- costing systems - process costing - service department cost allocation

- Costing Systems - Process Costing- Service Department Cost Allocation

Chapter 3

Traditional Cost Management System

22

After reading this chapter, you will be able to:After reading this chapter, you will be able to:

understand job order costing systems understand job order costing systems understand how using job bid sheets is effective for estimating understand how using job bid sheets is effective for estimating product costs in a job order costing system product costs in a job order costing system use cost driver rates to apply support activity costs to products use cost driver rates to apply support activity costs to products discuss why cost systems with multiple cost driver rates give discuss why cost systems with multiple cost driver rates give different cost estimates than cost systems with a single rate different cost estimates than cost systems with a single rate evaluate a cost system to understand whether it is likely to distort evaluate a cost system to understand whether it is likely to distort product costs, explain the importance of recording actual costs, product costs, explain the importance of recording actual costs, and compare them with estimated costs and compare them with estimated costs appreciate the importance of conversion costs and the appreciate the importance of conversion costs and the measurement of costs in multistage continuous-processing measurement of costs in multistage continuous-processing industries industries understand the significance of differences between job order understand the significance of differences between job order costing and multistage-process costing systems costing and multistage-process costing systems understand the two-stage allocation process and service understand the two-stage allocation process and service department allocation methodsdepartment allocation methods

33

Cost Management Systems Cost Management Systems (1of2)(1of2)

Two cost management systems have been used Two cost management systems have been used traditionally to cost products and services traditionally to cost products and services

- Job order costing - Job order costing

- Process costing - Process costing

Many companies continue to use these two Many companies continue to use these two systems . systems .

Companies have been adopting activity based Companies have been adopting activity based costing (ABC) for product and customer costing. costing (ABC) for product and customer costing.

44

Cost Management SystemsCost Management Systems (2of2)(2of2)

AllAll costcost systems work in essentially the same systems work in essentially the same wayway: : - Expense categories are developed and then - Expense categories are developed and then

expenses are mapped to service departments, expenses are mapped to service departments,

production centers, or activities production centers, or activities

- Expenses are then attached to cost objects - Expenses are then attached to cost objects

TheThe way these links are made and the activities way these links are made and the activities defined is what differentiates these systems defined is what differentiates these systems

55

Job Order v. Process Costing SystemsJob Order v. Process Costing Systems

A A job order costing system job order costing system estimates the costs of estimates the costs of manufacturing products for different jobs required manufacturing products for different jobs required for specific customer orders for specific customer orders - Applicable in organizations that treat each individual - Applicable in organizations that treat each individual

job as a single unit of output job as a single unit of output

A A process costing system process costing system is applicable when all is applicable when all units produced during a specified time frame are units produced during a specified time frame are treated as one unit of output treated as one unit of output - Every unit made during the time period is essentially - Every unit made during the time period is essentially

identical identical

66

Need for Job Order Costing Need for Job Order Costing Products may differ Products may differ - Materials content - Materials content - Hours of labor required - Hours of labor required - Machine time required - Machine time required - Demand placed on support activity resources (i.e., - Demand placed on support activity resources (i.e.,

manufacturing overhead) manufacturing overhead) - Special customer needs that require customized - Special customer needs that require customized

production production

With such variety, managers need to understand With such variety, managers need to understand the costs of individual products so that they can the costs of individual products so that they can assess product and customer profitability assess product and customer profitability

77

The Cost Flow ModelThe Cost Flow Model

The cost flow model essentially uses an The cost flow model essentially uses an inventory concept to track costs inventory concept to track costs - Raw materials inventory - Raw materials inventory

- Work-in-process (WlP) inventory - Work-in-process (WlP) inventory Raw materials are transformed by labor and support Raw materials are transformed by labor and support resources resources

Costs of the resources for each job not yet completed Costs of the resources for each job not yet completed

- Finished goods inventory - Finished goods inventory

When the goods are sold, they are accounted for When the goods are sold, they are accounted for in the expense category Cost of Goods Sold in the expense category Cost of Goods Sold

88

Bidding Using Job Order Costing Bidding Using Job Order Costing Firms are sometimes required to bid on jobs Firms are sometimes required to bid on jobs before customers decide to place an order with before customers decide to place an order with them them

Costs need to be estimated for each job in order Costs need to be estimated for each job in order to prepare a bid to prepare a bid

