The effectiveness of each costing system Traditional Costing This form of costing is important in various ways. It has shown its expediency in successfully managing the accounting operations of the organizations. The main advantage of the traditional costing is that it can maintain the alignment with the common accounting principles.
Due to many criticisms towards traditional costing system, the development of Activity Based Costing has been brought up.
Development of Activity Based Costing and its Evolution 2. The reason it is called the full cost method is because absorption costing assigns all manufacturing cost to the cost of the product Garrison, The main use of absorption costing method is to report financial information to the shareholders and other external stakeholders.
It has proved to be an important tool for managers to make decisions. During that time, managers believed that a direct correlation exists between direct labour hours and manufacturing overheads but the problem arises when the nature of costs were changing and manufacturing overheads costs and direct labour costs were becoming more and more adversely correlated over time Garrison, InKaplan and Johnson wrote a book about the problems in the management accounting practice during that time.
In that book, they argued that the outdated management accounting systems was still somehow the same since They argued that the information systems were geared towards financial reporting, as was the decision making process which causes a general drift from cost management to cost accounting.
This book represents the beginnings of Activity Based Costing methodology.
Implementation of Activity Based Costing Activity Based Costing was introduced as the answer for an improved full-cost product-cost calculation as the model grew into a more full-fledged costing system for hierarchies of activities and cost objects.
It is also a tool for cost and performance measurement towards activities, resources and cost objects for example products and services.
There are three guidelines to support cost allocation in Activity Based Costing.
Trace the cost of flexible resources towards individual products that are exclusively related. These are cost of direct material and direct labour. There are also some capacity-related costs that will need to be included in the exclusively used for one product.
There are three indirect costs that need to be allocated. It occurs when resources are consumed by multiple products. These are the overheads that need to be allocated into the products. The principal of allocation of this indirect cost is to separate activity cost if the cost or productivity of resources is different and if the pattern of demand is different across resources.
Every one of the activity cost has a cause and effect relationship with the cost driver. Cost drivers should relate to way in which activity costs are consumed. For example, setup cost is assigned to a product consuming a setup activity-based on setup time if setup time drives the costs Park and Simpson, Activity based costing and problems it could solve.
and do not necessarily reflect the views of UK Essays. Activity based costing is a management accounting technique that deals with assigning of the overhead costs in a more logical manner as compared to the traditional approach that deals with only allocating the costs based on the machine hours.
Introduction. The intent of this study is to discourse the advantages and disadvantages of Traditional soaking up and Activity based costing. In add-on, analysis will be carried as to why a company needs either the Traditional based costing or the Activity based costing.
The Traditional Costing System. It is a recognized fact that singular volume-based cost driver is used in the traditional costing systems. Because of this there occurs distortion of cost of products in the traditional product costing framework.
Traditional cost allocations are often based on volume such as number of products manufactured, number of direct labor hours, number of production machine hours, number of square feet, etc. Unfortunately, it is becoming more frequent that the common costs or indirect costs that require allocation are not caused by volume.
Traditional costing assigns expenses to products based on an average overhead rate. It is simpler and less expensive than the alternative method of activity-based costing.
But it also is less accurate and used less frequently because it . (i) Find out cost per unit of Regular and Cordless applying traditional costing system followed by the company.
(ii) In case the company wants to charge cost of production departments to the products on the basis of Labour Hours, find out cost per unit of Regular and Cordless.