Question

Why do the current costing system and activity-based costing systems differ in the cost ？

Answer 1

There are following reasons which are resposible difference in the cost under the current costing system and activity-based costing systems-

1.Irrespective of the specific allocation of resources, current costing sets a single metric or cost driver for every activity involved in production and allocates costs based on the consumption of that metric.But under activity based costing, appropriate cost drivers are determined for every different activity and cost is then allocated according to these cost drivers.

2. Current costing can only be used for the absorption of manufacturing overheads but activity based costing can effectively be used to allocate manufacturing as well as non-manufacturing overheads like selling, administration etc. This is because activity based costing considers the actual center of cost for the period cost and then allocates it.

3. current costing uses a single overhead pool and is not able to calculate the true cost. The costs of the objects are allocated randomly based upon the labor or machine hours etc. ABC costing includes identifiable products parts or labor whereas TCA arbitrarily accumulates expenses, salaries, depreciations etc.

4. In current costing all manufacturing costs are considered to be part of the product cost, whereas nonmanufacturing costs are not considered to be production costs and are not assigned to products, regardless of whether the costs are based on the products. For example, the machines used to receive and process customer orders are necessary because product orders must be taken, but their costs are not allocated to particular products but in ABC costing, Some manufacturing costs may be excluded from product costs. For example, the cost to heat the factory may be excluded as a product cost because, while it is necessary for production, it does not fit into one of the activity-driven cost pools.

5. Another difference between cost under current costing and activity-based cost­ing is the historical orientation. It is not unusual for an organization to use actual historical cost as the basis for developing manufacturing cost standards. These historical costs often include rework, duplication, waste, redundancy, and inefficiency.Accepting historical costs as a given and reflecting these costs in standards does not support continuous improvement. In a competitive situation, where competitors have been proactive in eliminating waste and improving activities, an organization can go out of business while meeting its standards. While activity-based costs are also calculated using historical resource costs, the orientation is different. Proponents of ABC are concerned about future competitive positions and use historical cost only as a baseline for improvement.

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