1. Chapter 4 Activity-Based Costing
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2. Study Objectives
Describe the basics of plantwide and departmental overhead costing.
Explain why plantwide and departmental overhead costing may not be accurate.
Provide a detailed description of activity-based product costing.
Explain how the activity-based costing systems can be simplified.

3. Functional-Based Product Costing Model1.

4. Functional-Based Product Costing1.
Overhead costs are assigned to products using predetermined overhead rates.

5. Overhead Application: Plantwide Rates1.

6. Overhead Variances 1. Overapplied overhead Underapplied overhead
Applied overhead > actual overhead
Underapplied overhead
Applied overhead < actual overhead
Disposition of overhead variances
Immaterial: assign to cost of goods sold
Material: allocate among inventories and cost of goods sold

7. Overhead Application: Plantwide Rates1.

8. Overhead Application: Departmental Rates1.

9. Overhead Application: Departmental Rates1.

10. Limitations of Plantwide and Departmental Rates2.
Non-Unit-Related Costs
The use of either plantwide or departmental rates assumes that the number of units produced causes overhead costs to increase
Some overhead costs are not driven by the number of units produced
Product Diversity
Products consume overhead activities in different proportions

11. Limitations of Plantwide and Departmental Rates2.

12. Unit Cost Based on Plantwide and Departmental Rates2.
This schedule uses the data from exhibit 4-2 to determine unit cost using a single plantwide overhead rate based on direct labor hours.
This schedule uses the data from exhibit 4-2 to determine unit cost using department overhead rates based on labor (cutting) and machine (printing) hours.

13. Limitations of Plantwide and Departmental Rates2.
Application of overhead using unit-based drivers may be inappropriate if
Multiple products are produced
Product diversity exists
Non-unit-level overhead is a significant percentage of production costs

14. Limitations of Plantwide and Departmental Rates2.
4 Activities:
Setup
Cost $240,000
Qty 100
Machining
Cost $200,000
Qty 90,000
Inspecting
Cost $160,000
Qty 18,000
Moving materials
Cost $120,000
Qty 300

15. Design Steps for an ABC System3.
Identify, define, and classify activities and key attributes
Activity inventory – a list of identified activities
Activity definition – financial and nonfinancial descriptions of the activities
Activity classification – primary and secondary
Activity dictionary – activity name, description, driver, and cost objects

16. Design Steps for an ABC System3.
Assign the cost of resources to the activities
Cost of performing each activity
Use both direct and indirect tracing
General ledger costs are unbundled and reassigned

17. Design Steps for an ABC System3.
Assign the cost of secondary activities
To those activities that consume their output
Total cost of the secondary activity is the sum of the direct and assigned costs

18. Design Steps for an ABC System3.
Identify cost objects and specify the amount of each activity consumed by specific cost objects
Cost objects are identified
Activity drivers are used to measure the demands placed on activities.
Transaction drivers – measure demand by quantity of events
Duration drivers – measure demand by elapsed time

19. Design Steps for an ABC System3.
Calculate primary activity rates
Assign activity costs to cost objects
Multiply activity rate by activity measure

20. Reducing the Size and Complexity of an ABC System4.
Approximately Relevant ABC Systems
Use only the most expensive activities for ABC assignment.
Assign using cause-and-effect drivers
All other activity costs are added to cost pools of the expensive activities

21. Reducing the Size and Complexity of an ABC System4.
Time-Driven ABC System
Overcomes the drawback of traditional ABC systems: few people report idle or unused time
Managers estimate practical capacity as a percentage of theoretical capacity
Determine a per-time-unit rate
Determine the time required for one unit of activity
Multiply rate by time

22. End Chapter 4