Lecture 7 - Activity based costing Flashcards
(!) Describe ABC in general
General:
- Processkostenrechnung
- Activities drives costs
- Allocate indirect costs
- Important innovation
- ABC paradox: Benefit but unused
- Long-run is full costs more meaningful than CM
- Require stable production
- Allocate on CDR
- Mainly strategic tool
- Important distinction: Theoretical, practical & actual cap. usage
Two stage process:
1. Identify activities & assign OH to cost pools
2. Allocate OH to product line
Background:
- Importance of cost classification
- Need for cost data
- Emerging of flexible budgets
- Emerging of analysis & control
- Focus on known precise expense
- Discussions on raw material
- New focus on arbitrary allocation
- Separate VC & FC
- “Diff. cost for different purpose”
- Needed cost analysis system separate from formal accounting
- MA > Financial accounting
(!) Describe the benefits of ABC
- Allocate more accurate & realistic
- Identity cost & profit opportunities
- Strong long term tool
- Identify inefficient processes
- Create understanding
- Justify costs in manufacturing OH
- Make indirect costs traceable
- Help pricing strategy
- Reveal “hidden factory” & unused cap.
- Identify & eliminate slack
- Help margin management
(!) Describe the pitfalls of Activity based costing
- Costly to build & maintain
- Time consuming
- No single definition
- Not 100% precise
- Approximate + Relevant vs. Precise + Irrelevant
- Lack non-financial measures
- Require frequent updates
- Rely on employee surveys
- Complex, long implementing
- Differ in implementation
- Employee irritation
- Require stable processes
- Dont capture complexity
- No clear link to performance
- Not always relevant costs
- Dont consider reversibility
- May lack controllability
- Not aware of excess capacity
- Info may contain old costs
- All cost not VC or reversible
- Bad product risk death spiral
- Require reliable cost drivers
- Lack arbitrary cost element
- CDR often set too high
- CDR set outside department
- Lack role models
- Prevalence of com-based accounting systems
- Emphasis on financial accounting
- Not suitable for all firms
- Do not per se add value
- Little documented evidence on link to value or profitability
- Cost pool homogeneity & linearity of activity unlikely
- Detail level may cause unrest
- May not match functional departments
- Single CDR despite activities may differ
Requirement:
- Cost pools depend on 1 activity
- Cost strictly proportional to cost pool activity
- Activity separate to elements depending only on each product
(!) Describe the four core technical motives of ABC
Info provision:
- Product cost for stock valuation
- Long run all cost variable
- Analyze OH cost in detail
- Segregate into value added & non-value added activities
- Concept of normal activity: No extreme fluctuations or unused idle capacity influence stock value
Three key issues:
- Reliability of identifying VC & FC
- Product vs period view of FC
- Fit approach to stock valuation to accepted definition of assets
Difference in cost hierarchy:
- Normally: High or low variability
- ABC: Classification in levels
__________
Decision making:
- Cost info key to maximize profit
- Benefit of OH cost arbitrariness
- Arbitrary allocation of FC is proxy for opportunity costs
- Consider unit cost component implication on future CF
__________
Control:
- Allocation provide means of rations of shared resources
- Allocation reduce moral hazard
- Allocation reduce prerequisite consumption
- Allocation monitor behavior
- Allocation relevant for budgetary procedures: Complex establishing responsibility
- Identify over-provision of resources or unused capacity
Budgetary buffer/slacks:
- Positive function
- Induce actors to stay in system
- Solve conflicts
- Buffer in workflow process
- Facilitate strategic & creative behavior
__________
Performance measurement:
- Categorize activity as value or non-value adding
- Categorize core, support or diversionary activities
- Map activity in time & location: Highlight duplicates & complexity
- LR perspective: Account for interrelations before elimination
- DM: Opportunity > attached cost
- Consider nonfinancial measures
- More reliable PM if CDR´s
- Important benchmarking
(!!!!) Calculate cost driver rate / CDR
General:
- Convenient or actually drive cost?
