C cost hierarchy in activity based costing exercises

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C. Cost Hierarchy in Activity-Based Costing. (Exercises 8-8, 8-13, and 8-15.) Thousands of activities are carried out in most organizations. It would not be practical to track all of them in an activity-based costing system. A great deal of simplification is necessary. Activities and their costs must be combined to reduce complexity and record- keeping requirements. One way to simplify is to group activities into a hierarchy. Activities, and their costs, can be combined within each level of the hierarchy into activity cost pools—hopefully with minimal loss in accuracy. The cost hierarchy used in the text is not the only scheme that could be used, but it is reasonably comprehensive. The levels in the hierarchy are as follows: 1. Unit-level activities. These activities are performed each time a unit is produced. For example, providing power to run processing equipment is likely to be a unit- level activity. 6
MANAGERIAL ACCOUNTING - IIE 211 CLASS 12 2. Batch-level activities. These activities are performed each time a batch is handled or processed, regardless of how many units are in the batch. For example, tasks such as placing purchase orders, setting up equipment, and arranging for shipments to customers are batch-level activities. 3. Product-level activities. These activities relate to specific products and must be carried out regardless of how many batches or units of product are produced or sold. For example, designing a product, advertising a product, and maintaining a product manager and staff are all product-level activities. 4. Customer-level activities. These activities relate to specific customers and include sales calls, catalog mailings, and general technical support not tied to any specific product. 5. Organization-sustaining activities. These activities are carried out regardless of which products are produced, how many batches are run, or how many units are made. This category of activities includes cleaning executive offices, providing a computer network, arranging for loans, preparing annual reports to shareholders, and so on. D. Mechanics of Activity-Based Costing. (Exercises 8-9, 8-10, 8-11, 8-18, 8-20, and 8-16.) Exhibit 8-6 is a useful Exhibit for summarizing the mechanics of activity-based costing. You may want to refer to it frequently as you walk students through the steps of assigning costs using ABC. 1. Overview. Once the activity cost pools and their activity measures have been defined, costs are allocated to the activity cost pools. The costs in the activity cost pools are then divided by their activity measures to determine activity rates. (Activity rates are like the overhead rates of Chapter 3.) The activity rates are then used to assign costs to cost objects such as products and customers. For example, if a customer generates five orders and the activity rate for orders is $15 per order, then the customer would be assigned $75 in order costs. The mechanics are fundamentally no different from the mechanics covered in Chapter 3 for applying

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