Activity-based costing definition

Activity-based costing (ABC) is a cost accounting method using the allocation of indirect costs to the actual activities that caused those costs. ABC examines the costs of each business process in order to allocate cost absorption as accurately as possible.

For example, with ABC the shipping department expenses may be allocated to different product lines that require different level of shipping department activity (cost) rather than a traditional costing approach where costs are allocated based on a general measure such as the number of items shipped.

Activity-based costing allows management to get a more accurate picture of the actual cost of a specific product or service, and therefore, make better operating decisions.