Question

You have explained to Helen the importance of understanding how indirect costs can be allocated to the cost of finished goods and the problems of using a cost of goods manufactured statement to apply these costs and appropriately cost and price her products. Divine Denim has 2 production departments (Cutting and Machining), and 3 support departments (Administration, IT and Design).

The IT Department's costs are allocated based on the number of computers. The Administration Department's costs are allocated based on the number of employees. The Design Department's costs are allocated 50% to cutting and 50% to Machining. Allocate the support department costs in the following order: Administration then IT. Helen has provided some estimates of costs for the current year (see below).

INPUT DATA
Direct costs	Administration	IT	Design	Cutting	Machining
Materials & Labour	55,000	35,000	45,000	50,000	400,000
Indirect costs	10,000	7,500	10,000	7,500	25,000
Total	65,000	42,500	55,000	57,500	425,000
Allocation base
No of computers	1		1	1	9
Designs				0.5	0.5
No. of employees	1	1	1	1	8

Required:

1. Allocate the support department costs to the operating departments using the direct method.
2. Allocate the support department costs to the operating departments using the step-down method. Allocate first the costs for the support department with the largest direct costs.
3. Allocate the support department costs to the operating departments using the reciprocal method. Use Excel Solver to prepare your answer.

Answer 1