Fluent Essays

Chapter 5 in the textbook provides examples of allocation of support department costs in manufacturing settings for determining product costs. Why would allocation of support department costs be important in-service businesses, such as hospitals or universities? Embed course material concepts, principles, and theories (which requires supporting citations) along with at least one scholarly, peer-reviewed reference supporting your answer. Keep in mind that these scholarly references can be found in the Saudi Electronic Library by conducting an advanced search specific to scholarly references. You are required to reply to at least two peer discussion question post answers to this weekly discussion question and/or your instructor’s response to your posting. These post replies need to be substantial and constructive in nature. They should add to the content of the post and evaluate/analyze that post answer. Normal course dialogue doesn’t fulfill these two peer replies but is expected throughout the course. Answering all course questions is also required.  Required Chapter 5 in Managerial Accounting Fang, F. (2020, March). Sourcing and procurement cost allocation in multi‐division firms. Production & Operations Management, 29(3), 767-78. Minjae, K., Jeong-Hoon, H., Iny, H., & Taesik, A. (2020). Distorted cost allocation: An encouragement or discouragement? Seoul Journal of Business, 26(2), 89–119. Chapter 5 Support Department and Joint Cost Allocation Support Departments (slide 1 of 3) A support department provides a necessary service to produce a product, but is not directly involved in the production process. For example, Janitorial and Maintenance departments are necessary for production, but are not directly involved in production. Support departments are sometimes called service departments because they provide services to other departments. Support departments are normally accounted for as a cost or responsibility center. All direct costs of the support department are accumulated in the center. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Support Departments (slide 2 of 3) Because support department costs are only indirectly related to production, they are difficult to apply to products. However, it is difficult, if not impossible, to find an appropriate cost driver for applying these costs to a product. Some companies consider support department costs to be facility-level costs and do not apply them to products. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Support Departments (slide 3 of 3) This approach ignores the fact that support department services may be used more heavily by some products than others, which can result in inaccurate product costs. Hence, guidance for incorporating support department cost allocation into a product costing system is provided in the following slides. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Single Plantwide Rate (slide 1 of 2) When a single plantwide overhead rate is used to apply overhead to products, support department costs are simply combined with all other overhead costs. The total overhead cost is then applied to the products using a single cost driver. Because a single driver is used for all overhead costs, it is unlikely that the driver selected is appropriate for every type of overhead. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Single Plantwide Rate (slide 2 of 2) This method ignores the fact that the processes used in manufacturing a product may differ from those used for other products. As a result, using a single plantwide rate may result in inaccurate product costs. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Multiple Production Department Rates When multiple production department rates are used to apply overhead to products, overhead costs are first directly traced or distributed to support and production departments. Support department costs are then allocated to production departments based on the amount of support activity used by each production department. After support department costs are allocated to the production departments, production department costs are then applied to the products using cost drivers for each production department. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Activity-Based Costing (slide 1 of 2) When activity-based costing (ABC) is used to apply overhead to products, support department costs are referred to as support activity costs. The process for allocating support activity costs is similar to that used with multiple production department rates. Overhead costs are directly traced or distributed to support and production activities. Support activity costs are allocated to production activities. Production activity costs are applied to the products using cost drivers for each production activity. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Activity-Based Costing (slide 2 of 2) The terms assign, distribute, apply, and allocate are often used when referring to manufacturing costs and the transfer of these costs to departments and products. Transferring overhead costs to support and production departments is referred to as distributing overhead costs. Transferring costs to products is referred to as applying costs to products or the application of costs. Allocating costs or cost allocation may be used in a variety of ways. