Chapter 2, Problem 35E

Cost Allocation—Ethical Issues

In one of its divisions, an aircraft components manufacturer produces experimental navigational equipment for spacecraft and for private transportation companies. Although the products are essentially identical, they carry different product numbers. The XNS-12 model is sold to a government agency on a cost-reimbursed basis. In other words, the price charged to the government is equal to the computed cost plus a fixed fee. The JEF-3 model is sold to the private transportation companies on a competitive basis. The product development cost, common to both models, must be allocated to the two products in order to determine the cost for setting the price of the XNS-12.

Required

1. a.      How would you recommend the product development cost be allocated between the two products?
2. b.      What incentives do managers have to allocate product development costs? Why?