# Key Terms in Activity Based Costing
Unlike absorption costing where one blanket rate (or a few departmental rates) is used to recover overheads, Activity Based Costing (ABC) apportions cost on the basis of activities performed and recovers cost through activity-wise rates.
## (i) Activity
Any event due to which a cost gets incurred is called an activity.
Examples: machine setup, ordering of materials, packaging, inspection, despatch.
## (ii) Cost Pool
All costs / expenses that are incurred for one activity are clubbed together. The total of such clubbed costs is the cost pool of that activity.
Example: In the Packaging cost pool we include cost of paper, glue, sticker, design and labour spent in packing.
## (iii) Cost Driver
A cost driver is the factor or reason due to which the cost of an activity changes — equivalently, the basis on which the activity cost is apportioned to products.
| Activity | Cost Driver |
|---|---|
| Setup cost | No. of setups |
| Ordering cost | No. of orders |
| Inspection | No. of inspections |
| Material handling | No. of material movements |
## (iv) Recovery Rate
The rate at which the activity cost is charged to each unit of cost driver, used to compute the cost transferred to products.
$$\text{Recovery Rate} = \frac{\text{Total Cost of Activity (Cost Pool)}}{\text{Total Number of Cost Drivers}}$$
The cost charged to a product = Recovery Rate × Number of cost drivers consumed by that product.