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# Activity Based Costing

activity
based c osting
Activity Based Costing

## Determining Cost of an Object

• Intuition
•Educated Guessing
•Conventional CA
•Activity Based Costing
Activity Based Costing

## Direct Cost (Lab + Mat)

=Total Object Cost
Activity Based Costing

## CCA & ABC

Activity Based Costing

## •Assumption; Relation between Overhead &

Volume Based Measure
Conventional CostCosting
Activity Based Accounting

Departmentalization

## 1 Process of dividing the factory into number

of Segments Is called Departmentalization

P1 P2 P3 S1 S1

## Prod Departments Service Dept.

Activity Based Costing

Departmentalization

## 2 Process of allocating and apportioning POHEs to

different departments or
cost centers (Prod & Service ) Factory

P1 P2 P3 S1 S1

## Prod Departments Service Dept.

Activity Based Costing

Factory
Allocation &
Apportionment

P1 P2 P3 S1 S1

## Prod Departments Service Dept.

Activity Based Costing

Absorption
Service
Department
(Cafeteria) Operating
Department
Service (Machining)
The
Department
Products
(Accounting) Operating
Department
Service (Assembly)
Department
(Personnel)
Activity Based Costing

CCA in an Organization…………….

## Two Products A and Product B

Product A
I hour of Direct labour
Direct Labour Cost: 1hour x Rs 20= Rs 20
Production 100 units
Product B
2 hours of direct labour
Direct labour Cost:2 hours x Rs 20= Rs 40
Production=950 units
Activity Based Costing

## CCA in an Organization (Contd)…………….

Total Direct Labour=2000 hours

OH Rate/hr=Rs 1,00,000/2000hours
=Rs 50/hour
Product A : 1 hour of direct labour
Product B: 2 hours of direct labour

## CCA overhead allocation A: Rs 50 per unit

B: Rs100 per unit
Activity Based Costing

## Over absorption - over pricing product

Activity Based Costing

Rs Rs Rs Rs

## Abhishek 110 0 40 150

Banke 200 80 140 420
Paraveen 150 40 80 270
Devinder 140 40 60 240

## Average 150 40 80 270

Activity Based Costing

What is noticeable in
distribution of Cost?
Activity Based Costing

To avoid this
Ambiguity and
under/over absorption
of cost
ABC is a Good Alternative
Activity Based Costing -what is ABC?

## ABC is a method that measures cost of a

Product/Service, based on the activities performed
to produce the product / service
Activity Based Costing -what is ABC?

An Activity is an event,
with a specified purpose
Designing products
Setting up Machines
Operating Machines
Distributing Products
Activity Based Costing System

Assigned to
Costs of Cost Object
Activities
Activities •Product
•Service
•Customer
According to use
Activity Based Costing When to use

## Cost of Error is High

Competition is Stiff
Activity Based Costing few features

## •Traces rather than allocate each expense

category to the particular Cost Object

## •Makes “indirect” Expenses “Direct’

Activity Based Costing --Steps

1 Identify Activities
2 Determine Cost for Each Activity
3 Determine Cost Drivers
4Calculate Activity Rate
5 Assign Cost To Cost Object
Activity Based Costing --Steps

1 Identify Activities

Set –UP
Machining
Receiving
Packing
Engineering
Activity Based Costing --Steps

## Set Up- Rs 10,000

Machining - Rs40,000

Receiving- Rs10,000

Packing - Rs 10,000

Engineering- Rs 30,000
Activity Based Costing --Steps

## Engineering —No of Hours

Activity Based Costing --Steps

## 4Calulate Activity Rate

Activities Cost Prod A COST Prod B Cost
Rs Rs Rs
Set Up 10,000 1no 2500 3no 7500

## Packing 10,000 1 2500 3 7500

Engineering 30,000 500Hrs 15000 500 Hrs 15000

## 1,00,000 24,500 75,500

Activity Based Costing --Steps

## 5 Assign Cost to Cost Object

Rs 24,500: 100=Rs245

Rs 75,500: 950=Rs79.47
Activity Based Costing

## CCA in an Organization (Contd)…………….

Total Direct Labour=2000 hours

## Product A : 1 hour of direct labour

Product B: 2 hours of direct labour

## CCA overhead allocation A: Rs 50 per unit

B: Rs100 per unit
Activity Based Costing

## CCA ABC CCA ABC

Rs Rs Rs Rs
D Cost 20 20 D Cost 40 40.00

## Total 70 265 Total 140 119.47

Activity Based Costing

## How the company should react to this situation?

Activity Based Costing

## Distribute Case-dell computer

Activity Based Costing

## 1Why did Dell use cross Functional employee teams

to identify company Activities?

