Activity Based Costing in Performance Based BudgetingActivity Based Costing in Performance Based Budgeting

Ali Asghar Anvary Rostamy (PhDAli Asghar Anvary Rostamy (PhDAli Asghar Anvary Rostamy (PhDAli Asghar Anvary Rostamy (PhD))))

Professor in Business & FinanceProfessor in Business & FinanceProfessor in Business & FinanceProfessor in Business & Finance

Chair, Department of Accounting Chair, Department of Accounting Chair, Department of Accounting Chair, Department of Accounting

Tarbiat Modares University(TMUTarbiat Modares University(TMUTarbiat Modares University(TMUTarbiat Modares University(TMU))))

Contents� What is Performance Based Budgeting (PBB)?

� A PDCA Framework for PBB

� PBB Logical Model & Elements

� Institutionalization of Performance Measurement� Institutionalization of Performance Measurement

� Assessing Relevance & Reliability of Measures

� What is a Performance Monitoring System?

� Cost and Costing Definitions� Cost and Costing Definitions

� 7 Essential Methods of Costing

� 4 Types of Costing

� 3 Common Costing Systems Used in Business � 3 Common Costing Systems Used in Business

� When ABC Most Useful?

� What is Activity Based Costing (ABC)?

� Operations of Activity Based Costing System� Operations of Activity Based Costing System

� Implementation & Application of ABC

� How ABM Improvement Systems?

� Some Facts (Empirical Evidence)

What is Performance/Result Based Budgeting?What is Performance Based Budgeting (PBB)?

� PBB is a financial plan

� Providing a statement of the mission, goals, and objectivesobjectives

� It is a regular assessment of financial plans performances as a part of the budgeting processperformances as a part of the budgeting process

� It creates linkage between the necessary inputs for � It creates linkage between the necessary inputs for the implementation of the strategic development plan and anticipated outcomes.plan and anticipated outcomes.

A PDCA Framework for PBB

PBB Logical Model & Elements

PBB Logical Design

� Process Identification� Process Clarification� Process Mapping� Process Simplification� Process Optimization� Process Optimization� Process Integration� Process Implementation� Process Evaluation� Process Improvement� Process Development……

� IT/IS Analysis� IT/Process Fitness� IT Architecture� IS Integration� IS Implementation� IS Evaluation� IS Improvement� IS Improvement� ……

What is a Performance Monitoring System?

� Costo An amount that has to be paid o An amount that has to be paid

(spent) to get (to buy, or to produce somethingproduce something

o In accounting, cost is defined as the cash amount (or the cash equivalent) given up for an asset.

� Costing� CostingSystem of computing cost of production or cost of production or of running a business, by allocating expenditure to by allocating expenditure to various stages of production or to different operations of a firm.

7 Essential Methods of Costing

1. Job Costing:1. Job Costing:

2. Batch Costing:

3. Contract Costing

4. Single Output Costing

5. Process Costing

6. Operating (Service) Costing6. Operating (Service) Costing

7. Multiple Costing

4 Types of Costing

1.Marginal Costing (Differential Costa)1.Marginal Costing (Differential Costa)

2.Absorption Costing (Fixed & Var. Costs)

3.Standard Costing (Estimated Costs)3.Standard Costing (Estimated Costs)

4.Historical Costing (Actual Costs

1. Target Costing

3 Common Costing Systems Used in Business

1. Target Costing

� TC is a method of engineering a product and its manufacturingprocess from the start with a specific cost model in mind.process from the start with a specific cost model in mind.

� It attempts to create an optimally efficient process from the startrather than waiting until a product is already being manufacturedand then setting prices and looking for cost savings.and then setting prices and looking for cost savings.

2. Traditional Costing

It assigns overhead based on the volume of a cost driver.It assigns overhead based on the volume of a cost driver.

3. Activity Based Costing

ABC allocates the costs of manufacturing a product according to the activities needed to produce the item.the activities needed to produce the item.

What is Activity Based Costing (ABC)?

�Developed by Robert Kaplan and Robin Cooper, Harvard

University in late 1980's.

�A subset of Activity Based Management(ABM)

� it enables management to better understand

(a) how and where the firm makesa profit(a) how and where the firm makesa profit

(b) indicateswheremoneyis beingspentand(b) indicateswheremoneyis beingspentand

(c) which areas have the greatest potential for cost reduction

Instead of allocating costs to cost centers, allocates (direct &

indirect costs to activitiesindirect costs to activities

ABC states that:

(1) Productsconsumeactivities,(1) Productsconsumeactivities,

(2) It is the activities (and not the products) that consume resources

(3) Activities are the cost drivers,

(4) Activities are not necessarilybasedon the volumeof production.(4) Activities are not necessarilybasedon the volumeof production.

Activity Based Management for Improvement

� Focus on problems, opportunities� Focus on problems, opportunities

� Determine and explain causes for problems and opportunities

� Prioritize opportunities for improvement & cost savings� Prioritize opportunities for improvement & cost savings

� Select specific improvement projects

� Shifts focus from managing costs to managing activities

�Analysis of why and how activities are performed�Analysis of why and how activities are performed

� Promotes understanding of why costs are incurred

�Aids in recognizing, measuring and controlling complexity�Aids in recognizing, measuring and controlling complexity

� Provides better cost allocation information

� Useful for planning future operations� Useful for planning future operations

Better DecisionsIncreasing EffectivenessIncreasing EffectivenessIncreasing Efficiency

Increasing Productivity