The main criticisms about full-costing is the fact that it omits opportunity costs analysis and refers to past costs which are irrelevant for future decisions at first and secondly the way we allocate costs is arbitrary and changing method may drive wrong decisions. It becomes even more problematic when we have to deal with different product lines (Glautier and Underdown, 2000) as this could then become the case by developing a new range of sails as assigning indirect costs to specific products will drive the selling price of this product.
The concept of direct and indirect costs is key here as the first ones “can be traced to a specific cost unit and can be measured with respect to it” while the latter “are incurred in pursuance of the activity being costed but which cannot be related to or measured in respect of it” these are also known as overheads (McLaney and Atrill, 1995)
The other main component to take into consideration in the full-cost model is the level of profit (McLaney and Atrill, 2009) as it should then reflect the target business’ profit the company wants to achieve.
In 1998 Cooper and Kaplan of the Harvard Business School argued that this costing method was like “peanut butter spread” and that it could lead to distorted costs allocation in the company (Goektuerk, 2007).
To remediate to this situation, Activity Based Costing (ABC) can be implemented as an alternative to the full-costing concept. To address this issue, ABC will trace all the costs by activity and report them back per product or service. In order to efficiently allocate these costs, there are steps to undertake i.e. identify all the actual activities and then the cost activities and their drivers. Once the drivers are identified and under control, we can then allocate the costs and control them by controlling the drivers. This method helps then increasing the accuracy of costs allocation, having a better grip on cost controls by working on the drivers and also outlining changes that may have to be brought in the organisation to optimise production.
According to Venkataraman and Pinto (2008), the other side of the coin for ABC is that there is less involvement from top management as it is more a bottom-up approach and this may lead to tension between strategic and operational levels of the organisation. Heisinger (2009) brings another view about the costs of implementing ABC in an organisation as it means that people on top of their activities will have to identify, monitor, track and operate the process.
As a conclusion, it is thus important to use it as and when necessary i.e. multiple products and variations in the production, or else the benefits may not outweigh the costs of implementation and embedding ABC in the organisation.
References and bibliography:
ARMSTRONG, M., 2002. A Handbook of Management Techniques: The Best Selling Guide to Modern Management Method, 3rd ed. London, UK: Kogan Page
BAKER, J., 2010. Implementing Value Pricing: A Radical Business Model for Professional Firms. Oxford, UK: Wiley
GEORGES, W. and McGEE, R., 1987. Analytical Contribution Accounting: The Interface of Cost Accounting and Pricing Policy. Westport CT, USA: Quorum Books
GLAUTIER, M. and UNDERDOWN, B., 2000. Accounting theory and practice, 7th ed. London, UK: Financial Times Management
GOEKTUERK, H., 2007. Activity-Based Costing (ABC) – advantages and disadvantages. Munich, Germany: GRIN Verlag
HEISINGER, K., 2009. Essentials of Managerial Accounting. Boston, USA: South-Western College Publishing
HOPPER, T., NORTHCOTT, D. and SCAPENS, R., 2007. Issues in Management Accounting, 3rd ed. New Jersey, USA: Prentice Hall
McLANEY, E. and ATRILL, P., 1995. Management Accounting: An Active Learning Approach (BABS), 1st ed. Oxford, UK: Wiley
McLANEY, E. and ATRILL, P., 2009. Accounting: AND My Accounting Lab: An Introduction, 4th ed. Harlow, UK: FT Prentice Hall
THE ROBERT GORDON UNIVERSITY, 2009. Full costing and activity based costing (MBA_slides_-_session_3_PT.DL.ppt). UK: The Robert Gordon University
VENKATARAMAN, R. and PINTO, K., 2008. Cost and Value Management. Oxford, UK: Wiley