Comparison between Activity-Based Costing and traditional costing
Cost systems are generally designed to provide the reliable information to the managers, investors, suppliers to understand the mechanism of control and decision making. Cost systems are generally designed to provide an insight on how particular objects consume resources of the organisation. Every organisation has its own type of costing system and cannot settle for a universal system.
Activity based costing system also known as ABC is a method of costing that interprets the activities in an organisation and individual costs are assigned to each activity with resources to all the products and services according to their actual consumption. Indirect costs are assigned more into the direct costs in comparison to the traditional costing method. According to Chartered Institute of Management Accounts ABC is an approach of managing the costs. The activities are monitored, the resource consumption is traced and costs are designed according to the final output (Anderson, Hesford, and Young, 2012).
The activity based cost method and the traditional costing method, both calculates the overhead costs associated to the production and then the costs are assigned to the products on the basis of cost driver rate. The major differences are lined up as follows
|
Particulars |
ABC COSTING |
CONVENTIONAL COSTING |
|
POOLING OF COST |
The costs are accumulated into the homogeneous activities. These activities are also associated with the major activities or processes. |
Under this method the costs are accumulated either via plant-wide method or through the departmental cost method, where the cost is driven by the heterogeneous factors and are not determined by the single key drivers. |
|
Basis of allocation |
The costs are allocated to the specific objects using the cost drivers. |
With the help of volume based allocation procedure the costs are allocated. |
|
Ranking of costs |
Not every cost is occurred during the output therefore, costs are ranked on the basis of non-linear accumulation method (Anderson, Hesford, and Young, 2012). |
Generally under this method all the costs are taken into consideration which is driven by the volume or the product. |
|
Cost Objects |
The focus is mainly on evaluating the costs of a variety of the objects |
On the other hand under this method the focus is very narrow and revolves around the single product. |
|
Decision Making |
The information provided the ABC model is more accurate and relevant in nature. The procedure is easy to understand and operate on to. |
At times the costs are either overvalued or undervalued which ultimately results into the wrong information and also becomes cumbersome to calculate. |
|
Cost |
Expensive in implementation and maintenance requires huge expenses. |
This system is relatively inexpensive as compared to ABC model. |
One of the basic advantages of the ABC model is it provides reliable information which helps in reducing the cost for prevailing opportunities available for Mondeleze International. Due to the relevant information the managers are able to control many costs of fixed nature. This happens because in the conventional method the costs were not visible clearly whereas under this method the costs are more visible and clear.
Activity based costing system works only on the activities. Therefore, it will become easy for the management of the Mondeleze International to decide quickly without comprising on the quality front on each activity carefully. ABC helps in improving the decision power of the company. ABC is also helpful in fixation of the selling prices as more accurate data is available and a better understanding is developed. Due to this factor the decision making process has become quite easy and sustainable (Tsai, 2016).
Further, the activities can be bifurcated into activities which add some value and activities which do not add any kind of value or worth in general. The ABC model will help the Mondeleze International Company to focus on the activities which creates force on value adding activities. The ABC model though focuses on all the activities which are underlying to trace more overheads (Hicks, 2012).
Advantages of Activity-Based Costing
There are some costs which are categorised as non-manufacturing costs for example advertising. Even though the advertising cost does not form the part of the major cost yet contributes majorly in the business of Mondeleze International. With the help of the advertising the company can reach at altogether new level. It can attract more number of customers automatically.
The cost of allocation if done accurately, leads to proper pricing policy. Therefore with the help of proper pricing policy the company can maintain the additional products which may also leads to profit. It has been recognized that the costs are created by activities more than the products. In an environment where the advanced manufacturing takes place and the support functions are forming the major portion of the cost ABC model of Mondeleze can provide more realistic costs (Innes, and Mitchell, 2015).
The statement of expenditure is prepared on the basis of the activities and the cost of every activity is compared amongst other to find out the variances if any. If there are any variances proper steps are undertaken to ensure on going stability of the process.
Having analysed the positive effects of the ABC model there are some negative effects as well.
Since ABC has a numerous cost pools and a range of drivers of cost it becomes complex to implement in comparison to the traditional product costing systems. It involves a high amount of expenditure to implement and maintain the model for a long period of time. Therefore, Mondeleze can cease to work if the on-going process becomes cumbersome.
Mondeleze International faces certain difficulties like cost selection, apportionment of the common costs and lastly varying cost driver’s rates.
