Problems with Implementation

One of the biggest problems with an activity-based costing system is the

implementation. This is not a system that you can easily put into place.

It takes a large amount of resources and a big commitment from your staff.

You have to continually take measurements of productivity and output throughout

the process of manufacturing.

Most companies do not have the time or resources necessary to implement a

solid activity-based costing system that will actually work.

Changing Habits

Another problem with using the activity-based costing method is that it can be
difficult to change the habits of your management staff and employees. The
numbers that are produced by this method are substantially different than other
costing systems. When your managers are used to utilizing the other numbers,
they may not want to switch over to the new system. When you do switch over,
they may be unfamiliar with how to use the new information effectively.

Not Suitable For Formal Reporting

Using activity-based costing is a process often most useful for internal audits and
decision making. While it can be useful for this process, it is typically not suitable
for formal reporting. It does not provide the type of information that you need to
create public financial statements.

This means that it will be done in addition to another more formal method of
costing. This requires more work on the part of the company and only provides
you with internal information. MEANING FOR FR one set of info AND another for
MA purposes..extra workdo your managers want this?????

Requires Absorption Costing

To make an activity-based costing method work, you must use an absorption

costing method when it comes to allocating cost to products. With absorption
costing, you have to include all of the variable and fixed costs into the unit cost of
each product. If you would prefer to separate out the variable costs and the fixed
costs, this approach will not be of value to your company. Some companies
prefer not to use the absorption costing method.

Advantages & Disadvantages of Activity-Based

Costing

Activity-based costing identifies a company's most profitable products.

Activity-based costing is a managerial accounting system that analyses the products of a company into
activities needed to produce it and assigns costs to those activities.
Traditional costing assigns costs based on machine or labour hours. Activity-based costing has
increased in popularity as manufacturing costs have increased within companies. Activity-based
costing offers advantages and disadvantages.
The size, products, services and budget of a company determines whether activity-based costing is the
appropriate costing system to implement.

Attributing Costs More Accurately

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Activity-based costing breaks products down into activities and assigns all
costs associated with completing the activities. This leads to a more accurate
estimation of how much a particular product cost.

It shows the direct relationship among activities, cost and products.

Activity-based costing assigns to activities both manufacturing and nonmanufacturing costs. It also eliminates the process of attaching some unrelated
manufacturing cost to products. Overhead costs associated with activities are
shown more accurately as well.

Budgeting
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Activity-based costing allows management to effectively create budgets by

clearly showing the relationship between costs and service production for
different service levels.

Activity-based costing clearly shows a company's overhead costs, and

management can budget for such costs accordingly.

Budgeting based on activity-based costing can replace traditional

budgeting that is based solely on a company's expenses. Budgeting is an
important aspect within an organization because the allocation of resources is
based on the budget.

Expensive to Implement
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Implementing an activity-based costing system is more expensive than

implementing a traditional costing system. Not only is the implementation
expensive, but the costs to maintain the system are high as well. Companies
must train employees to use the activity-based costing system. These are major
disadvantages for many small firms that do not have a lot of services, products or
resources. Even some large companies have abandoned the model because of
the high costs associated with activity-based costing.

Conforming to GAAP
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Activity-based costing does not conform to generally accepted accounting

principles (GAAP)or standards , meaning companies need to implement another
costing system in addition to the activity-based costing system. GAAP requires
that a company's external reports include all manufacturing costs. Activity-based
costing does not include all manufacturing costs and includes other costs, such
as product costs. It is possible for companies to make adjustments to their
activity-based costing information to comply with GAAP, but it takes additional
work. Some companies do not believe the additional work required is cost
effective, and, therefore, use another costing system.