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\title{A Comparative Analysis and Implementation of Activity Based Costing (ABC) and Traditional Cost Accounting (TCA) Methods in an Automobile Parts Manufacturing Company: A Case Study}
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             \author[1]{NITIN  KUMAR}

             \affil[1]{  GREEN HILLS ENGINEERING COLLEGE (SOLAN)}

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\date{\small \em Received: 14 December 2012 Accepted: 2 January 2013 Published: 15 January 2013}

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\begin{abstract}
        


Activity based costing (ABC) is a method for determining true costs; which has become an important aspect of manufacturing/service organizations and can be defined as a methodology that measures the cost and performance of activities, resources and cost objects. It can be considered as an alternative method to traditional cost accounting systems. In this paper we have shown a comparative analysis of application of ABC method with traditional cost accounting (TCA) method in an automobile parts manufacturing company; which would like to increase the sales due to increased demand. For this reason the company needs to know the true cost of the parts prior to deciding as which item is to be produced more. In this case study the results are obtained between the two cost accounting methods by comparing TCA margin % and ABC margin % and these results are used to identify the low-priced and over-priced parts of the company.

\end{abstract}


\keywords{activity based costing, cost drivers, traditional cost accounting.}

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\let\tabcellsep& 	 	 		 
\section[{Introduction}]{Introduction}\par
n recent years, companies have reduced their dependency on traditional accounting systems by developing activity-based cost management systems. Traditional costing systems have a tendency to assign indirect costs based on something easy to identify (such as direct labor hours). This method of assigning costs can be very inaccurate because there is no actual relationship between the cost pool and the cost driver. This can make indirect costs allocation inaccurate.\par
Initially, managers viewed the ABC approach as a more accurate way of calculating part costs. But ABC has emerged as a tremendously useful guide to management action that can translate directly into higher profits. The Activity Based Costing (ABC) is designed to assign costs to activities which enable more accurate cost information.\par
ABC reveals the links between performing particular activities and the demands those activities make on the organization's resources, so it can give managers a clear picture of how parts, brands, customers, facilities, regions, or distribution channels both generate revenues and consume resources. The profitability picture that emerges from the ABC analysis helps managers focus their attention and energy on improving activities. 
\section[{a) Resources and Various Cost Drivers}]{a) Resources and Various Cost Drivers}\par
An activity is a specific task or action of work done. It can be a single action or an aggregation of several actions. For example: moving inventory from workstation 'A' to workstation 'B'. B is an activity that may require only one action. Production set-up is an activity that may include several actions. 
\section[{i. Activity Driver}]{i. Activity Driver}\par
The best single quantitative measure of the frequency and intensity of the demand placed on an activity by cost objects or other activity. It is used to assign activity costs to cost objects or to other activities. 
\section[{ii. Activity Work}]{ii. Activity Work}\par
This is performed by people, equipment, technologies or facilities. Activities are usually described by the 'action-verb-adjective-noun' grammar convention. Activities may occur in a linked sequence and activity-toactivity assignments may exist.\par
iii. Cost Object Any part, service, customer, contract, project, process or other work unit for which a separate cost measurement is desired. iv. Resource A resource is an economic element needed or consumed in performing activities. For example: Salaries and supplies are resources needed or used in performing manufacturing activities. 
\section[{v. Resource Driver}]{v. Resource Driver}\par
The best single quantitative measure of the frequency and intensity of the demand placed on a resource by other resources, activities, or cost objects. It is used to assign resource costs to activities, and cost objects, or to other resources.  
\section[{Resources Economic}]{Resources Economic}\par
Elements that are applied or used in the performance of activities or directly support cost object. They include people, materials, supplies, equipment, technologies and facilities. 
