ABC Costing

Question 1

What do we do in ABC costing?

Answer 1

Look for cost drivers to allocate costs to cost pools
More complex than traditional cost allocation
The allocation system from overhead cost to cost pool is via a resource cost driver
Attach costs to major activities and not to departments

Question 2

What are activities?

Answer 2

A firm’s major activities must be identified
E.g. setting up production lines, inspection of final product
Activities can cut across department lines

Question 3

ABC and absorptions

Answer 3

In relation to production, ABC will use identical absorption’s to traditional systems
Because in ABC certain activity centres will be identical to cost centres in traditional overhead apportionment

Question 4

Service departments

Answer 4

Much more direct relationship exists compared to traditional systems
In ABC we calculate separate cost driver rates for service departments
In TC we collated service department costs and reallocated them to production

Question 5

What are cost drivers?

Answer 5

Something which significantly influences cost levels

E.g. sales department would be number of sales

Question 6

Problems with cost drivers

Answer 6

Tend to prefer big orders to small orders
Refuse any order with a value less than overhead allocation as uneconomic
ABC encourages larger scale
Sales order number is a common cost driver

Question 7

What are cost objects?

Answer 7

A cost objective
In the majority of cases, cost object is normally the cost of a product or service
Trace and cost the activities which drive the costs in ABC
Gives more precise costing but it can be expensive

Question 8

Advantages of ABC

Answer 8

Uses many cost pools which improves accuracy
Impact of cost drivers enables more accurate product costing- costing is more cause and effect based
Increased amount and reduced cost of management information systems (MIS)
Globalisation and increased competition and the drive to improve quality has encouraged companies to be more inventive in ways of managing their systems

Question 9

For which environments is ABC most appropriate

Answer 9

1. Multi-product
2. Share services and activities
3. Indirect (fixed) costs account for a greater element of the cost base

All of these features are more commonplace in modern settings

Question 10

Four stage process

Answer 10

1. Identify cost activities
2. Identify cost pools and allocate costs to them for every activity
3. Identify an appropriate cost driver for each activity
4. Allocate costs to cost objects

Question 11

Three activity cost drivers

Answer 11

Transaction driver
Duration driver
Intensity driver

Question 12

Transaction drivers

Answer 12

Easy to measure
Cheap
Identifiable 
E.g. number of purchase orders 
Is it likely to cost the same each time? (ABC assumes this)

Question 13

Duration drivers

Answer 13

An extension to transaction drivers
Measure time taken to perform an activity e.g. sales order
More accurate than transaction drivers but there’s a trade-off with costs

Question 14

Intensity drivers

Answer 14

A direct cost to our cost object
E.g. average hourly labour rates of production staff
Cost of these resources is directly charged to the product

Question 15

Why isn’t ABC costing popular?

Answer 15

It’s more expensive and more complex
It isn’t universally applicable
Time consuming to implement for the first time
Can be difficult to select good cost drivers
An already profitable business is going to loathe spending money on it
An unprofitable business wouldn’t have the money to spend on it in the first place
If it ain’t broke don’t fix it