Traditional vs. ABC Costing
Effective cost analysis allows organizations to identify all costs related to doing business. When costs are allocated to particular products, departments, activities, services, customers, etc. managers can improve their knowledge and understanding of the real cost structure. As a result, management is capable of making informed decisions such as how to price certain service, how to organize certain activities and how to serve certain customer.
The biggest sin in financial analysis and business management is treating all products and customers in the same way. Fact is, no two products or customers will consume the same time, cost and organizational resources.
However most companies are not able to allocate their costs effectively. While it is simple and easy to assign and allocate direct costs to products and customers, allocating the indirect costs requires using activity based costing.
It is the difference between being profitable at gross profit level and net profit level that makes the difference between profitable and unprofitable businesses. Traditionally all companies have been treating their indirect costs simply as overhead. The assumption being made is that all activities, processes and resources are equally consumed over time.
Traditional costing treats overhead using the amount of a certain cost driver, like the volume of work hours required to manufacture a product. Cost driver is actually a point that triggers cost to accumulate, for example process hours and employee hours. Activity based costing on the other hand assigns the costs of servicing customers, delivering services and manufacturing products based on the activities required.
If activity based costing offers the advantage of understanding the real cost structure of the business the question is why so many companies don’t use it. The answer is that many managers never used ABC before and they are not familiar with the approach.
Activity based costing program for Excel offers the advantage of performing ABC analysis at a very affordable cost so any business can use it. It is Excel based activity based costing program that automatically calculates and allocates your indirect costs based on your input in Microsoft Excel.
ABC for Excel is now included in the Financial Manager for Excel Bundle which includes the financial ratios and business plan tools and templates.