Activity Based Costing Approach

Introduction

Bulks of business entities employ the proposed Activity-Based Costing (ABC) approach to their distinctive pursuits of cost accounting (Vazakidis, Karagiannis & Tsialta 2010). Oseifuah defines ABC as an innovative cost accounting practice that cyphers and evaluates the cost and efficacy of activities, cost objects, and resources (2014, p. 585). As Agbejule explains, ABC’s primary emphasis involves the notion that all activities exhaust resources to generate products (2006, p. 49).

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As such, ABC singles out these production activities and apportions the cost of each venture to the prerequisite resources. The ABC model differs from ‘Traditional Costing’ by way of how it aggregates supplementary overheads such as administrative expenses to direct costs (Szatmary 2011, p. 74). With reference to public universities, this paper appraises how a UK public domain establishment can suffice to cost needs by implementing ABC to produce product costs for services. Over and above that, the paper also sizes up the internal efficiency, quality, and profitability per service line.

Body

Background Description of ABC

According to Krishnan (2006), the ABC craft emerged when Alexander Hamilton Church set the idea in motion in 1901, by way of drafting overhead-themed manuscripts. William Bruns and Robert Kaplan succeeded him by incorporating the ABC proposal in their treatise, Accounting and Management: A Field Study Perspective, published in 1987 (Becker, Bergener & Räckers 2010). At the heart of their Handbook is a blueprint of the ABC procedure viable for enactment, to unravel the inadequacies of the traditional costing technique (Wegmann 2009, p. 11). A majority of accountants concur that the mid-1980s experienced the pioneer assimilation of the ABC model in companies, records Haider (2009). ABC is the ultimate approach to cost management as it seeks to account for all the integral activities in items production. Unlike ‘Traditional Costing,’ ABC consolidates all the fiscal and non-fiscal variables in addition to the cost drivers as grounds for budget appropriation (Bolcher 2006).

How Can a Public University Use ABC to Produce Product Costs for Services?

Public universities are tutelage institutions owned and propelled by the state, existing to furnish particular communal needs (Vazakidis, Karagiannis & Tsialta 2010). Higher learning institutes are overhead-exhaustive service entities and should, therefore, engage the ABC stratagem to determine the financial worth of their final products (Krishnan 2006, p. 79). Oseifuah advocates for the assimilation of ABC in universities, highlighting that it can help provide competent services, all at reduced costs (2014). An exceptional costing system, as Szatmary forwards, is crucial in schools, as faculties are under duress to slash costs and revamp their operational activities in respect of their curricula (2011, p. 73). Discussed below are the ways by which universities can execute the ABC plan to generate product costs for their educational services.

Case Analysis

XYZ College has been in engagement for seven years now but has been facing financial hurdles with respect to the conventional costing scheme (Krishnan 2006, p. 80). The contemporary costing structure is faulty as it can neither identify the rocketing operational charges nor regulate the practical directive activities. In consequence, Aikens (2011) advises that XYZ should enforce a new costing apparatus- ABC- that will gauge department performance and help smother the overall tasks of the Academy. Currently, the organisation’s budgetary supervision carries inadequate cost information, given that it traces direct overheads only such as Salary & Wages, Telephone & Fax, and Freight & Courier expenditures. It excludes ancillary, yet necessary, costs such as Utility Expenses & Provisions, Depreciation Expenditures, and Equipment Leasing (Krishnan 2006, p. 81).

Research Design

The research design employed here features two research modules, namely the quantitative and descriptive analyses, as adapted from Hilton (2006). The descriptive studies highlight examinations of the XYZ College Annual Report, Department finances as well as the general ledger. On the other hand, the quantitative analyses estimate the overhead fees in conjunction with recommending implementation of the new ABC layout (Krishnan 2006, p. 80).

New ABC Costing Framework

Krishnan (2006) outlines a number of procedures, as discussed below that the XYZ institution can follow to achieve a successful integration of the new ABC costing framework. The overhaul from the traditional costing method to the new ABC will help the school’s accountants compute definite product costs for XYZ’s services.

