ACTIVITY BASED COSTING

byshashank shekhar

Basics of ABC

• Cost of a product is the sum of the costs of all activities required to manufacture and deliver the product.

• Products do not consume costs directly.

• Money is spent on activities

• Activities are consumed by product/services

Conventional Costing

Expenses

Cost Objects

AB Costing

Resources

Activities

Cost Objects

Economic Element

Work Performed

Product or service

Continued..

• ABC assigns Costs to Products by tracing expenses to “activities”. Each Product is charged based on the extent to which it used an activity

• It recognizes that many organizational resources are required not for physical production of units of product but to provide a broad array of support activities.

What’s what of abc ?• The activity is the work that is done.• The resource is what the activity uses to do the work.• The cost of the activity depends on the quantity of

resources used to accomplish the activity.• The cost driver for an activity is the factor that influences

the amount of the resources that will be consumed by this activity.

• The activity driver measures how much of the activity is used by the cost object.

• The cost object is whatever it is you wish to cost. It could be a product, service, process, job or customer.

Step 1: Identify Resources

Step 3: Identify Cost Objects

Step 4: Determine Resource Drivers

Step 5: Determine Cost Drivers

Step 2: Identify Activities

STEPSINVOLVE

D IN

ABC

• Step 1: Identify Resources– Resources represent the expenditures of an organization. Examples

include production labor, sales and marketing labor, occupancy and utilities, equipment, and supplies. ABC links these costs to products, customers, or services.

• Step 2: Identify Activities– Activities represent the work performed in an organization. By

determining the actual activities that occur in various departments, such as accounting, customer service, and sales, it is then possible to more accurately relate these costs to customers, products, and services.

• Step 3: Identify Cost Objects– ABC provides profitability by one or more cost object, usually

represented by products, customers, and/or services.– Cost Object profitability is utilized to identify money losing

customers, to validate separate divisions or business units, or to measure the performance of individual projects, jobs, or contracts. 

• Step 4: Determine Resource Drivers– Resource Drivers provide the link between the expenditures of an

organization and the Activities performed within the organization.– For example, the total salary of a customer service representative

would likely be allocated to the Activities performed based on the amount of time spent performing the Activity.

• Step 5: Determine Cost Drivers– Determination of Cost Drivers completes the last stage of the

model. Cost Drivers trace, or link, the cost of performing

certain Activities to Cost Objects.– One part of the Ace Trucking's business operation involves making

deliveries by truck. The activity is delivering goods. The costs of this activity include the truck drivers’ wages, fuel, depreciation of the truck, insurance, etc. The quantity of the resources that will be consumed by this activity are influenced by the number of deliveries made per year. Hence the cost driver could be the number of deliveries. 

Summarizing an ABC Model

IdentifyResources

IdentifyActivities

IdentifyCost Objects

DefineResource

Drivers

DefineActivityDrivers

EnterResource

Costs

EnterResourceDriver Qty.

EnterActivity

Driver Qty.

CalculateCosts