Activity-based Costing

Seminar paper from the year 2007 in the subject Business economics - Controlling, grade: 1,3, University of Applied Sciences Wildau (WIT Wildau), course: Managerial Accounting, language: English, abstract: Activity-based costing first gained publicity in the early 1980s. It was developed as a logical

alternative to traditional cost management systems that tended to produce insufficient results

when it came to allocating costs. Harvard Business School Professor Robert S. Kaplan was an

early advocate of the ABC system.

Due to a changing business world and strong competition, the cost structure in many

companies changed, while facing an increased price pressure. When profit margins are

decreasing, companies are focusing not only on external but also internal opportunities to

improve their cost structures and to make hidden costs transparent. This lead to the

introduction of Activity-based costing (ABC) as a new approach of process thinking to make

the internal organization more flexible to react to changes in the production process and

allocation of costs as well as to deal with overcapacities. This paper will focus on the ABC tool, which is aiming at transparency, efficiency increase and improvement of the given cost calculation systems. The ABC method enables management to optimize the enterprise with detailed information for

a thorough decision making process. ABC is a method for developing cost estimates, based on the activities used within the

production process per cost object. To develop a cost estimate the most important activities

within the production cycle ¿ the cost drivers - need to be identified. The activity must be

definable and measured in units, e.g. number of man hours. After all activities for producing

the product are known, a cost estimate is prepared for each activity. These individual cost

estimates contain all labour, materials and equipment costs, including overhead, for each

activity. Each complete individual estimate is added to the others to obtain an overall

estimate. To gain sufficient cost estimates, data must be collected and verified to make ABC a

functional and precise tool. This chapter leads through the necessary steps to implement the

ABC approach and its methodology.