Firms can choose between different methods for allocating service costs. There is, however, limited knowledge about their relative performance and how inaccuracies in the resulting cost allocations are caused. This study compares the effects of the reciprocal, step, and direct method on the accuracy of calculated service rates and costs allocated to production departments. Using the results of the reciprocal method as a benchmark, we conduct numerical experiments and test whether the different versions of the step method outperform the simpler direct method and explore which firm characteristics drive their relative performance. We find that the simpler direct method can outperform the step method, quantify the errors resulting from applying these methods instead of the reciprocal method, and rank the main firm characteristics driving errors. We also substantiate the potential to manipulate allocated costs, including the possibility of using different sequencing heuristics in conjunction with the step method.
