ABC/ABM Flashcards
What do traditional costing methods do?
Use volume measures like direct labour and machine hours.
Traditional costing methods are misleading. They do not take into account:
(i) Variety
(ii) Complexity
(iii) Change
How to ABC systems work?
(i) resource drivers to trace the resource use to. activities
(ii) activity drivers are then used to trace what is actually being done to specific objects.
When do you need a new cost system?
(i) Functional managers want to drop seemingly profitable lines.
(ii) High-volume products show small profits or losses whereas low-volume specialty products show large profits.
(iii) Complex products appear profitable and simple products appear to be losing money
(iv) Departments have their own cost systems
(v) Indirect costs = a substantial part of total costs
What is a cost driver?
Economic factor that underlies a value chain link.
They are the structural determinants of the cost of an activity.
Explains the existence and level of an activity. If a cost driver exists, an activity must exist. Cost drivers help organisations to understand the relationship between an activity and a cost object.
What is an activity driver?
The consumption of an activity by a cost object. You could also think… what is driving the activity? Think about it in reverse order. The cost object requires activities to be performed to create the object. Thus, the object consumes the activity.
Traces activity pool costs to cost objects.
What is a resource driver?
Consumption of resources by activities.
Traces resource costs to activity pools
What are structural cost drivers?
Cost drivers that are derived from the business strategic choices about its underlying economic structure. E.g. scope, scale, complexity of products, technology.
Structural cost drivers do not always result in cost reduction
Executional drivers?
Derived from the execution of business activities. E.g. capacity utilisation, work force involvement, and plant layout. Higher utilisation means better yield, better plant layout = lower costs… Better productivity = more units per unit of labour –> lower costs.
Executional cost drivers always result in cost reduction.
Name the 5 levels in the cost hierarchy.
- Unit-level
- Batch level
- product-sustaining
- Customer-sustaining
- Facility sustaining
Explain unit-level costs.
Unit level costs represent the resources used on those activities performed on each and every unit of output.
E.g. Direct labour hours, volume, direct material cost.
Explain batch level costs.
Resources used on activities related to a group of products or services.
For example: set-up costs, production scheduling hours.
Explain product sustaining costs
Resources used on activities to support individual products or services.
Explain customer sustaining costs
Resources used on activities undertaken to support individual customers.
E.g. Number of orders, expedite requests, cancellations…
Explain facility sustaining costs.
Resources used on activities that support the organisation as a whole.
E.g. Management, facility rent, security…
Limitations of ABC?
(i) Costly to operate a detailed ABC system.
(ii) Detailed ABC system may be difficult to understand.
(iii) Drivers need to be reviewed, updated, modified.
(iv) ABC systems can be costly to implement
(v) Not always easy to identify drivers.
(vi) Cost pools are estimations
(vii) Assumptions around separability of cost pools, linearity, homogeneity.
