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Activity-based costing is a method of assigning indirect costs to products and services by identifying cost of each activity involved in the production process and assigning these costs to each product based on its consumption of each activity.

Activity-based costing is a more refined approach to costing products and services than the traditional cost allocation methods. It involves the following steps:

  • Identification of activities involved in the production process;
  • Classification of each activity according to the cost hierarchy (i.e. into unit-level, batch-level, product-level, and facility-level);
  • Identification and accumulation of total costs of each activity;
  • Identification of the most appropriate cost driver (allocation base) for each activity;
  • Calculation of total units of the cost driver relevant to each activity;
  • Calculation of the activity rate i.e. the total cost of each activity per unit of its relevant cost driver;
  • Application of the cost of each activity to products based on its activity usage by the product.

Cost Hierarchy

The first step in activity-based costing involves identifying activities and classifying them according to the cost hierarchy. Cost hierarchy is a framework that classifies activities based the ease at which they are traceable to a product. The levels are (a) unit level, (b) batch level, (c) product level, and (d) facility level.

Unit level activities are activities that are performed on each unit of product. Batch level activities are activities that are performed whenever a batch of the product is produced. Product level activities are activities that are conducted separately for each product. Facility level activities are activities that are conducted at the plant level. The unit-level activities are most easily traceable to products while facility-level activities are least traceable.

Example: Application of Activity-Based Costing

Alex Erwin started Interwood, a niche furniture brand, 10 years ago. He ran the business as a sole proprietorship. While he has 50 skilled carpenters and 5 salespeople on his payroll, he has been taking care of the accounting by himself. Now, he intends to offer 40% of the ownership to public in next couple years and is willing to make changes and has hired you as the management accountant to organize and improve the accounting systems.

Interwood's total budgeted manufacturing overheads cost for the current year is $5,404,639 and budgeted total labor hours are 20,000. Alex has been applying traditional costing method during the whole 10 years period and based the pre-determined overhead rate on total labor hours.

Interwood's sofa range includes the 2-set, 3-set and 6-set options. Platinum Interiors recently placed an order for 150 units of the 6-set type. The order is expected to be delivered in one-month time. Since it is a customized order, Platinum will be billed at cost plus 25%.

You are not a fan of traditional product costing systems . You believe that the benefits of activity-based costing system exceeds its costs, so you sat down with Aaron Mason, the chief engineer, to identify the activities which the firm undertakes in its sofa division. Next, you calculated the total cost that goes into each activity, identified the cost driver that is most relevant to each activity and calculated the activity rate.

The results are summarized below:

Once the order was ready for packaging, Aaron gave you a summary of total cost incurred, and a statement of activities performed (also called the bill of activities) as shown below:

Part A: Traditional Costing System

Calculate the total cost of the order and the invoice value of the order based on traditional costing system.

In the traditional costing system, cost equals materials cost plus labor cost plus manufacturing overhead costs charged at the pre-determined overhead rate.

The pre-determined overhead rate based on direct labor hours = $5,404,639/20,000 = $270 per labor hour

The actual number of labor hours spent on the order is 250. Once we have this data, we can estimate the manufacturing overheads and the total cost as follows:

Interwood bills Platinum at cost plus 25%, so the amount of sales to be booked would amount to $178,875 (= $143,100 × 1.25).

Part B: Calculating Total Cost under Activity-Based Costing

You know activity-based costing is a more refined approach. Now, since you have all the data needed, calculate the order cost using activity-based costing.

In activity-based costing, direct materials cost, cost of purchased components and labor cost remains the same as in traditional product costing. However, the value of manufacturing overheads assigned is more accurately estimated. The following worksheet estimates the manufacturing overhead costs that should be assigned to the order of Platinum Interiors:

Total cost of the order is hence:

Based on the more accurate estimation of the order cost, the invoice should be raised at $197,150 (=$157,721 × 1.25) instead of $178,875 calculated under traditional product costing system.

The example highlights the importance of correct estimation of the product cost and the usefulness of activity-based costing in achieving that goal. It is because accurate allocation of cost is critical for identification of profitable products and allocating resources.

by Obaidullah Jan, ACA, CFA and last modified on Apr 3, 2019

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  • Manufacturing Overhead Costs

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4.1: Activity-Based Costing and Management

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Activity-based costing and management

Suppose you go to a movie theater that has five screens showing five different movies. Jerome Justin works for the movie theater selling tickets for all five movies. Suppose management wants to know the cost of selling tickets per movie and asks you to assign Justin’s wages to each of the five movies. How would you assign his wages?

You could simply divide Justin’s wages by the number of movies and allocate 20% (1/5 = 20%) of his salary to each movie. Or you could figure out how many tickets he sold to each movie, and allocate his wages on the basis of ticket sales. For example, if 50% of the ticket sales were for Avatar , you might allocate 50% of Justin’s wages to Avatar. You probably also could think of additional ways to allocate Justin’s wages. No matter how we allocate Justin’s wages, his wages would not be directly traceable to one of the movies if he sold tickets for all five movies. In short, the allocation of Justin’s wages to a particular movie is at least somewhat arbitrary because alternative methods could allocate different amounts of Justin’s wages to each movie. Justin’s wages would be indirect costs to the different movies because his wages could not be directly assigned to any one of the movies.

By definition, the allocation of indirect costs is at least somewhat arbitrary. Nevertheless, accountants have discovered that they can improve the ways costs are assigned, such as to movies in this case, by using activity-based costing.

Activity-based costing is a costing method that assigns indirect costs to activities and to the products based on each product’s use of activities. Activity-based costing is based on the premise: Products consume activities; activities consume resources.

Activity-based costing identifies the activities generating costs and assigns costs to those activities. Take the earlier Justin example. By focusing on Justin’s activities, management could learn what caused costs and find ways to improve Justin’s efficiency. Suppose that by studying Justin’s activities, management learns he spends 40% of his time answering questions about movies, 40% of his time selling tickets, and 20% doing nothing. Based on this information, management could think about better ways to use Justin’s time. By improving their signs and posting information about the movies, management could reassign Justin to other tasks.

Closely related to activity-based costing is the notion of activity-based management (ABM). Using activity-based management, managers identify which activities consume resources. The focus is then to effectively manage costly activities with the goal of reducing costs and improving quality. Consider Justin and the movie theater again. Using activity-based management, managers would identify what Justin did with his time and perhaps find ways to help him become more efficient.

Let’s look at a company that makes clothing. The product does not cost less under one system or another. Our problem is that no cost system measures costs perfectly. We are able to trace some costs directly to the product. For example, we are pretty accurate in measuring the cost of denim, which is a direct material, in each of our shirts, pants, jackets, and so forth.

