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UNSW Business School ACCT2522 Management Accounting 1 Topic 2: Managing Costs – Activity-Based Costing (“ABC”) Organisational Resources Activities Processes Value Creation Role of Management Accounting (MA) Planning Control Introduced in COMM1170 Introduced in COMM1180; advanced understanding in ACCT3583 Managing Costs 2. Activity-based Costing 3. Standard Costs & Variance Analysis 1. MA & Understanding Processes 9. MA Information for Decision-making 7. Responsibility Accounting & Transfer Pricing 8. Management Control & Performance Evaluation Customers: Products & Services Cost Quality Time Managing Quality 4. Cost & Quality Managing Time 5. Theory of Constraints 6. Project Management St ra te gy Im pl em en ta tio n ACCT2522 Course Map Topic 2: Learning Objectives 1. Explain potential problems with using traditional (aka volume-based) costing systems. 2. Describe and apply the activity hierarchy of costs and cost drivers. 3. Use activity-based costing (ABC) systems assign costs to cost objects. 4. Evaluate the appropriateness of ABC. 5. Demonstrate the ability to apply Activity-based Management (ABM) 6. Understand the limitations of ABC. 3 Required Readings Langfield-Smith et al. (2022) Chapter 3 p. 73-74; and Chapter 8 including the Appendix 4 Topic 2: Learning Objectives 1. Explain potential problems with using traditional (aka volume-based) costing systems. 2. Describe and apply the activity hierarchy of costs and cost drivers. 3. Use activity-based costing (ABC) systems assign costs to cost objects. 4. Evaluate the appropriateness of ABC. 5. Demonstrate the ability to apply Activity-based Management (ABM) 6. Understand the limitations of ABC. 5 1. Product Costing and its Purposes Why do we need to cost products Inventory valuations for external reporting Decision-making (e.g., pricing and product-mix) Planning and control ACCT2522 considers 2 types of product costing systems: 1. Traditional or Volume-Based Costing systems (hereafter to refer as “VBC” systems) 2. Activity-Based Costing (“ABC”) systems 6 2. Traditional or Volume-Based Costing Systems MOH Costs Traditional System Cost Pool(s) Cost Object Cost Allocation Base/Driver Budgeted MOH costs Budgeted quantity of cost driver X Actual quantity of cost driver Volume-based cost drivers e.g., #DL, #units produced Revision: COMM1170; Week 1 Tutorial MOH rate = 2.1 Features of Volume-based Costing (VBC) Systems Manufacturing overhead costs are allocated to products using a predetermined overhead rate(s) Manufacturing overhead rate is calculated using some measure of production volume – e.g. Number of products, direct materials, direct labour hours or direct machine hours Non-manufacturing costs are not assigned to products 8 Revision: COMM1170; Week 1 Tutorial 2.2 Indications of Problems with Volume-Based Costing (VBC) systems (LO1) When proportion of MOH costs to total manufacturing costs increases (i.e., proportion of prime costs decrease); AND Non-volume driven MOH costs increases – Using only unit level cost drivers no longer appropriate 9 10 2.2.1 Other Cost Drivers (LO2) Activity hierarchy: Unit level costs – Cost relate to activities that are performed for each unit. Batch level costs – Cost relate to activities performed for a group of product units. Product level costs – Cost relate to activities performed for specific products or product families. Facility level costs – Cost relate to activities incurred to support the business as a whole. Reference: LS Chapter 3 p. 73-74 11 Lecture Exercise (Please refer to information provided in “Lecture Exercise: Case on Karter Pens.” in order to complete this exercise.) The cost object in this case is a Karter Pen. For each cost described, please: (i) indicate the level of the activity hierarchy which it belongs to: a) Unit level cost b) Batch level cost c) Product level cost d) Facility level cost (ii) identify a cost driver. 