Cost Allocation

In: Business and Management

Submitted By lholden123
Words 979
Pages 4
Cost Allocation
ACC/561
April 23, 2012

Cost Allocation
The purpose of cost allocation is to identify and correctly allocate costs associated with a job, product, or service. The main uses of cost allocation are to facilitate decision-making regarding costs, justify prices charged for products and services, cost control, and for optimal utilization of resources. There are several methods used for cost allocation, depending on the type of product or service offer by the company.
Variable cost allocation includes only variable manufacturing costs, such as direct materials, direct labor, and variable manufacturing overhead. Absorption cost allocation includes manufacturing costs, including both variable and fixed overhead as well as direct labor and materials. There are advantages and disadvantages of each method, and these will be explored further.
Methods of Cost Allocation
There are three main methods of cost allocation used by businesses: The Direct Method, the Step Method, and the Reciprocal Method.
The direct method, which is the simplest of the three, allocates the costs of service departments directly to operating departments. Under the direct method, there are no costs allocated from one service department to another service department regardless of how much service may be provided between them. For instance, there would be no cost allocation between a custodial department and the mail room, even though the custodial department cleans the mail room. Instead, the costs of both custodial and mail room service hours would be allocated directly to the operating departments of the company, such as the manufacturing, packaging, and shipping departments. The advantage of ignoring the interdepartmental allocation of service departments provides a straight forward calculation for overhead rates for the company's operations. However, this method,…...

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