What are costing systems?

A costing system is simply a system which helps a company to discover the cost of a product from the income made. It is basically an information system. As we all know, activity based costing and traditional based costing are the most two common costing systems used in businesses. This one system used to diminish waste in a company. The factor which causes cost to incur is called a cost driver. Traditional costing system is based on cost drivers. Example of cost drivers are direct material hours, machine hours and direct labour hours. Activity-based costing has the meaning from its name itself. It believes that the activities which cause cost will actually create a demand. So what are the advantages and disadvantages of this both costing systems? General Accepted Accounting Principles or GAAP has actually approved the use of Traditional costing system. This is one advantage in the business and accounting world. Although it is approved GAAP, nowadays companies and business have start using the modern technology such as computers and machines as part of their production so traditional costing system has been outdated. The reason behind this is that, traditional costing system includes direct labour hours to evaluate cost. Traditional costing system does not really allocate cost because direct labour hours are not a steady cost driver. When reporting cost, the fixed cost and traceable should be separated. This is crucial because common fixed cost is normally are group in the traditional costing system where by the traceable fixed cost are gathered to departments. Traditional costing systems will end up in inaccuracy. By using the activity-based system, this system will provide a company or business with a more accurate result of cost. In determining the cost, allocation bases which is used in activity-based costing actually differs from the traditional costing system. Activity-based costing does not miss any product activity to determine the cost to the activity. Cost distortion problems will be diminished if activity-based costing system is applied correctly. There are few factors which are included under performance improvement techniques such as cost driver analysis, performance evaluation, activity grouping and activity based costing. Cost pools which have overhead cost, represents the activity involved in the production process in an activity based costing system. The existence of many activity areas causes activity-based costing system to make use of indirect cost pools. From here we understand that activitybased costing system creates an easy interpretation of cost for internal management and a better knowledge about overhead cost. Substantial resources are required when implementing activity-based costing system which is actually a disadvantage for a smaller company with restricted capitals.