Appendix C

Activity-Based Costing

QUESTIONS

1. Manufacturing overhead costs cannot be directly traced to units of product like direct materials and direct labor. Assigning overhead costs to units of product requires some sort of allocation on some “reasonable” basis.

2. In the first stage, service department costs are assigned to operating departments. In the second stage, a predetermined overhead rate is computed for each operating department and used to assign overhead to output (or jobs or products).

3. Operating departments are directly involved in manufacturing or selling the products or services of a business. Service departments support operating departments through activities such as accounting, payroll, and legal services.

4. Activity-based costing (ABC) is a method for allocating shared costs among departments or products. It is especially common for overhead allocation. The goal of ABC is to provide reliable information about costs and their sources. One advantage of ABC is that it forces managers to examine the behavior of cost drivers and cost levels, with the result that costs are more likely to be managed effectively.

5. Anything to which costs would be assigned is considered a “cost object.” Common cost objects are units of product, product lines, departments, activities, and projects.

6. An activity cost driver is the measure of the activity that causes costs to be incurred. For instance, the activity driver for the activity “printing checks” might be number of checks printed.

7. Activity-based costing is typically used when a company produces many different and complex products or when products are directed at many different types of customers.

8. Typical activity cost pools include: purchasing, order processing, accounting, engineering, factory maintenance, and legal services (other answers are possible).