What is a First Stage Allocation?

A first stage allocation is the process used to assign overhead costs to activities. This allocation is employed in an activity-based costing system, and is the first step in the eventual allocation of overhead costs to cost objects. The intent behind a first stage allocation is to distribute overhead costs to the activities that actually use these costs.

Characteristics of a First Stage Allocation

The key characteristics of a first stage allocation are as follows:

Focus on overhead costs. The first stage allocation deals exclusively with indirect costs, rather than direct costs.
Allocation to cost pools or cost centers. Overhead costs are grouped into specific cost pools or activity centers (e.g., machining or quality control) based on their drivers or functions.
Use of allocation bases. The allocation is done using an appropriate allocation base, such as direct labor hours, machine hours, or square footage occupied by a department.
Links resources to activities. Costs are distributed based on the resources consumed by each activity or cost center. This linkage ensures that the allocation reflects actual usage patterns.
Basis for second stage allocation. The first stage allocation provides the foundation for further allocation to products, services, or customers in the second stage of the costing process.

Example of First Stage Allocation

As an example of a first stage allocation, the setup cost for a certain machine in the production area is $50,000 per year. Since this machine is set up 100 times per year, the first stage allocation is to calculate that each machine setup (an activity) is assigned a $500 charge (calculated as the $50,000 setup cost divided by 100 setups).