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Analysis of Activities

From reading Wegmann (2009), the first phase in devising the new ABC framework is to dissect the present activities in XYZ’s Student Service Unit as demonstrated below in Table 1.

Table 1: Resource Complex (Student Service Unit).

Activity Center Occupation Activity Ordering
1) Student Affair Category
  • Personal Counseling
  • Orientation Week
  • University Social Activity
  • Career Placement
  • Graduation
Unit
2) International Student Category
  • Visa/ Permit
Batch
3) Housing Division
  • Housing for on-campus and off-campus
Unit
4) Entry and Enrolment Department
  • Enrolment into the facility
  • Apprise academic archives
  • Unit
  • Batch
5) Examinations Branch
  • Academic Results
  • Examination Guidelines
  • Invigilation Roles
  • Unit Examination
  • Unit

Batch

Cost Distribution to Activities- Product Costs for Services

The next step is to spread the cost elements to the business subdivisions within the student service department, in alignment to the items in the general ledger, says Agbejule (2006, p. 68). With reference to Krishnan (2006), Tables 2 and 3 below enumerate the distribution of costs across the department’s activities using ABC’s resource drivers. The advantage of employing ABC resource drivers is that the drivers help on cost-saving by phasing out activities that do not append any real worth to the organisation (McChlery, McKendrick & Rolfe 2007). The ABC resource drivers disregard the graduation charges allotted under the ‘Entry and Enrolment’ department, as this category executes other activities (Krishnan 2006).

Table 2: Nomination of Charges from the Registrar’s Office to the Student Service Unit.

General Ledger Items/ Cost Pools Amount (RM) Resource Drivers Student Service Unit
Freight and Courier 214, 000 Reproduced 18, 000
Graduation Outlays 22, 300 Reproduced 22, 300
Orientation Expenditures 6, 600 Reproduced 6, 600
Printing & Stationery 18, 000 Allotted by estimates 12, 000
Telephone & Faxes 5, 000 No Calls and Faxes 3, 000
Transportation – General 1, 000 Allotted 800
Travelling Overheads 4, 600 Allotted 2, 000
Visa/Permit 3, 000 Reproduced 3, 000
Salaries & Wages 348, 200 Reproduced (40%) 139, 280
EPF 41, 800 Reproduced (40%) 16, 720
SOCSO 1, 000 Reproduced (20%) 200
Payroll Taxes 60, 000 20% of Earnings 27, 856
Equipment Leasing 30, 000 10% of Earnings 13, 928
Depreciation Costs 40, 000 By Floor Space 25, 000
Utility Expenditures 30, 000 By Floor Space 18, 750
Supplies 50, 000 Reproduced 20, 000
Aggregate 875,500 329, 434

Table 3: Costs Consignment from the Student Service Unit to the ‘Entry and Enrolment’ Subdivision.

Cost Pools Amount (RM) Resource Drivers Entry & Enrolment Subdivision
Freight and Courier 18, 000 Reproduced 12, 000
Printing & Stationery 12, 000 Allotted by estimates 8, 000
Telephone & Faxes 3, 000 No Calls or Faxes 2, 000
Transportation- General 800 Allotted 200
Travelling Overheads 2,000 Allotted 800
Salaries and Wages 139, 280 Reproduced (15%) 20, 892
EPF 16, 720 Reproduced (15%) 2, 508
Payroll Taxes 27, 856 Earnings (20%) 4, 178
Equipment Leasing 13, 928 Earnings (10%) 2, 089
Depreciation Costs 25, 000 By Floor Space 19, 500
Utility Expenditures 18, 750 By Floor Space 13, 500
Supplies 20, 000 Reproduced 8, 000
Aggregate 297, 334 93, 667
Cost Pool Rate Computation

The concluding step necessitates a summation of the cost pool rate, by designating the sum aggregate of the activity centres together with the number of students (Becker, Bergener & Räckers 2010). With guidance from Krishnan (2006), Table 4 beneath exhibits cost pool figures with respect to the ‘Entry and Enrolment’ department.

