Truck Division Variable costs: $3 per meal x 20,000 meals... $60,000 $3 per meal x 20,000 meals... $60,000 Fixed costs: 65% x $40,000...

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1 Problem A Auto Division Truck Division Variable costs: $3 per meal x 35,000 meals... $105,000 $3 per meal x 20,000 meals... $60,000 Fixed costs: 65% x $40, ,000 35% x $40, ,000 Total cost allocated... $131,000 $74,000 The variable costs are allocated by multiplying the budgeted rate per meal by the budgeted number of meals that will be served in each division during the month. The fixed costs are allocated in predetermined, lump-sum amounts based on the peak-period need for meals in each division. 2. Auto Division Truck Division Variable costs: $3 per meal x 20,000 meals... $60,000 $3 per meal x 20,000 meals... $60,000 Fixed costs: 65% x $40, ,000 35% x $40, ,000 Total cost allocated... $86,000 $74,000 The variable costs are allocated according to the budgeted rate per meal and not according to the actual rate. The fixed costs are again allocated in predetermined, lump-sum amounts, based on budgeted fixed costs. Any difference between budgeted and actual costs is not allocated, but rather 1

2 is treated as a spending variance of the cafeteria: Variable Fixed Total actual costs for the month... $128,000 $42,000 Total cost allocated above ,000 40,000 Spending variance not allocated... $ 8,000 $ 2,000 2

3 Problem A-11 (continued) 3. Actual variable costs... $128,000 Actual fixed costs... 42,000 Total actual costs... $170,000 One-half of the cost, or $85,000, would be allocated to each division, since an equal number of meals were served in each division during the month. 4. This method has two major problems. First, the spending variances should not be allocated, since this forces the inefficiencies of the service department onto the using departments. Second, the fixed costs should not be allocated according to month-by-month usage of services, since this causes the allocation to one division to be affected by what happens in another division. 5. Their strategy probably will be to underestimate their peak period requirements in order to force a greater proportion of any allocation onto other departments. Top management can control ploys of this type by careful follow-up, with rewards being given to those managers who estimate accurately, and severe penalties assessed against those managers who underestimate their peak period requirements. For example, departments whose managers underestimate their peak period requirements may be denied access to the cafeteria once their estimates have been exceeded. 3

4 Problem A and 2. Equipment Building & Administration ance Mainten Grounds Variable costs to be allocated... R 0 R22,200 R16,900 Fabrication Finishing Administration: R20 per employee x 30 employees... (600) 600 R20 per employee x 450 employees... (9,000) R 9,000 R20 per employee x 630 employees... (12,600) R12,600 Equipment maintenance: R0.10 per MH x 70,000 MHs... (7,000) 7,000 R0.10 per MH x 105,000 MHs... (10,500) 10,500 Totals... R 0 R 0 R 0 R16,000 R23,100 4

5 Problem A-15 (continued) Building & Administration Maintenance Equipment Grounds Fixed costs to be allocated... R88,200 R60,000 R24,000 Fabrication Finishing Building & Grounds: R30 per sq. ft. x 50 sq. m... (1,500) 1,500 R30 per sq. ft. x 140 sq. m.... (4,200) 4,200 R30 per sq. ft. x 1,200 sq. m.... (36,000) R36,000 R30 per sq. ft. x 1,550 sq. m.... (46,500) R46,500 Administration: 3% x R61, (1,845) 1,845 38% x R61, (23,370) 23,370 59% x R61, (36,285) 36,285 Equipment Maintenance: 40% x R30, (12,018) 12,018 60% x R30, (18,027) 18,027 Total fixed costs... R 0 R 0 R 0 R 71,388 R100,812 Total allocated costs... R 0 R 0 R 0 R 87,388 R123,912 Other budgeted costs , ,000 Total overhead costs (a)... R653,388 R933,912 Budgeted machine-hours (b)... 70, ,000 Predetermined overhead rate (a) (b)... R9.33 R8.89 5

6 Problem A-15 (continued) Computation of allocation rates: Variable Administration: Variable administrative costs Allocation rate= Employees R22,200 = =1,110 employees =R20 per employee Variable Equipment Maintenance: Variable equipment maintenance costs Allocation rate= Machine-hours R16,900 + R600 = 70, ,000=175,000 MHs =R0.10 per MH Fixed Building & Grounds: Fixed building and grounds costs Allocation rate= Square metres R88,200 = ,200+1,550=2,940 square metres =R30 per square metre 6

7 Problem A-15 (continued) Fixed Administration: Department fixed costs... R60,000 Allocated from Building & Grounds... 1,500 Costs to be allocated... R61,500 Employees at full capacity: Equipment Maintenance % Fabrication Finishing Total... 1, % Fixed Equipment Maintenance: Department fixed costs... R24,000 Allocated from Building & Grounds... 4,200 Allocated from Administration... 1,845 Costs to be allocated... R30,045 Allocation percentages are given in the problem. 3. Equipment Mainten ance Fabrication Finishing Total Variable cost allocation: R20 per employee x 32 employees... R640 R 640 R20 per employee x 460 employees... R9,200 9,200 R20 per employee x 625 employees... R12,500 12,500 Total cost allocated... R22,340 Actual variable administration cost... R23,800 Total cost allocated above... 22,340 Spending variance not allocated... R 1,460 7

