ACTIVITY BASED COSTING

SYSTEM
 History
After reviewing its simple costing system and the potential
miscosting of product costs, plastim decides to implement
an ABC system. Direct Costs can be traced to products
easily, so the ABC system focuses on refining the assign
ment of indirect costs to departments, processes, Products,
or other cost objects.
 Activity-Based Costing

Definition:-
•ABC attempts to divides production into its core activities ,
defines the cost for those activities and then allocate those cost
to products based on how much of a particular activity is
needed to produce a product.
•It is a type of costing system that can be used to assign costs
more accurately to products and departments in today's
complex business world.
• It is a method of allocating costs to products and services.
•It is generally used as a tool for planning and control.
•It was developed as an approach to address problems
associated with traditional cost management systems.
 When Is Activity-Based Costing Appropriate?

Activity-based costing can theoretically be used in almost any

industry, because it can be adapted to determine costs at so many
different levels. However, ABC is used most effectively in
complex companies that are not entirely service-based. Complex
companies may see the most benefit from this type of costing
because it is most helpful when the costing information is difficult
to understand or evaluate.
 IMPORTANCE OF ABC
SYSTEM
•May provide more accurate data that may serve to justify the
investment or to identify the need to withdraw or modify services.

• Provides data that can assist in decision related to transferring of

resources across services.

• Serves to highlight efficiencies and inefficiencies.

.
•Provides opportunities for benchmarking.

•May assist with information to assist in outsourcing decisions.

 Relationship of services to resources in an ABC system:

Resources =>resource drivers =>activities =>activity

drivers =>cost objects
Examples of Resources are people and machines.

The resource driver is the measure of the frequency and intensity of the demands placed on
resources by activity.

Activities are the processes performed by people and machines.

Activity drivers measure the frequency and intensity of the demands placed on activities by
cost objects enabling costs to be assigned to cost objects.

Cost objects are the products, services produced.

Cost drivers are the factors that affect the cost of an activity, e.g. poor quality
•PRODUCT COST

•PERIOD COST
 PRODUCT COST

product costs include all the costs that are involved in acquiring or

making product. In the case of manufactured goods, these costs
consist of direct materials, direct labor and manufacturing overhead.
It is also called Inventoriable costs.

Direct Materials:
Materials that can be physically and conveniently traced to a
product, such as wood in a table.
Direct Labor:
Labor costs that can be physically and conveniently traced to a
product such as assembly line workers in a plant.
Manufacturing Overhead:
All costs of manufacturing a product other than direct
materials and direct labor, such as indirect materials, indirect
labor, and depreciation of factory equipment.
 PERIOD COST

Period costs are all the costs that are not included in product
costs. These costs are expensed on the income statement in the
period in which they are incurred. Period costs are not included as
part of the cost of either purchased or manufactured goods..
Marketing or selling costs:
All costs necessary to secure customer orders and get the finished
product or service into the hands of the customer, such as sales
commission, advertising, and depreciation of delivery equipment
and finished goods warehouse.
Administrative Costs:
All costs associated with the general management of the company
as a whole, such as executive compensation, executive travel
costs, secretarial salaries, and depreciation of office building and
equipment.