Activity Based Costing Essay

bodily process based be (first principle) is a relative pertly way to allot be to specific ope rolles and dos. This strategy assures that the equal be accurately distributed to the crossings or run that generated them. first principle illustrates be much(prenominal) accurately, full-gr knowledge solicitude insight to the cost associated with certain business activities. first principle extends the decision-making skills of escapement by expanding on traditional costing (job align costing/ passage order costing) techniques. However, since ABCs introduction in the 1980s, some(prenominal) corporations be non victimization ABC, despite gained managerial decision making capabilities. still by the mid-1990s, ABCs use has not spread throughout the explanation industry and its use is not obvious (Selto & Jasinski, 1996). The following clause will discuss the pros and cons of the ABC method.ABC is an extension of traditional w ar costing techniques. These techniqu es be called job order costing and process order costing. A job order costing system arranges be for severally unit as it goes through a crosswayion process. A process cost system collects cost in work in forward motion account. The numbers of units worked atomic number 18 care downed for the accounting period.These systems al superstar do not accurately illustrate cost incurred. Instead, these two costing techniques generally compile costs into 3 main categories (cost centers). These three categories argon air materials, lead labor and smasher. Cost drivers argon then charge to represent the human relationship between the cost and the process it is allocated to.ABC provides a better mapping of the costs of manu particularuring w ares or distributing serve. ABC uses a multitude of action at law centers, which are the equivalent to the previously mentioned traditional cost centers. Each of these activity centers has its own cost driver and driver rate. ABC identifi es numerous different costs to wares by adjusting the cost driver and driver rates to specific activity centers. This process avoids across the board allocations of cost. For example, a product, which takes up .03% of space in the warehouse, would require .03% cost absorbed by product gross revenue revenue. If the depreciation unit requires 5% cost to replace equipment at a last mentioned date, 5% is the driver rate for that particular product. Unit, batchand product aim costs erect be hardened with ABC.The following graduations can summarize the ABC process. The first step is to identify the activities that ingest resources and allocate costs to those activities. For example, purchasing materials, record keeping, labor, materials, miles driven, machine hours and number of customers served are activities, which consume resources and reads costs to be assigned to them.The second step is to assure the cost drivers that are link to each activity. For example, if machine hou rs an activity use in the process, then the number of hours used in labor of one unit would be the particular cost driver rate. The last step is to allocate costs to products by multiplying the cost driver rate by the number of cost driver units consumed by the process.There are many inherent strengths in the ABC model. The ABC model allows costs to be allocated to many different activity centers. Few corporations can focus on undifferentiated product lines and be achievementful. Having multiple product lines means the connection has multiple cost drivers associated with each different product line. ABC is facilitative in selecting which products are successful and which ones should be eliminated. Accurate cost study is key in determining the actual costs of frequent product changes. This cost is important be understanding costs can be a nigh(a) indicator of the justification or termination of going product lines. crop lines find become more complex. Product lines of past we re much simpler. For example, the homunculus T interbreeding came in one style and one color, black. Today, Ford cars comport many different colors and styles. These different styles all have different cost drivers and activity centers. ABC illuminates hidden costs when naughty volume sales are not present and product distinction is. This is advantageous because un earnable lines can be replaced with lines that are profitable.Not many years ago, labor comprised 25 to 50 percent of a products cost. However, since the 1960s, labor is increasingly less involved in theproduction process. For example, the textile industry replaced 100-year old shuttle looms for European air-jet looms, doubling product with less labor. In steel, the Nucor corporation used continuous casting machines to gestate labor costs of $60/ton verses traditional steels $130/ton. Labor cost today is infrequently the driving wring behind costs it was during the development period of cost accounting (1930s). In stead, validating costs have replaced labor as the dominant portion of costs for some products (Kelly, 1991). To use labor as the major basis for allocating as job costing or process costing accounting does, whitethorn lead to inaccurate decisions by perplexity.The accounting profession has largely miss ABC. Among reasons cited for low adoption were employee resistance and the organizational changes essential with the use of ABC (Ness & Cucuzza, 1995). Some trace the source of hindered adoption of ABC to technical as well as cultural issues. Others feel that ABC would be more widespread in industry if it were groceryed better by the accounts themselves (Brausch, 1992).There are several reasons for ABC low adoption rate. Complexity is an obstacle to carry throughing ABC. ABC requires detailed records of the costs associated with producing products and improvements as compared to traditional methods. This detailed record keeping requires more crusade from the accountants and i s more time consuming. The complexity of ABC can contribute to more errors. ABC can require more time to check and recheck to uncover errors. ABC generally requires more effort on the part of the accountant verses traditional methods and reduces the adoption rate of ABC.another(prenominal) reason for not using ABC is the increased economies of scale. Many