Problems with Traditional costing
- overhead applied using direct labor hours distorts product costs. WHY Diverse types of O/H are dumped into 1 plan wide cost pool
- Some O/H is not driven by direct labor hours
- bad cost data leads to bad management decisions
Advantages of ABC
- weeds out non value added activities
- Provides better cost data to support managers activity-based management decisions
ex. eliminates unprofitable product, cut other non value added costs, change product mix - assigs o/h to product based on whether they “caused it”
when is it beneficial to use ABC in a company
when the company has lots of O/H and produces a diverse set of products
ABC characteristics
- assigns o/h only consumed by products
- uses volume and non volume related allocation bases
- traces shipping costs related to products
Traditional Characteristics
- assigns all o/h
- uses primarily volume related bases
- treats shipping costs as period expenses
Elements in ABC
Activities
Activity Cost Pools
Activity Measures (cost drivers)
Activities
an event that causes the consumption of o/h resources; that is, drives the use of o/h.
Activity Cost Pools
A “cost bucket” to accumulate costs related to a particular activity
Activity Measures (cost drivers)
An allocation base based on the # ofttimes an activity occurs or amount of time needed for an activity.
Examples of ABC cost drivers
Unit level costs batch level product level customer level organization wide DM DL (hrs)
ABC limitations
Expensive system
managers may resist using reports done by subjective employee reports
Does not conform to GAAP, so 2 costing systems are needed
Successful ABC implementations
strong top management support
cross functional involvement
linked to evaluations and rewards
