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

Exercise 27

Activity-Based Costing of Customers: Ethical Issues

Central State College (CSC) is a state-supported college with a large business school. The business school offers an undergraduate degree and training programs for a local manufacturer. The state does not support the training programs, which are paid for by the manufacturer under a fixed price contract.

The college president has asked the dean of the business school for a breakdown of costs by program. The president will be meeting with state legislators asking for an increase in support for the college’s programs. The dean has assigned you to lead the team that will develop the costs by program.

The business school’s computer lab is a major cost item. The lab is used during the day for the undergraduate program and in the evening for the training program.

a.How will you recommend that the cost of the computer lab be allocated to the two programs? Be explicit in your description of the allocation base.

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b.The dean tells you that the training program should not be allocated any costs other than their direct costs. She points out that the college was established for undergraduate education and the training program is an incremental activity. “After all, if we didn’t have the training program, we would still have the computer lab,” she says. Do you agree with the dean? Is the dean’s suggestion ethical?

Step 1 of 3

Cost accounting system

This is a system designed for inhouse or internal managers and their decision making. Cost accounting information is not needed for comparison with other companies. This information is commonly used in financial accounting also, but it is primarily used by company managers for their decision making. It is important that cost accounting information is relevant for the decision making of the manager.

Cost allocation

Role of cost allocation comes into play when common cost needs to allocated to two or more products or departments. There different basis used for cost allocation like number units used, labors hours, area used by departments or products etc. Cost allocation base must be the one that best establishes the connection between the overhead incurred and the activity. Cause and effect basis can be effective way to identify cost allocation base.