Activity-Based Costing and Activity-Based Management ABC uses a four-level cost structure to determine how costs
will react :
Reasons for refining a costing system Unit-level
Increase in product diversity o costs related to each individual unit of product
Increase in indirect costs Batch-level
Competition in product markets o costs related to a group of products rather than to
individual unit
Guideline for refining Product-sustaining-level
1. Direct-cost tracing (minimizing the amount of costs classified o costs undertaken to support individual products
as indirect) regardless of
2. Indirect-cost pools (expand the number of indirect-cost o the units or batches produced
pools; all costs in a homogeneous cost pool have the same Facility-sustaining-level
or similar case-effect relationship with a single cost driver that o cannot be traced to individual products but support
is used as allocation base) the
o organization as a whole
ABC refines costing system by identifying individual activities as the
fundamental costs objects. An activity is an event, task, or unit of Activity-Based Costing Management
work with a specified purpose. used in critical decision-making situations, including:
The basis of the ABC: o Pricing & product-mix decisions
o Direct-cost tracing o Cost reduction & process improvement decisions
o Indirect-cost pools o Design decisions
o Cost-allocation bases o Planning & managing activities
7 steps using ABC: Broad averaging (or “peanut-butter costing”) describes a costing
1. Identify the products that are the chosen cost objects approach that uses broad averages for assigning (or spreading, as
2. Identify the direct costs of the product in spreading peanut butter) the cost of resources uniformly to cost
3. Select the cost-allocation cases to use the allocating indirect objects when the individual products or services, in fact, use those
(or overhead) costs to the products resources in non-uniform ways.
4. Identify the indirect costs associated with each cost
allocation base Benefits:
5. Compute the rate per unit of each cost-allocation base Significant amounts of indirect costs are allocated using only
𝑏𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝑡𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡𝑠 𝑖𝑛 𝑖𝑛𝑑𝑖𝑟𝑒𝑐𝑡 − 𝑐𝑜𝑠𝑡 𝑝𝑜𝑜𝑙 one or two cost pools
𝑏𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝑡𝑜𝑡𝑎𝑙 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑜𝑓 𝑐𝑜𝑠𝑡 − 𝑎𝑙𝑙𝑜𝑐𝑎𝑡𝑖𝑜𝑛 𝑏𝑎𝑠𝑒 All or most indirect costs are identified as output unit-level
6. Compute the indirect costs allocated to the products costs (few indirect costs are described as batch-level costs,
7. Compute the total cost of the products by adding all direct product-sustaining costs, or facility-sustaining costs)
and indirect costs assigned to the products Product make diverse demands on resources because of
differences in volume, process steps, batch size, or
Cost Hierarchies complexity
will react :
Reasons for refining a costing system Unit-level
Increase in product diversity o costs related to each individual unit of product
Increase in indirect costs Batch-level
Competition in product markets o costs related to a group of products rather than to
individual unit
Guideline for refining Product-sustaining-level
1. Direct-cost tracing (minimizing the amount of costs classified o costs undertaken to support individual products
as indirect) regardless of
2. Indirect-cost pools (expand the number of indirect-cost o the units or batches produced
pools; all costs in a homogeneous cost pool have the same Facility-sustaining-level
or similar case-effect relationship with a single cost driver that o cannot be traced to individual products but support
is used as allocation base) the
o organization as a whole
ABC refines costing system by identifying individual activities as the
fundamental costs objects. An activity is an event, task, or unit of Activity-Based Costing Management
work with a specified purpose. used in critical decision-making situations, including:
The basis of the ABC: o Pricing & product-mix decisions
o Direct-cost tracing o Cost reduction & process improvement decisions
o Indirect-cost pools o Design decisions
o Cost-allocation bases o Planning & managing activities
7 steps using ABC: Broad averaging (or “peanut-butter costing”) describes a costing
1. Identify the products that are the chosen cost objects approach that uses broad averages for assigning (or spreading, as
2. Identify the direct costs of the product in spreading peanut butter) the cost of resources uniformly to cost
3. Select the cost-allocation cases to use the allocating indirect objects when the individual products or services, in fact, use those
(or overhead) costs to the products resources in non-uniform ways.
4. Identify the indirect costs associated with each cost
allocation base Benefits:
5. Compute the rate per unit of each cost-allocation base Significant amounts of indirect costs are allocated using only
𝑏𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝑡𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡𝑠 𝑖𝑛 𝑖𝑛𝑑𝑖𝑟𝑒𝑐𝑡 − 𝑐𝑜𝑠𝑡 𝑝𝑜𝑜𝑙 one or two cost pools
𝑏𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝑡𝑜𝑡𝑎𝑙 𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑜𝑓 𝑐𝑜𝑠𝑡 − 𝑎𝑙𝑙𝑜𝑐𝑎𝑡𝑖𝑜𝑛 𝑏𝑎𝑠𝑒 All or most indirect costs are identified as output unit-level
6. Compute the indirect costs allocated to the products costs (few indirect costs are described as batch-level costs,
7. Compute the total cost of the products by adding all direct product-sustaining costs, or facility-sustaining costs)
and indirect costs assigned to the products Product make diverse demands on resources because of
differences in volume, process steps, batch size, or
Cost Hierarchies complexity