- Cost per activity unit: Only 1 activity
- Allocate indirect cost to cost object: By activity consumption
- “Cost allocation base” when used specific in ABC
- CD units practically available
- Often too high since assuming resources work at full capacity
- Eg. machine- or labour hours
___________
Calculations:
CDR = Activity cost pool / practical capacity
___________
Considerations:
- Require idea of cost for activity
- Practical capacity: Avoid death-spiral & aware of unused capacity
- All cost dont fit to activity
- Differ in strength & cause & effect relationship
- Consider availability of reliable data & measures
___________
Cost pool:
- Cost amount related to activities in cost objects
- Must be understood: Variability, reversibility
(!) Explain the death spiral
General:
- When cost data to set prices
- When actual instead of practical capacity in denominator
- If not incl. unused capacity
Spiral:
–> Actual instead of practical
–> Lower denominator
–> Higher cost driver rate
–> Higher cost base for pricing
–> Price higher than competitors
–> Less sold units
–> More unused capacity
–> Lower actual capacity
(!) Which factors & considerations influence adoption & implementation of ABC
Factors:
- Size
- Strategy
- Uncertainty
- Product diversity
- Stage of implementation
Considerations:
- Work > Benefit
- Hard link between CD & products
- Inadequate info technology
- Lack senior man. commitment
- Hard to collect quant. info on CD
- Many non-financial: Use ABM
(?) Describe the evolvement of different managerial tools
Transfer pricing:
- Perfect competitive market: Opportunity cost
- Imperfect competitive market: Marginal cost
- Full cost desirable in all situations
DCF:
- Discounted cash flow
ROI:
- Popular due to consistence
- Problem with investments
RI:
- Around 1960
- Overcame ROI problem
- Less used than DCF & ROI
Du Pont ROI:
O.R.
- Operations research
- From Advancement in digital computing algorithms
(?) Describe the hierarchical framework for diverse planning & control activities
General:
- Internally orientated
- Management control practice of decentralized organizations
Strategic planning:
- Decide objectives & changes in objectives
- Decide resources used for objectives
- Decide policies to govern acquisition, use & disposition of ress.
Management control:
- Assure effective & efficient obtain & use of resources to objective
Operational control:
- Assure effectively & efficient task handling
(?) What is meant by hidden factory
General:
- Transactions that overhead drivers is associated with
__________
Transactions:
Logistics:
- Moving materials
Balancing:
- Meet purchase requirement
- Meet HR requirement
- Meet material planning requirement
Quality:
- Engineering & quality control
- Change:
- Engineering change orders
(?) Describe the different ABC terms
Activities:
- Actions performed
Activity drivers:
- Measure consumption of activity by each product
Cost drivers:
- Cost groups. Eg. Setup time or Material handling hours
Cost driver rate / CDR:
Resource drivers:
Activity cost pools:
Cost objects:
- Product
- Service
- Customer
- Project
- Process
(!!!!!!!!) Describe the different capacities
General:
- Ethical question about using sparetime to keep up
Theoretical capacity:
- Eg. Machine can in theory run 24 hours 7 days a week
Practical capacity:
- % of theoretical capacity
- # activity units available for production within period
- Due to policies limiting theoretical capacity
- Used for calculating CDR
- Used to avoid “death-spiral”
- Eg. Labour hours, machine hours, units produced, maintenance
Actual capacity:
- # activity units actually used
- Often lower than practical capacity
__________
Unused capacity:
- Waste
- If all practical cap. not used
- Difference between practical & actual used capacity
- Amount of original cost pool not allocated
- Represents cost of not using all capacity
- Must be addressed by managers for optimization
- Eliminate by selling more or reduce capacity or turn it into use
- Highlight death spiral in pricing products: Unless ABC used to get impression on absorption costing
(?) Describe the difference between ABC & ABM
Activity based costing:
- Systematic method of assigning costs to products, services, customers or other cost objects
- Focus on worker
Activity based management:
- ABC info to control cost of activity
- Focus on controlling activities
- Non-financial- & monetary focus
- Adapt business strategies to meet competitive pressure & improve business operation
- Focus on work
(!) Show the calculations
(!) Show the calculations
