Explain cost allocation.

Cost allocation is the process of assigning indirect costs to cost objects based on a reasonable allocation basis or cost driver. Indirect costs, also known as overhead costs, cannot be directly traced to specific cost objects and are incurred for the benefit of multiple cost objects or the organization as a whole. Therefore, these costs need to be allocated to cost objects such as products, services, departments, or projects to determine their true cost and profitability. Cost allocation involves identifying the appropriate allocation basis or cost driver for each indirect cost and distributing these costs among the relevant cost objects based on their consumption of resources or the benefits received. Common allocation bases include labor hours, machine hours, direct labor costs, square footage, or activity levels. Cost allocation ensures that indirect costs are fairly and accurately assigned to cost objects, enabling better decision-making, performance evaluation, and cost control within an organization.