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After you have completed this appendix, you will be able to do the following:
E-1
Departmental Accounting
Learning Objectives
1 Compile a departmental income statement. 2 Understand departmental margin.
AppE
nd
ix E
Apportionment of expenses (p. E-2)
departmental margin (p. E-4)
direct expenses (p. E-4)
indirect expenses (p. E-4)
Accounting Language
A company that is involved in several different business activities should be divided into a number of subdivisions or departments. This enables the company’s management to delegate authority to departmental managers, who are responsible for their respective departments, and to measure the profitability of each department. It is the element of profitability that we discuss in this appendix.
GROSS pROFiT BY dEpARTMEnTSA department’s gross profit depends on its sales volume and its markup on the goods sold:
Net Sales 2 Cost of Goods Sold 5 Gross Profit
To determine the gross profit of a given department, you need a separate set of figures for the department for each element entering into the gross profit. Use one of two ways to obtain these figures:
1. Keep separate general ledger accounts for each item affecting gross profit, such as a Sales account for each department and a Sales Returns and Allowances account for each department. Then, record the balances of these accounts on the income statement.
2. Keep only one general ledger account for each item affecting gross profit and apportion the balance to the various departments. For example, maintain one Sales account and one Sales Returns and Allowances account for the company and keep a breakdown of sales and sales returns for each department. Then, record the figures for each department on the income statement.
Keeping Separate Accounts by DepartmentKeeping separate accounts by department yields the most accurate accounting data. You need separate accounts for each department for Sales, Sales Returns and Allowances, Sales Discounts, Purchases, Purchases Returns and Allowances, Purchases Discounts, Freight In, and Merchandise Inventory. For example, Boag Hardware has five departments and uses five Sales accounts, five Sales Returns and Allowances accounts, five Sales Discounts accounts, five Merchandise Inventory accounts, and so on. The accountant posts each total to a separate account as indicated by the ledger account numbers.
Maintaining One General Ledger AccountWhen a company keeps only one general ledger account for each item involved in gross profit, the accountant must distribute the total amount among the various departments
Computerized systems are well suited to departmental accounting.
FYI
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Appendix E: Departmental AccountingE-2
at the end of the accounting period. To do so, the accountant accumulates departmental information on supplementary records. Sales, sales returns, purchases, purchases returns and allowances, purchases discounts, and so on, are recorded in a journal and are recorded on a departmental analysis sheet. At the end of the accounting period, these analysis sheets give departmental breakdowns for each item.
Preparing a Departmental Income StatementJoyce Company has two departments, A and B, and keeps separate accounts for each. The company keeps separate accounts for each item that enters into gross profit and apportions the operating expenses between Gross Profit and Income from Operations to Department A or Department B on a logical basis.
An outline of this process is as follows:
From Sales Through Income from OperationsDepartmentalized
Revenue from SalesLess Cost of Goods Sold
Gross ProfitLess Selling ExpensesLess General Expenses
Income from OperationsNondepartmentalizedAdd Other IncomeLess Other Expenses
Net Income
Joyce Company income statement for the fiscal year ended December 31 appears in Figure 1 on pages E-4–E-5.
Gross ProfitBecause each department keeps separate accounts for gross profit items, such as sales and cost of goods sold, these items are reported separately on the income statements.
Apportionment of Operating ExpensesJoyce Company combines operating expenses such as Advertising Expense and Utilities Expense. Therefore, each department must assume its share of overhead expenses. Apportionment of expenses is a crucial element of departmental accounting. It consists of allocating operating expenses among operating departments. You can readily identify some operating expenses as belonging to a given department. For example, if a salesperson makes sales in only one department, the accountant assigns that salesperson’s salary or commission directly to that department. However, other operating expenses, such as Utilities Expense, cannot be restricted to one department and must be divided on some equitable basis. Let’s look at the operating expenses of Joyce Company and see how they are apportioned.
Separate departmental accounts or supplementary analysis sheets
Account balances are apportioned
Learning O
bjective
1 Compile a departmental income statement.
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Appendix E: Departmental Accounting E-3
SALeS SALArY expenSeJoyce Company allocates the salespersons’ salaries to Department A or Department B according to the payroll register, which lists each employee by department. Department A’s share is $88,625; Department B’s share is $52,200.