\section[{b) Explanations to Resources and Various Cost Drivers}]{b) Explanations to Resources and Various Cost Drivers}\par
A cost driver is a factor that causes or relates to a change in the cost of an activity. Because cost drivers cause or relate to cost changes, measured or quantified amounts of cost drivers are excellent bases for assigning resource costs to activities and for assigning the cost of activities to cost objects. A cost driver is either a resource consumption cost driver or an activity consumption cost driver.\par
A resource consumption cost driver is a measure of the amount of resources consumed by an activity. It is the cost driver for assigning a resource cost consumed by or related to an activity to a particular activity or cost pool. Examples of resource consumption cost drivers are the number of items in a purchase or sales order, changes in part design, size of factory buildings, and machine hours.\par
An activity consumption cost driver measures the amount of an activity performed for a cost object. It is used to assign activity cost pool costs to cost objects. Examples of activity consumption cost drivers are the number of machine hours in the manufacturing of part X, or the number of batches used to manufacture Part Y.\par
Value-added activity: Value-added activities change the form, fit or function of a part or service. These are things for which the customer is willing to pay.\par
Non-Value-added activity: Activities that do not add value to the process are called non-value added activities. These activities do not help create conformance to the customer's specifications, and are something for which the customer would be unwilling to pay for. The difference of value added activities and non value added activities are tabulated in table \hyperref[tab_0]{1}. No merit or worth to an activity as defined by the customer. 
\section[{2.}]{2.}\par
Activities must be performed to meet customer's wants and needs.\par
The activity does not need to be done to generate output. 
\section[{3.}]{3.}\par
Actions are value added if the customer cares, if something is physically changing for the best and you do the step right the first time.\par
It does not add value to the service or part. 
\section[{4.}]{4.}\par
Value added activities essentially change the part or service and the customer is willing to pay for them.\par
In essence it is something the customer is not willing to pay for. 
\section[{5.}]{5.}\par
Providing worth or merit to an activity as defined by the customer.\par
No merit or worth to an activity as defined by the customer.\par
II. 
\section[{Aims and Objectives of the Study}]{Aims and Objectives of the Study}\par
With ABC, an organization can firmly estimate the cost elements of entire parts and services. That may help inform a company's decision to either. Identify and eliminate those parts and services that are unprofitable and lower the prices of those that are overpriced. Or identify and eliminate production or service processes that are ineffective and allocate processing concepts that lead to the very same part at a better yield. In a business organization, the ABC methodology assigns an organization's resource costs through activities to the parts and services provided to its customers. ABC is generally used as a tool for understanding part and customer cost and profitability based on the production or performing processes. As such, ABC has predominantly been used to support strategic decisions such as pricing, outsourcing, identification and measurement of process improvement initiatives.\par
Therefore, a study has been carried out to apply this technique in order to derive maximum advantage in a manufacturing setup. The basic intents are as follows: ABC is an economic model that identifies the cost pools or activity centers in an organization and assigns costs to cost drivers based on the number of each activity used. Since the cost drivers are related to the activities, they occur on several levels: (i) Unit level drivers which assume the increase of the inputs for every unit that is being produced. (ii) Batch level drivers which assume the variation of the inputs for every batch that is being produced.\par
(iii) Product level drivers which assume the necessity of the inputs to support the production of each different type of part. (iv) Facility level drivers are the drivers which are related to the facility's manufacturing process. Users of the ABC system will need to identify the activities which generate cost and then match the activities to the level bases used to assign costs to the parts.\par
While using the ABC system, the activities which generate cost must be determined and then should be matched to the level drivers used to assign costs to the products.\par