You could simply divide Justin’s wages by the number of movies and allocate 20 per cent of his salary to each movie. Or you could figure out how many tickets he sold to each movie, and allocate his wages on the basis of ticket sales. For example, if 50 per cent ofthe ticket sales were for Avatar , you might allocate 50 per cent of Justin’s wages to Avatar. You probably also could think of additional ways to allocate Justin’s wages. No matter how we allocate Justin’s wages, his wages would not be directly traceable to one of the movies if he sold tickets for all five movies. In short, the allocation of Justin’s wages to a particular movie is at least somewhat arbitrary because alternative methods could allocate different amounts of Justin’s wages to each movie. Justin’s wages would be indirect costs to the different movies because his wages could not be directly assigned to any one of the movies.

Numerous companies, such as HP, Caterpillar, and IBM, have implemented activity-based costing. Activity-based costing (ABC) has revealed startling information in these companies. For example, after installing new costing methods, one well-known company found that one of its products, a printed circuit board, was generating negative margins of 46 per cent.

Activity-based costing identifies the activities generating costs and assigns costs to those activities. Take the earlier Justin example. By focusing on Justin’s activities, management could learn what caused costs and find ways to improve Justin’s efficiency. Suppose that by studying Justin’s activities, management learns he spends 40 per cent of his time answering questions about movies, 40 per cent of his time selling tickets, and 20 per cent doing nothing. Based on this information, management could think about better ways to use Justin’s time. By improving their signs and posting information about the movies, management could reassign Justin to other tasks.

Let’s illustrate by looking at a textile company that makes jeans. We will use this company as a basis to demonstrates important issues about the difficulty with traditional cost allocation methods and the advantages of activity-based costing.

The product does not cost less under one system or another. Our problem is that no cost system measures costs perfectly. We are able to trace some costs directly to the product. For example, we are pretty accurate in measuring the cost of denim, which is a direct material, in each of our shirts, pants, jackets, and so forth.

Overhead costs are another matter. Overhead includes costs like electricity to run machines and salaries of product designers and inspectors. All these costs are allocated to products. We know quality control inspectors cost money, but we do not know how much of that cost is caused by a particular jacket or pair of pants. So we make some assumptions about the relation between products and overhead costs. For example, we typically allocate overhead based on machine-hours required to stitch and fasten snaps. While that is probably a reasonable way to allocate the costs of electricity to run machines, its not a desirable way to allocate the cost of quality control inspectors.

overhead allocation is somewhat arbitrary (it is based on an estimate only), how will activity-based costing help?

Activity-based costing provides more accurate information because we can identify which activities cause costs, and we can determine the cost of the activity. Activity-based costing identifies and measures the costs of performing the activities that go into a product much better than traditional cost methods. For example, if a particular jacket requires 10 inspections for a production run of 1,000 jackets, we figure out the cost of those inspections and assign that cost to the production run for this particular jacket.

But exactly how would activity-based costing help us cut production costs?

Once we identify activities that cause costs, we can eliminate or modify costly activities. For example, if we find that a jacket requires too many costly inspections, we could redesign the jacket to reduce the need for inspections. Our current cost system allocates all overhead costs, including inspection costs, to products based on machine-hours. We really do not know how much it costs to make an inspection and how much inspection cost is required by each product.

Because activity-based costing provides more information, it takes more time than traditional cost systems. New accounting methods sound great in theory, but there must be enough benefit from improved management decisions to justify the additional work required to provide numbers.

Key points about activity-based costing:

  • The allocation of indirect costs is at least somewhat arbitrary, even using sophisticated accounting methods.
  • Activity-based costing provides more detailed measures of costs than traditional allocation methods.
  • Activity-based costing can help marketing people by providing more accurate product cost numbers for decisions about pricing and which unprofitable products the company should eliminate.
  • Production also benefits because activity-based costing provides better information about the cost of each activity. In practice, ABC helps managers identify cost-causing activities. To manage costs, production managers learn to manage the activities that cause costs.
  • Activity-based costing provides more information about product costs than traditional methods but requires more record-keeping. Managers must decide whether the benefits or improved decisions justify the additional record-keeping cost.
  • Installing activity-based costing requires teamwork among accountants, production managers, marketing managers, and other nonaccounting people.

Next, we discuss the methods used for activity-based costing and illustrate them with an example.

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Activity-Based Costing (ABC): Method and Advantages Defined with Example

solved problems on activity based costing

What Is Activity-Based Costing (ABC)?

Activity-based costing (ABC) is a costing method that assigns overhead and indirect costs to related products and services. This accounting method of costing recognizes the relationship between costs, overhead activities, and manufactured products, assigning indirect costs to products less arbitrarily than traditional costing methods. However, some indirect costs, such as management and office staff salaries, are difficult to assign to a product.

Investopedia / Theresa Chiechi

How Activity-Based Costing (ABC) Works

Activity-based costing (ABC) is mostly used in the manufacturing industry since it enhances the reliability of cost data, hence producing nearly true costs and better classifying the costs incurred by the company during its production process.

Key Takeaways

  • Activity-based costing (ABC) is a method of assigning overhead and indirect costs—such as salaries and utilities—to products and services. 
  • The ABC system of cost accounting is based on activities, which are considered any event, unit of work, or task with a specific goal.
  • An activity is a cost driver , such as purchase orders or machine setups. 
  • The cost driver rate, which is the cost pool total divided by cost driver, is used to calculate the amount of overhead and indirect costs related to a particular activity. 

ABC is used to get a better grasp on costs, allowing companies to form a more appropriate pricing strategy. 

This costing system is used in target costing, product costing, product line profitability analysis, customer profitability analysis, and service pricing. Activity-based costing is used to get a better grasp on costs, allowing companies to form a more appropriate pricing strategy. 

The formula for activity-based costing is the cost pool total divided by cost driver, which yields the cost driver rate. The cost driver rate is used in activity-based costing to calculate the amount of overhead and indirect costs related to a particular activity. 

The ABC calculation is as follows:  

  • Identify all the activities required to create the product. 
  • Divide the activities into cost pools, which includes all the individual costs related to an activity—such as manufacturing. Calculate the total overhead of each cost pool.
  • Assign each cost pool activity cost drivers, such as hours or units. 
  • Calculate the cost driver rate by dividing the total overhead in each cost pool by the total cost drivers. 
  • Divide the total overhead of each cost pool by the total cost drivers to get the cost driver rate. 
  • Multiply the cost driver rate by the number of cost drivers. 

As an activity-based costing example, consider Company ABC that has a $50,000 per year electricity bill. The number of labor hours has a direct impact on the electric bill. For the year, there were 2,500 labor hours worked, which in this example is the cost driver. Calculating the cost driver rate is done by dividing the $50,000 a year electric bill by the 2,500 hours, yielding a cost driver rate of $20. For Product XYZ, the company uses electricity for 10 hours. The overhead costs for the product are $200, or $20 times 10.