12 Lecture Exercise (Cost object: 1 Karter Pen) Hierarchy Cost driver Cost of mixing the ink (b) Batch # batches of ink Cost of setting up stamping machines (b) Batch # production runs Cost of packaging individual pens into boxes (a) Unit # pens produced Cost of advertising (c) Product # product groups Factory-related costs associated with running the factory (d) Facility None 2.2 Indications of Problems with Volume-Based Costing (VBC) systems (LO1) When proportion of MOH costs to total manufacturing costs increases (i.e., proportion of prime costs decrease); AND Non-volume driven MOH costs increases – Using only unit level cost drivers no longer appropriate Non-manufacturing product related costs increases – Increase in upstream and downstream activities (ref value chain) Product diversity increases – Increase in non-manufacturing costs – Increase in production complexity 13 Proof: Increase in product complexity (issues with using volume-based cost drivers) Simple product (e.g., ballpoint pen) Complex product (e.g., fountain pen) No. of set ups 1 $10X1=$10 5 $10X5=$50 Machine capacity (no. of pens) 1000 100 Total no. of pens produced 1000 100 MOH cost per pen $10/1000 = 1 cent $50/50 = 50 cents MOH cost per pen (allocating cost based on production volume) = $60/1,100 = 5.5 cents Topic 2: Learning Objectives 15 1. Explain potential problems with using traditional (aka volume-based) costing systems. 2. Describe and apply the activity hierarchy of costs and cost drivers. 3. Use activity-based costing (ABC) systems assign costs to cost objects. 4. Evaluate the appropriateness of ABC. 5. Demonstrate the ability to apply Activity-based Management (ABM) 6. Understand the limitations of ABC. 3.1 Assigning Overhead Costs Using ABC: Some general principles Resources ABC System Activities Products Resource Drivers Activity Drivers Stage One: Measuring the cost of activities Stage Two: Assigning activity costs to products 3.1.1 ABC Terminology Resources (Topic 1) Financial and non-financial means of an organisation Determines its capabilities and competencies Activity (Topic 1) a unit of work performed. Cost driver (Topic 1) a factor or activity that causes cost to be incurred – Resource drivers used to estimate the cost of the resources consumed by an activity. – Activity drivers used to estimate the cost of an activity consumed by cost objects. – Root cause cost drivers (Topic 1) 17 3.2 Two-Stage Process of Assigning Overhead Costs Using ABC Systems Stage One: Measuring the cost of activities Identify major activities (includes the combination of minor activities into major activity pools) Costing activities by assigning cost (of resources) to activities (forming activity cost pools) Involves both tracing and allocation using resource drivers. Stage Two: Assigning activity costs to products Identify activity drivers Calculate the activity cost per unit of activity driver Applying cost of activity to products 18 19 Setup Moulding Machine AssemblyMoulding Overhead Costs Etc.Moulding Machine Depreciation Wages: EmployeesElectricity Etc. # employees (e.g., 5) 1 50% * 4 ≈ 2 2 3.2.1 Stage One: Measuring cost of activities 20 Setup Moulding Machine AssemblyMoulding Overhead Costs Etc.Moulding Machine Depreciation Wages: EmployeesElectricity Etc. # machine hours 3.2.1 Stage One: Measuring cost of activities Lecture Example: AI Toys Ltd AI Toys Ltd (AT) produces two AI toy lines: 1. R-dogs 2. R-cats Required: Using ABC, calculate the cost of one unit of R-dogs. 21 Lecture Example: AI Toys Ltd 22 Table 1: Production information per month Storm Trooper toys R-cat Direct Material per unit $0.50 $0.50 Direct Labour rate $30.00 $30.00 Direct Labour hours 2,500 500 # of toys produced 50,000 10,000 Table 2: Cost of resources per month Electricity = $30,000 Computer