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Allocating Support Department Costs to Production Departments © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 10 The Direct Method © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11 Using the Direct Method – Decker Tables (slide 1 of 6) Step 1 - The costs for each department are determined by identifying costs that can be traced to a specific department. Janitorial Department Cafeteria Department Cutting Department Assembly Department Department costs $310,000 $169,000 $1,504,000 $680,000 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 12 Using the Direct Method – Decker Tables (slide 2 of 6) Step 2 - An appropriate cost driver is determined for each support department. The more square footage that needs to be the cleaned, the higher the Janitorial costs. Step 3 - The usage of the support department cost drivers by each department is determined. Support Department Cost Driver Janitorial Department Square footage to be serviced Cafeteria Department Number of employees Cost Driver Janitorial Department Cafeteria Department Cutting Department Assembly Department Square feet 50 5,000 1,000 4,000 Number of employees 10 3 30 10 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Using the Direct Method – Decker Tables (slide 3 of 6) Step 4 - The percentage usage of support department cost drivers by the production departments is determined. Determining the percentage usage based on square footage © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Using the Direct Method – Decker Tables (slide 4 of 6) Determining the percentage based on the number of employees Step 5 - Support department costs are allocated to the production departments by multiplying the percentage usage of each production department by the total support department costs. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Using the Direct Method – Decker Tables (slide 5 of 6) The Cafeteria costs of $126,750 are allocated $161,250 to the Cutting Department and $42,250 to the Assembly Department, as follows: Department Janitorial Department Costs Cutting Department $ 62,000 ($310,000 × 20\%) Assembly Department 248,000 ($310,000 × 80\%) Total $310,000 Department Cafeteria Department Costs Cutting Department $126,750 ($169,000 × 75\%) Assembly Department 42,250 ($169,000 × 25\%) Total $169,000 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Using the Direct Method – Decker Tables (slide 6 of 6) The support department costs are added to any costs that were directly traced or distributed to the production departments in Step 1. Thus, the total costs of the Cutting and Assembly departments are as follows: © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 17 The Sequential Method or Step-Down Method © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 18 The Sequential Method (slide 1 of 7) Under the sequential method, support department costs are never allocated back to a support department whose costs have already been allocated. As a result, the sequential method captures some, but not all, of the inter-support-department services. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Sequential Method – Allocation of Costs © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 20 The Sequential Method (slide 2 of 7) There may be a conflict in the preceding factors. For example, the support department with the highest costs may serve the fewest number of other support departments. As a result, managers often make subjective assessments about the order of allocating support departments. Steps 1 to 3 of the sequential method are the same as for the direct method. Production Departments Support Departments Specifics Janitorial Cafeteria Cutting Assembly Square feet 50 5,000 1,000 4,000 Number of employees 10 3 30 10 Department costs $310,000 $169,000 $1,504,000 $680,000 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Sequential Method (slide 3 of 7) In Step 4, the proportional usage of each support department’s cost driver by the other departments to which its costs are to be allocated is determined. Assume that Decker Tables decides to allocate Janitorial costs first, followed by Cafeteria costs. Department Square Feet Usage Percent Cafeteria 5,000 50\% Cutting 1,000 10 Assembly 4,000 40 Totals 10,000 100\% Janitorial Department Usage © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Sequential Method (slide 4 of 7) The proportional usage of Cafeteria services by the Cutting and Assembly departments is as follows: The usage of the Cafeteria Department by the Janitorial Department is not considered. This is because the Cafeteria Department costs are allocated after the Janitorial Department. Once a support department’s costs are allocated under the sequential method, it is not allocated any additional costs. Cafeteria Department Usage Department Square Feet Usage Percent Cafeteria 5,000 50\% Cutting 1,000 10 Assembly 4,000 40 Totals 10,000 100\% © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Sequential Method (slide 5 of 7) In Step 5, each support department’s costs are allocated to other departments. The support department’s total costs are multiplied by the proportional usage of the departments to which costs are allocated. Under the sequential method, the total support department costs to be allocated will also include any costs that were allocated to that support department from other support departments. This is a major difference between the sequential method and the direct method. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Sequential Method (slide 6 of 7) To illustrate, the Janitorial Department’s costs of $310,000 are allocated to the Cafeteria, Cutting, and Assembly departments by multiplying $310,000 by each department’s proportional usage, as follows: Department Janitorial Department Costs ($) × Usage Percent (\%) = Allocated Cost ($) Cafeteria Department $310,000 × 50\% = $155,000 Cutting Department 310,000 × 10 = 31,000 Assembly Department 310,000 × 40 = 124,000 Totals 100\% $310,000 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Sequential Method (slide 7 of 7) The total Cafeteria Department costs of $324,000 ($169,000 + $155,000) are allocated to the Cutting and Assembly departments as follows: The support department cost allocations using the sequential method for Decker Tables are summarized in the next slide. Department Cafeteria Department Costs ($) × Usage Percent (\%) = Allocated Cost ($) Cutting Department $324,000 × 75\% = $243,000 Assembly Department 324,000 × 25 = 81,000 Totals 100\% $324,000 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Reciprocal Services Method (slide 1 of 10) © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 27 The Reciprocal Services Method (slide 2 of 10) Steps 1 to 3 of the reciprocal method are the same as for the direct and sequential methods. Support departments never allocate their own costs to themselves. The two cells shaded in the table are not