The implementation of the ABC system has the following steps:\par
Step 1) Identifying the activities such as machining, inspection etc.\par
Step 2) Determining the activity costs\par
Step 3) Determining the cost drivers such as machining hours, number of setups, labour hours etc.\par
Step 4) Collecting the activity data\par
Step 5) Computing the product cost\par
In this case study we are comparing two types of techniques of cost accounting by collecting and analyzing the data of a company which is a pressed component manufacturer. It produces three parts for automobile industry. The Company now has an opportunity to increase its sales due to increased demand. So, it would like to know the true costs of these parts prior to deciding as which item is to be produced more. The calculations are in following steps:\par
1. Current prices, direct labour hour to produce each of the items, their material costs, and annual production quantities are as under and are shown in Table \hyperref[tab_1]{2}. 2. The company has recorded following expenses last year on its General Ledger Statement and it is shown in Table \hyperref[tab_2]{3}.   "True Cost" calculation of parts by Activity Based Costing (ABC) : The three parts being evaluated are Part "A", Part "B" and Part "C". Basic information about these parts is given in Table \hyperref[tab_3]{5} Activity determination : The staff questionnaire revealed that for indirect work the company has 25 employees and they are in the following work groups as shown in Table  {\ref 7} Calculation of unit activity costs : It is given in Table \hyperref[tab_5]{8} Note :\par
Total indirect cost from general ledger × \% activity e.g., Processing orders = 62, 66,000 × 0.24 = 15, 03,840 True cost calculation and Margin \% of parts by ABC method is shown in graphs in Fig. \hyperref[fig_6]{3}   Calculation of "true" costs of parts : It is given in Table \hyperref[tab_6]{10} 1. 
\section[{2.}]{2.}\par
3. 
\section[{4.}]{4.}\par
5.\par
6.\par
1. 
\section[{2.}]{2.}\par
3. 
\section[{4.}]{4.}\par
5. 
\section[{6.}]{6.}\par
7.    The following conclusions have been made by analyzing the data using traditional cost accounting (TCA) method and true cost calculation by activity based costing (ABC) method:\par
? In the case of Part 'A' cost calculations, TCA shows a margin \% of 25.41 but by calculating it through ABC method, it shows a margin \% of 27.49. So there is a difference of 2.08 \%. Consequently, we can analyze that Part 'A' shows 2.08\% more profit as compared to TCA cost calculation.\par
? In the case of Part 'B' cost calculations, TCA shows a margin \% of 27.50 but it is just 25.14\% by calculating it through ABC method. Hence, it has been concluded that the cost calculation by TCA method is declining in profit by 2.36\% in actual.\par
? For Part 'C', TCA indicates that Part 'C' has the best margin \% i.e. 35.18\%. On the other hand True cost calculation by ABC method also shows that the part C has the best margin \% but it is less than the TCA margin \%, which is 34.66 \%.\par
? At last, we can conclude that as compared to traditional cost accounting method, Activity based costing method gives us the true costs of the parts.\par
Hence, the company can get benefited by increasing its sales according to the demand of the products by keeping in view the true costs of the parts which is calculated by ABC method and not the TCA method. Also it can easily decide that which item or part is to be produced more to achieve its goal.\begin{figure}[htbp]
\noindent\textbf{}\includegraphics[]{image-2.png}
\caption{\label{fig_0}IA}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{}\includegraphics[]{image-3.png}
\caption{\label{fig_2}}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{12}\includegraphics[]{image-4.png}
\caption{\label{fig_4}Figure 1 :Figure 2 :A}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{}\includegraphics[]{image-5.png}
\caption{\label{fig_5}}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{3}\includegraphics[]{image-6.png}
\caption{\label{fig_6}Figure 3 :A}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{411}\includegraphics[]{image-7.png}
\caption{\label{fig_7}Figure 4 :Table 11 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{5}\includegraphics[]{image-8.png}
\caption{\label{fig_8}Figure 5 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{}\includegraphics[]{image-9.png}
\caption{\label{fig_9}A}\end{figure}
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\noindent\textbf{1} \par 
\begin{longtable}{P{0.050854700854700854\textwidth}P{0.6247863247863248\textwidth}P{0.17435897435897435\textwidth}}
Point\tabcellsep Value Added activity\tabcellsep Non Value Added Activity\\
1.\tabcellsep Providing worth or merit to an activity as defined by\tabcellsep \\
\tabcellsep the customer.\tabcellsep \end{longtable} \par
 
