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See Also:
Activity Based Costing
Standard Costing System
Cost Driver
Value Chain
Implementing Activity Based Costing
Absorption vs Variable Costing
Activity Based Management
Process Costing
Overhead
Job Costing
Both methods estimate overhead costs related to production and then assign these costs to products based on a cost-driver rate. The differences are in the
accuracy and complexity of the two methods. Traditional costing is more simplistic and less accurate than ABC, and typically assigns overhead costs to products
based on an arbitrary average rate. ABC is more complex and more accurate than traditional costing. This method first assigns indirect costs to activities and then
assigns the costs to products based on the products’ usage of the activities.
2. Estimate indirect costs for the appropriate period (month, quarter, year).
3. Choose a cost-driver with a causal link to the cost (labor hours, machine hours).
4. Estimate an amount for the cost-driver for the appropriate period (labor hours per quarter, etc.).
For example:
Activity based costing systems are more accurate than traditional costing systems. This is because they provide a more precise breakdown of indirect costs.
However, ABC systems are more complex and more costly to implement. The leap from traditional costing to activity based costing is difficult.
Traditional costing systems are simpler and easier to implement than ABC systems. However, traditional costing systems are not as accurate as ABC systems.
Traditional costing systems can also result in significant under-costing and over-costing.
If you want to add more value to your organization, then click here to download the Know Your Economics Worksheet.
Access your Strategic Pricing Model Execution Plan in SCFO Lab. The step-by-step plan to set your prices to maximize profits.
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