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Unformatted text preview: Chapter 6 Cost Allocation and Activity-Based Costing QUESTIONS 1. Indirect costs are allocated to (1) provide information for decision making, (2) reduce frivolous use of common resources, (3) encourage evaluation of internally provided services, and (4) calculate the “full cost” of products for GAAP reporting . 2. The statement is false. Cost allocation refers to the process of assigning indirect costs. Direct costs are traced to cost objects. Costs are allocated for a variety of reasons. It is not economically feasible to directly trace some costs to cost objects—these costs are classified as indirect costs and are allocated to the cost object via the use of an allocation base. 3. Charging for internal services can reduce frivolous use of resources and encourage departments being charged to critically evaluate the service. In addition, GAAP requires that all manufacturing costs be assigned to goods being produced. Thus, cost allocation of indirect manufacturing costs is required. 4. Cost-plus contracts specify that the contractor will be paid for the cost of production (or services) plus some fixed amount or percentage of cost. Defense contracts with the federal government are often cost-plus contracts. A major problem with cost-plus contracts is that they give the contractor an incentive to allocate as much cost as possible to the cost-plus contract (via the choice of an allocation base) where it will be reimbursed. 5. A cost objective is a product, service, or department that receives an allocation of cost. For example, a production department that receives an allocation of janitorial cost is a cost objective. Likewise, a product in a department that receives an allocation of depreciation of equipment is a cost objective. 6. A cost pool is a collection of individual indirect costs whose total is allocated using one allocation base. Cost pools are often formed along department lines. For example, the maintenance cost pool would include all costs of the maintenance department. 7. A concern in forming a cost pool is that the costs within the cost pool be similar or homogeneous. It is unlikely that variable and fixed costs are similar (i.e., that one allocation base is suitable for allocating both fixed and variable costs). Homogeneous cost pools provide more accurate information. Jiambalvo Managerial Accounting 8. Number of employees in a department would, most likely, result in a cause-and-effect allocation (at least for the variable costs in the cafeteria). 9. (1) Benefits received (relative benefits) (2) Ability to bear costs (3) Equity or fairness 10. If budgeted costs are allocated, then service departments cannot pass on inefficiencies and waste. Allocating actual costs gives the service department little incentive to be efficient ....
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- Spring '10
- Decision Making, Jiambalvo Managerial Accounting