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Activity Based Costing (ABC) or Traditional Cost Accounting (TCA)“ Recommended For The SMEs?

Background of the Study

Competition in global market has increased to a great extent that it is creating a high pressure on Small-to-medium size enterprises (SME) for maintaining a certain position in the market place and remain competitive. There are variety of strategies and methods which can help small enterprises to achieve cost savings, market response and financial efficiency. Furthermore, the approaches like supply chain management approaches and improved accounting structures are also helpful for achieving such targets or goals. Moreover, this research work highlights the benefits of using activity based costing (ABC) over the use of traditional cost accounting (TCA) within SME’s. And the chief aim of this work is to highlight the foundation and methods of activity based costing. SME’S frequently face changes due to change in business environment as a result of which they require to update their accounting system in order to remain competitive within the market. It requires various SME’s resources and cost drivers for making ABC and its implementation a success. On the other hand, customer’s demand changes from time to time and it creates a need for SME’s to adopt ABC for providing number of services to their customers. This report focuses on the challenges related with managerial and technical associates of activity-based costing (ABC) model.

Aims and Objectives of the Research

The primary aim of this research is to distinguish the usage of both activity based costing and traditional cost accounting. The motive behind distinguishing both the accounting methods is to analyze a better method for usage by SME’s.

Objectives of the Research

  • To study the impact of using traditional cost accounting on the performance and profitability of SME’s.
  • To study the impact of using activity based costing on the performance and profitability of SME’s.
  • To scrutinize the benefit of using ABC by SME’s.
  • To study the limitations of using ABC (activity based costing) by Small-to-medium size enterprises (SME).
  • To determine various methods or strategies for reducing or minimizing the limitation factor of using activity based costing by SME’s.

Literature Review

There occur difference in the accuracy and complexity factors between both the methods of accounting – activity based costing and traditional cost accounting. In brief, traditional cost accounting is simple in itself but when it comes to accuracy, activity based accounting lies on the top. Activity based cost accounting is procedural in the sense that it undertakes various activities to calculate the whole organizational cost. This is the reason it require a bulk of data for proceeding with a complete detail. On the other hand, traditional cost accounting is simpler and fluctuates from under costing to over costing. And it is not as much accurate as that of activity based costing. Activity based costing consists of some procedures or steps and these are:

  • Identifying the products or activities that are consuming high cost within the operations of SME’s.
  • Identifying appropriate cost driver based on cost allocation.
  • Identifying different indirect expenses or indirect cost per cost allocation.
  • Calculating methods to decide capacity per cost driver.
  • Identifying the overhead rate for one cost activity.
  • Reducing or minimizing the expenses of indirect cost on the products.
  • Allocating cost to the products in different way that can lead towards the growth and profitability of the company.

There are different methods of accounting but if one has to choose from activity based costing (ABC) and traditional cost accounting (TCA) then ABC is much more beneficial. Activity based costing enables managers to have analysis of the resources getting wasted in different indirect costs and activities, manage cost of the company to manage profitability factor, cost allocation and update the accounting system for the betterment of the company. Thus, ABC provides better methods and opportunities for operational, financial, and strategic decision makings. ABC is a improvised and strategic way than TCA for providing financial support regarding product & customer related decisions.

Methodology

Quantitative research methodology has been adopted for this research work to interlink differenttheories and numerical data. This report undertakes major differences between Activity based costing  (ABC) and traditional cost accounting (TCA), providing an overview of ABC as a better accounting system  for SME’s. Clear objectives have been put forth for understanding the basis of research and for this purpose positivism research approach has been utilized by the researcher. Furthermore, deductive approach is formulated for evaluating various theories based on accounting. The data collected via primary and secondary data collection method has not been tailored under any circumstances. Regarding the research design, descriptive design has been chosen to create link between the observations of targeted audience and the proposed theories.

Reference List

Askarany, D. (2015). Interaction between Target Costing and Activity-Based Costing: Is Target Costing a True Costing Technique?.SSRN Journal

Carli, G. and Canavari, M. (2013). Introducing Direct Costing and Activity based Costing in a Farm Management System: A Conceptual Model. Procedia Technology, 8, pp.397-405

Easton, P., Halsey, R., McAnally, M., Hartgraves, A. and Morse, W. (2015).Financial & managerial accounting for MBAs

Fei, Z. and Isa, C. (2010). Factors Influencing Activity-Based Costing Success: A Research Framework. International Journal of Trade, Economics and Finance, 1(2), pp.144-150

Garrison, R., Noreen, E. and Brewer, P. (2015).Managerial accounting

Hoozze, S. and Hansen, S. (2015). A Comparison of Activity-Based Costing and Time-Driven Activity-Based Costing.SSRN Journal

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