corporations are standardizing their products to reduce the costs to manufacture them. For example, Coca-Cola distributes its products in many different countries. The product varies very little in respect to packaging and manufacturing. Traditional methods of accounting can assign costs more easily, quickly and accurately for those products that have little or no product variation.ABC is a semiprecious irradiation in calculating the costs of producing varying productlines. These differing product lines require more extensive accounting practices than traditional costing methods provide. The training obtained from ABC can encou rage promote product lines that managers feel are profitable between those which should be eliminated. Labor is less frequently the major ingredient in the production process. ABC addresses this concern by examining and illustrating the belt costs associated with particular activity centers. ABC describes these over head costs more accurately and is beneficial when increasingly more complex manufacturing processes are used. Adoption issues should be addressed to implement ABC method when costing decisions matter to managers.BibliographyReferencesBrausch, J.M. Selling ABC New Cost trunks Can distribute if They Are Not Marketed. Management Accounting, February 1992, pp. 42-46.Geishecker, M.L. New Technologies Support ABC. Management Accounting, blemish 1996, pp. 42-48.Kelly, K. A Bean-Counters Best Friend. moving in Week, October 25, 1991, pp. 42-43.Ness, J.A. and T.G. Cucuzza. Tapping the Full Potential of ABC. Harvard Business Review, July/August 1995, pp. 130-131.Selto, F.H. an d D.W. Jasinski. ABC and High Technology A Story with a Moral. Management Accounting, March 1996, pp. 37-40. 17 operation based costing strainExecutive SummaryThis report provides an analysis of activeness ground cost systems and courtly cost systems to check up on whether the application of Activity found cost concepts would be useful at DBS Consulting go.A profitability analysis of the two consulting services offered by DBS Consulting serve (e-Commerce Consulting and cultivation Systems Consulting) was performed using Activity ground cost and Conventional be. victimisation the pompous costing approach, the overheads of $342,000 were allocated at $129,960 (e-Commerce Consulting) and $212,040 ( data Systems Consulting). utilise the Activity base cost approach, the overheads of $342,000 were allocated at $107,160 (e-Commerce Consulting) and $234,840 (Information Systems Consulting).Before implementing an Activity establish be system, management needs to assess the pro blems that the pixilated is facing so that the Activity found be system can be knowing to address those problems. DBS Consulting Services is in a tight local comprehend market and is having difficulty finding quality staff.It was found that E-Commerce Consulting Services provided a higher income per billings percentage than that of Information Systems Consulting Services (19% vs. 3%) under the Activity ground Costing approach. E-Commerce Consulting Services provided the higher return per sales dollar. These results would bring up that the professionals at DBS Consulting Services need to spend more time in e-Commerce.The success of failure of Activity base Costing approach is determined by the reactions of the people who develop and use the system.An Activity base Costing system can be costly and time consuming toimplement and maintain, it requires extensive training, expertise and information. However, the benefits of Activity base Costing systems, being meliorate cost ac curacy and assisting management with decision making, outweigh these costs.IntroductionIt is state that Activity Based Costing can result in amend costing accuracy when compared with Conventional Costing procedures.Arguments to support this claim are that companies who adopt Activity Based Costing are not modified to a wiz cost driver when having to allocate costs to their products and activities. Activity Based Costing allows companies to use non-unit cost drivers as well as unit cost drivers to allocate costs. Also, because use differs significantly amongst activities, no single cost driver can accurately assign costs for all activities whereas Activity Based Costing takes advantage of multiple cost drivers, not just a single cost driver.Arguments against this claim are that service industries often have higher levels of facility costs which mean less costs will be included in the Activity Based Costing system. Service industries also have a lot of non-repetitive activities wh ich apply it difficult to identify an individual activity to assign a cost driver to.Both the conventional costing system and the Activity Based Costing system calculate the cost of a product or service in relation to the revenue it generates. However, the conventional costing system assigns manufacturing overheads based on a volume-based cost driver, and Activity Based Costing systems assign the manufacturing and non-manufacturing overheads based on the activities required to dumbfound the item.Part 3Case analytic thinking Report DBS Consulting Services (cont.)The Conventional Costing SystemConventional costing approaches assume that manufacturing overhead costs are related to the volume of production which is usually measured by input measures such as direct labour hours or direct machine hours.The features of a conventional costing system areDirect material and direct labour costs are traced to products Manufacturing overheads are assigned to products based on a pre-determin ed overhead rate The manufacturing overhead rate is calculated using a volume-based cost driver Non-manufacturing costs are not assigned to productsThe advantages of using a conventional costing system areThey are aligned with generally accepted accounting principles (GAAP) They are simpler than Activity Based Costing systems and easier to implementThe disadvantages of a conventional costing system areThey are not as accurate as Activity Based Costing systemsThey can result in under-costing and over-costing of products They can lead to paltry management decisions as non-manufacturing costs are excludedThe Activity Based Costing SystemActivity Based Costing systems allocate manufacturing and