal Medicine
Administration and Accounting ...........................
Internal Medicine
Patient Records ..................................................
Internal Medicine

Administration & Accounting

Orthopaedics
Orthopaedics

Notice that even though Administration and Accounting serves Human

Resources, there is no cost allocation in that direction after its costs have
been allocated to its lower ranked counterparts.

Service Department
Department
Human

Administration

Direct-Patient-Care
Orthopaedics

Patient Records

Internal
Resources

Costs prior to allocation ....... $60,000

Allocation of HR
Department costs ................ $60,000
$30,000

& Accounting

$190,000

Medicine

$100,000

12,000(20/100)
(5/100)
(25/100)

Allocation of Adm. &

Accounting Dept. costs ........................................$202,000

3,000
(50/100)

$15,000

74,421

127,579
(35/95)
(60/95)
Allocation of Patient
Records Department costs .........................................................
$103,000
30,900
72,100
(30/100)
(70/100)

Total cost allocated to

each department ............................................................................................ $120,321
$229,679
Total cost allocated
to direct-patient-care departments ...........................................................................
$350,000

RECIPROCAL-SERVICES METHOD

The direct method and the step-down

method both ignore the fact that the
Administration and Accounting
Department serves the Human
Resources Department. Neither of
these methods allocates any of the
costs incurred in Administration and
(H)
(R)
(A)
Accounting
back
to
Human
Resources.
Human
Patient
Administratio
Records

Resources

n
& Accounting

STEP TO SPECIFY A SET OF

EQUATIONS
The first step in the technique is to specify a set of
equations that express the relationships between the
departments.
R= 100,000+.05H
(1)
H= 60,000+.05A
(2)
A= 190,000+.20H
(3)
where
R denotes the total cost of the Patient Records Dept.
H denotes the total cost of the Human Resources
Dept.
A denotes the total cost of the Adm. and
Accounting Dept.

Lets begin by substituting the expression for A from

equation (3) into equation (2), and solving for H as follows:

H= 60000+.05(190000+.20H)
H= 60000+9500+.01
99H=69500 H=70,202
Then we substitute the value for H we just obtained
into equation (3), and solve for A as follows:
A=190 000+.20HA=204,040
Now we can solve for R by substituting the value for
H into equation (1) as follows:
R=100000+.05H R=103,510
Their sums add up to more than $350,000 because of
cross-allocations.

Service Department

Direct-Patient-Care

Department
Human

Administration

Patient Records

Orthopaedics

Internal
Resources
& Accounting
Traceable costs ....................$60,000

Allocation of HR
Dept.s costs ............................ (70,202)
$ 35,101 (.50) Allocation of Adm &
Accounting Dept. costs .................. 10,202 (.05)
122,424 (.60) Allocation of Patient
Records Dept.s costs ............................ 0 (0)
72,457 (.70) Total cost allocated to

Medicine

$190,000

14,040*(.20)
(204,040)
0 (0)

$100,000

3,510*(.05)
0 (0)
(103,510)

$ 17,551*(.25)

71,414 (.35)
31,053 (.30)

each department ............................................................................................

$120,018

$229,982

Total cost allocate

to direct-patient-care departments ...........................................................................

$350,000

DIRECT METHOD
Cost of services
between service
departments are
ignored and all
costs are
allocated directly
to production
departments.

Service
Department

Service
Department

Production
Department

Production
Department

STEP METHOD
Custodial will
have a new
total to allocate
to production
departments: its
own costs plus
those costs
allocated from
the cafeteria.

Service
Department

Service
Department

Production
Department

Production
Department

RECIPROCAL METHOD
Service
Department

Service
Department

Production
Department

Production
Department

Learning
Objective
2

McGraw-Hill/Irwin

Copyright 2009 by The McGraw-Hill Companies, Inc. All

DUAL ALLOCATION METHOD

Allocating fixed and variable costs
separately.
Variable
Fixed
Costs

Charge to production
departments at a
budgeted rate times
actual short-run usage
of the allocation base.

Costs
Allocate
budgeted amounts
to operating departments
in proportion to the
long-run average usage
of the allocation base.

DUAL COST ALLOCATION EXAMPLE

SimCo has a maintenance department and two production
departments: cutting and assembly. Variable maintenance
costs are budgeted at $0.60 per machine hour. Fixed
maintenance costs are budgeted at $200,000 per year.
Data relating to the current year are:

Production
Departments
Cutting
Assembly
Total

Long-run
Maintenance
Usage as a
% of Total
60%
40%
100%

Actual
Hours
Used
80,000
40,000
120,000

Allocate maintenance costs to the two operating departments.

DUAL COST ALLOCATION

EXAMPLE
Cutting
Department
Variable cost allocation:
$0.60 80,000 hours used
$0.60 40,000 hours used
Fixed cost allocation
60% of $200,000
40% of $200,000
Total allocated cost

Assembly
Department

48,000
$

24,000

80,000
104,000

120,000
$

168,000

Variable costs are allocated based on hours used.

