See how supporting departments can be allocated when it comes to the service industry and in smaller settings than big factories that produce merchandise.
Here down is an example, but I don’t need that much. One or two well elaborated page will be enough.
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There are 3 methods for allocating support costs to supporting departments. There is the direct method which allocates each support department’s costs to operating departments only, the step-down method, also known as the sequential allocation method, which allocates support-department costs to other support departments and to operating departments in a sequential manner that partially recognizes the mutual services provided among all support departments, and the reciprocal method which allocates support department costs to operating departments by fully recognizing the mutual services provided among all support departments. This method fully incorporates interdepartmental relationships into the support-department cost allocations. (pg 550-553)
My first scenario is of a pet-sitting business. The supporting departments are advertising and car maintenance. The operations departments are pet walking visits and overnight visits. The advertising costs will be allocated based on the budgeted number of visits for each operations departments, while the car maintenance will be allocated based on the budgeted mileage for each operations departments. For this scenario, we will use the direct method.
Budgeted visit: 1,211 for the year – 275 overnights (23%)
936 pet walking (77%)
Budgeted mileage: 120,000 for the year – 40,000 overnights (33%)
80,000 pet walking (67%)
Advertising costs: $5,000 for the year
Car Maintenance costs: $2,000 for the year
Advertising costs allocation: overnights: (275/1,211) x 5,000 = 1,135 (23%)
pet walking: (936/1,211) x 5,000 = 3,865 (77%)
Total advertising costs allocation: 1,135 + 3,865 = 5,000
Car Maintenance costs allocation: overnights: (40,000/120,000) x 2,000 = 667 (33%)
pet walking: (80,000/120,000) x 2,000 = 1,333 (67%)
Total Car Maintenance costs allocation: 667 + 1,333 = 2,000
My next scenario involves an accounting firm. The firm has an Human Resources department and an Information Systems department that are supporting departments to their operations departments, the Tax filing department and the Payroll Services department.
The costs of the departments prior to allocation are as follows:
HR costs $1,280,000
Information Systems costs $500,000
Tax filing dept. $2,000,000
Payroll Services $1,000,000
Total costs: $4,780,000
Because the supporting departments provide services to each other as well as to the operations departments, we will use this scenario to cover first the step-down method of allocating supporting department costs, followed by the reciprocal method.
HR costs in this firm get allocated as such: 6% to Information Systems, 63% to Tax filing dept., 31% to Payroll Services
Information Systems get allocated as such: 10% to HR, 60% to Tax filing depts, 30% to Payroll Services
The first step in the Step-down method requires for supporting departments to be put in sequential order, usually starting with the department who uses the largest percentage to support other supporting departments. In this case Information Systems (spends 10%) would come first followed by HR (spends 6%).
The next step is to allocate the first department (Information Systems) to the other departments.
Information Systems costs: $500,000
Allocations:
HR: 500,000 x .1 = 50,000 new totals: HR 1,280,000+50,000 = 1,330,000
Tax: 500,000 x .6 = 300,000 Tax 2,000,000+300,000 = 2,300,000
Payroll: 500,000 x .3 = 150,000 Payroll 1,000,000+150,000 = 1,150,000
Total allocations: 50,000+300,000+150,000 = 500,000
Now that Information Systems dept has been allocated, the HR department costs will be allocated, but only to the operations departments.
Human Resources costs: $1,330,000 (new total)
Allocations:
Tax: 1,330,000 x .65 = 864,500 new totals: Tax 2,300,000+864,500 = 3,164,500
Payroll: 1,330,000 x .35 = 465,500 Payroll 1,150,000+465,500 = 1,615,500
total: 4,780,000
This method allowed for the mutual services provided among all support departments to be partially recognized.
The last method we are going to cover is the reciprocal method. This method extends from the idea of the step-down method but recognizes that with each allocation of the supporting departments, the supporting departments get allocated more costs. Less and less each time, but still more that needs to be allocated each time until all supporting departments are down to zero. Linear equations are used to facilitate this otherwise very lengthy and tedious method. First, equations will need to be calculated and solved. Then the allocations for each department will be able to take place.
Equations: Let IS = Information systems, and HR = Human Resources
Information Systems: IS = 500,000 + .06HR
Human Resources: HR = 1,280,000 + .1IS
Solve for HR:
HR = 1,280,000 + .1(500,000 +.06HR)
= 1,280,000 + 50,000 + .006 HR
.994 HR = 1,330,000
HR = 1,338,028
Solve for IS:
IS = 500,000 + .06(1,338,028)
IS = 500,000 + 80,282
IS = 580,282
Allocations:
HR IS Tax Payroll Totals
1,280,000 500,000 2,000,000 1,000,000 4,780,000
(1,338,028) 80,282 842,957 414,789
58,028 (580,282) 348,169 174,085
Balance 0 0 3,191,126 1,588,874 = 4,780,000
This method is actually fairly simple to calculate (with only 2 supporting departments) and allows for more accurate results.
I chose these scenarios because I thought it would be interesting to see how supporting departments can be allocated when it comes to the service industry and in smaller settings than big factories that produce merchandise.
Eve
Sources:
Pearson Custom. (2015). cost Accounting – A managerial Emphasis. Retrieve from
http://www.view.ebookplus.personcmg.com/ebook/
