Stage 1 Allocations

# Stage 1 Allocations - THREE METHODS FOR STAGE I ALLOCATIONS...

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THREE METHODS FOR STAGE I ALLOCATIONS There are three methods for allocating service department costs to producing departments. These include: 1) the direct method, 2) the step-down or sequential method and 3) the reciprocal method. Each method includes developing a set of equations to represent the relationships involved and then solving the equations to generate the desired cost allocations. The equations may be developed for each approach using the proportions of service that each department uses, or using charging rates (activity rates) for each service department. Since it is easier to use proportions when there are only a few departments, proportions are used to introduce the topic. The two equations presented below are developed for each of the three approaches. Direct costs (D) refers to the costs that are incurred within each department. Thus, the equations show that the total costs of a producing department includes the department's direct cost (D i ), plus the allocations from the various service departments (i.e., the sum of [(K ji )(S j )]). Normally the number of service departments indicates the number of allocations to each producing department. However, the number of allocations to the service departments depends on the allocation method and the extent of the self services and reciprocal services involved. The Direct Method

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The direct method simplifies the allocation process by ignoring self services and reciprocal services between service departments. As a result, Equation [1] takes on the form S i = D i = S j since the proportions (K ji ) of service provided internally and to other service departments are ignored. This approach is accomplished in two steps. The first step involves developing equations to reflect the relationships between the service departments and the producing departments, i.e., equation form [2] presented above. After these equations are developed, they are used to allocate the service department costs directly to the producing departments in the second step. Although this is the simplest method, it is also the least accurate method. The Step-Down or Sequential Method The step-down, or sequential method, ignores self services, but allows for a partial recognition of reciprocal services. As a result, the step-down method is different from the direct method in that some service department costs are allocated to other service departments. Thus, both equations [1] and [2]) are needed. Equations for the service
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## This note was uploaded on 04/03/2012 for the course ACCT 325 taught by Professor Warren during the Spring '08 term at Rutgers.

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Stage 1 Allocations - THREE METHODS FOR STAGE I ALLOCATIONS...

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