What is Product Level Activity in Accounting?
Product level activity records activity occurring for a specific product. In old fashioned job order costing processes, overheads are assigned to manufacturing jobs or to functions on the basis of number of hours.
These could be manpower hours, machinery hours, or the labor cost incurred. However, as technology expands and makes manufacturing more diverse, the manufacturing process has now changed so much that the hours spent on a task or money paid to employees are not an effective means to assess the variable cost required to execute an order.
In such business models, activity‐based costing (ABC) is useful for assigning variable costs. Activity‐based costing works on the theory that the steps used in manufacturing anything are what decide the variable costs. Every cost, variable or fixed, is allocated to an action.
Activity-based costing as a costing process offers a detailed break down of a company’s production costs. This detailed process of costing offers far more depth and detail than the old fashioned volume based cost accounting systems.
These traditional systems usually skipped details about sales related costs. These omissions then led to misleading figures about the profit margins of products, product lines, customers and markets.
The process of activity costing is a better choice for allocating costs to the bases of the costs.
This allocation is called activity-based expense allocation. Cost drivers are the actions that impact the sum of all expenses incurred in such a pool, making it grow. The inventory used, the product machinery that are involved in the process, the delivery of goods to buyers are all forms of costs that are part of different activity pools that affect the total costs of a business.
Product Level Activity: Activity Breakups
A product level activity is any process that occurs for the development of an identifiable product or activity. Such activities will occur regardless of the units of production or service levels required from a business.
The standard business has a multitude of activities being carried out. Some of these can be monitored and accounted for through the standard activity-based costing system. However, this requires a lot of simplification.
All related activities and their expenses need to be added to make the accounting process simple and to satisfy bookkeeping requirements.
One way of simplification is to separate actions into a flow (chart). Actions, and their expenses, can be added to a level of the flowchart into the relevant costing pools. This is ideally done with a negligible reduction of accuracy.
The standard levels in the flow chart are as follows:
- Unit level activities. These actions are taken every time a product is made. For instance, generating electricity for powering manufacturing equipment is going to be a product level action.
- Batch level activities. These actions are taken every time a product group is made or processed, without consideration of the number of units produced. For instance, actions like issuing buying orders, installing machinery, logistics for raw materials, and delivering final products to clients are batch-level activities.
- Product level activities. These actions are specific to certain goods manufactured by the business and must be taken without regard to the number of units in the batch produced or sold. For instance, product design, advertisements, packaging design, and communications about a product and its management and employees are all product level costs.
- Customer level activities. These actions are linked to separate customers and may cover expenses like sales calls, catalog mailings, after-sales and before sales assessments, and technical support not tied to any specific product.
- Organization sustaining activities. These actions are what can be called fixed activities. They are carried out regardless of how much or which products are made, how many batches are produced, or how many units the batches consist of. These sorts of activities can consist of office maintenance, IT support, loan management, audit, and regulatory reporting and compliance activities amongst others.
Product Level Activity: Allocated Costs
Identifying the activities and creating cost pools for them is a one-time activity. Once all activity cost break ups are done, new activities can be added to existing pools and their costs assigned accordingly to the pools cost groups.
All costs of activity cost groups are then divided by the respective activity parameters to determine activity rates.
These rates can be treated as the overhead rates of normal activity.
Rates are useful for setting costs to their groups like goods and clients. For instance, if a clients places five separate buy requests and the activity rate per order is $ 25, then the clients would be allocated $ 125 in order costs.
The methods for assigning costs are no different from the process of applying overhead or variable costs to products. The major difference is that activity rates are different according to the nature of activity while overhead rates are fixed. For instance, product level activities will have a different cost rate, while unit level activities will have a different cost rate.
Product Level Activity
A product level activity will cover any costs that are incurred for running a particular goods’ or service production. Such costs are incurred regardless of the number of units or level of service needed from a product or service. In the cost structure of an activity-based costing system, product-level activities fall somewhere in the middle, as noted earlier.
Common types of product based activity are the payroll expense of the product’s manager managing it specifically, the expenses for designing it, the expenses for designing or redesigning product packaging, the costs of re-engineering changes in the product, and the advertising costs of a particular good or its variants.
Other instances of such product specific activities are engineering costs for changing or amending the assembly line, product design variations, storage, and warehousing expenses for each product’s materials and inventory.