Every business organisation has to incur various costs to manufacture or produce the products and services in which it is dealing. To determine the prices of such goods and services it is necessary to figure out the accurate cost involved in their production. Management accounting deals with the study that sets out the manner of allocation of indirect costs associated to the products to which such cost is associated with. Under cost accounting suggests mainly two approaches for the overhead allocation. They are: traditional costing and activity based costing.
Though, both the approaches are used to determine the overhead cost related to the products on the basis of overhead recovery rate but the difference lies in the complexity and capability of bringing accurate results between traditional costing and ABC technique. ABC, on the other side, takes into account multiple cost pools to determine the product cost and therefore it is quite complex and time consuming (Zimmerman & Yahya-Zadeh, 2011). ABC is the more advanced technique of management accounting and its adaptation can increase the profitability of the organisation (Drury, 2013) The outcomes of this tool are more accurate and consistent as it involves determination of all the key activities that are associated with the production process of an entity ABC facilitates assigning of cost to all such activities so as to determine true cost of production thereby helping the firm to set the most appropriate prices for its product (Homburg, 2004).
Therefore, it can be said that Activity based costing offers better cost information to the managers than the traditional costing approach (Horngren, Bhimani, Datar, Foster & Horngren, 2002).
Homburg, C. (2004). Improving activity-based costing heuristics by higher-level cost drivers. European Journal of Operational Research, 157(2), 332-343.
Horngren, C. T., Bhimani, A., Datar, S. M., Foster, G., & Horngren, C. T. (2002). Management and cost accounting. Harlow: Financial Times/Prentice Hall.
Zimmerman, J. L., & Yahya-Zadeh, M. (2011). Accounting for decision making and control. Issues in Accounting Education, 26(1), 258-259.