After studying this chapter, you should be able to: Allocate service department costs to operating departments using the direct method, allocate service department costs to operating departments using the step-down method. | Lecture 30: Budgetary planning and customer profitability analysis Cost Allocation Assigning indirect costs to cost objects These costs are not traced Indirect costs often comprise a large percentage of Total Overall Costs 2 2 Purposes of Cost Allocation Six-Function Value Chain Traditional Life Cycle approach may not yield the costs necessary to meet the four-purpose criteria for cost allocation Costs necessary for decision-making may pull costs from some or all of these six functions 4 4 Criteria for Cost-Allocation Decisions Cause and Effect – variables are identified that cause resources to be consumed Most credible to operating managers Integral part of ABC Benefits Received – the beneficiaries of the outputs of the cost object are charged with costs in proportion to the benefits received 5 5 Criteria for Cost-Allocation Decisions Fairness (Equity) – the basis for establishing a price satisfactory to the government and its suppliers. Cost allocation here is viewed as a “reasonable” or “fair” means of establishing selling price Ability to Bear – cost are allocated in proportion to the cost object’s ability to bear them Generally, larger or more profitable objects receive proportionally more of the allocated costs 6 6 Cost Allocation Illustrated 7 7 Corporate and Division Overhead Allocation Illustrated 8 8 Customer Revenues and Customer Costs Customer-Profitability Analysis is the reporting and analysis of revenues earned from customers and costs incurred to earn those revenues An analysis of customer differences in revenues and costs can provide insight into why differences exist in the operating income earned from different customers 9 9 Customer Revenues Price discounting is the reduction of selling prices to encourage increases in customer purchases Lower sales price is a tradeoff for larger sales volumes Discounts should be tracked by customer and salesperson 10 10 Customer Cost Analysis Customer Cost Hierarchy categorizes costs related to customers into | Lecture 30: Budgetary planning and customer profitability analysis Cost Allocation Assigning indirect costs to cost objects These costs are not traced Indirect costs often comprise a large percentage of Total Overall Costs 2 2 Purposes of Cost Allocation Six-Function Value Chain Traditional Life Cycle approach may not yield the costs necessary to meet the four-purpose criteria for cost allocation Costs necessary for decision-making may pull costs from some or all of these six functions 4 4 Criteria for Cost-Allocation Decisions Cause and Effect – variables are identified that cause resources to be consumed Most credible to operating managers Integral part of ABC Benefits Received – the beneficiaries of the outputs of the cost object are charged with costs in proportion to the benefits received 5 5 Criteria for Cost-Allocation Decisions Fairness (Equity) – the basis for establishing a price satisfactory to the government and its suppliers. Cost allocation here is viewed as a .
