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Activity-Based Costing (ABC)

Activity-Based Costing brings transparency, knowledge and guidance

Activity-Based Costing is originally a costing methodology developed with the purpose to assign costs to products and customers in a more relevant and accurate way compared to traditional costing methods. Used in the right way, Activity-Based Costing brings transparancy, knowledge and guidance to a wide and complex enterprise or organization on what to focus on, how to improve, simply how to improve results.

Traditional product costing methods concentrates on direct costs, e.g. direct material and direct labor. Indirect costs, e.g. overhead costs, are then allocated with a percentage, as a mark-up, with the result that these costs will be allocated with the same logic as the direct costs. Analyzes of indirect costs will however, in most cases, show that indirect costs also have other logic than direct costs and consequently are consumed in a different way by products and customers. With Activity-Based Costing it is possible to allocate all costs, not only directs costs, with proper logic. Logic can be set up according to activities that the organization actually perform, for example number of customer visits, number of orders registered, time in production steps, set up activities and so on. It is also possible to use other calculation objects (result objects) than product e.g. customer, supplier, segment, service, market, sales channel, project and customer order.

Exactly how you should design your ABC-model for your company, in order to make it useable, efficient and sustainable, depends on a number of things. First of all, it depends on what the model and the system should be used for – e.g. pricing, reporting, process improvement, cost reduction. If it is going to be used in several different areas, it will lead to a more sophisticated model. With no experience it is easy to create a too complex ABC-model. With Astradas experience the design of the ABC-model will have the right balance between complexity and usability. With an ABC-model that is accurate enough according to the purpose of usage and transparent with how costs have been calculated, you will have a very successful and useful costing model that can show cost and profitable by product and customer, and more importantly also explain why and where you make profit.