Activity-based costing

1. Activity Based Costing
Presented By: Kartik Bansal
MBA

2. What is Costing
 Costing is any system for assigning costs to an
element of a business. Costing may involve only
the assignment of variable costs, which are those
costs that vary with some form of activity.
 Type of costing
Direct cost. (such as sales or the number of
employees).
Variable cost. (cost of materials varies with the
number
of units produced)

3. .
 Activity-based costing (ABC) is a costing
methodology that identifies activities in an
organization and assigns the cost of
each activity with resources to all products and
services according to the actual consumption by
each. ... The latter utilize cost drivers to
attach activity costs to outputs.

4. Origin
 During 1980’s, the limitations of absorption
costing system were felt with severity. Companies
were looking for a system that could reflect true
product cost in order to fight competition. This
criticism of Traditional costing led to generation
of the idea of ABC system.
 David Cooper and Robert Kaplan wrote articles
on the idea of ABC system in 1990 and 1992.
 The new system was accepted widely and
became reality of the day. Now ABC system has
become part of every management accounting
and being implemented the world over.

5. Traditional Costing Concept
 Traditional costing is the allocation of factory
overhead to products based on the volume of
production resources consumed. Under this
method, overhead is usually applied based on
either the amount of direct labor hours
consumed or machine hours used.
 IT is cost pool of one or a limited number
 It is suited for low-intensive & Low-overhead
companies
 It is Simple & inexpensive
 Focuses on managing cost of functional
departments or responsibility centers

6. Traditional vs. Activity based

7. WHY ABC NOW?
 Competitive demands for diverse
products/services.
 Increased significance of overhead costs
-Growth of non-unit based overhead
-Consumption ratios of unit based and non-unit
based overhead items differ.
 Improved information technology.
 Significance of strategic decisions.

8. Two-Stage Cost Allocation
 How a two-stage product costing system works:
- First Stage:
allocate overhead costs to departments.
- Second Stage:
allocate department overhead costs to the
products or services.
 How Activity- Based Costing and a two- stage product
system are related:
- Stage 1:
Assign costs to activities
- Stage 2:
Assign costs to products based on the use of
each activity.

9. Process

10. Developing Activity-Based Costs
 STEP 1: Identify the activities that consume
resources and assign costs to them.
 STEP 2: Identify the cost drivers associated with
each activity.
 STEP 3: Compute a cost rate per cost driver unit
or transaction.
 STEP 4:Assign costs to products by multiplying
the cost driver rate by the volume of the cost
driver units consumed by the product.

11. Advantages
 ABC system provides accurate costing of
products/services.
 Management has better understanding overheads
cost.
 The system utilizes unit cost rather than total cost
unlike absorption costing system.
 The in-depth study of overheads cost under ABC
system makes all wastages visible to management
and all non- value added activities known to them.
Thus, better controls can be exercised on them.
 It supports performance management and
scorecards.
 The system enables costing of processes, supply

12. Disadvantages
 Implementing ABC system requires a big budget initially.
 After implementation, the maintenance of the system is
costly. Data concerning numerous activity measures must
be collected , checked, and entered into the system on
regular basis.
 ABC system produces numbers such as product margins
that are different from the profits produced by traditional
costing system. Management may be double minded as
they are used to work with traditional costing system, as a
requirement for external reporting.
 ABC system generated data can be misinterpreted and
must be used with care when used in making decisions.
Costs assigned to products, customers and other cost
objects are only potentially relevant.
 Reports generated by ABC system do not conform to
Generally Accepted Accounting Principles (GAAP).
Consequently, an organization involved in ABC should
have two cost systems - one for internal use and one for
preparing external reports.

13. .
 What is Costing
 Concept & Origin of ABC
 Traditional Costing Concept
 Difference Between Traditional & ABC
 Process
 Advantage & Disadvantage
 Two stage cost Allocation
 Developing Activity-Based Costs

14. Now I open the
house for
Question &
Answer