When it comes to a company, there are many factors that must be taken into consideration. For instance: location, products/services, branding, advertising, marketing etc. But even with all that taken care of how will the managers, auditors and even employee’s know if they are being successful or not? This is where strategies of accounting come to play. A very successful method is Activity Based Costing.
This method has continued to help companies by keeping track of their spending and figuring out ways to improve their flaws. The purpose of this essay is to give a three hundred sixty degree knowledge of ABC.Starting from an in depth description of the method, how it has evolved from the past and how it has provoked other alternatives to assist it. Activity based costing is a strategy used by managers to determine where to spend money. This contrasts the traditional costing system (Marx, 2009). Activity based costing provides a lot more benefits for the company and displays a more clear look at how the company is doing economically (Cooper, 1991).
It allows managers to see where to spend money, and on which resources to focus their spending (Cooper, 1991).Managers should cut back spending on resources, and at the same time increase the output of their products (Cooper, 1991). There are several benefits to using the activity based costing method, and that is why it is growing in popularity. Though, in order for managers to optimize the benefits that activity based costing can provide, they will need to fully understand how it works.
Activity based costing in most basic terms is spending money on specific recourses depending on the activity they serve the company economically (Cooper, 1991). This is in contrast to the standard per-unit costs.A per-unit cost is not a beneficial to know, appose to knowing how much money a specific production line would bring in per year (Cooper, 1991). Knowing how much each section brings in will allow the managers to know how much to allocate to each resource based on how much it brings in. this will be useful in situations where the units bring in a large amount of money each but either cost a lot to make, or do not sell a high quantity, whereas if a unit may bring in a fraction of the amount each, but sell many times more and are, in the long run, making a lot more money.This allows activity based costing to be a more precise way to calculate the unit costs, as well as the profit the company is going to make on the units.
Knowing where to spend money will allow managers to focus on improving what will have the largest effect on the profit made. Along with activity based costing, managers see that different products will require greatly different uses on the companies specific resources (Cooper, 1991). So with this, they can realize a more accurate cost of each product per-unit, and figure out how much profit each product could potentially bring in. o do this they need to view the relationship between the costs and the activities (Cooper, 1991).The company will then balance most of their costs in the more profitable areas of production and activity (Cooper, 1991). It gives managers the understanding of where to base the costs so that more profit is produced.
Managers who use activity based costing also assume that activities cause costs, appose to just products causing the cost (Marx, 2009). The amount each activity would cost depends on the amount of resources that are used doing the specific activity (Marx, 2009).How to use activity based costing is not standard, but it has many similarities across all organizations that use it. There is a hierarchy of factory operating expenses for use with activity based costing (Cooper, 1991).
These can also be referred to as cost pools (Marx, 2009). The first, and lowest, tier in the hierarchy of factory operation is unit-level activities (Cooper, 1991). Examples of unit-level costs are materials, machine costs, energy and direct labour (Cooper, 1991). This is put at the bottom because product sustainability is not heavily affected at the unit-level.Adding to the costs here will not guarantee that the units produced will go up, because what it above unit-level in the hierarchy has a much greater effect on the total units produced, as well as profit created (Cooper, 1991). The second level is batch-level activities (Cooper, 1991).
These activities include setups, purchase orders, inspections, and material movement (Cooper, 1991). It is in this position for a few reasons. Units being consumed at batch-level is similar to being consumed at unit-level, though the resources consumed go up at batch-level, meaning it is slightly more cost efficient than unit-level.In batch level the costs are controlled by the activities within the level. Also, generally batch-costs are divided by unit-cost giving off the wrong impression of the actual costs involved with batch-level production.
The third tier is product-sustaining activities (Cooper, 1991). These activities include product specifications, process engineering, and product enhancement (Cooper, 1991). Product-sustaining activities are placed above batch and unit-level because there would not be batches or units if the product was not sustained.The costs involved at product-sustaining level do not alter depending on the number of units produced (Marx, 2009).
The cost can only be controlled by altering the activities within product-sustaining level (Marx, 2009). The highest tier in the hierarchy of factory operating expenses is the facility-sustaining level (Cooper, 1991). This level includes plant management, building and, heating and lighting (Cooper, 1991). This is seen as the most important from an activity based costing point of view, because the facility is the backbone of production, and if the facility is not great, production will be mediocre.
