The Significance of Accurate Costing
Accurate Costing is essential to every business as it helps to make sound financial decision to keep the business successful and competitive. In an every changing business environment with high competition, the need for accurate costing cannot be overstated. In this section, some of the importance of Accurate Costing System (ABC) will be discussed below.
According to Atrill & McLaney (2015), one of the significance of Accurate Costing System, it allows managers of organizations to monitor profit and to make the best decisions for the company's future. A company's gross margin may be measured with the use of an accurate costing system (Atrill & McLaney, 2015). Johnson (2014) maintained that for an organization to be as competitive and successful in its operation, there is need to know how much money the company spends. The organization will be able to create competitive sales prices that will increase profit and attract customers in this manner. Therefore, Accurate Costing is significance in this regard (Johnson, 2014).
Narong (2009) posited that inaccurate data about company's spending might severely limit the ability to start and run a profitable business. However, managers can assess profit using accurate costing data, allowing them to make the best decisions and predication for the company's future (Narong, 2009).
Another importance of accurate Costing is to determine a company's indirect costs, with the aim of supporting managers in making costing and profitability decisions that benefit the company. Only one overhead rate is used to display this. Machine hours or labor expenses are frequently used since they are closely related to the number of units produced (Hansen & Mowen, 2006). As stated by Hilton (2006), identifying cost drivers is a critical component of a successful ABC system, since it allows for more accurate and fully reflecting expenses inside a company. Furthermore, for businesses that just have one product or service, accurate costing provides for a rapid and painless adoption. This is due to the fact that the overall volume allocation basis will only cover the volume for a single product over the whole manufacturing line of the company (Hansen & Mowen, 2006).
Comparison of traditional costing system vs Activity Based Costing System
When comparing Traditional Cost to Activity Based Costing, there are a few things to keep in mind which will be discussed in details below:
Traditional costing technique apportions indirect costs based easy to identify elements such as direct labuor hours. This technique of allocating has been seen to be ineffective due to the fact that it has no significant correlation between the cost pool and the cost driver (Akyol, Tuncel & Bayhan, 2007). Consequently, this can result to making e indirect costs allocation not to be accurate.
On the other hand, ABC is intended to allocate costs to activities which allows for better accurate cost information (Jones & Dugdale, 2002). Furthermore, Activity Based Costing technique is generally suitable and applicable across the spectrum of organization functions and not just in the factory. ABC reveals the association between performing specific activities and the demands those activities make on company’s resources, thus giving managers a holistic view of how products, customers, facilities among others generate income and consume resources (Najjar, Strickland & Kaplan, 2017).
In several sectors, various authors have compared between traditional costing technique and Activity Based Costing technique. For instance, Lu et al., (2017) investigated a bicycle components manufacturer and discovered that using a traditional costing system with a single cost driver results in skewed cost allocation. In comparison, Activity Based Costing system allows for the accounting of resource use by each bicycle component, resulting in more precise allocation cost (Lu et al., 2017).
According to Kaplan & Andersen (2007), in spite of the immense benefits of ABC technique over the traditional costing system, several organizations are yet to implement Activity Based Costing system owing to the fact that implementation costs associated with data collecting in the initial level allocation is high.Read more »