Question

Cost Allocation:

- What are the three required steps in cost allocations?

- What is the best reasons to use cost allocations and when it might be appropriate not to use cost allocations.

Death Spiral:

- What is the concept of the death spiral?

- What are some of the problems that can be associated with it, please provide ways to resolve it.

Answer 1

The three required steps in cost allocations are :

I) identifying the cost

ii) aggregating the cost

iii) assigning the cost

to various products.

First of all all the types of cost that would be implied on an project should be recognised.The total cost have to be found out in a particular project. Once all the costs are identified it can be worked out further.

Then comes aggregating the cost. This involves matching the right cost with the right objects. In the first step all the different type of costs and cost objects are identified. Now it's the time to match cost with proper cost objects. This matching appropriately is aggregating the cost.

Now the next step is assigning the cost. Here after matching cost with their cost objects finally they are assigned to the object. Every object has a specific cost according to its requirements.

These were the the three steps involved in cost allocations.

There are various purposes for which cost allocations are used. One of the most important reason for using cost allocation are financial reporting. Cost allocations are used to find the profitability of the organisation that can be later on used for financial reporting. It tells the current financial position of a company. Cost allocation is used to assign cost to different departments in an organization.

So we saw the most important reason for using cost allocations that is financial reporting.

But there are also reasons for which cost allocations cannot be used. There are times when cost cannot be predicted for certain objects. In that case when there is no control on costs charged, costs should not be allocated that will affect adverse. The total estimate made can be disturbed as a whole if wrong costs are allocated and it will also affect the profita9of the organization.

Death spiral

Concept of death spiral: Death spiral occurs when premiums are increasing at a great speed because of changes in population that is being covered in an insurance plan.

When the insurance plans are adversely selected and later on people are wanting to change the policies, this situation occurs. This results into insuring the cost further.

In general we can say death spiral as eliminating products because of higher costs being spreaded because of the volume of the product. The overhead cost though may be less for a particular product but as its volume is high the cost automatically increases leading to increase in price of product and then no one will buy thus project

While discussing the problem with death spiral, we can see that, due to this death spiral many products are eliminated, hence it decreases the volume sold by a firm and hence is a loss for the firm. To resolve this issue the overhead costs should be allocated according to the activities and also on the complexity of the products instead of allocating them on volume. Many companies do not assign costs to products because of excess capacity as to make this death spiral go little less.

These are the ways how issues with spiral death can be resolved.