Question

Give two examples of situations in which it may be challenging to classify costs. Critically evaluate the role that Activity-Based Costing can play in cost classification.?

Answer 1

examples of situations in which it may be challenging to classify costs are as follows :-

1) Various utilities used by the workers to produce the goods are normally an indirect cost. Similarly, if a company is producing every components of certain product, Then the costs which are associated with producing the goods has to be traced specifically to the products. Here the determination of all the indirect costs which are involved in the production is a huge challenge due to which they're not often identifiable.

2) If a company is producing multiple goods or services, Then Tracing of costs assosiated with each goods or services becomes more complex when the company incurre a cost. Its a huge challenge for the company to Estimate the percentage utility expended towards producing a specific product.

example :-

if Company X uses a manufacturing facility to produce its final product for additional 6 hours per week than Company Y, Then Company X may incure a big portion of the Power consumption charges. Other Factors such as machine hours used must also to be considered.

Activity-Based Costing

Activity-based costing (ABC) is a method of costing which assigns the indirect and overhead costs related to goods and services produced. ABC costing establishes the relationship between costs, activities of overhead , and products produced. Some of the indirect costs, such as salaries to staff, salary of management are challenging to assign.

The Activity-Based Costing can play the following roles in cost classification :-

• ABC Identify all the activities assosiated with the product.
• ABC Divide all the activities assosiated with the production into pool of costs and it includes all the costs assosiated with the activity of manufacturing.
• It works based on Multiply the rate of cost driver with the of cost driver number.
• ABC Calculates the rate of cost driver by dividing the cost of total overhead by the total cost drivers.
• It Assigns each bunch of activity cost drivers, such as hours, units.