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Charteristics is Activity Based Costing

• More accurate costing of products/services, customers, SKUs, distribution


channels
• Better understanding overhead
• Easier to understand for everyone
• Utilizes unit cost rather than just total cost
• Integrates well with Six Sigma and other continuous improvement programs
• Makes visible waste and non-value added
• Supports performance management and scorecards
• Enables costing of processes, supply chains, and value streams
• Activity Based Costing mirrors way work is done
• Facilitates benchmarking

Limitations of Activity Based Costing


Activity based costing system help managers manage overhead and understand
profitability of products and customers and therefore is a powerful tool for decision
making. However activity based costing has a number of limitations or
disadvantages.

Even in activity-based costing, some overhead costs are difficult to assign to


products and customers, such as the chief executive's salary. These costs are
termed 'business sustaining' and are not assigned to products and customers
because there is no meaningful method. This lump of unallocated overhead costs
must nevertheless be met by contributions from each of the products, but it is not
as large as the overhead costs before ABC is employed.

Although some may argue that costs untraceable to activities should be "arbitrarily
allocated" to products, it is important to realize that the only purpose of ABC is to
provide information to management. Therefore, there is no reason to assign any
cost in an arbitrary manner

These limitations or disadvantages are briefly discussed below:

1. Implementing an ABC system is a major project that requires substantial


resources. Once implemented an activity based costing system is costly to
maintain. Data concerning numerous activity measures must be collected ,
checked, and entered into the system.
2. ABC produces numbers such as product margins, that are odds with the
numbers produced by traditional costing systems. But managers are
accustomed to using traditional costing systems to run theirs operations and
traditional costing systems are often used in performance evaluations.
3. Activity based costing data can be easily misinterpreted and must be used
with care when used in making decisions. Costs assigned to products,
customers and other cost objects are only potentially relevant. Before
making any significant decision using activity based costing data, managers
must identify which costs are really relevant for the decisions at hand.
4. Reports generated by this systems do not conform to generally accepted
accounting principles (GAAP). Consequently, an organization involved in
activity based costing should have two cost systems - one for internal use
and one for preparing external reports.

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