Abc- Activity Based Costing
1a) Activity based costing is a relatively new type of procedure that can be used as an inventory valuation method. The technique was developed to provide more accurate product costs. This improved accuracy is accomplished by tracing costs to products through activities. In other words, costs are traced to activities (activity costing) and then these costs are traced, in a second stage, to the products that use the activities. Another way to express the idea is to say that activities consume resources and products consume activities. Essentially, an attempt is made to treat all costs as variable, recognizing that all costs vary with something, whether it is production volume or some non-production volume related phenomenon. Both manufacturing costs and selling and administrative costs are traced to products in an ABC system. In traditional full absorption costing and direct (or variable) costing systems, indirect manufacturing costs are allocated to products on the basis of a production volume related measurement such as direct labour hours. Thus, the fundamental differences between traditional systems and activity based systems are:
1) How the indirect costs are assigned (ABC uses both production volume and non-production volume related bases) and
2) Which costs are assigned to products (in ABC systems, an attempt is made to assign all costs to products including engineering, marketing, distribution and administrative costs, although some facility related costs may not be assigned).
Other differences:
In activity based costing both manufacturing as well as non-manufacturing costs are assigned to products while with traditional costing systems only manufacturing costs are assigned.
In ABC certain manufacturing costs may be left out from costing the products while with traditional all manufacturing costs are included.
In ABC costs are allocated through cost pools.
There are different cost allocation bases.
In ABC the rates used are based on the
1) How the indirect costs are assigned (ABC uses both production volume and non-production volume related bases) and
2) Which costs are assigned to products (in ABC systems, an attempt is made to assign all costs to products including engineering, marketing, distribution and administrative costs, although some facility related costs may not be assigned).
Other differences:
In activity based costing both manufacturing as well as non-manufacturing costs are assigned to products while with traditional costing systems only manufacturing costs are assigned.
In ABC certain manufacturing costs may be left out from costing the products while with traditional all manufacturing costs are included.
In ABC costs are allocated through cost pools.
There are different cost allocation bases.
In ABC the rates used are based on the
References: Management Accounting, 2006 edition Authors: Smith M.1; Dikolli S.2