Fixed costs are allocated based long-run average usage.

Learning
Objective
3

McGraw-Hill/Irwin

Copyright 2009 by The McGraw-Hill Companies, Inc. All

JOINT PRODUCT COST ALLOCATION

Concept:

In some industries, a number of products are

produced from a single raw material input.

Key terms:

Joint products products resulting from a

process with a common input.
Split-off point the stage of processing
where joint products are separated.
Joint product cost costs of processing joint
products prior to the split-off point.

JOINT PRODUCT COST ALLOCATION

Joint
Product
Costs
Joint
Input

Oil

Joint
Production
Process

Final
Sale

Separate
Processing Costs

Gasoline

Split-Off
Point

Separate
Processing

Separate
Processing

Separate
Processing Costs

Final
Sale

Learning
Objective
4

McGraw-Hill/Irwin

Copyright 2009 by The McGraw-Hill Companies, Inc. All

METHODS OF J.P.C.A
1.Physical-Units
Method

Allocation based on a
physical measure of the
joint products at the
split-off point.

2.Relative-SalesValue Method

Allocation based on
the relative values
of the products at
the split-off point.

3.Net-RealizableValue Method

Allocation based on
final sales values less
separable processing
costs.

PHYSICAL-UNITS METHOD
Joint conversion
cost = $225,000

Joint material
cost = $275,000

Oil

240,000 gallons

Gasoline

360,000 gallons

Joint
Production
Process

Split-Off
Point

PHYSICAL-UNITS METHOD
Product
Oil
Output quantities in gallons
Proportionate share:
240,000 600,000
360,000 600,000
Allocated joint costs:
$500,000 40%
$500,000 60%

240,000

Gasoline
360,000

40%
60%
$ 200,000
$ 300,000

$225,000 joint conversion cost plus

$275,000 joint material cost

Total
600,000

RELATIVE-SALES-VALUE METHOD
Joint conversion
cost = $225,000

Oil

$200,000
sales value at
split-off point

Gasoline

$600,000
sales value at
split-off point

Joint
Joint material
Production
cost = $275,000
Process

Split-Off
Point

RELATIVE-SALES-VALUE METHOD
Product
Oil
Sales value at split-off point
Proportionate share:
$200,000 $800,000
$600,000 $800,000
Allocated joint costs:
$500,000 25%
$500,000 75%

Gasoline

Total

$ 200,000 $ 600,000 $ 800,000

25%
75%
$ 125,000
$ 375,000

$225,000 joint conversion cost plus

$275,000 joint material cost

NET-REALIZABLE-VALUE METHOD
If products require further processing
beyond the split-of point before they
are marketable, it may be necessary to
estimate the net realizable value (NRV)
at the split-of point.

Estimated
NRV

Final
Sales
Value

Added
Processing
Costs

NET-REALIZABLE-VALUE METHOD
Joint conversion
cost = $225,000
Oil

Joint material
cost = $275,000

Joint
Production
Process

Separate
Processing Costs
$200,000
Gasoline

Split-Off
Point, Sales
Value Unknown

Sales
Value
$500,000

Separate
Processing

Separate
Processing

Sales
Value
$1,200,000

Separate
Processing Costs
$500,000

NET-REALIZABLE-VALUE METHOD
Product
Oil
Sales value
Less additional processing costs
Estimated NRV at split-off point
Proportionate share:
$300,000 $1,000,000
$700,000 $1,000,000
Allocated joint costs:
$500,000 30%
$500,000 70%

Gasoline

Total

$ 500,000 $ 1,200,000 $ 1,700,000

200,000
500,000
700,000
$ 300,000 $ 700,000 $ 1,000,000
30%
70%
$ 150,000
$ 350,000

Learning
Objective
5

McGraw-Hill/Irwin

Copyright 2009 by The McGraw-Hill Companies, Inc. All

PURPOSE FOR WHICH J.P.C.A IS

USEFULL & THOSE FOR WHICH IT IS
NOT

It is useful when finding costs for

It is useful when finding costs for
products
products
but
but
Not for making financial decisions.
Not for making financial decisions.

BY-PRODUCTS
Joint
Costs

Joint
Input

Joint
Production
Process

Major
Product

Major
Product

By-products

Split-Off
Point

Relatively low
value or quantity
when compared to
major products

METHODS
A common practice in accounting is to subtract
a by-products net realizable value from the cost
of the joint process. Then the remaining joint
cost is allocated among the major joint products.

An alternative procedure is to inventory the byproduct at its sales value at split off. Then the
by-products sales value is deducted from the
production cost of the main products.

END OF CHAPTER 18

18

THANK YOU

42