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Activity-Based Management
McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
5-3
Activity-Based Management (ABM)
Evaluates the Evaluates the costs and values costs and values
of process of process activities . . . activities . . .
. . . To identify . . . To identify opportunities to opportunities to
improve improve efficiency.efficiency.
Activity-Based Activity-Based Costing Costing
Activity-Based Activity-Based Costing Costing
Valued-Added Valued-Added Analysis Analysis
Valued-Added Valued-Added Analysis Analysis
Process Process Improvements, Improvements,
Customer Value, & Customer Value, & Reduced Costs Reduced Costs
Process Process Improvements, Improvements,
Customer Value, & Customer Value, & Reduced Costs Reduced Costs
= = + +
5-4
?? ABM adds:ABM adds:
Identification of value-added and non-value-added
activities
Identification of value-added and non-value-added
activities
Activity-Based Management
4 Basic Steps4 Basic Steps Identify & classify the
activities related to the company’s products or services.
Estimate the costs associated with each activity.
Calculate a cost-driver rate for each activity.
Assign activity costs to products using the cost-driver rate.
4 Basic Steps4 Basic Steps Identify & classify the
activities related to the company’s products or services.
Estimate the costs associated with each activity.
Calculate a cost-driver rate for each activity.
Assign activity costs to products using the cost-driver rate.
Identifies the customer perceived value of each
activity
Identifies the customer perceived value of each
activity
Identifies opportunities to enhance value-added
activities and reduce or eliminate non-value-added
activities
Identifies opportunities to enhance value-added
activities and reduce or eliminate non-value-added
activities
5-5
1. Identify and measure the different levels of resource spending1. Identify and measure the different levels of resource spending
2. Measure the costs of individual activities2. Measure the costs of individual activities
3. Identify cost-driver bases and measure activity cost-driver rates
3. Identify cost-driver bases and measure activity cost-driver rates
4. Use cost-driver rates to assign activity costs to products, jobs, services, and projects by multiplying the
use of cost driver base(s) by the cost driver rates
4. Use cost-driver rates to assign activity costs to products, jobs, services, and projects by multiplying the
use of cost driver base(s) by the cost driver rates
5. Analyze the profitability of products usingABC unit-level and full costing.
5. Analyze the profitability of products usingABC unit-level and full costing.
The Steps Of ABC
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ActivitiesActivitiesActivitiesActivities
Create outcomes and consume resources
Create outcomes and consume resources
VALUE-ADDED ACTIVITIESenhance the value of products
and services in the eyes of the customer while meetingthe goals of the organization
VALUE-ADDED ACTIVITIESenhance the value of products
and services in the eyes of the customer while meetingthe goals of the organization
NON-VALUE-ADDED ACTIVITIES
do not contribute to customerperceived value
NON-VALUE-ADDED ACTIVITIES
do not contribute to customerperceived value
The Importance Of Customer Value
5-7
Why do organizations have incentivesto eliminate non-value added activities?
Why do organizations have incentivesto eliminate non-value added activities?
Competitors are constantly striving
to create more value for customers at
lower cost
Competitors are constantly striving
to create more value for customers at
lower cost
The organization can apply the freed- up resources to value-added activities or
distribute them to the employees of the
organization.
The organization can apply the freed- up resources to value-added activities or
distribute them to the employees of the
organization.Competition can appear quickly
Competition can appear quickly
Non-value Added Activities
5-9
If the answer is “yes” to both it is
value-added.
If the answer is “yes” to both it is
value-added.
If the answer is “no” to
both or either it is non-
value-added.
If the answer is “no” to
both or either it is non-
value-added.
YESYES YESYESNONO NONO
The test for value added activities
The test for value added activities
Identifying Value-Added Activities
“Would an external customer encourage
the organization to do more of the activity?”
“Would an external customer encourage
the organization to do more of the activity?”
“Would the organization be more likely to reach its goal by
performing that activity?”
“Would the organization be more likely to reach its goal by
performing that activity?”
5-10
VALUE-ADDED
VALUE-ADDED
NON-VALUE-ADDED
NON-VALUE-ADDED
Rate on a scale of 1 to 5Rate on a scale of 1 to 5Rate on a scale of 1 to 5Rate on a scale of 1 to 5
Necessary ActivitiesNecessary Activities
TechnologicalRequirements
TechnologicalRequirements
PolicyRequirements
PolicyRequirements
RegulatoryRequirements
RegulatoryRequirements
5 4 3 2 1
Neither value-added nor non-value-addedNeither value-added nor non-value-added
How Should An Organization Measure Value-Added?
5-11
Everyone’s knowledge is limited Everyone is potentially biased in
his or her response
Everyone’s knowledge is limited Everyone is potentially biased in
his or her response
Use a team approach
Use a team approach
Who Should Perform The Measurement Activity?
5-12
Twin objectivesof
ABM
Twin objectivesof
ABM
Identify non-value-addedactivities to be eliminated
or reduced
Identify non-value-addedactivities to be eliminated
or reduced
Identify value-addedactivities to be enhanced
Identify value-addedactivities to be enhanced
Redesign processes to eliminate wasteful spending on non-value-added activities
Redesign processes to eliminate wasteful spending on non-value-added activities
Tasks Required by Activity-Based Management
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5 (highest) $100 3.3%4 0 0.0%3 1,200 40.0%2 700 23.3%1 (lowest) 1,000 33.3%Total $3,000 100.0%
5 (highest) $100 3.3%4 0 0.0%3 1,200 40.0%2 700 23.3%1 (lowest) 1,000 33.3%Total $3,000 100.0%
By comparing the cost to the value of the task, we can identify oversupplied non-value-added activities and undersupplied value-added activities. By focusing on those low-value tasks with high
resource allocation, we can improve efficiency.
