Traditional Absorption Costing versus Activity Based Costing Assignment

Traditional Absorption Costing versus Activity ground Costing - Assignment ExampleIn fact Geri and Ronen (2005) indicate that cost accounting systems do not normally command a high ranking in the hierarchy of most organisations, it is the information that they generate that plays a critical role in the performance of organisations and in the decision making process. The range of systems available and the claims made by the proponents of each experience led to several debates. However, both(prenominal) of the arguments have some merits in as much as they allow for a better understanding of the methods that be being utilised. Some of the techniques and systems in use are of traditional management accounting domain while others are of the more recent strategic management accounting domain. Some of the criticisms that have been put forward in relation to traditional systems are that they fail to provide the necessary information that would improve the strategic decision making proces s (Johnson and Kaplan, 1987 Bromwich and Bhimani, 1989 Roslender and Hart, 2003). Suggestions like these are ground on the perceived inability of the traditional systems to provide information that would make the organisation more competitive and therefore improve long run performance. In fact, Benjamin et al (2009) indicates that the inefficiencies of traditional systems especially in the area of absorption costing in coping with modern business environments have been of great concern. The gaps that are thought to exist as well as changes in the manufacturing industry including the move from being labour intensive to being capital intensive have provided the impetus for innovation in this very critical area of business (Benjamin 2009 Chenhall 2003 Lukka and Shields 1999). Johnson and Kaplan (1987) indicate that this change can be found in the application of first rudiment to manufacturing concerns. This paper looks at two forms of full costing systems - traditional absorption cos ting and the more recent activity based costing (ABC). Both methods tell apart a different approach in assigning cost to products. 1.1 Absorption costing Absorption costing has it roots in the manufacturing industry (Benjamin et al 2009). BPP (2011) indicates that the intent of this method of costing is to include an appropriate share of an entitys overheads in the cost of a product. What is appropriate should be reflective of the time and effort that was apply in the production of the product. The method becomes complicated when an organisation produces a mix of products and activities or resources used do not bear any relationship with the lot of items produced. Geri and Ronen (2002) indicates that the use of this method requires the allocation of a proportional rate of the fixed cost of production to units produced but which has not yet been sold (Geri and Ronen 2005). 1.2 Activity Based Costing Activity based costing (ABC) was developed as an alternative to absorption costin g. (BPP 2011). This method of costing identifies the cost drivers of the activities of an entitys production process. Overheads are consequently charged to products based on how they utilise a particular activity. 2.0 Literature Review This review while critically assessing the literature examines the features of two costing methods and looks at the justification for their use. It also provides a comparison while it examines the advantages and disadvantages of using