Question

The question of the usefulness of cost allocations (discretionary accruals and management compensation plans) has been introduced in this and previous chapters. What, if anything, would you do about (fixed) cost allocations? Don’t forget to consider political costs.

Answer 1

The fixed cost which are incurred in a period includes the factory fixed overhead and administration fixed overhead like salary and wages and other management costs like political and adminstrative costs are allocated to the production on the basis of some defined cost driver. The cost driver could be Direct labor hours, Machine hours or Direct Labor cost or some other appropriate / accurate cost factor to distribute the fixed overhead costs to the production of a period. The total fixed costs incurred in a period is divided by the total cost factor consumed or budgeted for a period and predetermined fixed overhead rate is being calculated. So, calculated overhead rate is multiplied by the quantity of the cost factor, which will lead to fixed overhead cost per unit of production. Thus, the unit fixed cost so calculated is added to the total of unit to come up with total cost of a unit of product produced.

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