Utility cost allocations – Part 1: Fundamentals and shared services

Delivering service to customers requires a utility to have support operations that provide internal services to multiple departments within the utility. If a utility offers multiple services (electric, water, wastewater, gas, communications), the internal operational support must provide coverage to each service line.

Allocating utility costs is part art, part science, and always a topic for discussion and disagreement. A structured and defensible approach is needed to allocate these costs across the multiple departments and/or utility service lines.

This is the first part in Baker Tilly’s two-part series on utility cost allocation which covers the fundamentals of cost assignments and identification of shared service opportunities as well as common methods and best practices for the utility industry. In this article, you’ll learn the methodology of cost allocation and role of shared services.

Cost assignment fundamentals

The fairest and easiest cost allocators to share within a utility allocate cost based on “cost causation” — in other words, the cost driver behaviors behind the cost and the department or utility service drives that cost. The rules of cost allocations are simple:

1. Direct charge all costs that can be specifically identified with a department or activity to the area or activity driving the cost
2. Allocate remaining costs across departments or services based on an agreed-on methodology

Fundamental cost allocation methodology should have these characteristics:

• Cost-causative: A relationship exists between the cause for the expense being incurred and the effect the activity had on the benefiting business unit
• Measureable: Amounts  are recorded in the financial data, subject to internal controls and auditable
• Objective: The method  determines how costs should be allocated without bias
• Stable and predictable: The method  does not produce variations that are not in line with service level variations