Job order costing systems provide the means to Job order costing systems provide the means to estimate these costs estimate these costs

A A job bid sheet job bid sheet provides a format for recording provides a format for recording the estimated costs the estimated costs

99

Job Bid Sheet Job Bid Sheet (1of6)(1of6) Panel1 Panel1 identifies the customer, the product, identifies the customer, the product, and the number of units requiredand the number of units required

Bid Number: Bid Number: J4369 J4369 Date: Date: July 6, 2004 July 6, 2004 Customer: Customer: Michigan Motors Michigan Motors Product: Product: Automobile engine valves (Valve # L181) Automobile engine valves (Valve # L181)

Engineering Design Number: Engineering Design Number: JDR-I03 JDR-I03 Number of Units: Number of Units: 1,5001,500

1010

Job Bid Sheet Job Bid Sheet (2of6)(2of6)

Panel2Panel2 lists all the materials required to complete lists all the materials required to complete the job the job

MaterialsMaterials QuantityQuantity PricePrice AmountAmountBar steel stock 3“Bar steel stock 3“ 3,600 Ibs 3,600 Ibs $11.30 $40,680 $11.30 $40,680SubassemblySubassembly 1,500 Ibs $39.00 1,500 Ibs $39.00 $58,500$58,500Total direct materials Total direct materials $99,180 $99,180

1111


Panel Panel 3 lists the amount of direct labor required 3 lists the amount of direct labor required for the job for the job

Labor Labor HoursHours RateRate AmountAmount Lathe operators Lathe operators 480 $26.00 $12,480 480 $26.00 $12,480Assembly workers Assembly workers 900 900 $18.00 $18.00 $16,200$16,200

Total direct labor Total direct labor 1,380 $26,680 1,380 $26,680

1212


Panel Panel 4 contains estimates for cost driver costs 4 contains estimates for cost driver costs

Support Costs Support Costs AmountAmount 600 machine-hours @ $40/hour $24,000 600 machine-hours @ $40/hour $24,000 1,380 direct labor hours @$36/hour $1,380 direct labor hours @$36/hour $49,68049,680 Total support costs Total support costs $73,680$73,680

1313


Panel Panel 5 summarizes the total costs estimated for 5 summarizes the total costs estimated for the job the job

Direct material Direct material $99,180 $99,180 Direct labor Direct labor $28,680 $28,680 Support costs Support costs $$73,680 73,680 Total costs Total costs $201,540$201,540

1414


A markup rate is applied to translate the A markup rate is applied to translate the estimated cost into a bid priceestimated cost into a bid price

• • A 25% markup rate is assumed in this exampleA 25% markup rate is assumed in this example

Total costs Total costs $201,540 $201,540 Add 25% markup Add 25% markup $ $50,38550,385 Bid price Bid price $251,925$251,925Unit cost Unit cost $134.36 $134.36

Unit price Unit price $167.95$167.95

1515

Job Costs And MarkupJob Costs And Markup

The total job costs plus the margin equals the The total job costs plus the margin equals the bid price bid price

The markup rate depends on a variety of factors: The markup rate depends on a variety of factors: - The amount of support costs excluded from the cost - The amount of support costs excluded from the cost

driver rate driver rate

- The target rate of return desired by the corporation - The target rate of return desired by the corporation

- Competitive intensity - Competitive intensity

- Past bidding strategies adopted by key competitors - Past bidding strategies adopted by key competitors

- Demand conditions - Demand conditions

- Overall product-market strategies - Overall product-market strategies

1616

Determination Of Cost Driver Rates Determination Of Cost Driver Rates

Many firms now recognize that several Many firms now recognize that several different different factors may be driving support costs factors may be driving support costs rather than rather than one or even two factors, such as direct labor or one or even two factors, such as direct labor or machine hours machine hours - Firms are now taking greater care in identifying which - Firms are now taking greater care in identifying which

support costs should relate to what cost driver support costs should relate to what cost driver

1717

Cost Driver RatesCost Driver Rates

All costs associated with a cost driver, such as All costs associated with a cost driver, such as setup hours, are accumulated separately setup hours, are accumulated separately - Each subset of total support costs that can be - Each subset of total support costs that can be

associated with a distinct cost driver is referred to as associated with a distinct cost driver is referred to as a cost pool a cost pool

Each cost pool has a separate cost driver rateEach cost pool has a separate cost driver rate

