An Introduction to Activity Based Costing and Activity Based Budgeting

An Introduction to Activity Based Costing and Activity Based Budgeting. Garry Bradley, Manager, Space Management, Property Services, RMIT University, ...
Author: Della Todd
0 downloads 1 Views 106KB Size
An Introduction to Activity Based Costing and Activity Based Budgeting. Garry Bradley, Manager, Space Management, Property Services, RMIT University, Melbourne Con Mozjerin, Space Planning Manager, Property Services, RMIT University, Melbourne Introduction Several Universities within Australia have investigated the potential to be gained from use of Activity Based Costing (ABC) methodologies. These investigations date back over more than a decade with a pilot study, commissioned in 1990, to determine the cost effectiveness of the teaching and support activities involved in part- time study. Some of these Universities have gone on to implement systems based on this methodology to assist in their operations and management. There is considerable interest within Government as to the possible uses of ABC. Those attending this session will gain an understanding of what is ABC, some insight as to how the ABC methodology can be used in Universities (particularly in the Properties/Facilities area) and the advantages and disadvantages, as identified by the Australian National Audit Office. In addition, the session will look at the natural extension of ABC in the budgeting area; Activity Based Budgeting (ABB). RMIT was the site of an ABC Property and Buildings pilot study, funded by DEETYA, in 1998. In presenting this session RMIT’s experiences will be used to provide ‘real world’ examples into what ABC and ABB means.

Activity Based Costing and Activity Based Budgeting ABC is not new. As early as in 1990 a university in Sydney commissioned a pilot study using the ABC Methodology to determine the cost of the part- time study. A framework was required to enable continuous monitoring the cost effectiveness of the teaching and support activities. This was one of the first pilot applications of the ABC Methodology in higher education in Australia. Since then, other Universities including RMIT have been involved in ABC study pilots. Some Universities gone on to implement systems based on this methodology to assist in their operations and management. The Australian National Audit Office has identified the following characteristics of ABC: Advantages - Output costs are supported by a schedule of costed activities - Opportunities to examine work processes - Identifies non value-adding activities that can be eliminated

G:\!Operations\!Wcc\!Oc\AAPPA Presen\G_Bradley.doc

Page 1 of 7

- Basis of a performance measurement system and direct link between strategic goals and operational realities - Enables cost profiles to be managed - Accurate costing data for operational management - Costs are transparent, understandable and actionable Disadvantages - Activity definition may become too detailed and the model may become too complex and difficult to maintain - Underestimation of the task of collecting activity driver data - Implementation may be considered a financial management “fad” and there is insufficient commitment from operational managers What is ABC, what level should be involved, who runs it etc. Activity Based Costing (ABC) is an approach to costing that considers the resources consumed by activities in order to create and deliver a product or service. Whereas the underlying assumption of a conventional costing system is simply that products cause costs, an activity based costing system assumes that cost objects (e.g. a subject) creates the demand for activities (e.g. teaching), which in turn causes resources to be consumed (e.g. academic time, lecture space, etc.) and causes costs. Cost objects are the reason for performing activities, and activities are the processes or procedures that cause work and create costs. ABC analyses costs from the perspective of the how much a particular activity costs, and the amount of resources consumed by the end product of the activity. Using activity based costing differs from traditional cost accounting in that the focus is on the activities that are required to produce an end product, rather than assuming that the volume of the end product is the only driver of costs. By understanding how resources are transformed into products or services, and by focusing on the cost of activities, ABC helps an organisation to obtain a greater understanding of how costs behave in their organisation and which activities create significant amounts of cost. Organisations can then begin to control their costs based on tangible activities rather than relatively uninformative general ledger or cost centre reports. ABC is the assignment of costs from resources to activities and then from activities to cost objects:

Resource

Activity

Cost Object

ABC identifies the processes and activities involved in producing the cost object (e.g. a course, program, project or faculty/group) and then costs these activities. The activities are costed by taking the traditional general ledger cost reports and determining an appropriate resource driver to assign the resource costs to the various activities. This involves accumulating costs that behave in a similar way into ‘cost pools’ (e.g. salary costs, facility costs), and then identifying appropriate resource drivers to assign the costs from the cost pools to the activities (e.g. % of academic time, teaching space-M2 etc).

