Accounting Topic 4 (Costing Techniques: Absorption and Activity Based) Flashcards
decision making
using financial statements:
- costing
- pricing decisions
-operating decisions
control
budgeting
variance analysis
4 objectives of costing
- stock valuation
- cost control
- pricing and output decisions (profit is leftover)
- assessing performance (bonuses)
stock valuation
amount of inventory that you see on balance sheetc
cost control
especially in conditions of high inflation
control = dictate if company is successful
classifying costs
total costs - direct and indirect
fixed
variable (based on output)
direct costs
traceable
identified specifically and exclusively with a given cost objective in economically feasible way
indirect costs
not readily traceable
cant be identified specifically and exclusively with a given cost objective in an economically feasible way
overhead allocation
process of spreading production overhead (indirect costs) over the volume of production
what is the overhead allocation problem
overheads can be arbitrarily allocated across product/service
lead to inappropriate pricing and misleading info about product/service profitability
methods of overhead allocation
indirect costs - allocated using cost allocation base
1. absorption costing
2. activity based costing
allocation process for absorption
- tend to allocate costs to departments
- rely on small number of volume based cost drivers (direct labour/machine hours)
allocation process for ABC
- allocate costs to activities
- many second stage cost drivers
Activity based costing
- overheads traced through their drivers to the product that consume those activities
- more overheads = incurred = more allocated
- more relevant costing in companies with higher overheads
drivers
causes of activity
cost pools
- use cost pools to accumulate cost of significant business process or activities
-assigns costs from cost pools to products based on cost drivers - pools go up if more customers
- more products sold = allocate that cost pool to group
-manager must assess if the cost pools are accurate
absorption costing
all overheads are added together
costs allocated based on number of labour hours
emergence of ABC systems, when does a company adopt this system? 5 reasons
- when indirect costs are high
- set optimal product mix
- estimate profit margins
- decrease costs associated with bad decisions
- take advantage of reduced cost of ABC systems due to computer tech
4 criticisms of ABC
- time consuming & costly
- not all businesses are likely to benefit from ABC
- measurement & tracing problems can arise
- relationship between activity costs and cost drivers are difficult to determine
designing an activity based costing system
4 steps
- identify major activities that take place in org - aggregate activities
- assign costs to cost pools/cost centres for each activity
- directly and indirectly attributable to activity - determine cost driver or each major activity
- assign the cost of activities to products according to product’s demand or activities
different drivers
activity - provide good explanation of costs and easily measurable
transaction - number of purchases/inspections
duration - set up hours/inspection hours
when is ABC relevant
when volumes between 2 products are very different
with materials
