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Direct material + direct labour of a product
Cost of direct labour + manufacturing overhead incurred to convert raw material to a finished product
Suitability of cost drivers in ABC in terms of 1) predicting future costs and 2) controlling and managing costs
- Predicting future costs: The activity drivers used will allow it to predict the future costs of its products by monitoring costs and quantities for each product.
- Therefore, it will be able to budget for these costs going forward.
- It will also give insight into the differential costs associated with producing its products and this may be used as for setting prices or quoting the cost of jobs to clients
- Controlling and managing costs: the ABC system may also be instrumental in controlling and managing costs as it will give an insight into various activities (and hence costs) associated with producing each product.
- Therefore, managers will be able to use this info to fine tune the production process to achieve potential cost savings.
- To further control and manage costs, should consider using root-cause cost drivers that will identify the underlying cause of activity costs (which may be potentially different to activity drivers used to predict cost)
What to when labour hours is limited and cannot meet customer demands
- Outsourse or subcontract the additional units to another supplier. However care should be taken that this supplier is reliable and produces the same quality
- Allowing its labour force to work overtime hours
- Acquiring labour from outside the community
Factors to consider when deciding whether to accept special offer
- Whether the special order price will affect the regular selling price
- Whether using cheap raw materials will affect the reputation in terms of quality