Departmental accounting is a crucial aspect of financial management, particularly for businesses that operate multiple departments or cost centers. It ensures that revenues and expenses are properly allocated to different departments, allowing for better financial analysis and decision-making.
One of the key challenges in departmental accounting is the apportionment of expenses, which refers to distributing common expenses among various departments based on a reasonable and justifiable basis. This process ensures that each department bears its fair share of the costs, leading to more accurate profit and loss calculations.
This content explores the basis of apportionment of expenses in departmental accounting, covering different types of expenses and the criteria used for their allocation.
What Is Apportionment of Expenses?
Apportionment of expenses is the process of allocating indirect costs among multiple departments within an organization. Unlike direct expenses, which can be easily assigned to a single department, indirect expenses require a fair and logical distribution method.
For example, expenses such as rent, electricity, and administrative salaries benefit multiple departments, so they must be apportioned based on relevant factors such as floor space, number of employees, or revenue contribution.
Proper expense apportionment ensures:
- Accurate departmental profit measurement
- Fair cost distribution
- Better financial decision-making
- Improved budget control
Types of Expenses in Departmental Accounting
Expenses in departmental accounting are classified into two main categories:
1. Direct Expenses
These expenses are specifically incurred for a single department and can be directly assigned without the need for apportionment.
Examples:
- Raw material costs for a production department
- Salaries of employees working in a particular department
- Advertising costs for a specific product line
2. Indirect Expenses
These are common expenses that benefit multiple departments and require apportionment based on a suitable basis.
Examples:
- Rent and utilities
- Depreciation of shared equipment
- Administrative salaries
Since indirect expenses cannot be directly attributed to a single department, they must be apportioned fairly among all departments.
Basis of Apportionment of Expenses
The method used to allocate expenses depends on the nature of the expense and the extent to which each department benefits from it. Here are some common bases used for expense apportionment:
1. Rent, Rates, and Building Maintenance
Basis of Apportionment: Floor area occupied by each department (square feet or square meters).
Reason: The amount of space occupied determines how much rent and maintenance costs each department should bear.
Example: If a company has three departments occupying 50%, 30%, and 20% of the total space, the rent will be apportioned in the same proportion.
2. Electricity and Power Expenses
Basis of Apportionment: Electricity consumption or machine hours used by each department.
Reason: Different departments may use varying amounts of electricity depending on the nature of their operations.
Example: The production department, with heavy machinery, will likely consume more power than the administrative department, so expenses should be allocated accordingly.
3. Depreciation of Machinery and Equipment
Basis of Apportionment: Value or usage of machinery in each department.
Reason: Departments using expensive or high-maintenance machinery should bear a higher share of depreciation costs.
Example: If Department A owns 60% of the total machinery, it should bear 60% of the depreciation expense.
4. Salaries of General Staff
Basis of Apportionment: Number of employees in each department.
Reason: Departments with more employees require a greater share of general staff expenses such as HR salaries and office administration.
Example: If Department A has 40 employees, Department B has 30, and Department C has 20, the expenses can be distributed in a 40:30:20 ratio.
5. Sales and Marketing Expenses
Basis of Apportionment: Sales revenue generated by each department.
Reason: Departments contributing more to total revenue should bear a proportionate share of marketing expenses.
Example: If Department A generates 50% of total sales, it should bear 50% of marketing costs.
6. Insurance Premiums
Basis of Apportionment: Value of assets insured in each department.
Reason: Departments with more valuable assets (machinery, inventory, or office space) should contribute more toward insurance premiums.
Example: If Department A has assets worth $500,000 and Department B has assets worth $300,000, the insurance cost will be apportioned in the 5:3 ratio.
7. Canteen and Welfare Expenses
Basis of Apportionment: Number of employees in each department.
Reason: More employees mean higher canteen usage and welfare costs.
Example: If Department A has 60% of the total employees, it should bear 60% of the canteen expenses.
8. Transport and Vehicle Expenses
Basis of Apportionment: Distance traveled or number of trips made for each department.
Reason: Departments utilizing company transport services more frequently should bear a larger share of the costs.
Example: If Department A uses company vehicles for 70% of total trips, it should be allocated 70% of transport costs.
9. Stationery and Office Supplies
Basis of Apportionment: Usage of stationery by each department.
Reason: Departments requiring more paperwork and office supplies should contribute a higher share of the expense.
Example: If the HR and Finance departments use 80% of office supplies, they should bear 80% of the cost.
Importance of Proper Expense Apportionment
1. Accurate Departmental Profitability
Proper cost allocation ensures that each departments profit and loss statement accurately reflects its financial performance.
2. Fair Resource Distribution
A logical basis for apportionment prevents disputes and ensures fairness among departments.
3. Better Budgeting and Cost Control
When expenses are correctly allocated, managers can better control departmental costs and make informed financial decisions.
4. Compliance with Accounting Standards
Organizations following standard accounting practices must allocate costs transparently and consistently.
Challenges in Apportionment of Expenses
1. Selecting the Right Basis
Choosing the most appropriate apportionment method can be complex, as different expenses require different bases for allocation.
2. Changing Business Conditions
Departments may expand, shrink, or change functions, requiring adjustments in expense apportionment methods.
3. Resistance from Departments
Some departments may feel that they are unfairly burdened with expenses, leading to internal conflicts.
4. Complexity in Calculation
For large organizations, apportioning multiple expenses across various departments can be time-consuming and require advanced accounting systems.
The apportionment of expenses is an essential part of departmental accounting, ensuring that shared costs are distributed fairly among various departments. Choosing the right basis of apportionment depends on the nature of the expense and how much each department benefits from it.
By following a structured approach to expense allocation, businesses can achieve accurate financial reporting, improved budgeting, and better cost management. While challenges exist, applying logical and consistent apportionment methods helps ensure a fair and transparent accounting process.