depreciation = $10,000 Salaries – product developers = $50,000 Moulding machines depreciation = $35,000 Salaries – employees = $135,000 Motor vehicle related costs = $40,000 23 Lecture Example: AI Toys Ltd Table 3: Product related activities 1. Product development 2. Setup moulding machines 3. Moulding toys 4. Assembling toys 5. Customer deliveries 24 Lecture Example: AI Toys Ltd Identify major activities (includes the combination of minor activities into major activity pools) Costing activities by assigning cost (of resources) to activities (forming activity cost pools) Identify resource drivers Cost per resource driver = Cost of resource Quantity of resource driver Measure quantity of resource drivers consumed by activities Cost of each activity = Cost per resource driver*Quantity of resource driver 25 3.2.1 Stage One: Measuring cost of activities Resources : $ Resource Drivers Quantity of Resource Drivers Electricity 30,000 # Kilowatt hours (kwh) 250,000 Computer depreciation 10,000 # Computers 2 Salaries: product developers 50,000 # Product developers 2 Moulding machine depreciation 35,000 # Moulding machines 5 Salaries: employees 135,000 # Employees 25 Motor vehicle related costs 40,000 # Motor vehicles 4 Total cost of resources 300,000 26 Identify resource drivers Lecture Example: AI Toys Ltd Resources : $ Resource Drivers Quantity of Resource Drivers Cost per resource driver Electricity 30,000 # Kilowatt hours 250,000 $0.12 Computer depreciation 10,000 # Computers 2 $5,000 Salaries: developers 50,000 # Prod. developers 2 $25,000 Moulding mach. deprn. 35,000 # Moulding mach. 5 $7,000 Salaries: employees 135,000 # Employees 25 $5,400 MV related costs 40,000 # Motor vehicles 4 $10,000 Total cost of resources 300,000 27 Calculate cost per resource driver Cost per resource driver = Cost of resource Quantity of resource driver Lecture Example: AI Toys Ltd Calculate cost of each activity 28 Activity Pools Resource Consumption Cost per Resource Driver $ Cost per resource driver *qty of resource driver Activity Cost Product development 25,000 kwh 0.12 3,000 2 Product developers 25,000 50,000 2 Computers 5,000 10,000 63,000 Setup moulding mach. 2 Employees 5,400 10,800 10,800 Moulding toys 175,000 kwh 0.12 21,000 5 Moulding machines 7,000 35,000 5 Employees 5,400 27,000 83,000 Assembling toys 50,000 kwh 0.12 6,000 10 employees 5,400 54,000 60,000 Customer deliveries 8 Employees 5,400 43,200 4 Motor vehicles 10,000 40,000 83,200 Total overhead cost 300,000 Activity cost = Cost per resource driver * Quantity of resource driver Lecture Example: AI Toys Ltd 3.2 Two-Stage Process of Assigning Overhead Costs Using ABC Systems Stage One: Measuring the cost of activities Identify major activities (includes the combination of minor activities into major activity pools) Costing activities by assigning cost (of resources) to activities (forming activity cost pools) Involves both tracing and allocation using resource drivers. Stage Two: Assigning activity costs to products Identify activity drivers Calculate the activity cost per unit of activity driver Applying cost of activities to product 29 3.2.2 Stage Two: Assigning activity costs to products Identify activity drivers Calculate the activity cost per unit of activity driver Cost per activity driver = Cost of activity Quantity of activity driver Applying cost of activities to product Applying activity cost to product = Cost per activity driver * Quantity of activity driver 30 Calculate cost per activity driver 31 Activities Activity Costs Activity Drivers Quantity of Activity Drivers Cost Per Activity Driver $ $ Product dev. 63,000 # New features 9 7,000.00 Setup moulding machines 10,800 # Moulding setups 50 216.00 Moulding toys 83,000 # Moulding batches 75 1,106.67 Assembling toys 60,000 # Toys 60,000 1.00 Customer deliveries 83,200 # Deliveries 20 4,160.00 Cost per