Activity based costing for profitability analysis (Part 2 of 2)
My previous blogs series “Why do you need profitability analysis?” sets the context for profitability analysis. The next blog “Activity based costing for profitability analysis (Part 1)” highlights the need for Activity Based Costing (ABC) for profitability analysis. Once we are convinced about the need for profitability analysis and ABC, we have to figure out how to go about implementing ABC for our organization. This blog discusses the typical challenges in implementing ABC.
These challenges can be categorized in business, behavioral and technical challenges.
1. Business Challenges:
a) Identification of Purpose: The most important step towards implementing ABC is to identify the purpose of the Activity Based Costing (ABC) and Profitability analysis. The purpose can be operational, tactical, strategic or a combination there-of. We call it operational - if the profitability analysis has to support the day to day decisions like - is the sales order profitable or how much to charge the customer for a particular sales order? It can be tactical if it is to segment customers based on profitability or to identify the best product. We can call it strategic if it helps us identify the right investment opportunity.
b) Design the ABC process: The next important step is to design the ABC process that suits the needs and purpose of a particular organization. This involves identifying the resources, activities, drivers etc and defining the rules for allocating the cost.
2. Behavioral Challenges:
a) ABC system will affect different business units and staffs differently. It is wise to expect staff resistance and plan for handling this resistance. A proper change management and communication plan should help us address this challenge.
b) Starting with one unit and subsequently rolling out to the others will help us anticipate the challenges to expect and buy us time to prepare to address them.
3. Technical Challenges:
a) Data Collection: ABC requires lot many additional data than traditional costing. This additional data needs to be captured by the system for processing.
b) Data Processing: ABC requires data processing based on complex rules and calculation.
c) Reporting: Finally, actionable information based on ABC must be presented to the decision makers in the form of reports and dashboards.
While business needs to focus on the Business and Behavioural challenges, the good news is IT can help them in addressing the third challenge. There are sophisticated software available for ABC and profitability analysis.
How IT can help in ABC implementation, what are the software available for this purpose and considerations in software selection. Please wait for the next blog.
