What is ABC?
- Activity based costing
- this is the key costing method.
What are the reasons for the development of ABC?
What are the methodical step by step approach to ABC?
- 1. Group production overheads into activities, according to how they are driven a ,
- 2. Identify cost drivers for each activity.
- 3. Calculate an O.A.R for each activity cost.
- 4. Absorb the activity costs into each product.
- 5. Calculate the production cost and the profit / (loss) if required.
What are the advantages of ABC?
- 1. More realistic costs.
- 2. Better insight into cost drivers, resulting in better cost control.
- 3. Particularly useful where overhead costs are a significant proportion of total costs.
- 4. ABC recognises that overhead costs are not all related to production and sales volume.
- 5. ABC call be applied to all overhead costs, not just production overheads
- 6. ABC can be used just as easily in service docs ting as in product costing.
What are the criticisms / disadvantages of ABC?
- 1. It is impossible to allocate all overhead cost to specific activities.
- 2. The choice of both activities and cost drivers might be inappropriate.
- 3. ABC can be more complex to explain to the stakeholders of the costing exercise.
- 4. The benefits obtained from ABC might not justify the costs
- 5. ABC will be of limited benefit if overhead costs are primarily volume related or are a small proportion of teh total costs.
What are the implications of ABC?
- 1. Pricing - more realistic costs improve cost plus price.
- 2. Sales strategy - more realistic margins can help focus sales strategy a.
- 3. Decision making - e.g. Research and development can be directed at products with better margins.
- 4. Performance management can be improved due to the settings of more realistic budgets and improved cost control.