Learning how to successfully divide costs between different business activities and departments can take careful planning and accounting knowledge. General costs are one type of expense that you may need to separate between departments.
Learning what common costs are and where examples can arise in business can help you calculate individual contributions and use them fairly.
In this article, we define what common costs are, list some of the common types, explain how to allocate common costs and offer examples you can use for reference.
Table Of Content
1 What is a general fee?
2 Common types of expenses in business
2.1 Products
2.2 Activities
2.3 Process
2.4 Administration fee
3 Ways to link common charges
3.1 1. Independent
3.2 2. Shapley Value
3.3 3. Additional
4 Examples of common costs
What are general fees?
Common costs are business costs that are shared by many departments. Usually, common costs are not caused by a single individual, product or team.
Instead, they may benefit multiple departments, processes, or business offerings. General costs can refer to the costs associated with researching, creating, producing, or distributing a product.
They can also cover indirect product costs, such as travel or administrative expenses. By sharing common costs, multiple departments can benefit from access to resources, services, activities, and processes without having the full financial burden of their costs.
Common types of expenses in business
Common costs can refer to many types of costs a business may have. Here’s a closer look at some of the categories you might come across when dealing with common costs:
Product
Some common costs may refer to products used by several departments. Office supplies are one example of a product that many businesses may rely on, but that is not correlated with the production of one particular item or departmental activity. Pens, paper, and printers are some examples of this common type of expense.
Activity
General expenses may also cover the costs of certain activities, such as travel. If the trip does not benefit one department, product or service in particular, then several departments may share the cost of the costs.
Training can be another example of something that benefits multiple business groups without a direct correlation to specific outputs or teams.
Process
Some organizations may consider specific processes to be common costs. Separate departments may share marketing costs, for example, or costs for customer relationship management (CRM) software that the two teams use.
These processes and services can benefit groups in unique ways, but by sharing costs, they can reduce departmental expenses and benefit from access to tools that can assist in their processes.
Administrative costs
Other common costs may be administrative costs, such as electricity or rent. Paying these fees benefits many departments, even though the costs themselves don’t belong to a single group or offer. On the contrary, they can benefit the entire organization and contribute to the success of everyone’s activities.
Ways to link common fees
How you link common fees can depend on the type of fee, who is benefiting and what agreements are in place. Typically, businesses use one of three methods to successfully allocate their common costs:
1. Independent
The independent cost allocation method requires the accountant to determine each part owed to the total cost. Their share may depend on the existing agreement or on the proportionate use percentage.
For example, imagine two departments sharing a vehicle for their various operational needs.
One department plans to use the vehicle more frequently and agrees to pay 2/3 of the monthly vehicle expenses.
Another department agreed to share the costs, offering to pay 1/3 of the cost of the vehicle. Here, you can use a standalone method to calculate the payment amount for each department.
Let’s say the total cost of the vehicle for the month of August includes gas, maintenance and payments and totals 896,000. To determine each department’s contribution, you can multiply the percentage that each agrees to pay by the total cost.
For a department that pays 2/3 of the cost, the equation is: 896,000 x (2/3) = 597,330. To determine the rest of the group, follow the same procedure, multiplying the total by 1/3 instead. $896 x (1/3) = 298,670. You can check the math by making sure the total allocation is 896,000.
2. Shapley Value
Shapley’s value method, used in game theory, helps to distribute costs and profits equitably across different entities. This can be a useful method if you plan to analyze the effectiveness of a particular strategy or categorize returns.
With this method, groups or departments, called players when using the allocation method, can receive returns based on the proportion they paid or the amount of resources they used.
Each group only pays or receives what they would get if they acted independently, but there is often an additional financial incentive for the parties to cooperate.
The purpose of this method is to determine how an individual’s marginal contribution adds to the yield. For example, if a business partner uses the same software, but one department has three users while the other has nine, then you can assign each value based on their proportional usage.
3. Additional
With this method, it is important to define the primary user and then add additional users. You can determine the value of additional user requirements and subtract it from the total to allocate costs.
For example, perhaps one group uses a warehouse to store their inventory. Warehouses have office space that they offer to other departments. Because the office space is relatively small, the office group will pay less than the main group. Here’s how it looks:
The rent for the building is 1,400,000. The warehouse department, as the primary user, pays $1,000 for warehouse space. Another department paid 400,000 for adjoining office space.
Examples of common fees
Here is an example to better demonstrate the general cost concept:
The business development department at the university purchased memberships to a photo storage and distribution site so they could post sports photos for fans to buy.
Anyone with this software can add photos and make money selling them. They make offers to other university departments to use the software.
The business development department incurs membership fees, then charges each participating department based on the number of seats they wish to purchase.
They charge more for the first seat to cover the administrative costs associated with running the account.
Membership costs 700,000 per year, and each seat costs 350,000. The business development department charges 500,000 for the first seat and 350,000 for each seat thereafter.
This means that they make 150,000 for each department that takes part. By sharing costs, each department can benefit from the software and the business development department reduces each other’s operational costs.