Question

Why are the costs different between the traditional method and the activity-based method?

Answer 1

Why are the costs different between the traditional method and the activity-based method?

Basically costing is used in business accounting strategies for determining the cost of manufacturing a product in relation to the revenue generated by that product and it helps to determine the overhead of production and then allocate those overhead costs to a business’ products.

There are two methods having following differrences:

(i) Activity-based costing: It is activity-based costing which determines all activities associated with production, assigns a cost to those activities and then determines the cost of the product.

• It is more accurate because it takes important factors into account before assigning a cost to a product but  it is a bit more complicated and time-consuming.
• It considers non-manufacturing expenses such as administrative and managerial costs.

(ii)Traditional costing: It assigns costs to products based on an average overhead rate.

• This method pools all indirect costs in production and applies those costs equally across the board using one appropriate cost driver, such as machine hours.
• This method is much easier way for determining the cost of a product because it relies solely on assigning average overhead rates but it can not be always accurate the reason is it doesn’t factor in non-manufacturing expenses or determine which overhead costs actually affect specific products.