\caption{\label{tab_0}Table 1 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{2} \par 
\begin{longtable}{P{0.028523489932885907\textwidth}P{0.4506711409395973\textwidth}P{0.11979865771812079\textwidth}P{0.11979865771812079\textwidth}P{0.13120805369127517\textwidth}}
S.NO.\tabcellsep Object\tabcellsep Part A\tabcellsep Part B\tabcellsep Part C\\
\tabcellsep Material cost (?)\tabcellsep 400\tabcellsep 250\tabcellsep 300\\
\tabcellsep Direct labour hours\tabcellsep 5\tabcellsep 3.7\tabcellsep 4.5\\
\tabcellsep Annual quantity\tabcellsep 18,000\tabcellsep 16,000\tabcellsep 18,500\\
\tabcellsep Selling Price/each (?)\tabcellsep 1,200\tabcellsep 850\tabcellsep 1,150\end{longtable} \par
 
\caption{\label{tab_1}Table 2 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{3} \par 
\begin{longtable}{P{0.4722222222222222\textwidth}P{0.027127659574468083\textwidth}P{0.11554373522458629\textwidth}P{0.13764775413711586\textwidth}P{0.09745862884160757\textwidth}}
\tabcellsep \tabcellsep \tabcellsep \tabcellsep 2013\\
\tabcellsep \tabcellsep \tabcellsep \tabcellsep ear\\
\tabcellsep \tabcellsep \tabcellsep \tabcellsep Y\\
\tabcellsep \tabcellsep \tabcellsep \tabcellsep 31\\
1. 2. 3. 4.\tabcellsep \tabcellsep \tabcellsep \tabcellsep Volume XIII Issue IV Version I\\
\multicolumn{3}{l}{(a) (b) (c) 3. Calculation of Part Costs by Traditional Cost Accounting (TCA) Direct labour (?) 1,67,50,000.00 Direct material (?) 24,58,000.00 All other indirect expenses (?) Salaries \& wages Fringe benefits Utilities Income tax Equipment rental Postage Depreciation Property tax Maintenance Property insurance Tools Total}\tabcellsep 35,43,650 9,48,328 5,17,837 1,58,121 4,30,491 31,195 2,93,233 74,868 1,18,541 56,151 93,585 62,66,000\tabcellsep Global Journal of Management and Business Research ( ) D\\
\multicolumn{2}{l}{? Total labour hours required:}\tabcellsep \multicolumn{3}{l}{? Direct labour hour cost =1,67,50,000/2,32,450}\\
Part A : 18,000 × 5\tabcellsep = 90,000 hrs\tabcellsep \tabcellsep = 72.05 ?/hr\\
\multicolumn{2}{l}{Part B : 16,000 × 3.7 = 59,200 hrs}\tabcellsep ? Total indirect cost\tabcellsep = 62,66,000\tabcellsep ?\\
\multicolumn{2}{l}{Part C : 18,500 × 4.5 = 83,250 hrs}\tabcellsep \multicolumn{3}{l}{? Over cost/labour hour = 62,66,000.00/2,32,450}\\
Total labour hours\tabcellsep = 2, 32,450 hrs\tabcellsep \tabcellsep = 26.95 /hr ?\end{longtable} \par
 
\caption{\label{tab_2}Table 3 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{5} \par 
\begin{longtable}{P{0.037658227848101265\textwidth}P{0.3819620253164557\textwidth}P{0.13987341772151898\textwidth}P{0.13987341772151898\textwidth}P{0.15063291139240506\textwidth}}
S.NO.\tabcellsep Object\tabcellsep Part A\tabcellsep Part B\tabcellsep Part C\\
\tabcellsep Direct material\tabcellsep 400\tabcellsep 250\tabcellsep 300\\
\tabcellsep Direct labour hour\tabcellsep 5\tabcellsep 3.7\tabcellsep 4.5\\
\tabcellsep Annual quantity\tabcellsep 18,000\tabcellsep 16,000\tabcellsep 18,500\\
\tabcellsep Selling price (?)\tabcellsep 1,200 each\tabcellsep 850 each\tabcellsep 1,150 each\\
5.\tabcellsep \tabcellsep \tabcellsep \tabcellsep \end{longtable} \par
 
\caption{\label{tab_3}Table 5 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{6} \par 
\begin{longtable}{P{0.023062015503875967\textwidth}P{0.4875968992248062\textwidth}P{0.06424418604651162\textwidth}P{0.10872093023255815\textwidth}P{0.07083333333333333\textwidth}P{0.09554263565891473\textwidth}}
S.NO.\tabcellsep Object\tabcellsep Part A\tabcellsep Part B\tabcellsep Part C\tabcellsep Total\\
\tabcellsep Customer orders\tabcellsep 1,800\tabcellsep 2,000\tabcellsep 2,500\tabcellsep 63,00\\
\tabcellsep Parts manufactured\tabcellsep 18,000\tabcellsep 16,000\tabcellsep 18,500\tabcellsep 52,500\\
\tabcellsep Work orders\tabcellsep 110\tabcellsep 100\tabcellsep 120\tabcellsep 330\\
\tabcellsep Set-ups\tabcellsep 110\tabcellsep 100\tabcellsep 120\tabcellsep 330\\
\tabcellsep Machine hours/unit\tabcellsep 5\tabcellsep 3.7\tabcellsep 4.5\tabcellsep \\
\tabcellsep Material cost/unit (?)\tabcellsep 400\tabcellsep 250\tabcellsep 300\tabcellsep \\
\tabcellsep Labour hours/unit\tabcellsep 5\tabcellsep 3.7\tabcellsep 4.5\tabcellsep \\
\tabcellsep Total labour hours\tabcellsep 18,000\tabcellsep 16,000\tabcellsep 18,500\tabcellsep \\
\tabcellsep Selling price/part (?)\tabcellsep 1,200\tabcellsep 850\tabcellsep 1,150\tabcellsep \\
6.\tabcellsep \tabcellsep \tabcellsep \tabcellsep \tabcellsep \\
\tabcellsep \multicolumn{3}{l}{Table 7 : Activity Determination}\tabcellsep \tabcellsep \\
S.NO.\tabcellsep Activity\tabcellsep \tabcellsep No. of people\tabcellsep \tabcellsep \% of Total\\
\tabcellsep Processing orders\tabcellsep \tabcellsep 12\tabcellsep \tabcellsep 24\%\\
\tabcellsep Scheduling orders\tabcellsep \tabcellsep 10\tabcellsep \tabcellsep 20\%\\
\tabcellsep Die maintenance and storage\tabcellsep \tabcellsep 14\tabcellsep \tabcellsep 28\%\\
\tabcellsep Inspection\tabcellsep \tabcellsep 08\tabcellsep \tabcellsep 16\%\\
\tabcellsep Shipping (dispatch) orders\tabcellsep \tabcellsep 06\tabcellsep \tabcellsep 12\%\\
\tabcellsep Total\tabcellsep \tabcellsep 50\tabcellsep \tabcellsep 100\%\\
7.\tabcellsep \tabcellsep \tabcellsep \tabcellsep \tabcellsep \end{longtable} \par
 
