Chapter 3A: ABC Systems

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• Chapter 35

Activity Based Systems
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Why Do We Allocate Costs?

• GAAP requires full cost information
• To make decisions of pricing, expansion, product
  dropping, cost-plus contracts, etc.
• Make managers conserve resources
• Create incentives for evaluating efficiency of
  fee based company services

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Cost Allocation Process

• Three Steps
• Identify the cost objects
• Form cost pools
• Select an activity base that best drives the cost
  pools

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What is a Cost Object?

• A product, job, service provided, or department
  that will receive a portion of a cost allocation
• Something for which we want to know its cost

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What is a Cost Pool?

• A grouping of individual costs whose total is
  allocated using one allocation base
• Often based on departments
• Usually consists of both variable and fixed costs
• Sometimes called a cost bucket

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What is an Activity Base?

• An activity that causes the cost pool to
  increase
• Often called a cost driver because more of the
  activity drives a cost up

of DL Hours
of packages
of Customers
Products
Activity Bases
Amt. of DL
of Employees
Cost Objects
Sq. Feet
of Customers
of Inspections
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Criteria Used When Selecting Allocation Bases

• Problem Identifying a relationship with indirect
  fixed costs is not feasible

Relative Benefits

• To allocate more costs to the cost objectives
  that benefit most from incurring the cost
• To allocate more costs to most profitable
  products
• To allocate fairly and equitably

Ability to Bear Costs
Equity
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