Activity Based Costing (Abc)

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Activity based costing (ABC) is the perfect cure for the problem of overhead allocation within organisations." This statement demonstrates the relationship between activity based costing and the process of overhead allocation. Activity based costing is simply an accounting method that identifies all activities and the costs associated with these activities; it then assigns the cost associated with the activity directly to the pricing of the output of that activity, rather than averaging the cost across all outputs (Proctor, 2009). This is obviously not required in organisations that produce only one good or service, but in most organisations there is more than a single good or service produced. The use of activity-based costing reduces the potential for overpricing or underpricing, thus allowing the firm to offer more precise prices to its consumers. However it is much more complex to implement and depends on data that firms may not have access to, which can reduce its utility particularly for smaller firms and those that make less use of information technology (Proctor, 2009). Thus, ABC can be a strong tool for budgeting and costing in some organisations, but is not necessary in others. Activity-based costing, as noted above, is used to precisely identify cost centres for each product or service offered by a firm and build those costs into the price of the product (Proctor, 2009). For example, in a manufacturing plant that produces two dissimilar products, it is likely that these products will use not only different materials (which can be easily directly costed), but different amounts of worker labour, electricity, machine time, human resources and management efforts, and marketing requirements (Proctor, 2009). If one product requires twice as much marketing effort as the other product, it is clearly fair that the price of the first product reflects this

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