Question

Elvis Wilbur owns two restaurants, the Beef Barn and the Fish Bowl. Each restaurant is treated as a profit center for performance evaluation. Although the restaurants have separate kitchens, they share a central baking facility. The principal costs of the baking area include depreciation and maintenance on the equipment, materials, supplies, and labor.

Required:

1. Elvis allocates the monthly costs of the baking facility to the two restaurants based on the number of tables served in each restaurant during the month. In April the costs were $30,000, of which $15,000 is fixed cost. The Beef Barn and the Fish Bowl each served 3,750 tables. How much of the joint cost should be allocated to each restaurant?

multiple choice 1

a.Beef Barn: $20,000; Fish Bowl: $10,000

b. Beef Barn: $10,000; Fish Bowl: $20,000

c. Beef Barn: $12,000; Fish Bowl: $18,000

d. Beef Barn: $15,000; Fish Bowl: $15,000

2. In May, total fixed and unit variable costs remained the same, but the Beef Barn served 2,500 tables and the Fish Bowl served 3,750. How much should be allocated to each restaurant?

multiple choice 2

a. Beef Barn: $10,000; Fish Bowl: $20,000

b. Beef Barn: $11,000; Fish Bowl: $16,500

c. Beef Barn: $12,000; Fish Bowl: $18,000

d. Beef Barn: $12,000; Fish Bowl: $15,000

3. Assume Elvis decides to use a dual allocation approach in which variable costs are traced directly to the user (based on tables served) and fixed costs are allocated evenly (because, on average, the two restaurants have equal activity levels). Considering again the tables served in requirement 2, how much should be allocated to each restaurant?

multiple choice 3

a. Beef Barn: $10,000; Fish Bowl: $20,000

b. Beef Barn: $11,000; Fish Bowl: $16,500

c. Beef Barn: $12,000; Fish Bowl: $18,000

d. Beef Barn: $12,500; Fish Bowl: $15,000

Answer 1

1)	Option D is Correct
	Explanation
	Departmental Cost Allocation in Profit Centers (20 min)
	Beef Barn: 3,750/7,500 x $30,000 = $15,000
	Fish Bowl: 3,750/7,500 x $30,000 = $15,000
	This is equivalent to charging each restaurant $4 ($30,000/6,000) per table. Since the usage of the baking area is equal, most would agree that an equal share of the total cost is appropriate.
2)	Option B is Correct
	Explanation
	One approach would be to use the allocation approach in (1) above, noting that total costs are now $15,000 fixed cost and unit variable cost is still $2 ($15,000/7,500). Thus total cost is now $15,000 + [$2 x (2,500 + 3,750)] = $27,500. The per-table cost is now $27,500/6,250 = $4.40 and the allocation is:
	Beef Barn: 2,500 x $4.40 = $11,000
	Fish Bowl: 3,750 x $4.40 = $16,500
	This result is equivalent to splitting the total cost 2/5 and 3/5 to reflect the proportion of meals served (2,500/6,250; 3,750/6,250):
	Beef Barn: 2/5 x $27,500 = $   11,000
	Fish Bowl: 3/5 x $27,500 = $16,500
	In effect, this approach continues to use the percentage of usage as a base. The manager of the Beef Barn is probably not too happy with this result, since the Barn’s sales are down 1/3, but baking has not decreased as much. Why? The manager may need a brief explanation of the effect of increasing unit costs when fixed costs don’t change and activity levels decline. But the manager of the Fish Bowl is most likely to be angry, because the Bowl hasn’t changed at all, but its unit costs have gone up by $.40, and total costs have increased $1,200. An un-motivating deficiency of this allocation method is thus that the activity levels in each unit can affect total activity, and therefore affect the amount of cost allocated to each unit.
3)	Option D is Correct
	Explanation
	A way to solve this deficiency is to use a different approach, based upon dual allocation, where variable costs are traced directly to the user, and fixed costs are allocated on some logical basis. In this case, suppose we split fixed costs evenly, because, on the average, the Bowl and the Barn have approximately equal activity levels.
	Beef Barn: 2,500 x $2 + ($7,500) = $12,500
	Fish Bowl: 3,750 x $2 + ($7,500) = $15,000
	This result is much more motivating, since the variable costs are traced directly, and the fixed costs are fairly allocated.