Activity Based Costing - Essay Example

Activity Based Costing al Affiliation) Memorandum CEO Cost Accountant RE: Analysis of ABC as compared to traditional methods of costingIntroductionActivity Based Costing is a technique that uses cost estimates in the development of a project. It divides it into quantifiable and discrete activities (Lawrence, 2004). Traditional volume-based costing methods concerns the cost, specifications, and scope for each job order. The conventional methods allocate a company’s indirect costs based on the volume of items manufactured.

DiscussionDevelopment of ABC has led to a positive change in productivity. This is due to its ability in the identification of inefficient products, allocation of more profits on resources, and cost reduction. Conventional costing methods have caused problems in their implementation in most companies. This is because of the constant change in technological advancement which requires the use of modern methods of costing. The use of the ABC system creates difficulties in the separation and allocation of some overhead costs on a product unit.

For instance, the Chief Executive Officer’s salary does not provide the management with the appropriate reports on costs. The ABC method allocates business cost on a proportionate basis to products or based on assumptions (Lawrence, 2004). This makes inaccurate reports on costs to be generated to the management. Some of the traditional methods of costing ensure accuracy of information which can lead to a competitive advantage. ABC is a costly method as compared to the traditional methods, but it is the most efficient.

ConclusionIn planning implementation of ABC method, it is important to identify key purposes of the information that the method will provide. A well designed ABC method can form the basis of improved budgeting and capacity of resource planning (Lawrence, 2004). Organizations need to understand their cost structures and have a cost management system that supports the understanding. Effective management of both ABC and the conventional methods may have greater profitability to the company. ReferenceLawrence, W. B. (2004).

Cost accounting (4th ed.). New York: Prentice-Hall.