G:\!Operations\!Wcc\!Oc\AAPPA Presen\G_Bradley.doc

Page 2 of 7

The next step in ABC is to assign the activity costs to products or services. This involves identifying activity drivers to assign the cost of these activities to the final cost objects, typically a product or service. Resources Module: Salaries and operating expenses. These costs are obtained from the general ledger and are included in the ABC model to calculate the cost of activities. - Resource Drivers are used to assign resource costs to activities. Activity Module: Activity can be defined as an action or set of actions within an organisation that consume resources with the aim of producing an end product or service. - Activity Drivers are used to assign the cost of activities to the cost object. Cost Object Module: Cost objects are the reason or purpose for performing the activities. A cost object can be a product, service, customer group, department, organisation or project. - Cost drivers are factors causing a change in the performance of an activity, and therefore affects the resources required by the activity.

The key concepts of Activity Based Costing can be summarised as follows: 1.

Activities consume resources (and cause costs); and

2.

Products or services (the cost objects) consume activities.

General Ledger

Resource Drivers

Mega Processes / Activities

Activity Drivers

Cost Objects

Process 2: S ecurity Process 1: Maintenance Activity 1

Acti vity 2

Acti vity 3

RMIT Departments

Resource to Activity Assignments Activity Based Costing (ABC) is a method of measuring the cost and performance of activities and linking them to cost objects. ABC assigns costs to activities based on their use of resources, and assigns costs to cost objects based on their use of activities. Activity Based Costing/Management (ABC/M). It is preferable that the Workforce Activity Based Management methodology is used to develop and implement the ABC Model in the organisation. This would mean that everybody will participate in the process and have ownership. This normally encourages co operation and adds value to the process by contribution of ideas, improvements to processes etc. Engage the operations people from day one, get them to help design the systems and determine the right drivers and the key cost issues that need to be addressed. G:\!Operations\!Wcc\!Oc\AAPPA Presen\G_Bradley.doc

Page 3 of 7

On the other hand, if the financial manager is pushing the ABC/M project on to operations, it will ultimately fail. Behind many ABC/M failures is the attitude that it's just another beancounting initiative. For ABC/M to succeed, the operations managers need to take ownership of the ABC/M model and make the process their own. You have to encourage that ownership attitude. Otherwise, the ABC/M project stands a good chance of failing. The process should be transparent. Typical ABC model RESOURCES

ACTIVITIES

COST OBJECTS

Salaries & Wages Operating Costs Capital

Cleaning Utilities Maintenance Security Admin Opportunity cost

Cost/m of spaceEXISTING

2

ABB/P (Activity Based Budgeting/Planning) as an additional tool for Planning/Budgeting. ABB is in fact ABC in reverse, this method is a natural extension of ABC i.e. budgeting process uses the south-to-north cost flow and follows the sequence of: 1. Number of end products 2. Forecast the demand of activities 3. Calculate the resource demands 4. Determine the actual resource supply 5. Determine activity capacity Typical ABB model COST OBJECTS 2