Activity-based costing benefits the costing process by expanding the number of cost pools that can be used to analyze overhead costs and by making indirect costs traceable to certain activities. 

Requirements for Activity-Based Costing (ABC)

The ABC system of cost accounting is based on activities, which are any events, units of work, or tasks with a specific goal, such as setting up machines for production, designing products, distributing finished goods, or operating machines. Activities consume overhead resources and are considered cost objects.

Under the ABC system, an activity can also be considered as any transaction or event that is a cost driver. A cost driver, also known as an activity driver, is used to refer to an allocation base. Examples of cost drivers include machine setups, maintenance requests, consumed power, purchase orders, quality inspections, or production orders.

There are two categories of activity measures: transaction drivers, which involve counting how many times an activity occurs, and duration drivers, which measure how long an activity takes to complete.

Unlike traditional cost measurement systems that depend on volume count, such as machine hours and/or direct labor hours, to allocate indirect or overhead costs to products, the ABC system classifies five broad levels of activity that are, to a certain extent, unrelated to how many units are produced. These levels include batch-level activity , unit-level activity, customer-level activity, organization-sustaining activity, and product-level activity.

Benefits of Activity-Based Costing (ABC)

Activity-based costing (ABC) enhances the costing process in three ways. First, it expands the number of cost pools that can be used to assemble overhead costs. Instead of accumulating all costs in one company-wide pool, it pools costs by activity. 

Second, it creates new bases for assigning overhead costs to items such that costs are allocated based on the activities that generate costs instead of on volume measures, such as machine hours or direct labor costs. 

Finally, ABC alters the nature of several indirect costs, making costs previously considered indirect—such as depreciation , utilities, or salaries—traceable to certain activities. Alternatively, ABC transfers overhead costs from high-volume products to low-volume products, raising the unit cost of low-volume products.

Chartered Global Management Accountant. " Activity-Based Costing (ABC) ."

solved problems on activity based costing

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Activity-based costing

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Ken Garrett demystifies activity-based costing and provides some tips leading up to the all-important exams

Conventional costing distinguishes between variable and fixed costs. Typically, it is assumed that variable costs vary with the number of units of output (and that these costs are proportional to the output level) whereas fixed costs do not vary with output. This is often an over-simplification of how costs actually behave. For example, variable costs per unit often increase at high levels of production where overtime premiums might have to be paid or when material becomes scarce. Fixed costs are usually fixed only over certain ranges of activity, often stepping up as additional manufacturing resources are employed to allow high volumes to be produced.

Variable costs per unit can at least be measured, and the sum of the variable costs per unit is the marginal cost per unit. The marginal cost is the additional costs caused when one more unit is produced. However, there has always been a problem dealing with fixed production costs such as factory rent, heating, supervision and so on. Making a unit does not cause more fixed costs, yet production cannot take place without these costs being incurred. To say that the cost of producing a unit consists of marginal costs only will understate the true cost of production and this can lead to problems. For example, if the selling price is based on a mark‑up on cost, then the company needs to make sure that all production costs are covered by the selling price. Additionally, focusing exclusively on marginal costs may cause companies to overlook important savings that might result from better controlled fixed costs.

Absorption costing

The conventional approach to dealing with fixed overhead production costs is to assume that the various cost types can be lumped together and a single overhead absorption rate derived. The absorption rate is usually presented in terms of overhead cost per labour hour, or overhead cost per machine hour. This approach is likely to be an over-simplification, but it has the merit of being relatively quick and easy.

f5-abc-ex1

In Table 1 in the spreadsheet above, we are given the budgeted marginal cost for two products. Labour is paid at $12 per hour and total fixed overheads are $224,000. Fixed overheads are absorbed on a labour hour basis.

Based on Table 1 the budgeted labour hours must be 112,000 hours. This is derived from the budgeted outputs of 20,000 Ordinary units which each take five hours (100,000 hours) to produce, and 2,000 Deluxe units which each take six hours (12,000 hours).

Therefore, the fixed overhead absorption rate per labour hour is $224,000/112,000 = $2/hour.

The costing of the two products can be continued by adding in fixed overhead costs to obtain the total absorption cost for each of the products.

f5-abc-ex1a

Table 1 has been amended to include the fixed overheads to be absorbed in both products.

Ordinary: (5 labour hours x $2 OAR) = $10

Deluxe: (6 labour hours x $2 OAR) = $12

This means we have arrived at the total production cost for both products under absorption costing. It also tell us that if production goes according to budget then total costs will be (20,000 x $85) + (2,000 x $102) = $1,904,000.

The conventional approach outlined above is satisfactory if the following conditions apply:

  • Fixed costs are relatively immaterial compared to material and labour costs. This is the case in manufacturing environments which do not rely on sophisticated and expensive facilities and machinery.
  • Most fixed costs accrue with time.
  • There are long production runs of identical products with little customisation.

However, much modern manufacturing relies on highly automated, expensive manufacturing plants – so much so that some companies do not separately identify the cost of labour because there is so little used. Instead, factory labour is simply regarded as a fixed overhead and added in to the fixed costs of running the factory, its machinery, and the sophisticated information technology system which coordinates production.

Additionally, many companies rely on customisation of products to differentiate themselves and to enable higher margins to be made. Dell, for example, a PC manufacturer, has a website which lets customers specify their own PC in terms of memory size, capacity, processor speed etc. That information is then fed into their automated production system and the specified computer is built, more or less automatically.

Instead of offering customers the ability to specify products, many companies offer an extensive range of products, hoping that one member of the range will match the requirements of a particular market segment. In Example 1, the company offers two products: Ordinary and Deluxe. The company knows that demand for the Deluxe range will be low, but hopes that the price premium it can charge will still allow it to make a good profit, even on a low volume item. However, the Deluxe product could consume resources which are not properly reflected by the time it takes to make those units.

These developments in manufacturing and marketing mean that the conventional way of treating fixed overheads might not be good enough. Companies need to know the causes of overheads, and need to realise that many of their ‘fixed costs’ might not be fixed at all. They need to try to assign costs to products or services on the basis of the resources they consume.

What we want to do is to get a more accurate estimate of what each unit costs to produce, and to do this we have to examine what activities are necessary to produce each unit, because activities usually have a cost attached. This is the basis of activity-based costing (ABC).

The old approach of simply pretending that fixed costs are incurred because of the passage of time, and that they can therefore be accounted for on the basis of labour (or machine) time spent on each unit, is no longer good enough. Diverse, flexible manufacturing demands a more accurate approach to costing.