non-manufacturing costs to a product based on the activities required to produce the item. Activity Based Costing systems calculate the cost of individual activities and then assign those costs to cost objects, such as outputs, based on the activities required to produce them.Activity Based Cost ing systems can be used to sum up the cost a product and also as a tool for management to monitor and control what is happening in the business by analysing the activity costs, the root causes of activities, the value of to the customer and measures of performance.The advantages of Activity Based Costing systems areThey provide a more accurate cost of productsManufacturing and non-manufacturing costs are included in the calculation They provide a greater understanding of overhead costsThe disadvantages of Activity Based Costing systems areInformation can be misinterpreted by some usersThey can be costly to implement and maintainThey involve major changes in selective information collection and analysis which can be challenging and also cause resistance amongst employeesCurrent System at DBS Consulting ServicesCurrently at DBS Consulting Services our administration costs (overheads) are allocated to both consulting services (e-Commerce and Information Systems) based on billable hour s. The following analysis presents the profitability of the firms e-Commerce and Information Systems consulting services using Conventional Costing procedures and Activity Based Costing.Part 3Case depth psychology Report DBS Consulting Services (cont.)Conventional Costing ProceduresPart 3Case Analysis Report DBS Consulting Services (cont.)Activity Based Costing ProceduresAnalysisActivity-based costing procedures result in a significant increase in the overhead costs allocated to Information Systems Consulting and a significant decrease in the overhead costs allocated to e-Commerce Consulting.The conventional costing procedures allocate overheads based on billable hours which results in 38% of overhead costs being allocated to e-Commerce Consulting (=1900 billable hours for e-Commerce / 5000 follow billable hours), and 62% to Information Systems Consulting (=3100 billable hours for Information Systems / 5000 total billable hours).However Activity Based Costing shows that the overh ead percentage allocations vary for each activity as summarised below.Part 3Case Analysis Report DBS Consulting Services (cont.)The e-Commerce Consulting services are allocated less overhead costs using Activity Based Costing when compared to the conventional costing approach. Using the conventional costing approach, $342,000 is allocated at $129,960 (e-Commerce Consulting) and $212,040 (Information Systems Consulting). Using the Activity Based Costing approach, $342,000 is allocated at $107,160 (e-Commerce Consulting) and $234,840 (Information Systems Consulting).E-Commerce Consulting Services provides a higher income per billings percentage than that of Information Systems Consulting Services (19% vs. 3%) under the Activity Based Costing approach. This shows that although both services are charged out at the same rate, and the labour rate for both services are the same, e-Commerce Consulting Services provides the higher return per sales dollar.By adopting the Activity Based Costi ng approach we can determine a more accurate method of allocating overhead costs to our services which in turn will provide more accurate profit analysis of each service. This will help to increase customer and shareowner value.SummaryGiven the very tight local labour market and the fact that it is difficult to find quality staff it would not be desirable for an aggressive expansion of either consulting service regardless of the fact that both generate a profit. If we opt to expand either service this would mean having to hire more qualified staff, which as mentioned above, is difficult in todays competitive market.Before implementing an Activity Based Costing system, the following factors need to be consideredManagement needs to show assurance that the benefits of the system will outweigh the costs Management and staff need to understand what Activity Based Costing is and how it can help the firm The requirement of resources to implement Activity Based Costing need to be consider ed Concerns about the resistance to change factors need to be addressedThe success of failure of Activity Based Costing approach is determined by the reactions of the people who develop and use the system. Resistance to change can jampack implementation, therefore in order to succeed, there must be a plan in place that is carefully thought out to take into account the factors above as well as determining the terminus of change required and the different personalities involved.Employees should be encouraged to play a major role in developing and using the Activity Based Costing system to give them a sense of ownership and help them to view the system as a tool to help them manage their work.In conclusion, an Activity Based Costing system can be costly and time consuming to implement and maintain, it requires extensive training, expertise and information. However, the benefits of Activity Based Costing on improved cost accuracy and assisting management with decision making outweigh these costs.Part 3Case Analysis Report DBS Consulting Services (cont.)ReferencesLangfield-Smith, K., Thorne, H., & Hilton, R. (2012). Management accounting Information for creating and managing value (6th edition). north Ryde, NSW, Australia McGraw-Hill.Heisinger, K., & Hoyle, J. (2013.). Managerial Accounting,v.1.0. Retrieved April 10, 2014 from http/catalog.flatworldknowledge.comJohnson, R. (n.d.). Traditional Costing Vs. Activity-Based Costing. Retrieved April 1, 2014 from http/smallbuiness.chron.comWilkinson, J. (July 23, 2013). Activity-based Costing (ABC) vs Traditional Costing. Retrieved April 1, 2014 from http/strategiccfo.comMarx, C. (n.d.). Activity Based Costing (ABC) And Traditional Costing Systems. Retrieved April 4, 2014 from http/financialsupport.weebly.comKeshav. (n.d). Advantages And Disadvantages of Activity-Based Costing (ABC). Retrieved April 1, 2014 from http/accountlearning.blogspot.co.nzDelaware Technical Community College. (n.d.). Retrieved April 1, 2014 fr om https//www.dtcc.edu