8 Problem A-16 General Administration Cost Accounting Laundry Convention Centre Food Services Guest Lodging Variable costs... $ 0 $70,000 $143,000 $ 0 $52,000 $ 24,000 Cost Accounting allocation: $5 per item x 800 items... (4,000) 4,000 $5 per item x 1,200 items... (6,000) 6,000 $5 per item x 3,000 items... (15,000) 15,000 $5 per item x 9,000 items... (45,000) 45,000 Laundry allocation: $1.20 per kilogram x 10,000 kilograms... (12,000) 12,000 $1.20 per kilogram x 7,500 kilograms... (9,000) 9,000 $1.20 per kilogram x 105,000 kilograms... (126,000) 126,000 Total variable costs... $ 0 $ 0 $ 0 $18,000 $76,000 $195,000 8

9 Problem A-16 (continued) General Administration Cost Accounting Laundry Convention Centre Food Services Guest Lodging Fixed costs... $200,000 $110,000 $65,900 $ 95,000 $375,000 $486,000 General Administration allocation: 10% x $200, (20,000) 20,000 4% x $200, (8,000) 8,000 30% x $200, (60,000) 60,000 16% x $200, (32,000) 32,000 40% x $200, (80,000) 80,000 Cost Accounting allocation: 7% x $130, (9,100) 9,100 13% x $130, (16,900) 16,900 20% x $130, (26,000) 26,000 60% x $130, (78,000) 78,000 Laundry allocation: 10% x $83, (8,300) 8,300 6% x $83, (4,980) 4,980 84% x $83, (69,720) 69,720 Total fixed costs... $ 0 $ 0 $ 0 $180,200 $437,980 $713,720 Total overhead costs... $ 0 $ 0 $ 0 $198,200 $513,980 $908,720 9

10 Problem A-16 (continued) Computations of allocation rates: Variable Cost Accounting: Variable cost accounting costs Allocation rate= Items processed Variable Laundry: $70,000 = 15,000-1,000=14,000 items =$5 per item Variable laundry costs Allocation rate= Kilograms processed = $143,000+$4, ,500 kilograms =$1.20 per kilogram 10

11 Case A-18 (75 minutes) 1. Step method: Human Resources Custodial Services Maintenance Printing Binding Total cost before allocations... $360,000 $141,000 $201,000 $525,000 $373,500 Allocations: Human Resources $1,800 per employee)*... (360,000) 27,000 45,000 72, ,000 Custodial services $12.00 per square metre)**... (168,000) 24,000 96,000 48,000 Maintenance (5/6, 1/6)... (270,000) 225,000 45,000 Total overhead cost after allocations... $ 0 $ 0 $ 0 $918,000 $682,500 Divide by machine-hours ,000 Divide by direct labour-hours ,000 Predetermined overhead rate... $ 6.12 $ 3.90 * Based on = 200 employees. ** Based on 2, , ,000 = 14,000 square metres. 11

12 Case A-18 (continued) 2. Direct method: Human Resources Custodial Services Maintenance Printing Binding Total costs before allocations... $360,000 $141,000 $201,000 $525,000 $373,500 Allocations: Human Resources (1/4, 3/4)*... (360,000) 90, ,000 Custodial Services (2/3, 1/3)**... (141,000) 94,000 47,000 Maintenance (5/6, 1/6)... (201,000) 167,500 33,500 Total overhead cost after allocations... $ 0 $ 0 $ 0 $876,500 $724,000 Divide by machine-hours ,000 Divide by direct labour-hours ,000 Predetermined overhead rate... $ 5.84 $ 4.14 * Based on = 160 employees. ** Based on 8, ,000 = 12,000 square metres. 12

13 Case A-18 (continued) 3. a. The amount of overhead cost assigned to the job would be: Step method: Printing department: $6.12 per machine-hour x 15,400 machine-hours... $ 94,248 Binding department: $3.90 per direct labour-hour x 2,000 direct labourhours... 7,800 Total overhead cost... $102,048 Direct method: Printing department: $5.84 per machine-hour x 15,400 machine-hours... $ 89,936 Binding department: $4.14 per direct labour-hour x 2,000 direct labourhours... 8,280 Total overhead cost... $ 98,216 b. The step method provides a better basis for computing predetermined overhead rates than the direct method because it gives recognition to services provided between service departments. If this interdepartmental service is not recognized, then either too much or too little of a service department s costs may be allocated to a producing department. The result will be an inaccuracy in the producing department s predetermined overhead rate. For example, using the direct method and ignoring interdepartmental services causes the predetermined overhead rate in the Printing Department to fall to only $5.84 per MH (from $6.12 per MH when the step method is used), and causes the predetermined overhead rate in the Binding Department to rise to $4.14 per DLH (from $3.90 per DLH when the step method is used). These inaccuracies in the predetermined overhead rate can cause corresponding inaccuracies in bids for jobs. Since the direct method in this case understates the rate in the Printing Department and overstates the rate in the Binding Department, it is not surprising that the company tends to bid low on jobs requiring a lot of printing work and tends to bid too high on jobs that require a lot of binding work. 13