Marconi, a telecommunication company, is currently having issues with its activity based costing method (ABC) of allocating expenses to products and services. The main issues is that organizational personnel feel that the ABC method does not accurately allocate costs to products but it also irrelevant to cutting operational costs for the company. In addition, employees worry that the ABC method will intern create unnecessary improvements that may justify company downsizing or outsourcing. In order to address these concerns and provide a sound recommendation, it is imperative to understand ABC and other methods of cost allocating.
In activity-based costing, is a method for assigning costs to products, services, projects, tasks based on each activity and its needed resources. ABC has several benefits that companies can identify true costs per service or product. ABC helps to identify individual products that are unprofitable, find true costs of every product and reveal unnecessary costs to eliminate. If ABC is used correctly, the method can help fix the price of products and services that are excessive or incorrect. This can help the company by increasing sales with a reducing product costs or identify areas in which products are underpriced. However, there are also disadvantages to using activity based costing. The main disadvantage would be that activity based costing can be easily misinterpreted causing confusion and often bad decision-making within the company.
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Traditional costing assigns manufacturing overhead based on the volume of a cost driver like direct labor hours needed to produce the product. Many companies use the traditional costing method in external financial reports because it provides a cost of goods sold. In addition, this method is easy for companies to implement and follows with the Generally Accepted Accounting Principles. However, with increased technology in today’s manufacturing, computers and machines build most of the products. This negates the cost driver of direct labor hours, allowing costs to be incorrect. Since traditional costing methods exclude non-manufacturing costs, it can also lead to bad decision-making.
Based off the pros and cons of each costing method, the best recommendation for Marconi would be to implement the use of a managerial accounting system to order to allow for internal and external reports. Due to product complexity and variety in products for Marconi, the ABC method is still the best way to proceed as it uses consumption and or transactional drivers to assign costs to each activity. In addition, it provides the company a more accurate reflection of products and customer profitability. In addition to using the ABC method with a solid managerial accounting system, I would also recommend that the organization set up a training process and a change management solution to ease the concerns of the employees.
Garrison, R., Noreen, E., & Brewer, P. (2014). Managerial accounting (15th ed.). Columbus, OH: McGraw-Hill Education.
Schmidt, M (2017). Activity Based Costing ABC, and ABC Management Explained. Retrieved on 17 April 2017, from https://www.business-case-analysis.com/activity-ba… (Links to an external site.)
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