Activity-Based Management and Activity-Based Costing: Cost Accounting Principles, 9e

Chapter 4:
Activity-Based
Management and
Activity-Based Costing
Cost Accounting Principles, 9e
Raiborn ● Kinney
© 2013 Cengage Learning. All Rights Reserved. May not be scanned, copied, duplicated, or posted to a publicly
accessible website, in whole or in part.
Learning Objectives
 In an activity-based management system, what are
value-added and non-value-added activities?
 How do value-added and non-value-added activities affect
manufacturing cycle efficiency?
 Why must cost drivers be designated in an activity-based
costing system?
 How are product cost and service costs computed using
an activity-based costing system?
 Under what conditions is activity-based costing useful in
an organization and what information do activity-based
costing systems provide to management?
 What criticisms have been directed at activity-based
costing?
Activity-Based Management
 Focuses on activities during
production and performance process
 An activity is a repetitive action
performed in fulfillment of a business
function
 Improves the value received by
customers
 Enhances profitability
Activity analysis Operational control
Cost driver analysis Quality management
Activity-based costing Business process improvement
Continuous improvement Performance measurement
Benefits
External Benefits
 Improved customer value
 Enhanced profitability
 Internal Benefits
 More efficient production
 More accurate cost determination
 More effective performance evaluation
Activity Analysis
Value-added activity Non-value-added activity
 Increases worth of  Increases time spent on
product or service to a product or service but does

customer not increase worth
 Customer is willing to  Unnecessary from
pay for it customer perspective

 Can be reduced,
redesigned, or eliminated
without affecting market
value or quality
 Business-value-added
activities are essential
Cost Driver Analysis
 Cost drivers are factors that have a
direct cause-and–effect relationship to
a cost
 Limit the number of cost drivers
 Cost of measurement should not exceed
benefit of using the cost driver
 Easy to understand
 Directly related to activity being performed
 Appropriate for measurement
Cost Driver Analysis
 Unit-level costs
 direct material, direct labor
 Batch-level costs
 setup, inspection
 Product/process-level costs
 engineering changes, product development
 Organizational or facility costs

 building depreciation, plant manager’s salary
Activity-Based Costing
 Recognizes several levels of costs
 Accumulates costs into related cost pools
 Uses multiple cost drivers to assign costs
to products and services
Two-Step Allocation
 Collect costs in general ledger and
subsidiary accounts
 Identify activity centers
 Accumulate costs into activity center cost
pools—cost drivers
 Allocate costs to products and services
 activity driver measures demands placed on
activities, thus the resources consumed by
products/services
Traditional vs. ABC Costing
 When ABC is implemented
 Cost is reduced for high volume,
standard products
 Cost is increased for low-volume,
complex specialty products
Use ABC Costing for:
Product Variety and Process Complexity

 Caused by mass customization
 Too many choices, opportunity for errors
 Pareto Principle
 Commonality of parts
 Reduced by
 Simultaneous (or Concurrent)
Engineering
 Design for Manufacturability
Use ABC Costing for:
Lack of Commonality in Overhead Costs
- Some products/services use substantially more
overhead than others
Problems with Current Cost Allocations
- Significant changes in process with no change in
cost allocations
- Expense majority of period costs when incurred
Changes in Business Environment
- Increase in competition or change in
management strategy
Criticisms of ABC
 Significant amount of time and cost

to implement
 Must overcome barriers to change
 Does not conform to GAAP
Continuous Improvement
 Eliminates non-value-added activities to
reduce cycle time
 Makes products/performs services with zero
defects
 Reduces product costs on an ongoing basis
 Simplifies products and processes
ABC Costing Supports

Continuous Improvement
Advantages of ABC and ABM
 Identify and monitor significant technology
costs
 Trace technology costs directly to products
 Increase market share
 Identify the cost drivers that create or
influence cost
 Identify activities that do not contribute to
perceived customer value
Advantages of ABC and ABM
 Understand the impact of new technologies
on all elements of performance
 Translate company goals into activity goals
 Analyze the performance of activities across
business functions
 Analyze performance problems
 Promote standards of excellence
Questions
 What are the differences between activity-
based costing and traditional cost
accounting?
 What are cost drivers and activity drivers?
 What are two advantages and two
criticisms of activity-based costing?
Potential Ethical Issues
 Ignoring non-value-added activities
 Using non-value label to eliminate jobs
 Misclassifying activities to allocate costs away from lower
volume products to justify lower selling prices
 Selecting an inappropriate cost driver to distort cost
calculations
 Using ABC to eliminate a vendor or customer
 Using ABC to eliminate funding of social or environmental
causes
 Using ABC to transfer cost from fixed price contracts to
cost-plus contracts

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Chapter 4:

Cost driver analysis Quality management

Activity-based costing Business process improvement

Continuous improvement Performance measurement

 More accurate cost determination

 More effective performance evaluation

product or service to a product or service but does

pay for it customer perspective

 Organizational or facility costs

complex specialty products

Product Variety and Process Complexity

 Significant amount of time and cost

ABC Costing Supports

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