Overhead Allocation Flashcards
How do you allocate overheads/indirect costs to cost objects?
By using either the:
traditional approach or
the activity based costing (ABC) system
Is there a one size fits all approach to cost allocation?
No
What can the basic techniques of cost allocation be divided into?
Volume- and value-based techniques and
Activity-based techniques
What is a volume-based overhead allocation system?
It refers to any method of allocating overheads that is based on some measure related to production or service volumes.
What is a volume-based system frequently referred to?
TRADITIONAL overhead allocation system
What is another ‘traditional’ overhead allocation method?
Relative sales values (Value-based system)
How is the overheads allocated in a value-based system?
In proportion to the selling prices of products.
What is the 2 basic considerations that apply to a traditional system?
- What volume or value measure should be used?
2. What is the level of detail required in order to receive a reasonably accurate allocation?
When may a volume-based measure be appropriate?
When the products produced are largely the same.
Why is overheads sometimes assigned based on sales value?
Reflects the believe that a product with a higher sales value has been more costly to produce.
What is the financial accounting objective?
To calculate the cost at which the inventory will be reflected on the FS, before it is sold
What is the management accounting objective?
To calculate the amount by which the product contributes to profit when the product is sold.
What is a plant-wide rate?
The organization determine a single overhead rate for the organization in its entirety
What is a departmental rate?
A rate determined for each department.
How is a single plant-wide rate determined?
By accumulating the total overheads and dividing by the allocation base determined as most suitable.
Comparison between plant-wide and departmental rate
PW: single overhead rate calculated as a whole
D: Multiple overhead rates
PW: one allocation base is used
D: different allocation base for different departments (labour hours, machine hours, nr of employees, etc.)
PW: Overheads assigned to products based on total use of a single resource (allocation base)
D: overheads assigned to products based on amount of resources used by product in each department
Result
PW: overheads averaged between products
D: overheads are averaged, but less extensively
What is a cost centre?
A sub-unit of a department
What is production departments?
They are directly involved in producing the product.
What is support service departments?
They have no direct input into products, they support or service the departments that have a direct input
What is typical examples of support service departments?
IT or
Admin departments
Is support service department costs allocated too the production departments?
Yes, before the departmental overhead allocation rate is calculated.
What is the DIRECT approach to allocate support service department costs?
Requires management to allocate the costs directly to production departments.
Often done in how the production departments make use of the support service departments.
Is the direct approach preferred?
Sometimes, because of its simplicity
When will the results of a direct approach be less accurate?
If the support service departments consume a significant amount of each other’s resources