One of the biggest disadvantages is the complex measurements that need to be taken to implement the same model practically. ABC requires proper management system to evaluate the costs of the activity pools and to identify the best possible measure to act as a driver for the purpose of the allocation (Anderson, Hesford, and Young, 2012).
If in later stage Mondeleze is left with only one product in the market than the ABC model will be redundant and will not be relatively useful. Therefore corrective measures shall be taken by the company to avoid the effects of limitations to a certain extent (Jung, and Choi, 2009).
|
Particulars |
Examples |
Estimated amounts |
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Indirect Costs |
Lease and Rental Expenses Repair and maintenance Indirect labour Indirect Material Selling expenses Advertising Expenses |
(Please see the attached Excel ) |
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Relevant activity cost pools |
Creaming Up Dough up Mould and Shape Baking Quality Control Packaging |
(Please see the attached Excel ) |
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Allocation of the overhead costs |
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(Please see the attached Excel ) |
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Identification of drivers |
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(Please see the attached Excel ) |
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Classification |
(Please see the attached Excel ) |
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Overhead application Rate |
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(Please see the attached Excel ) |
The indirect costs like lease and rental payments, depreciation, repair and maintenance, indirect labour and material of Mondeleze International have been allocated using the activity cost drivers which have been discussed above. The costs which are publicly available are cost to employees, cost of indirect material or indirect labour. Whereas there are some costs which are meant to be assumed. The overhead costs are calculated on the basis of the overhead rates and further the classification is done on the basis of corporate level activity, plant margin, product margin or unit margin to understand the activities individually. This cost hierarchy is important to determine the activity cost analysis.
Disadvantages of Activity-Based Costing
SOCIAL AND ENVIRONMENTAL ISSUES
In the article published in economic times on 3rd May 2018, the paper talked about how Mondeleze International, the company behind the Cadbury milk and Oreo cookies was able to generate double the Revenue at the end of the March quarter. The company posted a 5% global increase in the volumes of sales. It is said to be reported to have sold more cookies and chocolates than expected. Considering the above article the major social issues that are important are as follow (Jung, and Choi, 2009).
Digital and Social Information: The biggest challenge for the company is to promote the product through social media front. The food industry runs on the basis of advertising of the products Ethical and social issues are raised only to improve the existing food production procedure. It is the responsibility of the company to deliver the right information about the product to its customers. The customers are also quality conscious and therefore they value the money in terms of worth of the product. Hence it is important to nurture the digital and information sector to ultimately grow the business to a next level (Jung, and Choi, 2009).
Sustainable development the second major social issue is the stability of the product. The concept of stability covers a wide range of aspects. Stability can be a grey area but it can also come up with benefits. Stability decides the market share of the company and the ability to stay among the competitors (Tsai, 2016).
The major environmental issues that are important are natural and Industrial environment at times do not coincide with each other. There are certain factors which play an important role in determining the environmental issues. The first is the undesirable component in the raw materials to increase the production level and quantity of the product can be a major issue. Next are the additives and preservatives used in the processing and preservation which may create the adverse impact on the heath of the users. The emission of waste effluents from the processing plants which can create several diseases and have a worse impact on the health. The forces of demand and supply also play a pivotal role in the category of the environmental factors. The company has to adjust its strength and weaknesses according to the opportunities and threats present in the environment. Therefore both the factors are reasonably important to determine the position and overall working of the Mondelze International (Hicks, 2012).
