What are the benefits of activity-based costing?

Answer 1

There are several limitations to ABC.

Firstly it is expense to implement and maintain, both in time and money.
It still faces issue allocating some overheads to activities, for example supervisor salaries.
Management and employees can be resistant to the data it provides as it can make their performance look poor. They may even provide poor quality source data if they feel threatened.

Answer 2

Advantages of Activity Based Costing System:Activity based costing system has the following main advantages / benefits:

1. More accurate costing of products/services, customers, SKUs, distribution channels.
2. Better understanding overhead.
3. Easier to understand for everyone.
4. Unit cost rather than just total cost.
5. Enables costing of processes, supply chains, and value streams

Answer 3

The concepts of ABC were first introduced within the manufacturing sector in U.S. during the 1970s to 1980s. It has been later refined and improved upon over the years. For example, a machine manufactures two products. Assuming that the production volume of the two products is the same, using traditional costing methods, the cost of using the machine will be factored by two and assigned to the two products. However this might not be correct as one product might require more processing time in the machine than the other. Traditional costing methods always assume a relation between overhead and the production volume. It always fails to take into account the size or complexity of the product. In reality, it is not safe to assume that the manufacture volume of the finalized product is directly proportionate to the product cost as not all overheads vary with the number of units produced. With traditional costing methods, there is always a danger of one product subsiding another. Over the past century, as firms have grown larger than before, there is a real need for an accurate cost management methodology. ABC soon gained widespread use as traditional costing methods always used a percentage to calculate the indirect costs into direct costs. However as indirect costs rise, the margin of error becomes greater and thus makes the calculation vastly inaccurate. Instead, ABC focuses on indirect costs and traces rather than allocating each expense to the particular cost thus making an indirect cost direct. ABC stands out by breaking down the costs into a very detailed level. This information will give management a very clear picture of which processes come with high costs but little value and how to improve the process or to eliminate the process entirely. With such information, management will be in a better position to make strategic and better informed business decisions. ABC stands out from traditional costing methods especially when: - overhead is high, - products are complex - Cost of error is high - Competition is stiff

Answer 4

Activity-based costing is a form of cost refinement, designed to obtain greater accuracy than traditional allocations in cost assignments for product costing and decision-making purposes.