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ACTIVITY BASED COSTING-ACTIVITY BASED COSTING-PRACTICAL APPLICATIONSPRACTICAL APPLICATIONS
By
Parmit Choudhury (08BS0002164)Rishabh Gutgutia (08BS0002691)Rahul Chandalia (08BS0002495)
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What is ABC?What is ABC? Activity based costing is an accounting
methodology that assigns costs to activitiesrather than products or services
This enables resource and overhead costs to be
more accurately assigned to the products andthe services that consume them
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3
Activity-Based CostingActivity-Based Costing
Traditional allocation method
Activity-based allocation method
Cost
s
Product
s
Costs
ProductsActivities
First stage Second stage
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Why use Activity-Based-Why use Activity-Based-CostingCosting Understand TRUE profitability of our customers,
products, or services Quantify the cost of non-value added activities
such as errors and reworks Identify opportunities to reduce costs and/or
increase efficiency Obtain actionable information to negotiate price
increases for unprofitable clients Understand why profitability may be mediocre
despite good strategic fundamentals Stratify overhead costs so they can be managed
more effectively
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Difference Between Traditional andDifference Between Traditional andABCABC
ABC
ABC systems accumulatecosts into activity costpools. These are designedto correspond to the majoractivities or businessprocesses.
ABC systems allocate coststo products , services, andother cost objects from theactivity cost pools usingallocation basescorresponding to costdrivers of activity costs.
Relatively expensive toimplement and maintain.
Traditional
Traditional costing systemsaccumulate costs intofacility-wide ordepartmental cost pools.
Traditional systems allocate
costs to products usingvolume-based allocationbases: units, direct laborinput, machine hours.
Inexpensive to implement
and maintain.
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ContdContd
ABC
Focuses on estimating the costsof many cost objects ofinterest: units , batches,product lines, businessprocesses, customers, andsuppliers.
Because of the ability to align
allocation bases with costdrivers, provides moreaccurate information tosupport managerial decisions.
Allows for non-linearity of costswithin the organization byexplicitly recognizing that
some costs are not caused bythe number of units produced.
Traditional
Focuses on estimating thecost of a single cost objectunit of product orservice.
Because of the inability toalign allocation bases with
cost drivers, leads toovercosting andundercosting problems.
Generally estimates all of thecosts of an organization asbeing driven by the
volume of product orservice delivered.
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ABC-Steps toABC-Steps toImplementationImplementation
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Steps to implementationSteps to implementation
Identify the Resources (expenditures) of anorganization
Determine Activities (work performed) thatare supported by Resources
Define Cost Objects (products, services,customers)
Develop Resource Drivers to link Resourcesto Activ ities
Develop Cost Drivers to link Activities toCost Object s
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XYZ Ltd plans to use activity based costing to determine it product costs . Itpresently , uses a single factory overhead rate for allocating factory overheadto products , based on direct labourhours . The total factory overhead cost is
as follows .
Department Factory Overhead(Rs)
Production Support 1225000
Production (Factory
Overhead only)
175000
Total Cost 1400000
Production SupportActivities
Budgeted Cost(Rs)
Set up 428750
Production Control 245000
Quality control 183750
Material Management 367500
Total 1225000
Major activities in the production support department
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Product A Product B Product C Total
Number OfUnits
10000 2000 50000 62000
Direct labour
hours
25000 10000 140000 175000
Setups 80 40 5 125Productionorders
80 40 5 125
Inspections 35 40 0 75
Materialrequisitions
320 400 30 750
Other details
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TRADITIONAL ABSORPTION COSTING METHOD
Recovery rate = total overheadstotal number of direct labour hours
1400000175000 = Rs 8 / labour
hour
A B C
No of labour hours 25000 10000 140000Recovery rate 8 8 8
Total production overhead byeach unit
200000 80000 1120000
No of units produced 10000 2000 50000
Factory overhead cost perunit(Rs)
20 40 22.4
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ACTIVITY BASED COSTING APPROACH
Set up Production
control
Quality
control
Material
managementTotalcosts(a)
428750 245000 183750 367500Cost Drivers No of set ups Production
ordersInspections Material
requisitionsNo ofunits(b)
125 125 75 750
Activity Rate
(a/b)
3430 1960 2450 490
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A B C
Set up cost 80 * 3430= 274400
40*3430=137200
5* 3430=17150Production control 80* 1960
=156800
40* 1960
=78400
5* 1960
=9800Quality control 35*2450=85750 40*2450=98000 0 *2450=0Material management 320* 490=156800
400* 490=19600
30 * 490=14700Production
(Factory overhead only)(175000/175000 =1 )
25000*1=25000
10000*1=10000
140000*1= 140000Total Overhead Cost 698750 519600 181650
No of units 10000 2000 50000
Overhead cost /unit(ABC) 69.87 259.8 3.633
A B C
Overhead cost/unit
(Traditional method)
20 40 22.4
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ABC model for aABC model for aUniversityUniversity
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nnual Accounting Department Costsomparison of Traditional and ABC CostReportingTraditional ABC
Faculty Salary Research
Other avenues ServiceResearch Teaching by program
Admin. Exp PPA
Infrastructure cost BBA
Travel MBA
Events Ph.D
Misc Unused Capacity
Total Total
Efficiency informationEfficiency information
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Traditional costing gives information aboutthe costs of resources being supplied.
ABC perspective on the same data providesinformation about what the collegesconstituents are getting for their money.
The problem of measuring the contributions
of departments to programs is solved. Cost of unused capacity .
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Annual total cost per studentas per ABC costing (Rs )
M B A P h . D C P A
Accounts Dept CostAllocated 1727 1935 17529
Infrastructure cost 1311 2227 13300
Support Dept Cost
Support Staff 3729 6821 2355
Space 2579 4948 1060
Total Cost 9346 16931 34244
Disparity among variousDisparity among various
departmentsdepartments
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Help estimating the amount of financial aid. In governments and not-for-profits
organizations, expenditures must be linkedto specific institutional objectives.
Level of expenditures must be assessed inrelation to the priority assigned to thoseobjectives.
Cost data necessary to assure consistencybetween expenditures and objectives.
No comparable mechanism to detect androot out inefficiencies.
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Support Staff cost per student per programProgram No. of Students Cost per student
MBA ### ###
BBA ### ###
Ph.D ### ###
Space cost per student per program
Program No. of Students Cost per Student
MBA ### ###BBA ### ###
Ph.D ### ###
Support costsSupport costs
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ThankThank
youyou