|
Column1 |
Particulars |
Objective |
Plan |
Target |
|
Sr no. |
Environmental Indicators |
|||
|
1 |
Packaging Quality |
To assess new packaging designs, to drive less material Reduction in energy and greenhouse gases. |
By eliminating the shipper box during packaging, By reducing the number of pouches and cardboard consumption is set at low. Lastly by replacing the Oreo cookie tray with the film wrap. |
To exceed by 78% in overall market. |
|
2 |
Water Generation |
To reduce the wastage of water through factories up to 30%. |
By making aware about the importance of water reuse and process systems |
Additional reduction of water consumption in the manufacturing plants by 15% |
|
3 |
Waste Management |
40% less waste to landfills. More than 60 existing facilities ensured to cut down the waste to zero. |
Individual plants are introduced for waste management. Piracicaba one of the biggest plant of Modeless international in Brazil achieved zero wastage award. Similar new plants are introduced. |
To reduce the waste to 30% by 2020. |
|
Social Indicators |
||||
|
1 |
Sustainability |
To reduce the CO emissions from manufacturing by 15% and to sustain for a long period. |
Science based targets are adopted, the energy management systems are improved and using renewable sources of energy |
To reduce sodium 10% by 2020. |
|
2 |
Well Being Snacks |
To reach a wide range of customers and to deliver the best service while ensuring the health and balance in life. |
Complying with the marketing and the compliance policy the company is engaged in the number of global programs. |
To expand 10 existing wellbeing brands in our portfolio, renovate and improve the nutrition and to inspire the consumers and to cater 15% revenue. |
|
3 |
Health and safety |
To ensure the safety of the employees working in Modeless International, To produce safe quality products ((Briers, and Chua, 2011).) |
Through on-going educational efforts, enhanced teamwork and protocol the company have been able to improve the safety measures and performance each year (Anderson, Helford, and Young, 2012). |
To produce supplier certified products, and to achieve a 30% incidental rate for all employees by 2020 (Innes, and Mitchell, 2015). |
|
Particular |
In $ (000) |
Creaming Up |
Dough Up |
Mould & Shape |
Baking |
Quality Control |
Packaging |
Total |
|
Lease & rental expenses |
1433 |
286.6 |
286.6 |
429.9 |
286.6 |
71.65 |
71.65 |
1433 |
|
Prepaid and Maintenance |
731.42 |
146.284 |
146.284 |
219.426 |
146.284 |
36.571 |
36.571 |
731.42 |
|
Depreciation Exp |
764.72 |
152.944 |
152.944 |
229.416 |
152.944 |
38.236 |
38.236 |
764.72 |
|
Indirect Labour |
704.22 |
70.422 |
70.422 |
211.266 |
70.422 |
70.422 |
211.266 |
704.22 |
|
Indirect Material |
469.48 |
93.896 |
93.896 |
93.896 |
46.948 |
46.948 |
93.896 |
469.48 |
|
total |
750.146 |
750.146 |
1183.904 |
703.198 |
263.827 |
451.619 |
|
Particulars |
Lease & rental expenses |
repair and Maintenance |
Depreciation Exp |
Indirect Labour |
Indirect Material |
|
Creaming Up |
20% |
20% |
20% |
10% |
20% |
|
Dough Up |
20% |
20% |
20% |
10% |
20% |
|
Mould & Shape |
30% |
30% |
30% |
30% |
20% |
|
Baking |
20% |
20% |
20% |
10% |
10% |
|
Quality Control |
5% |
5% |
5% |
10% |
10% |
|
Packaging |
5% |
5% |
5% |
30% |
20% |
|
Activity Cost Drivers |
hours per batch |
overhead rates |
Classification |
|
production |
14857298 |
||
|
production batch |
100 |
||
|
number of batches ‘ |
148572.98 |
||
|
Creaming Hours/batch |
10 |
0.50 |
unit |
|
Douching Hours/batch |
5 |
0.50 |
unit |
|
Shaping Hours/batch |
2 |
0.80 |
batch |
|
Baking Hours/batch |
2 |
0.47 |
product |
|
Checking Hours/batch |
1 |
0.18 |
facility |
|
Packaging hours/batch |
3 |
0.30 |
plant |
|
Particulars |
2014 |
2015 |
2016 |
2017 |
|
|
Social Indcators |
500 |
795 |
861 |
942 |
|
|
Environmental Indicators |
5% |
7% |
7% |
10% |
|
Social Indicators includes the communities |
|
Environmental Indicators include the reduction of CO2 emissions from manufacturing unit. |
Identification and allocation of indirect costs
After analysing all the social and environmental factors, it is observed that company has programmed on-going educational efforts; enhanced teamwork and protocol of the company have been able to improve the safety measures and performance each year for its stakeholder. The production level and eco-support system have been strengthen due to the it’s newly adopted environmental support program. Complying with the marketing and the compliance policy the company is engaged in the number of global programs which have increased the outcomes of the work in determined approach. In context with the negative environmental factors, company has made efforts to reduce the CO emissions from manufacturing by 15% and to sustain for a long period. In context with the packaging, Company has made high investment to keep the pollution free packaging which will promote its CSR activities program. In the area of the social responsibilities, employee development program and safety measures have been taken for the better and effective functioning (Manunen, 2010).
