Allocating Fixed costs
Fixed can be described as those costs the form or organization incurs whether or not it is producing any goods or services in the current period. In simple terms, costs that do not decrease or increase with change in production. They are only affected by structural changes or changes in the rate of inflation (BPP, 2013). Fixed costs are only variable in the long run but constant in the short run hence their name fixed costs. Allocation of cost can be said as the process of aggregating, identifying costs and allocating cost to cost entities. Hence, allocation of fixed costs is the identifying and assigning of fixed costs to the various cost entities.
Activity Based Costing is a method used in absorption of costs. It involves identification of the cost drivers which are the basis of the cost of a firm’s main activities (Kaplan, 2013). Activity Based Costing tends to allocate more overheads to lower volumes and fewer overheads to lower volumes as compared to other methods of overhead absorption as with the growing technology, lower volume products cause more variety and consequently use extra support services.
The Main characteristics of Activity Based Costing are: the use of traditional method distinction for fixed costs and variable costs is not enough to provide high quality information to create a cost system hence the use of ABC system of overhead allocation; distinction between cost behaviour patterns are in terms of scale, scope and decisions; identification of cost drivers, cost pools and the major activities of the firm. (Drury, 2005)
Companies that tend to use ABC costing will be companies with a high amount of overheads in the production of goods and/or provision of services to consumers whose demand vary (Farrar, Straus & Giroux , 2010). In simple terms, companies with little overheads as compared to the final output don not need the use of ABC.
In Canada, the manufacturing plant of Volkswagen has been using ABC for the approximate six years. The ABC system has proven to be more efficient, this has led to the company need to implement the AMB system in the near future as they a have seen the Activity Based system to be adapting well with the recent changes and trends in the manufacturing industry. Considering its many changes in management, ABC system has proven to be successful. Volkswagen Canada is a manufacturing Company in the automobile industry.
In conclusion, the use of Activity Based Costing in fixed cost allocation results to efficient absorption of overheads minimizing wastage. This in turn leads to efficient utilization of resources in the organization maximizing on profits and minimizing of wastage. Use of Value Chain, Total Quantity Control and Just-In-Time systems in management will as well increase the efficiency of the firm hence profitability.
Association of Chartered Certified Accountants (Great Britain) (2013). Performance management. Workingham, Berkshire: Kaplan Pub.
Chartered Institute of Management Accountants (2013). Performance management. London: BPP Learning Media Ltd.
Cost. (2010). New York: Farrar, Straus & Giroux.
Drury, C. (2005). Management and cost accounting. London: Chapman & Hall.