Multiple Department Allocation in Cost Accounting
Every department in your business needs to budget to control costs when cost accounting. That rule applies whether the departments create a product, provide a service, or support other departments.
When it comes to support costs, you should have a goal in mind. Figure out which departments exist to support other departments or divisions. Select a method to allocate the support costs to those departments. This section explains the methods you can consider to allocate costs to multiple departments.
Say you manage a chain of fast-food restaurants. The human resources department supports each restaurant. It does so by advertising open positions, performing background checks, and ordering drug testing for job candidates. The restaurants sell the product (fast food) to customers, so restaurants are an operating department. The human resources department is a support department.
Your company’s legal department provides services to human resources. It assists with any potential legal issues that come up with employees (hiring, terminations, promotions, and so forth). The legal department is a support department providing services to another support department.
Now move on to allocating costs. Consider the fast-food restaurant example, and you may start to see some complications with support cost allocation.
The legal department provides support to human resources, but also to the restaurants directly. For example, the legal department reviews and negotiates contracts for the restaurants. You read earlier how HR supports the restaurants. All this makes sense, but you have to be prepared to slice up the cost allocation pie correctly.
The restaurant industry experiences high levels of employee turnover. Employee turnover refers to the process of losing employees (either voluntarily or through termination) and replacing them. In particular, the fast-food industry hires many young people, many of whom don’t stay very long. It’s a constant process of hiring.
As a restaurant owner explained, I’m not in the food business. I’m in the human resources business. Turnover is understandable, because there’s not much future for fast-food employees, whose only bright moment is to ask, Would you like a nice hot apple turnover with your order?
Ideally, all support costs should be fully allocated to operating departments. That makes sense, because operating department costs get allocated to the products or services. If you don’t allocate all support costs, those costs never get allocated to the customer (in the product price). Because all costs are allocated to the operating departments, any allocation method should zero out each support department’s cost.