The ABC process is as follows:

  • Split fixed overheads into activities. These are called cost pools.
  • For each cost pool identify   what causes that cost. In ABC terminology, this is  the ‘cost driver’, but it might be better to think of it as the ‘cost causer’.
  • Calculate a cost per unit of cost driver (Cost pool/total number of cost driver).
  • Allocate costs to the product based on how much the product uses of the cost driver.

Let’s continue with our example from earlier; the total fixed overheads were $224,000. In the table below in Example 2 the total overheads have been split into cost pools and cost driver data for the Ordinary and Deluxe products has been collated.

f5-abc-ex2

If we apply the ABC process we can see that Step 1 is complete as we know what the cost pools are.

For Step 2 we need to identify the cost driver for each cost pool .

Batch set-up costs will be driven by the number of set-ups required for production:

Ordinary: 20,000/2,000 = 10 Deluxe units: 2,000/100 =  20 Total set-ups: 30

Stores/material handling costs will be driven by the number of components required for production:

Ordinary: (20,000 units x 20) = 400,000 Deluxe: (2,000 units x 30) = 60,000 Total components = 460,000

Other fixed overheads will have to be absorbed on a labour hour basis because there is no information provided which would allow a better approach. We know from Example 1 that total labour hours required are 112,000.

In Step 3 we need to calculate a cost per unit of cost driver.

Batch set-ups: $90,000/30 = $3,000/set-up Stores/material handling: $92,000/460,000 = $0.20/component

Other overheads: $42,000/112,000 = $0.375/labour hour

Step 4 then requires us to use the costs per unit of cost driver to absorb costs into each product based on how much the product uses of the driver.

Batch set-ups: Ordinary: ($3,000/2,000 units) = $1.50/unit Deluxe: ($3,000/100 units) = $30/unit

Store/material handling: Ordinary: ($0.20 x 20 components) = $4/unit Deluxe: ($0.20 x 30 components) = $6/unit

Other overheads: Ordinary: ($0.375 x 5 hours) = $1.875/unit Deluxe: ($0.375 x 6 hours) = $2.25/unit

The ABC approach to costing therefore results in the figures shown in the spreadsheet below. 

f5-abc-ex2a

Check: If production goes according to budget total costs will be (20,000 x $82.375) + (2,000 x $128.25) = $1,904,000

If you look at the comparison of the full cost per unit in the spreadsheet above, you will see that the ABC approach substantially increases the cost of making a Deluxe unit. This is primarily because the Deluxe units are made in small batches. Each batch causes an expensive set-up, but that cost is then spread over all the units produced in that batch – whether few (Deluxe) or many (Ordinary). It can only be right that the effort and cost incurred in producing small batches is reflected in the cost per unit produced. There would, for example, be little point in producing Deluxe units at all if their higher selling price did not justify the higher costs incurred.

In addition to estimating more accurately the true cost of production, ABC will also give a better indication of where cost savings can be made. Remember, the title of this exam is  Performance Management , implying that accountants should be proactive in improving performance rather than passively measuring costs. For example, it’s clear that a substantial part of the cost of producing Deluxe units is set-up costs (almost 25% of the Deluxe units’ total costs).

Working on the principle that large cost savings are likely to be found in large cost elements, management’s attention will start to focus on how this cost could be reduced.

For example, is there any reason why Deluxe units have to be produced in batches of only 100? A batch size of 200 units would dramatically reduce those set-up costs.

The traditional approach to fixed overhead absorption has the merit of being simple to calculate and apply. However, simplicity does not justify the production and use of information that might be wrong or misleading.

ABC undoubtedly requires an organisation to spend time and effort investigating more fully what causes it to incur costs, and then to use that detailed information for costing purposes. But understanding the drivers of costs must be an essential part of good performance management.

Ken Garrett is a freelance writer and lecturer

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Top 20 Questions and Answers- Activity-Based Costing (ABC) [With PDF]

Here, you will learn the top 20 Questions and Answers- Activity-Based Costing (ABC) . After reading this article, you will have a basic idea about activity-based costing (ABC).

So let’s get started.

Questions and Answers- Activity-Based Costing (ABC)

Question-01: What is Activity-Based Costing (ABC)?

Answer: Activity-Based Costing (ABC) is the costing that begins with the tracking of activities and then the output of the product. In other words, it is the costing method mechanism that focuses on activities conducted for the manufacture of goods.

Question-02: What is the main purpose of Activity-Based Costing (ABC)?

Answer: The main purpose of the Activity-Based Costing (ABC) is to define as many costs as possible that is subsequently compensated for as direct production costs.

Question-03: What are the different stages in Activity-Based Costing (ABC)?

Answer: There are various stages in the ABC system. Activity-based costing’s important stages are as follows:

  • Identify the various activities that take place within the company.
  • Measure the overhead costs as a result of the operations.
  • Subsequently, support activities are dispersed in the primary activities.
  • Identify the cost drivers for each activity.
  • Determine the rate of activity cost drivers, or the number of cost drivers used by each product.

Question-04: What is the distinction between Activity-Based Costing and Traditional Costing?

  • Activity-based costing starts with the identification of activities and then the production of goods, while traditional costing starts with the identification of costs and then the production of goods.
  • Activity Based Costing focuses primarily on activities carried out for the manufacture of products, whereas Traditional Costing focuses primarily on cost determination after they have been incurred.

Question-05: What are the Advantages of Activity-Based Costing?

Answer: The ABC system is an extremely valuable control tool. It provides a number of management benefits and the main advantages are the following:

  • In determining the cost of the products, it provides accuracy and reliability of cost data.
  • It facilitates the relationship of cause and effect to exercise effective control of costs.
  • It provides the management with the necessary cost information to make decisions on any business-related matter.
  • It is very useful to set the cost and the selling price of a product.
  • It facilitates the allocation of overhead costs directly to a specific product.

Question-06: What are the limitations or disadvantages of ABC?

Answer: The limitations or disadvantages of ABC are as follows:

  • ABC is very expensive to use.
  • Some arbitrary allocations continue.

Question-07: What are the essentials factors of a good Activity-Based Costing system?

Answer: The success of the Activity-Based Costing system depends on the following factors:

  • Costing system objectives and level of competition.
  • Number of fabricated products.
  • Business and product diversity
  • Adaptation of measures, standardization and technical aspects of cost management.
  • Degree of sophistication and business suitability.

Question-08: What are the costs drivers?

Answer: Cost Drivers are known as the factors that influence the cost of a specific activity.

Question-09: What are the examples of cost drivers?

Answer: The examples of cost drivers are as follows:

  • Number of receiving the order
  • Number of deliveries
  • Number of Purchase orders
  • Kilometres travelled per delivery
  • Number of customers’ visits
  • Number placing orders for purchase

Question-10: What is the Importance of Cost Drivers?

