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IDIS 364 – Spring 2007. Chapter 6 Activity-Based Management. Activity-based Costing and Management (ABCM). ABCM rests on this premise: Products require activities Activities consume resources. Activity-based Costing and Management (ABCM). To understand a product’s costs, one must:

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chapter 6 activity based management

IDIS 364 – Spring 2007

Chapter 6

Activity-Based Management

activity based costing and management abcm
Activity-based Costing and Management (ABCM)
  • ABCM rests on this premise:
    • Products require activities
    • Activities consume resources
activity based costing and management abcm1
Activity-based Costing and Management (ABCM)
  • To understand a product’s costs, one must:
    • Identify activities required to make the product
    • Identify resources used to provide for those activities
    • Figure the cost of those resources
activity based costing and management abcm2
Activity-based Costing and Management (ABCM)
  • To be competitive, managers must know both:
    • Activities involved in making the goods or providing the services, and
    • The cost of those activities
activity based costing and management abcm3
Activity-based Costing and Management (ABCM)
  • ABCM has 2 parts:
    • The costing part known as Activity-based Costing (ABC)
    • The management part known as Activity-Based management (ABM)
activity based costing and management abcm4
Activity-based Costing and Management (ABCM)
  • ABC treats mostly indirect costs including:
    • Overhead costs related to the manufacture of a product or providing a service
    • Indirect costs of marketing a product
    • Indirect costs of managing a company
strategic use of abcm
Strategic Use of ABCM
  • Managers use activity-based information in 2 ways:
    • To shift the mix of activities and products away from less profitable to more profitable operations
    • To help them become a low-cost producer or seller
activity analysis
Activity Analysis
  • Involves 4 steps:
    • Chart activities used to complete the product or service
    • Classify activities as value-added or non-value-added
    • Eliminate non-value-added activities
    • Continuously improve & reevaluate efficiency of activities or replace them with more efficient activities
cost pools
Cost Pools
  • Cost pools are groups of costs
  • Three major types of cost pools:
    • Plant (traditional)
    • Department (traditional)
    • Activity center (activity-based costing)
traditional allocation methods
Traditional Allocation Methods
  • Plantwide allocation
    • Uses the entire plant as a cost pool
    • Simple organizations with only a few departments and little variety in activities might use this method
  • Department allocation
    • Uses separate cost pools with different overhead allocation rates for each department
activity based costing
Activity-Based Costing
  • Activity-based costing (ABC)
    • Assigns costs first to activities
    • Then to products based on each product’s use of activities
activity based costing methods
Activity-Based Costing Methods
  • Requires the following steps:

1. Identify activities that consume resources and assign costs to those activities

2. Identify cost drivers associated with each activity

A cost driver is a factor that causes or “drives” an activity’s costs

3. Compute a cost rate for each cost driver

4. Assign costs to products

cost rates per cost driver unit
Cost Rates per Cost Driver Unit
  • Calculate predetermined cost rate for each cost driver as follows:

Predetermined = Estimated indirect cost

cost rate Est.volume of allocation base

    • Multiply predetermined cost driver rate times volume of cost drivers consumed
cost hierarchies
Activity Category

Capacity

Customer

Product

Batch

Unit

Examples

Plant Mgmt & Depr

Mkt Research

Product Specs & Testing

Machine Setups

Direct Materials

Cost Hierarchies
resources used vs resources supplied
Resources Used Vs. Resources Supplied
  • ABC estimates cost of resources used by an activity as:

Cost driver rate X cost driver volume

  • Cost of Resources supplied = amount spent on the activity
  • Difference between resources used and supplied is unused capacity