AdvertISIng expenSeJoyce Company advertises only on the radio and allocates the cost of radio advertising to the two departments according to the amount of air time each department uses. In a year, Joyce Company buys 1,250 minutes of radio time, divided according to departments as shown here:
Advertising for Dept. A: 675 minutes or 6755 54%
1,250
Advertising for Dept. B: 575 minutes or 5755 46%
1,250
Dept. A’s share of cost of radio advertising: 54% of $17,600 5 $9,504
Dept. B’s share of cost of radio advertising: 46% of $17,600 5 $8,096
deprecIAtIOn expenSe, StOre equIpmentJoyce Company keeps a property and equipment ledger that notes the department in which each piece of equipment is located. The total year’s depreciation of the equipment used in Department A is $1,840; the total year’s depreciation of the equipment used in Department B is $1,460.
rent expenSe And utILItIeS expenSeJoyce Company rents 40,000 square feet of floor space and allocates the expenses of rent and utilities on the basis of floor space occupied by each department as follows. (Yearly expense for rent is $16,400; yearly expense for utilities is $4,840.)
Dept. A occupies 25,000 square feet or 25,0005 62.5%
40,000
Dept. B occupies 15,000 square feet or 15,0005 37.5%
40,000
Dept. A’s share of rent: 62.5% of $16,400 = $10,250
Dept. B’s share of rent: 37.5% of $16,400 = $6,150
Dept. A’s share of utilities: 62.5% of $4,840 = $3,025
Dept. B’s share of utilities: 37.5% of $4,840 = $1,815
Nonapportioned ExpensesOther Income and Expense Items, such as Interest Income and Interest Expense, are not apportioned among the departments. Instead, these items are only included in total on the income statement.
To apportion or to allocate means to divide up.
remember
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Appendix E: Departmental AccountingE-4
dEpARTMEnTAL MARGindepartmental margin is a measurement of the contribution that a given department makes to the income of the firm—gross profit of a department minus the department’s direct expenses. When a company breaks down its expense figures on a departmental-margin basis, its income statement indicates the contribution that each department makes toward the overhead expenses incurred on behalf of the business as a whole. You can divide operating expenses into two classes: (1) direct expenses, which are incurred for the sole benefit of a given department and are under the control of the department head but not necessarily under the department being considered, and (2) indirect expenses,
Figure 1Income statement for Joyce Company
Joyce Company Income Statement
For Year Ended December 31, 20—
Department A Department B Total
Revenue from Sales:
Sales $560,000 $240,000 $800,000
Less: Sales Returns and Allowances 14,200 $545,800 5,800 $234,200 20,000 $780,000
Net Sales
Cost of Goods Sold:
Merchandise Inventory, Jan. 1, 20— $ 96,400 $ 82,740 $179,140
Purchases $ 312,115 $161,175 $473,290
Less: Purchases Returns and Allowances 9,580 4,756 14,336
Purchases Discounts 5,740 3,274 9,014
Net Purchases $296,795 $153,145 $449,940
Add Freight In 13,005 6,715 19,720
Delivered Cost of Purchases 309,800 159,860 469,660
Cost of Goods Available for Sale $406,200 $242,600 $648,800
Less Merchandise Inventory, Dec. 31, 20–– 110,000 90,000 200,000
Cost of Goods Sold 296,200 152,600 448,800
Gross Profit $249,600 $ 81,600 $331,200
Operating Expenses:
Selling Expenses:
Sales Salary Expense $ 88,625 $ 52,200 $140,825
Advertising Expense 9,504 8,096 17,600
Depreciation Expense, Store Equipment 1,840 1,460 3,300
Total Selling Expenses $ 99,969 $ 61,756 $161,725
General Expenses:
Rent Expense $ 10,250 $ 6,150 $ 16,400
Utilities Expense 3,025 1,815 4,840
Total General Expenses 13,275 7,965 21,240
Total Operating Expenses 113,244 69,721 182,965
Income from Operations $136,356 $ 11,879 $148,235
Other Income:
Interest Income $ 3,624
Other Expenses:
Interest Expense 2,400 1,224
Net Income $149,459
Learning O
bjective
2 Understand departmental margin.
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Appendix E: Departmental Accounting E-5
which are incurred as overhead expenses of the entire business and thus are not under the control of one department head. For example, Sales Salary Expense is a direct expense because it is incurred purely for the benefit of one department. Officers’ Salary Expense, on the other hand, is an overhead expense incurred for the business as a whole; it is not directly chargeable to one department.
