Final answer:
A company should consider using Activity-Based Costing (ABC) if overhead costs constitute a small portion of total product costs, if it has only a few product lines that require similar degrees of support services, if direct labor constitutes a significant part of the total product cost and a high correlation exists between direct labor and changes in overhead costs, or if its product lines differ greatly in volume and manufacturing complexity.
Step-by-step explanation:
A company should consider using Activity-Based Costing (ABC) in the following situations:
- If overhead costs constitute a small portion of total product costs: ABC is particularly useful when overhead costs play a significant role in product costs. If overhead costs are low compared to other costs, ABC may not provide significant benefits.
- If the company has only a few product lines that require similar degrees of support services: ABC works best when there is a significant variation in support service requirements across the product lines. If the product lines require similar degrees of support services, other costing methods may be more suitable.
- If direct labor constitutes a significant part of the total product cost and a high correlation exists between direct labor and changes in overhead costs: ABC allocates overhead costs based on different cost drivers, such as machine hours or setups. If direct labor costs have a strong relationship with changes in overhead costs, ABC can provide more accurate cost allocations.
- If the company's product lines differ greatly in volume and manufacturing complexity: ABC helps to allocate overhead costs more accurately by considering the activities and cost drivers associated with each product line. If the product lines vary significantly in volume and manufacturing complexity, ABC can provide better cost information.