Cost/m of spaceNEW

ACTIVITIES

RESOURCES

ACTIVITIES

COST OBJECTS

Cleaning Utilities Maintenance Security Admin Opportunity cost

Salaries & Wages Operating Costs Capital

Cleaning Utilities Maintenance Security Admin Opportunity cost

Cost/m of spaceEXISTING

2

2

Cost/m of spaceNEW

The CAMI-I Cross

G:\!Operations\!Wcc\!Oc\AAPPA Presen\G_Bradley.doc

Page 4 of 7

Resources

Cost Drivers

Process view

Activities

Cost view

Performance Measures

Products & Services

A simple diagram that represents a basic concept of ABC in an organisation based on the industry research. This is also referred to as a two dimensional model that includes macro & micro activities which will be discussed in Part 2 of this paper. CAM-I (Consortium for Advanced Manufacturing International) is an international consortium of companies, consultancies and academics who have elected to work cooperatively in a pre-competitive environment to solve problems that are common to the group. It has been formed by the industry for the industry and is a three decade tradition of industry led research. The organisation recognises, supports and uses tools such as Performance Measurements, Activity Based Costing /Management, Activity Based Budgeting, Balanced Scorecard, Cost of Quality reporting and Business Process Reengineering just name a few that provide benefits for efficient management and operations. Workforce Activity Based Management (WABM) It should be noted that when an organisation is planning to implement the ABC/M, the process should be transparent and focusing on the activities rather than performance. This is where the Workforce Activity Based Management should be employed to facilitate the implementation of ABC. WABM adds focus to improvement efforts, all employees understand how they can change their work to help improve business performance and they are accountable for their contribution to that performance. Workers accept more decision making responsibility, and managers become a coach, facilitator, communicator and resource. WABM employs a ‘bottom up’ process that involves everyone in the organisation as opposed to a select few or key managers only. RMIT’s experience: - DETYA Pilot Study of Buildings & Grounds at RMIT In 1998 DETYA commissioned Ernst & Young to survey Universities as to the adequacy of their costing information, to propose a costing methodology for higher education for discussion at a representative workshop and then to test an agreed methodology in three participating Universities. ABM costing methodology was proposed and trialled at Charles Sturt, Murdoch and RMIT in the areas of Faculty costs, Human Resources, and Facilities Management. G:\!Operations\!Wcc\!Oc\AAPPA Presen\G_Bradley.doc

Page 5 of 7

The study undertaken by RMIT focussed on those costs associated with the use and maintenance of all property, buildings and grounds at the University. The scope and level of analysis were deliberately kept at a relatively high level, with only the major facilityrelated activities being considered. Being a preliminary study, some of the cost drivers used in the model are being progressively replaced as a continuos refinement of the model is undertaken and more appropriate drivers are identified. Given these assumptions, the preliminary results in this report should not be the basis for any management decision making and should only be considered within the context of a ‘pilot study’. An evaluation of the results of the project against the original objectives of the pilot study indicated that ABC can provide an effective cost management tool that can be readily applied and utilized within the higher education sector. In so far as investigating facility costs for a university, the methodology has given University managers a new perspective on these costs and has highlighted suspected areas that require further review The ABC methodology has quantified this cost for the first time. The results of this pilot study support the use of ABC as an appropriate costing tool that can be applied to the operations of the university sector and provide university administrators with information to support their decision making. Subsequently the ABC Model is now used as part of the Occupancy Chargback and is also used in many other areas for improvements. - RMIT Pilot Study Faculty of Engineering This project was initiated by RMIT to test the ABC methodology in the academic area delivering programs (courses) and courses (subjects) with the end result of being able to provide the cost of either. This proved difficult as variations in the delivery methods, weighting of programs and perceived time spent on preparations, research, support and other associated activities were complex. Standards were applied where possible to simplify the model, however this was not totally achievable as cross-faculty programs and service teaching were difficult in clearly identifying the boundaries. Other issues such as major differences between VET and HE sectors presented problems in program deliveries, funding and assessments have hindered the achievement of clear results. It is proposed that the ABC Pilot Model was too ambitious and complex and was not able to achieve a clear result. This signifies the importance of the scope and level of analysis should be kept at a relatively high level, with only the major activities being considered. - Roll out of ABC across the University for identifying costs Other Faculties and Support Service Groups have proceeded to develop their ABC Models for incorporation into the RMIT ABC Master Model. Majority of the models based on previous experience of the Property Services and the Faculty of Engineering and are relatively simple and manageable. They are in the process of being further developed through the University’s Financial Service Group. Bibliography:

G:\!Operations\!Wcc\!Oc\AAPPA Presen\G_Bradley.doc

Page 6 of 7

An ABC Manager’s Primer – Gary Cokins An ABB Manager’s Primer – Alan J. Stratton & William S. McKinney Activity-Based Cost Management Making it Work – Gary Cokins Websites of interest: http://www.abctech.com/ http://www.bettermanagement.com/ http://www.focussedmanagement.com/

G:\!Operations\!Wcc\!Oc\AAPPA Presen\G_Bradley.doc

Page 7 of 7