Cost allocation to divisions. Forber Bakery makes baked goods for grocery stores
ID: 2456627 • Letter: C
Question
Cost allocation to divisions. Forber Bakery makes baked goods for grocery stores and has three divisions: bread, cake, and doughnuts. Each division is run and evaluated separately, but the main headquarters incurs costs that are indirect costs for the divisions. Costs incurred in the main headquarters are as follows:
Human resources (HR) costs $1,900,000
Accounting department costs 1,400,000
Rent and depreciation 1,200,000 Other 600,000
Total costs $5,100,000
The Forber upper management currently allocates this cost to the divisions equally. One of the division managers has done some research on activity-based costing and proposes the use of different allocation bases for the different indirect costs—number of employees for HR costs, total revenues for accounting department costs, square feet of space for rent and depreciation costs, and equal allocation among the divisions of “other” costs. Information about the three divisions follows:
Bread Cake Doughnuts
Total revenues $20,900,000 $4,500,000 $13,400,000
Direct costs 14,500,000 3,200,000 7,250,000
Segment margin $6,400,000 $1,300,000 $6,150,000
# of employees 400 100 300
Sq.feet of space 10,000 4,000 6,000
Required
1. Allocate the indirect costs of Forber to each division equally. Calculate division operating income after allocation of headquarter costs.
2. Allocate headquarter costs to the individual divisions using the proposed allocation bases. Calculate the division operating income after allocation. Comment on the allocation bases used to allocate headquarter costs.
3. Which division manager do you think suggested this new allocation. Explain briefly. Which allocation do you think is “better?”
Explanation / Answer
1. Allocate the indirect costs of Forber to each division equally. Calculate division operating income after allocation of headquarter costs
Answer:
Product-wise profit position by Allocating the indirect costs of Forber to each division equally
SR No
Particulars
Bread
Cake
Doughnuts
Total
A
Total revenues
20,900,000
4,500,000
13,400,000
38,800,000
B
Less: Direct costs
14,500,000
3,200,000
7,250,000
24,950,000
C
Segment margin(A-B)
6,400,000
1,300,000
6,150,000
13,850,000
D
Indirect costs
E
Human resources (HR)
633,333
633,333
633,334
1,900,000
F
Accounting department costs
466,667
466,667
466,666
1,400,000
G
Rent
400,000
400,000
400,000
1,200,000
H
depreciation
200,000
200,000
200,000
600,000
I
Total Direct Cost(E+F+G+H)
1,700,000
1,700,000
1,700,000
5,100,000
J
operating income/Loss
4,700,000
-400,000
4,450,000
8,750,000
2. Allocate headquarter costs to the individual divisions using the proposed allocation bases. Calculate the division operating income after allocation. Comment on the allocation bases used to allocate headquarter costs.
Answer:
Compuation of Total No Cost Drivers
No of Cost Drivers
Cost Driver
Bread
Cake
Doughnuts
Total
# of employees
400
100
300
800
Total revenues
20,900,000
4,500,000
13,400,000
38,800,000
Sq.feet of space
10,000
4,000
6,000
20,000
Sq.feet of space
10,000
4,000
6,000
20,000
Compuation of Cost Driver Rate
Indirect costs
Cost
Cost Driver
Total No of Cost Driver for three Divisions
Cost Driver Rate
Human resources (HR)
1,900,000
# of employees
800
2375
Accounting department costs
1,400,000
Total revenues
38,800,000
0.04
Rent
1,200,000
Sq.feet of space
20,000
60
depreciation
600,000
Sq.feet of space
20,000
30
Total Direct Cost(E+F+G+H)
5,100,000
Allocation of Indirect Cost as per Divisional Manager's Proposal based on Above Proposal i.e No of Drivers multiplied with Cost Driver rate from the above two tables
Indirect costs
Bread
Cake
Doughnuts
Total
Human resources (HR)
950,000
237,500.00
712,500
1,900,000
Accounting department costs
754,123.71
162,371.13
483,505.15
1,400,000
Rent
600,000
240,000
360,000
1,200,000
depreciation
300,000
120,000
180,000
600,000
Total Direct Cost(E+F+G+H)
2,604,124
759,871
1,736,005
5,100,000
Product-wise profit position by Allocatingheadquarter costs to the individual divisions using the proposed allocation bases
SR No
Particulars
Bread
Cake
Doughnuts
Total
A
Total revenues
20,900,000
4,500,000
13,400,000
38,800,000
B
Less: Direct costs
14,500,000
3,200,000
7,250,000
24,950,000
C
Segment margin(A-B)
6,400,000
1,300,000
6,150,000
13,850,000
D
Indirect costs
E
Human resources (HR)
950,000
237,500
712,500
1,900,000
F
Accounting department costs
754,124
162,371
483,505
1,400,000
G
Rent
600,000
240,000
360,000
1,200,000
H
depreciation
300,000
120,000
180,000
600,000
I
Total Direct Cost(E+F+G+H)
2,604,124
759,871
1,736,005
5,100,000
J
operating income
3,795,876
540,129
4,413,995
8,750,000
You can observe by seeing the operating Income of Cake division is incurring Loss with the First method means it is incorrect way of allocation
3. Which division manager do you think suggested this new allocation. Explain briefly. Which allocation do you think is “better?”
Answer:
Division Manager is suggested correctly .Name not given. Second method is better .
Product-wise profit position by Allocating the indirect costs of Forber to each division equally
SR No
Particulars
Bread
Cake
Doughnuts
Total
A
Total revenues
20,900,000
4,500,000
13,400,000
38,800,000
B
Less: Direct costs
14,500,000
3,200,000
7,250,000
24,950,000
C
Segment margin(A-B)
6,400,000
1,300,000
6,150,000
13,850,000
D
Indirect costs
E
Human resources (HR)
633,333
633,333
633,334
1,900,000
F
Accounting department costs
466,667
466,667
466,666
1,400,000
G
Rent
400,000
400,000
400,000
1,200,000
H
depreciation
200,000
200,000
200,000
600,000
I
Total Direct Cost(E+F+G+H)
1,700,000
1,700,000
1,700,000
5,100,000
J
operating income/Loss
4,700,000
-400,000
4,450,000
8,750,000