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CHAPTER FIVE
Activity-Based Costing
This chapter revisits the problems of overhead application, which leads to
a discussion of activity-based costing (ABC). Assigning overhead to
products and services using traditional allocation methods and volume–
Key Concepts
• Activity-based costing allocates costs based on activities that drive
overhead rather than simple volume or unit-based measures.
Learning Objectives
LO1— Classify overhead costs as unit, batch, product, or facility level
LO2— Describe ABC and recognize typical activities and cost drivers in an
ABC system
Instructor’s Manual
Lecture Outline
A. Unit-, Batch-, Product-. and Facility Level Costs (LO1)
o Unit-level costs vary with every unit produced or the volume
manufacturing processes
B. Activity Based Costing (LO2)
1. Stage 1—Identification of Activities
2. Stage 2—Identification of Cost Drivers
o Cost drivers should cause or drive the incurrence of costs.
3. ABC Systems in Nonmanufacturing Environments
o ABC is used extensively in the service sector.
o ABC determines the total cost of a product or service. It is
also used to determine the cost of a particular activity
Key Concept
Activity-based costing allocates costs based on activities that drive
Chapter 5- Activity-Based Costing
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C. Traditional Overhead Allocation and ABC – An Example (LO3)
1. Benefits
o ABC systems provide more accurate cost information.
o ABC systems enhance day-to-day decision-making ability.
Key Concept
Volume-based costing systems often result in overcosting high-volume
Key Concept
Although there are common activities that drive overhead cost, every
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Instructor’s Manual
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2. Limitations
o ABC systems require high measurement costs.
o ABC System is not useful for non-diversified companies.
End-of-Chapter Material
This chapter explains the concept of Activity based costing and allocation of