Activity cost driver rate Activity cost driver rate

= Cost of support activity = Cost of support activity I I Level of cost driver Level of cost driver

1818

Stable Cost Driver Rates Stable Cost Driver Rates (1of2)(1of2)

The cost of the support activity is the cost The cost of the support activity is the cost of the resources committed to the of the resources committed to the particular activityparticular activity - The cost of a support activity excludes fluctuations in - The cost of a support activity excludes fluctuations in

costs caused by short-term adjustments such as costs caused by short-term adjustments such as overtime payments overtime payments

- The level of the support activity cost driver also - The level of the support activity cost driver also excludes short-term variations in demand as excludes short-term variations in demand as reflected in overtime or idle time reflected in overtime or idle time

1919

Stable Cost Driver Rates Stable Cost Driver Rates (2of2)(2of2)

The ratio shown in the previous equation is The ratio shown in the previous equation is based on costs and cost driver levels, the rate based on costs and cost driver levels, the rate remains stable over time: remains stable over time: - It does not fluctuate as activity levels change in the - It does not fluctuate as activity levels change in the

short run short run

- It does not change simply because of short-run - It does not change simply because of short-run changes in external factors that do not affect the changes in external factors that do not affect the efficiency or price of the activity resources efficiency or price of the activity resources

2020

Fluctuating RatesFluctuating Rates

For example, if the rate for machine costs is For example, if the rate for machine costs is based on quarterly cost driver levels instead of based on quarterly cost driver levels instead of the normal levels: the normal levels: - The rate increases as the demand for the machine - The rate increases as the demand for the machine

activity falls activity falls - The rate decreases as the demand increases - The rate decreases as the demand increases

In contrast, the cost driver rate based on costs In contrast, the cost driver rate based on costs and activity levels remains fixed throughout the and activity levels remains fixed throughout the year year - Costs depend on the machine capacity made - Costs depend on the machine capacity made

available and not on the season available and not on the season

2121

Number of Cost PoolsNumber of Cost Pools

The number of cost pools can vary The number of cost pools can vary - Some German firms use over 1,000 - Some German firms use over 1,000

The general principle is to use separate cost pools if The general principle is to use separate cost pools if the cost or productivity of resources is different and if the cost or productivity of resources is different and if the pattern of demand varies across resources the pattern of demand varies across resources

The increase in measurement costs required by a more The increase in measurement costs required by a more detailed cost system must be traded off against the detailed cost system must be traded off against the benefit of increased accuracy in estimating product benefit of increased accuracy in estimating product costs costs - If cost and productivity differences between resources are - If cost and productivity differences between resources are

small, having more cost pools will make little difference in the small, having more cost pools will make little difference in the accuracy of product cost estimates accuracy of product cost estimates

2222

Recording Actual Job CostsRecording Actual Job Costs Job order cost accounting systems record costs Job order cost accounting systems record costs actually incurred on individual jobs as they are actually incurred on individual jobs as they are produced produced - This process allows comparison of actual costs with the - This process allows comparison of actual costs with the

estimated costs estimated costs

Copies of all materials requisition notes and worker Copies of all materials requisition notes and worker time cards are forwarded to the accounting department, time cards are forwarded to the accounting department, which then posts them on a job cost sheet which then posts them on a job cost sheet The system calculates total costs for the portion of the The system calculates total costs for the portion of the job completed job completed The structure of the job cost sheet is similar to that of The structure of the job cost sheet is similar to that of the job bid sheet the job bid sheet - The direct materials and direct labor costs on the job cost - The direct materials and direct labor costs on the job cost

sheet represent the job's actual costs incurred sheet represent the job's actual costs incurred

2323

(Multistage) Process Costing(Multistage) Process Costing

For many plants engaged in continuous For many plants engaged in continuous processing production flows continuously, semi-processing production flows continuously, semi-continuously, or in large batches from one continuously, or in large batches from one process stage to the next process stage to the next At each successive process stage, there is At each successive process stage, there is further progress toward converting the raw further progress toward converting the raw materials into the finished product materials into the finished product In continuous processing In continuous processing it is necessary first to it is necessary first to determine costs for each stage of the process determine costs for each stage of the process and then to assignand then to assign their costs to individual their costs to individual productsproducts