Some operating expenses may be partially direct and partially indirect. For example, suppose Rivera Company has five departments. Rivera Company’s Advertising Expense consisted partially of billboard advertising, which stresses the name and location of the company, and partially of newspaper and radio advertising, which directly benefits separate departments of the company. So the part of the advertising budget that went to billboard advertising is an indirect expense, and the part that went to newspaper and
Joyce Company Income Statement
For Year Ended December 31, 20—
Department A Department B Total
Revenue from Sales:
Sales $560,000 $240,000 $800,000
Less: Sales Returns and Allowances 14,200 $545,800 5,800 $234,200 20,000 $780,000
Net Sales
Cost of Goods Sold:
Merchandise Inventory, Jan. 1, 20— $ 96,400 $ 82,740 $179,140
Purchases $ 312,115 $161,175 $473,290
Less: Purchases Returns and Allowances 9,580 4,756 14,336
Purchases Discounts 5,740 3,274 9,014
Net Purchases $296,795 $153,145 $449,940
Add Freight In 13,005 6,715 19,720
Delivered Cost of Purchases 309,800 159,860 469,660
Cost of Goods Available for Sale $406,200 $242,600 $648,800
Less Merchandise Inventory, Dec. 31, 20–– 110,000 90,000 200,000
Cost of Goods Sold 296,200 152,600 448,800
Gross Profit $249,600 $ 81,600 $331,200
Operating Expenses:
Selling Expenses:
Sales Salary Expense $ 88,625 $ 52,200 $140,825
Advertising Expense 9,504 8,096 17,600
Depreciation Expense, Store Equipment 1,840 1,460 3,300
Total Selling Expenses $ 99,969 $ 61,756 $161,725
General Expenses:
Rent Expense $ 10,250 $ 6,150 $ 16,400
Utilities Expense 3,025 1,815 4,840
Total General Expenses 13,275 7,965 21,240
Total Operating Expenses 113,244 69,721 182,965
Income from Operations $136,356 $ 11,879 $148,235
Other Income:
Interest Income $ 3,624
Other Expenses:
Interest Expense 2,400 1,224
Net Income $149,459
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Appendix E: Departmental AccountingE-6
radio advertising is a direct expense. When you classify an expense as direct or indirect, use this rule of thumb to identify direct expenses: The expense would not have been incurred if the department were not in existence. The expense must be directly related to the department.
Here is an outline of an income statement that emphasizes departmental margin.
From Sales Through Departmental Margin
Revenue from Sales Less Cost of Goods Sold
Based on separate departmental accounts or supplementary analysis sheets
Expenses that are directly related to the department
Gross Profit Less Direct Departmental Expenses
Departmental Margin Less Indirect Expenses
Income from Operations Add Other Income Less Other Expenses
Net Income
The Meaning of Departmental MarginDepartmental margin is the most realistic portrayal of the profitability of a department. If the company closes the department, the company’s income before income taxes will decrease or increase by the amount of the departmental margin. For example, assume that Rivera Company’s income from operations for last year was $120,000, which is about the same as it has been for the past four years. Rivera’s partial income statement, in which all operating expenses are apportioned to the various departments, shows that Department E has a loss from operations of $9,000. In an abbreviated departmental-margin format, the results of the fiscal year are shown in the following table:
ItemDepartment E
(only)
Departments A to D
(only)
Total, Departments A
to E
Total, Departments
A to D (with E eliminated)
SalesCost of Goods SoldGross ProfitDirect Departmental ExpensesDepartmental MarginIndirect ExpensesIncome (Loss) from Operations
$ 120,000 72,000 $ 48,000 32,000 $ 16,000 25,000 $ (9,000)
$ 1,480,000 880,000 $ 600,000 336,000 $ 264,000 135,000 $ 129,000
$ 1,600,000 952,000 $ 648,000 368,000 $ 280,000 160,000 $ 120,000
$ 1,480,000 880,000 $ 600,000 336,000 $ 264,000 160,000 $ 104,000
Now suppose Rivera Company eliminates Department E. Because Department E’s departmental margin amounts to $16,000, the Income from Operations of the entire firm will decrease by $16,000 ($120,000 2 $104,000). Another factor Rivera Company has to consider is possible “spillover sales” of Department E; that is, customers of Department E may buy things in other departments. Also, any change in income will cause a change in the amount of income taxes paid by Rivera Company. However, to simplify our analysis, we have omitted income taxes from our discussion.
