ABC costing Systems TOA systems

ABC costing Systems TOA systems

The main differences between ABC costing systems and traditional overhead allocation systems

According to Roztocki, Porter, Thomas, & Kim (2004) the main difference between activity-based costing systems and traditional costing systems is that traditional costing systems allocate overhead costs based on direct labour hours or machine hours whereas ABC costing systems traces overhead costs directly to cost objects which could include processes, services, customers or products as the case may be (Ibbs & Nguyen, 2008). The main difference therefore, between ABC and traditional costing is in the way accumulation of costs is done by each system. In the traditional model there are only two stages i.e. costs are accumulated by a department and then traced through a single activity measure to products or services. Activity-based costing on the other hand focuses on resources and activities as items that generate costs whereas traditional model focuses on products for generating costs (Ibbs & Nguyen, 2008).

The most preferable method is ABC costing method because traditional method tends to distort product costs and therefore may lead to a manufacturer setting uncompetitive pricing of products in the market. Activity-based costing system assigns costs to activities based on resources used in those activities. These are then assigned to cost objects based on use of activities such as products, customers, processes etc. (Higgins & Young, 2001). Activity based costing (ABC) is the most ideal method in a company dealing with many products whereby overheads form a big portion of the total costs. This is because it will eliminate product cost distortions and enable the company to price its products competitively (Higgins & Young, 2001).

Benefits of ABC costing to my company

In instances where there are volume differences between different products  manufactured, ABC costing is the most ideal as traditional costing system will automatically distort the product costs. Traditional costing method use two bases to allocate indirect costs i.e. labour hours and machine hours whereas ABC uses a variety of bases which better reflects accurately the indirect cost of resources utilized. Activity based costing is therefore beneficial for a company manufacturing many different products and operating in a highly competitive environment. It helps the company to set product selling prices accurately and competitively (Bruton & Schnieder, 2006).

Traditional costing systems are ideal for companies dealing with a single product where overhead costs are low. If a company is a monopoly then use of ABC costing may not be necessary. Allocation of overheads is important in most manufacturing concerns because it enables a company to factor in all costs in producing a product. This assists in determining whether a company is trading profitably or not.  Poor allocation of overheads results in suboptimal pricing decisions, incorrect direction by management and generally poor allocation of costs.  Allocation of overheads using ABC is the most accurate because it traces costs to cost objects. It therefore prevents distortion of costs and improves the quality of decisions made by management (Vazakidis & Karagiannis, 2011).


Bruton, C. M., & Schnieder, G. P. (2006). SHOULD ABC COSTING BE USED? Paper presented at the , 13(2) 37. Retrieved from

Higgins, B. K., & Young, S. M. (2001). Improving operations: Not as simple as ABC. The Journal of Corporate Accounting & Finance, 12(3), 15-34. Retrieved from

Ibbs, W., & Nguyen, L. D. (2008). Analysis of delay damages for site overhead. Cost Engineering, 50(3), 30-33. Retrieved from

Roztocki, N., Porter, J. D., Thomas, R. M., & Kim, L. N. (2004). A procedure for smooth

implementation of activity-based costing in small companies. Engineering Management

Journal, 16(4), 19-27. Retrieved from

Vazakidis, A., & Karagiannis, I. (2011). Activity-based management and traditional costing in tourist enterprises (a hotel implementation model). Operational Research, 11(2), 123-147. doi:


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