2424

Multistage Process Costing SystemsMultistage Process Costing Systems

Product costing systems in process-oriented Product costing systems in process-oriented plants allows plants allows measurement of the costs of measurement of the costs of converting the raw materials during a time converting the raw materials during a time period to be made separately for each process period to be made separately for each process stage stage

The The conversion costs conversion costs are applied to products as are applied to products as they pass through successive process stages they pass through successive process stages

This system for determining product costs, This system for determining product costs, known as a multistage process costing system, known as a multistage process costing system, is common in process-oriented industries is common in process-oriented industries

2525

Comparison With Job Order Costing Comparison With Job Order Costing Both systems have the Both systems have the same same objective: objective: - Assign material, labor, and manufacturing support - Assign material, labor, and manufacturing support

activity costs to product activity costs to product

Process costing systems Process costing systems differ differ in that they: in that they: - Do not maintain separate cost records for individual - Do not maintain separate cost records for individual

jobs jobs

- Measure costs only for process stages - Measure costs only for process stages

- Determine cost variances only at the level of the - Determine cost variances only at the level of the process stages instead of at the level of individual process stages instead of at the level of individual jobs jobs

2626

Job Order and Multistage Job Order and Multistage Process Costing Process Costing (1of3)(1of3)

In job order costing In job order costing production production is carried is carried out in different jobs out in different jobs

In multistage process costing, In multistage process costing, production production is is carried out continuously, semi carried out continuously, semi continuously, or in large batchescontinuously, or in large batches

2727


In job order costing, In job order costing, production production requirements requirements are are different different for each for each individual job individual job

In multistage process costing, In multistage process costing, production production requirements requirements are are homogeneous homogeneous across across products or jobsproducts or jobs

2828


In job order costing, In job order costing, variances variances between between actual and estimated direct material and actual and estimated direct material and direct labor costs are determined for direct labor costs are determined for each each individual jobs individual jobs

In multistage process costing, In multistage process costing, variances variances between actual and estimated costs are between actual and estimated costs are determined for determined for individual process stagesindividual process stages

2929

Service Department Service Department

Cost Allocations Cost Allocations

Appendix 3-1Appendix 3-1

3030

Operating Expense AllocationsOperating Expense Allocations

Traditional cost accounting systems Traditional cost accounting systems assign operating expenses to products assign operating expenses to products with a two-stage procedure:with a two-stage procedure:

1.1. Expenses are assigned to production Expenses are assigned to production departmentsdepartments

2.2. Production department expenses are Production department expenses are assigned to the products assigned to the products Departmental structure influences the first-Departmental structure influences the first-stage allocation processstage allocation process

3131

Effect Of Departmental StructureEffect Of Departmental Structure

production departmentsproduction departmentsdepartments that have departments that have direct responsibility for converting raw materials direct responsibility for converting raw materials into finished products are called into finished products are called Service departments Service departments perform activities that perform activities that support production, such as: support production, such as: • • Machine maintenance Machine maintenance • Production engineering • Production engineering

• • Machine setup Machine setup • Production scheduling• Production scheduling - All service department costs are - All service department costs are indirect support indirect support

activity costsactivity costs because they do not arise from because they do not arise from direct production activities direct production activities

3232

Two-Stage Cost Allocation Two-Stage Cost Allocation (1of2)(1of2)

Conventional product costing systems assign Conventional product costing systems assign indirect costs to jobs or products in two stages indirect costs to jobs or products in two stages

1. In the first stage: 1. In the first stage: - System - System identifies indirect costs identifies indirect costs with various with various

production and service departments production and service departments - Service department costs are - Service department costs are then allocated to then allocated to

Production departments Production departments

2. The system 2. The system assigns the accumulated indirect assigns the accumulated indirect costscosts for the production departments for the production departments to to individual jobs or products based on individual jobs or products based on Predetermined departmental cost driver rates Predetermined departmental cost driver rates

3333

Two-Stage Cost Allocation (2of2)

SupportCosts

ServiceDepartment

S1

ServiceDepartment

S2

ProductionDepartment

P1

ProductionDepartment

P2

Individual Products/Jobs

Stage 1Stage 1AllocationAllocation

Stage 2Stage 2AllocationAllocation

3434

Allocating Service Department Costs Allocating Service Department Costs To Production DepartmentsTo Production Departments

There are three ways There are three ways - Direct allocation - Direct allocation - Sequential allocation Sequential allocation - Reciprocal allocation Reciprocal allocation