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Appendix E: Departmental Accounting E-7
The Usefulness of Departmental MarginIncome statements that show departmental margin are extremely useful when it comes to controlling a company’s direct expenses because the company can hold the head of a given department accountable for expenses directly chargeable to that department. If a department head reduces direct expenses, this action will have a favorable effect on the departmental margin.
A company that manufactures a number of different products can also use the concept of departmental margin to determine the profitability of a particular product. This is clearly one of the most important uses of departmental margin.
Management can use an income statement showing departmental margin as a tool for making future plans and for analyzing future operations. Sometimes such an income statement may even lead to the elimination of a department.
GlossaryApportionment of expenses Allocating operating
expenses among operating departments. (p. E-2)
departmental margin The contribution that a given department makes to the income of the firm—gross profit of a department minus the department’s direct expenses. (p. E-4)
direct expenses Expenses that benefit only one department and are controlled by the head of the department. (p. E-4)
Indirect expenses Overhead expenses that benefit several departments or the business as a whole and are not under the control of any one department head. (p. E-4)
Problems
prOBLem e-1 Bay Book and Software has two sales departments: Book and Software. After recording and posting all adjustments, including the adjustments for merchandise inventory, the accountant prepared the adjusted trial balance (shown on the next page) at the end of the fiscal year.
Merchandise inventories at the beginning of the year were as follows: Book Department, $53,410; Software Department, $23,839. The bases (and sources of figures) for apportioning expenses to the two departments are as follows (rounded to the nearest dollar):
• Sales Salary Expense (payroll register): Book Department, $45,559; Software Department, $35,629
• Advertising Expense (newspaper column inches): Book Department, 550 inches; Software Department, 450 inches
• Depreciation Expense, Store Equipment (property and equipment ledger): Book Department, $7,851; Software Department, $2,682
1LO
Direct expenses are expenses incurred for the sole benefit of a department. If the department did not exist, the expense would not have been incurred.
remember
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Appendix E: Departmental AccountingE-8
• Store Supplies Expense (requisitions): Book Department, $205; Software Department, $199
• Miscellaneous Selling Expense (volume of gross sales): Book Department, $240; Software Department, $110
• Rent Expense and Utilities Expense (floor space): Book Department, 9,000 square feet; Software Department, 7,000 square feet
• Bad Debts Expense (volume of gross sales): Book Department, $1,029; Software Department, $441
• Miscellaneous General Expense (volume of gross sales): Book Department, $364; Software Department, $156
Bay Book and Software Adjusted Trial Balance
December 31, 20—
Account Name Debit Credit
Cash 39,939
Accounts Receivable 34,880
Allowance for Doubtful Accounts 1,893
Merchandise Inventory, Book Department 53,557
Merchandise Inventory, Software Department 24,987
Store Supplies 532
Store Equipment 42,332
Accumulated Depreciation, Store Equipment 32,619
Accounts Payable 32,280
Sales Tax Payable 895
T. Rose, Capital 172,640
T. Rose, Drawing 77,249
Sales, Book Department 317,400
Sales, Software Department 136,000
Sales Returns and Allowances, Book
Department 8,161
Sales Returns and Allowances, Software
Department 551
Purchases, Book Department 199,895
Purchases, Software Department 96,273
Purchases Returns and Allowances, Book
Department 2,817
Purchases Returns and Allowances, Software
Department 864
Purchases Discounts, Book Department 3,923
Purchases Discounts, Software Department 2,853
Freight In, Book Department 7,250
Freight In, Software Department 2,875
Sales Salary Expense 81,188
Advertising Expense 10,670
Depreciation Expense, Store Equipment 10,533
Store Supplies Expense 404
Miscellaneous Selling Expense 350
Rent Expense 6,400
Utilities Expense 2,960
Bad Debts Expense 1,470
Miscellaneous General Expense 520
Interest Expense 1,208
704,184 704,184
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Appendix E: Departmental Accounting E-9
requiredPrepare an income statement by department to show income from operations, as well as a nondepartmentalized income statement (using the Total columns) to show net income for the entire company.
