Question

Compare the traditional costing system to the ABC system and Recommend, with reasons, which of the two costing systems is most appropriate for the airline sector?write 500 to 800 words and a conclusion that which is the best in between the two!

Answer 1

COMPARISON BETWEEN THE TRADITIONAL METHOD OF COSTING AND ABC SYSTEM:

*Under traditional method the general fixed overheads are allocated to various departments on the basis of a single overhead recovery rate usually based on the direct labor hours or machine hours. after this to bring more light on this departmental rate came up in which the manner of allocation of cost in different departments were different i.e., the bases for allocation of fixed expenses to be different in different departments.

Under ABC costing the fixed overheads are allocated on the basis of ACTIVITIES and not on a common basis. this helps to identify the minute details of the cost incurred in business especially the cost of fixed nature.

* Under traditional costing the cost is entirely based on one BASE. if of one department the direct labor hours are high and of other the machine hours are high then it will be very difficult to allocate the cost on the basis of single rate.

under ABC the above problem does not arises as it already allocates the cost based on activities and thus minute detailed analysis of where the cost is being incurred.

*The traditional method is very economical in terms of time, money and  effort involved. as only one rate is to be worked out for allocation of general cost.

under ABC method more of time, money and efforts are involved. As many cost driver rates are worked out in order to have minute and detailed analysis of cost for correct allocation of cost.

*Traditional method is basically used for the companies producing single product. multi product and multi divisional enterprises should usually prevent this kind of method of allocation of cost.

ABC method is used for multi division and multi product organizations.

*Traditional as the word suggests is the old method, where minute analysis of general cost was not conducted.

ABC method is new and modern method of allocation of cost where the genral cost's bifurcation is entailed in detail for efficient decision making (pricing in multi product companies, making and outsourcing decision, analysis of customers, analysis of products based on higher profit etc.)

APPROPRIATE METHOD FOR AIRLINE SECTOR

Airline sector provides a bunch of activities : travelling and food. so basically both of them are to be accounted for making decision for cost allocation. The general cost like salary to staff will have to allocated on the basis of cost diver effecting th esalary or the factor responsible such person's salary.

ABC will break up all the costs on the basis of various cost drivers. this will further help the airline industry, in knowing as to which cost is required to be controlled the cost related to food or travelling or serving cost. This method of cost allocation will help in much more detail as to which department or which customer ( economy class or business class) will accrue more benefit to the company.

THUS IT IS RECOMMENDED FOR AIRLINE INDUSTRY TO OPT FOR ABC METHOD FOR COST ALLOCATION.