O'Brian's Department Stores allocates the costs of the Personnel and Payroll departments to three retail sales departments, Housewares, Clothing, and Furniture. In addition to providing services to the operating departments, Personnel and Payroll provide services to each other. O'Brian's allocates Personnel Department costs on the basis of the number of employees and Payroll Department costs on the basis of gross payroll. Cost and allocation information for June is as follows: Personel Payroll Housewares Clothing Furniture
Direct department cost $6,500 $3,300 $11,900 $20,000 $16,350
Number of employees 5 3 9 15 3
Gross payroll $6,400 $3,400 $11,400 $17,800 $8,000

Required:
a. Determine the percentage of total Personnel Department services that was provided to the Payroll Department.
b. Determine the percentage of total Payroll Department services that was provided to the Personnel Department.
c. Prepare a schedule showing Personnel Department and Payroll Department cost allocations to the operating departments, assuming O'Brian's uses the step method.

a. Determination of the percentage of total Personnel Department services provided to the Payroll Department:

= No. of payroll department employees/Total number of employees x 100

= 3/35 x 100 = 8.57%

b. Determination of the percentage of total Payroll Department services provided to the Personnel Department:

= No. of personnel department employees/Total number of employees x 100

= 5/35 x 100 = 14.29%

c. Schedule showing Personnel Department and Payroll Department Cost Allocations to the Operating Departments, using the step method:

                  Personnel  Payroll    House   Clothing   Furniture       Total

                                                      Wares

Number of

 employees      5               3             9             15              3               35

Direct department

 cost              $6,500   $3,300   $11,900  $20,000   $16,350    $58,050

Gross payroll $6,400   $3,400   $11,400    $17,800    $8,000   $47,000

Personnel    -12,900      1,290      3,870        6,450       1,290       12,900

Payroll            0            -7,990      2,449        3,823         1,718        7,990

Total allocated 0             0       $29,619    $48,073  $27,358  $105,050

Explanation:

a) Data:

1. Personnel and Payroll departments' cost to Housewares, Clothing, and Furniture

2. Personnel and Payroll provide services to each other.

3. Basis of Service Departments' Cost Allocation:

Personnel Department:  Number of employees

Payroll Department: Gross Payroll

4. Cost and Allocation Information for June:

                    Personnel  Payroll    House   Clothing   Furniture    Total

                                                      Wares

Direct department

 cost              $6,500    $3,300    $11,900  $20,000   $16,350     $58,050

Number of

 employees      5               3             9             15              3               35

Gross payroll $6,400    $3,400   $11,400    $17,800    $8,000    $47,000

Personnel    -12,900       1,290      3,870        6,450       1,290       12,900

Payroll            0             -7,990      2,449        3,823         1,718        7,990

Total allocated 0             0        $29,619    $48,073  $27,358  $105,050        

b) Cost Allocation Calculations:

Personal cost = Personal Cost divided by the number of employees in the other departments

= $12,900/30 = $430 per employee

Payroll cost = Payroll cost divided by the total gross payroll in the other departments, excluding personnel and payroll departments

= $7,990/37,200 = $0.21478

c) Allocation of service departments' costs is a method of apportioning costs incurred by service departments to the production departments so that the costs could be captured in the production costs.  There are three methods for allocating service departments' costs to the production departments.  The first and the simplest is the direct method, whereby the costs of service departments are allocated directly to each production department based on the consumption of the service department's services.

The second method is the step method.  With this method, the costs of one service department with the highest cost are allocated to all other departments, including production and other service departments following a stepping methodology.  The costs of the next service department are allocated to the remaining departments.  This step is continued until all the service departments' costs have been allocated.  Note that a service department whose costs have been completely allocated would not be allocated any other cost.

The third method is the reciprocal method.  This establishes the relationship among the service departments and uses the established relationship in a linear equation to allocate the costs of service departments.  While it is more accurate, it is also the most complicated.  Three steps are followed as follows: determine allocation bases, set up the formula, which shows the relationships, and finally add up the allocated costs to the production departments.  Details cannot be discussed here.

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