Abc Costing

13.Describe the main features of activity based costing. Do you agree that activity based costing is a more refined system of charging overhead cost to the product than traditional methods? Explain.

Meaning of Activity-Based Costing (ABC costing):

Activity-Based Costing (ABC costing) is a costing method that identifies and assigns costs to activities based on their use of resources, and then assigns those activity costs to products or services according to the extent to which each product or service uses the activities.

In simple terms, ABC focuses on the true cause of overhead costs by linking them to specific activities and then tracing those costs to products based on how much each product uses those activities. This method provides more accurate and realistic product costing, especially in complex and diverse production environments.abc costing

Example:
If a product requires more quality checks, setup time, and special handling, ABC will assign a higher share of costs to it—unlike traditional costing, which might only consider machine hours or labor time.

Main Features of Activity-Based Costing (ABC):

Activity-Based Costing (ABC) is a costing methodology that assigns overhead and indirect costs to specific activities and products based on their actual usage. The main features include:

1. Focus on Activities: ABC identifies the various activities involved in the production process and assigns costs to those activities.
2. Cost Drivers: It uses cost drivers (factors that cause costs) to assign activity costs to products based on their consumption of each activity.
3. More Accurate Product Costing: ABC provides more accurate and detailed insights into product costs by tracing overheads based on actual activity consumption. abc costing
4. Multi-Level Costing: Costs are traced at various levels (unit-level, batch-level, product-level, facility-level), which allows a deeper understanding of cost behavior.
5. Helps in Decision Making: ABC helps identify non-value-added activities and supports better pricing, outsourcing, and product mix decisions.
6. Complex Overhead Allocation: It is suitable for complex and diverse production environments where overheads form a significant part of total costs.

Is ABC a More Refined System than Traditional Methods?

Yes, Activity-Based Costing is generally considered a more refined and accurate system for assigning overhead costs compared to traditional costing methods. Here’s why:

• Traditional costing assigns overheads based on a single cost driver, like direct labor hours or machine hours, which may not reflect the actual consumption of resources by different products. abc Costing
• ABC, on the other hand, recognizes that products consume activities, and activities consume resources. It assigns costs based on actual usage, resulting in more precise cost information.
• It prevents overcosting or undercosting of products, which can occur under traditional methods, especially in multi-product or complex environments. Abc Costing

Conclusion:
ABC costing offers a better, more nuanced approach to overhead allocation, making it particularly valuable for companies with varied products and significant indirect costs. However, it is more complex and resource-intensive to implement, which may not be suitable for all organizations. You can check the syllabus of cost Accounting on the official website of gndu.

Essential questions of Cost Accounting

1. What is the cost per unit? Explain
2. What do you mean by standard Costing? Explain its usefulness and Limitations for manufacturing business.

Abc Costing