Question

• Identify and discuss some of the limitations of activity-based costing.
• Even with its limitations, why is activity-based costing beneficial to managers?

Answer 1

Activity Based Costing is the method of assigning overhead and indirect costs to the Services/ Products. This method identifies the activities in the organisation and assigns the cost of each activity to the Services/ products.

The limitations of Activity Based Costing are:-

1. The Adapatbility of the Activity Costing also known as ABC costing is not suitable for all kind of the companies. The reason may be the small companies lacks resources to adapt ABC Costing. The might have number of activities where the size of the transactions is small.

2. ABC Costing is very costly to implement as it involves identifying each and every activity so that the cost can be assigned activity wise.

3. The costs using Activity Costing are allocated on the basis of the cost drivers . There are chances of over or under costing of the products when irrelevant cost drivers are assigned to the services/ products.

Inspite of several llimitation of Activity Based Costing, this is beneficial to the managers because of the following reasons:-

1. It provides realistic costs of Manufacturing for specific products.

2. It determiners product product margins more precisely.

3. It helps to identify the processes which have unnecessary and wasted costs.

4. Identifies inefficient processes.