Activity-Based

Costing

SYNDICATE 4 YP64B
Muhammad Hasan Albana (29120477)
Annissa Meilani Salsabila (29120484)
Arif Indrapratama (29120530)
Christine Refina Malinda (29120579)
 Traditional Cost Accounting
(TCA)
Method of cost accounting refers to the allocation of
manufacturing overhead costs (indirect cost) to the products
manufactured.

Best used of TCA :

When the overhead of Used for external Used for

a company is low reports, because it is manufacturers that
compared to the direct simpler and easier for only make a few
costs of production. outsiders to different products
understand. manufactured.
 Pros and
Cons
❏
Pros
➢ Accurate cost figures when the production volume is large and changes in overhead
costs
not do a substantial difference when calculating the costs of
create
➢ production.
Inexpensive to
implement.

❏
Cons
➢ It does not give managers an accurate picture of product costs because the application
of
overhead burden rates is arbitrary and applied equally to the cost of all
➢ products.
Overhead costs are not allocated to the products that actually consume the
overhead
activitie
s.
 Activity-Based Costing
(ABC)
An accurately alternative costing method to TCA.
The objective of ABC is to align actual consumption with specific
product/services cost by splitting overhead into activity cost
drivers.

Fundamental Cost Assignment to Other

Objects Cost Objects

Activities Cost of Activities Cost of

● Products
● Services
● Customer
 Benefits and
Challenges
Benefits:
❏ Management can distinguish
profitable from unprofitable products
❏ Cost controls can be established
to eliminate unnecessary costs
❏ Products can be better priced
Challenges:
❏ More complex
❏ Took more times when
being implemented
❏ The cost needed to identify overhead
cost drivers must not be greater than
the cost savings earned from the
accurate budgeting
 Implementation Steps

1 Identifying
direct product 2 Identifying
cost activities 3 Selecting
cost- 4 Identifying
direct costs per
costs allocation CAB
basis (CAB)

5 Computing
overhead rate 6 Calculating
overhead costs 7 Adding direct
& indirect
per cost based upon expenses to
activity each product’s yield total
use of the product costs
various cost
activities
TCA VS ABC
 Case Study
The Rubrics Corporation

Products

Widgets Gadgets Smidgets Smadgets

Case Study
 Questions
1. Using the traditional costing method, compute the overhead costs per product.
2. Using the traditional costing method, compute the total costs per product.
3. Under ABC:
a.Calculate the activity-based overhead rates per activity cost driver.
b.For each product, compute the overhead costs per activity cost driver.
c.Using the overhead costs from b., calculate the total costs per product.
4. Assuming ABC allocated overhead more accurately, which products were incorrectly priced
using the traditional costing method? What difficulties might result from incorrectly
budgeted products? Hint: Think about how capital resources should be allocated to the
most efficient opportunities.
5. What actions might be explored to deal with the mispriced products?
6. Compare assigned costs per product under both methods. Why had activity-based costing
changed the total costs assigned to each product?
7. What were two circumstances where traditional and ABC costing would likely yield similar
or equal overhead costs?
 1. Compute the overhead costs per product using
2.
TCACompute the total costs per
product.
Manufacturing Product
Cost
Widget Gadget Smidget Smadget

Direct Labor $100.000 $300.000 $400.000 $200.000

Direct Material $100.000 $200.000 $150.000 $250.000

Overhead $200.000 $600.000 $800.000 $400.000

2. Total Cost $400.000 $1.100.000 $1.350.000 $850.000

1. Overhead : 200% Direct Labor

 3. Under ABC:
a. Calculate the activity-based overhead rates per activity cost driver
b. Compute the overhead costs per activity cost driver
c. Calculate the total costs per product using the overhead cost from
b

A. Calculate the activity-based overhead rates per activity cost

driver.
Overhead Cost Total Costs Quantity of
Activity-Based Overhead CAB
Rates Activity-based
Driver Overhead Rates