The last two are used when service departments The last two are used when service departments consume services provided by other consume services provided by other departments departments

3535

PATIENTAID EXAMPLE PATIENTAID EXAMPLE Step 1 of Stage 1 cost allocations (given)Step 1 of Stage 1 cost allocations (given)

Total ManufacturingSupport Costs

$1,127,800

Maintenance$160,000

Setup$300,000

Scheduling$120,000

Engineering$180,000

General and Administrative

$90,000

Casting$65,600

Machining$131,600

Assembly$51,000

Packing$29,600

Service

Department

Production

Department

3636

Direct Allocation MethodDirect Allocation Method

Allocates the service department costs Allocates the service department costs ddirectly irectly to the production departmentsto the production departments - Allocations to production departments are - Allocations to production departments are based on based on

each production department's each production department's relative use of the relative use of the applicable cost driver applicable cost driver

- It ignores the possibility that some of the activities of a - It ignores the possibility that some of the activities of a service department may benefit other service service department may benefit other service departments as well as production departments departments as well as production departments

3737

Allocation Bases ValuesAllocation Bases Values

AllocationAllocation

BasesBases

Production DepartmentsProduction DepartmentsTotalsTotals

CastingCasting MachiningMachining AssemblyAssembly PackingPacking

Book Book Value of Value of

machinesmachines$300,000$300,000 $600,000$600,000 $180,000$180,000 $120,000$120,000 $1,200,000$1,200,000

Number of Number of setupssetups 200200 400400 200200 200200 1,0001,000

Machine Machine hourshours 6,0006,000 22,00022,000 9,0009,000 3,0003,000 40,00040,000

Direct Direct labor labor hourshours

2,0002,000 11,00011,000 6,0006,000 6,0006,000 25,00025,000

Square Square feetfeet 6,0006,000 9,0009,000 9,0009,000 6,0006,000 30,00030,000

3838

Allocation RatiosAllocation Ratios

Based on relative allocation basis valueBased on relative allocation basis value

ServiceService

DepartmentDepartment

AllocationAllocation

BasisBasis

PRODUCTION DEPARTMENTSPRODUCTION DEPARTMENTS

CastingCasting MachiningMachining AssemblyAssembly PackingPacking TotalsTotals

MachineMachine

MaintenanceMaintenanceBook ValueBook Value

Of MachinesOf Machines0.2500.250 0.5000.500 0.1500.150 0.1000.100 1.0001.000

MachineMachine

SetupsSetupsNumber ofNumber of

SetupsSetups0.2000.200 0.4000.400 0.2000.200 0.2000.200 1.0001.000

ProductionProduction

SchedulingSchedulingMachineMachine

hourshours0.1500.150 0.5500.550 0.2250.225 0.0750.075 1.0001.000


EngineeringEngineeringDirect laborDirect labor

hourshours0.0800.080 0.4400.440 0.2400.240 0.2400.240 1.0001.000

General &General &

AdministrativeAdministrativeSquare feetSquare feet 0.2000.200 0.3000.300 0.3000.300 0.2000.200 1.0001.000

300,000 / 1,200,000 = 0.250

3939

Allocation of Service Department CostsAllocation of Service Department Costs

Multiply service department cost by the allocation ratiosMultiply service department cost by the allocation ratios

Service Department CostsService Department CostsPRODUCTION DEPARTMENTSPRODUCTION DEPARTMENTS

CastingCasting MachiningMachining AssemblyAssembly PackingPacking

Support costs identified directly in step 1 of Support costs identified directly in step 1 of

stage 1 allocationsstage 1 allocations$65,600$65,600 $131,600$131,600 $51,000$51,000 $29,600$29,600

Allocated from service department in step 2 of Allocated from service department in step 2 of stage 1:stage 1:

Machine MaintenanceMachine Maintenance 40,00040,000 80,00080,000 24,00024,000 16,00016,000

Machine SetupsMachine Setups 60,00060,000 120,000120,000 60,00060,000 60,00060,000

Production SchedulingProduction Scheduling 18,00018,000 66,00066,000 27,00027,000 9,0009,000

Production EngineeringProduction Engineering 14,40014,400 79,20079,200 43,20043,200 43,20043,200

General & AdministrativeGeneral & Administrative 18,00018,000 27,00027,000 27,00027,000 18,00018,000