\caption{\label{tab_4}Table 6 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{8} \par 
\begin{longtable}{P{0.039596273291925464\textwidth}P{0.22965838509316772\textwidth}P{0.15046583850931677\textwidth}P{0.22965838509316772\textwidth}P{0.07127329192546585\textwidth}P{0.12934782608695652\textwidth}}
S.NO.\tabcellsep Activities\tabcellsep Activity cost\tabcellsep Activity driver\tabcellsep Quantity\tabcellsep Cost/unit (?)\\
1.\tabcellsep Processing orders\tabcellsep 15,03,840\tabcellsep No. of orders\tabcellsep 6,300\tabcellsep 238.70\\
2.\tabcellsep Scheduling orders\tabcellsep 12,53,200\tabcellsep No. of work orders\tabcellsep 330\tabcellsep 3,797.57\\
3.\tabcellsep Set-up machines\tabcellsep 17,54,480\tabcellsep No. of set-ups\tabcellsep 330\tabcellsep 5,316.60\\
4.\tabcellsep Inspection lots\tabcellsep 10,02,560\tabcellsep No. of lots\tabcellsep 330\tabcellsep 3,038.06\\
5.\tabcellsep Shipping part\tabcellsep 7,51,920\tabcellsep No. of shipments\tabcellsep 6,300\tabcellsep 119.35\end{longtable} \par
  {\small\itshape [Note: © 2013 Global Journals Inc. (US)]} 
\caption{\label{tab_5}Table 8 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{10} \par 
\begin{longtable}{P{0.85\textwidth}}
Activity Costs Calculation\end{longtable} \par
 
\caption{\label{tab_6}Table 10 :}\end{figure}
 \begin{figure}[htbp]
\noindent\textbf{11} \par 
\begin{longtable}{P{0.09296875\textwidth}P{0.099609375\textwidth}P{0.0896484375\textwidth}P{0.0962890625\textwidth}P{0.1095703125\textwidth}P{0.10292968749999999\textwidth}P{0.126171875\textwidth}P{0.1294921875\textwidth}P{0.0033203125\textwidth}}
PART\tabcellsep Selling price (?)\tabcellsep TCA cost (?)\tabcellsep TCA margin (?)\tabcellsep TCA margin\%\tabcellsep True cost (?)\tabcellsep True cost margin (?)\tabcellsep True cost margin\%\tabcellsep \\
Part "A"\tabcellsep 1,200\tabcellsep 895\tabcellsep 305\tabcellsep 25.41\%\tabcellsep 870.03\tabcellsep 329.97\tabcellsep 27.49\%\tabcellsep \\
Part "B"\tabcellsep 850\tabcellsep 616.31\tabcellsep 233.69\tabcellsep 27.50\%\tabcellsep 636.26\tabcellsep 213.74\tabcellsep 25.14\%\tabcellsep \\
Part "C"\tabcellsep 1,150\tabcellsep 745.51\tabcellsep 404.49\tabcellsep 35.18\%\tabcellsep 751.41\tabcellsep 398.59\tabcellsep 34.66\%\tabcellsep D\end{longtable} \par
 
\caption{\label{tab_7}Table 11}\end{figure}
 			\footnote{© 2013 Global Journals Inc. (US)} 		 		\backmatter  			 			 			  				\begin{bibitemlist}{1}
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\end{document}
