| How profitable are your biggest customers? How | | | | brainstorming and mind-mapping.The next step is |
| much of your capital and operating expenditure is | | | | to determine the drivers which cause an activity |
| tied up servicing different customers or customer | | | | to be consumed by a cost object e.g. customers |
| segments? Work it out and you may be surprised | | | | and the drivers which cause an activity to |
| to find that your "best customers" | | | | consume resources e.g. labour.It is important to |
| are in fact your worst customers.Activity Based | | | | remember again that the level of precision |
| Costing is normally accountants and finance | | | | required in understanding the drivers depends on |
| department employees' purview and shunned by | | | | your end use of the activity based costing.Once |
| line managers as being too difficult to understand | | | | the model of activities, resource drivers and |
| and impossibly difficult to execute.It need not be | | | | activity drivers is completed, it remains to collect |
| as difficult as some people imagine and can be | | | | data and calculate costs.A major benefit of an |
| very useful in understanding and doing something | | | | ABC analysis over traditional accounting methods |
| about the cost drivers of your organisation.In | | | | is that it lends itself to understanding cost |
| simplest terms, activity based costing operates on | | | | drivers.Traditional accounting methods tend to |
| the following premise.Cost objects e.g. customers, | | | | focus on the profitability of a product rather than |
| products consume activities e.g. packing, | | | | the profitability of a business or a function or a |
| warehousing, planning or maintenance.Activities | | | | location. Product and customer profitability are |
| consume resources e.g. labour, electricity, (direct | | | | calculated using a volume or hours allocation of |
| and indirect costs).Resource costs can be | | | | overheads.ABC analysis enables your organisation |
| allocated to activities by a reasonable | | | | to understand the profitability of products or |
| method.Activities can be allocated to cost objects | | | | customers more accurately. It allows groups of |
| by a reasonable method.The first step in | | | | customers who only receive telephone sales |
| conducting an activity based costing exercise is | | | | support to be allocated costs of the telephone |
| not to determine the activities but to determine | | | | activity and not the face to face sales |
| the end use of the ABC analysis.If the exercise is | | | | activity.The resources consumed in telephone |
| to provide a clear costing analysis to evaluate | | | | sales e.g. the call centre labour costs are allocated |
| slight differences in margins available in a very | | | | only to the telephone sales activity and not the |
| competitive market place, then the exercise will | | | | face to face activity.In past roles I have had, |
| be lengthy and expensive and will use as much | | | | ABC analysis has revealed that ten percent of |
| direct measurement as possible. For example, | | | | our customers were making a loss for our |
| electricity consumption will need to be measured | | | | organisation, thirty percent of our products were |
| by electricity meters and labour consumption by | | | | making a loss and our largest customers |
| time cards or even electronic devices.If the | | | | consumed a very high proportion of our |
| exercise is to provide input into a balanced | | | | resources which traditionally were thought of as |
| scorecard or strategy development, then the | | | | our overheads.Customers serviced by our sales |
| best assessment of senior and middle managers | | | | people face to face were more likely to be loss |
| of the allocation of resources to activities and | | | | making than customers serviced by telephone. |
| activities to objects may be enough.Once it is | | | | We were, in fact over-servicing our customers. |
| clear at which level of precision data needs to be | | | | The more sold to a customer, the greater loss |
| collected, the activities involved can be | | | | we were likely to make.Resolving the |
| determined. The level of precision of data required | | | | over-servicing issue by charging people for |
| will also influence the level of granularity required in | | | | services they wanted and offering "no |
| defining activities.There are three major ways in | | | | frills" products to customers who did not |
| which activities can be determined and analysed. | | | | want the extra services added 30% to the |
| In decreasing order of precision, they are; direct | | | | profitability of the business within six months.So, if |
| measurement interviews, workshops, and middle | | | | your organisation is characterised by high |
| and senior management determination.Direct | | | | overheads, complex product, channel and |
| measurement and observations involve some | | | | customer mix or you face stiff competition and |
| physical or electronic recording of activities and | | | | the cost of getting costs/prices wrong is high, |
| their resource inputs.Interviews/surveys can elicit | | | | then managing your resources to improve |
| the outputs and the customers of the activity, | | | | profitability may be as simple as ABC.Kevin |
| the resources consumed and the cost drivers of | | | | Dwyer is a Director of Change Factory. Change |
| the activities.Workshops can gain the same | | | | Factory helps organisations who do do not like |
| information as interviews, but will arrive at a | | | | their business outcomes to get better outcomes |
| consensus about the information rather than a | | | | by changing people's behaviour. Businesses we |
| collection of individual views to be analysed. | | | | help have greater clarity of purpose and ability to |
| Specific techniques can be used in workshops | | | | achieve their desired business outcomes. |
| such as Ishikawa (fishbone) diagrams, | | | | |