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CHAPTER VII

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Summary, Conclusion and Findings

CHAPTER I

Introduction

Activity-Based Costing (ABC) developed in the 1980s due to limitations in

traditional cost accounting method. When ABC was not developed, it was just

cost accounting which was used to ascertain the cost of the goods produced.

Cost accounting worked well for item or service-based businesses to generate

the true cost of the production of an item or completion of a service. The direct

costs of completing a project were added in with the indirect costs of overhead

to arrive at the true cost. Over the years, many methods of cost accounting

developed because of the inadequacies of the simple cost method.

Significance of the study

In this context, the four important factors that have influenced the Iranian

business environment which include: (i) market dynamism; (ii) production

dynamism; (iii) management innovation and (iv) cost dynamism. To equip

with the above dynamisms and to reduce the cost of production, it is essential

to renovate the cost system in competitive environment. On the other hand,

the problem of traditional cost systems is not only confined to manufacturing

costs but, also overheads including marketing costs are hidden under the

traditional cost system In most of the traditional costing promotional

overheads being allocated on the basis of sales which create further typical

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problems of over allocation or under allocation. Keeping in view, the

importance of the study, an attempt is made to study the ABC and its

applicability for food industry i.e., KSFIC, Iran.

Objectives of the Study

The main objective of the study is to analyze the application of the ABC

system of accounting for Komaj Saba Food Industrial Complex (Khootka), Iran

.

The specific objectives of the present study are as follows;

1. To analyze the growth and development of KSFIC, Iran

in implementing an ABC system of accounting.

2. To study the cost accumulation procedures and

practices under Volume Based Costing (VBC) KSFIC,

Iran;

3. To assess the application of the ABC system of cost

accounting and its impact on the profitability of KSFIC;

and

4. To make a comparative analysis of VBC system and

ABC system of accounting and their effectiveness in

terms of profitability and cost reduction along with

some measures for effective implementation of ABC

system.

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Research Methodology

The present study is an applied research in nature and uses both the primary

and secondary sources of data. Primary data are collected through personal

discussion with executives of KSFIC of Iran. The study mainly relies on

secondary data for which secondary data have been collected from the annual

reports of the company, other published data from the company records,

websites, etc. first by use of ABC and VBC techniques, EBIT and indirect cost

can be obtained, finally the data will be tested by paired samples t- test to

validate the proposed hypotheses.

Scope and Period of the Study

It is a micro-level study, pertaining to Komaj Sabah Food Industrial Complex

(KSFIC) of Iran. The study examines traditional cost accounting practices of

the select company. Hence, the study does not make extensive study of ABC in

the corporate sector across the globe. The present study is confined to the

existing VBC accounting system and compared with ABC which is proposed

accounting system as an application of activity based costing system in Komaj

Sabah Food Industrial Complex of Iran as a case study and covers a period of

six years from 2005-06 to 2010-11 .

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Limitations of the Study

The data has been collected from more than one source and there may be

discrepancies in the data on account of their reporting. While computing the

percentages and averages, the figures are approximated. Therefore, sometimes

the totals may not tally exactly.

Plan of the Study

Chapters . The chapter details are given as below.

Chapter –I Introduction

Chapter – II An Overview of Activity Based Costing

Chapter – III Profile of KSFIC, Iran

Chapter – IV Volume-Based-Costing Practices in KSFIC

Chapter – V Application of ABC and its Impact on Profitability

Chapter - VI Comparative Analysis of VBC and ABC Systems

Chapter - VII Summary, Conclusion and Findings

CHAPTER-II An Overview of Activity Based Costing

This chapter covers the conceptual framework of ABC system, process of

activity based costing, logic and assumptions.

1. ABC is a method of measuring the cost and performance of activities

and cost objects. It assigns cost to activities based on their use of

resources and assigns cost-to-cost objects based on their use of

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activities. Based on this definition, ABC is more than product costing; it

provides a means to measure activity performance in order to

determine how well work is done in that activity.

2. The goal of ABC is to improve the accuracy of product costs and

provide a means for the improved management of process and support

activities. It is part of a process of continuous improvement aimed at

improving the value received by the customer and enhancing

profitability of the Company.

3. It is observed that a multidisciplinary team must be assembled to

design the ABC system to reflect correctly the workings of the

company. This team should be selected and assigned to the project on

full time. Training is essential for effective implementation, execution,

use, and acceptance of an ABC system.

4. A vital component of the ABC implementation is, identifying the

information requirements of its users. Each phase of information

gathering should include a member of the implementation team and

the user. The requirements of the system and the information needed

should be explored.

5. The process of converting the organization chart to an ABC flowchart

by breaking down tasks into divisions, resource centers, and activity

centers is called functional decomposition. Activity centers should be

established and all activities related to accomplishing a particular

attribute should be grouped.

