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Alternative Costing Principles

The document outlines various costing methods including Absorption Costing, Marginal Costing, Activity-Based Costing (ABC), Target Costing, and Lifecycle Costing, detailing their definitions, advantages, disadvantages, and suitable applications. ABC focuses on assigning costs based on activities rather than production volume, while Target Costing emphasizes engineering costs to meet predetermined selling prices. Lifecycle Costing considers all costs throughout a product's life, providing a comprehensive view for better investment and pricing decisions.

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Adam Eve Amelia Jacole
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3 views4 pages

Alternative Costing Principles

The document outlines various costing methods including Absorption Costing, Marginal Costing, Activity-Based Costing (ABC), Target Costing, and Lifecycle Costing, detailing their definitions, advantages, disadvantages, and suitable applications. ABC focuses on assigning costs based on activities rather than production volume, while Target Costing emphasizes engineering costs to meet predetermined selling prices. Lifecycle Costing considers all costs throughout a product's life, providing a comprehensive view for better investment and pricing decisions.

Uploaded by

Adam Eve Amelia Jacole
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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Absorption Costing

It charges overheads to products in such a way usually based on the volume


of production in units or hours.

Marginal Costing
It values the products based on the variable cost to produce them and fixed
cost are treated as a period charges.

Activity-Based Costing (ABC)


• Definition: ABC is a costing method that assigns costs to products or
services based on the activities and resources they use rather than
absorbing overhead on a production volume basis.
Firstly, ABC allocates overhead to cost pools before absorbing them
into units using cost drivers.

Cost Pools
A cost pool is a group of similar costs that are collected together before
being assigned to products or services.

Cost Driver
A cost driver is a factor that causes a cost to increase or decrease i.e it is a
unit of activity that consumes resources.

Example which differentiate Traditional and ABC


Total inspection cost= $25000
Total Machine Setup Cost = $15000
Number of units produced= 2500
Number of inspection= 5000 inspections
Number of setup = 1500 setup
Advantages of ABC
o More accurate product costing.
o Provides better insights into what causes overhead costs.
o Helps the management in better cost control.
o Also easy to use in service industry.

Disadvantages of ABC:
o Complex and time-consuming.
o Costly to implement and maintain.
o Sometimes difficult to allocate all overhead to specific activities.
For example in administrative overheads.

Target Costing
• Definition: Pricing strategy where the selling price is determined first,
and the cost is engineered to ensure profitability.

Starts with the target selling price based on customer expectations,


competitor pricing, and market conditions.

Target Cost = Targeted SP- Targeted Profit margin

Advantages:
o Encourages cost efficiency early in design.
o Aligns product features with customer value.
o Reduces risk of overspending.
Disadvantages:
o Can compromise quality under tight cost targets.
o High pressure on employees.
o Not suitable for all products. For example limited edition
watches.

Suitability of Target Costing


o Highly Competitive Market
o Customer Price Sensitivity
o High volume products

Lifecycle Costing
• Definition: Considers all costs associated with the product over its
entire life—from design to disposal.

Stages of Lifecycle Costing:


o Research and Development- Product are not sold, sales are nil
resulting loss.
o Introduction-Product is launched but sales are at a low level.
o Growth- Customer become more familiar and rapid increase in
sales.
o Maturity-Growth will slow down and probably stop.
o Decline- Sales will start to fall. Product is likely to be outdated.

Advantages:
o Enables more informed investment and pricing decisions,
especially for long-term projects or assets.
o Comprehensive Cost View. Better cost control.
o Forecasts future costs early, allowing for better planning,
budgeting, and cost control throughout the life of the product or
asset.

Disadvantages:
o Requires detailed forecasting which might require special skills,
time & effort.
o Difficult to apply in fast-changing industries.
o Uncertainty in Long-Term Estimates.

Suitability of Lifecycle Costing


o High-Cost
o Long-term projects. For example- Building & Infrastructure,
Manufacturing plants.
o Government and public sector.

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