Rank The Following Methods Of Assigning Overhead Costs

Rank The Following Methods Of Assigning Overhead Costs From Least A

Rank the following methods of assigning overhead costs from least accurate to most accurate. A. Activity-based costing, departmental rates, plantwide rate B. Plantwide rate, departmental rates, activity-based costing C. Departmental rates, plantwide rate, activity-based costing D. Plantwide rate, activity-based costing, departmental rates

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The accurate allocation of overhead costs is a critical aspect of managerial accounting, as it directly influences product costing, pricing decisions, and profitability analysis. Among various costing methods, plantwide rate, departmental rates, and activity-based costing (ABC) are commonly used to allocate overheads. Judging their relative accuracy, the methods can be ranked, with activity-based costing generally recognized as the most precise, followed by departmental rates, and finally plantwide rate as the least accurate.

Starting with the plantwide rate approach, this method averages overhead costs across the entire manufacturing facility, applying a single rate to all products regardless of their specific resource consumption. The simplicity of this approach is advantageous; however, it tends to be less precise because it overlooks the diversity of activities and resources involved in producing different products. For instance, a company manufacturing both simple and complex products may find that the plantwide rate inaccurately assigns overheads, leading to distorted product costs.

Departmental rates improve upon the plantwide method by allocating overhead costs at the departmental level. This involves dividing the manufacturing process into distinct departments, each with its own overhead rate based on department-specific activity levels. While this approach offers better accuracy by recognizing that different departments consume different amounts of resources, it still assumes that overheads within departments are uniformly distributed among products, which may not always be true. Variances in products' resource utilization within the same department can still result in inaccuracies.

Activity-based costing (ABC), on the other hand, precisely allocates overhead costs based on actual activities that drive costs. ABC identifies multiple cost pools associated with specific activities—such as machine setups, quality inspections, or order processing—and assigns costs based on the extent to which each product consumes these activities. This detailed method captures the complexity of resource consumption and provides a more accurate reflection of the true costs associated with each product. Although more time-consuming and costly to implement, ABC's ability to pinpoint cost drivers makes it the most accurate among the three methods.

Therefore, when ranking the methods from least accurate to most accurate, the order would be: plantwide rate, departmental rates, and activity-based costing. This ranking aligns with the consensus in managerial accounting literature, as ABC's focus on activity drivers minimizes distortions arising from diverse resource consumption patterns that simpler methods overlook (Kaplan & Anderson, 2004; Drury, 2013).

References

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