Activity Based Costing


Abstract


The dissertation discusses the ABC (Activity Based Costing) method and how it can help or influence management decisions. The method of Activity-Based Costing (ABC) was developed primarily for solving problems which emerged from traditional cost management systems. Troubleshooting in the management of companies throughout the late 70’s and especially the early 80’s held a constant presence. The problems generated were mainly from the traditional cost accounting systems’ way of functioning which provided the management with inaccurate data. Where the old cost accounting systems failed badly was in supplying the company’s management with inappropriate information in order for crucial decisions to be taken in the correct and true perspective of a given company’s true position in its market territory. Since this currently accessible “itemized” information could not be provided to a company’s decision making sector, the information provided had an impact which of course distorted the decision which would have otherwise been taken in the light of different and more accurate information.


The Dissertation gives an overview about the historical background that led to the development of Activity-Based Costing. It discusses in detail the problems of the Traditional Costing system and guides through step by step the development of ABC, illustrated with different examples.


The author of the dissertation used various text books, magazines and publications as a source of information on theories.



COST ACCOUNTING – IT IS AS EASY AS THE ABC
DISSERTATIONFOR BA (HONS) IN BUSINESS STUDIES
2000/2004



Table of contents
1. Introduction 3


2. History overview 5


2.1 Cost accounting in the XIX century 5


2.2 Management accounting in a different aspect 6


2.3 First half of the XX century 7


2.3.1 Reorganisations – controlling 7


2.3.2 Financial Accounting in the spot light 8


2.4 Second half of the XX. Century 10


2.5 Criticism of the 1980s 14


3. The emergence of Activity-Based Costing 16


3.1 An outdated costing system 16


3.2 The development of Activity-Based Costing 19


3.3 The basics of Activity-Based Costing 20


3.3.1 Activities as the drivers of costs 20


3.3.3 Most costs are variable 21


3.3.3 Hierarchical categories of activities 22


3.3.4 Measuring the resource consumption 23


3.4 Criticism of the ABC theory 24


4. The design of the Activity-Based Costing system 26


4.1 Stages of ABC system design 26


4.1.1 Activity analysis and activity model 27


4.1.2 Creating cost pools and gathering costs 27


4.1.3 Determining cost drivers 29


4.1.4 Tracing costs to cost objects 31


4.2 Example of a working system 31


5. Issues of implementation 37


5.1 Questions to be answered before implementation 37


5.1.1 Individual or integrated system 37


5.1.2 Who should design and implement the system 37


5.1.3 Accuracy of the system 38


5.1.4 Measuring past or future costs 38


5.1.5 Complexity of the system 38


5.2 Steps of implementation 38


5.3 Problems of implementing Activity-Based Costing 39


6. Summary 41


7. References 42



1. Introduction
From the second half of the 1970s the economies of the developed countries went through a structural change. The price boom of resources, the development of technologies especially in the field of information technologies, the rapidly growing markets caused an intense global competition. This new situation however increased the demand for new and more efficient production and operation systems.


On the other side the introduction of these new systems to companies required a different way of managing.


Controlling is the most significant advent of the past decades in management practice used in the United States as well as in Europe. It makes management work easier in this more and more complex environment by integrating into one system the planning, reporting and the supply of information.


Controlling strongly relies on management accounting and on it’s filed of costing as a basis of information.


By the mid 1980s the economic environment, primarily companies with wide variety of products, demanded a new costing system that is able to reflect the actual resource consumption of one unit of product manufactured.


Key issue was to find a way to decrease expenses especially overhead expenses. Experts made great effort to work out different methodologies to solve this problem.


The purpose of the dissertation is to help to understand and discuss the problems of the traditional costing systems. Those led to the development of a new costing system. A fairly new costing methodology called Activity-Based Costing (ABC).


The first part of the dissertation gives a short overview on history of the development of management and cost accounting in the United States. Knowing the history is important to understand the necessity and the complexity of changes. It