Acc550-ch_5 - ACC550 CHAPTER 5 ACTIVITY BASED COSTING...

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ACC550 CHAPTER 5 ACTIVITY BASED COSTING Activity based costing (ABC) overview 1) Seek to gain more meaningful and useful product cost data than that which is provided by traditional cost accounting systems. 2) Focus on the allocation of indirect costs. a) Weak cause-and-effect relationships may exist between indirect cost pools and their allocation bases in a traditional cost accounting system. b) By their nature, direct costs already have a strong cause-and-effect relationship with the products they are assigned to in a traditional cost accounting system. 3) Establish more meaningful cause-and-effect relationships between indirect cost pools and their allocation bases. a) Identify individual activities required to design, produce and distribute products (activities will vary from company to company). b) Identify the cost driver of each activity. This will become the allocation base. c) Identify the costs generated by each activity. This will become the cost pool. d) Allocate activity costs to cost objects (products or customers) based on the cost driver units consumed by each cost object. 4) An ABC system typically supplements the traditional cost accounting system; it does not typically replace the traditional system. Expanded discussion ABC essentially takes indirect cost allocations to a more analytical, detailed level. The mathematics is really no different than we learned in job costing. We are looking for a more meaningful allocation of indirect costs to products by gaining a better understanding of the activities, their costs and their cost drivers. In order to identify the primary activities required to design, produce and distribute products, a company will typically start by listing all of the tasks performed by its various departments. This will typically be a long list of tasks. Those tasks are then analyzed to see which ones are homogeneous, or share similar cost drivers. Homogeneous tasks are then grouped together into primary activities, and cost pools are created for each activity. We now have more meaningful cause-and-effect relationships between cost pools and
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Acc550-ch_5 - ACC550 CHAPTER 5 ACTIVITY BASED COSTING...

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