ACTIVITY-BASED COSTING
*Normal costing uses only one cost driver as the application basis for all overhead costs (e.g. FOH cost per
labor hour, ignores other possible cost drivers such as machine hours and material cost). To avoid that
disadvantage, businesses who accept job orders may use activity-based costing (ABC).
*Activity-based costing allows entities to charge job orders their respective overhead costs by applying
overhead rates based on multiple cost drivers.
SAMPLE PROBLEM:
ABC Corporation has the budgeted overhead
Cost Description
Cost Amount
Order Acceptance
P 480,000
Equipment Set-up
1,000,000
Material Requisition
2,000,000
Pre-delivery Inspection
600,000
Depreciation and other OH
3,000,000
costs and capacities for the year:
Capacity
96,000 orders
125,000 set-ups
200,000 requests
120,000 inspections
900,000 machine hours
If an order would require two set-ups of equipment, four material requisitions, two pre-delivery inspection,
and twelve machine hours, how much overhead cost should ABC record for the order?
SOLUTION:
Cost Description
Order Acceptance
Equipment Set-up
Material Requisition
Pre-delivery Inspection
Depreciation and other
OH
Cost
Amount
P 480,000
1,000,000
2,000,000
600,000
3,000,000
Cost Description
Order Acceptance
Equipment Set-up
Material Requisition
Pre-delivery Inspection
Depreciation and other OH
Total overhead cost
Capacity
Cost/Driver
96,000 orders
125,000 set ups
200,000 requests
120,000 inspections
900,000
machine
hours
P5/order
P8/ set-up
P10/request
P5/inspec.
P3.33/MH
Cost/Driver
A
P5/order
P8/ set-up
P10/request
P5/inspec.
P3.33/MH
Capacity Required
B
1 order
2 set ups
4 requests
2 inspections
12 machine hours
OH Cost
(AxB)
P 5
16
40
10
40
P111