1.0 Introduction There are two technique of overhead

1.0  Introduction

There
are two technique of overhead costing system, which is absorption costing and
activity based costing. Absorption costing defined as a managerial costing
method that expensing all the cost that associated with production process and related
to manufacturing of specific product. It includes the overhead costing and
total direct cost that related to the product. On the other hand, activity
based costing define the product services costs based on the indirect
activities and assign indirect costs to products less arbitrarily than
absorption method. The cost, activities and product can be recognizing by ABC
method.

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2.0  Key
Features

2.1  Advantages
of Traditional absorption costing

First
of all, the advantages of traditional absorption costing (TAC) is much simple
and easier to use compare to Activity based Costing (ABC). Traditional
absorption is according to the Generally Accepted Accounting Principles (GAAP).
Other than that, traditional absorption costing (TAC) is applying indirect cost
to products according to the predetermined overhead rate. An easy way of
implementation can bring the advantages to company (SmallBusiness 2017).

Secondly,
one advantages of traditional absorption costing (TAC) is production or
manufacturing costs will consider as production cost as well as all different
costs. For instance, non- production cost contains of research and development,
marketing, design as well as transport (UniAssignment
2017).

Lastly,
one of the advantages is a lot of manufacturing companies adopt traditional
costing system to assign manufacturing overhead to units produced. Traditional
absorption costing’s user s is the underlying driver of manufacturing overhead
cost in order to make the assumption (SmallBusiness
2017).

2.2  Disadvantages
of Traditional Absorption Costing (TAC)

Firstly,
the disadvantages of traditional absorption costing (TAC) is the profit level
of a company will caused by absorption costing during the accounting period (Investopedia, 2015). This is due to the
fixed cost are not deducted from revenue unless the product of company are
sold. The long-term profit can bring a negative impact to TAC. The reported
income will get lower and at the same time, it will be higher inventory cost to
the subsequent years. Not every company chooses to bear the cost of earlier
over production for so long time.

Besides,
lack of cost control is the limitation of TAC. The planning and control
function is not useful while using absorption costing due to the incurrence of
costs. The management is trying to control the direct and indirect cost but it
is weaken and distort the results in operation, control and decision-making.

However,
the apportionment of overhead cost is also the disadvantage of TAC. In order to
determine the absorption cost, it is depends on the validity of product cost
and the appropriateness of apportionment of overhead costs (YourArticleLibrary 2017). As a result, if used arbitrary method
with TAC, the figures will show the cost in doubtful and the cost of product
will be unreliable and inaccurate.

Therefore,
one of the limitations of TAC is inflated problem. The effect of inflating the
profit will cause the closing stock is valued on total cost, which included the
fixed overhead so that it will be charged to the product cost (YourArticleLibrary 2017). This is a bad
effect that producing for inventory may sizeable and the temporary of
absorption costing profit will be produces more inventory.

Last
but not least, the fixed cost is same to period cost. This can related to
whether to manufacture or sell whereas period cost is produce no future benefit
and should not be including in the cost of inventory and product (YourArticleLibrary 2017)..

2.3  Advantages
of Activity Based Costing (ABC)

Firstly,
Activity Based Costing (ABC) are able to provide in accurate products cost,
which is based on the relationship between the cost and effect in cost
incurrence. In addition, ABC data able to let us correct the price of the
products and services that is incorrect (YourArticleLibrary 2017).

Second,
ABC is able to indicate the cost behavioural. Cost behavioural refers to cost
changes in different activity level (Cliffsnotes 2017). By understanding the
cost behavioural, ABC able to reduce the product cost which are not relevant,
easy to make budget and do forecast (Cliffsnotes 2017).

Third,
ABC can help to determine wasteful products, so that the resources can be use
efficiently. The wasteful product cost can be reduced (SmallBusiness 2017).

Fourth,
ABC help in better decision-making, as manager can use the accurate data based
on ABC system to do business decision. ABC is able to fix selling price of a
product (Your Article Library 2017).

Fifth,
ABC can improve business progress. By using ABC method, non-valued adding
activity can be identify, only focus on valued adding activities and help in
better allocate resources of a business (SmallBusiness 2017).

2.4  Disadvantages
of Activity Based Costing (ABC)

Firstlt, Activity Based Costing (ABC)
data can be easily misinterpreted and must be use carefully in making decisions
(AccountingExplaination 2017).

Secondly, ABC’s report does not compliance
to Generally Accepted Accounting Principles (GAAP) and Internasional Finance
Reporting Standard (IFRS) (AccountingExplaination 2017). ABC needs to maintain
two cost systems and accounting books, one is for internal use and another is
for external reports (BrightHub 2017).

Thirdly,
in ABC method, there are only part of the overhead are related to the
activities consumption. Some of the overhead for example light will based on
the floor area rather than the activities,

Fourthly,
ABC method is hard in identifying accurately each activities and suitable cost
driver to measure the overhead incurred.

Lastly,
implementation of ABC is complex, time consuming, and costly to maintain
(BrightHub 2017).