Table 4: ‘Entry and Enrolment’ Cost Pool Fee.

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Subdivision Cost Pool/ Driver= Cost Pool Rate
$93,667/ 1,640 undergraduate scholars= $57.11 per pupil
Therefore, the service expense for the ‘Entry and Enrolment’ branch is $57.11

What are the Internal Efficiency, Quality, and Profitability per Service Line?

The profitability, internal efficiency, and quality of the ABC system exertion in public colleges are perceptible in numerous ways. The ABC structure aligns the forecasted revenue sources alongside the calculated expenses, hence increasing the organisation’s proceeds (Evans & Lindsay 2014). The ABC framework facilitates the institution to boost the profitability of its objectives by way of streamlining costs (Aikens 2011). The ABC tool gauges the quality and internal efficiency by use of service quality dimensions, including accessibility, timeliness, accuracy, consistency, and responsiveness (McChlery, McKendrick & Rolfe 2007, p. 321). As elaborated below, Wegmann (2009) outlines two service lines within the higher learning foundation, namely the administration and teaching categories. As regards profitability, ABC identifies the cost of quality to dispense cost-effective yet superior education (Evans & Lindsay 2014).

Administration

The ABC costing apparatus helps ameliorate internal efficiency, quality, and profitability by way of registering the time spent on completing administrative duties to expose better quality curtailments (Bolcher 2006). The college workforce responsible for handling administrative functions engage in precautionary and detective activities to guarantee quality administrative services, suggests Szatmary (2011, p. 76).

As regards the preemptive measures, the faculties ought to fully comprehend and study their jobs’ description and policies, as suggested by Oseifuah (2014). Personnel should also develop goals and exemplary courses of action that will facilitate target achievement (Becker, Bergener & Räckers 2010). ABC calls for the development of functional feedback systems in the model of suggestion forms, departmental meetings, bi-annual surveys, and interviews. The purpose of this is to investigate comments from the staff, supervisors, and students to distinguish complaints and boost the flawed quality (Aikens 2011).

Teaching

The teaching service line necessitates an extensive sum of fiscal resources and calls for continuous efficacy improvement and ordering of funds (Vazakidis, Karagiannis & Tsialta 2010). In light of this view, ABC pegs the quantum of quality cost in the prevention and discernment of failures rather than in the external and internal missteps. Examples of preventive activities encompass class preparation, marking projects, examinations, quizzes, assignments, and reporting of grades (McChlery, McKendrick & Rolfe 2007, p. 319). Haider projects that detection and prevention tasks help deflect inadequacies that cause professors, lecturers, and other staff members furnish inadequate schedules, curricula, and syllabi (2009).

What are the Advantages and Disadvantages of ABC Assimilation?

Bogdanoiu states that the integration of ABC is remarkably prudent for those enterprises that offer personalised services such as universities (2009, p. 7). The enactment process can, however, be daunting as it can implicate varied merits and demerits (Haider 2009).

Benefits of ABC Incorporation

Exercises Accuracy

ABC harnesses the principle of precision and certainty with respect to faculty wages, costing information, and budget values remark Bogdanoiu (2009). ABC also consigns legitimate costs to activity centres within student service branches, stock-keeping components, and the students in general. In addition, the ABC charging apparatus ensures an authentic flow of educational curricula from the faculties to the undergraduates, articulates Szatmary (2011, p. 81).

Enables Better Interpretation of Overhead Costs

Haider asserts that the ABC definition allows one to understand the notion of overhead charges in a much simpler way (2009). A prototype of the costing tool illuminates how ABC attributes costs to the resources that service or activity exhausts.

Eradicates Wasteful Products and Activities

The ABC method tags and helps avert uneconomical activities, services, and products in an effort to make the most of the feasible resources (Vazakidis, Karagiannis & Tsialta 2010, p. 379).