prOBLem e-2 La Hacienda Company has two departments: Furniture and Lighting. La Hacienda’s accountant prepares an adjusted trial balance (shown below) at the end of the fiscal year.
check FigureNet Income, $34,444
1LO
La Hacienda Company Adjusted Trial Balance
January 31, 20—
Account Name Debit Credit
Cash 28,274
Accounts Receivable 68,890
Allowance for Doubtful Accounts 2,620
Merchandise Inventory, Furniture Department 84,142
Merchandise Inventory, Lighting Department 41,138
Store Supplies 762
Store Equipment 50,682
Accumulated Depreciation, Store Equipment 41,810
Accounts Payable 38,680
Sales Tax Payable 1,284
M. Chapman, Capital 238,332
M. Chapman, Drawing 126,480
Sales, Furniture Department 409,800
Sales, Lighting Department 273,200
Sales Returns and Allowances, Furniture
Department 11,685
Sales Returns and Allowances, Lighting
Department 1,716
Purchases, Furniture Department 251,847
Purchases, Lighting Department 165,242
Purchases Returns and Allowances, Furniture
Department 4,618
Purchases Returns and Allowances, Lighting
Department 1,792
Purchases Discounts, Furniture Department 5,496
Purchases Discounts, Lighting Department 2,964
Freight In, Furniture Department 13,255
Freight In, Lighting Department 6,885
Sales Salary Expense 123,220
Advertising Expense 14,000
Depreciation Expense, Store Equipment 13,436
Store Supplies Expense 742
Miscellaneous Selling Expense 680
Rent Expense 8,000
Utilities Expense 4,100
Bad Debts Expense 1,800
Miscellaneous General Expense 820
Interest Expense 2,800
1,020,596 1,020,596
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Appendix E: Departmental AccountingE-10
The trial balance is prepared after all adjustments, including the adjustments for merchandise inventory, have been recorded and posted.
Merchandise inventories at the beginning of the year were as follows: Furniture Department, $83,850; Lighting Department, $42,630. The bases (and sources of figures) for apportioning expenses to the two departments are as follows (rounded to the nearest dollar):
• Sales Salary Expense (payroll register): Furniture Department, $74,800; Lighting Department, $48,420
• Advertising Expense (newspaper column inches): Furniture Department, 600 inches; Lighting Department, 400 inches
• Depreciation Expense, Store Equipment (property and equipment ledger): Furniture Department, $9,616; Lighting Department, $3,820
• Store Supplies Expense (requisitions): Furniture Department, $418; Lighting Department, $324
• Miscellaneous Selling Expense (volume of gross sales): Furniture Department, $408; Lighting Department, $272
• Rent Expense and Utilities Expense (floor space): Furniture Department, 2,500 square feet; Lighting Department, 1,500 square feet
• Bad Debts Expense (volume of gross sales): Furniture Department, $1,080; Lighting Department, $720
• Miscellaneous General Expense (volume of gross sales): Furniture Department, $492; Lighting Department, $328
requiredPrepare an income statement by department to show income from operations, as well as a nondepartmentalized income statement (using the Total columns) to show net income for the entire company.
prOBLem e-3 Moon Company is considering eliminating its Drapery Department. Management does not believe the indirect expenses and the level of operations in the other departments will be affected if the Drapery Department closes. Information from Moon’s income statement for the fiscal year ended December 31, which is considered a typical year, is as follows:
Drapery Department
All Other Departments
Total of All Departments
(including Drapery)Sales $75,000 $563,000 $638,000Cost of Goods Sold 49,000 395,000 444,000Gross Profit 26,000 $168,000 $194,000Operating Expenses 32,000 112,000 144,000Income (Loss) from Operations $ (6,000) $ 56,000 $ 50,000
Moon considers $19,000 of the operating expenses of the Drapery Department to be direct expenses.
requiredCalculate the departmental margin of the Drapery Department.
check FigureNet Income, $76,442
2LO
check FigureGross Profit, $26,000
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