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Activity-based Costing (What is Activity-based Costing? (Different…
Activity-based Costing
Cost Accumulation Systems
Help generate information for decision-making
Useful for periodic profitability analysis
Useful because product decisions are not independent from non-production costs
What is Activity-based Costing?
Different activities to allocate costs
More cost centres than traditional costing
More accurate allocation than traditional costing
More relevant due to wider variety of company products
Volume-based and non-volume-based cost drivers
Using ABC
Identify activities
Assign costs to cost pools
Select cost drivers
Assign costs to products
Need to be measureable so they can be allocated
Cost drivers should provide a good explanation for costs in each pool
Transaction Drivers - numerical (e.g. number of setups)
Duration Drivers - time-based (e.g. setup hours)
Determine how much is spent on each activity
Usually 20 to 30 activities
Advantages and Limitations of ABC
Limitations
Cost drivers have to be estimated
Which cost driver to use is not always clear
Some cost drivers are the same as absorption costing
More advanced systems=More accuracy but also more cost
When to use ABC
Diverse demand on resources over product range
Where they is seemingly low profits when using traditional costing (using ABC might shed light on where costs are coming from)
Advantages
More accurate costing
More accurate for decision-making
Beneficial in highly competitive markets where overheads are a large proportion of total costs