Activity Based Costing

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Activity Based Costing

Activity Based Costing


The main purpose of Activity based costing (ABC) is to assign the constructing overhead cost of goods in more ordered form than the customary sets allocated on cost based on appliance hours. Activity-based costing first assigns charges to undertakings that are the genuine origin of the overload. It then assigns the worth of these undertakings to goods that need action.

ABC Costing Activities is of expanding significance in latest decades because (1) the overall costs of production have expanded substantially, (2) manufacturing overhead costs are not correlated with the output appliance hours or work hours direct work, (3) the kind of goods and the diversity of clientele claims have developed, and (4), some goods are constructed in large amounts, while other ones are made in insignificant quantities.

Management cost procedure of accounting for all charges and costs affiliated with the output of a product. Absorption costing values the total direct charges and overheads affiliated with the output of the merchandise as the groundwork price. Generally Accepted Accounting Principles (GAAP) needs the absorption of the cost of external reporting. Absorption costing is furthermore renowned as "the entire absorption of the costs."


Activity Based Costing (ABC) is an administration accounting scheme works out the cost of procedure without distortion and presents managers with applicable and timely information. They manage not easily comprise a new set of directions for assigning overhead charges or procedures of inventory value. ABC is a gaze at functioning charges and presents procedures to recognise dominant undertakings that origin charges to exist.

Activity-Based Costing Theory

Cooper developed the first ABC theory concerning the cost/activity hierarchy (Gosselin, 2007, p. 105). A taxonomy (activity hierarchy) for the activity cost drivers was developed in which activities are classified as (from lowest to highest) unit-level, batch level, product-level, or facility-sustaining-level based on the cause and effect relationships between the organizational expense and the level of the organization. Homburg (2001) states this cost/activity hierarchy provides four advantages. First, all organizational expenses can be mapped to a particular organizational level where cause and effect relationships can be established. Second, the cost/activity hierarchy has provided “a much richer set of drivers of cost variability” (Homburg, 2001, p. 197). Thirdly, it helps the organisations in understanding the activites held, and the cost incurred on these activities. Fourthly, it helps in increasing the profitability by proper monitoring of of performance.

ABC systems measure the costs of using resources, not the cost of supplying resources that financial systems measure. The cost of unused capacity is the difference between the cost of resources used and the cost of resources supplied. Once the cost of resources used is found using the ABC system, the cost of unused capacity can be determined. Thus, ABC systems do not directly measure the cost of unused capacity. Additionally, for ABC to provide relevant data, Homburg (2001) found that the cost system must be well-specified in which the underlying cost function must satisfy three necessary and sufficient ...
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