Answer: the Importance of Cost Drivers is as follows:

  • Cost drivers describe what causes a cost to be incurred in order to regulate it.
  • Cost drivers should decide at what point a cost arises.

Question-11: What is the example of activities?

Answer: The example of activities are as follows:

  • Order Taking
  • Customer Visit
  • Placing Orders

Question-12: What is the classification of activities?

Answer: Activities are classified into:

  • Unit Level Activities
  • Batch Level Activities
  • Product Level Activities
  • Facility Level Activities

Question-13: What are the unit-level activities?

Answer: Unit Level Activities are those activities carried out whenever a single product or unit is manufactured. Such activities are repetitive in nature. For example, direct labour hours, machine hours, power, etc.

Question-14: What is the Batch Level Activity?

Answer: These activities are carried out whenever a batch of products or a group of identical products is manufactured. In nature and in size, all the units of a specific batch are uniform. Examples of batch-level activities that are related to batches are machine setups, inspections, production scheduling, materials handling.

Question-15: What are the product-level activities?

Answer: These activities are carried out to support the manufacturing of each type of product. A few examples of product-level activities are maintenance of equipment, engineering fees, testing routines, maintaining material bills, etc.

Question-16: What are the Facility Level Activities?

Answer: Facility Level Activities are those that are needed to sustain the general production process of a factory. These activities are prevalent in a variety of products and are most difficult to link to specific activities of the product. A few examples of facility-level activities include factory management, maintenance, security, plant depreciation, etc.

Question-17: How to calculate activity-based overhead rate?

Activity-based overhead rate = Estimated Overhead per Activity/Expected Cost Drivers per Activity

Question-18: What is the costs hierarchy?

Answer: A cost hierarchy classifies costs into different cost pools based on the different types of bases for cost allocation or different degrees of difficulty in determining relationships between benefits received.

Question-19: What is an activity center?

Answer: An activity center is any part of the phase of manufacturing or service for which management requires a separate cost reporting.

Question-20: How do managers use ABC systems to price goods or services?

Answer: Activity costs are used in ABC to allocate costs to other cost items, such as goods or services, depending on the activities consumed by the products or services.

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  • Introduction to Cost Accounting.
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  • Job Order Costing
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Activity Based Costing | Cost Drivers | Problems and Solution

solved problems on activity based costing

  • Published on: January 26, 2022

solved problems on activity based costing

Activity Based Costing | Concept of ABC

Direct materials and direct labour are the major elements of traditional cost accounting system.

The traditional system is suitable for those companies who produce goods in narrow range.

If company produces wide range of goods, overhead cost will be relatively higher to the direct cost.

And it may be difficult to allocation (share) fixed cost.

Activity based cost (ABC) was introduced by Robin Cooper in 1980 to resolves the difficulties of assigning overhead amount under traditional costing.

Then Robert S. Kaplan recommended it in 1988; it is recommended for:

·           A wide range of products

·           Product costing and profitability

·           Distribution and controlling overheads appropriately (properly)

ABC helps to better understanding about overhead cost.

It helps to allocation overheads in systematic and scientific way.

Activities are transaction, events, tasks or unit of work for producing goods.

ABC is also called transaction based costing.

Definition of ABC

According to Professor Robin Cooper and Robert S. Kaplan, “ABC systems calculate the costs of individual activities and assign/allocate costs to cost objects such as product and service on the basis of activities and assign costs to cost each product or service.”

Calculation of Cost Driver Rate

Cost Statement under ABC

Limitation of Activity Based Costing

Following are the main limitations of ABC:

ABC is more complex than traditional costing system.

It is difficult to identify overall activities.

It is difficult to select most suitable cost driver for each expenses or overhead.

It is not suitable for small manufacturing industries because it is expensive.

Working procedure of activity based costing system

Step 1,           Identify the major activities of an organization

Step 2,           Identify a cost driver (cost indicator) for each activities or operation

Step 3,           Create a cost center (cost pool) for each major activity or operation

Step 4,           Trace (allocate) the cost of the activities or operation to the final product

Step 1, Identify the major activities of an organization

To prepare finished goods, every manufacturing company needs some basic components like materials, materials handling, work in progress, machine operation, production scheduling, production runs, set-ups, employees’ related activities, customer’s order completing dispatch of goods etc.

Step 2, Identify a cost driver (cost indicator) for each activities or operation

Cost is influenced/effected by different factors.

After identification of the major activities, those effecting factors also should be identified; they are:

Traditional Costing System vs Activity Based Costing

Traditional costing

The tradition costing system was designed decades ago for costing.

There are two types of distribution under traditional costing system.

They are primary and secondary distribution of overhead.

Under primary costing, direct materials, direct labour and direct overhead are calculated.

Under secondary costing, labour hour based or machine hour based overhead are calculated.

Activity based costing

solved problems on activity based costing

Step 3, Create a cost center (cost pool) for each major activity or operation

After finding out cost driver, cost driver rate should be calculated.

Cost driver rate = Related overhead ÷ Related total overhead                                                                        

Step 4, Trace (allocate, distribution) the cost of the activities

After finding out cost driver rate, those should be allocated according to their nature or basis.

Overhead or activity         = Cost driver x Cost driver rate

Keep in Mind (KIM)

Here, Amount = Rs = $ = £ = € = ₹ = Af = ৳ = Nu = Rf = රු = Br = P = Birr = Currency of your country  

PROBLEM: 2A

ABC Manufacturing Company (P) Ltd has following data:

Output and relevant data are:

Required: (under ABC) (1) Cost driver rate; (2) Total overhead; (3) Overhead rate

[Answer: CDR: $200; $2.40; $2,250; $20;

Total overhead: A = $54,750; B = $22,250;

Overhead rate: A = $54.75; B = $36.83]

Working note for total cost driver:

PROBLEM: 2B

XYZ Manufacturing Company produces its two products in similar machine and process. The following information is available:

Cost incurred (in $ /₹/Rs):

Required: (1) Cost driver rate; (2) Total overhead under ABC; (3) Overhead cost per units based ABC

[Answer: CDR = $3,000; $450 and $1.50]

Total overhead = $86,400 and $186,000;

Overhead CPU = $14.40 and $23.25]

Working note for total cost driver

Cost Statement under Activity Based Cost (ABC)

PROBLEM: 2C

Eshna Manufacturing produces its products in similar process. The expenses for the period were:

Four products were produced by workers. Wage rate per hour $12

Additional information:

Required: Total cost and cost per unit applying:

(a) Conventional costing using machine hour; (b) ABC using suitable cost driver

 [Answer: (a) Total cost: A = $98,280; B = $200,672; C = 186,560; D = $346,260;

