Question

John’s Custom Computer Shop (JCCS) assembles computers for both individual and corporate customers. The company is organized into two divisions: Personal and Business. Once a computer is built, it is shipped to the customer. Billing for all customers is handled by the corporate Accounts Receivable Department. Accounts Receivable performs two major activities: billing and dispute resolution. Billing refers to preparing and sending the bills as well as processing the payments. Dispute resolution occurs when a customer refuses to pay, usually due to an error in billing.

The costs of the Accounts Receivable Department are allocated to the two divisions based on the number of bills prepared. Kyle, the manager of the Business division, has complained that the allocated costs from Accounts Receivable are beginning to make the business division look unprofitable and has asked you to recommend some changes to the allocation system. If he agrees with your recommendation, he will pass them on to the chief financial officer.

Data on costs and activities in the Accounts Receivable Department follow.

	Personal	Business	Total
Number of bills prepared	600	350	950
Number of disputes	60	15	75

The Accounts Receivable Department incurred the following costs during the year.

Billing	$	38,000
Dispute resolution		37,500
Total	$	75,500

Required:

a. Under the current allocation system, what is the cost that will be allocated from Accounts Receivable to Personal? To Business?

Allocated Costs: Personal? Business?

b. Suppose the company implements an activity-based cost system for Accounts Receivable with two activities, billing and dispute resolution. What is the cost that will be allocated from Accounts Receivable to Personal? To Business? Use the number of bills prepared as the cost driver for billing costs and the number of disputes for dispute resolution costs.

Billing for Personal? Billing for Business?

Dispute Resolution for Personal? Dispute Resolution for Business?

Answer 1

a.) Total accounts receivable department cost = billing + dispute resolution = $ 38000 + $ 37500 = $ 75500

under current system the cost of the account receivable department will be allocated to business and personal departments based on number of bills prepared.

Number of bills prepared under Business department = 350

Number of bills prepared under personal department = 600

total bills prepared = 950

costs will be allocated from account receivable to personal department =(total cost of accounts receivable department/total bills prepared)* bills prepared under personal department ) = (75500/950) * 600 = $ 47684.21

costs will be allocated from account receivable to business department = (total cost of accounts receivable department/total bills prepared)*bills prepared under business department = ( 75500/950)* 350 = $ 27815.79

b.) If the company implements activity based cost system, number of disputes and number of bills prepared will be used to allocate dispute resolution cost and billing cost respectively to business and personal departments.

total billing cost = 38000

total bills prepared = 950

Number of bills prepared under personal department = 600

Number of bills prepared under Business department = 350

cost driver for billing cost is number of bills prepared.

billing cost allocated to personal department =   (total billing cost/total bills prepared) * number of bills prepared under business personal department = (38000/950) * 600 = $ 24000

billing cost allocated to business department = (total billing cost/total bills prepared) * number of bills prepared under business department.=  (38000/950) * 350 = $ 14000

total dispute resolution cost = $ 37500

cost driver used for allocating dispute cost will be number of disputes.

Number of disputes under personal department = 60

Number of disputes under business department = 15

total number of disputes = 75

dispute resolution cost allocated to personal department = (total dispute resolution cost / total number of disputes) * number of disputes in personal department = (37500/75)*60 = $ 30000

dispute resolution cost allocated to business department = (total dispute resolution cost / total number of disputes) * number of disputes in business department = (37500/75)*15 = $ 7500

cost will be allocated from account receivable to personal = billing cost + dispute resolution cost = $ 24000 + $ 30000

= $ 54000

cost will be allocated from account receivable to business = billing cost + dispute resolution cost = $ 14000 + $ 7500

= $ 21500