Chapter 7 Activity Based Costing

What is benchmarking?

Another way to leverage the information in activity rates, a systematic approach to identifiying the activities with the greatest room for imporvement

How does Activity based costing treat direct nonmanufacturing costs?

As product costs rather than period costs

What is another term for activity measure?

Cost Driver because it drives the cost being allocated

What are the basic steps for implementing activity based costing?

Define activities, activity cost pools and activity measures assign overhead costs to activity cost pools calculate activity rates assign overhead costs to cost objects using the activity rates and activity measure prepare management reports

What are Duration Drivers?

Duration Drivers measure the amount of time required to perfrom an activity such as the time spent preparing individual bills for customers

Define what step 1 is for implementing activity based costing I Defining the activities, activity cost pools and activity measures

Interviewing the major contributors in the overhead departments and determining what their major time consuming activities are which can be a long and complex list of activities The best approach is to treat these as batch level activities, or product level activities

Describe the fourth step of implementing the ABC system

The 4th step is second stage allocation

What is a first stage allocation in an ABC system?

The first stage allocation in an ABC system is the process of assigning functionally organized overhead costs from a company's general ledger to the activity cost pools

What is the benefit of charging products for the costs that they use versus the costs that they don't use?

A more stable unit product cos Consistency with the goal of assigning to products only the costs of the resources that they use

What does manufacturing overhead include?

Factory security guard's wages, the plant controllers salary, and the cost of supplies used by the plant manager's secretary Otherwise known as organization sustaining costs

What are the three essential characteristics of a successful activity based costing implementation?

First Essential Characteristics: Top managers must strongly support the ABC implementation Second: Top managers should ensure that ABC data is linked to how people are evaluated and reward Third: A cross functional team should be created to design and implement the ABC system

What is an action analysis report?

A more detailed description and how they might adjust to changes in activity than the abc analysis

Is ABC used internally or externally?

ABC is used for internal decision making

How does Activity Based Costing treat manufacturing overhead?

ABC treats manufacturing overhead as period expenses rather than product costs

What do you call the abc approach in terms of finding process improvements?

Activity Based Management

What is activity based management?

Activity based management involves focusing on activities to eliminate waste, decrease processing time, and reduce defects

What is a unit level activity

Activity performed each time a unit is produced. The cost should be proportional to the number of units produced

What is another definition of overhead?

All indirect costs both manufacturing and nonmanufacturing

What is something that no set of activity pools will be when comparing a company to other companies?

No activity cost pool will ever be the same because it takes judgments and circumstances unique to that company.

What is a batch level activity?

Performed each time a batch is handled or processed regardless of how many units are in the batch Purchase orders, setting up equipment, arranging shipment to customers are all batch level activities that are incurred once for each batch

What are the two most common types of activity measures

Transaction drivers and duration drivers

What are the five levels of activity that activity based costing uses

Unit level Batch level Product level Customer level And organization sustaining (largely not based on the volume of units produced

How do you apply overhead costs to a product?

You multiply the activity rate by the number of that cost pool

What is an activity cost pool?

A bucket in which costs are accumulated that relate to a single activity measure in the ABC system

What is Activity Based Costing?

A costing method that is designed to provide managers with cost information for strategic and other decisions that potentially affect capacity and therefore fixed as well as cariable cost

What is the second stage allocation/

Activty rates are used to apply overhead costs to products and customers

In summary what all is included in Activity Based Costing?

All indirect costs that are caused by products as well as all direct costs that can be traced to products

Describe the third step in implementing an ABC system Calculating Activity Rates

The activity rate is found by dividing the total cost for each activity by its total activities The results are average costs

What is a product margin?

The amount of profit from a product It is a function of the product's sales and the direct and indirect costs that the product causes You must gather the direct costs outside of the ABC costing system Don't use costs in the customer relations and other due to it not being directly related to product volume

What caused relying on a limited number of overhead cost pools and traditional allocation bases a risk that reported unit product costs to be distorted?

The changes in batch size, complexity of product, volume of units produced

What is the first step in any improvement program?

To decide what to improve

What is a product level activity?

An activity that relates to specific products and typically must be carried out regardless of how many batches are run or units of product are produced or sold Designing a product, advertising a product and maintaining a product manager and a staff are product level activities

What is an activity measure in activity based costing?

An allocation base in an activity based costing system

What is the activity in activity based costing?

Any event that causes the consumption of overhead resources

Why does the activity based approach have more appeal in today's business environment ?

Because it uses more cost pools and unique measure of activity to better understand the costs of managing and sustaining product diversity This is do in large part to the technological advances that have allowed businesses to be able to make more complex cost systems feasible

Why are transaction drivers used in practice if duration drivers are more accurate to measure resource consumption?

Because of the difficulty and effort of recording duration drivers

What is organization sustaining activities?

Carried out regardless of which customers are served, which produts are produced and how many batches are run or how many units are made Heating factories, cleaning, etc

What is the activity based costing model?

Cost objects > Activities > Consumption of Resources > Cost

What are the two types of nonmanufacturing costs to products?

Directly Traceable to individual products; Commissions paid to salespersons Shipping costs warranty repair costs Indirect nonmanufacturing costs; When a product has caused the costs to be incurred

What is the most accurate driver in terms of resource consumption

Duration drivers are the most accurate measure for resource consumption but they take more effort to record

What are products charged for in activity based costing when it comes to capacity use?

In activity based costing products are only charged for the costs of the capacity that they use, not for the capacity that they don't use

When do managers typically use activity based costing/

It isused as a supplement to rather than a replacement for a company's usual costing system

What is the most important thing to consider when you are combining activities together?

Making sure that those activities are highly correlated with each other within a specific activity level

What kind of costs do activity based costing use?

Manufacturing and nonmanufacturing costs

What are the three ways that activity based costing differs from traditional absorption costing?

Nonmanufacturing as well as manufacturing costs may be assigned to products but only on a cause and effect basis Some manufacturing costs may be excluded from product costs Numerous overhead cost pools are used, each of which is allocated to products and other cost objects using its own unique measure of activity

How do you calculate plantwide overhead?

Plantwide overhead rate is = Total estimated manufacturing overhead/total estimated machine hours

What else can ABC analysis be used to identify?

Process Improvements

What is the risk of using plantwide overhead costs that do not move in tandem with plantwide direct labor hours or machine hours?

Product costs will be distorted with the potential of distorting decisions

What is a custom level activity?

Relates to specific customers Sales calls, catalog mailings, tech support

What are transaction drivers?

Simple counts of the number of times an activity occurs

How do you describe the 5th step of the implementation of ABC building management reports?

You build a customer profitability report that helps companies channel their resources to their most profitable growth opportunities, as well as products that drain profits

Describe the second step of the implementation of activity based costing Assigning overhead costs to activity cost pools

You need to utilize the general ledger into annual overhead costs by department you divide the different types of overhead among the activity pools created using the allocation process called first stage allocation