When the facility is optimized, the production and output will be at its best. Activity based costing has become an increasingly important tool for a large majority of organizations throughout the United States during the past two decades. Prior to ABC, in Europe, German speaking countries including Germany, Austria and Switzerland, had already developed a specialized accounting methodology called Grenzplanskostenrechnung (GPK) loosely translated from German meaning flexible margin costing.Similar to ABC this accounting system also focused on marginal costing, however it was more so concerned with short-term decision-making (The Legacy of Activity Based Costing: Addressing the Need for a Hybrid Technology – Tim Lowder) Originally ABC (activity based costing) is based on George Staubus’ Activity Costing and Input Output Accounting. The Consortium for Advanced Management-International, now known as CAM-I, played a formative role in determining the principles that are today known as ABC.The concepts of ABC were brought to notice by Robert S.
Kaplan and Robin Cooper through a number of articles (Harvard Business Review 1988) ,where it was described as an approach to solve problems of traditional cost management systems However, ABC was first clearly defined in the 1987 book Accounting and Management: A Field Study Perspective (Robin Cooper and Robert S. Kaplan) . ABC was later defined; “Traditional cost accounting focuses on what it costs to do something for example, to cut a screw thread; activity-based costing also records the cost of not doing, such as the cost of waiting for a needed part.Activity-based costing records the costs that traditional accounting does not do” (Management Challenges of the 21st Century – Peter F. Drucker) In 1990 Troxel and Weber discuss the three stages in the development of ABC; up until 1980 ABC characteristics were present in some accounting systems; however the ABC Approach was not yet identified. Systems with ABC characteristics were just considered a sophisticated traditional system.
These systems were used for normal financial purposes, not strategic purposes. Overall systems with ABC characteristics were most common in Europe. Phase two occurred in between 1980 and 1985.During this period the ABC approach was identified and differences from the traditional cost accounting methods were recognized.
No structure was yet defined for ABC systems, ABC was considered an alternative to conventional cost systems, and accordingly the few systems that were developed were on a case specific basis. Some recognition was made that ABC provides some strategic insights, but the system was still used primarily for financial reporting, this recognition raised the concern that a full implementation of ABC would conflict with GAAP (Generally Accepted Accounting Principles).985 and onwards marked the beginning of the third phase, one of structured implementation. Objections and approaches of development of ABC systems were specifically identified.
Recognition of the strategic insights of ABC was made, and it was the opinion that ABC could be used as a decision making tool. ABC was also in turn no longer considered solely a replacement for an existing cost accounting system. The development of relevant database technology made the system more practical, and finally Cooper and Kaplan led the way through their research and writing on ABC (Troxel, R. and M.
Weber. 1990. The evolution of activity-based costing.Journal of Cost Management).
ABC has provided many users with the benefits of being able to assign given costs with given activities. In doing so a company is able to figure out whether a certain good/service is profitable and by how much, giving just one of the many methods used to keep profits at a higher level. The same idea is also used to measure the production/ services a company performs. However, ABC has not only helped companies but it’s also integrated with different methods, helping companies view their goals and aspirations towards other concepts such as the MOS approach, just-in-time, time quality management and many others.
The reason being that one system alone cannot do a sufficient job and making the decisions needed to improve a company. With variation more perspectives can be brought into attention. However for simplicity sake the three concepts mentioned will be discussed. Kaplan’s balanced scorecard was originated by the idea of using a mixture of financial and non-financial measure in order to track the cost of goods and/or services of companies. Many other examples prior to Kaplan’s were used throughout the 1980’s. Art Schneiderman was the first person to a system using the balanced scorecard method.
He created a method that would help companies summarize their information that is most important to their specific needs/wants. It links together the inputs and outputs of the company in a strategic way. In doing so it allows the company’s visions and goals to be expressed. though it wasn't until the 1990’s when Dr. Robert S.
