organization-sustaining activities definition and meaning

7 – 2 When direct labor is used as an allocation base for overhead, it is implicitly assumed that overhead cost is directly proportional to direct labor. When cost systems were originally developed in the 1800s, this assumption may have been reasonably accurate. However, direct labor has declined in importance over the years while overhead has been increasing.

All manufacturing costs—even those that are not caused by any specific product—are allocated to products. Nonmanufacturing costs that are caused by products are not assigned to products.

ACCT 202 – Key Terms – Chapter 8

Activity-based costing is used to get a better grasp on costs, allowing companies to form a more appropriate pricing strategy. Allocations by the activity measure for each activity cost pool. In activity­based costing, a plant­wide overhead rate is used to apply overhead to products. When combining activities in an activity­based costing system, activities should be grouped together at the same level.

Three costs included in the income statement inExhibit 7–1—direct materials, direct labor, and shipping—are excluded from the costs shown inExhibit 7–3. The ABC team purposely excluded these costs fromExhibit 7–3because the existing cost system can accurately trace direct materials, direct labor, and shipping costs to products. There is no need to incorporate these direct costs in the activity-based allocations of indirect costs. There are three essential characteristics of a successful activity-based costing implementation. First, top managers must strongly support the ABC implementation because their leadership is instrumental in properly motivating all employees to embrace the need to change. Second, top managers should ensure that ABC data is linked to how people are evaluated and rewarded.

Chapter 7

Is identified for both the first stage and the second stage in cost assignment. Is identified only for the first stage in cost assignment. The determination of the most economical production-run size. The power provided by such a system to manufacture an organization-sustaining activities is another term for entire family of products on a single flow line. Inventories are costly to carry and can be kept to minimum levels or eliminated entirely with careful planning. Data regarding the expected production of Mona Loa and Malaysian coffee are presented below.

It may be particularly instructive to compare the details of the activity rates. For example, is the cost of opening accounts at Avon apparently high because of the involvement of the assistant branch manager in this activity? The apparent differences in the costs of the activities at the various branches could be due to inaccuracies in employees’ reports of the amount of time they devote to the activities. The differences in costs may also reflect different strategies.

Overhead allocation based on volume alone:

Benchmarking can be used to compare an organization’s activity rates with standards of performance that are external to the organization. On hundred percent of the factory building lease is allocated to the “other” activity. Since Classic Brass has a single production facility that it does not plan to contract or expand, the lease cost is an unavoidable organization-sustaining cost.

Banking costs are not driven by the volume of customers, but rather the number of transactions processed. Traditional volume based costing is obviously inappropriate https://business-accounting.net/ in this case. Banks are moving to the concept where the user pays for the cost of the services they use, so that all users do not share the bill evenly.

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They felt that the benefits of increased accuracy would not be great enough to justify the higher cost of implementing and maintaining the more detailed costing system. Similarly, some team members were uncomfortable assigning the same $1,470 cost to each customer. Some customers are undemanding—ordering standard products well in advance of their needs.

Activity-based costing is a costing method that assigns overhead and indirect costs to related products and services. This accounting method of costing recognizes the relationship between costs, overhead activities, and manufactured products, assigning indirect costs to products less arbitrarily than traditional costing methods. However, some indirect costs, such as management and office staff salaries, are difficult to assign to a product. In activity­based costing, as in traditional costing systems, nonmanufacturing costs are not assigned to products. Activity­based costing uses a number of activity cost pools, each of which is allocated to products on the basis of direct labor­hours.