Activity-Based Costing: Cost Driver
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Cost Driver
Selecting the activity areas and cost drivers is the most important and costly phase in developing ABC.
Cost Drivers are the events which result in the incurrence of costs. Cost Drivers are used to allocate indirect costs to each product according to the amount of each cost driver used by the product.
Linkage between activities and cost object
This flow is characterized through five core areas:
Calculation
of Cost Driver Rate
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Choosing Cost Driver
When choosing cost drivers, make sure they are relevant and easy to measure.
Relevancy relates to the direct or indirect relationship it bears to the cost of doing business.
Ease of measurement means that you must be able to allocate to each customer / product / service the portion attributable to the activities consumed.
Selection of activity area and cost driver reflects subjective trade-off between accuracy and cost of measurement.
Types of Cost Driver
Transaction - Transaction Drivers count how often an activity is performed, e.g. number of setups, number of receipts
Duration - Duration Drivers represent the amount of time required to perform an activity, e.g. setup hours, machine hours
Intensity - Intensity Drivers directly charge for the resources used each time an activity is performed, e.g. specific resources committed.
Examples of Manufacturing Cost Driver
Material Handling - no. of requisitions for materials
Quality Testing - no. of items tested
Machine Maintenance - maintenance hours
Examples of Service Department Cost Driver
Process account receivable - no. of invoices
Process payroll - no. of personnel
Process sales order - no. of sales orders
Deal with customer complaints - no. of complaints