Total support costs for the production departmentsTotal support costs for the production departments $216,000$216,000 $503,800$503,800 $232,200$232,200 $175,800$175,800

$160,000 x 0.250 = $40,000

4040

Stage 2Stage 2 Cost AllocationsCost Allocations

Stage 2 allocations Stage 2 allocations - Require the identification of appropriate cost drivers for each - Require the identification of appropriate cost drivers for each

production department production department - Assign production department costs to jobs and products while - Assign production department costs to jobs and products while

they are worked on in the departments they are worked on in the departments

Conventional cost accounting systems use unit- related Conventional cost accounting systems use unit- related cost drivers, such as the number of units made, the cost drivers, such as the number of units made, the number of direct labor hours (or cost), and the number number of direct labor hours (or cost), and the number of machine hours of machine hours Dividing the indirect costs accumulated in each Dividing the indirect costs accumulated in each production department by the total number of units of production department by the total number of units of the corresponding cost driver results in cost driver rates the corresponding cost driver results in cost driver rates for each department for each department

4141

PATIENTAID Stage 2 PATIENTAID Stage 2 (1ot2)(1ot2)

The Casting Department allocates its indirect The Casting Department allocates its indirect costs to jobs based on machine hours, with total costs to jobs based on machine hours, with total capacity for Casting equaling 6,000 machine capacity for Casting equaling 6,000 machine hours hours Total indirect costs for Casting, after the Total indirect costs for Casting, after the allocation from service departments in Step 2 of allocation from service departments in Step 2 of Stage 1 was $216,000 Stage 1 was $216,000 As a result, Casting allocates indirect costs to As a result, Casting allocates indirect costs to jobs at a rate of $36.00 per machine hour = jobs at a rate of $36.00 per machine hour = $216,00016,000 hours $216,00016,000 hours Each department will make a similar calculation Each department will make a similar calculation

4242

PATIENTAID Stage 2 PATIENTAID Stage 2 (2of2)(2of2)

If Job J189-4 uses 40 machine hours while in the If Job J189-4 uses 40 machine hours while in the Casting Department, Casting will allocate $1,440 of its Casting Department, Casting will allocate $1,440 of its indirect costs to Job J189-4 = 40 hours x $36.00 per indirect costs to Job J189-4 = 40 hours x $36.00 per hour hour Each department will allocate indirect costs to Job Each department will allocate indirect costs to Job J189-4 in a similar manner, and Casting will allocate J189-4 in a similar manner, and Casting will allocate some costs to all jobs in a similar manner some costs to all jobs in a similar manner To determine the total cost of Job J198-4, add the To determine the total cost of Job J198-4, add the Direct Material and Direct Labor cost assigned in each Direct Material and Direct Labor cost assigned in each department and the indirect cost allocated from each department and the indirect cost allocated from each department department To determine the cost per unit, divide the total cost by To determine the cost per unit, divide the total cost by the number of units in Job J189-4 the number of units in Job J189-4

4343

Sequential and Reciprocal Sequential and Reciprocal Allocation MethodsAllocation Methods

The sequential allocation method allocates The sequential allocation method allocates service department costs to one service service department costs to one service department at a time in sequential order department at a time in sequential order

The reciprocal allocation method The reciprocal allocation method determines service department cost determines service department cost allocations simultaneouslyallocations simultaneously

4444

Sequential Allocation Method Sequential Allocation Method (1of3)(1of3)

Service departments first be arranged in order Service departments first be arranged in order - A service department can receive costs allocated from - A service department can receive costs allocated from

another service department only before its own costs another service department only before its own costs have been allocated to other departmentshave been allocated to other departments

Once a service department's costs have been Once a service department's costs have been allocated, allocated, no costs can be allocated back to it no costs can be allocated back to it from other departmentsfrom other departments

4545

Sequential Allocation Method Sequential Allocation Method (2of3)(2of3)

ItemItem

ServiceService

DepartmentsDepartments


DepartmentsDepartments TotalsTotalsPowerPower EngineeringEngineering MachiningMachining AssemblyAssembly

Service Used:Service Used:

Kilowatt hoursKilowatt hours 00 100,000100,000 480,000480,000 220,000220,000 800,000800,000

Eng’ring hoursEng’ring hours 00 00 2,0002,000 2,0002,000 4,0004,000

Allocation ratios:Allocation ratios:

PowerPower 00 0.1250.125 0.6000.600 0.2750.275 1.0001.000

EngineeringEngineering 00 00 0.5000.500 0.5000.500 1.0001.000

Directly Directly

identified costsidentified costs $320,000$320,000 $180,000$180,000 $120,000$120,000 $80,000$80,000 $700,000$700,000

480,000 / 800,000 = 0.6002,000 / 4,000 = 0.500

4646

Sequential Allocation MethodSequential Allocation Method (3of3)(3of3)

ItemItem

ServiceService




Directly Directly


Cost Allocations:Cost Allocations:

PowerPower (320,000)(320,000) 40,00040,000 192,000192,000 88,00088,000

EngineeringEngineering 00 (220,000)(220,000) 110,000110,000 110,000110,000

TotalsTotals $0$0 $0$0 $422,000$422,000 $278,000$278,000 $700,000$700,000

$320,000 * 0.600 = $192,000($180,000 + 40,000) * 0.500 = $110,000

4747

Reciprocal Allocation Method Reciprocal Allocation Method (1of5)(1of5)

If both service departments consume each If both service departments consume each other's services, the reciprocal allocation method other's services, the reciprocal allocation method is appropriate is appropriate

The reciprocal allocation method recognizes The reciprocal allocation method recognizes reciprocal interactions between different service reciprocal interactions between different service departments departments

The example changes only to recognize Power's The example changes only to recognize Power's use of Engineering's services use of Engineering's services

4848

Reciprocal Allocation Method Reciprocal Allocation Method (2 of 5)(2 of 5)

ItemItem

ServiceService




Service Used:Service Used:

Kilowatt hoursKilowatt hours 00 100,000100,000 480,000480,000 220,000220,000 800,000800,000

Eng’ring hoursEng’ring hours 1,0001,000 00 2,0002,000 2,0002,000 5,0005,000

Allocation ratios:Allocation ratios:

PowerPower 00 0.1250.125 0.6000.600 0.2750.275 1.0001.000

EngineeringEngineering 0.2000.200 00 0.4000.400 0.4000.400 1.0001.000

Directly Directly


480,000 / 800,000 = 0.6002,000 / 5,000 = 0.400

4949


Before allocating any costs to the production Before allocating any costs to the production departments, determine the reciprocal allocation departments, determine the reciprocal allocation between service departments: between service departments: - Power's total cost is $320,000 + 20% of the total cost - Power's total cost is $320,000 + 20% of the total cost

of Engineering (P=320,000+0.20E) of Engineering (P=320,000+0.20E)

- Engineering's total cost is $1800000 + 12.5% of the - Engineering's total cost is $1800000 + 12.5% of the total cost of Power (E=180,000+ 0.125P) total cost of Power (E=180,000+ 0.125P)

Solve the simultaneous equations by Solve the simultaneous equations by substitution substitution

5050

Reciprocal Allocation MethodReciprocal Allocation Method (4of5)(4of5)

P=320,000+.20E, with E=180,000+.125P P=320,000+.20E, with E=180,000+.125P

P=320,000+.20 (180,000+.125P) P=320,000+.20 (180,000+.125P)

P=320,000 + 36,000 + .025P P=320,000 + 36,000 + .025P

.975P=320,000 + 36,000 .975P=320,000 + 36,000

P= $365,128P= $365,128

E=180,000+.125P E=180,000+.125P

E=180,000+ .125(365,128)E=180,000+ .125(365,128)

E=180,000+45,641E=180,000+45,641

E= $225,641E= $225,641

These costs will be allocated to the production

departments using the allocation ratios shown

previously

5151


ItemItem

ServiceService




Directly Directly


Cost Allocations:Cost Allocations:

PowerPower (365,128)(365,128) 45,64145,641 219,077219,077 100,410100,410

EngineeringEngineering 45,12845,128 (225,641)(225,641) 90,25690,256 90,25790,257

TotalsTotals $0$0 $0$0 $429,333$429,333 $270,667$270,667 $700,000$700,000

($320,000 + 45,128) * 0.600 = $192,000($180,000 + 45,641) * 0.400 = $110,000

- costing systems - process costing - service department cost allocation

Documents

systems job order

bid job order costing

job order costing products

process costing systems

job order costing firms

customer costing

estimated costs

cost objects