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6. ABC is an accounting method that identifies the activities that a firm

performs, and then assigns indirect costs to products. An activity based

costing (ABC) system recognizes the relationship between costs,

activities and products, and through this relationship assigns indirect

costs to products less arbitrarily than traditional methods.

7. Some costs are difficult to assign through traditional method of cost

accounting. Indirect costs, such as management and office staff salaries

are sometimes difficult to assign to a particular product. For this reason,

ABC method has found its importance in the manufacturing sector.

8. ABC is a multi-faceted algorithm and database of financial and

organizational information. It supports performance management

systems where business users can access ABC-derived decision relevant

information from their desktop. Understanding this journey provides

important lessons as organizations continue to adopt and use ABC to

create value.

CHAPTER – III

PROFILE OF KSFIC, IRAN

Komaj Saba Food Industries Complex (KSFIC) was established under name of

Khotka under Registration No. 899 on 14 May 1995 and was registered in the

notary office of Amol. Central branch of the company is situated in the

industrial city of Amol, Imam Zadeh Abdullah. The path of expansion is as

under:

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� Saba Health and Packaging Industries Complex by production of all

kinds of carton in the first phase

� Establishment of Komaj Saba in 1995

� Started to produce Biscuit in 1997

� The first export in 1997

� Starting to produce macaroni in 2002

� Wafer production line commissioned in 2003

� Started to produce chocolate in 2003

� Establishment of Saba Plastic Company in 2003

� Establishment of Saba Health and Packaging Industries Complex in

2003

� Establishment of Diana Unit in 2004

� Establishment of ShekarShekan in 2004

� Started to produce layered cake in ShekarShekan in 2004

� Commissioned candy line in 2005

CHAPER- IV Volume-Based Costing Practice in KSFIC

Traditional cost accounting combines overhead (indirect) and direct (materials

and labour) costs and allocates those expenses to each product. It assumes a

consistent ratio between overhead and production costs; in other words, the

more products create the more overheads. This chapter deals with the role of

VBC in costing, Computation of VBC in KSFIC for six years i.e., from the year

2005-06 to 2010-11.

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1. The total overhead cost of the Biscuit, Wafer and Chocolate’ product

lines are more in comparison to the total overhead cost of the Candy,

Cake and Spaghetti. The reason for increasing the indirect cost of the

first three products are due to the high volume of direct labour cost ,as

the number of units of these product lines are more, overhead cost per

box shows almost a lower quantity which indeed are not the actual

overhead cost . (Table 4.4)

2. The income under VBC method shows, that indirect cost consumption

on the product lines of Biscuit, Wafer and Chocolate are more than

consumption of indirect cost of production lines of Candy , Cake and

Spaghetti. The reason is due to the high direct labor cost of the first

three products, which caused the more indirect cost to be absorbed in

comparison with the three others products. (Table 4.8)

3. Under VBC system of Accounting, though overhead cost per box in

some product lines are less, the overhead cost attributed to those

product lines is shown more due to higher number units sold.

4. Similarly, the product lines whose per box overhead cost of those

product lines is shown low due to less number of units sold. The

resultant gross income and EBIT are unrealistic. Besides, it is also

observed that, indirect cost consumption on the product lines of Biscuit,

Wafer and Chocolate are more than consumption of indirect cost of

production lines of Candy, Cake and Spaghetti. The reason is high

direct labour cost in the first three products, which caused the more

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indirect cost to be absorbed in comparison with the three others

products ,it is also noted that the depreciation is a major component of

overheads during the study period.

5. The biscuit line consumes highest overheads followed by Wafer and

Chocolate due to the high volume of production. The other three

product lines have shown low volume and their consumption of

overhead cost also low. The EBIT in Spaghetti line is high during the

study period due to low absorption of overhead cost and low volume of

production followed by Candy and Cake. The EBIT of the other three

products lines is low which is attributed to high absorption of overhead

cost. It is also noted that under the VBC method, overhead costs are

allocated according to the volume of production, depreciation on

machines and buildings which include the overhead costs are allocated

to different product lines as per their volume. (Table 4.16)

6. There is a danger that the non-productive activities consuming a high

amount of overhead cost under VBC method. Hence, it is concluded

that profit presented under VBC system of accounting may not depict a

realistic profitability position, therefore, it advised to explore and

examine other methods like Activity Based Costing (ABC) and best

practices of costing for ascertaining the cost of production thereby

arrive at a pragmatic picture of profitability. In this direction, an

attempt is made to study the ABC system for a confectionery industry

like KSFIC in the fifth chapter.

