Traceable and Common Fixed Costs:
Learning Objectives:
- Define and explain traceable
and common fixed costs.
- What is the difference between
traceable and common fixed costs?
The most puzzling aspect of segmented
income statements is probably the treatment of fixed costs. While
preparing segmented income statements the fixed cost is divided into two
parts one is traceable fixed cost and other is common fixed cost. Only
traceable fixed costs are assigned to the segment. If a cost is not
traceable then it is not assigned to segments. Following paragraphs
define explain these two types of fixed costs.
Traceable fixed cost:
Definition:
A traceable fixed cost is a fixed cost that is incurred because of
the existence of a segment. If the segment had never existed, the fixed
cost would have not been incurred; and if the segment were eliminated,
the fixed cost would disappear.
Examples:
Examples of traceable fixed costs include the following:
- The salary of the Fritos product
manager at Pepsi CO. is traceable fixed
cost of the Fritos business segment of Pepsi Co.
- The liability insurance at Disney World
is a traceable fixed cost of the Disney World
business segment of the Disney Corporation
Common fixed cost:
Definition:
A common fixed cost is a fixed cost that supports the operations of
more than one segment, but is not traceable in whole or in part to any
one segment. Even if a segment were entirely eliminated, there would be
no change in true common fixed cost.
Examples:
Example of common fixed cost include the
following:
- The
salary of general manager who controls all the segments. The salary of
CEO at general motors is also an example of common fixed cost. No single
segment can be regarded as the sole reason of this cost.
- The salary of receptionist at an office
shared by a number of doctors is a common fixed cost of the doctors.
The cost is traceable to the office, but not to any one of the doctors
individually.
Identifying traceable and common fixed costs is crucial in segment
reporting, since the traceable fixed costs are charged to the segments
and common fixed costs are not charged to segments. In actual situations,
it is some times hard to determine whether a cost should be classified as
traceable or common. The general guideline is to treat as traceable costs
only those costs that would disappear over time if the segment itself
disappeared.
Traceable cost can
become common cost:
Fixed cost that is traceable to one
segment can become a common cost for another segment. For example, an air
line might want a segmented income statement that shows the segment
margin for a particular flight from Loss Angeles to Paris further broken
down into first class, business class and economy class segment margins.
The airline must pay a landing fee Charles DeGaulle air port in Paris.
This fixed landing fee is a trace able fixed cost of the flight, but it
is a common fixed cost of first class, business class and economy class
segments. Even the first class cabinet is empty the entire landing fee
must be paid. So the landing fee is not a traceable cost of the first
class segment. But on the other hand paying the landing fee is necessary
in order to have any first, business and economy class passengers. So the
landing fee is common cost for these three class of passengers and is a
traceable cost for the flight as a whole.
|
