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Activity-Based (Costing) Budgeting

Activity-based costing is an approach to the costing and monitoring of activities, which involves tracing resource consumption and costing final outputs. Resources are assigned to activities and activities to cost objects. The latter use cost drivers to attach activity costs to outputs.

It can be considered as the modern alternative to absorption costing, allowing managers to better understand product and customer net profitability. ABC focuses attention on cost drivers, the activities that cause costs to increase. Traditional absorption costing tends to focus on volume-related drivers, such as labour hours, while activity-based costing also uses transaction-based drivers, such as number of orders received. In this way, long-term variable overheads, traditionally considered fixed costs, can be traced to products.

The ABC process is as follows:

  1. Split fixed overheads into activities. These are called cost pools.
  2. For each cost pool identify   what causes that cost. In ABC terminology, this is the ‘cost driver’, but it might be better to think of it as the ‘cost causer’.
  3. Calculate a cost per unit of cost driver (Cost pool/total number of cost driver).
  4. Allocate costs to the product based on how much the product uses of the cost driver.

What benefits does ABC provide?

Activity-based costing provides a more accurate method of product/service costing, leading to more accurate pricing decisions. It increases understanding of overheads and cost drivers; and makes costly and non-value adding activities more visible, allowing managers to reduce or eliminate them. ABC enables effective challenge of operating costs to find better ways of allocating and eliminating overheads. It also enables improved product and customer profitability analysis. It supports performance management techniques such as continuous improvement and scorecards.


In addition to estimating more accurately the true cost of production, ABC will also give a better indication of where cost savings can be made. Remember that accountants should be proactive in improving performance rather than passively measuring costs.


  1. Activity-based costing (ABC) is a method of assigning overhead and indirect costs—such as salaries and utilities—to products and services.
  2. The ABC system of cost accounting is based on activities, which are considered any event, unit of work, or task with a specific goal.

To learn more about this method of costing, please enrol team to attend our upcoming Masterclass – 2023 Best Budgeting, Forecasting & Control Practices©. The event takes place from the 18th to the 20th of April 2023 at the Hilton Hotel SandtonJohannesburg, South Africa.


Gervase Mwango (CA- ACCA)