Allocation of corporate costs to divisions. Dusty Rhodes, controller of Richfield Oil Company, is preparing a presentation to senior executives about the performance of its four divisions. Summary data (dollar amounts in millions) related to the four divisions for the most recent year are:

Under the existing accounting system, costs incurred at corporate headquarters are collected in a single cost pool ($3228 million in the most recent year) and allocated to each division on the basis of its actual revenues. The top managers in each division share in a division-income bonus pool. Division income is defined as operating income less allocated corporate costs.

Rhodes has analyzed the components of corporate costs and proposes that corporate costs be collected in four cost pools. The components of corporate costs for the most recent year (dollar amounts in millions) and Rhodes’ suggested cost pools and allocation bases are:

1. Discuss two reasons why Richfield Oil should allocate corporate costs to each division.

2. Calculate the operating income of each division when all corporate costs are allocated based on revenues of each division.

3. Calculate the operating income of each division when all corporate costs are allocated using the four cost pools.

4. How do you think the new proposal will be received by the division managers? What are the strengths and weaknesses of Rhodes’ proposal relative to the existing single-cost-pool method?

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DIVISIONS Oil & Gas Upstream Downstream Products $16,000 15,000 $ 1,000 Chemical Copper Oil & Gas Total Mining $3,200 3,500 $ (300) $ 8,000 3,000 $ 5,000 $32,000 Revenues Operating Costs Operating Income $4,800 3,800 25,300 $ 6,700 $1,000 Identifiable assets Number of employees $2,000 3,000 $ 6,000 12,000 $14,000 $3,000 6,000 $25,000 9,000 30,000