activity driver = Cost of activity (e.g., 83,200) Quantity of activity driver (e.g., 20) Lecture Example: AI Toys Ltd Lecture Example: AI Toys Ltd Applying cost of activities to product – taking the example of R-dog unit 32 Activity Activity Drivers Quantity of Activity Driver Cost Per Activity Driver ($) R-dogs ($) Product development # New features in development 4 7,000.00 28,000.00 Setup moulding machine # Moulding setups 20 216.00 4,320.00 Moulding toys # Moulding batches 50 1,106.67 55,333.50 Assembling toys # Toys 50,000 1.00 50,000.00 Customer deliveries # Deliveries 10 4,160.00 41,600.00 Total 179,253.50 Cost per activity driver*Quantity of activity driver = $10,800 X 20 set-ups (≈ 216) 50 set-ups Cost per activity driver*Quantity of activity driver = $10,800 X 20 set-ups (≈ 216) 50 set-ups Applying cost of activities to product – taking the example of R-dog unit 33 Activity Activity Drivers Quantity of Activity Driver Cost Per Activity Driver ($) R-dogs ($) Product development # New features in development 4 7,000.00 28,000.00 Setup moulding machine # Moulding setups 20 216.00 4,320.00 Moulding toys # Moulding batches 50 1,106.67 55,333.50 Assembling toys # Toys 50,000 1.00 50,000.00 Customer deliveries # Deliveries 10 4,160.00 41,600.00 Total 179,253.50 Lecture Example: AI Toys Ltd 34 R-dogs Activity Cost per unit of activity Driver Quantity of Activity Driver Activity Cost $ $ Product dev. 7,000 4 28,000 Setup moulding machines 216 20 4,320 Moulding toys 1,106.67 50 55,333.50 Assembling toys 1 50,000 50,000 Customer deliveries 4,160 10 41,600 Total Overhead cost 179,253.50 Prime Costs Direct Materials 0.50 50,000 25,000 Direct Labour 30.00 2,500 75,000 Total prime costs 100,000 Total product cost $279,253.50 Cost per unit $5.59 Lecture Example: AI Toys Ltd 3.2 Two-Stage Process of Assigning Overhead Costs Using ABC Systems 35 Cost Objects: R-dogs and R-cats Directly traced DL DM Prime Costs Product dev Setup M. Mach. DeliveringAssemblyMoulding Overhead Costs Salaries: Developers Computers MV Machine Depn Salaries: EmployeesElectricity ………Second Stage Allocation……… ………First-Stage Allocation……… Your turn! Required: Using ABC, calculate the cost of one unit of R- cats. 36 Lecture Exercise: AI Toys Ltd Activity Cost per unit ofactivity driver Quantity of activity driver Activity cost Product development Setup moulding machines Moulding toys Assembling toys Customer deliveries Total Overhead cost Prime Costs Direct Materials Direct Labour Total prime costs Total product cost Cost per R-cat Calculate: Cost of one R-cat Topic 2: Learning Objectives 38 1. Explain potential problems with using traditional (aka volume-based) costing systems. 2. Describe and apply the activity hierarchy of costs and cost drivers. 3. Use activity-based costing (ABC) systems assign costs to cost objects. 4. Evaluate the appropriateness of ABC. 5. Demonstrate the ability to apply Activity-based Management (ABM) 6. Understand the limitations of ABC. 4. When is ABC or VBC appropriate 1. (i) MOH costs are a significant proportion of total manufacturing costs; AND (ii) a significant proportion of MOH are driven by non-volume based cost drivers. – VBC not appropriate: allocates cost using volume-based cost drivers. 39Note: for ACCT2522, the significance threshold will be 10% of costs R-dogs R-cats ABCproduct cost VBC product cost Activity Costs $ $ $ Product development 28,000 35,000 63,000 Setup moulding machines 4,320 6,480 10,800 Moulding toys 55,333.50 27,666.75 83,000 153,800 Assembling toys 50,000 10,000 60,000 Customer deliveries 41,600 41,600 83,200 Total overhead cost 179,253.50 120,746.50 300,000 153,800 Prime Costs 100,000 20,000 120,000 120,000 Product cost 279,253.50 140,746.50 420,000 273,800 1. (i) MOH is a significant portion of manufacturing costs AND (ii) a significant proportion of MOH is non-volume driven (rounding) Yes(i) MOH/Total manufacturing cost: 153.8k/273.8k = 56.2%, 273,800 Note: for ACCT2522, the significance threshold will be 10% of costs Lecture Example: AI Toys Ltd R-dogs R-cats ABCproduct cost VBC product cost Activity Costs $ $ $ Product development 28,000 35,000 63,000 Setup moulding machines 4,320 6,480 10,800 Moulding toys 55,333.50 27,666.75 83,000 153,800 Assembling toys 50,000 10,000 60,000 Customer deliveries 41,600 41,600 83,200 Total overhead cost 179,253.50 120,746.50 300,000 153,800 Prime Costs 100,000 20,000 120,000 120,000 Product cost 279,253.50 140,746.50 420,000 273,800 1. (i) MOH is a significant portion of manufacturing costs AND (ii) a significant proportion of MOH is non-volume driven (rounding) Yes(i) MOH/Total manufacturing cost: 153.8k/273.8k = 56.2%, 93,800 (ii) Non-vol-based MOH/Total MOH: 93.8K/153.8k = 61.0%, Yes Use ABC! Note: for ACCT2522, the significance threshold will be 10% of costs Lecture Example: AI Toys Ltd 4.1 Proof of ABC being Superior to VBC: Allocating of MOH costs 42 R-dogs R-cats $ $ Total per unit Total per unit Direct Material 25,000 0.50 5,000 0.50 Direct Labour (rate x DL hrs) 75,000 1.50 15,000 1.50 Total overhead cost [$153.8k/(50k+10k) x units] 128,166.67 2.56 25,633.33 2.56 Total product cost 228,166.67 4.56 45,633.33 4.56 Using no. of units produced as a cost driver. 50K 10K 4.1 Proof of ABC being Superior to VBC: Allocating of MOH costs 43 Total MOH cost MOH cost per toy Cost per toy Using ABC, cost per toy Volume based cost drivers $ $ $ R-dog costs 128,166.67 2.56 4.56 R-cat costs 25,633.33 2.56 4.56 Activity based cost drivers R-dog costs 109,653.50 2.19 4.19 5.59 R-cat costs 44,146.75 4.41 6.41 14.07 Comparing based on MOH allocation: R-dogs is over-costed $4.56 > $4.19 R-cats is under-costed $4.56 < $6.41 High vol Low vol 4. When is ABC or VBC appropriate 1. (i) MOH costs are a significant proportion of total manufacturing costs; AND (ii) a significant proportion of MOH are driven by non-volume based cost drivers. – VBC not appropriate: allocates cost using volume-based cost drivers. 2. Product diversity: Products consume non-unit-level activities in proportions that differ substantially from unit-level activities. – Test: Consumption ratios of non-unit-level activities differ from the consumption ratio of unit-level activities 44Note: for ACCT2522, the significance threshold will be 10% of costs Unit-level activities80% 20% Non-unit-level activities 80%20% Activities Costs Total Activity Drivers R-dogs R-cats # Drivers Consumption Ratio # Drivers Consumption Ratio Product development 9 4 44.4% 5 55.6% Setup moulding machines 50 20 40% 30 60% Moulding toys Assembling toys Customer deliveries Unit level cost driver $153,800 60,000 50,000 83.3% 10,000 16.7% 4.2 Consumption Ratios 45 5/94/9 “the proportion of each activity consumed by a product” Consumption ratio: # activity drivers consumed by a product Total # activity drivers 30/5020/50 4.2 Proof of ABC being superior to VBC: Consumption Ratios Activities Costs Total Activity Drivers R-dogs (ABC) R-cats (ABC) # Drivers Consumption Ratio # Drivers Consumption Ratio Product development 9 4 44.4% 5 55.6% Setup moulding machines 50 20 40% 30 60% Moulding toys 75 50 66.7% 25 33.3% Assembling toys 60,000 50,000 83.3% 10,000 16.7% Customer deliveries 20 10 50% 10 50% 46 2. Product diversity: Products consume non-unit-level activities in proportions that differ substantially from unit-level activities Test: Consumption ratios of non-unit-level activities differ from the consumption ratio of unit-level activities Yes Use ABC! 4. When is ABC or VBC appropriate 1. (i) MOH costs are a significant proportion of total manufacturing costs; AND (ii) a significant proportion of MOH are driven by non-volume based cost drivers. – VBC not appropriate: allocates cost using volume-based cost drivers. 