lcon.com sells software and provides consulting services to companies that conduct business over the internet. The company is organized into two lines of business (software and consulting), and profit statements are prepared as follows:
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Direct costs include costs that are easily associated with each line of business. For software, this includes the salary of programmers, the cost of computers used by programmers, and the cost ofCDs sold to customers. For consulting, direct costs include consultant salaries, computer costs, and travel costs. Allocated costs include costs that are not directly traced to the business units. These costs include employee benefits, rent, telecommunications costs, and general and administrative costs, such as the salary of the CEO of lcon.com.
At the start of 2011, allocated costs were estimated as follows:
Employee benefits...........$2,000,000
Rent..................$700,000
Telecommunications..........$300,000
General and administrative costs......$3,000,000
Total.................$6,000,000
In the past, allocations have been based on headcount (the number of employees in each business unit). Software had 375 employees and consulting had 125 employees. The new controller of lcon.com believes that the key driver of employee benefits and telecommunications costs is headcount. However, rent is driven by space occupied and general and administrative costs are driven by relative sales. lcon.com rents 40,000 square feet; approximately 20,000 is occupied by software employees and 20,000 by consulting personnel.
Required:
a. Prepare profit reports for software and consulting assuming the company allocates costs using headcount, space occupied, and sales as allocation bases. Compare the new levels of profit to the levels that result using a single allocation base (headcount).Round to six decimal places.
b. Which provides the best information on profitability: a single overhead cost pool with head- count as the allocation base, or multiple cost pools using headcount, sales, and space occupied?