Part 1 - The Five (5) Steps
Identify activities - This is where we learn the process or procedures that
create overhead for a company
Assign overhead costs - This is where each overhead cost is matched with an
activity identified above
Identify the cost driver - These are the items that feed into the costs for each
activity and can include time on a machine, purchasing a machine,
maintaining a machine, etc.
Calculate overhead rate - Rate = overhead costs / cost driver activity
Allocate overhead costs - Costs = rate for each activity x cost driver activity.
This is also referred to as applied overhead and is how the individual costs of
producing a product factor into its costs to build.
Part 2 - The Advantages and Disadvantages of ABC's
More accurate cost information leading to better decisions (Heisinger &
Increased knowledge of production activities leads to process improvements
and reduced costs (Heisinger & Hoyle, 2012).
Costly to implement (Heisinger & Hoyle, 2012).
Unitizing fixed costs can be misleading (Heisinger & Hoyle, 2012).
Heisinger, K., & Hoyle, J. B. (2012). Managerial Accounting. Creative Commons