Chapter 7

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Activity-Based Costing (ABC)

a costing method based on activities that is designed to provide managers with cost information for strategic and other decisions that potentially affect capacity and therefore fixed as well as variable costs

Product Margin

a function of the product's sales and the direct and indirect costs that product causes

Batch-Level Activity Examples

Number of setups Setup hours Movements of materials Orders for nonstocked items Inspections

Unit-Level Activity Examples

Packing Assembly Depreciation Maintenance

Activity Cost Pool

a "bucket" in which costs are accumulated that relate to a single activity measure in an activity-based costing system

Organization-Sustaining Activities

- activities that are carried out to support customers but that are not related to any specific product

Batch-Level Activities

- activities that are performed each time a batch of goods is handled or processed, regardless of how many units are in the batch - the amount of resource consumed depends on the number of batches run rather than on the number of units in the batch

Unit-Level Activities

- activities that are performed each time a unit is produced

Product-Level Activities

- activities that relate to specific products that must be carried out regardless of how many units are produced and sold or batches run

Determining Appropriate Cost Driver

- have cause and effect relationship - has to be something company can measure - based on practical capacity (builds in down time) - explain activities' use of resources (cost) with reasonable accuracy

ABC vs. Traditional Costing

- traditional allocates costs based on units and ABC allocates costs based on activities - there is a separate cost rate for each activity

Customer Margin Analysis

1. gather sales and direct cost data 2. incorporate previously computed activity-based cost assignments 3. compute customer margin by deducting all its direct and indirect costs from its sales

Product Margin Calculation

1. gether each product's sales and direct cost data 2. incorporate the previously computed ABC assignments pertaining to each product 3. compute product margin by deducting each product's direct and indirect costs from sales

Four Steps of ABC

1. identify activities 2. identify costs associated with each activity (cost pool) 3. compute cost driver rate for each cost pool (allocation base) 4. assign cost to products

Product-Level Activity Examples

Engineering and design changes Warehousing of product line materials Production line dedicated supervisors Purchasing Receiving and shipping

Organization-Sustaining Activity Examples

Property taxes Plant security Landscaping Accounting and legal General administrative salaries


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