Management Accounting: Costing Systems, Profit and Loss Statement, Overhead Cost, ABC System Benefits and Limitations

This article discusses the costing systems, profit and loss statement, overhead cost, ABC system benefits and limitations in management accounting. It also includes computation of cost per unit for Basic model and Advance model as per traditional costing system and activity based costing system. The article also covers the benefits and limitations of ABC system.

Running head: MANAGEMENT ACCOUNTING
Management accounting
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Table of Contents
Answer 1....................................................................................................................................3
Answer 2....................................................................................................................................3
Answer 3....................................................................................................................................4
Answer 4....................................................................................................................................5
Answer 5....................................................................................................................................6
Reference....................................................................................................................................9

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Answer 1
Computation of cost per unit for Basic model and Advance model as per traditional costing
system –
Particulars Basic Model Advance Model Total
Units produced and sold 1600 1500
Direct material cost per unit $ 325.00 $ 560.00 $ 1,360,000.00
Direct labour cost per unit $ 150.00 $ 260.00 $ 630,000.00
Direct cost per unit $ 475.00 $ 820.00 $ 1,990,000.00
Indirect cost
Inspection cost $ 4.57 $ 8.46 $ 20,000.00
Assembly cost $ 20.63 $ 37.99 $ 90,000.00
Production Schedule $ 23.04 $ 45.43 $ 105,000.00
Machine set - up $ 7.70 $ 15.12 $ 35,000.00
Selling and administration
cost $ 93.73 $ 140,600.00
Interest expense $ 16.80 $ 25,200.00
Office rent $ 23.93 $ 35,900.00
Cost per unit $ 530.94 $ 1,061.46 $ 2,441,700.00
It can be observed from the above calculation table that the cost per unit for Basic
model as per the traditional costing system is $ 530.94. On the other hand, cost per unit for
Advance model as per the traditional costing system is $ 1,061.46.
Answer 2
Computation of cost per unit for Basic model and Advance model as per activity based
costing system –
Particulars Basic Model Advance Model Total
Units produced and sold 1600 1500
Direct material cost per unit $ 325.00 $ 560.00 $ 1,360,000.00
Direct labour cost per unit $ 150.00 $ 260.00 $ 630,000.00
Direct cost per unit $ 475.00 $ 820.00 $ 1,990,000.00
Indirect cost

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Inspection cost $ 2.63 $ 10.53 $ 20,000.00
Assembly cost $ 32.34 $ 25.50 $ 90,000.00
Production Schedule $ 5.97 $ 63.64 $ 105,000.00
Machine set - up $ 6.25 $ 16.67 $ 35,000.00
Selling and administration cost $ 93.73 $ 140,600.00
Interest expense $ 16.80 $ 25,200.00
Office rent $ 23.93 $ 35,900.00
Cost per unit $ 522.19 $ 1,070.80 $ 2,441,700.00
It can be observed from the above calculation table that the cost per unit for Basic
model as per the activity based costing system is $ 522.19. On the other hand, the cost per
unit for Advance model as per the activity based costing system is $ 1,070.80
Answer 3
Profit and loss statement for the Advance model for December 2017
Particulars Traditional costing ABC method
Units produced and sold 1500 1500
Selling price per unit $ 1,273.76 $ 1,273.76
Total sales revenue $ 1,910,636.42 $ 1,910,636.42
Direct material cost per unit $ 560.00 560
Direct labour cost per unit $ 260.00 260
Direct cost per unit $ 820.00 820
Indirect cost
Inspection cost $ 8.46 10.53
Assembly cost $ 37.99 25.50
Production Schedule $ 45.43 63.64
Machine set - up $ 15.12 16.67
Selling and administration cost $ 93.73 93.73
Interest expense $ 16.80 16.80
Office rent $ 23.93 23.93
Cost per unit $ 1,061.46 1070.80
Profit per unit $ 212.29 $ 202.96
Total profit $ 318,439.40 $ 304,442.40

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The selling price of advance model as per the traditional costing system is $ 1061.46
and as per the activity based costing system is $ 1070.80. However, the selling price for the
advance model under both the system of costing is 20% above the cost as per traditional
system that is $ 1,273.76 per unit. Therefore, the resultant profit for the month of December
for Advance model under traditional costing system is $ 318,439.40 and under activity based
costing system is $ 304,442.40.
The overseas buyer is interested to purchase the Advance model only due to various
reasons. Generally the ABC costing system is more appropriate basis of allocating overheads
as compared to the traditional costing system of allocation. It can be seen from the above
calculation that the cost per unit for Basic model as per the traditional method is $ 530.94
whereas the same under ABC system is $ 522.19. Therefore, using the traditional system the
company is showing the higher cost per unit as compared to ABC. Therefore, if the company
add profit percentage on cost the cost of the product will be higher than actual as the
company is using traditional system (Dale and Plunkett 2017). On the other hand, cost per
unit for Advance model as per the traditional method is $ 1061.46 whereas the same under
ABC system is $ 1070.80. Therefore, using the traditional system the company is showing
the lower cost per unit as compared to ABC. Therefore, if the company add profit percentage
on cost the cost of the product will be lower than actual as the company is using traditional
system. Hence, the buyers will be in profitable position if they buy the Advance model and
will be in a losing position if they buy the Basic model (Dong, Liu and Lin 2014).
Answer 4
From the above calculation it can be seen that the actual overhead using the ABC
system for Basic model is $ 47.19 per unit and for Advance model it is $ 116.33 per unit. On
the other hand, the applied overhead per unit as per the traditional system for Basic model is

