Background
Providing visibility to costs has been many CFOs’ top priority in managing spending. Answerthink helped Ameriquest identify major spending areas, top venders, and major spending trends as part of the Enterprise Performance Management (EPM) initiatives started in 2004. Understanding how to allocate costs to responsibility cost centers is a key to cost analysis. The allocation methods and approaches highly depend on a corporation’s business model and business rules. They directly determine the accuracy and performance of cost analysis. The more closely the allocation base reflects a link between resource spending and resource use, the more useful allocated costs are likely to be for planning and decision making. This paper intends to highlight various allocation methods and approaches.
SolutionAn expense allocation engine is part of the solution Answerthink team provided along with an integrated ODS and a data warehouse. In principle, indirect (or common) costs and costs occurred in service departments have to be allocated appropriately to production departments. However, the allocation methods for different costs could vary greatly. For example, marketing expense allocation depends on marketing leads for each department. Administrative cost allocation could depend more on headcounts in each department. Adding to the complexity, a type of cost may have cascading allocations with different rules in a preferred order. Thus maintaining a rule engine is critical. As a best practice, the original records and allocated records should be traceable and auditable. In the implementation for Ameriquest, original cost center, original cost account, original amount, allocated cost center, allocated cost account, and allocated amount information at the level of GL are maintained through out allocation processes. Allocation is a push down exercise to truly reflect the cost occurred in a cost center. The granularity depends on the scope of analytics. After allocation, allocated data are aggregated into a data mart using a different set of aggregation rules for OLAP reporting and further analysis.
PeopleSoft EPM Data Manager has a rule-based allocation engine where rules can be configured and maintained. Answerthink customized Data Manager to allow multiple external allocation driver files preload into ODS rules tables then run allocation process. The approach leverages the power of DM allocation engine and provides maximum flexibility to incorporate Ameriquest’s business rules.
In some cases, allocating a service cost to other departments with the rule-based approach isn’t the best way because it may not represent the true cause-and-effect relationship between resource spending and resource use. Activity-based costing technique typically is preferred over simple rule-based allocation for service department. Other techniques such as allocating joint-process costs are also applicable to certain industries where several different products are produced from one input. There are different methods, such as Net Realizable Value (NRV) and Physical Quantities, to allocate joint process costs.
In summary, the key to allocation entails knowing why companies allocate common costs, knowing how to allocate service department costs to product department, understanding why activity-based costing is preferred in some scenarios, and understanding how to allocate joint-process costs. The approaches and methods highly depend on industry, business model, business process and rule. Answerthink is a proven leader in those areas with lot of success in applying various methods and approaches using the best practice and the best technology available on market.
