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Cost Accounting - ssegues
TOPIC 5: ACTIVITY-BASED COSTING
Changes in the business context and their Impact on the accounting system Costing methods: Activity-Based Costing (ABC) Model Implementing ABC system Comparing alternative costing systems CHANGES IN THE BUSINESS CONTEXT - IMPACT ON THE ACCOUNTING SYSTEM • • • Advances in technology, increasing competition, need for cost reduction ! Need the cost of every activity! Traditional costing systems need to be refined. ABC focuses on the cause-and-effect criterion for choosing allocation bases (cost drivers). o Other costing methods did no follow this cause-and-effect rule (cost driver: “kg paint” when allocating the Painting dept. costs) o ABC philosophy establishes that the activity is the cause of the cost (cost driver: “# of computers” when allocating IT dept. costs) ABC philosophy: ABC philosophy – alternative view: ABC philosophy: (Activity-Based Management and the Value Chain) - ABM is an organizational management method that rests on the following premise: “Products consume activities and activities consume resources” The strategy has to fit accounting and accounting has to fit the strategy of the firm Cost Accounting - ssegues - Starting point of ABM: activity analysis o List all activities used to complete the product or service o Classify activities as value-added activities and non-value-added o Eliminate non-value-added activities o Continuous improvement and reevaluation of value-added activities COSTING METHOD: ACTIVITY-BASED COSTING (Based on departments/Cost centers) - Direct costs and indirect costs are assigned to the cost object ABC focuses on indirect costs. Identify activities that help explain WHY indirect costs are incurred Costing Method – ABC: (Based on Cost Pools – Example) ABC – TERMINOLOGY Cost Accounting - ssegues - - - - Activity: an event, task or unit of work with a specific goal. An activity generates an output Task: a necessary step to perform an activity Activity – Task – Example: o Activity: " Hiring Employees o Tasks: " Place announcements in newspapers " Study applications " Invite selected candidates " Interview the candidates " Correct tests, " Etc. Main Activity: activities that are directly related to the products, services or customers o Examples: " Launching of the production (Prod. Dept.) " Invoicing (Administration Dept.) " Visiting customers (Marketing Dept.) Support Activity: activities that help perform the main activities o Example: " Maintenance of the equipment (Prod. Dept.) " Management of the payrolls (HR Dept.) " Accounting (Administration Dept.) Cost Driver (Indirect Allocation Base): the cause or the reason of a cost (“cause-andeffect relationship”) o Examples: COST DIRVERS FOR TYPICAL ACTIVITIES IN A MANUFACTURING ORGANIZATION Cost Accounting - ssegues IMPLEMENTING ACTIVITY-BASED COSTING Cost Accounting - ssegues (if the company is divided into departments) - Divide the company into departments Assign indirect costs to departments Identify the major activities performed by the departments and the costs of each activity Determine the cost dirver of each major activity and estimate the quantity of each of these cost dirvers Compute the cost rate per unit for each activity Calculate the unit costs of the cost object: Direct costs + Costs of activities required by the cost object How many activities should be selected? - - Focus on the major activities (don’t over complicate it!) Don’t forget the objectives of ABC; o More accurate product/Service costs (not just direct or indirect) " Focus on activities (cause-and-effect relationship) o Better information for cost control Once implemented, system should be improved and carved at any time ABC: Manufacturing organization – Example: Cost Accounting - ssegues Cost Accounting - ssegues Cost Accounting - ssegues COMPARING ALTERNATIVE COSTING SYSTEMS – COST OBJECT: CUSTOMER Activity-based costing and department – Costing System – A comparison: - - ABC SYSTEMS = Further refinement od department-costing systems o Focus on individual activities o Identify homogeneous activity cost-pools (before we only had dept.!) o Cost-allocation bases have a cause-and-effect relationship with costs of the activity (Cost driver) ABC - constraints / disadvantages o Implementation is time and cost intensive o Requires detailed knowledge of the organization and its activities o (Too) complex if not reduced to major activities ABC Systems – Possible Benefits: - There are cost management systems (Activity-Based management, ABM) that uses information from ABC to manage organizations o More accurate product costs o Management decisions: " Pricing and product-mix decisions " Cost reduction and process improvement decisions • Analysis of factors that cause costs " Design decisions " Planning and managing decisions • Budgeting Activity-Based Budgeting (ABB) ! TOPIC 6 • Feedbacks from budgeted and actual cost on how well activities are managed. ...