| The short answer to this question is, "Everything". | | | | accurate basis, ABC mitigates some of the |
| Information provided by the costing system | | | | shortcomings of traditional accounting. In particular, |
| determines how the business is managed, what | | | | it helps in the proper assignment of the cost of |
| product opportunities are pursued, what price is | | | | complexity. Complex to make products or |
| charged and so forth. What if the information | | | | services bear their full cost of production and so |
| paints a misleading picture? It simply means wrong | | | | the business can price them properly in the |
| decisions will be made, wrong behaviours will be | | | | market or discontinue them. There is an incentive |
| rewarded, and in time the business will decline. Just | | | | to eliminate product and service complexities that |
| how real is this possibility?Distortions of the | | | | are not visible to or valued by the customer.Put |
| Traditional Cost World:Surveys of organisations | | | | Yourself through the Throughput |
| worldwide show that over 50% employ standard | | | | World:Throughput accounting arose directly from |
| costing while close to 40% use marginal costing in | | | | the Theory of Constraints. It recognises that the |
| their internal accounting. Standard costing - the | | | | constrained resource is what determines how |
| more widely used method - possesses well | | | | quickly the product moves through the value |
| known shortcomings that can drive wrong | | | | chain from the suppliers through internal |
| behaviours. Specifically, by incorporating fixed | | | | processes to the customers or the rate at which |
| costs into product costs on a volume, direct | | | | money comes into the business in exchange for |
| labour or machine hour basis, it encourages high | | | | goods or services. The relevant variables in |
| inventories (since high production volumes lead to | | | | throughput accounting are throughput (T), |
| an over-absorption of fixed costs and high | | | | inventory (I) and operating expense. Inventory |
| inventory valuation, which causes cost of sales to | | | | represents money spent on things intended for |
| seem low and thus leads to high reported paper | | | | conversion to throughput, while operating expense |
| profits).However, it is simple common sense | | | | (OE) is the amount required to convert inventory |
| (lately emphasised by proponents of lean and | | | | to throughput.The aims of this system, in order |
| TOC methods) that the company only actually | | | | of importance, are to provide management with |
| makes money when the products are purchased | | | | information that enables the maximisation of |
| and paid for, not when they sit in finished goods | | | | throughput (T), while reducing inventory (I) and |
| stores.Lean Accounting:Lean focuses on increasing | | | | operating expense (OE). Decisions are evaluated |
| speed and reducing waste, both of which have | | | | on the basis of their impact on the following |
| the effect of reducing inventories. Indeed the ideal | | | | system wide metrics:Net profit (NP) = T-OE |
| in the lean world is continuous flow. Goods are | | | | Return on Investment (ROI) = NP/I |
| produced just in time, and thus minimal inventories | | | | Productivity = T/OE |
| are held. TOC relaxes the no inventory rule by | | | | Investment turns = T/IConlusion:Adoption of |
| allowing some protective buffer inventories for | | | | business process thinking requires information |
| the constrained resource and at the finished | | | | systems that support actions leading to high |
| goods end. Even so, emphasis is on low | | | | throughput, low waste and low inventories. |
| inventories.It was obvious to the originators of | | | | Traditional accounting systems with their focus on |
| lean (Toyota) and TOC (Eliyahu Goldratt) that | | | | local (rather than system wide) efficiencies, and |
| traditional accounting could not support or drive | | | | cost minimisation often lead to decisions at |
| their process based systems. Alternatives were | | | | variance with lean and throughput thinking, and |
| needed.Learning Your ABCs:Activity Based Costing | | | | can delay the potential gains obtainable from their |
| was invented in the 70s and 80s and offers a | | | | adoption.Samuel Okoro is the CEO of Leapfrog |
| more accurate method of allocating indirect costs | | | | Alliance Ltd, a management training and consulting |
| on the basis of cost drivers. These drivers are | | | | firm that helps organisations to reduce costs and |
| activities carried out in the course of producing | | | | improve quality through better business |
| the good or service. Each product is allocated | | | | processes. His personal passion is to help move |
| costs to the extent that it consumes the relevant | | | | Third World business to world-class levels. |
| driving activity.By allocating costs on a more | | | | |