Activity Based Costing and Management (Session 7) Flashcards
What is ABC Costing?
a system that assigns overhead
costs to the specific activities performed in a manufacturing or
service delivery process.
Activity
An activity is a type of task or function performed in an
organization.
What acts as the building blocks?
The costs of the various activities become the building blocks used
to compile total costs for products or other cost objects
Absorption Costing
Cost allocation for financial statement purposes
- Required by ASPE & IFRS
- Subject to many rules
–> All manufacturing costs must be included as
part of the product cost.
–> All non manufacturing costs must be
expensed as period costs.
ABC Costing
Cost allocation for decision
making purposes
- Not accepted by ASPE & IFRS
- Uses multiple cost pools for indirect costs.
- Not subject to any rules
–> Can include or exclude manufacturing costs
as part of the product cost.
–> Can include or exclude non manufacturing
costs as part of the product costs.
Organization-Sustaining Activities
- sustaining activities are tasks or functions undertaken
to oversee the entire entity. - These activities occur no matter the number of facilities operated,
customers served, products sold, batches processed, or units
produced - These activity costs are typically assigned to the entire organization
Facility-Sustaining Activities
- sustaining activities are tasks or functions undertaken to
provide and manage an area, location, or property. - These activities occur no matter the number of customers served,
products sold, batches processed, or units produced. - They are assigned to the facility
Customer-Sustaining Activities
- sustaining activities are tasks or functions undertaken to
service past, current, and future customers. - These costs tend to vary with the needs of individual customers or
groups of customers.
Product-Sustaining Activities
- sustaining activities are tasks or functions undertaken to
support the production and distribution of a single product or line
of products. - These activities are not related to units or batches but to individual
products or product lines.
Batch-Level Activities
- tasks or functions undertaken for a
collection of goods or services that are processed as a group. - costs do not relate to the number of units in the batch
but instead to the number of batches processed. - Thus, batch costs increase as the number of batches increases.
Unit-Level Activities
- undertaken to produce individual units
manufactured or services produced. - activities need to be performed for every unit of good or
service, and, therefore, the cost should be proportional to the
number of units produced
Assigning costs in an ABC system
1) Identify relevant cost object
2) Identify activities
3) Assign costs to activity-based cost pools
4) For each ABC cost pool, choose a cost driver
5) For each ABC cost pool, calculate an allocation rate
6) For each ABC cost pool, allocate activity costs to the cost object
How are cost drivers selected for activities?
- Determine its place in the ABC cost hierarchy.
- Look for drivers that have a good cause-and-effect relationship with
the activities’ costs. - Use a reasonable driver when there is no cause-and-effect relationship
ABC for Non Manufacturing Costs
- ABC can also be used to allocate nonmanufacturing costs such as
the costs of marketing and accounting. - To allocate nonmanufacturing costs, the nonmanufacturing
activities need to be analyzed, and cost pools and cost drivers need
to be set up in the same manner as described for manufacturing
costs.
ABC in Service Organizations
- Service organizations may benefit from it
- These organizations may be able to improve
efficiency or quality of service, which may help them control or
reduce costs. - Service organizations follow the same process as manufacturing
organizations for implementing an ABC system
Activity-Based Management (ABM)
- Activity based management (ABM) is the process of using ABC
information to evaluate the costs and benefits of production and
internal support activities and to identify and implement
opportunities for improvements in profitability, efficiency, and
quality within an organization. - ABM relies on accurate ABC information
Operational ABM
Doing things right, i.e., identifying
opportunities for improvement in efficiency by eliminating or
reducing unnecessary activities for product value.
Strategic ABM
Doing the right things, i.e., identifying which
product/customers are most profitable and focusing on those.
Benefits of ABC and ABM
- Employees are more aware of cause-and-effect relationships
- Employees focus attention on activities
- Measurement of the flow of resources in an organization
Costs of ABC and ABM
- System design costs, such as costs of employee time and consulting fees
- Accounting and information system modifications are needed to gather and
report activity and cost driver information - Employee training to use the ABC system effectively
Uncertainties in ABC and ABM
- Judgment is required when determining activities.
- Judgment is required when selecting cost drivers.
- Denominator levels for cost drivers are estimates.
- ABC information includes unitized fixed costs, so decision-makers
must use ABC information correctly.
