Dutchess Community College
ACC 204 – Managerial Accounting
Quiz Prep Chapter 4
Activity-Based Costing
Peter Rivera
February 2007
Disclaimer
This Quiz Prep is provided as an outline of
the key concepts from the chapter.
It is not intended to be comprehensive or
exhaustive.
Quizzes may include material from the
classroom lectures, the text or the homework
assignments.
ACC 204 Chapter 4
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Traditional vs. Activity-Based Costing
Traditional Costing
There is one predetermined overhead rate for
everything.
Activity-Based Costing
There are two or more activities each with its
own overhead cost pool and cost driver.
4 Steps for ABC
1 – Identify Activities & Allocate Overhead
Costs to Cost Pools
2 – Identify Drivers
3 – Compute Overhead Rate for Each Activity
4 – Assign Overhead Costs to Products
ACC 204 Chapter 4
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Identify Activities & Allocate Overhead
Costs to Cost Pools
An analysis of the factory process determines
that there are 2 activities with the following
overhead costs identified to them:
Overhead
Costs
Re-Tooling
Machines
Machining
Total
$ 300,000
$ 700,000
$ 1,000,000
4 Steps for ABC
1 – Identify Activities & Allocate Overhead
Costs to Cost Pools
2 – Identify Drivers
3 – Compute Overhead Rate for Each Activity
4 – Assign Overhead Costs to Products
ACC 204 Chapter 4
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Identify Drivers
The Drivers have been identified as
# of Re-Toolings and Machine Hours.
# of Re-Toolings
Product Product
A
B
50
10
Machine Hours
500
1,500
Total
60
2,000
4 Steps for ABC
1 – Identify Activities & Allocate Overhead
Costs to Cost Pools
2 – Identify Drivers
3 – Compute Overhead Rate for Each Activity
4 – Assign Overhead Costs to Products
ACC 204 Chapter 4
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Compute Overhead Rate for Each Activity
Overhead
Costs
Re-Tooling
Machines
Machining
Total
÷ Drivers
= Overhead
Rate
$ 300,000
60
$ 5,000
$ 700,000
$ 1,000,000
2,000
$ 350
4 Steps for ABC
1 – Identify Activities & Allocate Overhead
Costs to Cost Pools
2 – Identify Drivers
3 – Compute Overhead Rate for Each Activity
4 – Assign Overhead Costs to Products
ACC 204 Chapter 4
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Assign Overhead Costs to Products
Costs are assigned to each product by multiplying
the activity overhead rate by the activity driver.
Re-Tooling
Machines
Machining
Total
Product
A
Product
B
($5,000 * 50)
($5,000 * 10)
250,000
50,000
($350 * 500)
($350 * 1,500)
175,000
425,000
525,000
575,000
Total
300,000
700,000
1,000,000
Benefit vs. Cost
The larger the number of overhead cost pools used,
the more accurate a cost estimate you can calculate
leading to better decisions.
but
The larger the number of overhead cost pools used,
the greater the burden to set-up and maintain.
Also, one or more costs may still need to be
arbitrarily allocated.
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Benefit vs. Cost
Use ABC when:
• Overhead costs are large proportion of total costs
• Product lines
• differ in volume and manufacturing complexity
• are numerous, diverse, and require differing
degrees of support
• The manufacturing process or the number of
products has changed significantly
• Decision makers ignore the current cost estimates.
4 Classifications of Activity Levels
There are 4 activity levels:
1 – Unit
Examples: Machining, assembling
2 – Batch
Examples: Equipment Set-ups, purchase orders
3 – Product
Examples: design, engineering changes
4 – Facility
Examples: Management salaries, Plant depreciation
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Value-Added vs. Non-Value-Added Activities
Value-Added Activities
Increase the worth of a product or service.
Examples: engineering, design, manufacturing
Non-Value-Added Activities
only add costs to the product or service
Examples: Purchasing, Bookkeeping, Machine Set-up
Value-Added vs. Non-Value-Added Activities
Rule-of-Thumb: If you as a consumer care about it
when you buy the good or service, then it is a
Value-Added Activity.
Otherwise, it is a Non-Value-Added Activity.
So what…..?
As a manager you should seek to improve your
process to minimize non-value added activities.
ACC 204 Chapter 4
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