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$ 55.94 per unit and for Advance model it is $ 107.00 per unit. Therefore, the applied
overhead differs from the actual overhead due to changes in the method.
Dealing with over / under applied overhead cost
As per the given scenario over applied overhead cost per unit for basic model is ($
55.94 - $ 47.19) = $ 8.75 per unit. On the other hand, the under applied overhead cost per unit
for Advance model is ($ 116.33 - $ 107.00) = $ 9.33. Over application or under application of
overhead cost can be dealt in the following ways –
1. Adjustment in the cost of sales – the under absorbed or over absorbed overhead is
closed and thereafter it is transferred to the account of cost of sales. This is performed
by cost accountant at closing of each month or at the close of each accounting period.
However, if transfer is made at closing of accounting period the amount of under
absorption or over absorption is carried forward to the next period and it is treated as
deferred income if it is over applied and as deferred charges if it is under applied
(Lakmal 2014.).
2. Carry forward to the subsequent year – the over absorption or under absorption can
be carried forward to next accounting period. This can be transferred to overhead
reserve account and the overhead reserve account is shown under the balance sheet.
3. Writing off to the costing profit and loss account – if the amount of over absorption
or under absorption is small, it can be written off through transferring it to costing
account of profit and loss. If it is treated in this way, the valuation of the closing
stock will be under stated or over stated (Novak et al. 2017).
Answer 5
Benefits and limitations of ABC system

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Various benefits of ABC system are as follows –
 Accurate cost of product – ABC helps in determining the cost of the product in
reliable and accurate manner through focussing on the relationship of cause and
impact that takes place while cost is incurred. It identifies the activities that involve
cost and the product to which the cost is incurred (Hilton and Platt 2013).
 Details information regarding cost behaviour – it recognizes the cost behaviour nature
and assists in reducing the costs and recognising the activities that does not add any
value to product. With the ABC system, the managers will be able to have control on
various fixed overheads through applying more control on the activities that caused
the fixed overhead. This is possible as the fixed overhead cost will be more clear and
visible (Özkan and Karaibrahimoğlu 2013).
 Better decision making – ABC system significantly improves the decision of the
managers as they are able to use more reliable data with regard to the cost of product.
It assists in fixing the selling price of the product as more accurate data can be
available readily.
Various limitations of ABC system are as follows
 Complex and expensive – ABC system has various cost drivers and numerous cost
pools. Thus, installation of the system can be more complex and costlier as compared
to the traditional system.
 Driver selection – various issues arises while the ABC system is implemented. The
issues involve may be allocation of common cost, cost drivers and variations in the
rates of cost driver (Weygandt, Kimmel and Kieso 2015).
 Difficulties in measurements – another major difficulty associated with the ABC
system is the requirement measurement for implementing the ABC system. It requires

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the management to project the costs for activity pool and recognise and measure the
cost drivers for serving the method of cost allocation. Further, even the basic systems
of ABC need various calculations for determining the cost of the services and
products (Drury, 2013).
Therefore, irrespective of various limitations ABC can produce more accurate result if
is used in proper way and the people who are using the system are trained properly.

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Reference
Dale, B.G. and Plunkett, J.J., 2017. Quality costing. Routledge.
Dong, J., Liu, C. and Lin, Z., 2014. Charging infrastructure planning for promoting battery
electric vehicles: An activity-based approach using multiday travel data. Transportation
Research Part C: Emerging Technologies, 38, pp.44-55.
DRURY, C.M., 2013. Management and cost accounting. Springer.
Hilton, R.W. and Platt, D.E., 2013. Managerial accounting: creating value in a dynamic
business environment. McGraw-Hill Education.
Lakmal, D., 2014. Cost Analysis for Decision Making and Control: Marginal Costing versus
Absorption Costing.
Novak, R., Fong, M.H., Zhang, H. and Vrzic, S., Apple Inc, 2017. Methods and systems for
resource allocation. U.S. Patent 9,614,650.
Özkan, S. and Karaibrahimoğlu, Y.Z., 2013. Activity-based costing approach in the
measurement of cost of quality in SMEs: a case study. Total Quality Management & Business
Excellence, 24(3-4), pp.420-431.
Weygandt, J.J., Kimmel, P.D. and Kieso, D.E., 2015. Financial & managerial accounting.
John Wiley & Sons.