The premise of actively based costing is that everyone within an establishment is essentially a part of the costing cause, no matter whether the individual is related to the stuff directly or providing service. The conventional costing system assuming that costs are caused by products, an activity based costing systems goes further to recognize its activities as the basic cost objects. The activities might include set-up, machining, receiving, delivery and other. Activities may cause costs and cost objects create the demand for activities, according to activity based costing system. These are the customers, processors, management responsibility and not only products the costs to be related to. Thus, an actively based costing is the principle of assigning the cost of activities to the products that demand the activities actually involved. Once, the manufacturing overhead costs lack direct correlation with the productive machine hours or direct labor hours and the diversity of products growing, actively based costing is a more accurate cost management system.
Costs are incurred to ensure activities like organization resources, are transformed in a particular manner, and products or services delivered to customers. Each type of cost is in need for its special purpose. Initially accumulated, costs are to be reassigned differentially either directly or indirectly. A direct cost is assigned in a cost-effective manner, while an indirect prescription needs regulation of relationships. When the latter is assigned through the use of a certain formula, the cost is considered allocated.
Cost assignment relates to attaching costs to activities. This process involves assignment paths and cost drivers. The former would be the source account and destination account, while the latter would become the proportion that sets up the amount of costs assigned according to some criteria.