A homogeneous Cost Pool is a cost pool in which each activity whose costs are included in it has the same or a similar cause and effect relationship between the cost driver and the costs at that activity.
What Does Homogeneous Cost Pool Mean?
A homogeneous cost pool is a managerial accounting term for a group of costs that have the same cause and effect or benefits received relationship with the cost allocation base. The more homogeneous or similar the cost pools are the more costs can be attributed to the cost object. This sounds pretty complicated, doesn’t it? Well, it’s actually pretty simple.
A homogeneous cost pool typically contains a set of similar costs. To continue with the example, a cost pool whose changes are triggered by the number of supplier invoices will likely contain the hourly wages of the payables staff, their benefit costs, and any office supplies and utilities associated with their presence. Thus, if the number of supplier invoices received was to increase, so too would these expenses, since more staff would be needed to handle the additional level of activity.
If there are a large number of cost drivers in a business, then there will likely be a large number of homogeneous cost pools associated with them. However, it can require a great deal of labor to determine the contents of these cost pools and then maintain them over time.
Consequently, it is more common to reduce the number of cost pools, even though this may mean that their contents are not perfectly homogenous. This is less of an issue for smaller activity-based costing projects, where only a small number of costs are being examined, and so a higher level of accuracy can be used in constructing a small number of cost pools.
Benefits of Homogenous Cost Pool
The larger the number of cost drivers within a company, the bigger the number of homogeneous cost pools there will likely be. Identifying such cost pools can genuinely help a company better estimate and account for costs, ultimately helping improve its bottom line.
The primary difficulty with cost pools, especially when there are a lot of them, is that they can require a significant amount of effort and time to establish what should be included within them and then to them over the long term.
Therefore, it’s advantageous for a company to limit the number of its cost pools as much as possible in most cases. However, doing so may mean that each cost pool may become less homogeneous – the costs within it may not be similar. While this can make establishing accurate cost estimates more difficult, in the end, it can save companies a good deal of time and money when it comes to establishing and maintaining the cost pools themselves.
For smaller, activity-based costing projects, there is less of an issue with cost pools. There is a smaller number of costs to be considered, and therefore, the pool’s accuracy level can be more easily monitored and estimated.
While they come with some inherent difficulties, homogeneous cost pools can make a huge difference for companies in accurately determining and managing costs. Using cost pools can help companies more effectively anticipate and plan for expenditures.
Activity-Based Costing vs. Traditional Costing
ABC differs from traditional costing methods. Traditional costing is product-based and period-based. Product-based costs include materials, labor, and overhead while period-based costs include sales, general costs, and administration (SG&A).
These are charged against revenue for each accounting period. According to some managers, allocating these costs to the production of products can produce distorted estimates, especially if a factory produces many different products. However, for a company with a single product, traditional costing and ABC would produce similar product cost estimates.
The advantage of ABC is that it ties activity costs more directly to production. It achieves this by removing the distinction between product and period-based costs. In addition, under ABC, products are not allocated costs of unused capacity. The comparison between traditional costing methods and ABC provides an opportunity for insights related to areas of waste, underutilized capacity, and any other cost that does not directly support productivity—and making decisions about these insights.