Performance of the company in the area of Social Responsibility is discussed as follows. From the above analysis it can be concluded that the company is working at par in the area of social responsibility and is working on the drawbacks to become more efficient. The social performance of the Mondeleze International is mainly concerned with the health and well-being of the organisation’s employees as well the products. The performance is measured on the basis of indicators of health and safety of the employees as well as the customers, product’s quality and lastly the sustainability of the environment. It can be observed that the company is using less packaging materials and optimising it as small adjustments can make big impacts in life. In North America 23% packaging has been made thin as compared to the previous ones and in Latin America there are completely new designs for certain products (Stouthuysen, et al. 2010).
After going through the entire analysis of environmental indicators, it can be observed that the company is performing more than of what was expected out of it. The packaging quality has been improved and new designs are made available. Currently the market of Mondeleze International is running at 60% revenue however with proper planning and execution the company can cover almost 78%. The main reason of the increased revenue is based on its effective corporate social responsibilities and environment social program (Tsai, et al. 2013).
Social and environmental issues
The corporate social responsibilities of the company has been improved which could be assessed by evaluating the complying with the marketing and the compliance policy the company is engaged in the number of global programs. Company has also reduced the CO emissions from manufacturing by 15% and to sustain for a long period. It will increase the sustainability of the business and reduce the use of scarcity of the resources. Company has also made its packaging more sustainable which will least impact the environment and society at large. In addition to this, by eliminating the shipper box during packaging and reducing the number of pouches and cardboard consumption is set at low, it has improved its CSR activities and maintained positive work functions for the better and effective social development program (Lee,. and Kao, 2011).
Conclusion
The systems of CSR activities and sustainable development program of the company are catered according to the requirements of the organisation. The type of operations, the marketing conditions differ from organisation to organisation. If the benefits outweigh the implementation cost and the repair and maintenance cost, management shall implement the more elaborated costing system.
References
Anderson, S.W., Hesford, J.W. and Young, S.M., 2012. Factors influencing the performance of activity based costing teams: a field study of ABC model development time in the automobile industry. Accounting, Organizations and Society, 27(3), pp.195-211.
Banker, R.D. and Byzalov, D., 2014. Asymmetric cost behavior. Journal of Management Accounting Research, 26(2), pp.43-79.
Briers, M. and Chua, W.F., 2001. The role of actor-networks and boundary objects in management accounting change: a field study of an implementation of activity-based costing. Accounting, organizations and society, 26(3), pp.237-269.
Dong, J., Liu, C., and Lin, Z. 2014. Charging infrastructure planning for promoting battery electric vehicles: An activity-based approach using multiday travel data. Transportation Research Part C: Emerging Technologies, 38, 44-55.
Freiesleben, J. 2014. On the limited value of cost of quality models. Total Quality Management and Business Excellence, 15(7), 959-969.
Hicks, D.T., 2012. Activity-based costing for small and mid-sized businesses: an implementation guide (Vol. 3). John Wiley & Sons.
Innes, J. and Mitchell, F., 2015. A survey of activity-based costing in the UK’s largest companies. Management accounting research, 6(2), pp.137-153.
Jung, H.W. and Choi, B., 2009 Optimization models for quality and cost of modular software systems. European Journal of Operational Research, 112(3), pp.613-619.
Lee, T.R. and Kao, J.S., 2011. Application of simulation technique to activity-based costing of agricultural systems: a case study. Agricultural systems, 67(2), pp.71-82.
Manunen, O. (2010). An activity-based costing model for logistics operations of manufacturers and wholesalers. International Journal of Logistics, 3(1), 53-65.
Plunkett, J. J., and Dale, B. G. 2018. Quality costs: a critique of some ‘economic cost of quality’models. The International Journal of Production Research, 26(11), 1713-1726.
Stouthuysen, K., Swiggers, M., Reheul, A.M. and Roodhooft, F., 2010. Time-driven activity-based costing for a library acquisition process: A case study in a Belgian University. Library Collections, Acquisitions, and Technical Services, 34(2-3), pp.83-91.
Tsai, W.H., 2016. Activity-based costing model for joint products. Computers & Industrial Engineering, 31(3-4), pp.725-729.
Tsai, W.H., Chen, H.C., Leu, J.D., Chang, Y.C. and Lin, T.W., 2013. A product-mix decision model using green manufacturing technologies under activity-based costing. Journal of cleaner production, 57, pp.178-187.
Vaxevanidis, N. M., and Petropoulos, G. 2018. A literature survey of cost of quality models. Journal of engineering, 6(3), 274-283.
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