Managerial Accounting: An Introduction To Concepts, Methods, And Uses Chapter 3 Activity-Based Management Maher, Stickney and Weil

Learning Objectives (Slide 1 of 2) Identify strategic and operational uses of activity-based management. Differentiate between traditional cost allocation methods and activity-based costing. Understand the concept of activity-based costing. Identify the steps in activity-based costing.

Learning Objectives (Slide 2 of 2) Apply activity-based management and costing to marketing. Use the cost hierarchy to organize cost information for decision making. Distinguish between resources used and resources supplied, and measure unused resource capacity. Explain the difficulties of implementing advanced cost-management systems.

Activity-based Costing and Management (ABCM) (Slide 1 of 5) ABCM rests on this premise: Products require activities Activities consume resources

Activity-based Costing and Management (ABCM) (Slide 2 of 5) 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 (ABCM) (Slide 3 of 5) 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 (ABCM) (Slide 4 of 5) 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 (ABCM) (Slide 5 of 5) 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 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 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 are groups of costs Three major types of cost pools: Plant (traditional) Department (traditional) Activity center (activity-based costing)

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 (ABC) Assigns costs first to activities Then to products based on each product’s use of activities

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 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 Examples Activity Category Plant Mgmt & Depr Capacity Customer Product Batch Unit Examples Plant Mgmt & Depr Mkt Research Product Specs & Testing Machine Setups Direct Materials

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

Dr. Donald R. Trippeer, CPA Colorado State University-Pueblo If you have any comments or suggestions concerning this PowerPoint Presentation for Managerial Accounting, An Introduction To Concepts, Methods, And Uses, please contact: Dr. Donald R. Trippeer, CPA donald.trippeer@colostate-pueblo.edu Colorado State University-Pueblo