Another problem that makes using cost and profit numbers challenging is that they often contain (arbitrary) allocations of costs. To illustrate this, suppose we have a company that is expecting to break even in terms of overall profits. They have two products (or divisions), and they want to see how each is doing. They know to distinguish between fixed and variable costs, so they’ve calculated the following profitability numbers:
Product 2 is making ...
- Allocated Costs
- from Financial Literacy for Managers: Finance and Accounting for Better Decision-Making
- Publisher: Wharton Digital Press
- Released: May 2012
The way specific costs are allocated can affect your profitability. See an example of this and learn why it’s important to understand your cost allocations before making decisions.
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