Activity Based Costing

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Activity Based Costing

ABC Costing

more precise

several buckets for allocating overhead

denominators drive costs

pairs the OH costs with "like" OH costs (pools)

allocates the pools based on what really drives the cost in these pools

produces better manufacturing cost information which leads to better cost controls and more appropriate pricing

Downside of ABC Costing

more time intensive and costly

still subject to manager discretion on what activities and allocation bases to use

How we allocate overhead really matters when:

overhead is relatively large

we make multiple products

the products use different amounts of resource

Example

Cost Drivers Crayons Markers Total

Color Matching 10,000 5,000 15,000

Machine Setups 2,000 8,000 10,000

Shipments 250 100 350

Step One:

determine the rate per activity

Activity Pool Costs

Color Setup: $100,000 / 15,000 = $667 per match

Machine Setup: $350,000 / 10,000 = $35 per setup

Shipping Setup: $50,000 / 350 = $142.86 per shipment

Total: $500,000

Step Two:

allocate the rates based on usage of activity

Crayons Markers

Direct Materials 348,000 700,000

Direct Labor 200,000 800,000

Color OH 66,700 33,300

Machine OH 70,000 280,000

Shipping OH 35,715 14,286

Total Cost $720,415 $1,327,586

Units 1,000,000 1,000,000

Per Unit Cost $.72 $1.83