Requirements
Discuss the advantages and disadvantages of using an Activity Based Costing (ABC) over other costing systems. Also identify at least one company that uses ABC and describe how it benefits the company.
Introduction
This paper has been formulated in order to determine the basic nature of Activity Based Costing, its advantages and disadvantages. These points are further elucidated by a case study of a Taiwanese hot spring country inn’s implementation of the ABC system.
What is Activity Based Costing
The Activity-Based Costing theory started in 1987 by Robert S. Kaplan and W. Bruns as a better alternative to the traditional costing method. It has activities as the fundamental cost objects and assumes that activities cause costs and that cost objects create demands for the activities.
A traditional costing system uses a single, volume based cost driver. In most cases the traditional system assigned the overhead cost to products on the basis of their usage of direct labor. For this reason traditional cost systems often yields inaccurate product costs and becomes inadequate in terms of calculating true cost to produce specific products for specific customers. ABC system was developed to overcome the shortcomings of the traditional method by using many cost drivers to allocate a indirect costs instead of just using one cost driver such as machine hours.
ABC system uses a different approach and allows improvement on the control of overheads by cost/cause relationships that are activity and cost. This flexible system is able to relate costs to not just products but also customers, processors, management responsibility. It is a system that focuses on activities as the basic cost objects and uses the costs of these activities as building blocks for compiling the costs of other cost objects. The use of an ABC system can also assist a company to establish