By comparing the cost to the value of the task, we can identify oversupplied non-value-added activities and undersupplied value-added activities. By focusing on those low-value tasks with high
resource allocation, we can improve efficiency.
Oversupplied non-value-added
activities
Oversupplied non-value-added
activities
Sorting Activities By CostAnd Value
5-14
Ask “Why?” for each step in the process.
Why#1: Appearance and product function requires removal of the excessWhy#2: Under high-injection pressure, plastic leaks from the edges of the mold Why#3: High pressure is required to mold the products properlyWhy#4: The design of the molds permits leakageWhy#5: The molds are based on old designs
Why do employees need to trim excess plastic from molded
products?
SOLUTION: Rework or replace old molds with improved molds to eliminate
the need for trimming and recycling.
Identifying Opportunities For Process Improvement
5-15
Why are we spending so much time on non-value-added record keeping and
the correction of recording errors?
Why are we spending so much time on non-value-added record keeping and
the correction of recording errors?
SOLUTION: Install a bar-codingsystem to mark and track all
orders electronically
SOLUTION: Install a bar-codingsystem to mark and track all
orders electronically
A bar-coding system creates aunique bar code for each order
and allows the company to mark and track all orders electronically
A bar-coding system creates aunique bar code for each order
and allows the company to mark and track all orders electronically
Ask “Why?” for each step in the process.
Identifying Opportunities For Process Improvement
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After process After process improvements, improvements, total elapsed total elapsed time has been time has been
reduced to reduced to 82.2 minutes.82.2 minutes.
If we assume a If we assume a cost of $10 per cost of $10 per hour, what is hour, what is
the cost the cost savings?savings?
If we assume a If we assume a cost of $10 per cost of $10 per hour, what is hour, what is
the cost the cost savings?savings?
Identifying Opportunities For Process Improvement
5-17
Time Saved:Time Saved:
286 min.286 min.
- 82.2 min.- 82.2 min.
203.8 min.203.8 min.
÷ ÷ 60 min/hr60 min/hr
3.397 hrs.3.397 hrs.
Time Saved:Time Saved:
286 min.286 min.
- 82.2 min.- 82.2 min.
203.8 min.203.8 min.
÷ ÷ 60 min/hr60 min/hr
3.397 hrs.3.397 hrs.Cost Savings:Cost Savings:
3.397 hrs.3.397 hrs.
× $10/hr.× $10/hr.
$33.97 $33.97
Cost Savings:Cost Savings:
3.397 hrs.3.397 hrs.
× $10/hr.× $10/hr.
$33.97 $33.97
Identifying Opportunities For Process Improvement
5-18
The Focus ofABC
The Focus ofABC
The Focus ofABM
The Focus ofABM
Developing improved product or service costs given current processes
Developing improved product or service costs given current processes
Identifying opportunities for improving processes
Identifying opportunities for improving processes
Consider cost-benefitsConsider cost-benefits
Implementation Of Activity-Based Costing & Management
5-19
What Organizations Adopt ABC and ABM?
What Organizations Adopt ABC and ABM?
Companies facing price competitionCompanies facing price competition
Companies producing many different, complex products from common
facilities
Companies producing many different, complex products from common
facilities
Implementation Of Activity-Based Costing And Management
5-20
What is the scope of the ABC or ABM project?What is the scope of the ABC or ABM project?
Pilot ProjectPilot Project OrganizationwideSystem
OrganizationwideSystem
Can You Be Sure That ABCAnd ABM Will Be Successful?
What is a “pilot project”?
What is a “pilot project”?
A project of limited scope that is intended
to be a small-scale model of an
organizational system.
A project of limited scope that is intended
to be a small-scale model of an
organizational system.
Why use a “pilot project”?
Why use a “pilot project”?
Anticipate the linkages across departments,
groups and processes. Anticipate the data
gathering and reporting requirements.
Anticipate the linkages across departments,
groups and processes. Anticipate the data
gathering and reporting requirements.
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What resources are necessary?
What resources are necessary?
Management Commitment
Management Commitment
Personnel and Time
Personnel and Time
TechnologyTechnology
Begin with existing
commercialsoftware
Begin with existing
commercialsoftware
Significant projects will require a three-
to four-person, cross-functional team at least four to six months of full-time effort
Significant projects will require a three-
to four-person, cross-functional team at least four to six months of full-time effort
Educate top management
as to cost/benefits
Educate top management
as to cost/benefits
Can You Be Sure That ABCAnd ABM Will Be Successful?
5-22
How can you anticipate and overcome resistance to change?
How can you anticipate and overcome resistance to change?
Prevent or Minimize Resistance by:
Prevent or Minimize Resistance by:
Effects of CultureEffects of Culture
Education and TrainingEducation and Training
Incentives that Encourage and Reward Change
Incentives that Encourage and Reward Change
Widespread Sponsorship and Participation
Widespread Sponsorship and Participation
Be Sensitive to Differences in National Cultures
Be Sensitive to Differences in National Cultures
Can You Be Sure That ABCAnd ABM Will Be Successful?
5-23
ABC and ABM require information that is not normally availablefrom an organization’s information systems
ABC and ABM require information that is not normally availablefrom an organization’s information systems
This information can
be generated by:
This information can
be generated by:Observation Observation
InterviewInterview
SurveySurvey
Can You Be Sure That ABCAnd ABM Will Be Successful?
How do you gather information?How do you gather information?