needed. These drivers represent services the support departments used within their departments. Specifics Janitorial Cafeteria Cutting Assembly Square feet 50 5,000 1,000 4,000 Number of employees 10 3 30 10 Department cost $310,000 $169,000 $1,504,000 $680,000 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Reciprocal Services Method (slide 3 of 10) In Step 4, the proportional usage of each support department’s cost driver by the other departments to which its costs are to be allocated is determined. The proportional usages of Janitorial services are the same as those indicated with the sequential method. Janitorial Department Usage Department Square Feet Usage Percent Cafeteria 5,000 50\% Cutting 1,000 10 Assembly 4,000 40 Totals 10,000 100\% Cafeteria Department Usage Department Number of employees Usage Percent Janitorial 10 20\% Cutting 30 60 Assembly 10 20 Totals 50 100\% © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Reciprocal Services Method (slide 4 of 10) In Step 5, support department costs are allocated simultaneously among the departments. This is done by using multiple algebraic equations with variables for unknown quantities. To illustrate, costs are allocated from Janitorial to Cafeteria, Cutting, and Assembly by multiplying the total Janitorial costs by the proportional usage of the other departments. The total Janitorial costs, however, include an unknown amount for costs related to its employees’ use of the cafeteria. Thus, the total of the Janitorial costs is expressed by the unknown, J. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Reciprocal Services Method (slide 5 of 10) Costs are allocated from Cafeteria to Janitorial, Cutting, and Assembly by multiplying the total Cafeteria costs by the proportional usage of the other departments. But again, the total Cafeteria costs will include an unknown amount for costs related to the Cafeteria Department’s use of the Janitorial Department’s services. Thus, the total of the Cafeteria costs is expressed by the unknown, C. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Reciprocal Services Method (slide 6 of 10) The total costs of the Janitorial Department will include 20\% of the Cafeteria Department’s costs, which is the percent usage of the cafeteria by the Janitorial Department. The total costs of the Cafeteria Department will include 50\% of the Janitorial Department’s costs, which is the percent usage of Janitorial services by the Cafeteria Department. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 32 The Reciprocal Services Method (slide 7 of 10) The preceding yields two equations with two unknowns, as follows: Equation 2 can be rewritten in terms of J. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Reciprocal Services Method (slide 8 of 10) J in Equation 1 can then be replaced, resulting in the following equation: Solving Equation 3 for C yields the following: © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 34 The Reciprocal Services Method (slide 9 of 10) Adding the value of C to Equation 1 results in the following: The total Janitorial Department cost and the total Cafeteria Department cost can now be allocated to the other departments based on the percentage usages, as shown in the next slide. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 35 The Reciprocal Services Method (slide 10 of 10) Departments Janitorial Department Costs ($) × Usage Percent (\%) = Allocated Cost($) Cafeteria Department 382,000 × 50 = 191,000 Cutting Department 382,000 × 10 = 38,000 Assembly Department 382,000 × 40 = 152,000 Totals 100 382,000 Departments Cafeteria Department Costs ($) × Usage Percent (\%) = Allocated Cost($) Janitorial Department 360,000 × 20 = 72,000 Cutting Department 360,000 × 60 = 216,000 Assembly Department 360,000 × 20 = 72,000 Totals 100 360,000 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Comparison of Support Department Cost Allocation Methods The total costs allocated to the Cutting and Assembly departments are different depending on which of the three support department allocation methods is used, as shown in the next slide. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Joint Costs © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 38 Allocating Joint Costs © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Physical units method Weighted average method Market value at split-off method Net realizable value method Physical Units Method (slide 1 of 3) The physical units method allocates joint costs using a physical measure of the products at the split-off point, such as pounds, gallons, or inches. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 40 Physical Units Method (slide 2 of 3) The joint costs per batch of mud are as follows: Assume that at the split-off point, there are the following quantities of products: Specifics Amount ($) Direct materials 17,750 Direct labor 2,300 Overhead 213,790 Total costs 233,840 Specifics Quantity (pounds) Skin cream 200 Shampoo 150 Soap 150 Total 500 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Physical Units Method (slide 3 of 3) Using the physical units method, the total joint costs of $233,840 are allocated using the pounds of products at the split-off point. Product Split-Off Quantity (pounds) Percent at Split-Off × Joint Cost = Joint Cost Allocation Skin cream 200 40 × $233,840 = $ 93,536 Shampoo 150 30 × 233,840 = 70,152 Soap 150 30 × 233,840 = 70,152 Totals 500 100 $233,840 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Weighted Average Method (slide 1 of 3) The weighted average method allocates joint costs based on weight factors for each product. The weight factors are multiplied by physical units to arrive at weighted physical units. These weighted physical units are then used to allocate the joint costs to the products. The weight factors can be based on a variety of factors, such as the type of labor needed for each product, the difficulty of producing each product, and the estimated wear and tear on machines caused by each product. