Management Accounting chapter 4

Traditional cost systems

Created when manufacturing processes were labour intensive

Over costing (traditional costing problem)

Assigning too much costs

Under costing (traditional costing problem)

Assigning too little costs

Activity Based Costing system (ABC)

Costing method that identifies the activities performed within the organisation as it delivers its goods and services

Activity cost pool

Common way to collect costs that are related to a specific activity in the ABC system

Unit-level activities

Resources acquired and activities performed for individual units of product

Batch-level activities

Resources acquired and activities performed for a group or batch of similar products or events

Product-level activities

Resources acquired and activities performed to produce and sell a specific product or service

Customer-level activities

Resources acquired and activities performed to serve specific customers

Facility-level activities

Resources acquired and activities performed to provide general capacity to produce goods or services

Top-down approach

ABC teams of people from top levels of management generate the activity dictionary

Recycling approach

Reuses documentation of processes used for other purposes

Interview or participative approach

ABC teams include or interview operating employees

Steps of ABC costing

Identify and classify activities, estimate costs of activities, calculate cost-driver rates, assign activity costs to products

…-level cost driver rate

…-level cost + …-level cost driver base

…-level cost assigned

…-level activities used * rate

What is the ideal relation between cost drivers and costs?

Plausible correlation, provides for a reasonable allocation of overhead costs based on a product’s use of an activity

Why don’t most companies allocate the general and administrative costs of the business to products?

These costs are peripheral to the company’s production activities

How to calculate the cost of an activity

Cost of human resources + cost of physical resources

Why would organization’s compute cost-driver rates for a ‘normal’ month instead of for each month of the year?

Companies are willing to sacrifice a little accuracy to save time and effort by computing predetermined rates only once or twice a year

Is there any fundamental difference in applying ABC to goods versus services?

There is no fundamental difference, only the nature of resources used may differ