Chapter 6 - Cost allocation and activity-based costing. This chapter presents the following content: Purposes of cost allocation, cost-plus contracts, fixed indirect costs – other approaches, select an allocation base, allocating service department costs,. | Prepared by Debby Bloom-Hill CMA, CFM 1 CHAPTER 6 Cost Allocation & Activity-Based Costing 2 Purposes of Cost Allocation To provide information for decision making To reduce frivolous use of common resources To encourage evaluation of services To provide “full cost” information Slide 6-3 Learning objective 1: Explain why indirect costs are allocated, describe the cost allocation process, and discuss allocation of service department costs. 3 Purposes of Cost Allocation Slide 6-4 Learning objective 1: Explain why indirect costs are allocated, describe the cost allocation process, and discuss allocation of service department costs. 4 Purposes of Cost Allocation To provide information for decision making When managers use a company resource they are receiving a charge for use Allocated cost should measure the opportunity cost of using a company resource Provides a useful benchmark The closer to the opportunity cost of use, the better the allocation Slide 6-5 Learning objective 1: Explain | Prepared by Debby Bloom-Hill CMA, CFM 1 CHAPTER 6 Cost Allocation & Activity-Based Costing 2 Purposes of Cost Allocation To provide information for decision making To reduce frivolous use of common resources To encourage evaluation of services To provide “full cost” information Slide 6-3 Learning objective 1: Explain why indirect costs are allocated, describe the cost allocation process, and discuss allocation of service department costs. 3 Purposes of Cost Allocation Slide 6-4 Learning objective 1: Explain why indirect costs are allocated, describe the cost allocation process, and discuss allocation of service department costs. 4 Purposes of Cost Allocation To provide information for decision making When managers use a company resource they are receiving a charge for use Allocated cost should measure the opportunity cost of using a company resource Provides a useful benchmark The closer to the opportunity cost of use, the better the allocation Slide 6-5 Learning objective 1: Explain why indirect costs are allocated, describe the cost allocation process, and discuss allocation of service department costs. 5 Purposes of Cost Allocation To reduce frivolous use of common resources When managers are not charged for a service, they may tend to use it for frivolous or nonessential purposes Frivolous use may have hidden costs such as slower service Allocation provides incentive for departments to reduce frivolous use Slide 6-6 Learning objective 1: Explain why indirect costs are allocated, describe the cost allocation process, and discuss allocation of service department costs. 6 Purposes of Cost Allocation To encourage evaluation of services If costs are not allocated, there is no incentive to evaluate the services and look for lower cost alternatives With cost allocation, there is a strong incentive to critically evaluate the efficiency and necessity of services Users will certainly bring lower cost alternatives to the company’s attention Slide 6-7 Learning objective 1:
