Plantwide and Department Allocation Methods within an Activity Based Costing System - Essay Example

Activity Based Costing System Activity Based Costing (ABC) is a cost-management tool where the center of attention is on the specific work activitiesperformed in an organization. It focuses on how the work is done and how much each activity costs. The ABC system also identifies whether the activity is value-adding or non-value adding to the whole operations of the company. In short, it is a system of assigning costs to products or services based on the resources that they consume (Hindle, 2003).

Once activities have been identified in the business processes of producing goods or services, activity cost pools are assigned. Costs are first allocated from resource cost pools such as plant wide and department cost allocations. The resource cost pools may associate materials and labor costs. Second, resource drivers are identified. Resource drivers are also called cost drivers that measure the consumption of resources by an activity and assign costs to such consumption. The result of the assignment is an activity cost pool for each activity.

Plant wide and department allocation methods are derived from the allocation of overheads to production and service departments and then reallocating service departments cost to production departments in order to obtain the plant wide cost allocation. On the other hand, the ABC system assigns overheads to each major activity instead of departments. Therefore, the plant wide and department cost allocations are primarily used during identification of resource drivers and assignment of costs of resource consumption by an activity.

However, because of the complexity and large number of cost centers needed in an ABC system, plant wide and department allocation method are still widely used in performance measurement. The ABC system is utilized in strategic decision making processes such as pricing, cost reduction, and customer profitability (Drury, 2001).BibliographyDrury, C. (2001). Management Accounting for Business Decisions (2nd ed.). London: Thomson Learning.Hindle, T. (2003). Guide to Management Ideas. London: Profile Books Ltd.