Chapter 22: Departmental Income Statements

To prepare departmental income statements and contribution to overhead reports, here’s a step-by-step guide, following the examples of Outdoor Gal’s departmental performance with Hiking, Camping, and Purchasing departments. Steps to Prepare Departmental Income Statements 1. Accumulate Sales, Direct Expenses, and Indirect Expenses by Department o Gather data on each department's sales, cost of goods sold (COGS), direct expenses, and indirect expenses. o Direct expenses are only for the benefiting department and do not require allocation. Indirect expenses are shared across departments and need to be allocated based on usage or benefit. 2. Allocate Indirect Expenses to All Departments o Use an allocation base for each indirect expense. For example:  Rent is allocated based on square footage.  Advertising is allocated based on sales, but only to operating departments (service departments are not allocated advertising costs). o Create a departmental expense allocation spreadsheet (similar to Exhibit 22.10) to distribute indirect costs to each department. 3. Allocate Service Department Expenses to Operating Departments o Allocate the service department’s (e.g., Purchasing) total expenses (both direct and allocated indirect expenses) to operating departments based on usage metrics, like the number of purchase orders. o After allocating these expenses, the service department should have no remaining costs since all are passed to the benefiting departments. 4. Prepare Departmental Income Statements for Operating Departments o Combine data from sales, COGS, direct expenses, and the allocated costs from the allocation spreadsheet. o Calculate Net Income for each operating department (Hiking and Camping). Service departments (like Purchasing) do not generate sales, so their performance is measured by their ability to control direct expenses. Sample Departmental Income Statement (Hiking and Camping) Using a format similar to Exhibit 22.11: Income Statement for Department Hiking Camping $X,000 $X,000 Sales $X,000 $X,000 Cost of Goods Sold (COGS) $X,000 $X,000 Gross Profit $X,000 $X,000 Direct Expenses Allocated Indirect Expenses Income Statement for Department Hiking Camping - Rent $X,000 $X,000 - Advertising $X,000 $X,000 Allocated Service Dept Expenses - Purchasing $X,000 $X,000 $X,000 $X,000 Total Expenses $X,000 $X,000 Net Income Departmental Contribution to Overhead To assess performance based on controllable costs, calculate each department’s contribution to overhead, which is the difference between sales and COGS plus direct expenses. This helps determine if a department, like Camping, should be eliminated based on its controllable contribution, even if its net income shows a loss. Sample Contribution to Overhead Calculation Using the format of Exhibit 22.12: Department Contribution to Overhead Hiking Camping $X,000 $X,000 Sales $X,000 $X,000 Less: COGS $X,000 $X,000 Less: Direct Expenses $X,000 $X,000 Contribution to Overhead If the Camping department’s contribution to overhead is positive, it indicates that its removal would reduce the overall income by that amount, even if it shows a loss after all allocated expenses. This shows that the Camping department should not be eliminated, as it is still contributing to overhead and overall profitability. Conclusion Departmental income statements and contribution to overhead reports provide insights into each department's performance, distinguishing controllable from uncontrollable costs and allowing better-informed decisions regarding each department’s contributions to the organization.