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Costs are usually allocated either for decision making, valuation, or cost reimbursement.

There are three steps when it comes to the traditional approach of cost allocation, and that is to first accumulate costs within a production department or a non-production one, then allocate the costs from the latter to the production department. The final step comes in the form of allocating the costs to services, products or customers. One of the methods is activity based costing.

How can activity based costing help?

Also known as ABC in the business world, this system is quite different when compared to the traditional ones, because it’s created in such a way so that it will first accumulate the overhead costs that are needed for each of the organizational activities. Once that is done, the costs of activities are assigned to the customers or products/services that are causing the activity. Activity analysis is a crucial aspect of ABC as it allows you to identify the necessary output measures of resources and activities as well as the effects that they have on the production process.

Implementing the activity based costing system in Canada?

Canada is one of the countries in which the activity based costing system was implemented with complete success. It’s important to note that one of the main reasons why this system is successful is the focus on indirect costs such as administrative, general and manufacturing over the head rather than just labour and/or material. This alone gives a much better way to reclassify all the costs and at the end of the day, companies have a more accurate view of the costs involved, which is important to achieve success.

There are 6 steps that you have to use in order to implement the ABC system:

• Find and then define the activity pools and individual activities
• Trace the activity costs
• Assign costs to the cost pools
• Determine the activity rates
• Assign all the costs
• Prepare and then perform a distribution of the management reports

Why adopt activity based costing in Canada?

There are plenty of reasons why Canadian companies are becoming more and more interested in activity based costing, mainly because this comes with small operational costs, not to mention that the ABC system can also be automated.

At the same time, this allows companies to determine which products are bringing a more profit for the company. This alone allows any business to understand where to focus the sales efforts!

In conclusion, activity based costing offers some of the best methods that you can use in order to reduce the costs of your Canadian business and take it to the next level. You get to understand which products offer feasible results early in the process, and, combined with the major benefits, activity based costing offers a stellar way to improve the profitability of your company, which is something that all businesses need!

Written by: Alexandru Tanase.

Alexandru is a free lance writer, reporter at Media TV and Softpedia.

He studied at the University of Bucharest; with a diploma in economics