Question

BluStar Company has two service departments, Administration and Accounting, and two operating departments, Domestic and International. Administration costs are allocated on the basis of employees, and Accounting costs are allocated on the basis of number of transactions. A summary of BluStar operations follows:   

	Administration			Accounting			Domestic			International
Employees		–			30			55			15
Transactions		39,000			–			19,000			76,000
Department direct costs	$	354,000		$	147,000		$	960,000		$	3,580,000

Required:

a. Allocate the cost of the service departments to the operating departments using the direct method. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign.)

b. Allocate the cost of the service departments to the operating departments using the step method. Start with Administration. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign.)

c. Allocate the cost of the service departments to the operating departments using the reciprocal method. (Do not round intermediate calculations. Negative amounts should be indicated by a minus sign.)

Answer 1

1. Direct method

Allocation ratio	Domestic	International
Proportion of employee	0.79 (55 / 70)	0.21 (15 / 70)
Proportion of transaction	0.2 (19,000/95,000)	0.8 (76,000 / 95,000)

Cost allocations	cost	Domestic	International
Administration	3,54,000	2,79,660	73,340
Accounting	1,47,000	29,400	1,17,600

2. Step method

Allocation ratio	Administration	Accounting	Domestic	International
Proportion of employee	-	0.3 (30/100)	0.55 (55/100)	0.15 (15/100)
Proportion of transaction	0.29 (39,000 / 134,000)	-	0.14 (19,000 / 134,000)	0.57 (76,000 / 134,000)

Cost allocations	Administration	Accounting	Domestic	International
Direct cost	3,54,000	1,47,000
Administration	-3,54,000	1,06,200	1,94,700	53,100
Accounting		-2,53,200	50,640	2,02,560
cost after allocation	0	0	2,45,340	2,55,660

3. Reciprocal method

the separate expense Administration is 3,54,000 but it gets the allocation from Accounting expense to the extent of 29%. Suppose the total expense of Administration is X and total expense of the Accounting is Y. hence, the total expense of X will be

X's total expense = 3,54,000 + 29/100(Y)

X = 354,000 + 0.29(Y) ........... (1)

similarly, the separate expense of Y is 1,47,000 but to this will be added 30% of the expense of X, hence, total expense of Y will be

Y's total expense = 1,47,000+ 30/100 (X)

Y = 147,000 + 0.3(X) ........(2)

if we put value of X = 354,000 + 0.29(Y) in this equation we get

Y = 147,000 + 0.3 (354,000 + 0.29(Y) )

Y = 147,000 +106,200 + 0.087Y

0.913Y = 253,200

Y = 277,328, hence accounting expense (including administration) = 277,328

now put the value of Y of equation (1)

X = 354,000 + 0.29(Y)

X = 354,000 + 0.29 (277,328)

X = 354,000 + 80,425

X = 434,425 , hence administration (including accounting expense) = 434,425

Cost allocations	cost	Domestic	International
Administration	434,425	238,934	65,164
Accounting	277,328	38,826	158,077