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The system traces costs incurred to the activities involved therein. It explores the relationship between activities and costs. Activity Based Costing treats activities as the primary cost drivers and their costs are traced to the product for which they are performed. Activities consume overhead resources, and products (or projects or processes) demand activities, the cost of products is related to the cost of resources. (Cooper, 1990).
By design, Activity Based Costing provides not only relatively accurate cost data, but also information about the origin of the cost (Cooper and Kaplan). Various companies, especially where the management is progressive and managers have some experience in Activity Based Costing have implemented it.
Literature Review
Experience with Activity Based Costing, as shared by managers who have tried and tested the methodology, clearly highlights that such a costing method improves cost measurement by organising information around activities.
Prior studies, research work and existing literature in Activity Based Costing clearly indicates that its implementation can “radically change how managers determine the mix of their product line, price their products, identify the location for sourcing components, and assess new technology” (Turney, 1989). Despite the various critical areas which these studies touches upon there still are many more are largely unexplored. Most of the literature in the area of Activity Based Costing focuses on its application in the large sized manufacturing and non-manufacturing companies. Small companies, both manufacturing as well as non-manufacturing, have not been focused as there are not many instances of application Activity Based Costing in such companies.
Most of the research work in Activity Based Costing has primarily focused on large manufacturing companies and that too their experience post-implementation. Some important contributors in this respect include Gietzmann, 1991, Innes & Mitchell 1990, Bhimani & Pigott, 1992; Friedman & Lyne, 1995, 1999; Kocakulah, Fowler & McGuire, 2000; Granlund, 2001.
Another aspect which has interested many researchers has been why some companies for reject Activity Based Costing. In this context contributors of Cobb, Innes & Mitchell, 1992 and Waeytens & Bruggeman, 1994 are worth highlighting. However, researchers have somehow not given due importance to investigation into reasons why operating units do or do not investigate Activity Based Costing and how they undertake the ABC investigation decision. A review of the current literature relating to Activity Based Costing in small as well as large companies was undertaken to understand the reasons of its poor take up amongst small UK manufacturing companies. Some existing work is highlighted in the paragraphs that follow.