Question

Question 4: Service department cost allocation

Inns Battery Company has two service departments: Maintenance and Personnel. Maintenance Department costs are allocated on the basis of budgeted maintenance-hours. Personnel Department costs are allocated based on the number of employees. Data on budgeted maintenance-hours and number of employees are as follows:

	Support Departments		Production Departments
	Maintenance Department	Personnel Department	A	B
Budgeted costs	$180,000	$30,000	$80,000	$120,000
Budgeted maintenance-hours	n/a	240	720	240
Number of employees	20	n/a	60	120

Required:

4a. Using the direct method, determine the amount of support department costs to be allocated to Production Department A.

4b. Using the step-down method, determine the amount of Maintenance Department costs to be allocated to Production Department A, if the service department with the highest percentage of interdepartmental support service is allocated first.

4c. Using the reciprocal method, determine the amount of maintenance department costs to be allocated to Production Department A (round up to nearest dollar).

4d. List and explain two possible reasons why a manager might prefer that budgeted rather than actual cost-allocation rates be used when cost is being allocated to his/her department from another department. Use the textbook and/or other relevant resources to support your answer.

Answer 1

• All working forms part of the answer
• Requirement 4 ‘a’: Direct Method of allocation

Maintenance cost allocated to ‘A’ = 720/(720 + 240) = 75%

Maintenance cost allocated to ‘B’ = 240/(720 + 240) = 25%

Personnel cost allocated to ‘A’ = 60/(60+120) = 33.333%

Personnel cost allocated to ‘B’ = 120/(60 + 120) = 66.67%

Allocation table:

Department	Supplying (Service Department)		Using Department
	Maintenance	Personnel	A	B
Budgeted Cost	$        180,000.00	$              30,000.00	$             80,000.00	$       120,000.00
Allocation of:
Maintenance	$      (180,000.00)		$          135,000.00 (75%)	$         45,000.00 (25%)
Personnel		$            (30,000.00)	$             10,000.00 (33.333%)	$         20,000.00 (66.667%)
Total cost after allocation have been made	$                          -	$                              -	$          225,000.00	$       185,000.00

Answer: Support cost allocated to Department ‘A’ = $ 135,000 + $ 10,000 = $ 145,000

• Requirement 4 ‘b’

Step Down Method allocation

	Departments
Support Departments	Maintenance	Personnel	A	B
Maintenance		20.00%	60%	20%	100%
Personnel	10%		30%	60%	100%

Allocation table:

Department	Supplying (Service Department)		Using Department
	Maintenance	Personnel	A	B
Budgeted Cost	$        180,000.00	$              30,000.00	$             80,000.00	$       120,000.00
Allocation of:
Maintenance	$      (180,000.00)	$              36,000.00 (20%)	$          108,000.00 (60%)	$         36,000.00 (20%)
Personnel	$                          -	$            (66,000.00)	$             22,000.00 (33.333%)	$         44,000.00 (66.667%)
Total cost after allocation have been made	$                          -	$                              -	$          210,000.00	$       200,000.00

Answer: Maintenance cost allocated to Production Department ‘A’ = $ 108,000 [180000 x 60%]

• Requirement 4 ‘c’: Reciprocal Method

Workings

Service Department	Direct Cost	% of service receivables from other service department		Let the Total cost be:
Maintenance	$      180,000.00	10%	From Personnel	X
Personnel	$        30,000.00	20%	From Maintenance	Y

Equation #1	X	=	180000	+	10%	of	Y
	X	=	180000	+	0.1Y
Equation #2	Y	=	30000	+	20%	of	X
	Y	=	30000	+	0.2X

Putting the Value of 'Y' into Equation #1
X	=	180000	+	0.1(30000 + 0.2X)
X	=	180000	+	(3000 + 0.02X)
X	=	180000	+	3000	+	0.02X
X	-	0.02X	=	180000	+	3000
0.98X			=	183000
X			=	183000 / 0.98
X			=	186734.6939

Putting the Value of 'X' calculated above into Equation #2
Y	=	30000	+	20%	of	X
Y	=	30000	+	20%	x	186734.6939
Y	=	30000	+	37346.93878
Y	=	67346.93878

Service Department		Maintenance calculated as 'X'
Using Departments:	Total cost to be allocated	% of service used	Cost allocated
Personnel	$      186,734.69	20%	$    37,346.94
A		60%	$ 112,040.82
B		20%	$    37,346.94
0
Total cost allocated			$ 186,734.69

Service Department		Personnel calculated as 'Y'
Using Departments:	Total cost to be allocated	% of service used	Cost allocated
Maintenance	$        67,346.94	10%	$         6,734.69
A		30%	$        20,204.08
B		60%	$        40,408.16
0		0%	$                       -
Total cost allocated			$        67,346.94

Allocation Table:

Department	Supplying (Service Department)		Using Department
	Maintenance	Personnel	A	B
Budgeted Cost	$              180,000	$                    30,000	$                   80,000	$             120,000
Allocation of:
Maintenance	$            (186,735)	$                    37,347	$                112,041	$               37,347
Personnel	$                   6,735	$                  (67,347)	$                   20,204	$               40,408
Total cost after allocation have been made	$                         (0)	$                              -	$                212,245	$             197,755

Answer: Amount of Maintenance cost allocated to Production Dept ‘A’ = $ 112,041

• Requirement 4’d’

Two possible reasons can be:

>The inefficiencies at the department providing the services do not affect the costs allocated to the user department because user departments cost will be based on budgeted rates.

>The user knows the cost in advance and can use them accordingly into on-going operating decisions.