Scribd
Upload
178 views5 pages

Direct Method of Allocation - Managerial Accounting

This document provides an example of using the direct method to allocate service department costs to operating departments. It details a company with two service departments, Maintenance and Administration, and two operating departments. The direct method allocates the costs of each service department to the operating departments based on the allocation base for that service, such as machine hours or number of employees. The document walks through calculating the allocation rates for each service department and applying those rates to allocate the service department costs to the operating departments. The total allocations equal the original service department costs.

Uploaded by

Mary Joy Morallon Calagui
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
178 views5 pages

Direct Method of Allocation - Managerial Accounting

This document provides an example of using the direct method to allocate service department costs to operating departments. It details a company with two service departments, Maintenance and Administration, and two operating departments. The direct method allocates the costs of each service department to the operating departments based on the allocation base for that service, such as machine hours or number of employees. The document walks through calculating the allocation rates for each service department and applying those rates to allocate the service department costs to the operating departments. The total allocations equal the original service department costs.

Uploaded by

Mary Joy Morallon Calagui
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
You are on page 1/ 5

Managerial Accounting

Appendix: Service Department Allocation

Direct Method of Allocation


The direct method allocates costs of each of the service departments to each operating
department based on each department’s share of the allocation base. Services used by
other service departments are ignored. This means the direct method does not
recognize service performed by other service departments. For example, if Service
Department A uses some of Service Department B’s services, these services would be
ignored in the cost allocation process. Because these services are not allocated to other
service departments, some accountants
believe the direct method is not accurate.

Support Cost Allocation Using the Direct Meth…

Let’s look at another example. A company has 2 service departments, Maintenance and
Administration, and 2 operating departments (Department 1 and 2 for simplicity). The
costs of the maintenance department are allocated based on the machine-hours used.
For the
administration department, the cost allocation is based on the number of employees.
The following information is provided:
Service Dept Operating Dept

Maintenance Administration 1 2

Costs $8,000 $4,000 $32,000 $36,000

Machine-hours used 1,000 2,000 1,500 2,500

Number of Employees 100 200 250 150

Remember how we calculate predetermined overhead rates? We will need that same
formula again. The formula to calculate the allocation rate will be slightly modified for
service department cost but will be:

Service Dept Cost

TOTAL Cost Driver (operating depts only)

Notice, we use the operating department cost drivers only since we are allocating the
service department cost to operating departments only and not to another service
department. Maintenance uses machine-hours as the cost driver or basis and
Administration uses number of employees. We can calculate the service department
allocation rates as follows:

Maintenance Dept Cost = $8,000 =$8,000


= $2 per machine
TOTAL Machine Hours (operating (1,500 + hour
4,000
depts only) 2,500)

Administration Dept Cost = $4,000 =$4,000


= $10 per
TOTAL Employees (operating depts employee
(250 + 150) 400
only)

To allocate the service department costs to each operating department, we will take the
amount of the cost driver (machine hours for maintenance and employees for
administration) x the allocation rate we just calculated.
Operating Dept 1 Operating Dept 2

Maintenance $3,000 $5,000

(1,500 mach hour x $2 per mach (2,500 mach hour x $2 per mach
hr) hr)

Administration $2,500 $1,500

(250 employees x $10 per (150 employees x $10 per


employee) employee)

Notice how the total maintenance amount allocated to the two departments (3,000 +
5,000) equals the maintenance department cost of $8,000. The same applies to
administration as the total cost is $4,000 and we allocated a total of $4,000 (2,500 +
1,500). We can summarize the changes to the costs of each department:

Service Dept Operating Dept

Maintenance Administration 1 2

Costs $8,000 $4,000 $32,000 $36,000

Allocation of maintenance ($8,000) 3,000 5,000

Allocation of administration ($4,000) 2,500 1,500

Total Costs $0 $0 $37,500 $42,500

Previous Next

You might also like