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Cultivates Productivity and Quality

The ABC entity initiates phenomenal business performance and service quality by way of correcting product costs and assigning charges to indirect overheads (McChlery, McKendrick & Rolfe 2007). ABC’s data, as Haider explains, delineate critical issues pertaining to production and costs to the management to dissect (2009). The University Directorate enlists the use of ABC to work out managerial decisions, reduce costs, improve internal competency and increase profitability for the entire institution (Krishnan 2006, p. 77).

Disadvantages of ABC Incorporation

Expensive Application

Hilton states that the chartering of the ABC technique is, to some degree, costly and time-wasting (2006). The practice includes a phase where it dismembers business activities, consuming pricey resources during data compilation and measurement. Furthermore, the assimilation of the costing tool demands for a vendor or consultant who will install the system in addition to training the staff on management (Oseifuah 2014, p. 584).

System Transparency

ABC, as Wegmann exclaims, conveys considerably sensitive information such as wages and commodity margins among others, which an executive may be unenthusiastic to disclose to the proprietors (2009).

GAAP’ Discordance

The ABC model fails to attune to the Generally Accepted Accounting Principles and thus confines accountants to use it only for internal cost management, and not in filing public financial statements (Evans & Lindsay 2014).

Conclusion

Overall, the Activity Based Costing Implement is a superior management accounting option. It is expendable across both service and product-oriented firms, as it is imperative for management cost accounting. As regards the UK public sector organisation, ABC is very instrumental in public universities and colleges (Szatmary 2011, p. 70). Accountants and auditors employ the ABC approach to assign planned costs to activity centres within student service modules (Krishnan 2006). Cost allocations in learning institutions help create reasonable budgets, as well as discard non-added value utilities. Additionally, managers of these institutes enlist the use of the ABC skill to devise regulative decisions for the organisation, in conjunction with improving the overall quality and productivity.

References

Agbejule, A 2006, ‘Motivation for activity-based costing implementation: administrative and institutional influences’, Journal of Accounting & Organizational Change, vol. 2, no. 1, pp. 42-73. Web.

Aikens, C 2011, Quality inspired management: the key to sustainability, Prentice Hall, Boston. Web.

Becker, J, Bergener, P & Räckers, M 2010, ‘Activity based costing in public administrations: a business process modeling approach’, International Journal of E-Services and Mobile Applications, vol. 2, no. 4, pp. 1-10. Web.

Bogdanoiu, C 2009, ‘Activity based costing from the perspective of competitive advantage’, Journal of Applied Economic Sciences, vol. 1, no. 7, pp. 5 – 11. Web.

Bolcher, E 2006, Cost management: a strategic approach, 5th edn, McGraw-Hill, New York. Web.

Evans, J & Lindsay, W 2014, Managing for quality and performance excellence, 9th edn, South-Western Cengage Learning, Australia. Web.

Haider, M 2009, Advantages and disadvantages of activity-based costing with reference to economic value additionWeb.

Hilton, R 2006, Cost management: strategies for business decisions, 3rd edn, McGraw-Hill, New York. Web.

Krishnan, A 2006, ‘An application of activity based costing in higher learning institution: a local case study’, Contemporary Management Research, vol. 2, no. 2, pp. 75-90. Web.

McChlery, S, McKendrick, J, Rolfe, T, 2007, ‘Activity-based management systems in higher education’, Public Money & Management, vol. 27, no. 5, pp. 315-322. Web.

Oseifuah, E 2014, ‘Activity-based costing (ABC) in the public sector: benefits and challenges’, Problems and Perspectives in Management, vol. 12, no. 4, pp. 581-586. Web.

Szatmary, D 2011, ‘Activity-based budgeting in higher education: continuing education and the university funding crisis’, Continuing Higher Education Review, vol. 75, pp. 69-85. Web.

Vazakidis, A, Karagiannis, I & Tsialta, A 2010, ‘Activity-based costing in the public sector’, Journal of Social Sciences, vol. 6, no. 3, pp. 376-382. Web.

Wegmann, G 2009, ‘The activity-based costing method developments: state-of-the-art and case study’, The IUP Journal of Accounting Research and Audit Practices, vol. 8, no. 1, pp. 7-22. Web.

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