Peanut-butter costing involves assigning overhead costs using broad averages, rather than doing so in a more targeted manner. The name comes from how peanut butter is spread - uniformly over an entire piece of bread. An effect of peanut-butter costing is that overhead costs may be underapplied or overapplied to cost objects (such as products). When this happens, management may believe that a product has a cost that is lower or higher than may really be the case. If too little overhead has been applied to a product, there is a tendency to accept prices that are too low. Conversely, if too much overhead has been applied, management may raise the price of a product to an excessive extent in order to cover the cost, resulting in few sales and the loss of market share.
Activity-based costing (ABC) is the opposite of peanut-butter costing. It involves the identification of activities within a business, assigning costs to those activities, and then applying the costs of the activities to cost objects based on their activity usage. The result is much more targeted overhead cost allocations.