Chapter 3 - Activity based costing

Question 1

What impact has modern production had on production costs?

Answer 1

• more overheads
• less direct labour costs

Question 2

What are the issues with absorption costing in a modern business environment?

Answer 2

• Too little detail on most significant cost
• Cost control more difficult
• Allocation of overheads is unrepresentative
• Poor pricing and decision making

Question 3

What are the issues with marginal costing in a modern business environment?

Answer 3

• VC small in relation to fixed costs
• FC harder to classify

Question 4

What is activity based costing (ABC)?

Answer 4

ABC is a form of absorption costing but instead allocates overheads to cost pools before absorbing them using cost drivers

Question 5

What is a cost pool?

Answer 5

Activity that consumes resources and for which overhead costs are identified and allocated

Every pool needs a cost driver

Question 6

What is a cost driver?

Answer 6

Unit of activity that consumes resources

Question 7

What are the 4 different categories of activities?

Answer 7

• Logistical
• Balancing
• Quality
• Change

Question 8

What must a cost driver be?

Answer 8

• Relevant
• Easy to measure

Question 9

What are the 3 types of cost driver?

Answer 9

• Transaction
• Duration
• Intensity

Question 10

What is a transaction driver?

Answer 10

Cost of activity is affected by number of times an action is taken

Question 11

What is a duration driver?

Answer 11

Cost of activity affected by length of time taken to perform an action

Question 12

What is an intensity driver?

Answer 12

Cost of activity affected by what resources used

Question 13

What are the 5 steps taken to calculate full production cost per unit under ABC?

Answer 13

1. Group production overheads into activities according to driver
2. Identify cost drivers for each activity
3. Calc cost driver rate for each activity
4. Absorb activity costs into product
5. Calc full production cost and P/L

Question 14

How is the cost driver rate calculated?

Answer 14

OAR formula for specific activity

Question 15

Is ABC more/less expensive than traditional costing?

Answer 15

More expensive

Question 16

When can ABC provide more meaningful info about costs and profit?

Answer 16

• Overheads are high relative to direct costs
• Products/services are complex
• Diversity in product range
• Products/services tailor made
• Products/services sold in large/small quantities

Question 17

What 4 types of activities can overhead costs be split into?

Answer 17

• Unit
• Batch
• Product
• Facility

Question 18

What are the advantages of using ABC?

Answer 18

• improved accuracy of product costs
• Better understanding of overhead costs
• Fairer allocation of costs
• Used in complex situations
• Applied beyond production

Question 19

What are the disadvantages of using ABC?

Answer 19

• Not always relevant
• Expensive
• Complex
• Still need arbitrary cost allocations

Question 20

What are the implications of switching to ABC?

Answer 20

• Pricing based on more realistic cost data
• Sales strategy more soundly based
• Decision making improved
• Performance management improved