ActivityBased Costing Essay Research Paper Brief Introduction

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Activity-Based Costing Essay, Research Paper Brief Introduction to ABC Activity-Based Costing (ABC) started as a methodology that recognises the need to understand how costs actually relate to individual products and services (Cooper & Kaplan, 1989) that later resulted in a more refined system of allocating overheads to products and services, according to the demand of each activity. Homemade Pty Ltd – Food (Dikolli & Smith, 1996:47-55) was a pilot project where it took part in an ABC feasibility study during the mid 90s. This company has been chosen for this study because it has met some of the prime criteria of ABC. The criteria are diverse product or service lines, high overhead, large distribution costs, (Downes, 1996:49) to name a few. Homemade manufactures 170

types of finished stock and is a market leader. It relied heavily on labour and incurring high overheads in processing food in terms of machinery, salespersons’ pay and occupancy of factory floor. Three other companies are selected to observe ABC implications in their systems to see if there is difference or similarity as compared to Homemade. These companies are NASA’s Lewis Research Centre (LeRC) – Government, Tampa Electric – Public Utility and Mobil – Oil & Gas (see as attached at Appendix). They have fulfilled the following prime criteria and have already gone through the phase of actual happenings when they adopted ABC into their costing systems. 1. Product / Service Diversity & Customers Companies with more diversity in products, the harder it is for them

to trace the source of profitability, especially when they are catering to various consumers. For example, LeRC conducts research and development in both aerospace and aeronautics, specialising in micro-gravity science, aero-propulsion and space systems. Its internal customers include government agencies, defence affiliates and the Congress itself. Without ABC, the sources and uses of funds are hardly visible, (Walters et al., 2000) because it is difficult to measure its employees’ time spent on a given activity. Similarly, Mobil supplies more than 30,000 lubricants to retail customers and their costing system could not address cost to produce each product individually. (Kang, 2000) 2. High Overheads & Large Distribution / Marketing Costs Large companies usually incur high

overheads than of direct costs because they spend more in distribution and marketing costs. Indirect costs, such as promotion costs, outlet manager’s wages and depreciation of machinery are not accounted into the cost per unit of product or service. For instance, Mobil produces and supplies more than 30,000 lubricants, and operates lubricant affiliates in more than sixty countries with forty manufacturing locations. Its wide coverage is to market its lubricants to the consumers. Therefore, it will be incurring high overheads. However, the cost per unit lubricant will not include the salaries of salesmen selling it. Without ABC, these extra costs will not be accounted for and cost per unit will not be accurate. Similarly, Tampa Electric uses six generating plants to cater to

550,000 customers: commercial, residential and industrial including the extent of urban and rural. The overhead and distribution costs incurred during the transportation of electricity to these places are not accounted in the cost per unit of electricity because in traditional costing, these costs are represented by resource drivers. After the implementation of ABC, it is obvious to see that some of the decisions made in those companies have been changed. These changes are made to better reflect product costs, identify unnecessary costs that reduce profitability and clearing any extra work contributed from unstructured costing system. Common decision points can also be categorised under several groups. 1. Cost Allocation & Pricing Non-value added costs are identified,