Depreciation $300.000 3000 machine hours $100

Set-up $700.000 1000 set-up hours $700

Rent $1.000.000 100.000 square feet $100

 B. Compute the overhead costs per activity cost
driver
Activity-Based Overhead Rates

Overhead Cost Total Costs Quantity of CAB Activity-based

Driver Overhead Rates

Depreciation $300.000 3000 $100

Set-up $700.000 1000 $700

Rent $1.000.000 100,000 $100

 B. Compute the overhead costs per activity cost
driver
To determine the total overhead costs per product, we multiply the activity-based overhead rates by each
product’s expected use of the overhead cost drivers (for example., Widgets: 500 machine hours * $100 =$
50.000)
Products

Overhead Cost Widgets Gadgets Smidgets Smadgets

Driver

Depreciation $50.000 $900.000 $40.000 $120.000

Set-up $140.000 $210.000 $70.000 $280.000

Rent $200.000 $300.000 $100.000 $400.000

Total Overhead $390.000 $600.000 $210.000 $800.000

Costs
 C. Calculate the total costs per product using the overhead
cost from B

Manufacturing Products
Costs
Widgets Gadgets Smidgets Smadgets

Direct Labor $100.000 $300.000 $400.000 $200.000

Direct Material $100.000 $200.000 $150.000 $250.000

Overhead Costs $390.000 $600.000 $210.000 $800.000

Total Costs $590.000 $1.100.000 $760.000 $1.250.000

 4. Assuming ABC Allocated overhead more accurately, which products were
incorrectly priced using the traditional costing method? What difficulties
might result from incorrectly budgeted products?

Three of the four products were mispriced using TCA. Widgets and Smadgets were underpriced by
$190,000 and $400,000, respectively. Smidgets were overpriced by $590,000. Only Gadgets was
priced correctly (TCA = $1,100,000 versus ABC = $1,100,000).

Traditional costing also assigns overhead costs without taking into account the varying overhead
demands between departments.

Budgeting inaccuracy also reduces production capacity. Departments without proper funding might
not have adequate funding to manufacture enough products to meet customer demands.

More accurate budgeting will allow management to use resources more

efficiently. Under budgeting products can prevent the firm from meeting

customer demand.
 Manufacturing Product
Cost
Widget Gadget Smidget Smadget Total
T
Direct Labor $100.000 $300.000 $400.000 $200.000 $1.000.000

Direct Material $100.000 $200.000 $150.000 $250.000 $700.000

C Overhead $200.000 $600.000 $800.000 $400.000 $2.000.000

A
Total Cost $400.000 $1.100.000 $1.350.000 $850.000 $3.700.000

VS
. Manufacturing
Cost
Product

Widget Gadget Smidget Smadget Total

A
Direct Labor $100.000 $300.000 $400.000 $200.000 $1.000.000

Direct Material $100.000 $200.000 $150.000 $250.000 $700.000

B
Overhead $390.000 $600.000 $210.000 $800.000 $2.000.000

C
Total Cost $590.000 $1.100.000 $760.000 $1.250.000 $3.700.000
 5. What actions might be explored to deal with the
mispriced products?

The most logical approach is for the CFO to propose adopting the ABC
model.

ABC would also more accurately assign budgets to the individual

production lines and allow management to assess efficiency and
investigate cost reducing alternatives.
 6. Compare assigned costs per product under both
methods. Why had acvitity-based costing changed the
total costs assigned to each product?

The traditional costing method fails to consider varying overhead requirements

between products. Traditional costing uses one overhead rate based on historical
overhead expenses for the entire manufacturing process.

Activity-based costing assigns overhead rates based on specific overhead cost

pools. The method then assigns the rates to the unit requirements of these cost
pools per product. The result is overhead expenses that reflect the differing
overhead requirements for the individual product. The end result is total expenses
that more accurately represent differences in per unit overhead expenses.
 7. What were two circumstances where traditional and ABC
costing would likely yield similar or equal overhead costs?

Activity-based costing was developed to help management more accurately budget

separate manufacturing lines. The system has become increasingly popular as
manufacturing processes grow increasingly sophisticated. However, ABC is more
expensive to implement, requiring management to research the individual overhead
requirements per product.

Before pursuing ABC costing, management should assess whether traditional costing
makes more sense. Traditional costing is equally effective under many circumstances,
two possible circumstances are, but are not limited to:

1. Manufacturing companies with extremely low overhead costs.

2. Companies where direct labor costs have proven an effective cost driver of
overhead expenses.
Thank
You