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Introduction
The allocation of fixed costs is extremely important in the contemporary business environment. Basically, the allocation of fixed costs contributes to the stable development of companies and allows organization to plan their business development accurately because they can rely on the stable funding of the fixed assets and specific projects. In such a situation, the management of companies is responsible for the development of effective allocation of fixed costs but, in actuality, many companies fail to develop effective approaches to the allocation of fixed costs in the contemporary business environment. In this respect, it is possible to refer to the case of CVP, which uses not very effective allocation of fixed costs.
The process of allocation of costs
As the matter of fact, the CVP focuses the allocation of its fixed costs on specific project purposes. In actuality, this means that the company attempts to develop its projects and fund each project effectively. At first glance, this approach to the allocation of fixed costs can work and bring success to the company. In fact, it is true that the funding of projects is crucial, especially if projects are successful and can bring considerable return on investments. On the other hand, it is obvious that the company cannot rely entirely on the projects, while its purposes and outcomes can fail to bring the expected benefits to the company. In other words, the company may fail in forecasting outcomes of projects they fund but the allocation of resources and fixed costs rely entirely on the purpose of projects. Therefore, the company will fund projects, which managers believe to be the most prospective. However, such a system of funding makes the company dependent on the changes in the business environment, situation in the market and the position of the company in the industry as well as the organizational performance and outcomes of the implementation of the project. In fact, the projects funded by the company may fail and the company has no real back-up because its fixed assets are not funded properly. Instead, the funds are dispersed among various projects. In such a situation, the company would better focus on funding the fixed assets and allocated resources on funding projects that bring not very high but stable profits because such projects are reliable and the level of risks of failure of such projects is low. Therefore, the company can rely on such projects and gain stable profits. In such a way, it is hardly possible to agree with such approach to the allocation of fixed costs.
In addition, the company allocates fixed costs on the single-purpose facilities that make the company quite rigid because the diversity and multifunctional facilities are more prospective compared to the single-purpose facilities. In this respect, it is worth mentioning the fact that the focus on multifunctional facilities will increase the flexibility of the company in case of changes in the business environment. As a result, the company will be less vulnerable to the negative impact of the economic crisis or deterioration of the situation in the industry.
Situations when common costs are allocated
At the same time, sometimes companies have to allocate common costs to improve their financial position and to maintain their stable marketing performance. Basically, the allocation of common costs occur when a department, product or segment of the business is under a threat of a failure and the failure of the department, product or segment can threaten to the position of the company in the market to the extent that the company can lose its market share or run bankrupt. At this point, it is possible to refer to some examples. For instance, when a company introduces a new product, it counts for its success and the company needs to introduce the product to gain possibly higher return on investments. However, if a rival introduces a substitute or similar product, the company need to allocate costs to improve the product or to raise funding of the promotional campaign to gain a strategic advantage over its competitor because the funds assigned for the funding of the product development are not enough.
The impact of allocating common costs for internal decision making
The allocation of common costs affects consistently internal decision making. As a rule, the allocation of common costs does not occur because it misbalances the financial and marketing position of the company. Therefore, the allocation of the common costs can provoke conflicts within the organization and the process of internal decision making will deteriorate consistently. To put it more precisely, different departments may start struggling for the allocation of common costs if any of the department obtains the allocation of common costs. As a result, the decision making process grows more and more complicated because departments are not cooperating constructively but, instead, they are conflicting and opposing to each other.
The impact of not allocating common costs for internal decision making
In such a situation, the refusal from the allocation of common costs proves to be more effective in regard to the internal decision making because it prevents the reason for the emergence of conflicts within the organization. What is meant here is the fact that the allocation of common costs may provoke conflicts but the refusal from the allocation of common costs eliminates the primary cause of possible conflicts.
On the other hand, it is important to take into consideration the possible risk of the deterioration of the organizational performance and difficulties in decision making because some departments may need common costs to survive and the refusal from the allocation of common costs may lead to the failure of these units. The failure of some departments can affect other departments and the company will have to take decisions fast but it may unable to forecast the development of the situation even in a short-run perspective because the lack of funding may provoke the chain reaction within the company and its departments can start deteriorating their organizational performance consistently.
Conclusion
Thus, taking into account all above mentioned, it is important to lay emphasis on the fact that the allocation of fixed and common costs affects consistently the organizational performance. Therefore, companies should be very careful with the allocation of their fixed and common costs because they can deteriorate not only the organizational performance because of the poor or inadequate allocation but also they can deteriorate the process of decision making. The latter is particularly dangerous because the deterioration of the internal decision making can paralyze the functioning of organizations and lead to their failure in the market.
References:
Fama, E. F. and K. French (1992). The Cross-Section of Expected Stock Returns. Journal of Finance, June 1992, 427-466.
Mehrling, P. (2005). Fischer Black and the Revolutionary Idea of Finance. Hoboken: John Wiley & Sons, Inc.
Rubinstein, M. (2006). A History of the Theory of Investments. Hoboken: John Wiley & Sons, Inc.