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Weighted Average Method (slide 2 of 3) Assume that Davis Pharmaceuticals allocates joint costs based on the mixing times of each product. The mixing speed for shampoo is three times that of cream and soap. Thus, management applies a weighting factor of 3 to shampoo and a weighting factor of 1 to skin cream and soap. The weighted pounds for shampoo is 450 pounds. The weighted pounds for skin cream is 200 pounds. The weighted pounds for soap is 150 pounds. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Weighted Average Method (slide 3 of 3) The joint cost allocations for all three products are shown below. Product Split-Off Quantity (pounds) Mixing Time Weight Factor Weighted Pounds of Mixing Time (pounds) Weighted Percent of Mixing Time (\%) × Joint Cost ($) = Joint Cost Allocation($) Skin cream 200 1 200 25.00 × $233,840 = $ 58,460 Shampoo 150 3 450 56.25 × 233,840 = 131,535 Soap 150 1 150 18.75 × 233,840 = 43,845 Totals 500 5 800 100.00 $233,840 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Market Value at Split-Off Method (slide 1 of 3) The market value at split-off method allocates joint costs using each product’s total market value at the split-off point. Products that have a higher market value are allocated more joint costs. To use the market value at split-off method, an estimate of the market value at split-off must be available. If a product is sold at the split-off point, its actual sales price is used. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Market Value at Split-Off Method (slide 2 of 3) Assume that Davis Pharmaceuticals can sell skin care cream and shampoo at the split-off point. At split-off point, skin care cream and shampoo sell for $540 per pound and $480 per pound, respectively. Though soap requires additional processing to be sold, management estimates a market value of $400 per pound for soap at the split-off point. Skin cream ($540 × 200 pounds) $108,000 Skin cream ($480 × 150 pounds) 72,000 Soap ($400 × 150 pounds) 60,000 Total market value $240,000 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Market Value at Split-Off Method (slide 3 of 3) Using the market value at split-off method, the joint cost allocations for all three products are shown below. Product Split-Off Quantity (pounds) × Estimated Selling Price per Pound at Split-Off ($) = Total Market Value at Split-Off ($) Percent of Total Market Value at Split-Off (\%) × Joint Cost ($) = Joint Cost Allocation ($) Skin cream 200 × $ 540 = $108,000 45 × 233,840 = $105,228 Shampoo 150 × 480 = 72,000 30 × 233,840 = 70,152 Soap 150 × 400 = 60,000 25 × 233,840 = 58,460 Totals 500 × $1,420 $240,000 100 $233,840 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Net Realizable Value Method (slide 1 of 5) The net realizable value method allocates joint costs using each product’s estimated net realizable value after it is fully processed. Products that have a higher net realizable value are allocated more joint costs. Products that have a higher net realizable value are allocated more joint costs. Some products can be sold at the split-off point or be processed further and sold for a higher price. Net realizable value is the estimated selling price of a product less any costs necessary to further process the product beyond the split-off point. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Net Realizable Value Method (slide 2 of 5) For products processed beyond the split-off point, net realizable value is computed as follows: For products not processed beyond the split-off point, the net realizable value is computed as follows: © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Net Realizable Value Method (slide 3 of 5) To illustrate, assume the following for Davis Pharmaceuticals’ three products: Davis Pharmaceuticals must decide which products to process further and which to sell at split-off. Products Selling Price at Split-Off Point ($) Additional Processing Costs ($) Selling Price after Further Processing ($) Skin cream 540 2,000 per batch 730 Shampoo 420 4,000 per batch 425 Soap None 6,000 per batch 520 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Net Realizable Value Method (slide 4 of 5) Given the preceding decisions on further processing, the percentages of total net realizable value of the three products are as follows: Product Net Realizable Value ($) Percent of Total Net Realizable Value (\%) Skin cream $144,000 50\% Shampoo 72,000 25 Soap 72,000 25 Totals $288,000 100\% © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. The Net Realizable Value Method (slide 5 of 5) Using the net realizable value method, the joint costs of $233,840 are allocated as follows: Product Percent of Total Net Realizable Value (\%) × Joint Cost ($) = Joint Cost Allocation ($) Skin cream 50\% × 233,840 = $116,920 Shampoo 25 × 233,840 = 58,460 Soap 25 × 233,840 = 58,460 Totals 100\% $233,840 © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Comparison of Joint Cost Allocation Methods (slide 1 of 2) None of the four methods is more accurate than any other method because they all allocate costs that are, by definition, inseparable. Thus, a subjective determination must be made as to the most appropriate method to use. The physical units method is the easiest to use and allocates more costs to skin cream than to shampoo and soap because more pounds of skin cream were produced in the joint process. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Comparison of Joint Cost Allocation Methods (slide 2 of 2) If management wants joint cost allocations to reflect the difficulty with which products are made, the weighted average method is most appropriate. If management wants joint cost allocations to reflect the final market value of products, the net realizable value method is ideal. © 2020 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. By-Products (slide 1 of 2) By-products are goods of low value that are produced from a joint production process. Because of their low value, it is not worth the effort to develop separate product costs for by-products. Instead, the revenues from by-products are often used to offset the cost of the joint production process. Alternatively, the sale of by-products is sometimes reported as other revenue on the income statement with no …