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What is a Secondary Cost Pool?

Secondary Cost Pool

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Secondary Cost Pool

In cost accounting, a cost pool is a grouping of individual costs, typically by department or service center. The idea is to accumulate these costs for the purpose of allocating them to various products, services, or departments based on some common allocation base (like machine hours, labor hours, or square footage).

There are often two stages in the allocation of overhead costs:

  • Primary Distribution (or First Stage Allocation): Here, overhead costs are collected and assigned to both production and service departments. These initial groupings of overhead costs are known as primary cost pools.
  • Secondary Distribution (or Second Stage Allocation): This is where the overhead costs from the service departments (which don’t directly produce any goods) are allocated to production departments. These allocations typically rely on secondary cost pools.

A Secondary Cost Pool is formed by gathering the overhead costs from service departments to redistribute them to production departments. The goal is to ensure that all overhead costs, including those from service departments, get fully assigned to the actual products being manufactured.

Example of a Secondary Cost Pool

Let’s explore a fictional example to illustrate the concept of secondary cost pools in a more detailed and relatable manner.

Example: Stellar Electronics Manufacturing

Background: Stellar Electronics is a company that manufactures electronic devices. They have multiple departments, including:

  • Production Departments: Tablet Production and Phone Production
  • Service Departments: IT Support and Facility Maintenance

Step 1: Primary Distribution: First, Stellar allocates its overhead costs directly to all departments based on various measures:

  • Tablet Production: $200,000 (based on direct labor hours)
  • Phone Production: $150,000 (based on direct labor hours)
  • IT Support: $60,000 (based on number of computer systems)
  • Facility Maintenance: $90,000 (based on square footage)

Step 2: Secondary Distribution:

Now, Stellar needs to distribute the overhead costs from the service departments (IT Support and Facility Maintenance) to the production departments.

  • IT Support Allocation:
    Stellar decides to allocate the IT costs based on the number of computer systems used by each production department. Let’s say:
    • Tablet Production uses 50 computer systems
    • Phone Production uses 30 computer systems
    Total computer systems: 80
    Allocation for Tablet Production = ($60,000 * 50) / 80 = $37,500
    Allocation for Phone Production = ($60,000 * 30) / 80 = $22,500
  • Facility Maintenance Allocation:
    The Facility Maintenance costs are allocated based on the square footage occupied by each production department. Suppose:
    • Tablet Production occupies 3,000 sq. ft.
    • Phone Production occupies 2,000 sq. ft.
    Total sq. ft.: 5,000
    Allocation for Tablet Production = ($90,000 * 3,000) / 5,000 = $54,000
    Allocation for Phone Production = ($90,000 * 2,000) / 5,000 = $36,000

Final Overhead Allocation after Secondary Distribution:

  • Tablet Production:
    • Initial Allocation: $200,000
    • IT Support Allocation: $37,500
    • Facility Maintenance Allocation: $54,000
    • Total: $291,500
  • Phone Production:
    • Initial Allocation: $150,000
    • IT Support Allocation: $22,500
    • Facility Maintenance Allocation: $36,000
    • Total: $208,500

In this manner, Stellar Electronics ensures that the overhead costs from service departments (IT Support and Facility Maintenance) are appropriately distributed to the production departments (Tablet and Phone Production) using secondary cost pools. This gives a clearer picture of the total overhead costs associated with each production department.

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