Kaplan and David O. Norton had worked together and wrote an article about using balanced scorecard in an article in 1992.Even though at that time many other activists were making discoveries about balanced scorecards and writing articles and even papers about the idea, Kaplan and Norton’s was by far the most popular. ttp://en. wikipedia. org/wiki/Activity-based_costing The ABC system and the Balanced Scorecard have positive contributions towards the success of a company.
Though both different aspects of a company’s process, they give a better idea of how to improve the company. Whether it be using ABC to give an idea of the channel strategy. Or the balanced scorecard which helps keep track of the ambitions and performance of the company. Joining these two ideas leads to the MOS approach to strategic planning. The MOS approach is a three-tier pyramid.
The first being the firm’s ability to gain as many stakeholders, and/or shareholders into the company.The second level involves evaluating the company’s internal and external position compared to its competitors. Meaning how does the company stand out in terms of customer satisfaction, profits, supplies, employee satisfaction etc. And whether or not they need to improve on any of those concepts.
Finally, once the thought of improvement is placed on certain criteria, the third level allows for those thoughts to be turned into actions. Thus developing strategies and methods to improve the potential flaws the company may possess. http://www. balancedscorecard. rg/bscresources/aboutthebalancedscorecard/tabid/55/default.
aspxThe relationship of ABC and the balanced scorecard to the MOS approach is that the beginning starts off with the balanced scorecard and measuring how successful a firm can carry out its strategies and overall goal. It gives off an array of perspectives that the company looks into (customers, profits) to keep track of its progress. In a sense it can be said that the balanced scorecard is like a thermometer. Placing the scorecard to figure out how successful the company will become.
Whereas, with an ABC system it’s not as significant or difficult to do.It’s simply another way to figure out the costs of goods and/or services as other traditional cost-accounting systems. None the less it’s still an important aspect. With the help of ABC it allows for a much more accurate calculations and understanding of why the costs are what they are (including costs like net income/loss, profit). In combining these two different systems a company can better itself in achieving success and continuing to stay in business for years to come. http://ezinearticles.
com/? Linking-Activity-Based-Costing-and-the-Balanced-Scorecard;id=3816903Not only has ABC contributed with the MOS system it has also raised the polls within the management industry. In any business field the main goal is to be able to make a profit and create revenue in the present in order to pay off your short-terms goals and for the long run as well. Failure to do so can cause for the company to be in debt and eventually permanently shut down. But how much revenue is considered “appropriate”? For many company’s this is a difficult decision.
If the company makes little to none, it makes them look bad and investors wouldn’t want to collaborate with them.In order to stay on the top and keep investors satisfied the management department has to be able to keep track of the costs and economic value of their company, while still maintaining at a respectable profitability level. It is not enough to simply manipulate the financial statements in order to cover up a flaw. So a good solution would be to combine the ABC.
Not only does it provide an accurate cost amount, but it also shows where those specific costs came from. This makes is much easier to trace back a variety of products and better the company in deciding whether or not they may need o cut back of certain products/services or even employees. Variety of implementations of ABC, have been used and shown successful for company’s especially larger ones.Examples such as just-in-time and total quality management are just a few.
The Just in Time (JIT) is a strategy that allows for the improvement on return on investment and reducing excess costs. A common example of this usage is when an item on a shelf isn’t there and needs to be re-stocked. This also improves warehouse space and costs of storing the merchandise. Now the Total Quality Management (TQM) is more of a long-term approach in regards with employees and customers.This method relies on customer satisfaction. Making sure that the products are easy to find, employees are available to help out etc.
These methods when used have shown to improve the company’s initiatives, keep a closer track on the cost, organization, and build upon customer to employee relationship. Only by familiarizing with the ABC method are the implementations affective. By using the methods above many companies have seen such success and have been able to fix their stubborn problems and better themselves mentally and financially.In conclusion, ABC is a strategy used to help company’s deal with different aspects of their business. Whether it be to keep the money intact, organize the employee’s to do their jobs more sufficiently, create short and long-term goals and stick to them.
ABC has been helpful ever since the creation of it around the 1980’s in which case many other scientists were on the verge of creating alternative methods. Regardless ABC held it’s ground. Even with the creation of different methods they still need the help of ABC in order to give a more precise calculation. Overall, ABC a rather new method but has made such an impact to our daily lives.
