Fundamentals of Cost Accounting 3rd Edition by William N. Lanen, Shannon W. Anderson, Michael Maher

Exercise 21

Cost Allocation with Cost Flow Diagram

The library at Pacific Business School (PBS) serves both undergraduate and graduate programs. The dean of PBS is interested in evaluating the profitability of the degree programs and has asked the head of the library, Rex Gilmore, to allocate the annual library cost of $4,035,000 to the two programs.

Rex believes that two cost drivers explain most of the costs: number of students and credit hours. Using information from a previous analysis, he split the annual library budget as follows:

	A	B	C	D
1	Costs driven by number of students
2	Library management	$ 950,000
3	Acquisitions	1,300,000
4		$ 2,250,000
5
6	Costs driven by number of credit hours
7	Computer support	$ 135,000
8	Building maintenance	496,000
9	Library staff	788,000
10	Utilities and supplies	366,000
11		$ 1,785,000
12	Total library costs	$ 4,035,000
13
14
15	Data on students and credit hours	Undergraduate	?Graduate
16	Number of students	900	600
17	Number of credit hours	13,500	16,500
18

Required

a. Allocate the cost of the library to the two programs (undergraduate and graduate).

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b. Draw a cost flow diagram to illustrate your answer to requirement (a).

Step 1 of 4

Cost allocation

Cost allocation refers to allocating the total costs incurred to either product or division. Cost allocation is undertaken to estimate the product cost or costs incurred by division. If cost is not allocated then it would be assumed that the cost incurred by product is zero which may not be correct.