Activity Based Costing (ABC)
Introduction
One of the best tools for refining a costing system is activity system is activity-based costing. Activity based costing (ABC) systems refine costing systems by focusing on individual activities as the fundamental cost objects. An activity is an event, task, or unit of work with a specified purpose; for example, designing products, setting up machines, operating machines, and distributing products, setting up machines, operating and distributing products. ABC systems calculate the costs of individual activities and assign costs to cost objects such as products and services on the basis of the activities of the activities undertaken to produce each product or service.

An activity is a process or procedure that causes work. In relation to ABC, by activities we only mean the activities of the support or service departments, such as, material handling, machine set-up, engineering change, quality testing, inspection, etc.

Activity

Cost Driver

Machine set-up

Number of production runs

Purchase materials

Number of orders placed

Warehousing

Items in stock

Material handling

Number of parts

Inspection

Inspection per item

Quality testing

Hours of test time

Receiving material

Number of receiving orders

Packing

Number of packing orders

Store delivery

Number of store deliveries

Line item ordering

Number of line items

Main Steps
    Step 1 : Identify the chosen Cost Objects
    Step 2 : Identify the Direct Costs of the Products
    Step 3 : Select the Cost-Apportion Bases to Use for distributing Indirect Costs to the Products
    Step 4 : Identify the Costs Associated with Each Cost-Allocation Base
    Step 5 : Compute the Rate per Unit of Each Cost-Allocation Base Used to the Products
    Step 6 : Compute the Indirect Costs Allocated to the Products
    Step 7 : Compute the Total Costs of the Products by Adding All Direct and Indirect Costs Assigned to Them
Activity Based Management (ABM)
In focus on the management of activities as the route to improving value to the customers. ABM involves activity analysis and performance measurement. Activity Based Costing serves as the major source of information in ABM.

The process focuses on improvement of business by re-engineering the way the business is conducted and by continuously improving the effectiveness of the organisation. The activities can almost be seen as the building blocks of the process.

Certain constraints, such as shortage of funds or capacity, may exist which limits the firmís potential of profit-earning capabilities. ABM also evaluates these constraints in order to overcome, as far as possible, the constraints and to maximise the return to the shareholders. Activity Based Budgeting is used as one of the tools in ABM.

Activity Based Budgeting (ABB)
Brimson and John define activity-based budgeting as the process of planning and controlling the expected activities for the organisation to derive a cost-effective budget that meets forecast workload and agreed strategic goals. An activity-based budget is a quantitative expression of the expected activities of the firm, reflecting managementís forecast of workload and financial and non-financial requirements to meet agreed strategic goals and planned changes to improve performance. Thus, the key elements of ABB are:

    type of work/activity to be performed
    quantity of work/activity to be performed; and
    cost of work/activity to be performed

ABB focuses on the activity/business processes. Resources required are determined on the expected activities and workload. The objective is to bring in efficiency into the system.

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