CPU: A = $196.50; B = $250.84; C = $186.56; D = $230.84;

(b) Total cost: A = $132,100; B = $189,380; C = 212,320; D = $297,900;

CPU: A = $264.20; B = $236.73; C = $212.32; D = $198.60]

Given and working note:

Cost Statement under Conventional Costing

###########

PROBLEM: 2D

Details of three products and related information are given below by Maxwell Manufacturing Company on 31 st December:

a.      The products are produced in similar process in a production run of 70 units each.

b.      Requisition raised from the store for product X, Y and Z in 10, 15 and 20 respectively.

c.       The numbers of order executed was in the batch of 20 units each totaling 63

The production overhead for the period was:

Required:      (1) Conventional costing using machine hour and profit (loss)

(2) Cost driver rate; (3) ABC using suitable cost driver and profit (loss)

[Answer: (1) Total cost: X = $181,650; Y = $102,200; Z = 138,600;

Profit (Loss): X = ($1,050); Y = $9,800; Z = $29,400;

(2) CDR: $7.50; $5,635; $1,744.89; $2,000; $1,550;

(3) Total cost: X = $143,059; Y = $108,933; Z = 170,458;

Profit (Loss): X = $37,541; Y = $3,067; Z = ($2,458)]

Working note for cost driver rate:

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solved problems on activity based costing

PROBLEM: 2E

Details of three products and related information are given below by ABC Manufacturing Company on 31 st December:

Materials dispatch (in 100 units pack each)

Wage rate per hour $20

Direct expenses is 50% of direct labour

Overhead rate $25.50 per hour based on labour hours

Cost and cost drivers:

(a) Total overhead and apportionment of overhead; (c) Total cost and cost per unit under volume based costing

(c) Cost driver rate; (d) Total cost and cost per unit under activity based costing

[Answer:  (a) Total overhead $51,000 and $20,400; $12,750; $17,850;

(b) Total cost: A = $66,250; B = $46,250; C = $72,500;

CPU: A = $33.13; B = $46.25; C = $72.50;

(c) CDR: $1,020; $7.727; $446.25;

(d) Total cost: A = $76,752; B = $48,674; C = $65,574;

CPU: A = $38.38; B = $48.67; C = $65.57]

Total overhead

Apportionment of overhead

No. of batches       

= A + B + C       

= 5 + 6 + 9       

Cost Statement under Activity Based Costing

PROBLEM: 2F

Usha Components (P) Ltd has following data on 31 st December:

Wage rate per hour $24.

Other information:

Required:  (1) Cost statement under traditional costing showing total cost and cost per unit.

(2) Cost statement under ABC showing total cost and cost per unit.

(3) Change cost per unit based on traditional costing.

Cost Statement under Traditional Costing

                                                                                 

Percentage change based on Traditional Costing

PROBLEM: 2G

Ekta Copy Industries manufactures different sizes of diaries. The following data is related to four brands diaries on first week of January (amount in $ /₹/Rs):

Total production overhead by account department as under (amount in $ /₹/Rs):

Cost driver activities:

Required:      (1) Total cost, cost per unit under Conventional Costing System based machine hours

(2) Cost driver rate; (3) Total cost, cost per unit under Activity Based Costing.

Cost Statement under Conventional Costing System

ABC Company (P) Ltd has following information:

Required: (a) Cost driver rate; (b) Total overhead under ABC;

 [Answer: (1) $5; $500 and $2,100;

(2) $134,000 and $306,000]

Kohinoor Metal Uddhyog manufactures different kind of auto accessories. The following data are related to four specific products:

Further information:

Required:      (1) Cost driver rate; (2) Total overhead under activity based costing; (3) Cost per unit under ABC

[Answer: (1) $5; $5,500; $3,200 and $3,060;

(2) $132,100; $189,360; $212,320 and $297,900;

(3) $264.20; $236.73; $212.32 and $198.60]

Birat Shoes Company has got order for three sizes shoes. Other information is:

DLH $10 per labour hour

Cost driver and expenses:

Required: (a) Total cost and cost per unit under conventional costing based on labour hour rate

(b) Cost driver rate; (c) Total cost and cost per unit under ABC

[Answer: (a) M = $182,196 and $433.80;

N = $102,771 and $367.04; O = $145,757 and $260.28;

(b) $7.5; $5,635; $1,773; $2,000 and $1,550;

(c) M = $143,340 and $341.29; N = $109,635 and $391.55;

O = $177,740 and $317.39]

PROBLEM: 2D 

AP Manufacturing Company has a single production process. Three products P, Q and Rare produced by workers the wage rate per hour is $4. The budget information has been obtained for the year is as follows:

The overhead cost and related cost drives are:

Required: Using activity based costing find out: (1) Cost driver rate; (2) Total cost for each product; (3) Cost per unit

Answers: (1) CDR = $2,000; $2; $2;

(2) Total cost = $34,000; $22,500; $16,500;

(3) $17; $22.50; $33]

Materials per unit is applied for Quantity not for direct materials

ABC Company manufactures two products namely X and Y. Data for the period is as follows:

Total production overhead recorded and cost-driver fixed by cost accounting department is analyzed as:

Required: (a) Total overhead and overhead rate by using labour hour rate; (b) Cost driver rate

(c) Total overhead and overhead rate under activity based costing

Answer: (1) Total overhead: X = $16,000; Y = $36,000;

ORPU:  X = $8.00, Y= $12.00;

(2) Total overhead: X = $34,600; Y = $17,400;

ORPU: X = $17.30, Y = $5.80;

A Company produces two types of products. The president of the company recently decided to change from a volume based costing system to an activity based cost system. To assess the effect of the change, the following data have been gathered:

The overhead cost and cost drives are as follows:

Required:      (1) Cost drives rate for each item by using activity- based costing         

(2) Total cost and cost per unit of each product by using cost- driver rate

[Answer: (1) Cost driver rate = $3, $2,000, $2;  

(2) Total cost: A = $69,000; B = $46,000;

OPU: A = $23; B = $23;

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Activity-Based Costing (ABC)

Understanding what really drives costs.

By the Mind Tools Content Team

solved problems on activity based costing

Whether you manage an organization, a department or a project, one of your principal objectives is to be as profitable as you can. To accomplish this, you'll probably seek to minimize your costs and other outgoings.

In practice, you may be able to contain your direct costs by keeping tight control of your supplies, or by using your labor hours very efficiently. But you'll also need to take into consideration the indirect costs that are shared across the company. For example, how do you track the cost of shared overhead expenses like customer service, maintenance or insurance?

The full cost to build a specific product, run a specific project, or even manage a specific department includes all of the direct costs associated with it. Plus a fair share of other indirect costs. However, the idea of what's "fair" isn't always clear. In this article, you'll learn about a model for overhead costing – Activity-Based Costing – that calculates the true, "fair" costs.

