CH 7 Lecture Notes

CH 7 Lecture Notes - Acct 2200 Chapter 7 Lecture Notes(2011...

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Acct 2200 Chapter 7 Lecture Notes (2011) Activity-Based Costing Learning Objectives: 1. Understand activity-based costing and how it differs from a traditional costing system. 2. Assign costs to cost pools using a first-stage allocation. 3. Compute activity rates for cost pools. 4. Assign costs to a cost object using a second-stage allocation. 5. Use activity-based costing to compute product and customer margins. Part I. Overview 1. Concept Activity-Based Costing (ABC) is a costing method that is designed to provide managers with cost information for strategic and other decisions that potentially affect capacity and therefore “fixed” as well as variable costs. ABC is ordinarily used as a supplement to, rather than as a replacement for, the company’s usual costing system. ABC systems are used to support internal decision making and do not need to conform to GAAP. 2. Differences between traditional costing systems and ABC (1) The definition of overhead costs Under traditional costing systems, manufacturing overhead (MO) costs refer to all manufacturing costs except direct materials and direct labor. Under ABC, overhead (OH) costs refer to indirect manufacturing costs (i.e., the “manufacturing overhead” as is defined under traditional costing systems) and non-manufacturing costs. However, under ABC overhead costs are assigned to products only on a cause-and-effect basis. (2) What manufacturing costs to assign to products In traditional cost accounting systems, all manufacturing costs are assigned to products— even manufacturing costs that are not caused by the products. ABC purposely does not assign two types of manufacturing overhead costs to products: A) Organization-sustaining costs such as factory security guard's wages, the plant controller's salary, and the cost of supplies used by the plant manager's secretary. ABC treats these costs as period expenses rather than product costs. B) Unused, or idle, capacity. 1
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(3) Overhead rate - Under traditional costing systems, MO is applied via a plantwide overhead rate or a departmental overhead rate. - In managerial decision making, using a single overhead rate throughout an entire plant (or department) may distort unit product costs. Under ABC OH is applied via activity rates. Some concepts: An activity is any event that causes the consumption of overhead resources. (For example: painting) An activity measure is an allocation base in an activity-based costing system. (For example: painting area). Cost driver is also used to refer to an activity measure because the activity measure should “drive” the cost being allocated. (For example: painting area). An activity cost pool A “bucket” in which costs are accumulated that relate to a single activity measure in an activity-based costing system. (also called cost pool) is a “bucket” in which costs are accumulated that relate to a single activity measure in the ABC system. (For example: costs relating to painting area). Traditional cost systems usually rely on volume measures such as direct labor hours and/or
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CH 7 Lecture Notes - Acct 2200 Chapter 7 Lecture Notes(2011...

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