2. Product diversity: Products consume non-unit-level activities in proportions that differ substantially from unit-level activities – Test: Consumption ratios of non-unit-level activities differ from the consumption ratio of unit-level activities – VBC not appropriate: assume products consume non-unit-level activities in the same proportion as unit-level activities (as volumed-based cost drivers) 3. Non-manufacturing costs is a significant proportion of total product cost. – VBC not appropriate: does not allocate non-manufacturing costs 47Note: for ACCT2522, the significance threshold will be 10% of costs R-dogs R-cats ABCproduct cost VBC product cost Activity Costs $ $ $ Product development 28,000 35,000 63,000 Setup moulding machines 4,320 6,480 10,800 Moulding toys 55,333.50 27,666.75 83,000 153,8000 Assembling toys 50,000 10,000 60,000 Customer deliveries 41,600 41,600 83,200 Total overhead cost 179,253.50 120,746.50 300,000 153,800 Prime Costs 100,000 20,000 120,000 120,000 Product cost 279,253.50 140,746.50 420,000 273,800 4.3 Proof of ABC being Superior to VBC: Non-MOH vs total overhead costs 3. Non-manufacturing costs significant proportion of total product cost (rounding) Non-manufacturing/Total product cost=(63K+83.2K)/(420K)=34.8% Yes Use ABC! 1. (i) MOH costs are a significant proportion of total manufacturing costs; AND (ii) a significant proportion of MOH are driven by non-volume based cost drivers. – VBC not appropriate: allocates cost using volume-based cost drivers. 2. Product diversity: Products consume non-unit-level activities in proportions that differ substantially from unit-level activities – Test: Consumption ratios of non-unit-level activities differ from the consumption ratio of unit-level activities – VBC not appropriate: assume products consume non-unit-level activities in the same proportion as unit-level activities (as volumed-based cost drivers) 3. Non-manufacturing costs is a significant proportion of total product cost. – VBC not appropriate: does not allocate non-manufacturing costs 4. “Costs” associated with making inappropriate decisions based on inaccurate product costs are high. – Cost benefit analysis => VBC is associated with more costly errors. 49Note: for ACCT2522, the significance threshold will be 10% of costs 4. When is ABC or VBC appropriate Adapted LS p. 345 4. High costs associated with inaccuracy 4.4 Proof of ABC being superior to VBC: Costs due to inappropriate decisions Product Using VBC, cost per Using ABC, cost per $ $ R-dogs 4.56 5.59 R-cats 4.56 14.07 Based on VBC: Difference ($) Difference (%) R-dogs 1.03 18.4% R-cats 9.51 67.6% Yes Use ABC! (VBC-ABC) ABC Summary: Should AI Toys use ABC 1. (i) MOH is a significant portion of manufacturing costs AND (i) a significant proportion of MOH is non-volume driven a) MOH/Total manufacturing cost: 153.8k/273.8k = 56.2% b) Non-vol-based MOH/Total MOH = 93.8k/153.8k = 61.0% 2. Product diversity: Products consume non-unit-level activities in proportions that differ substantially from unit-level activities 3. Non-manufacturing costs is a sig proportion of total product cost – (Prod. dev.+ Cust. del.)/ Tot product cost = $146.2k/420k = 34.8% – VBC does not allocate non-manufacturing costs 4. High cost associate with inaccuracy Costing method VBC ABC Diff R-dogs $4.56 $5.59 22.6% R-cats $4.56 $14.07 208.6% ABC Yes ABC Yes ABC Yes Activities Drivers Consumed R-dogs R-cats Product development 44.4% 55.6% Setup moulding machines 40% 60% Moulding toys 66.7% 33.3% Assembling toys 83.3% 16.7% Customer deliveries 50.0% 50.0% Consumption ratios differ from unit-level ones ABC Yes Cost vs Benefit! Topic 2: Learning Objectives 52 1. Explain potential problems with using traditional (aka volume-based) costing systems. 2. Describe and apply the activity hierarchy of costs and cost drivers. 3. Use activity-based costing (ABC) systems assign costs to cost objects. 