activitybased

Activity-based is a term used in management accounting to describe approaches that allocate costs and manage processes by activities. The most widely used form is Activity-Based Costing (ABC), which emerged in the late 1980s as an alternative to traditional absorption costing. ABC was developed to address distortions in product costing caused by allocating overhead on volume or direct labor alone, by tracing costs to activities that generate them and then to products or services based on actual consumption.

In practice, ABC involves identifying the activities required to produce products or deliver services, grouping these into activity cost pools, assigning overhead and indirect costs to each pool, selecting appropriate cost drivers that explain the consumption of each activity, and finally allocating costs to cost objects such as products or customer contracts according to their usage of the activities. A variant, Time-Driven Activity-Based Costing (TDABC), simplifies this process by estimating the time required for activities and multiplying by a capacity-related cost rate, reducing data collection overhead.

ABC and its extensions are commonly used to improve costing accuracy, reveal non-value-added activities, support product mix and pricing decisions, and identify opportunities for process improvement and cost reduction. They are also integral to Activity-Based Management (ABM), which uses activity-level information to optimize operations, streamline processes, and enhance customer profitability. While benefits include more precise costing and better decision support, limitations include data intensity, complexity, and ongoing maintenance requirements, as well as potential resistance to change within organizations.