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CHAPTER - V Application of ABC and its Impact on Profitability

From the study made in this chapter, the following conclusions can be drawn;

1. As the allocation over head costs are based on activity but not on

volume, so the actual profit in six products in the order of Biscuit, wafer

Chocolate, Candy, Cake and Spaghetti because of actual allocation of

over head costs under ABC methods. The reason for profit in all

products is optimum use of activity and there is no non value added

activity. In ABC method, the profit of products is real that is because of

appropriate allocation of over head costs. According to the above

mentioned results the profit on products like Spaghetti , Cake and

Candy is low in ABC method, similarly the profits of products like

Biscuit, Wafer and Chocolate is high in ABC method due to optimum

use of activities. (Table 5.32)

2. Activity-Based Management methods have a broad range of uses,

permitting the empowering utilization of ABC information for a wide

variety of company functions and the operations such as process

analysis, strategy support and time-based accounting, monitoring

wastage, as well as quality and productivity management. The

implementation of ABC/M is a collective process and brings new cost

calculation rules. Implementation showed that despite limited impact

in the field of overhead cost allocation, the benefits in the areas of

process and activity analysis meant it proved a success.

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3. It is noted that in ABC method, overhead costs allocated based on

activity, but not on volume. ABC system is a costing model that

identifies activities in an organization and assigns the cost of each

activity resource to all products and services, according to actual

consumption of each. The profit of products is real because of

appropriate allocation of overhead costs. The study shows that, the

profit on products like Spaghetti , Cake and Candy is low in ABC

method. This stems from the proper allocation overhead costs in ABC

and the profit of Biscuit, Chocolate, and Wafer products is almost closer

to VBC method and this is because of the high volume of production

and appropriate use of different activities and there are no non value

added activities in those product lines. (Table 5.24)

4. The reason for profit on some products in different years is of actual

allocation over head costs in ABC method, the study results shows that

this system can use optimum activities and there are no non value

added activities in these products (Biscuit, Wafer and Chocolate) the

reason of low profit or loss for some products (Candy, Cake and

Spaghetti) can also be observed non-use of optimum activities.

(Table 5.40).

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CHAPTER-VI COMPARATIVE ANALYSIS OF VBC AND ABC SYSTEMS IN

KSFIC

From the study and analysis made in this chapter the following conclusions

can be drawn:

1. The profit on biscuit in VBC method is less than the ABC method due

to high overhead costs. Similarly, the profit on wafer in VBC method is

more than the ABC method and profit on chocolate in VBC method is

less than the ABC method, similarly, the profit on Candy, Cake,

Spaghetti in VBC method are higher than ABC method due to less

overhead cost. Under ABC method overheads are actually allocated to

products. The cause of loss on Spaghetti, Cake and Candy is the lack of

using existed capacity toward the product lines. As a result non value

added activities are caused a decrease in profit and increase in cost.

(Table 6.1)

2. The profit on Biscuit, is lower in VBC method due to high overhead cost

but, for the products lines Wafer and Chocolate is low. Similarly, candy,

cake & spaghetti are higher in VBC method because the overheads are

actually allocated to products. The reason for loss on Spaghetti and

Cake is lack of using existed capacity. As a result, non value added

activities caused decrease in profit and increase in cost. (Table 6.2)

3. It is observed that inappropriate cost allocation has influence on the the

profit and cost of production .The reason for profit on products such as

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Spaghetti and Cake is transferring the indirect costs to products like

Biscuit, Wafer, Chocolate and Candy.

4. The profit on Biscuit, chocolate in the VBC method is less than the ABC

method because of high overhead cost but, for wafer, Candy, cake and

spaghetti, profit is more under VBC method than ABC method. The

reason of loss on Spaghetti in ABC method is the lack of using existed

capacity. As a result, non value added activities caused decrease in

profit and increase in cost. (Table 6.4)

5. By comparing the all years and products, it is concluded that the

overhead cost per box allocated under VBC method in three products

namely: Biscuit, Wafer, Chocolate, are more than under the ABC

method. But, for the other products namely: Candy, Cake, Spaghetti,

the over headcost per box allocated under ABC are more than the VBC

method. As the cost of direct material and labour are the same in two

methods, the difference is attributed to the difference between the

overhead costs.

From the above, it is concluded that, the overhead cost per box allocated by

the VBC method in three products viz; Biscuit, Wafer, Chocolate, were more

than the ABC method. But the other products namely: Candy, Cake, Spaghetti,

the over headcost per box allocated under ABC were more than the VBC

method. As the cost of direct material and labour are the same in two

methods, so the difference derived from the overhead costs. The result derived

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from all products in different years indicates that the diversity arised from the

indirect costs. Diversity in three products, biscuit, wafer and chocolate is not

considerable. This shows the company could manage its cost to some extent.

This can be due to optimum utilization of machineries, building and other

indirect costs, viz; Candy, Cake, and Spaghetti. On the other hand, the

observed difference in products candy, cake and spaghetti significantly has

increased. This indicates that the company could not manage the costs

successfully. This can be due to failure to use optimally of machineries,

building and the other indirect costs, for these three products are observed

many none value added activities.

Scope for Future Research

From the present study, the following areas have been identified for future

research work.

1) ABC in service sector in India

2) ABC in hospitals in India

3) ABC impact on profitability in a manufacturing organization

4) ABC in electricity industry

5) Application of ABC in universities in India.