4. Evaluate the appropriateness of ABC. 5. Demonstrate the ability to apply Activity-based Management (ABM) 6. Understand the limitations of ABC. 5. Activity-Based Management (ABM) LO5 53 “Using information from activity- based costing to analyse activities, cost drivers and performance so that customer value and profitability are improved” LS p. 725. Reference: LS Chapter 16 p. 724-725 Topic 2: Learning Objectives 54 1. Explain potential problems with using traditional (aka volume-based) costing systems. 2. Describe and apply the activity hierarchy of costs and cost drivers. 3. Use activity-based costing (ABC) systems assign costs to cost objects. 4. Evaluate the appropriateness of ABC. 5. Demonstrate the ability to apply Activity-based Management (ABM) 6. Understand the limitations of ABC. 6. Limitations of ABC (LO6) Facility level costs – If allocated, an arbitrary allocation base is used – If not allocated, the cost must still be recouped “Unitised costs” (Use of average costs) Incorporated in cost per unit includes batch-level, product-level, and facility level cost that does not vary with no. of unit produced. Complexity – Detailed data collection and recording – Constant updating required if company is changing rapidly Behavioral issues when implementing ABC 55 56 Review Questions 1. Why would a sales manager wanting to drop a profitable product be an indication of an outdated product costing system 2. Which of the following are batch level costs if the cost objective is a meal in a cafe a) Cost of cleaning the kitchen b) Cost of pouring milk and performing latte art c) Cost of baking cupcakes 3. Identify the three types of cost drivers adopted in an ABC system and discuss their differences. 4. Which of the following support the adoption of ABC systems a) MOH costs are 10% or more of total manufacturing costs. b) 10% or more of MOH are driven by non-volume based cost drivers. c) If both (a) and (b) are true 5. What do you understand by activity-based management 57 Review Questions 6. The consumption ratios in the table are similar and therefore VBC should be used. True or False 7. Which of the following are limitations of ABC systems a) They require significantly more data than VBC systems. b) They require extensive updating if the product range changes. c) They exclude facility level costs which reduce the accuracy of cost per unit. 58 Guidance to Review Questions 1. See probable cause as indicated in the first row of Exhibit 8.1 2. (c) – baking activity is performed for a tray (i.e., batch) of cupcakes and the cost of baking does not vary whether you have one cupcake or 20 on the tray. (a) is a facility level cost, and (b) a unit level cost. 3. See definitions provided on LS p. 335. 4. (c) – if (a) is true, ABC is only potentially more accurate than VBC given the sig proportion of MOH costs. If (b) is false and <10% of MOH costs are driven by vol-based cost drivers, ABC is not substantially more accurate than VBC but more costly to adopt. 5. See explanation on LS p. 725 for a starting point. 6. False: Although the consumption ratios for the non-volume based activities are similar for each product, they are substantially different from the consumption ratio of the unit level activity. 7. (a) and (b): see slide on limitations. (c) is incorrect – ABC systems generally include facility level costs but accuracy is not improved. Topic 2: Learning Objectives 59 1. Explain potential problems with using traditional (aka volume-based) costing systems. 2. Describe and apply the activity hierarchy of costs and cost drivers. 3. Use activity-based costing (ABC) systems assign costs to cost objects. 4. Evaluate the appropriateness of ABC. 5. Demonstrate the ability to apply Activity-based Management (ABM) 6. Understand the limitations of ABC. Next week… Topic 3: Standard Costing and Variance Analysis 60