1. Activity-Based Management and Activity-Based Costing
Cost Accounting
Foundations and Evolutions
Kinney, Prather, Raiborn
Chapter 5
Activity-Based Management and Activity-Based Costing

2. Learning Objectives (1 of 2)
Identify the focus of activity-based management
Explain why non-value-added activities cause costs to increase unnecessarily
Explain why cost drivers are designated in activity-based costing

3. Learning Objectives (2 of 2)
Contrast activity-based costing to the traditional cost accounting system
Describe the types of information provided by an activity-based costing/management system
Explain when it is appropriate to use activity-based costing

4. Activity-Based Management
Focuses on activities during production and performance process
Improves the value received by customers
Enhances profitability

5. Activity
An activity is a repetitive action performed in fulfillment of a business function

6. Activity-Based Management
Activity analysis
Cost driver analysis
Activity-based costing
Continuous improvement
Operational control
Quality management
Business process
improvement
Performance measurement

7. Activity Based Management
ABM
Activity Based Management
External Benefits
Increased customer value
Enhanced profitability
Internal Benefits
More efficient production
More accurate cost determination
More effective performance evaluation

8. Activity Analysis Non-value-added activity
ABM
Activity Analysis
Non-value-added activity
Increases time spent on product or service but does not increase worth
Unnecessary from customer perspective
Can be reduced, redesigned or eliminated without affecting market value or quality
Business-value-added activities are essential
Value-added activity
Increases worth of product or service to a customer
Customer is willing to pay for it

9. ABM
Cost Driver Analysis
Cost drivers are factors that have a direct cause-effect relationship to a cost
Limit the number of cost drivers
Cost of measurement should not exceed benefit of using the cost driver
Easy to understand
Directly related to activity being performed
Appropriate for measurement

10. Cost Driver Analysis Unit-level costs Batch-level costs
ABM
Cost Driver Analysis
Unit-level costs
direct material, direct labor
Batch-level costs
setup, inspection
Product/process-level costs
engineering changes, product development
Organizational or facility costs
building depreciation, plant manager’s salary

11. Activity-Based Costing
ABM
Activity-Based Costing
Recognizes several levels of costs
Accumulates costs into related cost pools
Uses multiple cost drivers to assign costs to products and services

12. Two-Step Allocation
Collect costs in general ledger and subsidiary accounts
Identify activity centers
Accumulate costs into activity center cost pools – cost drivers
Allocate costs to products and services
activity driver measures demands placed on activities, thus, the resources consumed by products/services

13. Traditional vs. ABC Costing
When ABC implemented
Cost reduced for high volume, standard products
Cost increased for low-volume, complex specialty products

14. Use ABC Costing when…. Product Variety and Process Complexity
ABM
Use ABC Costing when….
Product Variety and Process Complexity
Caused by mass customization
Too many choices, opportunity for errors
Pareto Principle
Commonality of parts
Reduced by
Simultaneous (or Concurrent) Engineering
Design for Manufacturability

15. Use ABC Costing when…. Lack of Commonality in Overhead Costs
ABM
Use ABC Costing when….
Lack of Commonality in Overhead Costs
- Some products/services use substantially more overhead than others
Problems with Current Cost Allocations
- Significant changes in process with no change in cost allocations
- Expense majority of period costs when incurred

16. Use ABC Costing when…. Changes in Business Environment
ABM
Use ABC Costing when….
Changes in Business Environment
Increase in competition
Change in management strategy

17. Continuous Improvement
ABM
Continuous Improvement
Eliminates non-value-added activities to reduce cycle time
Makes products/performs services with zero defects
Reduces product costs on an ongoing basis
Simplifies products and processes
ABC Costing Supports
Continuous Improvement

18. Criticisms of ABC Significant amount of time and cost to implement
Must overcome barriers to change
Does not conform to GAAP
May not promote total quality management

19. Advantages of ABC and ABM
Identify and monitor significant technology costs
Trace technology costs directly to products
Identify the cost drivers that create or influence cost
Identify activities that do not contribute to perceived customer value

20. Advantages of ABC and ABM
Illustrate the impact of new technologies on all elements of performance
Translate company goals into activity goals
Analyze the performance of activities across business functions
Analyze performance problems
Promote standards of excellence

21. Questions
What are the differences between activity-based costing and traditional cost accounting?
What are cost drivers and activity drivers?
What are two advantages and two criticisms of activity-based costing?