Activity based costing \"blasted\" on the cost accounting scene in the late 1980

ID: 2336730 • Letter: A

Question

Activity based costing "blasted" on the cost accounting scene in the late 1980s and early 1990s. It's authors, Dr. Robert Kaplan and Dr. Robin Cooper, from Harvard University, presented it as a more accurate costing method which would improve the accuracy of accounting information, and therefore lead to much improved decisions, leading to more profitable and successful companies. Has ABC lived up to its hype? Has it been a success? A dud? or somewhere in between? Is the novelty wearing off? Find evidence in the literature to support your opinion.

Explanation / Answer

The main objective of any costing system is to determine scientifically the cost of product or service. Costs are further divided into the direct cost and indirect cost.

Indirect cost or “Overheads” are the costs which are not traceable to the products/service for which it incurred. Charging overheads directly to the products causes distortion of costs. This is one of the limitations of the traditional costing system since appropriate charging of overheads is crucial for Price fixing and Decision making.

Let’s discuss what ABC stands for, CIMA defines ABC as, “Cost attribution to cost units on the basis of the benefit received from indirect activities”
Following are some basics of charging to products in the ABC system.

COST POOL

COST DRIVER

Material Procurement

No. of orders

Material Handling

No. of movements

Set-up

No. of setups

Maintenance

Maintenance Hours

Quality Control

No. of inspections

Machinery

No. of Machine hours

This is how overheads are apportioned in the ABC system. Incurred overheads are allocated and apportioned in a more scientific manner which results in more accurate pricing and decision making.
A traditional costing system will allocate the inaccurate amount of overheads since it does not follow an appropriate basis for charging.

Moving onto the questions,
In my opinion, the ABC system has lived up to its hypes. Considering the details provided above it has enabled management and key professional to be more accurate and realistic in the key decision-making process. They were able to focus on high-cost activities in order to improve and reduce the costs of production/service. ABC helped them in the decision-making process by eliminating non-value added activities.

ABC has been a success for organisations which embraced and implemented it with proper planning and adequate human resources. Of course, ABC is an expensive affair which requires substantial investment in time, money, and trained professionals. Organisations which failed to facilitate the above failed in ABC as well. It’s not the system, it’s the way how you implement it.

Manufacturing is at an age where overheads attribute to the total costs. Until the Overhead loses its importance in the decision making, any costing system which facilitates appropriate treatment of overhead will have its importance. So ABC still has its importance for the organisation who has adequate resources for a successful implementation.

Hope the question is answered.
Please feel free to ask if more clarification is needed
Happy learning!