## 3 Dell focused on 10 activities………

Activity Based Costing question

## Direct Lab Work

Sales Direct Lab Hrs 12 Support Staff
Two Products 4,00,000 DLH
A&B Per periods
B-25000 B-.60hour
B-.60 hour RS 5,00,000
Support Staff Engaged in 3 activities

## 6 engaged in receiving 25000 consignments of components

3 engaged in receiving 10000 consignments of Raw Materials
3 engaged in disbursing kits of components & materials for
5000 production runs

## 200 Consignments of Components 100 Consignments of Components

50 Consignments of Raw Materials 4 Consignments of Raw Materials
10 Production runs per period 5 Production runs per period
Activity Based Costing ABC question

## c) Calculate OH Cost of products A& B using CCA

d) Identify appropriate cost drivers & calculate the
Over Head Cost of A& B using ABC
c) Compare answers of A & B
Activity Based Costing ABC Solution

A) CCA
Total Direct Lb. Hours= 4,00,000
OH Rate Per Lab Hr =5,00,000/4,00,000
= Rs 1.25 per hour

## Products Per Unit Total

(Rs) Rs
A (1XRS 1.25) 1.25 1000x1.25=Rs1250
B (.6XRs 1.25) 0.75 25000x .75=Rs18750
Activity Based Costing ABC Solution

B)
Appropriate Cost Activities

3) Receiving Components

## 7) Disbursing Kits of RM & Components

Activity Based Costing Solution

B)
Cost Of Activities
Receiving Components =Rs2,50,000 (500000x6/12)

## Disbursing R Mat.& Kits = Rs1,25,000

Activity Based Costing ABC Solution

B)
Cost driver
Receiving Components =Rs2,50,000/25000=Rs10 per Receipt

## Disbursing Kits = Rs1,25,000/5000=Rs 25 per issue

Activity Based Costing ABC Solution
Product A Requires Product B

## 200 Consignments of Components 100 Consignments of Components

50 Consignments of Raw Materials 4 Consignments of Raw Materials
10 Production runs per period 5 Production runs per period

(Rs)

## B (100X10+8X12.50+5X25 ) 1,225 0.05

Activity Based Costing ABC Solution

Comparison

## Products Total (Rs) Diff Per Unit (Rs)

ABC CCA ABC CCA Diff

## B) 1,225 18750 17525 0.05 0.75 .70

Activity Based Costing ABC Solution

## • ABC is more accurate, clear and scientific

Activity Based Costing Question -2

## A Company produces 3 products, the costs of which are as follows

A(Rs) B(Rs) C(Rs)
Direct Materials 50 40 30
D Labour(Rs10/Hr) 30 40 50
Total Cost/per unit 110 120 130
Quantity Produced(units) 10000 20000 30000

## The Company wishes to introduce ABC and has identified two

major cost pools for production overhead and their association
cost drivers
Activity Based Costing Question -2

## Production Scheduling/Machine Setups Numbers Of Batches Rs 12,00,000

Further Information

A B C

## No of Purchase Requisitions 1200 1800 2000

Number of Setups 240 260 300

## Calculate cost of ABC products under activity based costing

Compare it with CCA

Activities
Activities
Receiving
Production Scheduling
Inspecting
Machine Setups
Quality Insurance
No. of Batches
Purchase Requisition

Batches Setups = 800
P Requisitions=5000
Cost Per setups=
Cost per Req=
1200000/800
1400000/5000
=1500 per setup
=Rs 280 /PR

A B C

## a) Receiving/inspecting/ quality 280 x1200 280 x1800 280x2000

10000 20000 30000

## b) Prod Scheduling/M Setups 1500x240 1500x260 1500x300

10000 20000 30000

## Direct Materials 50.00 40.00 30.00

Direct Labour 30.00 40.00 50.00
a) Receiving/inspecting 33.60 25.20 18.66
b) Scheduling/Setups 36.00 19.50 15.00

## Total Cost PU 149.60 124.70 113.66

Activity Based Costing SUMMARY

## CCA is unable to calculate True Cost of

A Product/Service
Activity Based Costing benefits

Decisions

Design Decisions

## Planning & Managing Activities

Activity Based Costing limitations

## May be difficult to apply in certain cases

Activity Based Costing