Activity-Based Costing Powerful Tool for Organisation

Question: Describe about the Activity-Based Costing for Powerful Tool for Organisation. Answer: Activity-based Costing (ABC) is a powerful tool for an organization to have an accurate and effective cost For its product avoiding cost distortion that may lead sustainable development and growth which is mandatory to be competitive in the era of globalization and complex business environment(Hussain, 2015) In the era of globalization, where the companies face tough competition and the fight is over a very thin profit margins has increased the need for accurate costing. ABC costing today therefore has become a strategic tool rather than just a costing system, especially for those companies who have a big product line. ABC costing it helps company in avoiding cost distortion because of cost distortion the actual value of the service of a department used by a product cannot be calculated and it becomes hard to take decision. ABC costing has now resolved this problem for companies it creates cost pools and assigns different cost drivers to those pools so that departmental cost can easily be calculated, further it helps in eliminating non-value adding processes by providing a complete view of the whole process. Many leading companies are now using ABC costing system as it has become need of today such as Nestle Bangladesh, Novartis, GSK(Hussain, 2015) and are enjoying great competitive advantages from it. To understand ABC costing suppose a company which has two departments Fitting and Painting and manufactures two products A B, the total labor Hours of the company are 250 is the further data is as follow Department Fitting Painting Product A (Hrs. used) 3 2 Product B (Hrs. used) 4 7 Total Depart cost 5000 15,000 labor Hours 100 150 As Per Traditional Method FOH rate = Total cost / total Labor Hours = 20000/250 = 80 per hour Therefore Product cost Product A (Cost per unit) 400 Product B (Cost per unit) 880 But if we look at ABC system Product Fitting Painting Total Product A (Cost per unit) 150 200 350 Product B (Cost per unit) 200 700 900 From this example it can easily be understood that product A in traditional system has to bear a cost 400 because fixed overhead rate is used and its impossible to allocate any cost based on department basis, but if we look at ABC system the cost has changed to 350 this is because of allocation in ABC system. It allocates it according to the cost driver. If a company uses this data in decision making scenario will be totally different because company will now bear a cost which is 50 less than the traditional system and can gain competitive advantage in the market. Implementing an ABC system can sometimes become a real hectic also. It requires commitment from top management to enforce it, people in the organisation are hesitant in adopting a new system. The cost of implementation is also high specially the training cost as you need to train people accordingly for eg the chief accountant of Nestle Bangladesh Ltd. was trained from China for 3 years(Hussain, 2015). Another problem is the decision of which department should be treated as a cost centre and which should not be all these can really mess up sometimes and the company might stand in the middle of nowhere. But if we compare the cost of implementation to advantages it is worth investing in ABC system because once the system is implemented the company enjoys a competitive edge in the market and the costing of the company becomes more effective and accurate which helps in decision making and offering a competitive price to customers. References Hussain, I. M. (2015). Activity Based Costing- an effective tool for better managment . research journal for finance accounting .