The "Real" Costs

Let's imagine you manage a computer repair company. Some jobs you carry out may require you to run and maintain expensive equipment, while others may not. Therefore, you may end up assigning expenses like maintenance and depreciation "unfairly" if you apply these costs evenly, or average them, across all the jobs you do.

In reality, even though two jobs may take the same number of direct labor hours, the other costs involved will be different. For the bottom line, this means that some jobs are more profitable than others. However, if you only take labor hours into consideration, you might not see that difference.

Traditional accounting systems address the issue of "fair share" product costing by using an overhead rate to assign indirect costs. This overhead rate is reset periodically, and it's applied consistently to the various cost centers (which may be specific products or activities within the organization).

Variables such as the amount of space occupied, the number of staff or the quantity of material used are common bases of cost allocation.

For example, let's say you have three sales offices. The European office accounts for 42 percent of revenue, the office in Asia generates 37 percent, and the North American office provides the remaining 21 percent. You use sales volume as your overhead rate to spread the costs associated with customer service, marketing and human resources.

See the Real Bottom Line

The problem with bases like these is that, at the individual product or service level, some items are allocated too much cost, and some are allocated too little. In the 1980s, with the shift from labor-intensive to capital-intensive operations, these inaccuracies became more significant.

This led to product lines being continued when, in reality, they were unprofitable; and to product lines being cut when they made a positive contribution to the bottom line.

As a result, Robert Kaplan and Robin Cooper of Harvard Business School developed a costing process to address the true cost implications for different products and services – rather than using simple averages, which may hide those true costs.

They called the process Activity-Based Costing (ABC). They discussed their ideas in a series of articles and case studies, including a paper titled, "Measure Costs Right: Make the Right Decisions." [1]

See Words Used In... Financial Accounting for a more detailed discussion of costs and expenses.

Activity-Based Costing

ABC isn't dramatically different from traditional overhead costing, because it also allocates indirect costs to various cost centers. However, ABC identifies many more cost "activities" to use in the overall process of assigning those costs.

Let's explain that with an example: in a traditional system, engineering support might be one cost center. With the ABC model, engineering support could be divided into various activities, such as equipment layout, process improvement, and new equipment purchasing.

By identifying more of these cost activities, ABC turns many indirect overhead costs into direct costs. This is done using cost drivers. A cost driver is something that causes an expense to occur. For example, when a manufacturing plant switches products on the line, or when an order is processed, or when engineering is asked to make a design change – these are all drivers of cost.

These cost drivers can then be valued. By determining how much each product, project or department uses, you can more accurately determine the costs associated with each.

ABC uses the number of transactions as the basis for allocating costs associated with each cost driver. Let's consider again our example of the three sales offices. If 42 percent of the calls to customer service were about the North American team, then you would assign 42 percent of the costs associated with operating the customer service phone line to the North American office.

You might also learn that the North American office generated only 22 percent of the service requests that needed special handling by a customer service supervisor. You would therefore assign the costs associated with that specific cost driver accordingly – i.e. 22 percent.

An Activity-Based Costing system provides a much more detailed view of the actual costs associated with a particular product or service. However, bear in mind that it can be expensive to set up and maintain an ABC system.

Your decision to introduce it would depend on the complexity and nature of your operations, and you would have to consider whether having a very detailed description of costs might or might not be worth the extra work.

Creating an ABC System

There are four main steps for creating an ABC System:

  • Identify the key activities performed within the operation, and the associated cost drivers.
  • Create a process map to show the flow of activities within the operation, how resources are used, and how these relate to one another.
  • Using accounting records and other methods, collect usage data for each of the cost drivers.
  • Complete the ABC calculations, and analyze the cost information so that you can identify opportunities for improvement.

One of the drawbacks of ABC is that it's a complicated and labor-intensive system to create and maintain, and the high level of detail can be confusing and frustrating. ABC has therefore decreased in popularity since it was first introduced.

In 2004, Kaplan and Steven Anderson – founder and chairman of Texas-based software firm Acorn Systems – introduced a simpler process called "Time-Driven ABC." [2]

Here, managers estimate how many resources each product or service will need. Then they assign an amount for what it costs to provide that resource. It takes less time to gather this information, and it's easier to update as operations change.

Activity-Based Management

Companies with ABC models have generally found the process to be very useful. That's because when you make the decision to set up an ABC system, you also create an opportunity to take a detailed look at what's truly driving costs within the business. It can also help you to identify areas of wastage and inefficiency.

For example, if it costs $25 to process an order, and the revenue generated by that order is $20, then something is very wrong. You might not be able to figure that out with traditional cost allocation – especially if you have two different product lines: one with a higher average order amount than the other.

When you do too much cost averaging, the results risk becoming more and more meaningless.

ABC, therefore, is useful for process analysis and continuous improvement initiatives. That's what Activity-Based Management (ABM) is all about. ABM uses the fundamentals of Activity-Based Costing, and looks at how to perform tasks more efficiently. It shows what an organization is doing right and wrong, and it looks at how that information can be used to create more value within the business.

Total Quality Management and process reengineering are similar processes that use the principle of identifying and improving activities that add value – and eliminating activities that don't.

There are many benefits to an Activity-Based Costing system. Rather than assigning overhead costs in large amounts that are averaged across the company, it assigns more costs directly to a particular product or service. These items can then be managed more effectively.

This more accurate costing system provides more opportunities for managers to identify ways to improve value and profitability.

ABC is a complex process that needs a great deal of preparation and investigation, but the end result is a cost system that's very accurate.

Simply starting to look at cost drivers and related activities – and learning what is, and is not, profitable – can be very beneficial to the business.

[1] Kaplan, R. and Cooper, R. (1988). 'Measure the Cost: Make the Right Decisions,'  Harvard Business Review.  Available here .

[2] Kaplan, R. and Anderson, S. (2005). 'Rethinking Activity-Based Costing,' Harvard Business School, Working Knowledge . Available here .

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Logistics Information Management

ISSN : 0957-6053

Article publication date: 1 April 1997

As the manufacturing environment moves to computer‐integrated manufacturing and the products that are manufactured are diverse, conventional cost systems can report seriously distorted product costs. Discusses the solutions to these problems. Activity‐based costing, initiated and popularized by Robin Cooper and Robert S. Kaplan, can solve these distorted problems. Activity‐based costing (ABC) is defined as “the collection of financial and operation performance tracing the significant activities of the firm‐to‐product cost”. Discusses the ABC system design and ABC implementation. The five steps in the design of an ABC system are: aggregate actions into activities; report the cost of activities; identify activity centres; select first‐stage cost drivers; and select second‐stage cost drivers. The implementation plan consists of seven phases: an ABC seminar; a design seminar; design and data gathering; progress meetings; an executive seminar; result meetings; and interpretation meetings.

