The Hindu Business Line : Get deft with ABC

ABC captured the imagination of businesses a few decades ago. Thus, activity-based costing was sometimes called `always better costing' too. "ABC removed the grotesquely distorting effect of broad-brushed overhead allocators, like labour hours or sales dollars," writes Gary Cokins in his intro to Activity-Based Cost Management: Making it Work, published by Tata McGraw-Hill (www.tatamcgrawhill.com). "It replaced cost allocations with substantially more realistic cost assignments and consequently much greater accuracy."

The book is about exploiting cost data. ABC and activity-based management (ABM) are not to be used with an `accounting police' mentality, points out Cokins. Instead of using these to "curb spending and punish irresponsible spenders", think of "forward planning and predictive modelling of the cost impact of decisions that will affect the future." In such a context, "financial accountants are partners, not enforcers and gatekeepers."

Do you know that in Japan cost management is the responsibility of engineers, not accountants? "The Japanese treat costs as a symptom, not a cause or a solution. But they embrace cost symptoms as important clues for tackling problems or seeking opportunities." Those outside Japan are used to designing and producing products, calculating cost, and adding a mark-up to determine the price, hoping "there is a market for the product at that price". Instead, target costing begins with market-based pricing independent of cost; from that subtract target profit to obtain target cost.

Among the common misconceptions about ABC/ABM is the belief that this involves "a ton of hard work with a mudslide of data waiting to bury everybody, particularly the accountants." Cokins notes that ABC/ABM models are rarely elaborate or finely granular. These models "simply provide visibility... by using an activity-based philosophy with verb-adjective-noun grammar."

On accuracy, the myth is that error intolerance can kill! To answer this, the author cites Robert Kaplan: "It is better to be approximately correct than precisely inaccurate." Doesn't ABC take forever, ask sceptics? False, because "only a handful of close-to-the-process middle managers are needed for estimating what per cent of time natural work groups of people doing similar work are apportioned to the already defined activities." In a few days, data can be crunched using your favourite spreadsheet software, assures Cokins.

Not long ago, cost accountants' enemy was Eliyahu M. Goldratt, a fluid dynamics physicist whose speeches on theory of constraints (TOC) began with the line: "Cost accounting — enemy number one of productivity!" Cokins explains how TOC can overstate costs and point to problems that may in fact be temporary.

ABC's about flowing costs, says the author. "A helpful model of the multiple-stage cost flow is to consider lots of people waiting for elevators at the top floor of a multi-storey building," he gives an analogy. "Assume there are an ever-increasing number of elevators as the floors descend: this represents the ability to segment diversity. Each person (that is, a resource cost) can exit at any floor and switch to another downward elevator to potentially repeat his or her exit-and-entry path.

"Or they can directly continue on to a lower floor or to the bottom, first floor (that is, to the final cost objects). This last route would imply a more dedicated resource serving a special product family or customer group."

So? "Eventually all the people get off on that first floor, but the elevator door from which they exit and the unique indirect path they take dictates the unique cost, reflecting diversity through segmentation."

Quite an elevating discussion of ABC.

BooksOfAccount@TheHindu.co.in

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