Columbia Company is a regional office supply chain with 26 independent stores. The firm holds each store responsible for its own credit and collections. The firm assigns the assistant manager in each store the responsibility for credit activities, including the collection of delinquent accounts, because the stores do not need a full-time employee assigned to credit activities. The company has experienced a sharp rise in uncollectibles the past two years. Corporate management has decided to establish a collections department in the home office that takes over the collection function companywide. The home office of Columbia Company will hire the necessary full-time personnel. The firm will base the size of this department on the historical credit activity of all the stores. Top management discussed the new centralized collections department at a recent management meeting. Management has had difficulty deciding on a method to assign the costs of the new department to the stores because this type of home office service is unusual. Top management is reviewing alternative methods. The controller favored using a predetermined rate for charging the costs to the stores. The firm would base the predetermined rate on budgeted costs. The vice-president for sales preferred an actual cost charging system. In addition, management also discussed the basis for the collection charges to the stores. The controller identified the following four measures of services (allocation bases) that the firm could use:
(1) Total dollar sales.
(2) Average number of past-due accounts.
(3) Number of uncollectible accounts written off.
(4) One twenty-sixth of the cost to each of the stores.
The executive vice-president stated that he would like the accounting department to prepare a detailed analysis of the two charging methods and the four service measures (allocation bases).
a. Evaluate the two methods identified—predetermined rate versus actual cost—that the firm could use to charge the individual stores the costs of Columbia Company’s new collections department in terms of
(1) Practicality of application and ease of use.
(2) Cost control.
Also indicate whether a centralized or decentralized organization structure would be more conducive for each charging method.
b. For each of the four measures of services (allocation bases) the controller of Columbia
Company identified:
(1) Discuss whether using the service measure (allocation base) is appropriate in this situation.
(2) Identify the behavioral problems, if any, that could arise as a consequence of adopting the service measure (allocation base).