  • Activity‐based costing
  • Computer‐integrated manufacturing

Jong No, J. and Kleiner, B.H. (1997), "How to implement activity‐based costing", Logistics Information Management , Vol. 10 No. 2, pp. 68-72. https://doi.org/10.1108/09576059710815725

Copyright © 1997, MCB UP Limited

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  1. Cost Accounting Part 5 Normal Costing

  2. Cost Accounting /Important Problem /Part 3

  3. Cost Accounting /Important Problem /Part 4

  4. Activity Based Costing

  5. Rapid Revision and Question Solving

  6. 2 Activity Based Costing

COMMENTS

  1. PDF 9 Activity-Based Costing Solutions to Review Questions

    Activity-Based Costing . Solutions to Review Questions . 9-1. Give examples of cost drivers commonly used to allocate overhead costs to products and services. Common allocation bases are direct labor-hours, direct labor costs, and machine-hours. Somewhat less common is direct material costs. 9-2.

  2. Chapter 4 Activity Based Costing Exercises

    Basic Data: Activity Center Estimated Expected Activity (and Cost Driver) Overhead Costs Total Regular Super Labor related (DLH) P 80,000 10,000 8,000 2, Machine setups (#of setups) 420,000 1,400 500 900 Product testing (# of tests) 600,000 8,000 6,400 1, General factory (MH) 900,000 45,000 30,000 15, Total Cost P2,000, ======== Overhead Rates...

  3. PDF Activity Based Costing

    a switch to activity based costing (ABC) to absorb overheads would reduce the cost associated to GC and hence make them more competitive. A typical GC costs $3,500 in materials and takes 300 labour hours to complete. ... This switch (to marginal costing) would also avoid the problem of the uncertainty of budget volume. Budget volume is needed ...

  4. How to Calculate Activity-Based Costing (With Examples)

    1. Determine activities required To begin calculating activity-based costing, identify which activities are necessary for manufacturing a particular product. Consider several variables, such as the cost of using the manufacturing facility and the cost and time of any preliminary research. 2. Divide activities into cost pools

  5. Activity-Based Costing

    Activity-based costing is a method of assigning indirect costs to products and services by identifying cost of each activity involved in the production process and assigning these costs to each product based on its consumption of each activity.

  6. 4.1: Activity-Based Costing and Management

    Activity-based costing is based on the premise: Products consume activities; activities consume resources. Activity-based costing identifies the activities generating costs and assigns costs to those activities. Take the earlier Justin example. By focusing on Justin's activities, management could learn what caused costs and find ways to ...

  7. Activity-Based Costing

    These individual rates are called activity-based costing rates and are solved by dividing the total cost pool, which is a group of indirect costs associated with the manufacturing of goods, by the ...

  8. Activity-Based Costing

    What is Activity-Based Costing? Activity-based costing is a more specific way of allocating overhead costs based on "activities" that actually contribute to overhead costs. In job-order costing and variance analysis, overhead costs are applied based on a specific cost driver such as labor hours or machine hours.

  9. Activity-Based Costing (ABC): Method and Advantages ...

    Activity-Based Costing - ABC: Activity-based costing (ABC) is an accounting method that identifies the activities that a firm performs and then assigns indirect costs to products. An activity ...

  10. Activity-based costing

    Ken Garrett demystifies activity-based costing and provides some tips leading up to the all-important exams Conventional costing distinguishes between variable and fixed costs. Typically, it is assumed that variable costs vary with the number of units of output (and that these costs are proportional to the output level) whereas fixed costs do ...

  11. Top 20 Questions and Answers- Activity-Based Costing (ABC) [With PDF

    Answer: Activity-based costing starts with the identification of activities and then the production of goods, while traditional costing starts with the identification of costs and then the production of goods.

  12. Activity Based Costing

    Under secondary costing, labour hour based or machine hour based overhead are calculated. Activity based costing . ABC helps to better understanding about overhead cost. It helps to allocation overheads in systematic and scientific way. Activities are transaction, events, tasks or unit of work for producing goods.

  13. Activity-Based Costing (ABC)

    The "Real" Costs Let's imagine you manage a computer repair company. Some jobs you carry out may require you to run and maintain expensive equipment, while others may not. Therefore, you may end up assigning expenses like maintenance and depreciation "unfairly" if you apply these costs evenly, or average them, across all the jobs you do.

  14. How to implement activity‐based costing

    Discusses the solutions to these problems. Activity‐based costing, initiated and popularized by Robin Cooper and Robert S. Kaplan, can solve these distorted problems. Activity‐based costing (ABC) is defined as "the collection of financial and operation performance tracing the significant activities of the firm‐to‐product cost".

  15. Activity-Based Costing

    Activity-Based Costing - Sample Problems With Solutions | PDF | Cost | Business Activity-Based Costing- Sample Problems With Solutions - Free download as PDF File (.pdf), Text File (.txt) or read online for free.

  16. Solved Activity-Based Costing and Conventional Costs

    Step 1 a). Determination of Toatl cost of Gas cooker and chorcoal. Total cost of Gas Cooker = $186,164. Gas cooker cost per unit = Total Cost of Gas Cooker / Total Units of Gas Cooker = $ 186,164 1,000 = $ 186.16 Total... View the full answer Step 2 Unlock Answer Unlock Previous question Next question Not the question you're looking for?

  17. PDF Cost and Management Accounting -II Activity Based Costing

    The activity-based costing (ABC) system is a method of accounting you can use to find the total cost of activities necessary to make a product. The ABC system assigns costs to each activity that goes into production, such as workers testing a product, setting up of machines, orders passed for purchase of raw materials etc.

  18. Solved Problem 17-3B Using activity-based costing to

    Accounting questions and answers. Problem 17-3B Using activity-based costing to allocate overhead cost, and compute overhead cost per unit and gross profit per unit P3 Refer to the information in Problem 17-2B. Additional information on overhead cost follows. Required 1. Compute an activity rate for each activity using activity-based costing. 2.

  19. PDF Problems Caused and Solved by Activity-Based Costing in Development and

    Problems Caused and Solved by Activity-Based Costing 471 Because of its continued growth and dissemination, ABC is considered to be useful in both academic and professional settings. Turney has done extensive research on the theoretical underpinnings of activity-based accounting, specifically the principles of activity scope and cost variables ...

  20. Solved Identify potential problems with cost allocation,

    See Answer Question: Identify potential problems with cost allocation, discuss activity-based costing (ABC) and cost drivers, and distinguish activity-based costing (ABC) from activity-based management (ABM).